Clients Are the Most Treasured Assets - Essay Example

TOPIC: CORPORATE FINANCE (a) Introduction: Our are the most treasured assets we have, a such we treat them with utmost care and maximum attention in given to them for the purpose of transparency, progress and the most of which is –satisfaction of our clients. This is most serious because they are our future and we owe them satisfaction with perfection. As you are aware we use fundamental analysis and valuation methods to select equities for you as a guide for portfolio investments. It is in this light that our bank has deem it fit to present to you a fundamental analysis and the valuation of one of the FSTE 100 Companies, which is the “British Airways”. This analysis will include; A fundamental analysis and valuation of the British Airways using the free cash flow method. And a recommendation will follow suit. Valuation methods will be attended for the purpose of selecting equities for portfolio investments. Valuation methods though are used for proper valuation however, they do not fit all in one place some methods are used for specific companies, as we have inherent differences within firms, companies, industries, outlets etc. and method falls with each member. Some may take more than one, however, about tour valuation methods are to be used. Liquidation value method, which opens up a company and shows the rate of the value of the business or the liquidation value of the business. Replacement value method suggests the replacement strength of the business and throws out suggestive questions as to what will be the position of the company should a disaster occur. Price earnings multiple valuates the price of companies shares, common stock in the public markets etc. it aims at determining the price – earnings ratio. Dividend capitalization goes in to baring out the real truth of a company, its history and ways of behaviour, e.g. Paying of dividends, expansion plans, paying history of business, operation cushion. It opens the investors eyes to see the risks of investment and take caution. Discussions concerning real option analysis in strategic investment decisions will be adequately attended to stressing and bringing out the use of real option analysis in strategic investment decisions. However in attempt to give a fundamental analysis of the British Airways, the examination of the subject will refer to it’s earnings, each flow, equity value and sales and other accounting statements of the airways will be critically analyzed and discussed. The financial record of the British Airways over the years has been quite interesting because for the past three years, its net profit has been appreciating steadily. Since the year 2003 the British Airways have seconded success at the recorded of every year. Below is a table showing the progress of the British Airways since 2003-2005. Year Ended Turn Over (EM) Profit/loss before Tax Net profit/Loss (EM) 2005 7,813 415 251 2004 7,560 230 130 2003 7,688 135 12 It is interesting and important to note the difference in the profit margin this clearly shows and suggests that some new policies or new managerial skills have been employed to rightly enhance such as steady progress without any break for 3 consecutive years. This is undoubtedly true, reference to the table below. Year Turn Over (Em) Profit /Loss before Tax (EM) Net profit/Loss (EM) 2002 8,340 -200 -142 2001 9,278 150 114 2000 8,940 5 -12 It represents the financial progress of the British Airways within 3 years, from 2000 to 2002. It is clear that at a point something was wrong to have prompted the year 2000 lost and the following year a gain which was short timed following the terrific loss which came in the year 2002, certainly instability was hanging around causing havoc principally caused by forces of management, finance and economy etc. Important to note is the fact that in the history of the British Airways since 1996 has not recorded steady progress for three good years in a roll, until now. The table below explains the fact that since 1996 it is only between 2003 and 2005 that the Airways has recorded such a revealing progress, which must have a history. Year Ended Turn Over (EM) Profit/loss before Tax Net profit/Loss (EM) 2005 7,813 415 251 2004 7,560 230 130 2003 7,688 135 12 The liquidation value of the British Airways when placed under scrutiny, which is predominantly for the use of value of assets for liquidation which is often less than market and sometimes book. It reveals the strength of a company even if it decides from one reason or the other to told what will happen. To determine the liquidation value of a company, liabilities are deducted from the liquidation value of the assets to determine the liquidation value of the business. The liquidation value of the British Airways can now be determined by subtracting liabilities from liquidation value of assets. Liabilities = profit/loss before tax – net profits/loss Liabilities = E 415 million – E 251 million Liabilities = E 164 million Thus, liquidation = E 164 million subtracted from E 7813 Now, liquidation value f the British Airways is E 7,653 million . The replacement value of a business is derived by deducting liabilities from the replacement value of assets to determine the replacement value of business. British Airways has the following replacement value of business (VOB) VOB = Replacement value of asset – liability VOB = E 251 million - E 164 million VOB = E 87 million. Replacement value of business is an essential assets of business valuation which serves as a risk management techniques which actually points out the liking holler inside a business which has to be detected for confidence while investing or for the purpose of escaping future failure. One of the most fundamental reasons for investment is he dividends and now what becomes of an investor when the dividends are not been paid by the company. For this reason, it is always safer and wiser to adopt the dividend capitalizing method for valuating an investment company. The dividend paying capacity of the company will be determined. This ideology extends to the expansion plan of company past dividend paying history, operation cushion, dept repayment, near term capital needs. Among this factors are those considered in determining the dividend payment capability of a company, however, a companies financial records are important as well. For example, to analyze the payment of dividends capabilities of British Airways, one must check and confirm the percent of average net income and of average cash flow that certainly can be used for the payments of the dividends considering all the above mentioned techniques for predicting the behaviour of a company in important. It is also a risk escaping pattern which the British Airways considerable and most consistently work to achieve. Its net income and value per share and everything is not in bad shape. The non financial record of the British Airways should have a good if not a better say this analysis, based on the fact that the financial records has clearly showed that the problem of the Airways is not necessarily finance, hence, the lesser the Turn-over the greater the profit margin, as shown above. Estimating the growth of the Airways both financially and non-financially it is recording success as regards the growth more Aircrafts are now on line and of course British Airways dominate terminals and faintly becoming, rather have become a big name among the family. The growth of the Airways is being reflected in the profit. Considering the demographic changes the British Airways has succeeded in recently grounding and buying new Aircrafts, as it is a tradition, however, the number of Aircraft both last year said it all. The greatest number of Aircrafts both in replacement and improvement so far. Grounded Aircrafts a returned to the factory for recycling and assembling for the purpose of safety and quality service. Economically, the British Government is terribly helping matters. Its policies are positively affecting the well being of the Airways, the expansion of trade unions worldwide has really affected the growth of the Airways by provision of more patronage. Also the international and scholarly relationships with other nations has widened the size of contact for the Airways to operate. Now almost worldwide including African Countries has widened the operational reach of the Airways, providing more customers. The Airways has also incorporated new regulations, which has affected the Airways. “In September 2005 new CEO Willie Walsh announced changes to the management of the British Airways, with the aim of saving E300 million by 2008, the cost of the move to Heathrow’s Terminal 15”. (Morris Anev:7). This move is a development showing the expansionary trend of the British Airways, to spread its tentacles to be able to grab as many as possible and serve as many as possible. The expansion of the Airways by 2008 shows or suggests a greater profit margin. Recently the British Airways recruited new Airhostess’ and trained them as an aim for improving their services and since no old Airhostess’ were laid off, it suggests an attempt for expansion. Over 600 BA flights were grounded on 11 August 2005 – 12 August 2005 when baggage handlers, loaders, and cargo staff went on strike in support of laid off catering workers. In attempting to compare the British Airways with other Airways, it is easy to see the clear competence of the British airways in all ramifications. In terms of timing, accuracy, comfort, service etc unlike, most Airways in Africa which are but an apology except a selected few which can boast of competence but cannot be likened that of the British Airways considering its uniqueness. The industrial high quality technical support team is normally constituted of qualified and experts which work round the clock to ensure that nothing unusual happens. The British Airways has made considerable progress lately, its profit increasing by the day. However, in most cases companies make money and at the end of the day take home nothing this is reasonable because what the company has after paying its bills for on going activities and growth is at times in deficit. When this happens it becomes clear that a company’s equity is an endangered specie, such does not encourage any form of investment or patronage. To calculate the free cash flow (FCF) of a company you subtract the cash flow from operation also known as operating cash from the expenditure required for current operations. The equity of the British Airways as recorded by the Airways is valuable and promising going by the presentation below showing the cash flow of the Airways, its capital expenditure and the free cash flow of the Airways from 1996 – 2005. Year Operating cash (EM) Capital Expenditure (E) Free cash flow (E) 1996 415 23 392 1997 230 12 218 1998 135 6 129 1999 -200 -13 -213 2000 150 10.5 140.5 2001 5 -2 3 2002 225 19 206 2003 580 44 536 2004 640 55 553 2005 585 49 536 A Company’s earnings seriously tell a lot about the company, it is a clear and distinctive fact that company’s earnings will also determine its success or failure. The earnings of a company can either keep the company moving or ground the company based on the fact that a company’s earning can be paid out as dividends to it’s stockholders or it could be kept as retained earnings within the company to sustain development or growth. Furthermore, the payment ration when recommendable and consistent calls for more patronage and the referential ratio (proportion of earnings retained for investment) makes the company attractive and recommendable too. The British Airways’ situation is quite interesting. It is estimated that its dividend per share as at 2003 was E4 and it’s earnings per share =E10, its payment ratio should be E4/E10 = 40, or 40 percent and then the retention ratio is 1 – 40 = 60, or 60 percent - which is basically retained for investment, signifies a sound laid foundation for the following year which is 2004, of course, as shown earlier it’s earnings have increased consistently since 2003. An increase in retained earnings says a lot about the sustainable growth of a company. A standard example of a company, which can be said to have recorded a consistent growth state, is the British Airways. To calculate the sustainable growth rate of the company involves using its earnings to estimate = g. Referring to the former example its payout ratio in 2003 was 40 percent; its retention ratio was 1-40 = 60 percent. Thus a firm’s sustainable growth rate is equal to its return on equity (ROE) times its retention ratio2. Sustainable growth rate = ROEX retention rate = ROE + 1 – payout ratio In 2002 British airways had a ROE of =6.4 percent it’s earnings per share was E 10, dividend per share of E 4, its retention ratio was 1 – 40 = 60 percent. Thus its sustainable growth rate was 40 + 6.4 percent = The above valuation of British Airways denotes the sustainable growth rate of the company which is a statement referring to the last two years and a projected summary of the coming 2 to 5 years as it is usually the case with financial companies. The price cash flow of British Airways could be measured, just like any other company under analysis basically for the purpose of obtaining annual cash flow which could be gotten from. The quarterly cash flow’s as regards the annual cash flow. It could be obtained from the quality cash flow of a company like British Airways. This could be done by simply multiplying the last quarterly earnings by four. So for example, if British Airway quarterly earning was E 5 million then its annual earnings will be E 20 million. In a more simplified term a company could be valuated by the cost of its shares which technically can be expanciated thus; The most important, most considered and of course most popular price ratio used as a stool or as a foundation to the assessment of the values of a common stock is a companies price – earnings ratio which is usually abbreviated as P/E ratio. In a more detailed presentation a price – earnings ratio is calculated as the ratio of a firms current stock price divided by its annual earnings per share (Eps). Concurrently, the inverse of a price – earning is called an earnings yield. And is measured as earnings per share divided by a current stock price (E/P). Intimately price – earnings and earnings yield are two ways of measuring the same thing. Therefore, the price earnings per shore of British Airways can be seen bellow. As of 2005 its Eps war estimated = current stock price/annual earnings = 60/251million. From the record above it is quite clear to predict the future and the choice to have faith in the company or not which rests on the shoulder of the client. Based on the fact that though the company has some little set backs in some years it bounced back with a spontaneous recovery of the past few instance of failure recorded. RECOMMENDATIONS Going by our policies of ensuring that our clients receive the best treatment and the best advices nation wide. I wish to recommend that our distinguished clients look forward and study the conditions recommended for the acquisition of equity in the British Airways and see if she/he agrees with the terms and conditions. Any difficulty or misunderstanding of any thing concerning the acquisition of equity should be reported for proper deliberation upon the issue. Our clients who are satisfied with the conditions should be careful and observe the undertakings of the Airways, which are secret, if any and possibly wait until a turn over, to be received or to incorporate you in the curcus meeting. The different valuation methods applied have different approaches with the same end which is of proper and secure investment. It is crystal clear the fact that in the British Airways there always seen to be a bigger future ahead since, they grow day by day It is also on the ground of discounted earnings that the Airway is again recommended for investment. The earnings per share are quite laudable and the net valuation is also good generally the entire business value and perhaps, its economic value are both recommendable. Without missing words the Airways has an income chamber, which is a necessity of course, people must travel its quite safe. It is not always about selling of shares, it is also paying the dividends. They, from history usually pay the dividends required and the estimation of the percentage of net income and the average of cash flow which are both intact British Airways has a policy of not only paying dividends but always them on time not payment by credit. And the management is recommendable. An interested client should source for funds following the proper procedure to get for his/her business transactions. For it is only proper to do things the right way so as to avoid setbacks. Clients who are successful into getting off this fund should meet the authorities of our bank to stand as their shortees as regarding the investments. Having said that, it is important to note the fact that British Airways has a solid foundation as regards finance going by records, their estimated growth is wonderful, a lot of demographic changes have taken place and are still taking place. The economic changes of Britain are supporting the Airways, not forgetting their new regulations, which are doing more good to the development of the Airways. On the whole, I want to formerly recommend the British Airways as one of the greatest place available for investment, please, don’t waste your hard earned money on unrecognized companies. Always wait and hear from us or you can always consult for advice for proper advice and implementation. (B) Real options analysis support financial decision making however, in this respect extra care should be given while using it. Real options analysis can be evaluated using a variety of technique, which may be difficult but at the end bring out the main uses of real option analysis, which are most fundamental in attempting to explore real option. Strategic thinking, risk management, strategic investment, decision making and of course analysis of valuation are among the fundamental uses of real options analysis in any strategic investment for security. It is important to note and explore the importance and use of real options analysis in strategic thinking. Real options analysis inform and compose for strategic thinking, for improvement. In cases of difficulty in implementation of policies, the real options technique which include formula like the black scholer’s equation could be rightly used for strategic thinking which undoubtedly, would enhance improvement. For example; A company which is itching to develop a new financial policy, which could possibly ease the demand of the people for prompt payments of wages. Real options values could be developed on a probabilistic basis for easy understanding. Therefore, a real option analysis model can be developed which will identify real options for analysis and an applicable valuation model will be constructed to facilitate prompt payments of wages the process could possibly involve a joint ROA-decision tree model, if significant. This will at the end evolve a strategic compromise through the strategic thinking of real options. The process of identification and evaluation of key financial drivers and uncertainties through real options is another important use of real options analysis in strategic investment decisions. An investment company might want to identify and evaluate certain circumstances in a given situation and might need a real options analysis to affirm its confidence in the project. In attempt to use real options analysis. The significance of the project will be put to test and the correlated uncertainties perform, a simulation on discounted cash flow (DCF) model. If necessary the assess volatility of protects returns will be examined for proper decisions as to enroll or not. Risk management framework is an active role which real options analysis play to determine or produce reason for or against a position which an investment company is not sure about and wishes to manage their risks. For example, a firm is investigating an expansion of its present manufacturing operations via the purchase of two new machines. A static capital budgeting analysis is undertaken and the Net Profit value is negative. Is this the final decision? Is there any hidden, flexibility?… This problem brings with it uncertainties because nobody knows if this plan is valuable or not. Evaluating the above problem for risk management using binomial tree. Project PV analysis: purchase 1 machine ($x1000) Year 0 1 2 3 4 5 Project FCF $220 $300 $300 $400 $150 Investment $(1000) Discount rate 0.12 P.V $(1,000) $ 196 $239 $285 $127 $85 P.V of project FCF $(932.52) NPV of project $(67.48) Project returns is 40% The above example, shows that there is value in having the right, but not the obligation to purchase an additional machine in one year at a current price. The real options analysis in the investment decision above covered the following: 1. Is the NPV marginal and Vitality high with short project life or vitality moderate with long life. 2. Is new information on major project uncertainties likely to be observable over time. 3. Are there opportunities to create or utilize flexibility through active management through project life. An analyst who analysis investment decisions in the course of analyzing, will definitely use real options analysis in his own analysis this brings to light the use and importance of real options analysis in strategic investment decisions. For example, a company who wishes to know the value of its equity and recruits an analyst and specifically asks the analyst to use the real options analysis approach in investigating and determining the value of equity. The analyst will definitely use one of the methods or approaches of real options analysis to do his job effectively. Real options analysis in use for investigations and strategic decisions of great significance with at least moderate uncertainty seldom serve as the best option from the dilemma for it provides adequate information for decision making especially from the analysis to the client. In strategic investment decision, the use of real options could be seen as it reduces tension, encourages confidence and brings about significant change in the light of development for the investors. In any case, any company, which involves in the act of acquiring security through the use of real options analysis, will definitely imbibe the confidence of an investment, which will sooner or later bring the desired change, and such a significant change, which will be positive, will be evident mist the company or investors. In conclusion, real options analysis give investors the basic and natural ways of analysis or rather valuation of strategic investment decisions which under normal circumstances one would not stand up under his own influence and valuate with confidence imposed by real options analysis. Real options analysis though difficult still remain the most valuable and effective way of strategic investment decisions which are aimed to bring about positive changes and that is exactly what real options analysis does. REFERENCE: 1. Morris Anev: Management and prospects Read More