Transcript المادة التعليميةx * c5742f0a-33fd-47fd-8d4e

Fundamental Analysis & Valuation
& The Effect of Behavioral Finance
Dr. Assem Safieddine
Associate Dean, Suliman Olayan of Business, AUB
Managing Director, Institute For Financial Analysts (IFA)
Fundamental Analysis
 Fundamental analysis involves the process of:
• Looking at the basic or fundamental quantitative and financial
environment of a business
• Examining key ratios to determine the financial health
• Estimating the value of the stock.
 Many investors use fundamental analysis alone or in
combination with other tools to evaluate stocks for
investment purposes.
 Sound fundamental analysis will help identify companies
that represent a good value.
Fundamental Analysis
 Fundamental analysis is the
examination of the underlying
forces affecting:
Current
Market Stock
Price
Overpriced
Forecast
Earnings
Estimate
Fair Stock
Value
vs.
Underpriced
Fundamental Analysis: Elements of Industry Analysis
I- Evaluate relationships between macroeconomic variables
and industry
• Macroeconomic factors
• Technology
• Demographics
• Social influences
• Government
Fundamental Analysis: Elements of Industry Analysis
II- Classify industries within life-cycle stage:
• Embryonic stage
• Growth stage
• Shakeout stage
• Mature stage
• Decline stage
Limitations of Life-Cycle Analysis
•
Most useful during stable periods
•
Stages may not be as long as anticipated or might be skipped altogether
•
Some firms will experience dissimilar growth and profits due to
competitive position
Fundamental Analysis: Elements of Industry Analysis
III. Examine forces that determine industry competition
• Barriers to Entry
• Industry Concentration
• Industry Capacity: Supply vs. Demand and influence on Pricing
• Porter’s Five Forces
1. Rivalry among existing competitors
2. Threat of new entrants
3. Threat of substitute products
4. Bargaining power of buyers
5. Bargaining power of suppliers
Fundamental Analysis: Elements of Industry Analysis
IV. Evaluate Industry’s Business Cycle Sensitivity
Economic Expansion
Economic Contraction
Risk in equities would be
relatively low
Risk in equities would be
relatively high
Aggressive growth-oriented
strategy
Conservative/ Defensive
strategy
Cyclical Stocks:
technology, biotech,
semiconductor, consumer
discretionary, energy,
financials, industrials,
materials
Consumer staples, utilities,
healthcare
High sensitivity,
Earnings highly
dependent on the
business cycle
Low sensitivity,
Earnings highly
independent of the
business cycle:
Defensive or Growth
Non- Cyclical Stocks:
Fundamental Analysis: Elements of Company Analysis
• Firm overview
• Industry characteristics
• Qualitative Analysis
•
•
•
•
Management
Business Model
Market share, product position
Edge, be it marketing, technology, or innovation
• Product demand
• Product costs
• Pricing environment
• Competitive Strategy
• Cost Leadership
• Product or service Differentiation
• Financial ratios
• Projected financial statements and firm valuation
Fundamental Analysis: Financial Company Analysis
Earnings
Earnings (or growth towards positive earnings) tell you how healthy a
company is and if it may pay dividends or grow through capital
appreciation (higher stock price).
 Historical
 Forecasted
Fundamental Analysis Tools
Financial Ratios
1. Cross-sectional analysis: A standardized basis for
comparison with industry or companies of similar:
•
•
•
•
•
•
•
•
•
Operations (products and services)
Markets
Size
Level of Earnings and Earnings Potential
Market Presence
Business Model
Demand drivers
Cost structure drivers
Availability of capital and Capital Structure
2. Time-series analysis (trend analysis): Comparison to a
company’s past ratios
Fundamental Analysis Tools
Financial Ratios
 The most important are:
• Activity Ratios
Inventory turnover
Receivables
turnover
Asset turnover
=
=
=
Cost of goods sold
Average inventory
Revenues
Average receivables
Revenues
Average assets
Fundamental Analysis Tools
Financial Ratios
 The most important are:
• Liquidity Ratios
Current ratio
Quick ratio
Cash ratio
=
=
=
Current assets
Current liabilities
Cash + short term marketable
securities + receivables
Current liabilities
Cash + short term marketable
securities
Current liabilities
Fundamental Analysis Tools
Financial Ratios
 The most important are:
• Solvency Ratios
Debt-to-assets ratio
Debt-to-equity ratio
Interest coverage
=
=
=
Total debt
Total assets
Total debt
Total shareholders’ equity
EBIT
Interest Payments
Fundamental Analysis Tools
Financial Ratios
 The most important are:
• Profitability Ratios
=
Gross Profits
Net Sales
Net Profit margin
=
Net Income
Net Sales
ROA
=
Net Income
Total Assets
=
Net Income
Total Equity
Gross profit margin
ROE
Fundamental Analysis Tools
Financial Ratios
 The most important are:
• Valuation Ratios
Earnings per share(EPS)
Price – Earnings (PE)
=
=
Net Income
Shares Outstanding
Price per Share
EPS
Fundamental Analysis Tools
Financial Ratios
 The most important are:
• Valuation Ratios
P/ CF
P/ S
P/ BV
=
=
=
Price Per share
Cash Flow Per Share
Price Per share
Sales Per Share
Price Per share
Book Value per Share
Fundamental Analysis Tools: Valuation
Types of Equity Valuation Models
1.
Discounted Cash Flow Models
Estimated value is the PV of:
• Future cash distributed to shareholders (dividend discount models), or
• Future cash available to shareholders (free cash flow to equity models)
2.
Multiplier Models (Relative Valuation)
• Price multiplier: Ratio of stock price to earnings, sales, book value, or cash
flow
• Enterprise value multiplier: Ratio of enterprise value to sales or EBITDA
3.
Asset-Based
Equity value = total asset value minus liabilities and preferred stock values
Fundamental Analysis Tools: Valuation
Choice of Valuation Models
• Model should be chosen based on available inputs
• Model should be chosen based on the intended use of the valuation
• More complexity is not necessarily better
• Consider values using more than one method
• Consider uncertainty about input values
• Consider uncertainty about the appropriateness of the model
Fundamental Analysis Tools: Valuation
Conclusion
Market price < estimated value: Asset is
undervalued
Market price > estimated value: Asset is
overvalued
Air Arabia: Case Study
Financial Analysis: Q2, 2010
Revenues
 Passenger numbers
• 11% Y-o-Y increase
 Continued Pressure on yields
• Average revenue per passenger falling 4% Y-o-Y in 1H2010
Air Arabia: Case Study
Financial Analysis: Q2, 2010
Costs & Margins
 Higher Costs and Decreasing Margins due to:
• Higher fuel costs Y-o-Y
• Staff training costs relating to the set-up of new hub in Egypt
Performance Below Analysts Expectations
Air Arabia: Case Study
Financial Analysis: Q2, 2010
Profitability
Non-operating loss
of AED26.9 million
• Share of loss from
investment in
associates such as
the set-up costs of
the company’s third
hub in Egypt which
launched its
operations during
the quarter
 Performance Below Analysts Expectations
Air Arabia: Case Study
Financial Ratios: Q2, 2010
Ratios Based on Actual Financial
Data
Period End Date
Liquidity
A/R turnover
Inventory Turnover
Quick ratio
Cash Ratio
Profitability
Asset Turnover
Return on Assets (%)
Return on Equity (%)
Operating Margin (%)
Pretax Margin (%)
Leverage
Total Debt/Total Assets (%)
Times Interest Earned (TIE)
Average Return on Cash & Equiv.
Per Share Data
EPS
Cashflow Analysis
Payout Ratio (%)
Price
P/E
Dividend Yield (%)
Price/Book
Price/ Revenues
Valuation
EV/Revenues
Air Arabia
Middle East Airlines
Average
Dubai FM Airlines
Average
30-Jun-10
Latest
Latest
7.73
285.99
4.32
2.7
18.3
35.22
1.03
0.63
9.39
288.11
5.14
3.94
0.34
6.04
6.95
8.82
17.72
0.73
3.45
9.99
4.04
4.99
0.34
5.86
6.61
7.82
17.13
n/a
7.1
28.54
5.12
4.59
0.08
n/a
n/a
130.52
-
-
10.49
12.44
0.73
1.86
7.95
0.72
0.6
10.75
0.71
1.84
1.21
0.65
0.93
n/a Source:
7.52 zawya
Air Arabia: Case Study
Qualitative Analysis
Competitive Environment:
 Highly Competitive Environment for UAE-based airlines
 FlyDubai Threat: Greater than Expected
• Competition for 18 of its 65 destinations (as at June 2010)
• Fast Paced Growth: Fleet, Destinations
• Air Arabia’s fares are still higher than FlyDubai’s by 22% on average
• FlyDubai's impact on Air Arabia is now more significant that previously
anticipated
 Other UAE Carriers
• Emirates Airlines: Major Competitor
• Price differential: 50% cheaper on average
• Discounting by other national carriers is believed to be short-lived
Air Arabia: Case Study
Qualitative Analysis
SAMA’s Possible Acquisition:
 Attractiveness to Air Arabia:
• Access to an attractive market that is closely regulated and difficult to
penetrate
• Large expat community, low income in demographic
 Challenges to Consider:
• Being Granted the License
• Turning around a failing carrier: Risky acquisition
• Burdened with having to fly unprofitable domestic routes
• Many Saudi Arabian's already fly into the UAE to connect to further
destinations (with Emirates providing a global network)
• Different Aircrafts: Synergies, Maintenance, and Configuration challenges
Air Arabia: Case Study
Resulting Forecast Revisions
Air Arabia: Case Study
Valuation
Discounted Cash Flows (DCF)
High capex in short to medium
term: fleet expansion (38
purchased planes are expected to
be delivered in 2011-2015)
Perpetual growth rate of 3.5%:
Above-average LT growth rates;
Relatively immature and underpenetrated LCC
market in the ME
WACC= Company's cost of equity
• risk-free rate of 5.15%
• equity risk premium of 8.3%
The company has a large cash
balance
The fair value (FV) declines to
AED1.30/share from a previous
AED1.77/share, reflecting the
downgrades to EBITDA estimates
in 2010 and beyond.
Air Arabia: Case Study
Valuation: DCF
 Due to the relative immaturity of the company and its high capex
requirements, the free cash flows estimates remain negative until 2015.
 Therefore, the terminal value provides more than 100% of the end firm
value, while around 53% of the end equity comes from cash and
available-for-sale investments on the company’s balance sheet.
 This is believed to be the major downside risk to the valuation, as the
longer-term cash flows are inherently more risky and may be subject to
stronger competition in the LCC space than currently assumed.
Air Arabia: Case Study
Valuation
Discounted Cash Flows (DCF)
Sensitivity Analysis to WACC and Perpetual Growth
 The value of AED 1.3/share is 65% above the current share price.
Air Arabia: Case Study
Valuation
Peer Group Analysis: Relative Valuation
All of the
selected companies
follow the low-cost
carrier model
P/E (excluding cash and cash
related income)
4.2
3.2
Discount
to peers
Air Arabia: Case Study
Final Decision
????
Air Arabia: Case Study
Final Decision: Undervalued Stock
 Underpenetrated nature of the LCC market in the ME
 Air Arabia‘s operational strengths and multi-hub business model
 Load factors of over 80%
 Fair value suggesting a 65% to the current share price
 Fundamentally underpinned by a large cash pile with cash providing
around AED0.60/share of value alone, and as such, limits further
downside for the shares.
 Current multiples look undemanding compared to global peers.
Air Arabia: Case Study
Appendix: Income Statement
Air Arabia: Case Study
Appendix: Balance Sheet & Cash Flow Statement
Behavioral Finance
However, not all market behavior could be explained by pure
fundamental reasoning
Investors are in many instances irrational : Recent research argues
that people’s investment decisions are influenced by their feelings,
especially when the decision involves risk and uncertainty:
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Over-confidence
Self-Attribution Bias
Fear
Joy (especially around holidays and special occasions), etc
The standard finance model, in which “unemotional investors always
force capital market prices to equal the rational present value of
expected future cash flows,” does not seem to offer perfect insight
into asset pricing anomalies (Baker and Wurgler 2007, p. 129).
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Behavioral Finance
 Irrational Investor behavior is often manifested in the calendar effect
which reflects the tendency of financial asset returns to display
systematic patterns at certain times of the day, week, month or year:
•
Monday Effect: General consensus amongst most academic literature that
the day of the week effect holds that stocks exhibit significantly lower
returns over the period between Friday’s close and Monday’s close.
•
Day Effect: In Kuwait, evidence shows that the returns of the five trading
week days over the period 1993-1997 follow different processes pointing to
a day-of-the-week effect in the KSE. Unlike the pattern observed in more
mature Western stock markets, the returns for the first day in the trading
week (Saturday then) in the KSE are higher.
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Behavioral Finance
•
Weather Effect: Evidence from the Tunisian Stock Market shows that weather
variables (sunshine, temperature, humidity, rain, and wind) have a significant
relationship with the daily Tunisian Stock Market prices over the period
ranging between 1999 and 2006 in support to the effect of investor mood on
investment behavior.
•
•
Moreover, the relationship remains still significant even after inserting
some adjustments for known calendar anomalies such as the Monday and
January effects.
World Cup Effect: Evidence points to a large, highly significant, and long
lasting relationship between the World Cup event and Stock prices in the US.
From 1950 to 2007, the average return on the U.S. market over the World Cup’s
effect days is − 2.58%, compared to +1.21%for all days over the same period
length.
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