Estimate Stock Returns Project

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km0320

Business Finance

Description

At least 7 pages.

A2: Estimate Stock Returns:Students will select 2 companies in different industries and will estimate the relative valuation and the expected return for the companies through the use of the Capital Asset Pricing Model.

Estimating Stock Returns

Project Outline and Tasks:

Select two companies in two different industries and do the following:

Provide background information on the company and describe the industry in which the company operates in and its main products.

Determine key macroeconomic factors impacting each firm.

List and describe the major competitors to the selected company. Evaluate each firm using Porter’s 5 determinants of competition.

Compute and interpret the financial ratios described below for a five-year period.Look at the trend in the ratios to determine if they are deteriorating or improving and compare them against peers or the industry:

  • Current and quick ratios and net working capital
  • Inventory turnover, fixed assets turnover and total assets turnover
  • Debt ratio and TIE.
  • Gross profit margin and net profit margin and operating margin
  • ROE and ROA
  • Price/ Earnings and Market/Book
  • Du Pont Analysis

Find beta, R squared, alpha and the residual standard deviation for each firm using Excel. Interpret the results and recommend which firm should be added to a well diversified portfolio.Use 60 months of return data for the calculations.

Find the correlation between the two stocks and interpret.

Estimate the required return for each stock (SML).

Estimate the sustainable growth rate (g) for each stock. Find it for 3 years and take an average.

Estimate the 5 and 10-year historic growth rate in earnings. Compare to sustainable growth method.

Estimate the intrinsic value (price) of the two stocks using the 1) dividend discount model (DDM) approach and the 2) P/E multiplier approach.Make a buy or sell recommendation.

Evaluate stock using value criteria of dividend yield and price to book.

Use the Black-Scholes model to find the value of a call option and the value of a put option for each stock

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Explanation & Answer

almost done
Attached.

Running Head: Estimation of stock returns

1

Company Analysis
Facebook Inc. and PepsiCo. Inc.
Name
Instructor
Institutional Affiliation
Date

Facebook and PepsiCo Company Analysis

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Facebook Inc. background information
Facebook is a multinational most extensive online social network that has over 2 billion
monthly active users. The platform allows its members in social engagements such as message
exchanges, news sharing, events sharing, photo sharing as well as video sharing making the
world a global village. The entire ecosystem of Facebook comprises of the Facebook app,
Instagram Messenger, WhatsApp, and many other features that surround the products. The
Facebook application may be accessed on mobile devices as well as via desktop or any other
computer-like gadget. What makes money for Facebook is the advertising platform it offers
accounting for over 90% of Facebook’s total revenue.
Macroeconomic factors affecting Facebook
The Facebook company has tremendous opportunities to innovate and introduce to the
market new products across the world. However, it is only made possible by improving legal
protection in patent laws. Also, the firm would significantly benefit from the ever-increasing
coverage of free Wi-Fi thus enabling it to expand its social media access worldwide. Facebook’s
ban in China denies its market penetration into the world is biggest population area (Burke, &
Thurik, 2010). However, the company still may negotiate with Chinese government through
adjusting its services to gain access to China’s online social networking market.
Economic conditions define Facebook’s growth trajectory. Some of the economic factors
affecting Facebook are the increasing stability of the developing countries, witnessed by the
rapid economic growth as well as the increasing disposable incomes. Therefore, the company
may significantly increase market penetration to generate more revenues (Burke, & Thurik,
2010). It may so happen due to infrastructural improvements including the telecommunications

Facebook and PepsiCo Company Analysis

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infrastructure that would support the expansion of Facebook access. Users are also able to
purchase computing devices due to the increasing disposable incomes. Indeed, the world
economic factors support Facebook’s generic as well as intensive growth strategies to global
operations.
Porter’s five forces analysis-Competition forces
Despite the company’s leading position in the social media market, it experiences
significant competition or rivalry from online companies to mention YouTube LLC (Google’s
subsidiary) that offers online advertising services. The competitive environment is facilitated
mostly by the low switching costs, which is a strong force in the social media marketplace. The
low switching costs are brought about by the little difficulty when transferring from one
particular provider to another provider (Burke, & Thurik, 2010). Based on the competitive
rivalry, Facebook Inc. puts it in its strategic formulation to ensure it guards its advertising
revenue sources on the advertisements.
Customers’ bargaining power
Facebook customers dictate on what they want from its social networking website and the
related services. The reason that makes buyers’ bargaining power strong is that of high
substitute availability, low switching costs despite there being a high demand by its buyers. Since
revenues from advertisement account for 90% of its revenues, it is dangerous where the
advertiser may quickly switch to competitors due to options to use substitutes such as advertising
on the television, radio as well as print media that may easily reach targeted audiences. It is
imperative for the company to prioritize its customers if it is to maintain the competitive
advantage (Burke, & Thurik, 2010).

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Facebook and PepsiCo Company Analysis
Suppliers’ power

Facebook suppliers influence its social networking website when it comes to displaying
advertising services. The company’s supply needs include servers as well as related computing
and network technology/equipment and other office supplies. However, due to the widespread
availability of such supplies as equipment and materials the company may need, it minimizes the
influence of individual suppliers on the company. Therefore, suppliers force is weak thus a
minimal issue in the company’s online advertising industry environment.
The threat of Substitutes
The threat of substitutes may potentially reduce Facebook’s business performance thus
creating challenges in its social media industry environment (Burke, & Thurik, 2010). Notable
external factors leading to the strong force on substitute threat includes the low switching costs
as well as the high substitute availability despite there being moderate costs of the substitutes.
For instance, it is easy for the advertisers to pay available substitutes such as television and the
print advertising. The only strength Facebook may get consolation from the readily available
substitutes such as television and print media is its relatively high costs compared to Facebook’s
charges.
The threat of New Entrants
The Facebook company faces negative effects of a possible new entrant in its business
environment. Even though new entrant may exert strong force against Facebook due to low
switching costs leading to advertisers moving from a service provider to the next, developing
favorite and reliable brand similar to Facebook is difficult thus weakening possible threat of new
entry that would be against Facebook.

Facebook and PepsiCo Company Analysis

5

Generally, based on the Five Forces Analysis, the Facebook company retains industry
leadership. However, the company should not sit pretty without strategizing on how to maintain
its leadership but instead should continually protect its market share by maintaining strategies
that would satisfy its users/customers on its social networking website as well as the mobile
apps. Facebook should also implement policies that would keep display advertising services
attractive as compared to its substitutes. Such moves would minimize the negative substitutional
influence on the company’s industry environment.
PepsiCo Inc. background information
Pepsi Cola started in 1893 in North Carolina. The name is derived from the ingredients
making its products-pepsin enzyme and kola nuts used in its recipe. In the modern-day world,
Pepsi Cola is manufactured by PepsiCo, making it a world leader in convenient snacks, foods,
and beverages. The company is position two in soft drinks, immediately after Coca-Cola,
position one in meals as well as position one again in juices. On average, the company makes
about 440 billion revenues a year, beverages accounting for less than 50% of its revenues.
PepsiCo’s global success is linked to its business capabilities, especially in overcoming
the challenges shown in this Five Forces analysis. Michael Porter developed the Five Forces
analysis model to determine the most significant external factors that influence firms. For
PepsiCo to maintain its market position as the second most significant food-and-beverage
company in the world, it must address the potential problems identified in this Five Forces
analysis. PepsiCo also needs to continually adjust its strategies to efficiently respond to the
external factors significant in the food and beverage industry environment.

Facebook and PepsiCo Company Analysis

6

Macroeconomic factors affecting Facebook
The company and other industry players are subjected to legal requirements that bind
their operations. Such conditions, as well as regulations, include the law on the Genetically
Modified Organisms (GMO) and the health and product safety regulations. At the moment,
GMOs are increasingly regulated worldwide more so in Europe. PepsiCo should reduce the use
of GMO ingredients to satisfy the rules (Roy,2011). The company should also improve product
safety and its health effects to enable it to comply with existing laws.
Performance of any company is directly linked to the economy, and PepsiCo is no
exception. The economic stability of its major markets such as the United States as well as
increasing growth of the developing economies present opportunities for the company’s growth
and expansion (Roy,2011). Also, significant economies are politically stable thus allowing the
company to expand its territories thus increasing its market share. Intergovernmental cooperation
dramatically improves global developments for multinationals such as PepsiCo. However, it is
noted that government initiatives against sweetened carbonated drinks threaten PepsiCo’s
revenues from the affected segments (Roy,2011). PepsiCo should, therefore, consider changing
its product portfolio to overcome the possible ban ...


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