Strategic Financial Analysis – BUSS 3083 Final case study assignment This major case study assessment is worth 60% of your course mark and is divided into two parts. In PART A, which is worth 40% of your course mark, you are required to prepare a written report for the ‘target audience’ on the case company allocated to your team. This part of the final case study assignment is to be completed in the teams you have been allocated to by your tutors/course coordinator. An online team peer review is a compulsory component of PART A and will be used to moderate the team report’s grades. Failure to submit this team peer review will result in a penalty being applied (please see the Course Outline for further details). In PART B, which is worth 20% of your course mark, each student will be required to submit a separate individual report on the same case company as that in PART A for the ‘target audience’. This examines a student’s individual understanding of the course material. The target audience for this assessment is a group of risk averse investors with limited knowledge. A submission link for each part of the assignment will be made available on LearnOnline closer to the deadline. Purpose: The purpose of this assignment is to test students’ ability to scope, synthesise and evaluate information for investors’ decision making. It asks students to appreciate the context and operations of a real company, as a team and individually. Students will need to thoroughly research and reference their work including all company reports that have been used. In general, attention must be given to not only summarising ‘facts’ about the case study company (and competitors), but critically analysing past performance, current trends and forming strongly reasoned recommendations for investment decision making. The quality of arguments, the way information is used to justify evaluations, and the soundness (viability) of recommendations for the target audience will be important for scoring higher marks. This assessment encompasses the five Course Objectives and six of the UniSA Graduate Qualities detailed in the Course Outline, except oral communication skills which was covered in an earlier assessment. The assessment design in this course is also underpinned by the UniSA Business Enterprise Skills Framework and AACSB Assurance of Learning practices. 1 of 5 PART A: Team Business Report (40%) Task: You are a team of financial analysts and you have been hired by a group of risk-averse investors with limited knowledge (i.e. your “target audience”) to prepare a professional business report. The business report is to provide a recommendation as to whether the investors should buy more of your case company’s shares, sell their current holdings, or hold their current holdings until a later date using the ‘most likely’ forecast assumptions. You will specifically need to address the following topic areas in drawing your conclusions: 1. 2. 3. 4. 5. 6. Macroeconomic factors Industry analysis and business strategy Governance and ethics Accounting analysis Ratio analysis Forecasting of financial performance, position and cashflows for 10 years using three scenarios: a) ‘most likely’ assumptions, 2) pessimistic assumptions and 3) optimistic assumptions. 7. Fundamental analysis and valuation Your team’s business report should be approximately 2,500 words. A further 250 words is allowed to write an Executive Summary of your business report. Appendices must be used to provide supplementary evidence, such as the calculations you have used for your forecasts. However, these appendices are for the reader’s/marker’s reference and do not provide additional marks. PART B: Individual case study report (20%) Purpose: The purpose of this task is to enable students to showcase their business writing and their understanding of key concepts in the course as an individual. It is an important opportunity to develop concise, clear and well evidenced business writing to a defined target audience. Scenario: Your target audience (a group of risk averse investors with limited knowledge) have asked you to provide further analysis of the ASX case company assigned to your team. They have specifically approached you as an individual (so you must perform this exercise independently of your team), to conduct the following work: 1. Conduct a share price valuation of your company’s shares for one month after the stated deadline for the assignment on the Course Outline using technical analysis techniques. It is important for you to outline the methods you have deployed, assumptions, limitations and the implications of your results. Suggested wordcount: 1000 words. 2. Conduct a credit analysis of your company and discuss the implications of your results. Suggested wordcount: 500 words. 2 of 5 You need to write a short business report individually which should be approximately 1,500 words. A further 150 words is allowed to write an Executive Summary of your business report. Appendices must be used to provide supplementary evidence, such as the calculations you have used for your forecasts. However, these appendices are for the reader’s/marker’s reference and do not provide additional marks. Please also note that if a student fails to submit PART B as an individual, this will result in a strong penalty (50%) being applied to the mark they will receive for PART A even though that component was submitted as a team. Please see the Course Outline. Specific guidance for PART A and Part B Analysis and recommendations: In preparing your recommendations, you can use any of the analytical approaches/tools/methods learnt in this course. As part of developing professional judgement, and application of this judgement, students will need to evaluate which analytical approaches/tools/methods they decide to apply (or not to apply) and why. Furthermore, the reports should appraise which approaches/tools/methods produce results which are weighted more in forming recommendations to investors. As a purely hypothetical example, you may use 2 different analytical models to discuss the competitive context of your case company. However, the 2 models may yield slightly contradictory results in terms of your recommendation for investors. Therefore, as an analyst, you will need to justify which model to rely on the most in forming your opinions about the company. Thus this task is not about applying as many different frameworks as possible, but deciding on which best suit the analysis required to satisfy the decision making needs of the target audience. Importantly, this is an applied task, so your reports should not aim to give a discourse of theory (e.g. – dedicating several paragraphs purely to defining/explaining what cost leadership or differentiation is, or purely explaining the steps in accounting analysis). You will need to synthesise your understanding of theory through your analysis of the case company. Structure: You should prepare a professional business reports which are structured appropriately (e.g. – Executive Summary, Introduction, Report Body, Conclusions, Recommendation, Appendices) and care should be taken to ensure each element of the report is clear, consistent and of a reasonable length given the word limit (e.g. appendices should be used for calculations, data, etc…, and not as a repository for write-up/information which could not be fitted into the body of the report because of the word limit). Please ensure you reference all sources of evidence including company data appropriately using the Harvard UniSA referencing style: https://lo.unisa.edu.au/course/view.php?id=3839 It is envisaged that many sections of your analyses and recommendations will be interlinked. Students who are able to draw relevant connections between their analysis in different sections to form recommendations for the target audience are likely to score higher. Please 3 of 5 remember, this is an analyst’s report so your insights, critique and demonstrated ability to produce viable conclusions based on your case company’s context will be important. Writing guidance: Where students require further guidance on report writing, they are encouraged to refer to the following resource: Fleet, W., Summers, J., & Smith, B. (2006). Report writing. In Communication skills handbook for accounting (2nd ed., pp. 63–75). Milton, Qld.: John Wiley & Sons. ISBN: 9780470810071 Furthermore, there is a resource on how to write a business report under the “Skill development resources” tab of our LearnOnline site. After referring to the above resource, if students have queries about structuring a professional report please make an inquiry on the discussion forums. General Information for this assignment Strategic Financial Analysis Case Studies - Learning Outcomes This information is for students in the Commerce or Commerce (Accounting) programs. As you work on the case studies in Strategic Financial Analysis, keep in mind the accounting learning outcomes that the assessment develops. Learning outcomes are what graduates of Bachelor Accounting programs are expected to know, understand and be able to do as a result of learning. Importantly, the Accounting profession and business were consulted during the design of the learning outcomes. Thus, they provide valuable insights into the knowledge and skills that employers of Accounting graduates seek. The case studies develop Knowledge, Judgement, Critical analysis and Problem-solving skills, Communication and Teamwork. Go to the Commerce home page to find out more about these important learning outcomes. Submission: All submitted documents must include the name and student ID of each team member. A total word count must be stated clearly on the written report that your team submits and on the individual letter that each student submits. As PART A of this assignment is a team submission, it is the responsibility of each team member to review the entire collection of final work before submission occurs. Any errors or omissions will be considered a team error and not the result of an individual. Similarly, good work will be considered the work of the team not of any one individual. It is a requirement of this course that each student complete an online peer review for all other members of their team. The online peer review will use SparkPlus software and will be made available on the course website closer to the deadline to ensure a fair assessment of each team member’s performance throughout the period of the project. The online peer review is a separate confidential submission that you must complete. Failure to do so 4 of 5 contravenes your assessment requirements and results in strong penalties being applied. Please see the Course Outline. Peer reviews may be used to moderate scores for individual students. Resources: It is expected that students will perform a significant and extensive amount of research on the selected company. This research will ultimately be reflected in the quality and insight of the written report. The library provides a very useful resource for obtaining company and industry information, please refer to: • • • http://guides.library.unisa.edu.au/companyinfo http://guides.library.unisa.edu.au/Accounting http://guides.library.unisa.edu.au/Finance Students are strongly encouraged to explore these websites as they will find a great wealth of resources which will greatly assist their research (for example, DatAnalysis Premium contains a range of financial data that can assist with financial analysis). Due dates, extensions and academic integrity Submission of the written report must occur via the LearnOnline link no later than 12:00 noon (Adelaide Time) on deadline given in the Course Outline. As such, please consider the deadline stated as strict. Ample time is provided for students to work together and coordinate themselves to submit early if they choose. Any approved extensions must satisfy the requirements of the UniSA Assessment Policies and Procedures Manual. Extensions are only available for exceptional/unexpected/unforeseen circumstances that impact the team as a whole and for a valid reason as outlined in UniSA’s Assessment Policies and Procedures Manual. Equally, the extension request must be made before the assessment deadline and be supported by valid documentary evidence (refer to UniSA’s Policies and Procedures Manual), no exceptions. In addition, if the extension is requested within one week of the due date, a copy of the work completed to date also needs to be provided. This is to establish that failure to complete this assignment by the due date was caused by unforeseen circumstances beyond the students’ control and not due to time management issues. It should be noted that the circumstances outlined in the documentary evidence, and the circumstances surrounding the extension request will form the basis for the extension granted (for example, an extension request lodged 1 day prior to the due date with a medical certificate outlining a period of sickness of 1 day will result in a 1-day extension being granted). Extensions are granted after considering the evidence of each case at the discretion of the Course Coordinator. 5 of 5 Late penalty: 10% of total marks available per day, or part thereof, overdue without approved extension. Assignments submitted more than 7 calendar days after the due date will not be accepted or marked. Academic Integrity: As this is a capstone course, students will be familiar with rules regarding academic integrity from their prior studies. For your reference, further details are available at https://lo.unisa.edu.au/course/view.php?id=3839. Marking criteria and rubrics are included on our course’s LearnOnline site. All the very best with your assignment. 6 of 5 ABSTRACT PROFESSIONAL BUSINESS REPORT Submitted by team 33 This report provides a recommendation for a group of risk-averse investors with limited knowledge on whether they should buy more REA’s share, sell or hold their current holdings by using the ‘most likely’ forecast assumptions. Yinghui Chen 110299168 Hanqi Yu 110247018 Jun Zhang 110244571 Thi Nhat Nguyen Le 110302764 BUSS 3083 - Strategic Financial Analysis Table of Contents Executive summary ........................................................................................................ 2 Introduction .................................................................................................................... 3 Macroeconomic factors .................................................................................................. 4 Industry analysis and business strategy ......................................................................... 4 Governance and ethics ................................................................................................... 5 Accounting analysis ....................................................................................................... 7 Ratio analysis ................................................................................................................. 8 Fundamental analysis ................................................................................................... 10 Forecasting Analysis ...................................................................................................... 8 Conclusion and recommendation ................................................................................. 10 Appendix ...................................................................................................................... 11 Reference ..................................................................................................................... 19 Word count: 2956 words Executive summary The purpose of this professional business report is to provide a recommendation for a group of risk-averse investors with limited knowledge on whether they should buy more REA’s share, sell or hold their current holdings by using the ‘most likely’ forecast assumptions. By undertaking various analyses of aspects of the business and the industry within which the business operates. The five forces factors from the economic environment suggest that buyers in the industry have lower incomes, which indicates there is pressure to buy at low prices, including buyers will be more sensitive to prices. The global environment shows that the global economy is in a state of recession. Industry analysis indicates that real estate is bullish, lower interest rates, and growing inflation double stimulates the industry (Rich, 2021). The accounting information’s quality is accurate for analysis due to strong corporate governance and superior ethic. Accounting analysis also helps us to minimize accounting distortion. The ratio analysis suggests REA's management needs to pay attention to its solvency and the way its sales are generated. Then we developed a valuation associated with assumption, concepts associated with performance that we built into our forecast. Overall, the result shows that risk-averse investors should not buy or sell the REA Group shares as a more conservative approach. Because based on the accounting and ratio analysis, future predictions are uncertain for risk-averse investors to do investment activities. Word count: 2956 words Introduction This report uses accounting analysis, ratio analysis, fundamental analysis to advise a group of risk-averse investors with limited knowledge on whether they should buy more REA's share, sell their current holdings or hold their current holdings. The macroeconomic factors were taken into consideration to identify the business trend. Industry analysis and business strategy were conducted to understand REA’s position relative to other participants in the industry and create a vision and direction for investors. Governance and ethic were analyzed to determine whether the internal information and data collected by the company are reliable for undertaking the analysis. Accounting analysis was used to determine REA's ability to maintain positive cash flow and satisfy the short-term debt. Ratio analysis provides insight into REA performance such as strengths and weaknesses. Forecasting was conducted to forecast REA's performance, position, and cash flow for ten years under 'most likely' assumptions, pessimistic assumptions, and optimistic assumptions. Fundamental analysis was used to determine the value of REA by focusing on the underlying factors which can affect the company's future returns and its actual business. The limitation of this report was not taking into consideration the takeover potential, technical analysis and credit analysis techniques were not considered in the decisionmaking process. Word count: 2956 words Macroeconomic factors From 2019 to today, because of the influence of forest fires and the subsequent covid19 outbreak. Australia's economic recession affects GDP, inflation, unemployment rate, foreign currency exchange rates. Also, various national industries have been challenged unprecedentedly. First, the global commercial trend and the Business cycle are divided into four cycles: expansion, peak, contraction, and recession. Due to the impact of covid-19, diverse economies have caused great contraction, a decline in output, and the unemployment rate (2020-4 To 2020-12), as well as low business activities and low growth. Now the global economy is in a state of recession. When the nation is in contraction, the government will use interest rates to adjust the market. The most used method is to lower interest rates. To guarantee the activeness of the market, if a company needs leverage to operate, it can borrow lower capital within low-interest rates to enhance production (Rich, 2021). However, the disadvantage is that because the global economy is in a recession state, demand will be relatively low, no matter what. How inventory can be increased, by obtaining low-cost money and using the government's advantage to increase efficiency. Presently the market is in a process of high inflation, an improvement in inflation rate because of the low interest rate. Because the government has lowered interest rates, many people will enthusiastically borrow money to invest in the market. Also, the market has a lot of money to spend. If the money supply increases, more money can be spent to drive market inflation. Australia is in the late stage of Covid-19 under-recovery (although it is not fully open to the world economy), the benchmark rate is very close to zero, and the median price is roughly around 0.001% (See figure 5, 6, 7,8). Analysis of Economic profile ， Real estate accounts for approximately 11.7% of Australia’s GDP, which shows how important the status of real estate in Australia is. Australia is an export-oriented economy. The benefit is that it does not rely too much on the domestic market, but the disadvantage is that it is overly dependent on foreign markets. Foreign political fluctuations will bring uncertainties and influences. Through this analysis, we can see the lifeblood and general economic situation of this country. Industry analysis and business strategy REA Group Ltd is an online real estate advertising company. Buyers in the industry have lower incomes, including buyers will be more sensitive to prices. This makes the purchasing power of buyers a weaker force in the industry. REA Group's industry is a very significant customer of its suppliers, which means that the profits of the industry are closely related to the profits of the suppliers. Therefore, the supplier must provide a reasonable and acceptable price. This results in suppliers' bargaining power in this industry is a weaker force. In the real estate industry, it is very difficult to achieve Word count: 2956 words economies of scale and high barriers, which makes it easier for large enterprises to achieve cost advantages. This will make the production costs of new entrants higher, and the threat of new entrants will become weaker. REA's biggest industry competitor in the domain. The real estate industry has entered a mature stage. The products produced by the two companies in the industry are highly diverse. Therefore, it is hard to win each other's customers, and their respective products are unique. This makes competition among competing companies a weaker force in the industry. Real estate is bullish, lower interest rate, and growing inflation double stimulate the industry. The REA Group's strategy is based on emphasis: property advertising, lifestyle and financial services, and globalization (REA Group, 2020). For property and real estate, advertising is a core business for the REA Group, which can be leveraged to develop more personalized ways to help people buy, rent, and share property. In addition, REA Group is looking for new ways to help our clients enhance their business and provide them with leads. REA aims to provide a relaxed and stressfree experience for clients and consumers in Australia and Asia, with REA Group having the largest online property searcher in Australia and an increased audience in key markets in Asia. This provides the group with a wealth of data and insights and the company aims to assist people throughout their property journey. Life experiences have connected the REA Group's brand with more homeowners, designers, and property improvers, causing people to look for new ways to create their perfect space. Home loans are an integral part of the real estate sector, which is why we have partnered with National Australia Bank (NAB) to launch realestate.com.au home loans. It combines the single experience of finding a property and securing a home loan. Building a strong presence in the broker market channel is also an important part of our financial services strategy, the REA Group welcomed Smart line Home Loans to the company and established a strategic mortgage broker partnership with NAB (REA Group, 2021). A global market strategy has been an important direction for the company, and our experience in other markets, as well as adding and maintaining market segments in Asia, South East Asia, and North America, and the ability to be a global leader in digital property media. We are expanding our leadership positions in Malaysia, India, and the US, and are working with partners 99.co and iProperty, (a Singaporean) and rumah123 (Indonesia). We have also made strategic investments in PropTiger (India) and Move (USA), Inc (USA) to secure and globalize our continued growth (REA Group annual report, 2020). Governance and ethics The management of the company requires a government structure and the issues encountered in management include (Corporate government, risk management strategic risk; operational risk; compliance risk; regulatory risk; credit risk), The REA Group places great importance on ethics, transparency (employees, shareholders, clients, and Word count: 2956 words consumers) and responsible conduct, which are essential for the long-term performance and sustainability of the company and support the interests of shareholders. The REA Group Board is responsible for ensuring that the company has an appropriate corporate governance framework in place to protect and enhance corporate performance and build sustainable value for shareholders. The corporate governance framework recognizes the ASX Corporate Governance Council's Corporate Governance Principles and Recommendations (ASX Principles and Recommendations) and is designed to support business operations, deliver strategy, monitor performance, and manage risk (REA Group annual report, 2020). Word count: 2956 words Accounting analysis The Income Statement, Balance Sheet, and Cash Flow Statement each provide useful information that is all interconnected. Together they deliver a comprehensive portrayal of the Group's financial performance. It is noticeable that the Group’s operating income decreased by about 6% from 2019 to 2020, with the net income decreased by 7.376 million and EBITDA from core operations decreased 5% against the prior year (Figure 1). As a result of the COVID19 pandemic, the challenging market condition and unprecedented global uncertainty accounted for the decrease in the profitability of the Group. On the other hand, the total core operating expenses of the Group were reduced by about 9% in 2020 through cost management and efficiencies from group realignment. Diversified property markets may give rise to operating risks, but the Australian operations were the primary revenue driver in FY 2020, and this delivered much potential for the Group’s business growth due to the strong signs of recovery of the Australian property market (REA Group, 2020). In terms of the assets held by the Group, accounts receivable decreased by 18% this year compared to 2018 (Figure 2). This trend can be interpreted as the Group had a reasonable assurance of being paid by customers at the defined date in the future. Intangible assets decreased by 31% compared to 2018 since adverse market conditions led to impairment of goodwill and IT development and software being recognized. In total, assets in 2020 increased slightly by 0.6% compared to the prior year. As for liabilities and equity, the Group strengthened its liquidity position and provided access to funding market downturn by arranging an additional $148.5 million loan facility which matures in December 2021. As a result, the balance of long-term debt turned out to be $239.9 million higher than the balance in the prior year. Total liabilities increased by $49.734 million compared to 2019. The operating activities illustrated a picture of ongoing cash inflows (14% increase from 2018 to 2020) from revenue throughout the three years (Figure 3). The 6-time increase of payment for the acquisition of the subsidiary reflected that the Group has been seeking further business expansion to satisfy service demand. The investment in PPE and IT development and software increased 32% as a result of the development of online business. The repayment of $70 million of debt showed strong operating cashflows since the rest of cash enabled continued investment in innovation and payment of dividends for shareholder returns. Consequently, this led to an increase of 92% in the cash balance of $222.8 million in 2020 compared to 2018 and it proved that the Group could meet its obligation. Word count: 2956 words Ratio analysis As a quantitative method, ratio analysis helps investors gain insights into the Group’s liquidity, profitability and sustainability by comparing line items shown on the financial statements. These are different categories of financial ratios that are normally used in business analysis such as liquidity ratios, profitability ratios. The return on equity ratio of the Group in FY 2020 is 13% and falls into the ideal range (10% - 30%). Compared to the average of its peers, which was 6.91%, investors could conclude that the Group’s management is above average at using assets to create profits since the Group has maintained a steady ROE (13% in 2020, 11% in 2019, 29% in 2018) over the past three years (Figure 4). Three variables are included in the calculation of ROE. The first one is the net profit margin, the after-tax profit the Group generated for each dollar of revenue, increased by 0.02 from 2019 (Figure 4). The second one is the asset turnover, a measure of how effectively the Group converts its assets into sales, which kept almost the same over the three years. The last variable is the financial leverage, which allowed the investor to see the portion of equity trading and showed an overall trend of decrease by 0.1. On the other hand, ROA decreased by 0.08, which indicated the Group was not efficient at using its assets to generate earnings as of 2018. All in all, the Group's profitability was improving and in line with industry averages. The current ratio (1.32 in 2018, 0.69 in 2019, 1.17 in 2020) shows that the Group can maximize the current assets on its balance sheet to satisfy its current debt and other payables except for 2019 (Figure 4). It fell below 1 in 2019, which may not be accepted as it indicated a higher risk of distress of default. The Group’s liquidity position improves as external financing was arranged according to the capital shortage with new borrowings coming in 2020. Compared with a competitor’s D/E ratio (0.26 in 2018, 0.27 in 2019, 0.41 in 2020) – Domain Group, the Group’s D/E ratios (0.84 in 2018, 0.75 in 2019, 0.84 in 2020) were much higher and investors could conclude that the Group was significantly funded by debt since the likelihood of default is higher (Figure 4). The Group's management needs to pay attention to its solvency and the way its sales are generated. Forecasting analysis Forward-looking scenario analysis is used to predict the financial situation, performance, and cash flow of REA Group Limited in the next ten years. This can provide suggestions for investors on whether they can get future returns. Based on past macroeconomic factors, industry and business strategies and accounting and financial ratio analysis can be used as a reference basis for formulating REA's "most likely" assumptions. The sales revenue growth rate of REA in the fiscal year 2020 is 16.2% (Appendix 2), mainly due to the epidemic, which allows REA to benefit from the Word count: 2956 words advantages of online business at the macroeconomic level. The decrease in interest rates during the epidemic also makes it. The sales revenue of the overall online business in each region has increased sharply. At the same time, due to the research and development of new projects in the 2019 fiscal year, the revenue has been substantial (Hannah, 2020). When the epidemic is relatively stable, and there is no investment cost for other new projects, the sales growth rate is expected to stabilize at 16.18% in the next ten years from 2021. Since NOPAT margin and NWC margin are random walks in history, these marginal data are not expected to be changed (Palepu, Healy, Wright, Bradbury, & Coulton, 2020). According to the management discussion and analysis data in REA's annual report, capital expenditures have increased exponentially in the past five years, so it is expected that capital expenditures will change and double the amount in the fiscal year 2020 (REA Group annual report, 2020). The capital structure of REA will also change. The increase in debt will relatively reduce free cash flow. The gearing level has not changed significantly in recent years. It is consistent, so it is expected that there will not be much change in the next ten years. The assumption of constant leverage can increase the amount of profit and thus have the ability to repay debts (REA Group annual report, 2020). If people's sources of income are restricted due to the epidemic, people's desire to consume will decrease, which will result in lower sales income than expected. Moreover, as the economic situation picks up, interest rates will rise for a while, causing people to be apprehensive. It isn't easy to invest too much in real estate to finally affect REA's financial performance (REA Group annual report, 2020). Word count: 2956 words Fundamental analysis Fundamental analysis is a method that analysts use to measure the company's intrinsic value by evaluating related economic and financial factors such as expense, income, and liability (Palepu et al. 2005). It includes everything that can affect the security's value, from macroeconomic factors and industry situation to microeconomic factors. In the previous parts, we already used the financial analysis to forecast the most likely future development of REA. The company's intrinsic value is $81.55 while the current share price is $155.19 that me the share price is overvalued by 90.3% (See figure 14). The discounted cash flow model defines the value of a firm’s business assets as the present value of the cashflows generated by those assets (cash from operations, or CFO) minus the investments made in new operating assets. It is derived from the dividend discount model, and it is based on the insight that dividends can be recast as free cash flows (Palepu 2020). Discounted cash flow model is used to calculate REA’s terminal value of the investment for 10 ten forecast period. Under the scenario of persistent abnormal earning performance, we get the terminal value of (5,543,779,704), which happens because the cost of future capital exceeded the assumed growth rate of 16.2%. A negative terminal value cannot exist for very long as a company's equity can only fall to zero at a minimum, any remaining liabilities would be sorted out in a bankruptcy proceeding (Figure 11). In the abnormal returns on constant sale (real terms) and the abnormal returns on constant sales (nominal terms) scenarios, the terminal value becomes positive again as 8,734,196,488 and 6,485,288,477. They are the REA's value into perpetuity beyond the forecast period (Figure 11). Figure 12 shows the Return on Equity of REA Group, it helps the investors know the return that they will get from the investment. Overall, the ROE of REA on average from 2011 to 2020 was quite high, around 30% except from 2017 ROE dropped to (36.7%). However, the ROE was increased up to 27.3% which indicates the recovery of the economy. As a result, REA is a good investment because if the ROE is higher than 14%, it is considered an acceptable ratio. If it is lower than 10%, it is considered a poor investment (S & P 500). As it showed in the excel speed sheet, under no circumstances, the ROE will increase up to 33% equal to the. Moreover, as it is shown in Eikon, the share price trend is increasing so it suggests buying more shares of REA in June 2021 (See figure 13). Conclusion and recommendation If some risk-averse investors hold REA stocks now, it is best to keep a reservation and keep holding them. Because the above analysis methods are not perfect, it is necessary to conduct credit analysis and other analysis to provide holistic recommendations. Word count: 2956 words Appendix 1 Figure 1：The Standardised Income Statement Y/E 30-June, (AUD 2018 $) Sales 2019 2020 867,376,000.00 941,391,000.00 881,857,000.00 SG&A 333,220,000.00 359,631,000.00 338,413,000.00 EBITDA 1,200,596,000.0 0 1,301,022,000.00 1,220,270,000.0 0 D&A 48,702,000.00 59,573,000.00 78,620,000.00 Interest Income 4,590,000.00 2,153,000.00 2,878,000.00 Interest Expense 12,675,000.00 10,866,000.00 7,587,000.00 Cost of Goods Sold Other Expenses Operating Investment Income Other Income 2,253,000.00 Other Expenses 25,300,000.00 188,943,000.00 147,716,000.00 Minority Interest 321,000.00 281,000.00 212,000.00 Tax Expense 113,077,000.00 139,676,000.00 121,109,000.00 Other Comprehensive 265,552,000.00 Income 122,669,000.00 111,294,000.00 Net Income 104,997,000.00 112,373,000.00 252,779,000.00 Figure 2: The Standardised Balance Sheet Word count: 2956 words Y/E 30-June, (AUD $) 2018 2019 2020 Cash and Investments 115,841,000.00 137,897,000.00 222,845,000.00 121,019,000.00 118,111,000.00 99,391,000.00 Other Current Assets 47,116,000.00 50,953,000.00 50,908,000.00 Long-Term Tangible Assets 22,100,000.00 17,148,000.00 101,577,000.00 Long-Term Intangible Assets 942,177,000.00 783,087,000.00 650,365,000.00 Deferred Tax Assets 9,539,000.00 13,495,000.00 11,086,000.00 Other Long-Term Assets 464,680,000.00 461,040,000.00 454,351,000.00 Accounts Payable 62,674,000.00 74,479,000.00 78,478,000.00 Short-Term Debt 122,461,000.00 240,083,000.00 76,470,000.00 Other Current Liabilities 120,303,000.00 130,368,000.00 162,828,000.00 Long-Term Debt 309,923,000.00 70,023,000.00 250,682,000.00 Deferred Tax Liabilities 45,940,000.00 47,305,000.00 36,335,000.00 Other Long-Term Liabilities 120,402,000.00 114,038,000.00 121,237,000.00 Minority Interest 506,000.00 459,000.00 376,000.00 Shareholders' Equity 940,769,000.00 905,435,000.00 864,493,000.00 Shares Outstanding 131,715,000.00 131,715,000.00 131,715,000.00 Short-term Accounts Receivable Inventory Other Non-WC Liabilities Current Figure 3: The Standardised Cash Flow Statement 2018 Word count: 2956 words 2019 2020 $000' $000' $000' Receipts from customers (inclusive of 871,225.00 GST) 956,717.00 924,746.00 Payments to suppliers and employees (411,992.00 (inclusive of GST) ) (440,421.00 ) (401,743.00 ) 459,233.00 516,296.00 523,003.00 Interest received 5,365.00 1,782.00 2,785.00 Interest paid (11,927.00) (10,907.00) (7,057.00) Income taxes paid (124,144.00 ) (136,907.00 ) (98,178.00) Share-based payment on settlement of (2,182.00) incentive plans (6,210.00) (1,407.00) Net cash inflow from operating 326,345.00 activities 364,054.00 419,146.00 (Payment)/receipt for the acquisition of (307,804.00 a subsidiary, net of cash acquired ) 3,234.00 (16,519.00) Payment for investment in associates (5,035.00) and joint ventures (9.00) (11,300.00) Payment for plant and equipment (8,417.00) (4,014.00) (10,830.00) Payment for intangible assets (50,847.00) (63,947.00) (62,523.00) Net cash outflow from investing (372,103.00 activities ) (64,736.00) (101,172.00 ) (154,106.00 ) (155,423.00 ) Cash flows from operating activities Cash flows from investing activities Cash flows from financing activities Dividends paid shareholders to Word count: 2956 words Company's (129,070.00 ) Dividends paid to non-controlling (295.00) interests in subsidiaries (328.00) (782.00) Payment for acquisition of treasury (4,198.00) shares (587.00) (344.00) Proceeds from borrowings 70,000.00 - 169,116.00 Repayment of borrowings and leases (134,000.00 ) (122,676.00 ) (246,084.00 ) Net cash outflow from financing (197,563.00 activities ) (277,697.00 ) (233,517.00 ) Net (decrease)/increase in cash and (243,321.00 cash equivalents ) 21,621.00 84,457.00 Cash and cash equivalents at the 358,500.00 beginning of the financial year 115,841.00 137,897.00 Effects of exchange rate changes on 662.00 cash and cash equivalents 435.00 491.00 Cash and cash equivalents at end of 115,841.00 year 137,897.00 222,845.00 Figure 4: Ratio performance REA Group - Ratio Performance 200.0% 0.54 180.0% 0.53 160.0% 0.52 140.0% 120.0% 0.51 100.0% 0.50 80.0% 60.0% 0.49 40.0% 0.48 20.0% – 0.47 2018 Return on Equity Profit Margin Word count: 2956 words 2019 ROA Curre nt ratio Debt-equity ratio 2020 Financial Leverage Operating Asset Turnover Figure 5: A country statistical profile Figure 6: The Gross Domestic Product (GDP) in Australia Figure 7: GDF growth rate Word count: 2956 words Figure 8: The business cycle Figure 9: Word count: 2956 words Figure 10: Word count: 2956 words Figure 11: Terminal value (Excel workbook 2021) Figure 12: Return on Equity (Excel workbook 2021) Figure 13: Forecasting according to share price (Eikon 2021) Figure 14: Share price vs Fair value Word count: 2956 words (Simple Wall St 2) Reference Australian Bureau of Statistics 2021, Labour Force, Australia, Australian Bureau of Statistics viewed 24 May 2021,https://www.abs.gov.au/statistics/labour/employmentand-unemployment/labour-force-australia. CSI Market 2021, Industry Management and Effectiveness, CSI Market, viewed 25 May 2021, https://csimarket.com/Industry/industry_ManagementEffectiveness.php?sp5. Eikon 2020, Recommendation and Targe price, Eikon, Thompson Reuters, viewed 24 May 2021, < https://apac1.apps.cp.thomsonreuters.com/web/Apps/Corp/?app=true&s=REA.AX&st =RIC#/Apps/RecommendationTPApp> Hannah Blackiston, 2020. ‘Net profit falls 13% at REA Group as property listings continue to drop’, 7 February, viewed 28 April 2021. https://cdn.rea-group.com/wpcontent/uploads/2020/10/16094014/AnnualReporttoshareholders.pdf OECD ilibrary, 2021, Country statistical profiles, OECD ilibrary, viewed 20 May 2021, https://www.oecd-ilibrary.org/sites/g2g9e852en/index.html?itemId=/content/component/g2g9e852-en. Palepu, K, Healy, M, Bernard, V, Wright, S, Bradbury, M, Lee, P 2015, Business Analysis & Valuation, 2nd edn, Cengage Learning, Melbourne. https://ebookcentral.proquest.com/lib/unisa/detail.action?docID=6510798 Palepu, K. G., Healy, P. M., Wright, S., Bradbury, M., & Coulton, J. (2020). Business analysis and valuation: using financial statements (3rd Asia-Pacific Edition). Cengage. REA Group 2020, Changing the way the world experiences property, REA, viewed 25 May 2021, Word count: 2956 words REA Group 2021, Corporate Governance Statement, REA Group, viewed 20 May 2021. https://cdn.rea-group.com/wpcontent/uploads/2020/10/16084723/Corporate_Governance_Statement.pdf. REA Group 2021, Future Focus, REA Group, viewed 20 May 2021. https://cdn.rea-group.com/company/about-us/future-focus/. REA Group annual report, 2020. Reserve Bank of Australia 2021, Speeches, 2021,https://www.rba.gov.au/speeches/2021/. RBA, viewed 24 May REA Group, 2021, our growth strategy, REA Group, viewed 21 May 2021. https://cdn.rea-group.com/company/about-us/future-focus/ Rich Harvey, 2021. ‘How interests rates affect the market.’, viewed at 21 May 2021. https://www.propertybuyer.com.au/blog/richs-blog/how-interest-rates-affect-themarket Simply Wall St 2021, Estimating The Intrinsic Value Of REA Group Limited (ASX: REA), Yahoo Finance, viewed 23 May 2021, < https://simplywall.st/stocks/au/media/asx-rea/rea-group-shares#valuation> Statista 2021, Gross domestic product GDP growth rate in Australia, Statista, viewed 24 May 2021,https://www.statista.com/statistics/263602/gross-domestic-product-gdpgrowth-rate-in-australia/. Trading Economic 2021, Australian GDP, Trading Economic, viewed 20 May 2021, Word count: 2956 words A Framework for Business Analysis and Valuation Using Financial Statements Topic 9 – Technical and Equity Security Analysis Discussion - Equity Security Analysis Theories Various Analysis Valuation Approaches Recommendation Processes Participants Equity Security Analysis and Market Efficiency efficient markets hypothesis • security prices reflect all available information • security prices immediately respond to new information financial statements • • if markets are extremely efficient newly announced financial information could be traded advantageously Efficient Market Theory • Strong Form Efficiency – Market prices reflect all information, both public and private • Semi-Strong Form Efficiency – Market prices reflect all publicly available information • Weak Form Efficiency – Market prices reflect all historical information Evidence of Market Efficiency Much empirical evidence supports primary securities markets having a high degree of efficiency. Some evidence includes: Market reactions to public announcements are quick Specific mutual funds or analysts who consistently generate abnormal returns are difficult to identify. Some studies in recent years have re-examined the widespread acceptance of the efficient market hypothesis. Cumulative Abnormal Return (%) Efficient Market Theory 39 Announcement Date 34 29 24 19 14 9 4 -1 -6 -11 -16 Days Relative to annoncement date Random Walk Theory • The movement of share prices from day to day DO NOT reflect any pattern • Statistically speaking, the movement of share prices is random (skewed positive over the long term) Heads = 3% increase Tails = 2.5% decrease Random Walk Theory Coin Toss Game Heads Heads $106.09 $103.00 Tails $100.43 $100.00 Heads Tails $100.43 $97.50 Tails $95.06 Random Walk Theory ASX200 Track? or Random Track? Approaches to Fund Management and Security Analysis Active vs passive management: - Passive: match benchmark performance through holding a portfolio - Active: relies heavily on security analysis. Fundamental vs technical analysis: - Fundamental: evaluates market prices relative to future projections - Technical: predicts stock prices based on market indicators. Formal vs informal valuation: - Formal valuations as per this course - Less formal analyses (e.g. analyst opinions) or intuition The Process of Security Analysis 1) Selection of candidates to analyse: 2) Inferring market expectations: 3) Developing analyst’s expectations: 4) The final product of security analysis: Performance of Security Analysts and Fund Managers Performance of sell-side analysts: - incentives to be overly optimistic with their forecasts and recommendations research indicates that these analysts’ recommendations outperform (market index and risk benchmarks analysts play an important role in market efficiency Performance of fund managers: - actively managed mutual funds unlikely to produce superior returns Forms of technical analysis A Framework for Business Analysis and Valuation Using Financial Statements Topic 9b – Equity Security Analysis (Technical) (cont’d) Fundamental vs Technical Fundamental Technical Fundamental analysis is a method of forecasting the future price based on strength of business and economic factors. Technical analysis is a method of predicting price movements by studying charts of past market action. Fundamental Analysis focuses on: • Demand & Supply • Seasonal cycles • Financial health • Government policies • Long term goals of investors Technical Analysis focuses on: • Price • Volume • Market trends • (Mainly) short goals of investors Topics • MAT • MACD • Convergence / Divergence • Bollinger bands • RSI Price MAT EMA EMA vs MAT MAC-D RSI Bollinger A Framework for Business Analysis and Valuation Topic 10 – Mergers and Acquisitions Context – Mergers and Acquisitions Company X Adds Target value Evaluation Motivations for Merger or Acquisition There are a number of reasons why a firm may choose to merge with or acquire another one, including: • Economies of scale • Improving target management • Combining complimentary resources • Capturing tax benefits • Providing low-cost financing to target • Creating value through restructuring and breakups • Penetrating new markets • Increasing product-market rents • Diversification Sensible Reasons for Mergers Economies of Scale A larger firm may be able to reduce its per unit cost by using excess capacity or spreading fixed costs across more units. Reduces costs $ $ $ Sensible Reasons for Mergers Economies of Vertical Integration – Control over suppliers “may” reduce costs. – Over integration can cause the opposite effect. Pre-integration (less efficient) Post-integration (more efficient) Company S S S S S Company S S S Sensible Reasons for Mergers Combining Complementary Resources Merging may results in each firm filling in the “missing pieces” of their firm with pieces from the other firm. Firm A Firm B Sensible Reasons for Mergers Mergers as a Use for Surplus Funds If your firm is in a mature industry with few, if any, positive NPV projects available, acquisition may be the best use of your funds. Dubious Reasons for Mergers Diversification – Investors should not pay a premium for diversification since they can do it themselves. Dubious Reasons for Mergers The Bootstrap Game Acquiring Firm has high P/E ratio Selling firm has low P/E ratio (due to low number of shares) After merger, acquiring firm has short term EPS rise Long term, acquirer will have slower than normal EPS growth due to share dilution. Acquisition Pricing It is crucial for the analyst to determine the appropriate price to pay for the target firm. Following are the methods used: • • • Analysing premium offered to target shareholders Earnings multiples (topic 7) Discounted abnormal earnings or cash flows (topic 7) Estimating Merger Gains  Questions – Is there an overall economic gain to the merger? – Do the terms of the merger make the company and its shareholders better off? ???? PV(AB) > PV(A) + PV(B) Acquisition Financing and Form of Payment The form of payment is an important financing decision. Capital structure effects If debt financing is used, analysis should be conducted to see if the increase in financial leverage is excessive. Information problems Asymmetric information levels between management and shareholders may cause investors to misinterpret the form of financing. Control and the form of payment Using equity to finance M&A dilutes the ownership and control of the acquiring firm. Takeover Methods Tools Used To Acquire Companies Proxy Contest Tender Offer Acquisition Leveraged Buy-Out Merger Management Buy-Out Acquisition Outcome Another consideration should be whether the transaction will be completed. • Other potential acquirers may offer a higher bid. • Target management become entrenched as they fear losing their jobs. • Antitrust and security issues: Regulators such as the Australian Competition and Consumer Commission (ACCC) assess the effects of an acquisition on the competitive dynamics of the industry.