Running head: MILESTONE 4(SECTION 5)
Milestone 4: Section 5
MILETSONE 4(SECTION 5)
Home Depot is the largest retail home improvement store in the United States. It has
55% of the market cap in the home improvement industry. The company recorded revenue of
$94,595 million in Jan 2017 ("HD Income Statement | Home Depot, Inc. (The) Stock - Yahoo
Investor’s decision about investing in a project is determined by the value of the stock
of the company. The stock price of the company is significantly affected by the overall
market of the economy. In other words, the higher the stock price of the company, the higher
is it’s growth prospects. One of the ways to measure company’s stock valuation is to use the
PE ratio. It is the price to earnings ratio representing the ratio between company’s stock price
and it’s earning per share. A positive issue from the stock market has a positive effect on
company’s PE ratio. For example, during the economic recession of 2008, the PE ratio of
Home Depot decreased. However, when the economy recovered the PE ratio also increased
as shown in the below figure.
Fig 1.Home Depot PE ratio from 2006 to 2017.Retrieved from macrotrends.net
MILETSONE 4(SECTION 5)
The overall market conditions can be represented by the S&P share price which is shown
Fig 2.S&P Share price. Retrieved from finance.google.com
Cost of equity is defined as the rate of return investors require from a stock before
searching for other opportunities.The cost of equity is inversely related to the value of the
stock. Thus, when the share price goes up the cost of equity goes down. For HD, we can say
that higher value of HD’s common stock would result in a decrease in cost of capital in its
WACC.When a company borrows money in a promise to pay back at a future date with
interest, it is called debt financing. A company may use loans, bonds and other forms of debt
which gives the company an idea of overall rate to be paid by the company to use debt
financing. Small business firms only use debt financing for their business activities, whereas
other may use only equity finance if they are funded by equity investors. With the growth of
these small business firm, it is likely that they will use a combination of equity and debt
financing. The cost of debt is normally less than the cost of equity (rs).Cost of debt is equal to
rd (1-T), where T is the tax rate and rd is the borrowing rate.Thus, as long as the company is
not debt-financed, the WACC will be greater than rd(1-T).
WACC is the rate used by the firm to discount cash flows in the net present value
(NPV) calculation at the firm level. They are inversely related to one another. In other words,
MILETSONE 4(SECTION 5)
increase in WACC will cause NPV to decrease, and a decrease in WACC would cause NPV
External factors can significantly affect company’s financial position. When the US
economy expands, it’s GDP increases which represent the value of the economic output of
the country. Increase in GDP will cause an increase in production, and hence more people
would buy HD products causing an increase in net profit or sales. Thus, market expansion
would have a positive impact on company’s performance.
Nominal and real GDP are considered as a financial metric for evaluating company’s
economic growth and development. However, there exists difference between nominal and
real GDP.Real GDP is the GDP made at a constant price, whereas nominal GDP is the GDP
at the current price (Mankiw, 2017). Nominal GDP is the GDP without the effect of inflation,
whereas real GDP is inflation-adjusted GDP.As HD’s CEO, I would prefer real GDP
compared to nominal GDP as real GDP monitor the growth of output in an economy. Real
GDP use the method of constant price to track the total value produced. When GDP is
adjusted for inflation, a lower GDP indicates a decrease in output, whereas nominal GDP
decrease may be due to a decrease in price or output. Thus, I would prefer real GDP to
measure the output of an economy.
The FED can use three tools to either increase or decrease the interest rate to achieve
its monetary policy. These are open market operations, reserve requirement and the discount
rate. Among the three monetary policy tools, FED mostly uses open market operation as it is
flexible. The Federal Open market Committee purchase and sell government securities
through open market operations. Home Depot Inc. will be significantly influenced by
increase in overall interest rates. Lower rates for home financing will boost HD’s sale as
people have to pay less interest to buy HD products.However, if the interest rate is increased,
MILETSONE 4(SECTION 5)
the sale of HD’s products will get reduced as loans for home financing will be offered by the
bank at higher interest rate.
MILETSONE 4(SECTION 5)
HD Income Statement | Home Depot, Inc. (The) Stock - Yahoo Finance.
(2017). Finance.yahoo.com. Retrieved 29 October 2017, from
Home Depot (HD) EPS & PE Ratio History. (2017). Macrotrends.net. Retrieved 28 October
Mankiw, N. (2017). Macroeconomics. New York: Worth Publishers.
500: INDEXSP:.INX historical prices - Google Finance. (2017). Finance.google.com.
Retrieved 29 October 2017, from
Instructions for Milestone #4 (Section 5) & Final Project Submission
The following additional information should be used when you write up your Milestone #4
(Section 5) assignment and your Final Project Submission. The CEO of the company is
convinced that a financial analysis should hinge only on what is happening internally within HD.
Using the Home Depot balance sheet on page 32 and the income statement on page 33, conduct
the following financial analysis by computing the ratios below:
Macroeconomic Items to Cover for Milestone #4 (Section 5):
1. How might a positive issue from the stock market impact the company’s stock valuation
numbers? For example, since the November 2016 election, there has been a considerable
increase in all major stock market indices. Would higher values for HD’s common stock result
in an increase or decrease in cost of equity capital in its WACC as we discussed in class and in
Chapter 9 (i.e., the value of rs in the DCF model for the cost of equity)? In addition, explain how
such a change in the cost of rs might lead the firm to use more or less debt financing in its
WACC? Finally, briefly explain how a change in HD’s WACC would impact (increase or
decrease) the NPV of the capital budgeting project you analyzed in Milestone #3 (Section 4) of
your term project.
2. Suppose the US economy continues to expand as it has most recently. How might this
external event impact HD (in terms of its sales, net income, etc.)? Briefly distinguish between
nominal GDP versus real GDP. As the firm’s CEO, if you were to analyze changes in nominal
GDP versus real GDP data briefly explain which of the two would you argue is most relevant.
Furthermore, it has been widely speculated that the FED will continue to increase interest rates in
the future. Based on our macroeconomics discussions in class on 10/16, what are the three (3)
tools of monetary policy which the FED can use to change interest rates? Which of these three
monetary policy tools is most often used by FED policymakers? How might an increase in
overall market interest rates impact HD? Explain your answer.
For your Final Project Submission and Financial Analysis, Please Cover the Following
1. Determine the current and quick ratios for 2015 and 2014 and briefly comment on the
changes between these two years.
2. Determine days sales outstanding (DSO) for 2015 and 2014 and briefly comment on the
changes between these two years. Note: Here use Net Receivables and Net Sales as well as a
3. Determine the total asset turnover ratios (TATO) for 2015 and 2014 and briefly comment on
the changes between these two years.
4. Determine the Operating Cycle for HD in 2015 and 2014 as well as HD’s Cash Conversion
Cycle in both 2014 and 2015. Based on your CCC for Home Depot, has operating liquidity
increased or decreased over these two years? Briefly explain.
Note: Use Merchandise Inventories from the balance sheet on page 32 and Accounts Payable
from the balance sheet when you determine the turnover ratios and the Operating Cycle for HD.
Similarly, use Net Sales and Cost of Sales (as cost of goods sold) from the income statement on
page 33 when you determine DSO (question #2 above) and payables turnover for HD and then
its Payables Deferral Period.
5. Determine the profit margin (PM) for 2015 and 2014 and briefly comment on the changes
between these two years.
Note: Here use the value of Net Earnings for each of the two years and the values of Net Sales
for the two years as well.
6. Determine the value of return on assets (ROA) for 2015 and 2014 and briefly comment on the
changes between these two years. Once again, rely on the value of Net Earnings (from the
income statement and Total Assets from the balance sheet).
7. Determine the value of return on equity (ROE) for 2015 and 2014 and briefly comment on the
changes between these two years. In your calculation of ROE, once again rely on the value of
Net Earnings (from the income statement) and Total Stockholders’ Equity (in the next-to-last
line of the balance sheet on page 32 of the 10-K report).
Purchase answer to see full