ACF5130 Financial statement analysis and business valuation
Week 11: Valuation Theory 2
Discussion Question 1: Estimating Residual Income
Use the following details to estimate the residual income of TCBH Group for the year ended 31 December 2023. TCBH Group had a book value of equity of $127,650 on 31st December 2023.
Net Income ($million) 8,900
Book Value of Equity ($ million) 127,650
Cost of Equity (%) 5.25
Discussion Question 2: Residual Income Valuation
The following exhibit (all figures in $ million) shows the Balance Sheets of XYZ Inc for the years ended 31 December 2022 and 31 December 2023 respectively.
Sales revenue was $3,726 million. Sales revenue is forecasted to grow at a 6% rate per year in the future, on a constant asset turnover of 0.65. Operating profit margins of 14% are expected to be earned each year. Further, financial assets and financial liabilities will grow at 10% annually, and accounts payable will grow at 6% until 2028. Assume that the terminal growth rate of residual income is 1% and that XYZ Inc has a current WACC of 6%. XYZ Inc has 1,289 million shares outstanding.
Required:
1. Forecast the residual income up to 2028.
2. Estimate the terminal value.
3. Estimate the share price of XYZ Inc.
Discussion Question 3: Relative Valuation
PGB Retail Ltd is considering listing on the Imaginary Stock Exchange. PGB Retail Ltd operates a chain of department stores in Imaginaryland. It is planning to issue 1,250 million shares in the IPO and is considering an IPO price of I$1.42 per share. Currently, there are two listed department stores in Imaginaryland - AnythingUWant Inc, and UllFindItAll Ltd. Their current P/E ratios are 6.80 and 7.20 respectively and their P/B ratios are 2.80 and 3.20 respectively. PGB Retail Inc disclosed its most recent earnings as I$250 million. It has a current equity base of I$600 million.
Based on the above information, comment on the IPO price of PGB Ltd.
Discussion Question 4: Relative Valuation
Wefly Ltd. has a current P/E ratio of 7.42. The industry average is 7.50. Assume that Wefly Ltd has stable earnings and its interest coverage ratio is 5.30. Wefly Ltd has a current cost of equity of 9%. Based on this information, comment on whether Wefly Ltd is overvalued, undervalued or fairly priced. The forward P/E ratio of Wefly Ltd is 6.90.
Discussion Question 5: Growth Rate
Metcash Ltd’s current share price is $3.84. It paid dividends per share of $0.22 and its EPS was $0.27 in the last financial year. It’s current P/E ratio and cost of equity (Finbox) are 13.71 and 8.26% respectively. Metcash Ltd has a current ROE of 24.62%. Using this information, estimate the market’s expected growth rate for Metcash Ltd’s earnings. What is the maximum P/E ratio that Metcash Ltd can sustain given its existing capital base?
Discussion Question 6: PEG Ratio
The Table below shows the average P/E ratios, expected 5-year earnings growth rates, and PEG ratios of some industries in the US as of January 2024.
Required:
• Analyse the relation between the PE ratio and PEG ratio
• Analyse the relation between the expected earnings growth rate and PEG ratio
• How would you characterise the relation between the PEG ratio and industry risk (measured by earnings volatility)?