TACC612 – Business Valuation
Equity Valuation and Analysis
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:
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.
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.
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.
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).
Financial Ratios of the Harvey Norman Holdings group is estimated as follows:
|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).
|Debt to Assets Ratio||Debt/Total Assets||1,743,126/ 4,431,800 = 39.33%||1,376,837 / 4,189,744 = 32.86%|
|Debt to Equity||Debt / Total Equity||1,743,126/2,688,674 = 64.83%||1,376,837/ 2,812,907 = 48.95%|
|Interest coverage Ratio||EBIT/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.
|Current Ratio||CA/CL||1,112,433/ 743,425 = 1.497||1,605,547/1,279,012 = 1.26|
|Liquid Ratio||QA/CL||796,465/ 743,425 = 1.072||1,289.979 / 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).
The following assumptions been used to assess the future profitability of the Harvey Norman company and for estimating the value of the company:
The Pro-forma financial statements of the company are as follows:
|cost of sales||1,235,602||1,359,162||1,495,078||1,644,586||1,743,261|
|Revenues and other income items||1,333,887||1,467,276||1,614,003||1,775,404||1,881,928|
|Share of net profit of joint ventures entities||5,200||5,460||5,733||6,020||6,321|
|Profit before income tax||639,806||842,299||989,545||1,151,502||1,258,505|
|Income tax expense||186,840||245,951||288,947||336,238||367,483|
|Profit after tax||452,966||596,348||700,598||815,263||891,021|
|Growth rate of PAT||31.65%||17.48%||16.37%||9.29%|
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).
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 capital||Weighted cost of capital|
|Debts (long term)||333,858||.1060||4.256%||.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)||102,880||113,168||124,485||130,709|
|Terminal Value (CF /(ke-g)||65,918,099|
|Total Firm Value||52,140,504|
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.
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).