Question

Consider ABC Company’s financial statements given below. This company belongs to the retail sector and the current market price is $20 per shares with 50,000 common shares outstanding. All net income is re-invested back into the company. Assume the Company’s beta on YEAR 0 is estimated to be 1.75, due to lack of historical data. For the foreseeable future risk-free rate is 2.5%, and market risk premium is 11%. Furthermore, assume the company has a long-term growth rate in comprehensive income and FCF for 2.5% after the fifth year. Net income and comprehensive income will be identical. Expect debt to equity ratio and WACC to be the same after year 5 and beyond.

Required:

1. 1) Use at least six financial ratios to assess and discuss profitability (three or more ratios) and risk analysis (three or more ratios) for the company.

2. 2) What is the company's value using the following methods?

   1. a) Residual Income

   2. b) Free Cash Flow (FCFF and FCFE) Assume no change in cash liquidity

   3. c) Valuation Ratios (Market Multiples), use at least three ratios.

   4. d) Analyze and explain which one of the above valuation methods provides a better

      and more realistic valuation based on the solutions and data in this case.

Income Statements Revenues Year 1 $2,173,600 1,395,708 $777,892 Year 2 $2,282,280 1,490,980 $791,300 Year 3 $2,396,394 1,578,910 $817,484 Year 4 Year 5 $2,516,214 $2,667,024 1,685,954 1,814,508 $830,259 $852,516 Cost of Sales Gross Profit Accounting Advertising & Promotion Bank Charges Compensation & Benefits Consulting Fees $6,240 $47,759 $43,156 $256,509 $2,496 $1,040 $349.440 $6,552 $42,640 $45,314 $264,204 $0 $1,092 $349,440 $6,880 $40,363 $47,579 $272,130 $0 $1,147 $349.440 $7,224 $37,778 $49,958 $280.294 $0 $1,204 $349.440 $7,585 $34,853 $52,457 $288,702 $0 $1,265 $349.440 Insurance Lease - Facilities Legal & Professional Licenses & Fees 500 500 500 500 500 500 510 520 531 541 Maintenance 600 612 624 637 649 Miscellaneous 1,800 1,873 1,910 1,948 1,836 2,754 Office supplies 2.700 2900 2,809 2,865 2,923 Security 720 742 764 787 810 Telephone 1.873 1.910 1.948 1,836 4,410 Utilities 4 5,105 Website 1.800 1.800 Total Operating Exp. EBIDTA 1,800 4,200 1,800 721,260 $56,633 4,916 $51,717 11040 ,631 1,800 732,932 $84,552 4,916 $79,636 9 936 724,242 $67,058 4,916 $62,142 10488 4,862 1,800 741,700 $88,560 ,916 $83,644 9384 Depreciation 4 750,525 $101,991 4,916 $97,075 8832 Operating Profit Interest Expense

Answer 1

ANS 1-Profitability ratio

Gross profit margin=Gross profit/net sales

1 year=777892/2173600=35.78%

2 yr=791300/2282280=34.67%

3 yr=817484/2396394=34.11%

4 yr=830259/2516214=32.99%

5 yr=852516/2667024=31.96%

operating profit margin=operating profit/ net sales

1 yr=51717/2173600=2.37%

2yr=62142/2282280=2.72%

3yr=79636/2396394=3.32%

4 yr=83644/2516214=3.32%

5 yr= 97075/2667024=3.63%

Pre tax Margin=EBT/net sales

1yr=40677/2173600=1.87%

2 yr=51654/2282280=2.26%

3 yr=69700/2396394=2.90%

4yr=74260/2516214=2.95%

5yr=88243/2667024=3.3%

Risk analysis ratio

Financial leverage ratio=total assets/total equity

begining=144000/52000

1 yr =271535/52000+32135=27.69%

2yr =317741/52000+72941=25.43%

3yr=379204/52000+128004=21.06%

4 yr=445369/52000+186669=18.66%

5 yr=486575/52000+215575=18.18%

Interest coverage ratio=EBITDA/Interest payment

1 yr=56633/11040=5.13

2 yr=67058/10488=6.39

3 yr=84552/9936=8.5

4 yr=88560/9384=9.43

5 yr=101991/8832=11.54

Debt to equity ratio=total debt/ total equity

begin=92000/52000=1.76

1 yr=87400/52000+32135=1.03

2 yr=82800/52000+72941=0.66

3 yr=78200/52000+128004=0.43

4 yr=73600/52000+186669=0.31

5 yr=69000/52000+215575=0.25