Transcript Financial Statement Analysis and Security Valuation

Financial Statement Analysis
and Security Valuation
Stephen H. Penman
Prepared by
Peter D. Easton and Gregory A. Sommers
Fisher College of Business
The Ohio State University
With contributions by
Stephen H. Penman – Columbia University
Luis Palencia – University of Navarra, IESE Business School
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2001 All rights
5-1
Accounting Measurement and
Valuation from Earnings Forecasts
Chapter 5
McGraw-Hill/Irwin
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5-2
What You Will Learn
in This Chapter
Chapter 5
Page 131
• How to interpret the income statement from a valuation point of
view
• How accounting earnings capture value added
• How the balance sheet and income statement articulate and its
importance in valuation
• How to interpret the statement of shareholders’ equity from a
valuation point of view
• The concept of comprehensive income and its importance in
valuation analysis
• How accounting earnings are related to stock rates of return
• How to calculate multiperiod earnings payoffs
• Intrinsic value calculations from forecasting earnings
• Alpha strategies based on earnings forecasts and earnings
yields
McGraw-Hill/Irwin
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5-3
Gaining the Understanding to do
Fundamental Analysis
Chapter 3
Chapter 4
Understanding investment
returns and how analysts’ styles
are determined by their
approach to forecasting returns
Valuation using Discounted
Dividend Model and Discounted
Cash Flows
Chapter 5
Chapter 6
Accounting Measurement and
Valuation from Earnings
Forecasts
The Residual Income
Valuation Model
With the understanding proceed to:
•Analysis of Information (Part II)
•Forecasting and Valuation (Part III)
McGraw-Hill/Irwin
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5-4
Logo used with permission of Genetech, Inc.
The Income Statement: Genentech, Inc.
Chapter 5
Page 132
Exhibit 5.1
CONSOLIDATED STATEMENTS OF INCOME(thousands, except per share amounts)
YEAR ENDED DECEMBER 31
1995
1994
1993
__________________________________________________________________________________
Revenues
Product sales
$ 635,263
$ 601,064
$ 457,360
Royalties (including amounts
from related parties: 1995-$12,492;
1994-$8,454; 1993-$5,488)
190,811
126,022
112,872
Contract and other (including amounts
from related parties: 1995-$13,448;
1994-$17,106; 1993-$8,869)
31,209
25,556
37,957
Interest
60,562
42,748
41,560
_____________________________________
Total revenues
917,845
795,390
649,749
Costs and expenses
Cost of sales
97,930
95,829
70,514
Research and development (including
contract related: 1995-$17,124;
1994-$7,584; 1993-$4,235)
363,049
314,322
299,396
Marketing, general and administrative
251,653
248,604
214,410
Special charge (primarily merger related)
25,000
--Interest
7,940
7,058
6,527
____________________________________
Total costs and expenses
745,572
665,813
590,847
Income before taxes
172,273
129,577
58,902
Income tax provision
25,841
5,183
-____________________________________
Net income
$146,432
$124,394
$ 58,902
====================================
Net income per share
$
1.21
$
1.04
$
.50
====================================
Weighted average number of shares used
in computing per share amounts
121,220
119,465
117,106
====================================
McGraw-Hill/Irwin
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5-5
Features of the Income Statement
Chapter 5
Pages 132-134
1. Dividends don’t affect income
2. Investment doesn’t affect income
3. There is a matching of
Value added
Value lost
Net value added
(revenues)
(expenses)
(net income)
4. Accruals adjust cash flows
Revenue Accruals
Value added that is not
Adjustments to cash inflows
cash flow
that are not value added
Expense Accruals
Value decreases that are
Adjustments to cash inflows
not cash flow
that are not value decreases
McGraw-Hill/Irwin
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5-6
The Revenue Calculation
Chapter 5
Page 133
Revenue = Cash receipts from sales
+ New sales on credit
 Cash received for previous periods' sales
 Estimates of credit sales not collectible
 Estimated sales returns
 Deferred revenue for cash received in advance of sale
+ Revenue previously deferred.
McGraw-Hill/Irwin
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The Expense Calculation
Chapter 5
Page 133
Expense = Cash paid for expenses
+ Amounts incurred in generating revenues but not yet
paid
 Cash paid for generating revenues in future periods
+ Amounts paid in the past for generating revenues in the
current period.
McGraw-Hill/Irwin
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5-8
Earnings and Cash Flows
Chapter 5
Page 134
Earnings = [C – I] – i + I + new accruals
= C – i + new accruals
The earnings calculation adds back investments and puts
them back in the balance sheet. It also adds accruals.
The change in the balance sheet is I + new accruals
Genentech: Chapter 4, page 120, Box 4.6:
[101,834 - 108,114] - (-32,113) + 108,114 + 12,485
= 146,432
McGraw-Hill/Irwin
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5-9
CONSOLIDATED STATEMENTS OF CASH FLOWS(thousands)
Logo used with permission of Genetech, Inc.
Cash Flow
Statement:
Genentech,
Inc.
Increase (Decrease) in Cash and
Cash Equivalents
YEAR ENDED DECEMBER 31
1995
1994
1993
____________________________________________________________________________________________
Cash flows from operating activities:
Net income
$ 146,432
$ 124,394
$ 58,902
Adjustments to reconcile net income to
net cash provided by operating activities:
Depreciation and amortization
58,421
53,452
44,003
Writedown of securities available-for-sale
6,609
12,590
Gain on sales of securities available-for-sale
(7,432)
Deferred income taxes
(22,655)
(34,193)
Loss on fixed asset dispositions
(including merger related in 1995)
1,032
5,510
1,652
Writedown of non-marketable equity securities
469
748
600
Gain on sale of a non-marketable equity security
(703)
Changes in assets and liabilities:
Net cash flow from trading securities
(50,014)
(4,634)
Receivables and other current assets
(28,446)
(11,937)
(20,212)
Inventories
9,552
(18,475)
(19,410)
Accounts payable, other current
liabilities and other long-term
liabilities
20,682
72,901
48,995
___________________________________
Net cash provided by operating activities
133,947
200,356
114,530
Cash flows from investing activities:
Purchases of securities held-to-maturity
Proceeds from maturities of securities
held-to-maturity
Purchases of securities available-for-sale
Proceeds from sales of securities availablefor-sale
Purchases of non-marketable equity securities
Proceeds from sale of a non-marketable equity
security
Capital expenditures
Proceeds from sale of fixed assets
Change in other assets
Net cash used in investing activities
Cash flows from financing activities:
Stock issuances
Reduction in long-term debt,
including current portion
Chapter 4
Page 118
Exhibit 4.4
McGraw-Hill/Irwin
(682,396) (1,088,737)
924,345
(353,118)
101,591
-
877,139
(22,644)
(4,000)
(564,855)
535,089
(8,222)
-
703
(70,166)
(82,837)
(87,461)
26,316
(38,651)
(1,198)
(22,181)
___________________________________
(117,692)
(322,277) (121,314)
54,946
71,955
50,582
(871)
(794)
(721)
___________________________________
Net cash provided by financing activities
54,075
71,161
49,861
___________________________________
Increase (decrease) in cash and cash equivalents
70,330
(50,760)
43,077
Cash and cash equivalents at beginning of year
66,713
117,473
74,396
___________________________________
Cash and cash equivalents at end of year
$137,043
$ 66,713 $ 117,473
===================================
Supplemental cash flow data: Cash paid during the year for:
Interest, net of portion capitalized
$ 7,917
$ 7,058
$ 6,527
Income taxes
44,699
4,099
2,194
Non-cash activity: Income tax benefits of $7,204 in 1995 and $26,038 in 1994 realized from
employee stock option exercises were recorded as an increase in stockholders' equity.
See notes to consolidated financial statements.
© The McGraw-Hill Companies, Inc., 2001 All rights
5-10
Chapter 5
Page 135
Table 5-1
Earnings and Cash Flows:
Wal-Mart Stores
Wal-Mart Stores Inc.
(Fiscal years ending January 31. Amounts in millions of dollars except per-share data.)
1988
1989 1990 1991
1992
1993
1994
1995
1996
Cash from operations
536
828
968 1,422
1,553
1,540
2,573
3,410
2,993
Cash investments
627
541
894 1,526
2,150
3,506
4,486
3,792
3,332
( 91)
287
(597) (1,966) (1,913)
(382)
(339)
Free cash flow
74
(104)
Net income
628
837 1,076 1,291 1,608
Eps
.28
.37
McGraw-Hill/Irwin
.48
.57
.70
1,995
2,333
2,681
2,740
.87
1.02
1.17
1.19
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5-11
Accruals, Investments and
the Balance Sheet
Accruals and investments are put in the balance sheet
Shareholders’ equity = Cash + Other Assets - Liabilities
Earnings
Cash from Operations
Accruals
Free Cash Flow
Cash from Operations
Investments
McGraw-Hill/Irwin
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5-12
Beginning Stocks
Flows
Ending Stocks
Cash Flow Statement
Year 1
Updating the
Balance Sheet
Cash from operations
Cash from investing
Balance Sheet
Year 0
Cash 0
Debt financing
Equity financing
Net change in cash
+ Other Assets 0
Total Assets 0
- Liabilities
0
Owners’ equity 0
Statement of Shareholders’
Equity 1998
Investment and disinvestment
by owners
Earnings
Net change in owners’ equity
Balance Sheet
Year 1
Cash 1
+ Other Assets 1
Total Assets 1
- Liabilities
1
Owners’ equity 1
Income Statement
1998
Chapter 5
Page 138
Figure 5.1
McGraw-Hill/Irwin
Cash from operations
+ Accruals
Earnings
© The McGraw-Hill Companies, Inc., 2001 All rights
5-13
Logo used with permission of Genetech, Inc.
Genentech, Inc. 1995
Reported Balance Sheet
1995
ASSETS:
Current assets
Cash and cash equivalents
$ 137,043
Short-term investments
603,296
Accounts receivable (less allowances)
172,160
Inventories
93,648
Prepaid expenses & other current assets
39,267
Total current assets
1,045,414
Long-term marketable securities
356,475
Property, plant and equipment, at cost:
Land
57,313
Buildings
258,717
Equipment
383,387
Leasehold improvements
12,508
Construction in progress
60,480
Less accumulated depreciation
(268,751)
Net property, plant and equipment
503,654
Other assets
105,452
Total assets
$2,010,995
==========
Chapter 5
Page 137
Exhibit 5.2
1994
$
66,713
652,461
146,267
103,200
28,475
997,116
201,726
55,998
245,871
331,392
11,988
55,299
(215,255)
485,293
60,989
$1,745,124
==========
Genentech, Inc. 1995
Reported Balance Sheet
Chapter 5
Page 137
Exhibit 5.2
Logo used with permission of Genetech, Inc.
1995
LIABILITIES AND SHAREHOLDERS’ EQUITY:
Current liabilities:
Accounts payable
Accrued compensation
Accrued royalties
Accrued marketing and promotion costs
Accrued clinical and other studies
Income taxes payable
Other accrued liabilities
Current portion of long-term debt
Total current liabilities
Long-term debt
Other long-term liabilities
Total liabilities
Stockholders' equity:
Preferred stock
Special common stock
Redeemable common stock
Common stock
Additional paid-in capital
Retained earnings
Net unrealized gain on securities
available for sale
Total stockholders' equity
Total liabilities and stockholders' equity
$
37,101
36,945
23,159
18,863
33,621
14,329
69,068
358
233,444
150,000
25,504
408,948
1994
$
30,963
36,939
25,864
27,463
36,277
17,839
44,283
871
220,499
150,358
25,483
396,340
853
1,532
1,281,640
263,749
1,002
1,343
1,207,720
129,127
54,273
1,602,047
$2,010,995
==========
9,592
1,348,784
$1,745,124
==========
The Stocks and Flows Equation
Chapter 1
Page 35
• The balance sheet provides a measure of the stock of
owners’ value at a point in time: B0
• Earnings in the income statement represents the flow of
value “created” between two points in time: earn1
• Dividends are (net) flows paid back to the owners
between two points in time: d1
• Earnings are added to book value, and dividends are paid
out of the book value so that:
B1 = B0 + earn1 - d1
which shows how the balance sheet and income statement
articulate. This is called the stocks and flows accounting
equation.
McGraw-Hill/Irwin
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5-16
The Stocks and Flows Equation
Liabilities
Assets
Equity
Earnings2
Earnings1
Equity
Equity
Equity
B1
B0
Year 1
B2
Year 2
d1
d2
The Updating
B0 + Earnings1 - d1 = B1
B1 + Earnings2 - d2 = B2
Equity Growth
B1 - B0 = Earnings1 - d1
B2 - B1 = Earnings2 - d2
McGraw-Hill/Irwin
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5-17
Chapter 5
Page 158
Exercise 5.5
Articulation of Stocks and Flows:
Southwest Airlines
Common
Stock
Balance at December 31, 1992
96,047
Capital in
excess of
par value
177,647
46,325
Retained
earnings
Treasury
stock
Total
605,928
(86)
879,536
(46,325)
-
-
-
384
9,846
-
86
10,316
Cash dividends, $0.03867 per
share
-
-
(5,376)
-
(5,376)
Net Income-1993
-
-
169,543
-
169,543
142,756
141,168
770,095
-
1,054,019
Three-for-two stock split
Issuance of common and
treasury stock upon exercise
of executive stock options
and pursuant to Employee
stock options and purchase
plans and related tax benefit
Balance at December 31, 1993
B93  B92  earn93  d 93
1,054,019
 879,536  169,543   4,940
© The McGraw-Hill Companies, Inc., 2001 All rights
McGraw-Hill/Irwin
5-18
Accounting Earnings and Stock
Returns
Chapter 5
Page 141
Box 5.3
• Accounting earnings measure value creation, and stock
returns are the pricing of this added value in the market
• The one-period stock return is defined as
SR1 = P1 - P0 +d1
• From the stocks & flows equation
d1 = earn1 - (B1 - B0)
• therefore
SR1 = earn1 + (P1 - B1) - (P0 - B0)
• Pt - Bt is the premium at time t,
so SR1 = earn1 + Change in Premium
McGraw-Hill/Irwin
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5-19
Earnings and Stock Returns for
Southwest Airlines
Price
Shares
per Share Outstanding
Market Value
(1) x (2)
Book Value
Chapter 5
Page 158
Exercise 5.5
Premium
(3) - (4)
Dec. 31, 1992
29
92,470
2,727,865
879,536
1,848,329
Dec. 31, 1993
Change in Market
Value
Net Dividend, 1993
Stock Return
37
142,756
5,335,506
2,607,641
1,054,019
4,281,487
(4,940)
2,602,701
Change in Premium
Earnings, 1993
Stock Return
2,433,158
169,543
2,602,701
Calculation of the Stock Return for Southwest Airlines for 1993.
Image courtesy of Southwest Airlines
McGraw-Hill/Irwin
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5-20
Chapter 5
Page 142
Exhibit 5.3
Logo used with permission of Genetech, Inc.
Modification for Dirty Surplus
Accounting: Genentech, Inc.
Common
Stock
Balance at December 31, 1994
Net stock transactions
Net income, 1995
Reclassification of tax
benefits arising from quasireorganization
Unrealized gain on securities
available for sale
Balance at December 31, 1995
2,345
40
Additional
paid-in
capital
1,207,720
62,110
118,810
2,385
Retained
earnings
129,127
Other
9,592
1,348,784
62,150
146,432
44,681
44,681
54,273
1,602,047
146,432
(118,810)
1,281,640
263,749
Total
B94 + earn95 - d95 = B95
1,348,784 + 146,432 + 62,150  1,602,047 !!
Clean surplus income, or comprehensive income is calculated as:
– Comprehensive income = income in the income
statement + income items in equity
– Comprehensive Income = $146,432 + $44,681 =
$191,113
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5-21
How Much of Stock Returns Are
Captured in Earnings
Southwest Airlines
Image courtesy of Southwest Airlines
SRR1993 = earn1993 /P1992 - Premium1993/P1992
2,602,701 / 2,727,865 = 169,543 / 2,727,865 + 2,433,158 / 7,727,701
0.954 = 0.062 + 0.892
• Net income explains 0.062 / 0.954 = 6.4% of stock rate of
returns
• This is roughly the average explanatory power for stocks
on the NYSE/AMEX over the past 3 decades.
McGraw-Hill/Irwin
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5-22
Book Rate of Return
& Stock Rate of Return
Chapter 5
Page 143
• The stock rate of return (SRR) for one period:
SRR  P1  P0  d1  P0
• The book rate of return on common equity (ROCE):
ROCE1  Earnings1 B0
• Some cases:
– Case 1: P1 = B1 and P0 = B0 .Then,
•SR = Earnings
•SRR = ROCE
– Case 2: P0 > B0 and (P1 - B1 ) = (P0 - B0). Then,
•SR = Earnings
•SRR < ROCE
– Case 3: P0 = B0 and (P1 - B1 ) > (P0 - B0). Then,
•SR = Earnings +  premium
•SRR > ROCE
– In general, the relationship will depend on both the sign of P0 - B0 (initial
premium) and the change in premium.
McGraw-Hill/Irwin
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5-23
Median Market-to-Book Ratios (P/B) and Return on Common Equity (ROCE) and
Mean Stock Returns and T-Bill Returns for Each Year, 1968-1995
P/B’s, ROCE’s
and Mean
Stock Returns
Chapter 5
Page 144
Table 5-2
McGraw-Hill/Irwin
Year
Median
P/B
ROCE
(%)
63
64
65
66
67
68
69
70
71
72
73
74
75
76
77
78
79
80
81
82
83
84
85
86
87
88
89
90
91
92
93
94
95
96
97
Average,
1963-97
1.9
1.8
2.0
1.6
2.0
2.4
1.6
1.4
1.5
1.4
0.9
0.6
0.8
0.9
0.9
0.9
1.0
1.1
1.1
1.2
1.5
1.3
1.5
1.7
1.5
1.6
1.7
1.4
1.7
1.8
2.0
1.9
2.1
2.2
2.8
11.5
12.3
12.9
13.6
13.0
13.0
12.1
9.9
10.0
11.2
12.6
12.3
11.5
13.2
13.1
14.7
15.9
14.5
14.2
10.8
11.9
12.8
12.1
11.4
12.9
13.3
12.1
11.1
8.8
8.6
9.2
11.9
12.0
12.1
13.2
1.5
12.2
US
Treasury
Bills %
3.1
3.5
3.9
4.8
4.2
5.2
6.6
6.5
4.4
3.8
6.9
8.0
5.8
5.1
5.1
7.2
10.4
11.2
14.7
10.5
8.8
9.9
7.7
6.2
5.5
6.4
8.4
7.8
5.6
3.5
2.9
3.0
5.6
5.2
5.3
Common
Stocks (%)
(S&P 500)
22.8
16.5
12.5
-10.1
24.0
11.1
-8.5
4.0
14.3
19.0
-14.7
-26.5
32.7
23.8
-7.2
6.6
18.4
32.4
-4.9
21.4
22.5
6.3
32.2
18.5
5.2
16.8
31.5
-3.2
30.6
7.7
10.0
1.3
37.4
23.1
33.4
6.9
13.3
© The McGraw-Hill Companies, Inc., 2001 All rights
5-24
Chapter 5
Page 144
Table 5-2
P/B
P/B
3
2.5
2
1.5
1
0.5
0
1960
1965
1970
1975
1980
1985
1990
1995
2000
Year
P/B
McGraw-Hill/Irwin
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5-25
Chapter 5
Page 144
Table 5-2
P/B and ROCE
3
18
16
2.5
14
2
12
10
1.5
8
1
6
4
0.5
2
0
0
1960
1965
1970
1980
1975
1985
1990
1995
2000
Year
ROCE
McGraw-Hill/Irwin
P/B (Secondary-axis)
© The McGraw-Hill Companies, Inc., 2001 All rights
5-26
Chapter 5
Page 144
Table 5-2
P/B, ROCE and T-Bill Rates
18
3
16
2.5
14
12
2
10
1.5
8
6
1
4
0.5
2
0
1960
0
1965
1970
1975
1980
1985
1990
1995
2000
Year
ROCE
McGraw-Hill/Irwin
US T-Bills
P/B (Secondary-axis)
© The McGraw-Hill Companies, Inc., 2001 All rights
5-27
Multiperiod Earnings
Chapter 5
Page 146
Table 5-3
Cum-Dividend Earnings payoff for Hewlett Packard, 1991-1995
Year
Eps Dps
Terminal Earnings
on Dividends
1991
1992
1993
1994
1995
1.51 .24
1.09 .36
2.33 .45
3.07 .55
4.63 .70
12.63 2.30
.24 x (1.124-1) = .14
.36 x (1.123-1) = .15
.45 x (1.122-1) = .11
.55 x (1.121-1) = .07
.70 x (1.120-1) = .00
.47
Total eps
Total cum-dividend eps payoff
Logo used with permission of Hewlett Packard
12.63
13.10
• Two components of multi-period earnings:
– Total earnings
– Total earnings on dividends reinvested
• Cum-dividend earnings over T periods
T
T
t 1
t 1


T t
earn


 1 dt
 t 
McGraw-Hill/Irwin
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5-28
Hewlett Packard: Five-Year Return
1990
1991
1992
d91=0.24
d92=0.36
1993
d93=0.45
1994
1995
d94=0.55
d95=0.70
Chapter 3
Page 73
Figure 3.2
0.70
0.55 x 1.12
0.62
Logo used with permission of Hewlett Packard
0.45x 1.122
0.36 x 1.123
0.24 x 1.124
0.56
0.51
0.38
2.77 =
(1995 value)
•Terminal value of dividends in 1995
•Price payoff in 1995 (PT)
•Total Payoff
•Purchase price in 1990 (P0)
•Five-year Return
2.77
84.00
86.77
13.00
73.77
•Total cum-dividend eps payoff
13.09
•Change in premium [(P1995 - B1995) - (P1990 - B1990)]
60.68
McGraw-Hill/Irwin
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5
 dt
 5 t
t1
5-29
Multiperiod Earnings and Stock
Returns
Chapter 5
Page 146
• Multiperiod stock returns are
T
SRT  PT  P0    ET t d t
t 1
• Substitution in the stocks and flows equation for each
period yields
T
T
t 1
t 1


SRT   earnt    ET t  1 d t  PT  BT   P0  B0 
• Three components:
– Aggregate earnings over the T periods.
– Earnings from reinvesting the dividends at (E-1).
– Change in premium.
• The first plus the second component is referred to as cumdividend earnings.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2001 All rights
5-30
Earnings Predictions and Intrinsic
Value Calculations: One Period
Chapter 5
Page 147
• The NA condition
P1  d1  P0
P0 
E 1
recognizing that d1  earn1  B1  B0 ,
E
0
e a r n1  P1  B1   P0  B0 

 E 1
E
0
e a r n1  Premium

ρE  1
V
or
McGraw-Hill/Irwin
V
© The McGraw-Hill Companies, Inc., 2001 All rights
5-31
Earnings Predictions and Intrinsic
Value Calculations: Multiperiod
Chapter 5
Page 147
• Just as cum-dividend earnings and the change in premium explain actual
returns, expected cum-dividend earnings and expected change in premium
explain expected returns
T
• The NA condition
PT    ET t d t  P0
P0 
leads to
V0E 
t 1
 ET  1
T
T
t 1
t 1



 
T t
E
E
e
a
r
n



1
d

V

B

V

 E
t
t
T
T
0  B0

 T 1
E
• But this assumes foreknowledge of VT E !!
• One needs three components to value the stock:
– An earnings forecast
– A dividend forecast (to get earnings on dividends)
– A forecast of the change in premium
• Earnings forecasting works only if the expected premium change is zero.
How frequent is this?
McGraw-Hill/Irwin
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5-32
Relationship Between Cum-Dividend
Earnings and Returns
Chapter 5
Page 151
Table 5-4
• X= Stock return over a ten year period, divided by stock
price at the beginning of the ten year period.
• Y= Cum-dividend earnings over ten years, divided by
stock price at the beginning of the ten year period.
Y
X
Top quartile
2nd quartile
3rd quartile
Lowest quartile
McGraw-Hill/Irwin
Top
2nd
3rd
Lowest Median
quartile quartile quartile quartile
of X
247
71
3
1
4.02
58
166
92
7
2.06
10
55
169
7
31
58
Grand Mean of X: 1.75
88
226
1.25
0.39
© The McGraw-Hill Companies, Inc., 2001 All rights
5-33
Earnings Yield Screens
Chapter 5
Page 151
• Given no arbitrage and no expected change in premium,
 e a r n  
T
t 1
t
T t
E
P0
and for a one-year forecast,
 
 1 dt
  ET  1
e a r n1
 E 1
P0
the left-hand side is the earnings yield
McGraw-Hill/Irwin
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5-34
Chapter 5
Page 152
Table 5-5
Earnings Yield Screen:
Hewlett-Packard
Analyst Forecast: Hewlett Packard Co.
1995A 1996E 1997E 1998E
Eps
4.63
5.45
6.35
7.32
Dps
.70
.94
1.10
1.25
Logo used with permission of Hewlett Packard
The total cum-dividend earnings forecasted for the three years are calculated (with a cost
of capital of 12%) as follows:
Total earnings for 1996, 1997 and 1998
Earnings on 1996 dividends during 1997 and 1998 (.94 x .2544)
Earnings on 1997 dividends during 1998 (1.1 x .12)
Total cum-dividend earnings, 1996-98
$19.12
.24
.13
$19.49
Three years capitalization rate = 1.123-1 = 40.49%
Price in 1995 = 84.375
The screen:
SELL?
19.49 / 84.375 = 23.07%
Change in premium?
McGraw-Hill/Irwin
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5-35
Median one-year and three-year earnings yields, 1968-95
Earnings
Yield
History
Year
Median
one-year earnings
yield earn1/P0 (%)
1968
1969
1970
1971
1972
1973
1974
1975
1976
1977
1978
1979
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
4.8
5.6
6.9
7.3
8.6
11.9
17.2
15.6
13.9
15.1
15.4
12.9
9.8
7.6
7.7
6.0
5.4
4.2
4.3
5.4
4.7
3.8
3.9
3.5
4.2
4.1
3.9
4.3
14.2
19.2
25.5
25.1
25.5
39.2
63.8
54.7
50.5
51.4
48.9
39.5
29.8
29.9
26.7
18.9
19.5
19.0
17.3
18.4
16.7
14.1
17.1
16.4
16.6
16.5
15.2
14.9
5.7
7.0
7.3
5.7
5.7
7.0
7.8
7.5
6.8
6.7
8.3
9.7
11.6
14.4
12.9
10.5
11.9
9.6
7.1
7.7
8.3
8.6
8.3
6.8
5.3
5.2
5.2
5.9
7.7
27.3
8.0
Overall Mean
Median
three-year earnings
yield (%)
Annual Yield
on three-year
T-Note (%)
Chapter 5
Page 154
Table 5-6
1968-73: all NYSE and AMEX firms; 1974-95: all NYSE, AMEX and
NASDAQ firms
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5-36
Chapter 5
Page 154
Table 5-6
Earnings Yield History
70
60
Percent
50
40
30
20
10
0
1965
1970
1975
1980
1985
1990
1995
2000
Year
1 yr Yield
McGraw-Hill/Irwin
3 yr Yield
3 yr T-Note
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5-37