Centre for Postgraduate Studies

MBF 2253 MODERN SECURITY ANALYSIS

INDIVIDUAL ASSIGNMENT I

This assignment carries a 30% weightage toward final grade.

Instruction for Submission of Assignment: Assignments must be submitted to PGC on the day
of the Final Exam.

Q1.

The DuPont formula defines the net return on shareholders equity as a function of the
following
components:

Operating margin

Asset turnover

Interest burden

Financial leverage

Income tax rate

Refer to the information presented on the financial position of Oberyn Martell Incorporated
in Table 1A below to answer the following questions.
(a).

Calculate each of the five components listed for 2009 and 2013, and calculate the return
on equity (ROE) for 2009 and 2013, using all of the five components. Show all calculations.

(b).

Briefly discuss the impact of the changes in asset turnover and financial leverage on the
change in ROE from 2009 to 2013.

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Q2.

Petyr Baelish is reviewing Valyrias financial statements in order to estimate its sustainable
growth rate. Refer to the information presented in Table 2A below to answer this question.

(a).

(1)

Identify and calculate the three components of the DuPont formula.

(2)

Calculate the ROE for 2009 using the three components of the DuPont formula.

(3)

Calculate the sustainable-growth rate for 2009.

Petyr Baelish has calculated actual and sustainable growth for each of the past four years
and finds in each year that its calculated sustainable-growth rate substantially exceeds its
actual growth rate.

(b).

Cite two courses of action (other than ignoring the problem) Petyr Baelish should
encourage Valyria to take, assuming the calculated sustainable-growth rate continues to
exceed the actual growth rate.

Q3.

At year-end 2011, the Wall Street consensus was that Philip Morris earnings and dividends
would grow at 20 percent for five years after which growth would fall to a market-like 7
percent. Analysts also projected a required rate of return of 10 percent for the U.S. equity
market.

(a).

Using the data in Table 3A and the multistage dividend discount model, calculate the
intrinsic value of Philip Morris stock at year-end 2011. Assume a similar level of risk for
Philip Morris stock as for the typical U.S. stock. Show all work.

(b).

Using the data in Table 3A, calculate Philip Morris price/earnings ratio and the
price/earnings ratio relative to the S&P Industrials Index as of December 31, 2011.

(c).

Using the data in Table 3A, calculate Philip Morris price/book ratio and the price/book ratio
relative to the S&P Industrials Index as of December 31, 2011.

(d).

State one major advantage and one major disadvantage of each of the three valuation
methodologies you used to value Philip Morris stock in Questions a, b and c above.

(e).

State whether Philip Morris stock is undervalued or overvalued as of December 31, 2011.
Support your conclusion using your answers to previous questions and any data provided.
(The past 10-year average S&P Industrials Index relative price/earnings and price/book
ratios for Philip Morris were 0.80 and 1.61, respectively.)
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Table 1A

Oberyn Martell Incorporated: Financial Data for the Years Ending 31st December 2009
and 2013

2009
$'million

2013
$'million

Income Statement Data

Revenues
Operating income
Depreciation and amortization
Interest expense
Pretax income
Income taxes
Net income after tax

542
38
3
3
32
13
19

979
76
9
0
67
37
30

Balance Sheet Data

Fixed assets
Total assets
Working capital
Total debt
Total shareholders equity

41
245
123
16
159

70
291
157
0
220

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Table 2A
Valyria Incorporated: Actual 2008 and Estimated 2009 Financial Statements For Fiscal Year
Ending 31st December ($millions, except per share data)
$million
2,008

$million
2,009

Change (%)

Revenue

4,750

5,140

7.6

Cost of goods sold

2,400

2,540

Selling, general, and administrative

1,400

1,550

180

210

Goodwill amortization

10

10

Operating income

760

830

20

25

Income before taxes

740

805

Income taxes

265

295

Net income

475

510

Earnings per share ($)

1.79

1.96

Average shares outstanding (millions)

265

260

Cash

400

400

Accounts receivable

680

700

Inventories

570

600

Net property, plant, and equipment

800

870

Intangibles

500

530

Total assets

2,950

3,100

Current liabilities

550

600

Long-term debt

300

300

Total liabilities

850

900

Stockholders equity

2,100

2,200

Total liabilities and equity

2,950

3,100

Book value per share ($)

7.92

8.46

Annual dividend per share ($)

0.55

0.60

Income Statement

Depreciation

Interest expense

8.4

8.6

Balance Sheet

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Table 3A
Philip Morris: Selected Financial Statement and Other Data for the Year Ending
31st December ($millions, except per share data)

2,011
$'million
Income Statement
Operating revenue

56,458

Cost of sales

25,612

Excise taxes on products

8,394

Gross profit

22,452

Selling, general, and administrative expenses

13,830

Operating income

8,622

Interest expense

1,651

Pretax earnings

6,971

Provision for income taxes

3,044

Net earnings

3,927

Earnings per share ($)

4.24

Dividends per share ($)

1.91

Balance Sheet
Current assets
Property, plant, and equipment, net
Goodwill

12,594
9,946
18,624

Other assets

6,220

Total assets

47,384

Current liabilities

11,824

Long-term debt

14,213

Deferred taxes

1,803

Other liabilities

7,032

Stockholders equity

12,512

Total liabilities and stockholders equity

47,384

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Other Data
Philip Morris:
Common shares outstanding (millions)

920

Closing price common stock

80.250

S&P Industrials Index:

Closing price

417.09

Earnings per share

16.29

Book value per share

161.08

-END -

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