Marks And Spencer Group Plc Share Valuation Finance Essay - Free Essay Example

Sample details Pages: 9 Words: 2687 Downloads: 3 Date added: 2017/06/26 Category Finance Essay Type Analytical essay Did you like this example? Marks and Spencer (MS) PLC is a UK based group which owns a chain of stores globally refer to (Appendix 1:..). It deals in retail goods which include clothing, food and home ware. It caters to all ages and demographic groups (Marks and Spencer 2010). 2. Findings 2.1. Models for share valuation (NAV, DVM and PER) Net Asset Values (REWORD NEED) Net asset value (NAV) is a representation of the per share value of an investment fund. NAV can be calculated as follow: Total value of all cash and securities in a given portfolio (minus liabilities) /by the number of shares outstanding. There are conditions in which asset values is particularly useful such as: Company in financial difficulty The shareholders of company in financial difficulty because liquidation value may or may not be close to NAV. Takeover bids This value is computed at the end of every trading day based on the closing prices of the securities in the portfolio. The buy and sell orders of all mutual funds are processed at the NAV on a given trading day. The investors however get the trade price only on the following day. When discounted income flow techniques are difficult to apply The NAV helps to calculate the price of shares and interests that the fund will issue and redeem. This ensures that the investors receive a fair proportion of the funds and on redemption receive their fair share of the funds value in cash. It is also useful in determining whether the shares in a public company are a cheap or expensive investment. This is done by comparing the companys current market capitalization with its NAV. The current market capitalization is the price at which the market values the company. NAV is also an index used to evaluate real estate investment trusts (REITs). REIT is a security that invests in real estate directly through properties or mortgages. It is similar to how the stock is sold to a major market. REITs, like other private companies will be listed. They can be classified as equity, mortgage or hybrid. Investing in REITs help reduce corporate income taxes. They are required to distribute a large portion of their taxable income into the hands of investors. They offer investors high yields and highly liquid real estate investments; Ezinearticles.com (2010) Don’t waste time! Our writers will create an original "Marks And Spencer Group Plc Share Valuation Finance Essay" essay for you Create order Problems with the Dividend Valuation Models DVMs are built on the idea that: The market value of ordinary shares represents the sum of the expected future dividend flows, to infinity, discounted to present value. Glen, A (2008). The DMVs present the following problems: DVMs to infinity The individual period model can be lengthy to any number of periods. Table 1: Universal Dividend Valuation Model P0 = D1/(1+ke)1 + D2/(1+ke)2 +ÃÆ' ¢Ãƒ ¢Ã¢â‚¬Å¡Ã‚ ¬Ãƒâ€šÃ‚ ¦+ Dn/(1+ke)n + Pn/(1+ke)n If Pn is far in the future, it will not affect P0. Therefore, the model can be rewritten as: P0   =   S Dt/(1 + ke)t This model states that the value of a stock is settled simply by the current value of the dividends. Calculating the current value of an unlimited stream of dividends can be  problematic. Basic models have been created to make the calculations easier such as: The Gordon Growth Model Table 2: The Gordon Growth Model P0 = D0(1+g)1   +   D0(1+g)2 +ÃÆ' ¢Ãƒ ¢Ã¢â‚¬Å¡Ã‚ ¬Ãƒâ€šÃ‚ ¦..+   D0(1+g)ÃÆ' ¢Ãƒâ€¹Ã¢â‚¬  Ãƒâ€¦Ã‚ ¾ (1+ke)1 (1+ke)2  Ãƒâ€šÃ‚  Ãƒâ€šÃ‚  Ãƒâ€šÃ‚  Ãƒâ€šÃ‚   (1+ke)ÃÆ' ¢Ãƒâ€¹Ã¢â‚¬  Ãƒâ€¦Ã‚ ¾ where D0 = the most recent dividend paid, g = the expected growth rate in dividends   ke   = the required return on equity investments. The model can be simplified algebraically to read: P0 = D0(1 + g)  Ãƒâ€šÃ‚  Ãƒâ€šÃ‚  Ãƒâ€šÃ‚  Ãƒâ€šÃ‚  Ãƒâ€šÃ‚  Ãƒâ€šÃ‚  Ãƒâ€šÃ‚  Ãƒâ€šÃ‚  Ãƒâ€šÃ‚   D1      Ãƒâ€šÃ‚  Ãƒâ€šÃ‚  Ãƒâ€šÃ‚  Ãƒâ€šÃ‚  Ãƒâ€šÃ‚  (ke g)  Ãƒâ€šÃ‚  Ãƒâ€šÃ‚  Ãƒâ€šÃ‚  Ãƒâ€šÃ‚  Ãƒâ€šÃ‚  (ke g) Dividends continue to rise at a constant rate for a lengthy period of time. The growth rate is supposed to be less than ke. Gordon proved that if this were not so (g exceeds k) a nonsensical result occurs because of the use of the history growth rate (Glen, 2010) , in the long run the firm would grow dreadfully huge to endlessness which show that DMVs are extremely sensitive to the assumption. However, if a firm is not paying dividends like many airlines at this time or has an unpredictable growth rate, the method will not work and more general types of the discounted dividend model need be used to worth the stock. Therefore, other approaches are required. This relates toward the terminal case of the Discounted cash flow approaches. Gordons model is hence appropriate to the terminal case. When the growth g is zero, Which means Nevertheless for many growth stocks, the present growth rate can differ with the cost of capital considerably year by year. In this case this model should not be used as Gordons model is sensitive if k is close to g, the price is very high, going to infinity and share prices change, often dramatically, on a daily basis.   The DVMs will not forecast this, nonetheless will give an approximation of the underlying value of the shares; Globusz.com (n.d). Understand Pros and Cons of historic PER In Valuation Of Companies The P/E ratio of a company is a one of the most important indicators in fundamental analysis for better or worse, because it shows how cheap or expensive a companys stock is. Theoretically, a company with a low P/E ratio is a better deal than a company with a high price to earnings ratio. There are multiple ways to look at a stocks price to earnings ratio. One method, is called the crude historic P/E and it is calculated by using the earnings from the most recent year past. The advantage of the historic P/E is calculated with real results and not the predictions of analysts which can be wrong, sometimes by a lot. The disadvantage of the crude historic P/E is that it tells you what the stock should have been worth based on earnings from the past The advantage of a perspective P/E is that it is not based on a companys previous performance. Nevertheless, all lot of things can change in a year and a company might be doing much better, or much worse now that it was last year. The disadvantage of a perspective P/E ratio is that it depends basically on a guess as to what the companys earnings will be since there is no way to know for sure how much a company will earn in the future. Each of these approaches gives us an insight into the company but there are limitations. How the analysis be improved? Deciding which kind of P/E to use for figuring out good stock investments can be eliminated and analyse by finding stocks which have good value P/E ratios for both the perspective P/E and the historic P/E. That means the stock is a good value no matter which earnings one looks at. It is important to know that many other factors go into determining whether or not a stock is a good investment. A stocks P/E may be high because there are solid expectations of large future growth (a growth stock) or the stocks P/E may be low because their futures prospects are dim (a low price but not a good value) as a rule of thumb see appendix 2: 2.2. Value of a share of Marks and Spencer (MS) Beta (B) represents the market risk involved in transacting a financial instrument. Reuters shows the value of Beta (B) for the stocks of MS PLC at 0.90. This implies that the market risk involved in dealing with the stocks of MS PLC is lower than the industry and competitors involved so the stock is a safe investment (Bloomberg 2010). Dividends announced by the company over the last five years are provided in Appendix 3. The common stock prices of Marks and Spencer PLC are valued by the following approaches. Net Asset Value (NAV) A financial instrument is valued by NAV. The expected market value of common stocks of MS PLC as per NAV is  £2185.9m (or more properly 2168.6 when minority interest are removed) of MS compares with a market capitalisation value placed on all shared when totalled of  £6.46bn (taken from FT at 22.20pm on 07th November 2010). This great difference make it clear that the shareholders of MS are not rating the firm on the basis of balance sheet net asset figures. Table 1: MS Net Asset Value (NAV) Market value of MS shares Liabilities No. of Common stocks outstanding Common stocks price per share  £6.46bn  £4,967,300,000.00 1,583,508,000  £2185.9m Common stocks price per share = (Total Value of all stocks liabilities) / No. of Common Stocks outstanding (Fabozzi, 2001). Dividend Valuation Models (DMV) DVM is based on using historical financial information of MS PLCs common stocks to calculate the current price of the stock. With the P0 and D0 given g calculated by averaging the percentage changes in final dividend in FY 2009 and 10. The value of Required Rate of Return (Ke) will be 0.1152 or 11.52%. The price derived from this is 278.70p (Marks and Spencer 2010; Bloomberg 2010). The Required Rate of Return (Ke) is calculated using CAPM model as follows: Ke = Rf + ÃÆ'Ã… ½Ãƒâ€šÃ‚ ² (Rm-Rf) where Ke = 3.5% + 0.9 x (5.5%) = 8.45% Using Dividend Valuation Model for one period based on the following equation: P0 = Div1/(1+Ke)+P1/(1+Ke) The reason for using one period Dividend Valuation Model is due to the estimated required rate of return which is less than the dividend growth rate and therefore, Gordons Model may not hold. We have assumed a constant dividend growth rate in our calculation. From this equation, we have a price of 384.88p which implies that if the price is equal to 384.88p or less than investment in the company stock is feasible. Moreover, when Ke is compared to the growth rate of the stock 11.48% it could be suggested that long term investment in the companys stock is a viable option. Table 2: MS Dividend valuation model Current share price (P0) Current dividend (D0) Required Rate of return (Ke)  £417.30p  £0.10 8.45% P0= D0 /(1 + ke) + P1/(1+K e) P0= 0.10/(1+0.0845) + 417.30(1+0.0845) =  £384.88p Historic Price Earnings Ratio Graph1 provide comparison of Marks and Spencer PLCs historical PER of the same year with major competitors. The PE ratio of MS is at 11.46 which is lower than 11.66 (sector PE ratio) in the markets they operate in. MS PLCs is in a moderate condition than Next PLC but is more unstable in comparison to Tesco PLC. It crossed the minimal barrier for P/E ratio in the industry (11.1) so the stock is performing reasonably well in the industry. From this analysis it could be suggested shareholders can expect relatively higher returns from their investment in the companys stock. The companys NAV is 92.310p indicating return to stock holders even if the company liquidates. Table 3: MS PER and Beta comparison with major competitors Price Earnings Ratio and Beta comparison Industry Sector MKS (Marks and Spencer Plc) Next Plc (NXT) Tesco Plc P/E Ratio (TTM) 11.1 11.66 11.46 11.24 13.29 Beta 0.99 0.96 0.9 0.95 0.77 Source: (Reuters 2010) Prospective Price Earnings Ratio The P/E ratio (perspective) is shown in table 4, the P/E Ratio (perspective) falls to 287.79 showing a decline in the P/E Ratio to 287.79 (for the next year) from 1264.54 (FY 2010). Due to lower EPS the stock is not worth keeping in the portfolio as it will decrease the value of the portfolio and the company is expected to incur reduction in profits (Chisholm and Chisholm 2009). Table 4: EPS (Future) e1(Next Years EPS)=S0 x (Ke -g))/b Earning Per Share(perspective) P/E ratio (perspective) (417.3*(0.1152-0.1148))/0.1148 1.45 287.7931 (Chisholm Chisholm, 2009) From this analysis it could be suggested that shareholders can expect higher returns from their investment in the companys stock. The companys NAV is positive and the P/E ratio is presently at a higher value and shareholders can expect an increase in the price of the companys stock and therefore, higher capital gains on their holdings. The stocks of MS PLC show an expectation of growth in the current FY according to their financial statements of FY 2010, since the profit before taxation indicates an increase of  £94.6million in the adjusted profit before taxation. The EPS basic and diluted have shown an increase in FY 2010.The net assets show an increase in the company accounts and so does the profit. The stock prices exhibit a rising trend and capital gains can be earned on the stocks in the short term as well. It is also viable for long term investments; according to London stock exchange the dividend payment per share is exh ibiting a rise of approximately 5%, showing recovery in dividend payments. With the borrowing decreasing in April 2010 the over all equity of the company is increasing making it financially stable. The half yearly accounts also show increase in revenues in the market segments (LSE 2010; Marks and Spencer.com, 2010). 2.3. Ratios analysis of MS The ratio analysis of MS PLC is as follows: Liquidity analysis The liquidity position of MS is also weak as values of both current and quick ratio is less than 1 and MS may run into problems to pay its current liabilities effectively shown in graph 2. Table 5: Marks and Spencer PLC Liquidity Ratio Liquidity Ratio Current Ratio=Current Assets/ Current liability Quick  ratio=(Cash + A/c Receivable + Short term Investment)/ Current liability FY2009 0.60 0.37 FY2010 0.80 0.39 Gearing ratio analysis The gearing ratios suggest that the company has high proportion of debt -to- equity. Although, it is earnings sufficient to pay interest but its equity to assets ratio remains quite weak shown in graph3 and 4. Table 6: Marks and Spencer PLC GEARING RATIO GEARING RATIO debt-to-equity ratio= Total Debt /Total Equity times interest earned=EBIT/ Total Interest Equity Ratio=Equity/ Assets Debt ratio= Total Debt/ Total Assets FY2009 2.45 4.06 0.28 0.71 FY2010 2.29 5.25 0.30 0.69 Profitability analysis The ROA has shown an increase showing that the net profit generated per dollar of assets has increased by 0.3% showing better usage of assets. The ROE shows a decline of 0.2 %, showing that the returns given to the common stock holders have declined in FY 2010 shown in graph 5. Table 7: Marks and Spencer PLC Profitability Ratios Profitability Ratios FY2009 FY 2010 ROA = Net Profit/ Total Assets 7% 7.3% ROE = Net Profit / Total Equity 24.1% 23.9% Investment Ratio analysis The Dividend yield ratio shows a decline of 0.181 in FY 2010, due to decline in the dividend payout. The PE ratio however shows an increase due to increase in share price of the share FY 2010 refer to Graph 6. Therefore, the stocks of MS PLC are expected to perform well with fluctuating returns to stock holders in the short run to investors, who are looking for capital gains. Table 8: Marks and Spencer PLC Investment Ratios Investment Ratios 2009 2010 Dividend Yield: Dividend Per Share /EPS 0.636 0.455 Price/Earning Ratio: Share Price / EPS 1018.75 1264.545 3. Conclusions and Recommendations The stocks of Marks and Spencer PLC show an expectation of growth in the current FY according to their financial statements of FY 2010, since the profit before taxation indicates an increase of  £94.6million in the adjusted profit before taxation. The EPS basic and diluted have shown an increase in FY 2010.The net assets show an increase in the company accounts and so does the profit. The stock prices exhibit a rising trend and capital gains can be earned on the stocks in the short term as well. It is also viable for long term investments; according to London stock exchange the dividend payment per share is exhibiting a rise of approximately 5%, showing recovery in dividend payments. With the borrowing decreasing in April 2010 the over all equity of the company is increasing making it financially stable. The half yearly accounts also show increase in revenues in the market segments (LSE 2010; Marks and Spencer 2010). The recommendation to the board of directors will be to marg inally reduce the dividend keeping in mind the market condition and increase its retained earnings to finance its short term liabilities and further boost its Return on Equity (ROE) which has dropped by 0.2 percent and Return on Assets (ROA). To gain the trust of the stock holders the company will have to communicate to the share holders that the company will payout bigger dividends in the coming period once it stabilizes and captures a greater market share in the sector.