INSEAD Library

Doriot: for 2016-2017 courses

Includes bibliographical references and index

Digitized

Business Analysis and Valuation Using Financial Statements Contents PART ONE FRAMEWORK I: A Framework for Business Analysis and Valuation Using Financial Statement s The Role of Financial Reporting in Capital Markets I-2 From Business Activities to Financial Statements I-3 Influences of the Accounting System on Information Quality I-4 From Financial Statements to Business Analysis 1-8 Summary 1-10 Discussion Questions 1-1 1 Notes 1-II PART TWO BUSINESS ANALYSIS AND VALUATION TOOLS 2: Strategy Analysis 2-1 Industry Analysis 2-I Degree of Actual and Potential Competition 2-2 Bargaining Power in Input and Output Markets 2-5 Applying Industry Analysis:The Personal Computer Industry 2-6 Competition in the Personal Computer Industry 2-6 The Power of Suppliers and Buyers 2-7 Limitations of Industry Analysis 2-8 Competitive Strategy Analysis 2-8 Sources of Competitive Advantage 2-9 Achieving and Sustaining Competitive Advantage 2-10 Applying Competitive Strategy Analysis 2-10 Corporate Strategy Analysis 2-12 Sources of Value Creation at the Corporate Level 2-12 Applying Corporate Strategy Analysis 2-14 Summary 2-16 Discussion Questions 2-17 Notes 2-18 3: Overview of Accounting Analysis 3-1 The Institutional Framework for Financial Reporting 3-I Accrual Accounting 3-1 Delegation of Reporting to Management 3-2 Generally Accepted Accounting Principles 3-3 External Auditing 3-4 Legal Liability 3-5 Factors Influencing Accounting Quality 3-5 Noise from Accounting Rules 3-5 Forecast Errors 3-5 Managers' Accounting Choices 3-6 Steps in Performing Accounting Analysis 3-7 Accounting Analysis Pitfalls 3-12 Value of Accounting Data and Accounting Analysis 3 -13 Summary 3-14 Discussion Questions 3-14 Notes 3-15 4: Implementing Accounting Analysis 4-1 Recasting Financial Statements 4-2 Asset Distortions 4-3 Who owns or controls resources? 4-7 Can economic benefits be measured with reasonable certainty? 4-8 Have fair values of assets declined below book value? 4-8 Overstated Assets 4-9 Understated Assets 4-15 Liability Distortions 4-22 Has an obligation been incurred? 4-23 Can the obligation be measured? 4-23 Understated Lia bilities 4-23 Equity Distortions 4-31 Summary 4-32 Discussion Questions 4-33 Notes 4-38 Appendix: Recasting Financial Statements into Standardized Templates 4-41 5: Financial Analysis 54 Ratio Analysis 5-1 Measuring Overall Profitability 5-6 Decomposing Profitability: Traditional Approach 5-7 Decomposing Profitability: Alternative Approach 5-8 Assessing Operating Management: Decomposing Net Profit Margins 5-11 Evaluating Investment Management: Decomposing Asset Turnover 5-15 Evaluating Financial Management: Analyzing Financial Leverage 5-18 Putting h All Together: Assessing Sustainable Growth Rate 5-23 Historical Patterns of Ratios for U.S. Firms 5-25 Cash Flow Analysis 5-25 Cash Flow and Funds Flow Statements 5-26 Analyzing Cash Flow Information 5-27 Analysis of Wal-Man's and Target's Cash Flow 5-30 Summary 5-31 Discussion Questions 5-32 Notes 5-33 Appendix Part A: Wal-Mart Stores, Inc. Financial Statements 5-35 Appendix Part B: Target Corporation Financial Statements 5-39 6: Prospective Analysis: Forecasting 6-1 The Overall Structure of the Forecast 6-1 A Practical Framework for Forecasting 6-2 Performance Behavior: A Starting Point 6-3 Sales Growth Behavior 6-3 Earnings Behavior 6-4 Return on Equity Behavior 6-5 The Behavior of Components of ROE 6-6 Relationship of Forecasting to the Other Analyses 6-7 Macroeconomic Factors 6-8 Sales Growth 6-8 NOPAT Margins 6-10 Working Capital to Sales 6-10 Long -Term Assets to Sales 6-1 I Capital Structure 6-11 Making Forecasts 6-11 The Overall One Year Ahead Forecast 6-12 Overall Forecasts for Years Two to Ten 6-13 Cash Flow Forecasts 6-15 Sensitivity Analysis 6-16 Seasonality and Interim Forecasts 6-16 Summary 6-18 Discussion Questions 6-19 Notes 6-20 Appendix: The Behavior of Components of ROE 6-22 7: Prospective Analysis: Valuation Theory and Concepts 7-I The Discounted Dividends Valuation Method 7-2 The Discounted Abnormal Earnings Valuation Method 7-2 Accounting Methods and Discounted Abnormal Earnings 7-4 Valuation Using Price Multiples 7-5 Main Issues with Multiples-Based Valuation 7-5 Determinants of Value-to-Book and Value­Earnings Multiples 7-7 Shortcut Forms of Earnings-Based Valuation 7-10 Abnormal Earnings Simplification 7-10 ROE and Growth Simplifications 7-11 The Discounted Cash Flow Model 7-12 Comparing Valuation Methods 7-13 Differences in Focus 7-13 Differences in Required Structure 7-14 Differences in Terminal Value Implications 7-14 Summary 7-16 Discussion Questions 7-17 Notes 7-18 Appendix A: Asset Valuation Methodologies 7-20 Appendix B: Reconciling the Discounted Dividends and Discounted Abnormal Earnings Models 7-22 8: Prospective Analysis:Valuation Implementation 8-I Computing a Discount Rate 8-1 Weighting the Costs of Debt and Equity 8-1 Adjusting Cost of Equity for Changes in Leverage 8-4 Estimating Wal-Mart's Cost of Capital 8-5 Detailed Forecasts of Performance 8-6 Making Performance Forecasts for Valuing Wal-Mart 8-8 Terminal Values 8-9 Terminal Values with the Competitive Equilibrium Assumption 8-9 Competitive Equilibrium Assumption Only on Incremental Sales 8-10 Terminal Value with Persistent Abnormal Performance and Growth 8-10 Terminal Value Based on a Price Multiple 8-11 Selecting the Terminal Year 8-12 Estimates of Wal-Mart's Terminal Value 8-12 Computing Asset and Equity Values 8-13 Value Estimates Versus Market Values 8-14 Sensitivity Analysis 8-15 Some Practical Issues in Valuation 8-16 Dealing with Accounting Distordons 8-16 Dealing with Negative Book Values 8-16 Dealing with Excess Cash and Excess Cash Flows 8-17 Summary 8-17 Discussion Questions 8-18 Notes 8-19 PART THREE BUSINESS ANALYSIS AND VALUATION APPLICATIONS 9: Equity Security Analysis 9-1 Investor Objectives and Investment Vehicles 9-2 Equity Security Analysis and Market Efficiency 9-3 Market Efficiency and the Role of Financial Statement Analysis 9-3 Market Efficiency and Managers' Financial Reporting Strategies 9-4 Evidence of Market Efficiency 9-4 Approaches to Fund Management and Securities Analysis 9-5 Active Versus Passive Management 9-S Quantitative Versus Traditional Fundamental Analysis 9-5 Formal Versus Informai Valuation 9-6 The Process of Comprehensive Security Analysis 9-6 Selection of Candidates for Analysis 9-6 Inferring Market Expectations 9-7 Developing the Analyst's Expectations 9-10 The Final Product of Security Analysis 9-1 I Performance of Security Analysts and Fund Managers 9-11 Performance of Sell-Side Analysts 9-11 Performance of Fund Managers 9-12 Summary 9-13 Discussion Questions 9-14 Notes 9-15 10: Credit Analysis and Distress Prediction 10-1 Why do Firms use Debt Financing? 10-2 The Market for Credit 10-3 Commercial Banks 10-3 Non-Bank Financial Institutions 10-4 Public Debt Markets 10-4 Sellers Who Provide Financing 10-4 The Credit Analysis Process in Private Debt Markets 10-4 Financial Statement Analysis and Public Debt 10-I0 The Meaning of Debt Ratings 10-10 Factors That Drive Debt Ratings 10-12 Prediction of Distress and Turnaround I0-14 Models for Distress Prediction 10-15 Investment Opportunities in Distressed Companies 10-16 Summary 10-16 Discussion Questions I 0-17 Notes I 0-18 11: Mergers and Acquisitions II-1 Motivation for Merger or Acquisition I 1-1 Motivation for the Exxon-Mobil Merger 11-4 Acquisition Pricing II-5 Analyzing Premium Offered to Target Stockholders 11-5 Analyzing Value of the Target to the Acquirer 11-7 Exxon's Pricing of Mobil I I-10 Acquisition Financing and Form of Payment 11-1 I Effect of Form of Payment on Acquiring Stockholders I 1-11 Effect of Form of Payment on Target Stockholders 1 1 -13 Exxon's Financing of Mobil II-14 Acquisition. Outcome I 1-14 Other Potential Acquirers 11-14 Target Management Entrenchment 11-15 Antitrust and Security Issues 11-16 Analysis of Outcome of Exxon's Offer for Mobil I I-17 Summary 11-17 Discussion Questions I I-18 Notes I1-19 12: Communication and Governance 12-1 Governance Overview 12-2 Management Communication with Investors 12-4 A Word of Caution 12-4 Example: Communication Issues for FPIC Insurance Group 12-5 Communication Through Financial Reporting 12-6 Accounting as a Means of Management Communication 12-6 Factors That Increase the Credibility of Accounting Communication 12-6 Limitations of Financial Reporting for Investor Communication 12-7 Example: Accounting Communication for FPIC Insurance Group 12-8 Communication Through Financial Policies 12-9 Dividend Payout Policies 12-9 Stock Repurchases 12- I 0 Financing Choices 12- I 0 Hedging 12- I 1 Example: Stock Buybacks at FPIC Insurance Group 12-11 Alternate Forms of Investor Communication 12-12 Analyst Meetings 12-12 Voluntary Disclosure 12-12 Example: Other Forms of Communication at FPIC Insurance Group 12-13 The Role of the Auditor 12-14 Challenges Facing Audit Industry 12-14 Role of Financial Analysis Tools in Auditing 12-15 Example: Auditing FPIC Insurance Group 12-17 The Role of the Audit Committee 12-17 Summary 12-19 Discussion Questions 12-19 Notes 12-21 Index 1-1 Author Index 1-15