1. 1 1 Ch17, 18, 19 – MBA 566 Security Valuation and Analysis Macroeconomic and Industry Analysis/Fundamental Analysis Equity Valuation Ratio analysis

2. 2 2 Ch17, 18, 19 – MBA 566 Factors affecting firm valuation Global economic analysis Domestic Macro-economy Government Policies Industry analysis Company analysis Fundamental Analysis

3. 3 3 Ch17, 18, 19 – MBA 566 Performance in countries and regions is highly variable. Political risk Exchange rate risk (Figure 17.1, page 554) Sales Profits Stock returns (Table 17.1, page 554) Global Economic Considerations

4. 4 4 Ch17, 18, 19 – MBA 566 Gross domestic product Unemployment rates Interest rates & inflation Budget deficit Consumer sentiment Check St. Louis Fed for this set of information Domestic Macroeconomy

5. 5 5 Ch17, 18, 19 – MBA 566 Either affect the demand side (fiscal policy, monetary policy) or the supply side (improving the incentive of production) of goods and service Demand shock - an event that affects demand for goods and services in the economy. Tax rate cut Increases in government spending Supply shock - an event that influences production capacity or production costs. Commodity price changes Educational level of economic participants The Effect of Government Policy

6. 6 6 Ch17, 18, 19 – MBA 566 Fiscal Policy - government spending and taxing actions. Monetary Policy - manipulation of the money supply to influence economic activity. Open market operations Discount rate Reserve requirements Supply Side Policies Policies on employment Productivities Economic growth Government Policies

7. 7 7 Ch17, 18, 19 – MBA 566 Business Cycle Peak Trough Cyclical industries Defensive industries

8. 8 8 Ch17, 18, 19 – MBA 566 Economic Indicators Economic indicators

9. 9 9 Ch17, 18, 19 – MBA 566 Useful Economic Indicators

10. 10 Ch17, 18, 19 – MBA 566 Factors affecting sensitivity of earnings to business cycles: Sensitivity of sales of the firm’s product to the business cycles Typically varying across industries Operating leverage Financial leverage Industry life cycles Industry Analysis

11. 11 Ch17, 18, 19 – MBA 566 Effect of Operating Leverage See example 17.1 on page 571 Firms with lower operating leverage do better in recessions

12. 12 Ch17, 18, 19 – MBA 566 Effect of Operating Leverage

13. 13 Ch17, 18, 19 – MBA 566 DOL Degree of operating leverage (DOL) =% change in profit/ % change in sales =1+Fixed costs / Profit Computing DOL for firms A and B

14. 14 Ch17, 18, 19 – MBA 566 Effect of Financial Leverage Financial Leverage Financial leverage hurts in bad years See example 19.1 on page 639 (Table 19.4)

15. 15 Ch17, 18, 19 – MBA 566 Figure 17.6 Returns on Equity, 2005

16. 16 Ch17, 18, 19 – MBA 566 Figure 17.7 Rate of Return, 2005

17. 17 Ch17, 18, 19 – MBA 566 Slow growers Stalwarts Fast growers Cyclicals Turnarounds Asset plays (page 592) Industry Life Cycles

18. 18 Ch17, 18, 19 – MBA 566 Industry Life Cycle

19. 19 Ch17, 18, 19 – MBA 566 Sector Rotation Portfolio is adjusted by selecting companies that should perform well for the stage of the business cycle Peaks – natural resource extraction firms Contraction – defensive industries such as pharmaceuticals and food Trough – capital goods industries Expansion – cyclical industries such as consumer durables

20. 20 Ch17, 18, 19 – MBA 566 Balance Sheet Models Book Value Dividend Discount Models Price/Earning Ratios Equity Valuation Models

21. 21 Ch17, 18, 19 – MBA 566 Limitations of Book Value Book value is an application of arbitrary accounting rules Can book value represent a floor value? Better approaches Liquidation value Replacement cost

22. 22 Ch17, 18, 19 – MBA 566 Intrinsic Value (page 606) Self assigned Value Variety of models are used for estimation Market Price Consensus value of all potential traders Trading Signal IV > MP Buy IV < MP Sell or Short Sell IV = MP Hold or Fairly Priced Intrinsic Value and Market Price

23. 23 Ch17, 18, 19 – MBA 566 V 0 = Value of Stock D t = Dividend k = required return Dividend Discount Models: General Model

24. 24 Ch17, 18, 19 – MBA 566 Stocks that have earnings and dividends that are expected to remain constant. Preferred Stock No Growth Model

25. 25 Ch17, 18, 19 – MBA 566 E 1 = D 1 = $5.00 k =.15 V 0 = No Growth Model: Example

26. 26 Ch17, 18, 19 – MBA 566 g = constant perpetual growth rate Constant Growth Model

27. 27 Ch17, 18, 19 – MBA 566 E 1 = $5.00b = 40% k = 15% (1-b) = 60%D 1 = $3.00 g = 8% V 0 = Constant Growth Model: Example

28. 28 Ch17, 18, 19 – MBA 566 g = growth rate in dividends ROE = Return on Equity for the firm b = plowback or retention percentage rate (1- dividend payout percentage rate) Estimating Dividend Growth Rates

29. 29 Ch17, 18, 19 – MBA 566 P N = the expected sales price for the stock at time N N = the specified number of years the stock is expected to be held Specified Holding Period Model

30. 30 Ch17, 18, 19 – MBA 566 Example Go through the example 18.1-18.3 from page 592 to 594

31. 31 Ch17, 18, 19 – MBA 566 b = retention ratio ROE = Return on Equity P/E Ratio with Constant Growth

32. 32 Ch17, 18, 19 – MBA 566 Example 18.4 on page 598. Numerical Example with Growth

33. 33 Ch17, 18, 19 – MBA 566 Summary of Key Financial Ratios

34. 34 Ch17, 18, 19 – MBA 566 Table 19.10 Summary of Key Financial Ratios

35. 35 Ch17, 18, 19 – MBA 566 Table 19.10 Summary of Key Financial Ratios

36. 36 Ch17, 18, 19 – MBA 566 Table 19.10 Summary of Key Financial Ratios

37. 37 Ch17, 18, 19 – MBA 566 Table 19.10 Summary of Key Financial Ratios

38. 38 Ch17, 18, 19 – MBA 566 Figure 19.2 Comparative Accounting Rules