Equity Valuation And Analysis: Harvey And Norman Holdings Ltd.

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Question :

TACC612 – Business Valuation

Equity Valuation and Analysis

Assessment Details

This assessment requires students to apply the knowledge and skills learned from lectures, workshops and lab sessions to a real-world equity valuation scenario. Each group is required to pick one listed Australian company and collect information through databases introduced in the lab sessions to perform equity valuation analysis. Where applicable, other sources of data may be used.

To succeed in this assessment, students need to demonstrate their ability to:

  • Collect financial and operational information of a company from databases
  • Evaluate the strategy of the subject company, including its industry environment, competitive position, corporate strategy and financial strategy
  • Evaluate the company’s accounting policies and methods and identify red flags of inappropriate accounting treatments
  • Estimate the implications of accounting policies and perform accounting adjustments where applicable
  • Use financial ratios to assess the performance of the company where appropriate
  • Develop a systematic approach towards forecasting the company’s future performance and financial position with a set of well justified assumptions
  • Prepare pro-forma financial statements of the company
  • Implement the valuation procedure using abnormal earnings valuation model (or residual income valuation model or discount cash flow model) based on pro-forma financial statements
  • If relevant, consider the possibilities of corporate failure or takeovers and their potential impact on valuations
  • Interpret valuation results and draw conclusions
  • Write up well-argued professional report with presentation of evidence

The above description is for SUGGESTION only, NOT all elements are essential depending on the specific company of choice. Where appropriate, other techniques may be used.

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Answer :


Harvey & Norman Holdings Limited is Australia based Retailer of furniture, bedding and bed equipment’s, computers and computer peripherals and consumer electronics items and the company operates in multiple nations across Australia and New Zealand and beyond. The modus operandi adopted by the Harvey Normal is that of a franchisee model. The primary brand and company owned stores opera under the ASX registered and listed HVN symbol. Harvey Normal holding is headquartered in New south Wales and approximately employs 10000 employees. Katie Page is the CEO of the Harvey Norman Holding company since 1999. In the recently concluded financial year the company has gone on to generate a revenue of $1,833,123,000  and a Net profit of $452,966,000

The primary operating segments of the company are Australia, New Zealand, Singapore and Malaysia, Slovenia and Croatia and Ireland / Northern Ireland. 

Evaluation of strategy 

The Harvey Norman company operates under a flagship strategy in all the countries where it is located with operating of the flagship stores which are not only big but also user friendly and acts as brand builders. The company’s management emphasizes on creating more quality for the consumers of the company and continues to invest in the flagship strategy offering the millions of consumers a premium shopping experience. A total of 6 new flagship stores are intended to be opened during 2018-2019 (AnnualReportHarveyNorman, 2017). 

The retail chain which is operated by the company in various locations includes 39 independent stores in New Zealand, 13 in Singapore, 15 in Malaysia and 14 stores in Ireland and Northern Ireland.  In this segment the profit before tax has substantially increased in the 2017 FY to reach $90.85 million (an increase of $27.74 million) over the last FY. In New Zealand the HVN stores continues to be market leader with a strong growth orientation. 

The Harvey Norman Group is operating in Australia through a franchisee system under which the management of the company is operating under the trade names of Harvey Norman®, Domayne®  & Joyce Mayne® etc. these retail operations are helmed by retail franchisees and the company is banking on promotions and brand building for generating higher growth in this category. While the operating margin was 5.06% in 216 the same has increased to 5.43% in 2017 and company’s management is aware that franchisee margin would go up as sales grow stronger. The HVN group is following a omni channel strategy in developing franchisee growth and making sure any offline distributions are offset by the online offerings. The online offering of the firm has allowed the customer to reserve products which are not available now and delivered to them as soon as they arrive, and this has provided the opportunity to the management to increase brand loyalty. 

Evaluation of company’s Accounting policies

The Harvey Norman holdings has been preparing the financial statements under historical cost base with the exception of land and building, investments and financial instruments which are accounted for under the fair value basis. the basic currency in use for accounting methods is Australian dollars. The financial statements of the company is prepared under the relevant provisions of the corporation Act and AASB accounting standards such as AASB10, AASB 3,8,9, AASB 139, AASB 15 & AASB 16 etc (AnnualReportHarveyNorman, 2017). 

  1. The Harvey Norman Holdings Group has been planning to implement the lease liabilities under provisions of AASB 16 as all the leased liabilities are going to be treated as financing leases and hence the same is most probably would impact the HVN group in the form of increase in overall long term liabilities. 
  2. The financial statements and business operation of the group has been further segregated to different segments and segmented profits, revenue and expenses has been outlined with as much detail as possible. However, the other revenue which is coming in the form of revenue and incomes (other than sales revenue) has not been detailed in the notes and that’s a concern to understand. More detailed information regarding franchisee fees and loyalty etc. received shall be better form the investors perspective (Deegan, 2014). 
  3. The property plant and equipment’s the company has been evaluated under the fair value method and the same has been incorporated in the balance sheet. The fair value has been measured either using the income capitalization method or the discounted cash flow method by the Harvey Norman firm. All the reviews are periodically undertaken by the company’s designated expert property review committee in a manner provisioned by AASB 13 and section 334 of the Corporations Act 2001.

Estimation of Financial Ratios 

Financial Ratios of the Harvey Norman Holdings group is estimated as follows:

Profitability Ratios 

Net Profit Margin PAT/ Net Revenue 351,340/1,795,759 = 19.56%452,966/1,833,123 = 24.71% 
Return on Equity (ROE)PAT/ Total Equity 351,340/  2,688,674  =  13.06%452,966/ 2,812,907 = 16.10%
Return on Assets (ROA)PAT/ Total Assets 351,340/4,431,800 = 7.92%452,966/ 2,688,674 = 16.95%

Harvey Norman Holding group has been able to generate a good 19.56% net margin n 2016 but the same firm was able to reduce costs, generate higher sales growth and increase the profit margin to an impressive 24.71%. this means profit margin has grown by approx. 20% in 2017. That’s good going and if the magament is able to generate adequate growth in coming years , profit margin would be outstanding (Atrill, 2013). 

Harvey Norman Holding group is also generating a good ROE in 2016 and as a result of higher net margin the ROE has jumped higher to 16.10% in 2017. The Return on assets has gained in 2017. While the ROA was lower at 7.92% in the FY 2016 the same has increased significantly to 17% approx. Thus, it can be said that the growth prospect of the firm is quite outstanding and at present the management of the firm is able to generate adequate return for the shareholders and utilizing the total assets very well to generate returns (Belverd Needles; Susan Crosson;Matt Poers, 2011). 

Capital structure Ratios 

Debt to Assets RatioDebt/Total Assets 1,743,126/ 4,431,800 = 39.33%1,376,837 / 4,189,744 = 32.86%
Debt to EquityDebt / Total Equity 1,743,126/2,688,674 = 64.83%1,376,837/ 2,812,907 = 48.95%
Interest coverage RatioEBIT/interest Expenditures (493,763 + 28,706) / 28,706 = 18.20(639,806+20,072) /20,072 = 32.87

The debt to assets Ratio for the Harvey Norman Holding group has declined in 2017. While the Debt to assets was 39.33% in 2016 the same has been estimated to be 32% in 2017 which means only 32% of the assets are financed through external debts. The same impact can also be seen in debt to equity as well. While the Debt-Equity was 65% approx. in 2016 the same has reduced to 49% approx. in 2017. This means while the financial risk of the company and leverage was lower in 2016 the same has further come down in 2017 (Carl S. Warren and James M. Reeve, 2012, 12th edition). 

The TIE or the interest coverage is an indication of how prepared the Harvey Norman Holding group is to fulfil repayment of fiancé costs form operating profits. While the TIE was 18.20 in 2016 the same has increased significantly in the FY 2017 to 32.87. This means the lenders of the company reckon they have more or less no risks in getting their interest components in time. Thus, it can be said that the financial risk is quite well maintained and lower, and the firm is well positioned to reduce the financial risk and leverage. 

Liquidity Ratios 

Current Ratio CA/CL1,112,433/ 743,425 = 1.4971,605,547/1,279,012 = 1.26
Liquid Ratio QA/CL796,465/ 743,425 = 1.0721,289.979 / 1,279,012 = 1.0084

As can be seen from the above estimations the Harvey Norman Holding group has been able to maintain a good liquidity position. The current ratio of the Harvey Norman Holding group is 1.26 in 2016 and the same has increased to 1.50 approx. in 2017. This means the level of current liability has declined in relation to the level of current assets. Also, in both the years the Harvey Norman Holding group is able to maintain a liquid ratio of more than 1. While the ratio was 1.08 in 2016, it has increased to 1.072in 2017. This means Harvey Norman Holding group is in complete control of the short-term liquidity position and there is nothing much to worry about the same (Eugene Brigham & Michael Ehrhardt, 2010). 

Evaluation of Company’s Future performance Assumptions  

The following assumptions been used to assess the future profitability of the Harvey Norman company and for estimating the value of the company:

  1. As seen form the past few years of revenue growth it is estimated that the Harvey Norman group would be able to maintain a strong growth of 10% per annum for the next 3 and maintain a steady growth rate of 6% thereafter. 
  2. Cost of goods sold is expected to remain at the present 67.4% in the near future. 
  3. Distribution, marketing and occupancy expenses would be the same as in June 2017 in the near foreseeable future. 
  4. Revenues and other income items for the Harvey Norman group is also expected to increase at a growth rate of 10% per annum for the next 3 and maintain a steady growth rate of 6% thereafter. 
  5. Administrative expenses would remain 25% constant of the sales revenue net of other incomes of the company. Other expenses for the company is also expected to stabilize at 5.5% of sales revenue net of other incomes (ROSS and Westerfield, 2012). 
  6. Finance cost of the company is expected to remain constant at the 2017 level ( $20,000)  as the company is expected to reduce debts in the near future and it is highly unlikely it would go for new debts. 
  7. Share of net profit of joint ventures entities is most likely to increase by 6% in the near future. 
  8. Corporate tax rate for the company is most likely to be fixed at the current level of 29.2%.

Preparation of Financial statements (pro-forma) 

The Pro-forma financial statements of the company are as follows:

Income statement for the company ( 4 years) 


sales Revenue 1,833,1232,016,4352,218,0792,439,8872,586,280
cost of sales 1,235,6021,359,1621,495,0781,644,5861,743,261
Gross Margin 597,521657,273723,000795,300843,018

Revenues and other income items 1,333,8871,467,2761,614,0031,775,4041,881,928
Distribution expenses 36,18939,80843,78948,16851,058
Marketing expenses 385,895385,895385,895385,895385,895
Occupancy expenses 226,994226,994226,994226,994226,994
Administrative expenses519,986504,109554,520609,972646,570
Other expenses 107,666110,904121,994134,194142,245
Finance costs 20,07220,00020,00020,00020,000
Share of net profit of joint ventures entities 5,2005,4605,7336,0206,321
Profit before income tax 639,806842,299989,5451,151,5021,258,505
Income tax expense 186,840245,951288,947336,238367,483
Profit after tax452,966596,348700,598815,263891,021

Growth rate of PAT 

As can be seen from the above pro-forma income statement Harvey Norman Group would be able to increase net profits much better if its able to generate the 10% growth of revenue and maintain most of the cost bases in the same ratio as of 2017 level and achieve a consistent net profit growth of in excess of 9.3% in the most foreseeable future (Walter, Horngren, & Thomas, 2014). 

Valuation of the Company based on the proforma financial statements 

For finding the value of the firm, its decided to use the Discounted cash flow approach as he same is estimated to be best method for finding value of the company. Under such a method , the value of the company or investment would be estimated as the discounted value of the future cash flows using an appropriate discount rate or WACC for the company. If the valuation estimated under the DDCF approach is higher than the cost then the same is generally acceptable for investment. 

For the valuation the WACC of the Harvey Norman holding group has been assessed as follows:

Cost of Debt: Interest costs/ Net Debts *(1-t) 

                       = 20,072 / 333,858 *(1-.292) 

                       = 6.012%*.702 = 4.256%

Cost of Equity for the Harvey Norman holding Group has been calculated under the CAPM method:

Cost of Equity = Rf + ( Rm -Rf)*Beta 

                        = 2.94% + .8 (9.2%-2.94%) 

                        = 2.94% + 5% = 7.94% (Eugene Brigham & Michael Ehrhardt, 2010)

Overall cost of capital or WACC is estimated as follows:

Book value Weights Cost of capitalWeighted cost of capital 
Equity 2,812,907.8947.94%7.098
Debts (long term)333,858.10604.256%.452



So, the WACC of the Harvey Norman holding Group is estimated to be 7.55%. this rate would be used to estimate the value of the Harvey Norman Group and the valuation is done as under:

Calculation of the HVN Value 


(All values in $,000)

Depreciation ( non-cash expenses) 102,880113,168124,485130,709
Cash flows 699,228813,766939,7481,021,731
Terminal Value (CF /(ke-g)

PVF @7.55%1111
Total Firm Value 


The Harvey Norman Holding Group is currently expected to be valued around $5.214 billion as evidenced through the above estimations. However, the stock price at present for the firm is valued at A$ 3.20. as the company has a total of A$1,113.62 million, the current market value of all the stocks outstanding for the group is values at approximately A$ 4,298.58 million or A$ 4.298 billion. This means if the company’s is able to grow revenue and keep most of the operating expenses constant in the next few years, then the company’s stock is expected grow by approx. 18-20% in the next 2 years horizon. 

Interpretation of results of company valuation and Conclusion

The operational results of the Harvey Norman Holding group is quite good and the same is reflected in a gross margin of 33% for the company, a net margin of 16% and ROE of 16.4%. the Harvey Norman group also has a good dividend payout ratio of 30% and the same is growing at a rate 5% each year. Thus investors of the company is most likely to  generate a good return including  capital gain on account of stock price increases in the coming years. 

At present the stock price of the Harvey Norman group is lower than expected (market value of the HVN stock is less than the expected price of the stock) and thus undervalued in the market. This might be the right time to buy the HVN stock as the same is most likely to go up towards a probable price of $4.1-$4.2 in the near future. Hence the investors can be advised to buy the stock right now as the prices is expected to go up in the next quarter or so. T can be both short term and long-term buy and long term investors of the company are more likely to generate higher returns than the short term inventors as the company’s ROE and ROA is much better than that of the retail industry in Austria (ROSS and Westerfield, 2012).