Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report FIN 640: Investment Analysis & Portfolio Management Final Project: XYZ Tech Company: Investment Analysis Report By: Kelly A. Giambra Southern New Hampshire University Module 9: July 1, 2018 1 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Introduction: As a new investment manager of XYZ Tech Company, the CEO has requested an investment analysis report. Using the provided information and investment parameters, as well as financial database research, a report was prepared on the companies: Apple (AAPL), Caterpillar (CAT), Consolidated Edison (ED), Northern Trust (NTRS), and Macy’s (M), all which are the companies that XYZ would like to invest in. The analysis includes compiled data spreadsheets, a complete portfolio, and a justification of investment strategies for these investments. I. Company Description and Market Analysis: Apple, Inc. (AAPL) Industry: Technology Hardware, Storage & Peripherals Apple, Inc. (AAPL) is the world’s largest consumer electronics and personal computer business with headquarters in Cupertino, California (CA). The Company, headed by Steve Jobs, Steve Wozniak, and Ronald Wayne first began in the late 1970’s by selling hand-made personal computer kits, but in recent years shifted focus to consumer electronics such as the iPhone, iPad, and iPod (NASDAQ, 2018). AAPL has consistently developed new hardware, software, systems, and services to provide its customers with the best possible user experiences. The Company invests significantly in marketing and advertising which they believe are essential in the sale of its products. AAPL has retail store locations around the world with five reportable operating segments of the Americas, Europe, Japan, Asia-Pacific, and Retail (NASDAQ, 2018). However, the Company still faces a number of risks such as changing global economy, changes in consumer demand, global competition, and supply chain disruptions (NASDAQ, 2018). Caterpillar, Inc. (CAT) Industry: Machinery 2 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Caterpillar, Inc. (CAT) is a Delaware formed corporation with 2017 sales and revenues totaling over 45.46 billion, and is the world’s leading manufacturer of construction and mining equipment, diesel fuel and natural gas engines, gas turbines and diesel-electric locomotives (NASDAQ, 2018). The Company mainly operates within three segments of constructio n industries, resource industries, and energy and transportation (NASDAQ, 2018). CAT also provides financial and other related services through their financial products segment (NASDAQ, 2018). Consolidated Edison, Inc. (ED) Industry: Multi-Utilities & Regulated Electric Consolidated Edison, Inc. or Con-Ed (ED) is a holding company that was incorporated in New York State (NYS) in 1997 and owns all of the outstanding shares of common stock of Consolidated Edison Company of New York, Inc. (CECONY), Orange and Rockland Utilities, Inc. (O&R), Con Edison Clean Energy Businesses, Inc., and Con Edison Transmission, Inc. (NASDAQ, 2018). Con Edison’s primary business activities consist mainly regulated electric, gas and steam delivery, as well as O&R’s operations of regulated electric and gas delivery businesses (NASDAQ, 2018). The Clean Energy businesses operations consist of renewable and energy infrastructure projects and provide energy related products and services to customers (NASDAQ, 2018). Northern Trust Corporation (NTRS) Industry: Capital Markets Northern Trust Corporation (NTRS) is a financial services company that was first formed as a holding company in 1971, and provides asset servicing, fund administration, asset management, fiduciary and banking solutions for corporations, institutions, families, and 3 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report individual consumers worldwide (NASDAQ, 2018). The Company conducts businesses through several subsidiaries including The Northern Trust Bank and has offices throughout Canada, Europe, the Middle East, and the Asian-Pacific (NASDAQ, 2018). As of December 31, 2017, Northern Trust had total assets of 138.6 billion and stockholder’s equity of 10.2 billion NASDAQ. (2018). The Bank is the corporation’s primary subsidiary headquartered in Chicago and was founded in 1889 (NASDAQ, 2018). Macy’s Inc. (M) Industry: Multi-line Retail Macy’s, Inc. (M) is a Delaware formed corporation since 1985 and had been in the department store business since 1830 (NASDAQ, 2018). The Company operates about 850 retail stores in 44 states, the District of Columbia (DC), Guam, and Puerto Rico (NASDAQ, 2018). As of February 2018, Macy’s operations were conducted through Macy’s, Bloomingdale’s, Bloomingdale’s Outlet, Macy’s Backstage, Blue mercury, and Macy’s China (NASDAQ, 2018). The Company also has global operations through Bloomingdale’s in Dubai, United Arab Emirates, Al Zahra, and Kuwait (NASDAQ, 2018). Macy’s sells a wide range of merchandise such as clothing, accessories, cosmetics, home décor and furniture, and other consumer goods (NASDAQ, 2018). A. Financial Markets Ai. Five-Year Performance Of The Domestic Economy Relative To The Financial Markets According to The Congressional Budget Office (CBO), it is projected that for the periods of 2018 to 2028, the domestic economy (U.S.) will follow a cyclical path with economic growth expecting to rise especially in 2018 (CBO, 2018). This will be followed by a slow down a few years afterward, then finally rise to match the maximum sustainable growth outcomes during the final years of the projection. According to the CBO, demand is expected to exceed supply which 4 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report will push up inflation and interest rates as well as a possible decline in employment rates (CBO, 2018). The growth of real GDP is expected to be relatively strong this year which will moderate in future years. In the CBO’s economic projections, real GDP will expand by 3.3 percent in 2018 and by 2.4 percent in 2019 mostly driven by consumer spending, business investments, and federal spending (CBO, 2018). It is expected that the 2017 tax act on incentives to work, save and invest will raise GDP from the periods of 2018 to 2028. In addition, it is likely that there will be an increase in wage and inflation rates leading to the Federal Reserve (The Fed) raising rates to about 2 percent by the end of 2018. During 2018 and beyond, investment outlook will be one of both higher risks and lower returns. As a result, the market outlook will require the need for investors to remain disciplined and globally diversified with more realistic expectations of returns as well as lower-cost strategies (CBO, 2018): Source: CBO's April 2018 report The Budget and Economic Outlook: 2016 to 2022 2016 2017 2018 2019 2020 GDP Gross Domestic Product (GDP) In Billions Percentage change, annual rate Real GDP In Billions Percentage change, annual rate Labor Unemployment Rate,Age 16+ % Labor Force Age 16+ (Millions) Percentage change, annual rate Interest Rates % 10-Year Treasury Note 3-Month Treasury Bill Federal Funds Rate Income, Personal Billions of dollars Compensation of Employees, % of GDP Billions of dollars Wages and Salaries % of GDP 2021 18625 2.8 19387 4.1 20362 5.0 21369 4.9 22247 4.1 23079 3.7 16716 1.5 17093 2.3 17613 3.0 18118 2.9 18472 2.0 18754 1.5 4.9 159 1.3 4.4 160 0.7 3.8 162 0.8 3.3 163 0.9 3.6 165 0.9 4.1 166 0.7 1.8 0.3 0.4 2.3 0.9 1.0 3.0 1.9 1.9 3.7 2.9 3.1 4.1 3.6 3.8 4.2 3.8 4.0 15929 85.5 9979 53.6 8085 16417 84.7 10295 53.1 8340 17284 84.9 10828 53.2 8795 18327 85.8 11432 53.5 9304 19304 86.8 11985 53.9 9759 20206 87.6 12484 54.1 10160 5 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Currently the three largest U.S. financial markets indices include the Dow Jones Industria l Average (DJIA), the S&P 500, and the NASDAQ, which are utilized for benchmarking to tell how the market is performing. As of May 17, 2018, the Dow is currently 24,820 points, up 49.56 points or 20 percent (Google Finance, 2018). The DJIA consists of 30 large-cap blue-chip companies which include Apple and Caterpillar as a part of the group. The NASDAQ is the market capweighted index of over 3,300 common equities listed on the NASDAQ stock exchange which includes all NASDAQ listed stocks that are not derivatives, preferred shares, funds, exchangetraded funds (ETFs) or debentures. As of May 17, 2018 the NASDAQ is currently at 7414.50 points, up 13 points or 17 percent (Google Finance, 2018). The S&P 500 is the third major index of 505 stocks issued by 500 of the largest companies with market caps of about 6.1 billion and a leading indicator of U.S. equities, and a market value weighted index and most common benchmark for the U.S. stock market. As of May 17, 2018 the S&P was at 2724.92 points, up 2.50 points or .098 percent (Google Finance, 2018). Top 3 U.S. Financial Indices December 1, 2013 to May 17, 2018 30,000.00 25,000.00 20,000.00 15,000.00 10,000.00 5,000.00 0.00 12/1/2013 Close Close Close S&P 500 Dow Jones Nasdaq 12/1/2014 12/1/2015 12/1/2016 12/1/2017 5/17/2018 6 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Aii. Five Year Sector Market Performance, Industry Performance And Current Trends Apple (AAPL) Sector Market Performance: 3/1/2018 12/1/2017 9/1/2017 6/1/2017 3/1/2017 12/1/2016 9/1/2016 6/1/2016 3/1/2016 12/1/2015 9/1/2015 6/1/2015 3/1/2015 12/1/2014 9/1/2014 6/1/2014 3/1/2014 200.00 180.00 160.00 140.00 120.00 100.00 80.00 60.00 40.00 20.00 0.00 12/1/2013 Price Apple, Inc. Stock Prices (AAPL) December 1, 2013 to May 17, 2018 Date AAPL is traded on the NASDAQ and stock prices as of May 17, 2018 were currently at $187.98 per share and down by 11 percent, which is likely to cause investors a loss (Google Finance, 2018). APPL is also expected to lose market share in China due to lack of demand for iPhones thus gross margins and operating margins are at risk in this Country in the short run (Delventhal, 2018). APPL has recently experienced decelerated sales growth in China despite significant gains from 2013 to 2018 trending upward in the U.S. (Delventhal, 2018). However, on the longer-term, the firm indicates growth due to the App Store and Apple Music and these segments are likely to increase P/E (Delventhal, 2018). Other risks to the Company include the global trade war and imposed tariffs of 100 billion on Chinese imports may negatively impact APPL since many of their products are assembled there (Delventhal, 2018). Caterpillar (CAT) Sector-Market Performance: 7 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report 3/1/2018 12/1/2017 9/1/2017 6/1/2017 3/1/2017 12/1/2016 9/1/2016 6/1/2016 3/1/2016 12/1/2015 9/1/2015 6/1/2015 3/1/2015 12/1/2014 9/1/2014 6/1/2014 3/1/2014 180.00 160.00 140.00 120.00 100.00 80.00 60.00 40.00 20.00 0.00 12/1/2013 Price Caterpillar, Inc. (CAT) Stock Prices December 1, 2013 to May 17, 2018 Date Caterpillar’s (CAT) stock price as of May 17, 2018 was 154.47 up by 44 percent (Google Finance, 2018). Revenues have gradually increased from 2016 to 2017 from 38.5 to 45.5 billio n, and though earnings per share (EPS) were -0.11 in 2016, there was an increase in 2017 to 1.27 which is likely to climb in future reporting years (Rains, 2018). Stock prices have also increased over the periods 2013 to 2017, however, there was a slight decline in May 2018 which may be of some concern to investors. CAT is also trading with a Forward P/E of 15.81 which is a slight discount compared to the construction and mining industry average of 15.85 (Rains, 2018). Consolidated Edison, Inc. (ED) Sector- Market Performance: Consolidated Edison Inc.’s (ED) stock price as of May 17, 2018 was 74.13 down by .58 percent which is concerning for investors (Google Finance, 2018). Though stock price history from 2013 to 2017 has increased the price has continued to fall in May for several days in a row which analysts are currently recommending this company as a sell candidate (Stockinvest, 2018). Analysts report that ED signalizes a slower rising rate, but may also be an early warning sign about a possible trend shift (Stockinvest, 2018). Due to trends being broken there will now be resistance at the bottom line of the trend at $75.64 (Stockinvest, 2018). A reaction back to this level may 8 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report hold a second chance to get out before further falls. However, this stock is usually traded at good volume and with minor daily changes with risk being relatively low. For the last week, the stock had a daily average volatility rate of 1.28 percent (Stockinvest, 2018). 3/1/2018 12/1/2017 9/1/2017 6/1/2017 3/1/2017 12/1/2016 9/1/2016 6/1/2016 3/1/2016 12/1/2015 9/1/2015 6/1/2015 3/1/2015 12/1/2014 9/1/2014 6/1/2014 3/1/2014 90.00 80.00 70.00 60.00 50.00 40.00 30.00 20.00 10.00 0.00 12/1/2013 Price Consolidated Edison, Inc. (ED) Stock Prices December 1, 2013 to May 17, 2018 Date Northern Trust (NTRS) Sector-Market Performance Northern Trust’s (NTRS) stock price as of May 17, 2018 was 109.29 up by 1.02 percent (Google Finance, 2018). NTRS had first quarter 2018 EPS of 1.58 and a favorable increase from 1.10 in 2017 (Zacks, 2018). Revenue growth and other credit metrics are showing significa nt improvement and on an upward trend with 2016 revenues of 4.96 billio n increasing to 5.36 billio n in 2017 (Zacks, 2018). However, operating expenses have continued to increase which could drag down performance. The future outlook appears to be promising and management expects realizing 250 million in expense run rate savings by 2020 which on a combined basis will create roughly 55 million in annual net savings to be fully realized by first quarter of 2019 (Zacks, 2018). 9 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report 3/1/2018 12/1/2017 9/1/2017 6/1/2017 3/1/2017 12/1/2016 9/1/2016 6/1/2016 3/1/2016 12/1/2015 9/1/2015 6/1/2015 3/1/2015 12/1/2014 9/1/2014 6/1/2014 3/1/2014 120.00 100.00 80.00 60.00 40.00 20.00 0.00 12/1/2013 Price Northern Trust (NTRS) Stock Prices December 1, 2013 to May 17, 2018 Date Macy’s (M) Market Performance: Macy’s (M) stock price as of May 17, 2018 was 34.48 up by 3.95 percent (Google Finance, 2018). Macy’s has a trailing twelve months of P/E ratio of 7.9 percent which is pretty favorable since the P/E for the S&P 500 is currently about 21.1 percent and also compares favorably with the market sector which is 30.1 percent, indicating that the stock is undervalued compared to its peers (Zacks, 2018). Macy’s is not only considered by analysts to be a good choice for value investors but revenues are expected to remain steady over the next 6 years with EPS likely to increase during this same time period (Zacks, 2018). In fact, over the past year, the industry has outperformed the broader market (Zacks, 2018). 3/1/2018 12/1/2017 9/1/2017 6/1/2017 3/1/2017 12/1/2016 9/1/2016 6/1/2016 3/1/2016 12/1/2015 9/1/2015 6/1/2015 3/1/2015 12/1/2014 9/1/2014 6/1/2014 3/1/2014 60.00 50.00 40.00 30.00 20.00 10.00 0.00 12/1/2013 Price Macy's (M) Stock Prices December 1, 2013 to May 17, 2018 Date 10 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Industry Performance: The technology industry (AAPL) pace of revenue growth in the first quarter of 2018 increased to 11.2 percent, year over year, above the industry average. Sales growth accelerated to 6.06 percent year over year but remained below industry average (CSI Markets, 2018). The farm and construction equipment industry (CAT) pace of revenue growth in the first quarter of 2018 increased to 15.47 percent above industry average where revenue fell by 6.32 percent and overall ranking has declined compared to the previous quarter (CSI Markets, 2018). The regulated electric industry’s (ED) pace of revenue growth in the first quarter of 2018 increased to 4.87 percent year over year above the industry average, and revenue grew by 7.23 percent (CSI Markets, 2018). The investment services industry (NTRS) revenue growth in the first quarter of 2018 decelerated to 16.49 percent year over year but still remained above industry average, while revenue grew by 3.97 percent (CSI Markets, 2018). The department and discount retail industry’s (M) pace of revenue growth in the first quarter 2018 accelerated to 6.68 percent year over year above industry average, though revenue fell by 3.45 percent (CSI Markets, 2018). Aiii. Impact Of The Five-Year And Current Macroeconomic Data On Asset Prices The following data projects stock valuations for AAPL, CAT, ED, NTRS, and M: Apple (AAPL) Stock Fiscal year ends in September. USD in millions except per share data. Revenues Cost of Goods Sold Selling, General & Administrative Expenses Research and development Operating Income Net Interest Expenditure Pre-Tax Income Taxes Net Income 2016 2017 2018 2019 2020 2021 215,639 229,234 238,403 247,939 257,857 268,171 131,376 141,048 166,882 173,558 180,500 187,720 14,194 15,261 40,529 42,150 42,546 44,248 10,045 11,581 10,813 11,197 11,005 11,101 60,024 72,925 30,992 32,232 34,811 36,203 1,456 2,323 1,890 2,106 1,998 2,052 61,372 64,089 29,103 30,126 32,813 34,151 18,412 19,227 8,731 9,038 9,844 10,245 42,960 44,862 20,372 21,088 22,969 23,906 Earnings Per Share 7.85 8.60 3.81 3.99 4.32 4.51 Shares Outstanding 5,471 5,217 5,344 5,281 5,312 5,296 11 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Caterpillar (CAT) Stock Fiscal year ends in December USD in Million except per share data Revenues Cost of Goods Sold Selling, General & Administrative Expenses Research and development Operating Income Net Interest Expenditure Pre-Tax Income Taxes Net Income Earnings Per Share Shares Outstanding 2016 2017 2018 2019 2020 2021 38,537 4,686 45,462 31,049 5,177 1,951 1,905 1,905 9,236 1,101 1,177 804 192 612 8,059 3,339 4,720 47,280 33,096 8,038 1,928 6,146 1,139 5,007 1,502 3,505 49,172 34,420 8,359 1,917 6,392 1,158 5,234 1,570 3,664 51,139 35,797 8,438 1,922 6,904 1,149 5,755 1,727 4,029 53,184 37,229 8,775 1,919 7,180 1,153 6,027 1,808 4,219 -0.11 1.27 5.91 6.17 6.79 7.11 592 594 593 594 593 593 28,309 Consolidated Edison (ED) Stock Fiscal year ends in December. USD in millions except per share data. Revenues Cost of Goods Sold Selling, General & Administrative Expenses Research and development Operating Income Net Interest Expenditure Pre-Tax Income Taxes Net Income Earnings Per Share Shares Outstanding 2016 2017 2018 2019 2020 2021 12,075 12,033 12,514 13,015 13,535 14,077 3,088 2,625 8,760 9,110 9,475 9,854 3,269 3,303 2,127 2,213 2,233 2,323 0 0 0 0 0 0 5,718 6,105 1,627 1,692 1,827 1,900 702 737 720 728 724 726 5,016 5,368 907 964 1,103 1,174 698 472 272 289 331 352 4,318 4,896 635 675 772 822 14.39 15.95 2.09 2.21 2.54 2.70 300 307 304 305 304 305 Northern Trust (NTRS) Stock Fiscal year ends in December. USD in millions except per share data. Revenues Cost of Goods Sold Selling, General & Administrative Expenses Research and development Operating Income Net Interest Expenditure Pre-Tax Income Taxes Net Income 2016 2017 2018 2019 2020 2021 4,962 3,473 844 84 645 182 463 139 324 5,375 3,763 914 95 699 340 359 108 251 5,590 3,913 950 90 727 261 466 140 326 5,814 4,070 988 92 756 301 455 137 319 6,046 4,232 998 91 816 281 535 161 375 6,288 4,402 1,038 92 849 291 558 167 391 Earnings Per Share 1.42 1.10 1.43 1.40 1.64 1.71 Shares Outstanding 228 228 228 228 228 228 12 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Macy's (M) Stock Fiscal year ends in January. USD in millions except per share data. Revenues Cost of Goods Sold Selling, General & Administrative Expenses Research and development Operating Income Net Interest Expenditure Pre-Tax Income Taxes Net Income 2016 2017 2018 27,079 25,778 24,837 16,496 15,621 15,152 8,256 8,265 8,131 0 0 0 2,327 1,892 1,554 363 367 311 1,964 1,525 1,243 589 458 373 1,375 1,068 870 2019 2020 2021 25,830 26,864 27,938 18,081 18,805 19,557 4,391 4,433 4,610 0 0 0 3,358 3,627 3,772 339 325 332 3,019 3,302 3,440 906 990 1,032 2,113 2,311 2,408 Earnings Per Share 4.19 3.47 2.85 6.89 7.56 7.87 Shares Outstanding 328 308 305 307 306 306 The impact of the five-year and current macroeconomic data came in higher than expected. However, trades in China likely to be impacted on the trade front as a result of additional tariffs up to USD 100 billion worth of Chinese imports and a rapidly transforming global market (CBO, 2018). The U.S. economy is still the largest in the world and represents about 20 percent to the total global output which is still larger than China (CBO, 2018).. The U.S. economy is dominated by services-oriented businesses in areas such as technology, financial services, healthcare and retail (CBO, 2018). The U.S. is the second leading manufacturer in the world and a leader in auto, aerospace, machinery, telecommunications, and chemicals (CBO, 2018). The five-year impact of current macroeconomic data on asset prices shows that it continues to recover from a period of turmoil due to a mix of factors (CBO, 2018).. These factors include low interest rates, a hike in mortgage lending activity, high consumer debt, and lax government regulations which had led to a recession in 2008 (CBO, 2018). The economy continues to recover, however, there are still concerns over challenges going forward. B. Company Valuation Bi. Key Ratios And Comparison To Peers And Industry: 13 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Apple (AAPL) Industry: Consumer Electronics Debt & Coverage Ratios Debt/Assets Debt/Equity Current Assets/Current Liability EBITDA/Interest Debt/EBITDA Cash Flow Ops/Total Debt Firm Ind Avg 0.33 0.79 1.46 20.07 1.55 0.72 0.32 1.94 59.34 2.03 1.14 As of May 2018, AAPL had a debt/assets ratio of .33 percent which represents the amount of financed assets lasting longer than one year. The ratio increased from .25 in March of 2017 to .28 in March 2018 to 33 in May 2018, which is a sign that they may be using an increasing amount of debt to fund their operations (CSI Market, 2018). AAPL’s debt/equity ratio as of May 2018 was .79 percent higher than the industry average of .32 percent (CSI Market, 2018). The current ratio is 1.46 which is lower than the industry average of 1.94 (CSI Market, 2018). The current ratio of 1.46 generally indicates good short term financial strength and is ranked lower than 82 percent of the 2227 companies in the global industry (CSI Market, 2018). Apple’s EBITA/Interest ratio is 20.07 percent which is lower than the industry average of 59.34 and ranked lower than 60 percent of the 1906 companies, where the Debt/EBITDA ratio is 1.55, lower than the industry average of 2.03 and a sign that the Company spends less time paying off debt than other competitors in the industry. AAPL’s cash flow ops/total debt is .72 percent, where the industry average is 1.41 and an indicator that there may not be enough cash in hand to pay off its debt (CSI Market, 2018). Caterpillar (CAT) Industry: Farm and Construction Equipment Debt & Coverage Ratios Debt/Assets Debt/Equity Current Assets/Current Liability EBITDA/Interest Debt/EBITDA Cash Flow Ops/Total Debt Firm 0.45 2.32 1.36 8.52 2.87 0.22 Ind Avg 0.39 1.79 37.06 2.96 0.54 14 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report As of May 2018, CAT had a debt/asset ratio of .45 percent, and a debt/equity ratio of 2.32 percent which is higher than the industry average of .39 (Guru Focus, 2018). This generally means that the Company has been aggressive in financing its growth with debt which will result in volatile earnings from interest expenses. However, CAT ranked lower than 94 percent of the 128 companies in the global industry (Guru Focus, 2018). CAT’s current assets/current liability ratio is 1.36 which is lower than the industry average of 1.79 and a sign that when compared to peers, they are better able to pay off short-term obligations. CAT’s EBITDA/interest ratio is 8.52 and a sign of low financial strength, where the industry average was 37.06 (Guru Focus, 2018). The Company ranks lower than 81 percent of the 132 companies in the global industry (Guru Focus, 2018). CAT’s debt/EBITDA ratio is 2.87 where the industry average is 2.96. CAT is ranked lower than 64 percent of the 122 companies in the global industry (CSI Markets, 2018). CAT’s cash flow ops/total debt ratio is .22 percent and a sign that it could not pay off debt using cash in hand, where the industry average is .54 percent (Guru Focus, 2018). The Company ranked lower than 78 percent of the 154 companies in the global industry (CSI Markets, 2018). Consolidated Edison (ED) Industry: Utilities - Regulated Electric Debt & Coverage Ratios Debt/Assets Debt/Equity Current Assets/Current Liability EBITDA/Interest Debt/EBITDA Cash Flow Ops/Total Debt Firm 0.36 1.11 0.67 3.83 3.99 0.04 Ind Avg 0.96 1.07 5.16 3.63 0.25 As of May 2018, ED had a debt/assets ratio of .36 percent. ED had a debt/equity ratio of 1.11 percent where the industry average is.96 (Guru Focus, 2018). The Company’s high debt/equity ratio is an indicator that it has been more aggressive than its peers in financing growth 15 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report with debt. However, ED ranked lower than 55 percent of the 568 companies in the global industry (Guru Focus, 2018). ED’s current assets/current liability ratio is .67 percent which is lower than the industry average of 1.07 (Guru Focus, 2018). The Company is ranked lower than 77 percent of the 637 company in the global industry (Guru Focus, 2018). ED’s EBITDA/Interest ratio is 3.83 which is lower than the industry average of 5.16 and a sign that financial strength is lower when compared to its peers. Currently, ED is ranked lower than 64 percent of the 611 peer companies in the global industry (Guru Focus, 2018). ED had a debt/EBITDA ratio of 3.99 where the industry average was 3.63 (Guru Focus, 2018). The Company is ranked lower than 52 percent of the 568 Companies in the global industry (Guru Focus, 2018). The cash flow ops/total debt ratio was .04 percent and lower than the industry average of .25 percent and a sign that it may be less likely to pay off debt using cash in hand. With this regard, ED’s cash flow ops/total debt is ranked lower than 81 percent of the 621 companies in the global industry (CSI Markets, 2018). Northern Trust (NTRS) Industry: Asset Management Debt & Coverage Ratios Debt/Assets Debt/Equity EBITDA/Interest Debt/EBITDA Cash Flow Ops/Total Debt Firm Ind Avg 0.14 1.80 0.27 -122 2.81 0 3.03 2.20 9999.0 As of May 2018, NTRS had a debt/assets ratio of .14 percent. The Company’s debt/equity ratio was 1.80 percent, higher than the industry average of .27 (Guru Focus, 2018). This indicates that NTRS uses aggressive financing tactics in its growth as opposed to its industry peers. This can result in volatile earnings as a result of a large amount of interest expense (Guru Focus, 2018). During the past 13 years, the highest debt/equity ratio of NTRS was 4.49 where the lowest was .40 16 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report and the median was 1.33 (Guru Focus, 2018). The debt/equity ratio of NTRS ranked lower than 88 percent of the 554 companies in the global industry (CSI Markets, 2018). NTRS EBITDA/Interest ratio is currently operating at a loss and did not have earnings to cover the interest expense (CSI Markets, 2018). For the first quarter of 2018, NTRS’s interest expense was -122 million and its operating income was 0 million (Guru Focus, 2018). The debt/EBITDA at the end of the first quarter 2018 was 0 million a sign that it is able to pay off its debt quickly. NTRS also ranked lower than 77 percent of the 533 companies in the global industry where the industry average is 3.03 versus 3.31 for NTRS (Guru Focus, 2018). The Company had a cash flow ops/total debt ratio of 2.20 as opposed to the industry average of 9999.0 and ranked lower than 81 percent of the 1151 companies in the global industry (CSI Markets, 2018). Macy's (M) Industry: Department Stores Debt & Coverage Ratios Debt/Assets Debt/Equity Current Assets/Current Liability EBITDA/Interest Debt/EBITDA Cash Flow Ops/Total Debt Firm 0.30 1.04 1.47 15.37 1.00 0.25 Ind Avg 0.48 1.59 28.48 2.40 1.02 Macy’s (M) had a debt/assets ratio of .30 percent and a debt/equity ratio of 1.04 which is higher than the industry average of .48 (Guru Focus, 2018). The high debt/equity ratio generally means that Macy’s has been aggressive in financing its growth with debt. Macy’s current assets/current liability ratio is 1.47 which is lower than the industry average of 1.59 and indicates good financial strength (Guru Focus, 2018). The Company’s EBITDA/Interest ratio was 15.37 percent and lower than the industry average of 28.48 percent which shows a weaker financ ia l strength when compared to its peers (Guru Focus, 2018). Macy’s debt/EBITDA ratio is 1.00 where 17 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report the industry average is higher at 2.40 percent (Guru Focus, 2018). The low ratio indicates that Macy’s can pay of its debt faster when compared to its peers. Macy’s cash flow ops/total debt ratio is .25 percent where the industry average is 1.02 percent which shows the Company is unable to pay off its debt using cash in hand (Guru Focus, 2018). Bii. The Intrinsic Value Of Stock Assets A stock is capable of holding intrinsic value outside of what the market price and is an important factor to consider by value investors when selecting a company to invest in. One variety of this model is the Gordon Growth Model which assumes the company in consideration is within a steady state and growing in dividends (Alvarez, 2018). This valuation method takes the value of the stock based on the difference in EPS and per-share book value to arrive at an intrinsic value to see if the security is higher or lower than market price (Alvarez, 2018). The following data estimates the intrinsic value of stock assets for AAPL, CAT, ED, NTRS, and M: Apple (AAPL) Stock Intrinsic Value (May 17th, 2018): Current Stock Market Price: EPS Estimate Risk Free Interest Rate % 187.98 3.81 1.92 Source: U.S. Treasury Bill Data, 2018 Intrinsic Value ROI 198.44 2.0 Caterpillar (CAT) Stock Intrinsic Value (May 17th, 2018): Current Stock Market Price: EPS Estimate Risk Free Interest Rate % 154.47 5.91 1.92 Source: U.S. Treasury Bill Data, 2018 Intrinsic Value ROI 307.81 3.8% 18 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Consolidated Edison (ED) Stock Current Stock Market Price: EPS Estimate Risk Free Interest Rate % Intrinsic Value ROI 74.13 2.09 1.92 Source: U.S. Treasury Bill Data, 2018 108.85 2.8% Northern Trust (NTRS) Stock Current Stock Market Price: EPS Estimate Risk Free Interest Rate % Intrinsic Value ROI Intrinsic Value (May 17th, 2018): 109.29 1.43 1.92 Source: U.S. Treasury Bill Data, 2018 74.48 1.3% Macy's (M) Stock Intrinsic Value (May 17th, 2018): Current Stock Market Price: EPS Estimate Risk Free Interest Rate % Intrinsic Value ROI Intrinsic Value (May 17th, 2018): 34.48 2.85 1.92 Source: U.S. Treasury Bill Data, 2018 148.44 8.3% C. Industry Trends Ci. Historic Industry Microeconomic Data: Apple (AAPL): The Technology Hardware, Storage & Peripherals Industry in the Information Technology Sector: Apple operates within the technology, hardware, storage, and peripherals industry of the information technology sector (Collelo, 2018). Historical industry data have shown that there is an upward trend, and that Apple’s financial results have been strong hence providing investors with a decent forecast for upcoming reporting periods. One of the most critical factors for Apple in maintaining its growth is the Company’s ability to retain customers and prevent loss of business 19 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report from other competitors in the IT sector. Since the product life cycles in the consumer electronics industry are relatively short, competitor products may have chances to lure iOS customers away from Apple, which could make it difficult to forecast future performance (Collelo, 2018). Alongside these lines, Apple must be able to continuously develop new products or services since investors in the tech industry are more likely to flock to a Company that will provide greater returns on investment (Collelo, 2018). However, in comparison, no other competitors such as Nokia, Motorola, or BlackBerry have offered secondary devices that partner with their phones which gives Apple a unique edge in addition to its brand name (Collelo, 2018). Source: Fidelity, 2018 AAPL’s Historical Growth Rates: 20 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Growth Rates Stockholders Equity Growth % Revenues Growth % Earnings Per Share (EPS) Growth Rate Dividends Per Share Growth Rate Sustainable Growth (SGR) EPS DPS ROE Payout Ratio Retention Ratio SGR AAPL Historical Growth Rates 2013 2014 123,549 111,547 -9.71% 170,910 182,795 6.95% 5.72 6.49 13.46% 1.69 1.85 9.47% 5.72 1.69 30.6% 0.30 0.70 21.59% 6.49 1.85 33.6% 0.29 0.71 24.03% 2015 119,355 7.00% 233,715 27.86% 9.28 42.99% 2.03 9.73% 2016 128,249 7.45% 215,639 -7.73% 8.35 -10.02% 2.23 9.85% 2017 134,047 4.52% 229,234 6.30% 9.27 11.02% 2.46 10.31% 9.28 2.03 48.3% 0.22 0.78 37.70% 8.35 2.23 36.9% 0.27 0.73 27.05% 9.27 2.46 36.9% 0.27 0.73 27.09% Caterpillar (CAT): Sector: Industrials, Industry: Machinery Caterpillar’s historical performance has shown has shown a fluctuation of higher net income and revenue earnings during the years 2013 to 2015, a net loss of income in 2016, followed by improvement in 2017. Analysts have forecasted that activity in the industrials sector and machinery industry is likely to strengthen, however, other analysts note concerns over trade wars that are impacting sales. The farm and construction industry has been in growth mode recently due to a number of factors such as U.S. tax reform, strong economic activity, and positive commodity price trends (Schoonmaker, 2018). Caterpillar has become one of the largest to second-largest manufacturers of just about every product it makes and controls 19 percent of the global new construction equipment market and nearly twice as large of its direct competitor, Komatsu (Schoonmaker, 2018). New equipment sales for the machinery industries have been tied to heavy construction and the general construction sector, mostly within the North Americas (45%), and the Asian-Pacific (20%). Over the past seven years, Caterpillar’s spending on R&D averaged around 2 billion per year which exceeded the spending of another competitor (Schoonmaker, 2018). The 21 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report spending on R&D has allowed the Company to continuously innovate and develop better quality products with stronger brand against its competitors. Source: Fidelity, 2018 CAT’s Historical Growth Rates: Growth Rates Stockholders Equity Growth % Revenues Growth % Earnings Per Share (EPS) Growth Rate Dividends Per Share Growth Rate Sustainable Growth (SGR) EPS DPS ROE Payout Ratio Retention Ratio SGR CAT Historical Growth Rates 2013 2014 20,811 16,746 -19.53% 55,656 55,184 -0.85% 5.87 5.99 2.04% 1.72 2.60 51.16% 5.87 1.72 19.8% 0.29 0.71 13.97% 5.99 2.60 19.7% 0.43 0.57 11.14% 2015 2016 14,809 13,137 -11.57% -11.29% 47,011 38,537 -14.81% -18.03% 3.54 -0.11 -40.90% -103.11% 2.94 3.08 13.08% 4.76% 3.54 2.94 13.3% 0.83 0.17 2.26% 2017 13,697 4.26% 45,462 17.97% 1.27 -1254.55% 3.10 0.65% -0.11 3.08 -0.5% -28.00 29.00 -13.92% 1.27 3.10 5.6% 2.44 -1.44 -8.10% Consolidated Edison (ED): Utilities Sector and Multi-Utilities Industry 22 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Con-Ed operates within the utilities sector and multi- utilities industry in New York State (NYS). The company focuses on electric and natural gas distribution, and has produced some of the most stable earnings in the utilities sector. The regulatory framework in NYS, is a significa nt factor which impacts earnings from weather and sales volume, resulting in lower earnings and cash flow when compared to its peers (Fishman, 2018). NYS is the home to most of Con-Ed’s utility earnings and returns are generally below the industry averages. Hence, there is less than average confidence that the Company would be able to consistently earn profits above its cost of capital during the next 15 years (Fishman, 2018). Con-Ed’s customers in New York City pay some of the highest rates for electricity in the U.S. In addition, the city’s infrastructure is very old which is more expensive to maintain placing the Company at risk from storm related damage (Fisherma n, 2018). Source: Fidelity, 2018 ED’s Historical Growth Rates: 23 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Growth Rates Stockholders Equity Growth % Revenues Growth % Earnings Per Share (EPS) Growth Rate Dividends Per Share Growth Rate Sustainable Growth (SGR) EPS DPS ROE Payout Ratio Retention Ratio SGR ED Historical Growth Rates 2013 2014 20,811 16,746 -19.53% 12,354 12,919 4.57% 3.62 3.73 3.04% 1.72 2.60 51.16% 3.62 2.46 8.8% 0.68 0.32 2.82% 3.73 2.52 8.8% 0.68 0.32 2.85% 2015 14,809 -11.57% 12,554 -2.83% 4.07 9.12% 2.94 13.08% 2016 13,137 -11.29% 12,075 -3.82% 4.15 1.97% 3.08 4.76% 2017 13,697 4.26% 12,033 -0.35% 4.97 19.76% 3.10 0.65% 4.07 2.60 9.3% 0.64 0.36 3.36% 4.15 2.68 9.1% 0.65 0.35 3.22% 4.97 2.76 10.3% 0.56 0.44 4.56% Northern Trust (NTRS): Financials Sector and Capital Markets Industry Northern Trust operates within the financials sector and capital markets industry, and due to the current less stringent regulatory environment, the Company is likely to reduce excess capital and increase its leverage by at least 5 percent (Compton, 2018). In addition, returns on equity (ROE) are likely to increase by over 20 percent during the next five years (Compton, 2018). Northern Trust consists of two business segments of a private bank that serves wealthy investors in the U.S., and a custodian bank that serves institutional customers around the world (Compton, 2018). 24 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Northern Trust is also one of the most conservative and stable financial companies which has often had more room for growth since it started out small (Compton, 2018). The Company’s private banking operations serves more than 20 percent of the Forbes 400 richest families with client relationships that have spanned over generations (Compton, 2018). This allows the Company to maintain a strong position with high net worth clientele and investors who tend to have less complex needs which has protected the bank from increased competition (Compton, 2018). In addition, Northern Trust is expected to grow over the next couple of years due to rising interest rates which should improve ROE. Northern Trust (NTRS) Growth Rates Growth Rates 2013 2014 2015 Stockholders Equity 7,102 8,449 8,706 Growth % 18.97% 3.04% Revenues 3,923 4,331 4,703 Growth % 10.40% 8.59% Earnings Per Share (EPS) 3.07 3.34 4.03 Growth Rate 8.79% 20.66% Dividends Per Share 1.23 1.30 1.41 Growth Rate 5.69% 8.46% Sustainable Growth (SGR) EPS 3.07 3.34 4.03 DPS 1.23 1.30 1.41 ROE 10.3% 9.5% 10.9% Payout Ratio 0.40 0.39 0.35 Retention Ratio 0.60 0.61 0.65 SGR 6.17% 5.80% 7.09% 2016 9,770 12.22% 4,962 5.51% 4.35 7.94% 1.48 4.96% 2017 10,216 4.56% 5,375 8.32% 4.59 5.52% 1.60 8.11% 4.35 1.48 10.3% 0.34 0.66 6.80% 4.59 1.60 11.2% 0.35 0.65 7.30% Macy’s (M): Consumer Discretionary Sector and Department Stores Industry: Macy’s (M) operates within the consumer discretionary sector and the department stores industry which is now one of the largest department stores within the U.S. However, the industry has been extremely competitive and likely to see a reduction in profits during upcoming reporting periods. Over the next five years, analysts have projected that Macy’s sales will decline by 1 percent on average, and operating margins will fall to 5 percent by 2021 against their 8 percent 25 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report three-year historical average (Brick, 2018). Investors had been rewarded total shareholder returns of 412 percent from 2009 to 2015, but the Company has since stumbled (Brick, 2018). In addition, spending has shifted from apparel to other categories and department stores are likely to be forced to compete on price as a result of increased online competition (Brick, 2018). Macy’s is continuously losing market share to other sector categories such as healthier foods or new technologies and department store sales have fallen by 3 percent annually over the past five years. (Brick, 2018). Source: Fidelity, 2018 Growth Rates Stockholders Equity Growth % Revenues Growth % Earnings Per Share (EPS) Growth Rate Dividends Per Share Growth Rate Sustainable Growth (SGR) EPS DPS ROE Payout Ratio Retention Ratio SGR Macy's (M) 2013 6,051 27,686 3.29 0.95 3.29 0.95 22.3% 0.29 0.71 15.85% 2014 6,249 3.27% 27,931 0.88% 3.93 19.45% 1.19 25.26% 2015 5,378 -13.94% 28,105 0.62% 4.3 9.41% 1.39 16.81% 2016 4,250 -20.97% 27,079 -3.65% 3.26 -24.19% 1.49 7.19% 2017 4,323 1.72% 25,778 -4.80% 2.01 -38.34% 1.51 1.34% 3.93 1.19 24.2% 0.30 0.70 16.84% 4.3 1.39 26.3% 0.32 0.68 17.76% 3.26 1.49 22.3% 0.46 0.54 12.09% 2.01 1.51 14.4% 0.75 0.25 3.59% 26 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Cii. Analysis Of Quantitative Data Across Sectors And Industries The following data shows Market-Cap & Industry Performance Breakdown for M, NTRS, ED, CAT, & AAPL: Market Cap and Industries In Comparison for AAPL, CAT, ED, NTRS, M S&P 500 13.18 25.39 Multi-Line Retail 34.42 148.34 Capital Markets 1.29 27.37 Multi-Ultilities-7.21 374.91 Machinery 784.54 Technology Hardware, Storage &…1.14 -20% 0% 17.75 21.92 20% Market Cap 40% 60% 80% 100% 1-Year % Change Source: Fidelity, 2018 The following data shows market-cap and sector performance breakdowns for AAPL, CAT, ED, NTRS, & M: Market Cap & Sector Performance for M, NTRS, ED, CAT, & AAPL 25.39 5.81 S&P 500 13.18 Consumer Discretionary 18.43 7.7 Financials 18.05 Utilities -4.92 1.23 4.28 9.55 -10 0 Industrials 11.14 Information Technology 27.45 10 20 Market Cap 30 40 50 1 Year % Change Source: Fidelity, 2018 27 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Quantitative industry data have shown that there are recent growth trends within the information technology and consumer discretionary/multi- line retail industries and sectors (Fidelity, 2018). Growth in these industries are likely to continue as a result of U.S. tax cuts and fiscal stimulus acts which have helped with inflation in the first quarter of 2018 and pushed the stock market high (Fidelity, 2018). On the other hand, the financials sector and capital markets industries have weakened when compared to other industries and sectors (Fidelity, 2018). The valuation of the technology, industrials, and consumer discretionary sectors have been elevated and relative to their historical averages due to strong performance in recent quarters (Fidelity, 2018). The technology, consumer discretionary, and financials sectors have continued with steady growth in the first quarter of 2018, are likely to be leaders in the market, where consumer discretionary is now a part of the top three sectors and on a steady long-term uptrend (Fidelity, 2018). However, the utilities sector is continuing to lag behind with no reported change in trends (Fidelity, 2018). The defensive sectors such as utilities, real estate, and telecom, have also lagged in the market, with no sign of a change in trend (Fidelity, 2018). D. Stakeholders Di. Five Key Stakeholders And Their Needs In Relation To The Company’s Portfolio. The five key stakeholders in relation to the Company’s portfolio includes employees, customers, communities, investors, and regulators (HBR, 2007). Employee needs are based around the desire to work for a company that is financially stable and able to make good investments that lead to meeting their personal needs, job growth, improved work environme nt, and improved visions that help employees become more competent and committed to working for the company (HBR, 2007). Customers tend seek out companies they can trust to do business with that have innovative products and services which is where investment strategies are necessary to be able to sustain growth. Communities expect companies to make investments that not only build 28 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report organizations, but are also socially responsible. This is where it is necessary to select stocks that have a good reputation in society and communities as to how they treat the environment and serve the larger community. Investors expect the company to keep their promises in developing growth strategies that align core competencies to the strategy and are committed to delivering adequate returns on investment. When this occurs, investors gain high levels of confidence in the company and are likely to continue to invest, which leads to higher market value. Regulators expect that company leadership govern themselves in accordance to the securities laws and with high ethical principles when engaging in investment activities. Dii. Common Stockholders’ Primary Objective And Required Return On Equity. The common stockholders’ primary objective is to invest in stocks that are profitable which may involve measuring return on equity (ROE), or how much profit a company may generate with the money invested (Investopedia, 2018). ROE estimates how effective the company is turning cash into greater gains and growth for both the company and investors. The higher the ROE, the more efficient the company is making use of the stockholders’ funds. Some factors that stockholders consider are the weighted average number of shares issued throughout the year, the average ROE over the past 5 to 10 years of historical growth, and whether or not a high growth company is actually producing a higher ROE (Investopedia, 2018). The price-to-earnings (P/E) ratio is another factor that stockholders look at which takes the stock price and divides it by net income per share. However, one of the biggest weaknesses of ROE is its failure to recognize a company’s debt (Early, 2018). However, higher debt would potentially increase a company’s resource based necessary in generating additional profits. Since debt financing is more cost effective than equity financing, companies can enhance their returns by taking on debt in a reasonable amount (Early, 2018). 29 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report II. Portfolio: A. Assets Ai. Asset Classes, Considering The Portfolio’s Risk/Return Trade -Offs And Objectives. The specific asset classes of the portfolio will consider a possible 80 percent allocation of funds towards stocks and 20 percent toward bonds with the goal of optimizing growth. A growth orientated corporation’s primary objective is to optimize the long-term potential for growth, and would be willing to tolerate large short term price fluctuations, that has a long term investme nt time horizon, with current income not being the primary goal (Investopedia, 2018). Proposed Stock Portfolio for XYZ Company: When analyzing the beta of the five stocks, a beta of 1 specifies that the stock’s price moves with the market, where a beta of less than 1 indicates that the security is less volatile than the market (Investopedia, 2018). A beta greater than 1 means that the stock’s price is more volatile than the market. Therefore, a low beta is expected to underperform the benchmark in up markets and outperform during down markets (Investopedia, 2018). Where most utilities and financ ia l industry stocks such as Con-Ed have a beta less than 1, and NASDAQ based stocks such as Apple, have a beta greater than 1 which offers a possible higher return but also more risk (Investopedia, 2018). The CAPM describes the relationship between systematic risk and expected return for the stocks, as well as generating expected portfolio returns given the risk of those assets and costs of capital. In modern portfolio theory, the risk-free rate of return shows the rate of return of an investment with zero risk and is the minimum return an investor expects for any investme nt (Investopedia, 2018). The interest rate is generally taken on a three-month U.S. Treasury bill for U.S. based investors. The portfolio variance measures how the aggregate actual returns of the set of stocks fluctuate over time using the standard deviations of each security as well as the correlations of each security in the portfolio. The variance can be reduced by selecting asset classes 30 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report with low or negative correlations (Investopedia, 2018). The Sharpe ratio shows the change in the portfolio’s overall risk-return when a new asset allocation is added to it. A high Sharpe ratio signifies that it actually improves the risk-return of a combined portfolio and adds a diversifica tio n (Investopedia, 2018). If a new investment lowers the Sharpe ratio, then theoretically it should not be added to the portfolio. XYZ, Inc. Proposed Optimal Stock Portfolio 1.60 4.50% 4.00% 3.50% 3.00% 2.50% 2.00% 1.50% 1.00% 0.50% 0.00% 1.40 1.20 1.00 0.80 0.60 0.40 0.20 0.00 Macy's AAPL CAT ED NTRS Macys Apple Caterpillar ED Northern Trust Beta CAPM Weight Portfolio Contribution XYZ, Inc. Optimal Portfolio Weights, Returns, & Rates Leverage Sharpe Ratio Total Portfolio Return Risk Free Rate Market Return 100% 1.52 17.15% 1.92% 10% Standard Deviation Portfolio Variance SUM Northern Trust ED Caterpillar Apple Macys 0.10488 0.00880 100% 18% 12% 24% 36% 10% 0% 20% 40% 60% 80% 100% 120% 140% 160% 31 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Proposed Bond Portfolio for XYZ, Inc.: The proposed bond portfolio was constructed using callable securities with a focus on capital gains as well as income, as opposed to a buy and hold strategy focused on income and principal. Callable securities assume that yields will remain relatively stable and must also have views on the range of rates over the investment period as well as the market’s perception of future rate uncertainty at the horizon date (Conley, 2018). Interest rate risks when investing in bonds are also important since bond prices go in the opposite direction when related to interest rates. Hence, when interest rates go up, the bond prices will go down and vice versa, thus adding an additiona l diversification benefits to the portfolio (Gallant, 2018). Furthermore, diversifying with both longterm and short-term bonds minimize additional risks since long term bonds are more subject to interest rate risks when compared to short term bonds (Gallant, 2018). Bond Portfolio Ma cy’s (M) Northern Trust (NTRS) Consolidated Edison (ED) Caterpillar (CAT) Apple, Inc. (AAPL) 816.63 54.5 1051.3 24 6.36% 904.54 2 3.41% 954.08 1039.5 134.8 25 4.17% 6 3.48% 1084.97 1046.5 101.74 28 4.25% Consolidated Edison (ED) 954.08 Northern Trust (NTRS) 1001.47 685.87 134.8 904.54 54.5 1034 1039.5 1034.5 1051.3 Caterpillar (CAT) Int Value 1084.97 992.26 PV Cash Flow 101.74 Cash Flow 1046.5 YTM 992.26 1034 685.87 Apple, Inc. (AAPL) Maturity 1001.47 1034.5 Ma cy’s (M) 816.63 28 6 25 2 24 4.25% 3.48% 4.17% 3.41% 6.36% Int Value PV Cash Flow Cash Flow Maturity YTM 32 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Aii. Asset Allocation Weightings Across Asset Classes, Sectors, And Industries: Portfolio Weights Macys Apple Caterpillar ED Northern Trust Stock Macy's AAPL CAT ED NTRS AAPL 0.05130 0.01738 0.00002 0.00006 0.00006 AAPL CAT ED NTRS M Beta 0.50 1.11 1.49 0.01 0.01 CAPM 5.96% 10.89% 13.96% 2.00% 2.00% Weight 10% 36% 24% 12% 18% Variance-Co-Variance Matrix CAT ED NTRS 0.01738 0.00174 0.00605 0.05663 -0.00635 0.01206 -0.00635 0.03130 -0.01314 0.01206 -0.01314 0.03708 -0.02015 -0.00661 0.00543 Portfolio Contribution 0.60% 3.92% 3.35% 0.24% 0.36% M 0.00566 -0.02015 -0.00661 0.00543 0.11496 . Sector Weights in the S&P 500 30.00% 24.90% 25.00% Weights 20.00% 15.00% 12.70% 14.70% 10.20% 10.00% 2.90% 5.00% 0.00% Consumer Financials Discretionary Industrials Information Technology Utilities Industry B. Securities Bi. Historical Revenue And Earnings Growth In Comparison To Peers In The Industry. The following analysis consists of historical revenue and earnings growth in comparison to peers in the industry based on results for APPL, CAT, ED, NTRS, & M. 33 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Fiscal year ends in September. USD in millions except per share data. Net Income Revenue Total assets Total stockholders' equity Net Profit Margin x Total Asset Turnover Return on Assets (ROA) Equity Multiplier (EM) Return on Equity (ROE) AAPL Market and Industry Performance 2013 37,037 170,910 207,000 123,549 2014 39,510 182,795 231,839 111,547 2015 53,394 233,715 290,479 119,355 2016 45,687 215,639 321,686 128,249 2017 48,351 229,234 375,319 134,047 21.7% 0.83 17.89% 1.7 30.0% 21.6% 0.79 17.04% 2.1 35.4% 22.8% 0.80 18.38% 2.4 44.7% 21.2% 0.67 14.20% 2.5 35.6% 21.1% 0.61 12.88% 2.8 36.1% AAPL Market and Industry Performance Comparison As of May 2018 AAPL Industry Average Market Cap (B) 926.9 16.35 Total Annual Return 22.56% 21.09% Beta (1 Year Annualized) 1.24 1.28 EPS TTM $10.37 $8.75 EPS Growth TTM 21.17% 17.65% P/E TTM 18.2 17.57 Dividend Yield 1.55% 1.61% Revenue (TTM) (B) 247.42 206.24 Revenue Growth Rate (TTM) 12.23% 11.48% Shares Outstanding (Trillion ) 4.92 4.15 AAPL Market and Industry Comparison As of May 2018 Shares Outstanding (Trillion ) Revenue Growth Rate (TTM) Revenue (TTM) (B) Dividend Yield P/E TTM EPS Growth TTM EPS TTM Beta (1 Year Annualized) Total Annual Return Market Cap (B) 4.92 12.23% 247.42 1.55% 18.2 21.17% $10.37 1.24 22.56% 4.15 11.48% 206.24 1.61% 17.57 17.65% $8.75 1.28 21.09% 926.9 0% 16.35 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% AAPL Industry Average 34 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Fiscal year ends in January. USD in millions except per share data. Net Income Revenue Total assets Total stockholders' equity Macy's (M) Market and Industry Performance 2013 1,335 27,686 20,991 6,051 2014 1,486 27,931 21,634 6,249 2015 1,526 28,105 21,461 5,378 2016 1,072 27,079 20,576 4,250 4.8% 1.32 6.36% 3.5 22.1% 5.3% 1.29 6.87% 3.5 23.8% 5.4% 1.31 7.11% 4.0 28.4% 4.0% 1.32 5.21% 4.8 25.2% Net Profit Margin x Total Asset Turnover Return on Assets (ROA) Equity Multiplier (EM) Return on Equity (ROE) 2017 619 25,778 19,851 4,323 2.4% 1.30 3.12% 4.6 14.3% Macy's and Industry Performance Comparison As of May 2018 M Industry Average Market Cap (B) $10.44 $2.12 Total Annual Return 46.10% 31.77% Beta (1 Year Annualized) 0.75 0.84 EPS TTM $5.26 $5.57 EPS Growth TTM 179.79% 47.39% P/E TTM 6.49 14.52 Dividend Yield 4.42% 2.47% Revenue (TTM) (B) $25.20 $31.38 Revenue Growth Rate (TTM) -1.26% 6.07% Shares Outstanding (Million ) 305.95 282.15 Macy's and Industry Performance Comparison As of May 2018 305.95 Revenue Growth Rate -1.26% (TTM) $25.20 4.42% 6.49 179.79% $5.26 0.75 46.10% $10.44 Dividend Yield EPS Growth TTM Beta (1 Year Annualized) Market Cap (B) -20% 282.15 6.07% 0% 20% M 40% $31.38 2.47% 14.52 47.39% $5.57 0.84 31.77% $2.12 60% 80% 100% Industry Average 35 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Fiscal year ends in December. USD in millions except per share data. Net Income Revenues Total assets Total stockholders' equity Net Profit Margin x Total Asset Turnover Return on Assets (ROA) Equity Multiplier (EM) Return on Equity (ROE) CAT Market and Industry Performance 2013 3,789 55,656 84,896 20,811 2014 3,695 55,184 84,681 16,746 2015 2,102 47,011 78,497 14,809 2016 612 38,537 74,704 13,137 6.8% 0.66 4.46% 4.1 18.2% 6.7% 0.65 4.36% 5.1 22.1% 4.5% 0.60 2.68% 5.3 14.2% 1.6% 0.52 0.82% 5.7 4.7% 2017 754 45,462 76,962 13,697 1.7% 0.59 0.98% 5.6 5.5% CAT Market and Industry Performance Comparison As of May 2018 CAT Industry Average Market Cap (B) $93.19 $11.21 Total Annual Return 48.40% 18.64% Beta (1 Year Annualized) 1.3 1.22 EPS TTM $3.68 $3.57 EPS Growth TTM 0.00% 42.34% P/E TTM 42.35 22.99 Dividend Yield 2.00% 2.02% Revenue (TTM) (B) $48.50 $17.46 Revenue Growth Rate (TTM) 24.68% 18.12% Shares Outstanding (Millions) 598 372 CAT Market and Industry Performance Comparison As of May 2018 Shares Outstanding (Millions) 598 372 Revenue Growth Rate (TTM) 24.68% 18.12% Revenue (TTM) (B) $48.50 Dividend Yield $17.46 2.00% P/E TTM 2.02% 42.35 22.99 EPS Growth TTM0.00% 42.34% EPS TTM $3.68 Beta (1 Year Annualized) $3.57 1.3 Total Annual Return 1.22 48.40% Market Cap (B) 18.64% $93.19 0% 10% 20% CAT 30% 40% 50% $11.21 60% 70% 80% 90% 100% Industry Average 36 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Fiscal year ends in December. Consolidated Edison (ED) Market and Industry Performance USD in millions except per share data. 2013 2014 2015 2016 2017 Net Income 1,062 1,092 1,193 1,245 1,525 Revenue 12,354 12,919 12,554 12,075 12,033 Total assets 40,647 44,308 45,642 48,255 48,111 Total stockholders' equity 20,811 16,746 14,809 13,137 13,697 Net Profit Margin x Total Asset Turnover Return on Assets (ROA) Equity Multiplier (EM) Return on Equity (ROE) 8.6% 0.30 2.61% 2.0 5.1% 8.5% 0.29 2.46% 2.6 6.5% 9.5% 0.28 2.61% 3.1 8.1% 10.3% 0.25 2.58% 3.7 9.5% 12.7% 0.25 3.17% 3.5 11.1% Consolidated Edison (ED) and Industry Performance Comparison As of May 2018 ED Industry Average Market Cap (B) $23.59 $5.36 Total Annual Return -7.47% -2.25% Beta (1 Year Annualized) 0.04 0.48 EPS TTM $5.04 $3.09 EPS Growth TTM 16.40% 37.59% P/E TTM 15.06 15.11 Dividend Yield 3.77% 4.93% Revenue (TTM) (B) $12.17 $22.51 Revenue Growth Rate (TTM) 0.18% 4.97% Shares Outstanding (Million ) 310.7 727.9 ED vs. Industry Comparison As of May 2018 -2.25% -100% -80% Shares Outstanding (Million ) 310.7 727.9 Revenue Growth Rate (TTM) 0.18% 4.97% Revenue (TTM) (B) $12.17 $22.51 Dividend Yield 3.77% 4.93% P/E TTM 15.06 15.11 EPS Growth TTM 16.40% 37.59% EPS TTM $5.04 $3.09 Beta (1 Year Annualized) 0.04 0.48 Total Annual Return -7.47% Market Cap (B) $23.59 $5.36 -60% -40% -20% ED 0% 20% 40% 60% 80% 100% Industry Average 37 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Fiscal year ends in December. USD in millions except per share data. Northern Trust (NTRS) Market and Industry Performance 2013 Net Income Revenue Total assets Total stockholders' equity 2014 2015 728 3,923 102,659 7,102 802 4,331 109,946 8,449 950 4,703 116,750 8,706 2016 1,009 4,962 123,927 9,770 2017 1,149 5,375 138,590 10,216 18.6% 0.04 0.71% 14.5 10.3% 18.5% 0.04 0.73% 13.0 9.5% 20.2% 0.04 0.81% 13.4 10.9% 20.3% 0.04 0.81% 12.7 10.3% 21.4% 0.04 0.83% 13.6 11.2% Net Profit Margin x Total Asset Turnover Return on Assets (ROA) Equity Multiplier (EM) Return on Equity (ROE) NTRS and Industry Performance Comparison As of May 2018 NTRS Industry Average Market Cap (B) $23.99 $18.43 Total Annual Return 20.76% 2760736.00% Beta (1 Year Annualized) 0.96 1.27 EPS TTM $5.41 $5.95 EPS Growth TTM 23.52% 29.60% P/E TTM 19.71 20.43 Dividend Yield 1.58% 2.20% Revenue (TTM) (B) $5.97 $16.72 Revenue Growth Rate (TTM) 13.74% 16.25% Shares Outstanding (Million ) 224.99 838.98 NTRS and Industry Performance Comparison As of May 2018 Shares Outstanding (Million ) 224.99 Revenue Growth Rate (TTM) 838.98 13.74% Revenue (TTM) (B) 16.25% $5.97 Dividend Yield $16.72 1.58% P/E TTM 2.20% 19.71 EPS Growth TTM 20.43 23.52% EPS TTM 29.60% $5.41 Beta (1 Year Annualized) $5.95 0.96 1.27 Total Annual Return20.76% 2760736.00% Market Cap (B) $23.99 0% 10% 20% NTRS 30% $18.43 40% 50% 60% 70% 80% 90% 100% Industry Average 38 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Bii. The Intrinsic Value Of Assets: The intrinsic value of the assets were calculated using the present value of the company’s future free cash flows into a discounted cash flow (DCF) model projected over a ten year period. The annual discount rate of 10 percent was used with the assumption that there could be another economic recession in the next ten years. The discontinued perpetuity value was calculated using the rate of 3 percent assuming that growth will slow down in the future: AAPL Intrinsic Value By Year 2027+ Assuming 3% Future Growth 2018+ Discounted Perpetuity CF 35,379.46 *In billions Shares Outstanding 5,000 *In billions Intrinsic Value $147.08 per share CAT Intrinsic Value By Year 2027+ Assuming 3% Future Growth 2018+ Discounted Perpetuity CF 55,169.27 *In billions Shares Outstanding 603 *In millions Intrinsic Value $91.49 per share ED Intrinsic Value By Year 2027+ Assuming 3% Future Growth 2018+ Discounted Perpetuity CF 3,349.19 *In millions Shares Outstanding 310 *In millions Intrinsic Value $10.80 per share NTRS Intrinsic Value By Year 2027+ Assuming 3% Future Growth 2018+ Discounted Perpetuity CF 48,104.00 *In billions Shares Outstanding 229 *In millions Intrinsic Value $210.06 per share M Intrinsic Value By Year 2027+ Assuming 3% Future Growth 2018+ Discounted Perpetuity CF 28,052.11 *In millions Shares Outstanding 306.8 *In millions Intrinsic Value $91.43 Per share Apple’s current stock price is $187.50, where the highest price to intrinsic value projected FCF is ranked higher than 65 percent of the 1,289 companies in the global industry (Guru Focus, 2018). Caterpillar’s current stock price is $155.46 and the highest price to intrinsic value projected FCF is ranked lower than 63 percent of the 93 companies in the global industry (Guru Focus, 39 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report 2018). Consolidated Edison’s current stock price is $75.54 where the highest price to intrins ic value projected FCF ranked lower than 54 percent of the 292 companies in the global industry (Guru Focus, 2018). The stock price of Northern Trust is currently $105.76, whereas the highest price to intrinsic value projected FCF is ranked lower than 56 percent of the 306 companies in the global industry (Guru Focus, 2018). The stock price of Macy’s is currently $35.56, and the price to intrinsic value projected FCF is ranked higher than 87 percent of the 487 companies in the glob al industry (Guru Focus, 2018). C. Rates of Return Ci. Historical Risk And Rates Of Return Against The S&P 500 Historical rates of return were calculated and benchmarked against the S&P 500 using a linear regression analysis of monthly data from July 1, 2017 to May 1, 2018. The R-squared in the equation and the coefficient R of the five stocks shows the correlation between the stocks (AAPL, CAT, ED, NTRS, M) and the S&P 500. A high R-squared is indicative that the stock’s performance is in movement with the S&P 500. The higher the R-squared, the better the performance of the security in the S&P. In the following analysis, y represents monthly returns for the respective Company, and x represents the S&P 500. What the equation explains is that for every increase of 1 percentage point of the S&P (x), there is a point increase in the Company return (y), which is the slope of the line. If the S&P were zero in a month, or no moveme nt then the stock would decline by the percentage point in y. The R-squared is the percentage variation in y attributed to the S&P. The higher the R-squared, the better the performance of the security in the S&P. In the following analysis, y represents monthly returns for the respective Company, and x represents the S&P 500. What the equation explains is that for every increase of 1 percentage point of the 40 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report S&P (x), there is a point increase in the company return (y), which is the slope of the line. If the S&P were zero in a month, or no movement then the stock would decline by the percentage point in y. The R-squared is the percentage variation in y attributed to the S&P. A high Rsquared between 85 and 100 percent is a sign that the stock’s performance moves in line with the index, where a fund with a low R-squared at 70 or lower, indicates that it does not generally follow movements in the index (Investopedia, 2018). A higher R-squared will also provide a more useful beta figure. y = 1.0092x - 0.0099 R² = 0.1992 -0.06 -0.04 S&P-APPL 07/01/2017-05/1/2018 Monthly Returns 0.08 0.06 0.04 0.02 0 -0.02 -0.02 0 -0.04 -0.06 -0.08 -0.1 -0.12 -0.14 0.02 0.04 0.06 41 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report y = -0.3945x - 0.0067 R² = 0.0257 S&P-CE 07/01/2017-05/01/2018 Monthly Returns 0.1 0.05 0 -0.06 -0.04 -0.02 0 0.02 0.04 0.06 -0.05 -0.1 -0.15 y = -0.0745x - 0.0128 R² = 0.0025 S&P-NTRS 07/01/2017- 05/01/2018 Monthly Returns 1.2 1 0.8 0.6 0.4 0.2 0 -0.06 -0.04 -0.02 0 0.02 0.04 0.06 -0.2 S&P-M 07/01/2017 - 05/01/2018 Monthly Returns y = -0.9381x - 0.0049 R² = 0.0221 0.5 0.4 0.3 0.2 0.1 0 -0.06 -0.04 -0.02 -0.1 0 0.02 0.04 0.06 -0.2 -0.3 42 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Bii. Required Rates Of Return The required rates of return for AAPL, CAT, ED, NTRS, and M were calculated taking the risk free rate plus the beta of each individual stock multiplied by the expected market return minus the risk free rate of return. Therefore, in order to take on the investment, the individual stock must meet or exceed the required return in order to justify the risk of owning it. However, regardless of the risk-return objectives, to assemble an efficient portfolio, risks and returns can be minimized through diversification with multiple stocks and bonds from different industries and sectors. Required Rates of Return For AAPL, CAT, ED, NTRS, & M Stock Beta Required Return Macys 0.50 5.96 Apple 1.11 10.89 Caterpillar 1.49 13.96 ED 0.01 2.00 Northern Trust 0.01 2.00 Risk-Free Rate 1.92 Expected Market Return 10 D. Risk/Return Trade-Off On The Investments. The risk-return tradeoff is the concept in which a potential investment return will rise with an increase in risk, while low levels of risk are associated with lower returns. Invested money can lead to higher profits only if the investor is willing to accept the potential losses should they occur (Investopedia, 2018). At the portfolio level, the risk-return tradeoff includes an assessment on the diversity of holdings and whether or not the mix presents too much risk or a lower than expected potential for returns. Under Modern Portfolio Theory (MPT), investors may design an optimal portfolio in order to maximize returns while taking on a quantifiable amount of risk, and the risk can be reduced through diversification using a quantifiable method (McClure, 2017). Therefore , investment in more than one stock would reduce the riskiness of the portfolio in the event that the 43 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report return is lower than expected or deviates from the average return. For a well-diversified portfolio, the risk or average deviation from the mean of each stock would contribute little risk, and instead, the covariance between the individual stocks’ risk would determine the amount of overall portfolio risk (McClure, 2017). The following portfolio analysis shows a comparison between the optimal risky portfolio and an equally weighted portfolio of assets for AAPL, CAT, ED, NTRS, and M taking monthly data from December 1, 2013 to May 1, 2018. Equally Weighted Portfolio AAPL 0.20 CAT 0.20 ED 0.20 NTRS 0.20 M 0.20 SUM 1.00 Expected Return Std Deviation Sharpe Ratio 14.62% 10.87% 1.17 Optimal Risky Portfolio AAPL 0.22 CAT 0.11 ED 0.35 NTRS 0.32 M 0.00 SUM 1.00 Expected Return Std Deviation Sharpe Ratio 17.15% 10.04% 1.52 AAPL CAT ED NTRS M Returns 24.44% 19.28% 11.88% 16.75% -0.23% Risk Free Rate Aversion Rate 1.92% 10 The higher the variance, the less attractive the stock is for investing. As you can see from the analysis, Macy’s has an extremely high variance of 11.72% when compared to the other stocks, as well as the lowest return thus not an attractive investment. However, Macy’s could be included as a part of the portfolio in consideration of whether it could add value by combining it with the other four stocks. The Companies with the highest average annual returns are Apple, Caterpillar, and Northern Trust. Assuming we have an equally weighted investment allocation of 20 percent for each stock, the expected return of the entire portfolio would be 14.62 percent where the standard deviation would be 10.87 percent, and the Sharpe Ratio would be 1.17. However, for an optimal risky portfolio, the Company is likely to benefit from greater returns (Van Delsem, 2016). An optimal risky portfolio would result in weighted allocations for AAPL, CAT, ED, NTRS, and M of .22, .11, .35, .32, and 0 respectively, thus resulted in a higher expected return of 17.15 percent, 44 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report a standard deviation of 10.04 percent, and a Sharpe Ratio of 1.52. This would give a much higher Sharpe Ratio which would improve the risk-return trade off fairly dramatically by changing the weights of the portfolio (Van Delsem, 2016). From the point of view of the risk averse investor, high risk stocks would not be selected and safe investments would be considered includ ing investing in bonds (Van Delsem, 2016). Risk-averse investors may want to invest in corporate bonds which are likely to pay out a steady dividend to investors. Corporate bonds are safer than investing in common stocks because in the event that the company becomes insolvent, the bond investors would receive the first payments over the shareholders from the remaining funds after creditors are paid off (Egan, 2015). The two primary risks faced by bonds include interest rate risk and credit risk (Egan, 2015). Interest rate risk is the risk that occurs from the sensitivity of bond durations, prices, and the impact of rate fluctuations. When interest rates rise, the bond prices will fall and the longer the maturity date, the more sensitive the bond is to expected changes in interest rates (Egan, 2015). The second risk pertains to credit ratings, or the risk that the Company may default by either not paying its coupons or principal or by filing bankruptcy (Egan, 2015). The ratings agencies such as Fitch and Moody’s provide ratings on bonds and issuers with the lowest ratings are viewed as more likely to default on their payments, yet pay higher premiums over the rate offered on U.S. Treasury bonds to incentivize investors to take on the higher risk (Egan, 2015). 45 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report The More Years to Maturity the Higher the Interest Rate Risk Apple, Inc. Caterpillar, Inc. Bond Face Value = FV = -$1,000.00 Bond Face Value = FV = -$1,000.00 Coupon Payment -$1,046.50 Coupon Payment -$1,034.00 Coupon Rate = 4.65% Coupon Rate = 3.40% n= 1 n= 1 Apple, Inc. YTM 5% 10% 15% 20% 1 28 Time To Maturity years = 1 years=28 $1,949.05 $15,845.98 $1,860.45 $9,808.67 $1,779.57 $6,857.29 $1,705.42 $5,206.82 Caterpillar, Inc. YTM 5% 10% 15% 20% 1 6 Time To Maturity years = 1 years = 6 $1,937.14 $5,994.48 $1,849.09 $5,067.81 $1,768.70 $4,345.48 $1,695.00 $3,773.48 Con-Ed, Inc. Bond Face Value = FV = -$1,000.00 Coupon Payment -$1,039.50 Coupon Rate = 3.95% n= 1 NTRS, Inc. Bond Face Value = FV = -$1,000.00 Coupon Payment -$1,034.50 Coupon Rate = 3.45% n= 1 Con-Ed, Inc. YTM NTRS, Inc. YTM 5% 10% 15% 20% 1 25 Time To Maturity years = 1 years = 25 $1,942.38 $14,945.96 $1,854.09 $9,527.88 $1,773.48 $6,749.86 $1,699.58 $5,153.50 Macy's, Inc. Bond Face Value = FV = Coupon Payment Coupon Rate = n= Macy's, Inc. YTM 5% 10% 15% 20% -$1,000.00 -$1,051.30 5.13% 1 5% 10% 15% 20% 1 2 Time To Maturity years = 1 years = 2 $1,937.62 $2,830.59 $1,849.55 $2,621.86 $1,769.13 $2,437.94 $1,695.42 $2,274.93 Corporate Bond Credit Ratings Apple, Inc. (AAPL) Caterpillar (CAT) 1 24 Consolidated Edison (ED) Time To Maturity Northern Trust (NTRS) years = 1 years = 24 Macy’s (M) $1,953.62 $14,816.58 $1,864.82 $9,547.19 $1,783.74 $6,798.76 $1,709.42 $5,202.96 Moody's S&P Aa1/AA+ A3/A A2/AA2/A+ Baa3/BBB- 46 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report From the above selected corporate bonds, Apple, Con-Ed, and Macy’s have longer maturities which present a greater level of risk, where, Caterpillar, and NTRS have shorter maturity dates which would make the investment less subjected to interest rate risk. Macy’s was also ranked a lower score by the ratings agencies which leaves its bonds more risky to invest in. III. Executive Summary: XYZ Tech Company is seeking potential investment opportunities in the following companies: Apple, Inc. (AAPL), Caterpillar, Inc. (CAT), Consolidated Edison (ED), Northern Trust, Inc. (NTRS), and Macy’s, Inc. (M). The investment analysis report of the aforementio ned consists of information and parameters along with results from financial database research with the goal of generating the maximum rates of return within the given risk class. A. These Investments Will Position XYZ To Generate An Attractive Absolute And Relative Investment Performance. Making these investments will position XYZ Tech Company to generate an attractive level of absolute and relative investment performance. The absolute performance measures the amount of returns that an asset achieves over a given period of time and expressed as a percentage. Apple, Caterpillar, and NTRS, provide the greatest percentages of annual and monthly returns when looking at financial data pulled from the periods January 1, 2014 to May 1, 2018 (Yahoo Finance, 2018). Whereas, Con-Ed and Macy’s were lowest in performance. The investment performance results have shown average annual returns of 25.44%, 19.28%, and 16.75%, and average monthly returns of 0.44%, 0.48%, and 0.31% respectively. Whereas, Con-Ed and Macy’s produced average annual returns of 11.88% and -0.23%, and average monthly returns of 0.99% and -0.02% respectively. When looking at the historical variances, the stocks with the lowest variances typically generate returns that are closer to its average. A stock with a higher variance can generate 47 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report returns that are significantly higher or lower than expected which can increase the level of uncertainty and the risk of losing money. AAPL 2.12% 0.44% 25.44% 5.23% Average Monthly Returns Monthly Variance Average Annual Return Annual Variance CAT 1.61% 0.48% 19.28% 5.77% ED 0.99% 0.27% 11.88% 3.19% NTRS 1.40% 0.31% 16.75% 3.78% M -0.02% 0.98% -0.23% 11.72% Absolute Performance of M, NTRS, ED, CAT, and AAPL from 01/01/2014 to 05/01/2018 Annual Variance Average Annual Return Monthly Variance Average Monthly Returns -5.00% 0.00% 5.00% M 10.00% NTRS ED 15.00% CAT 20.00% 25.00% 30.00% AAPL The relative return on the investments provides insights into the performance of each asset relative to a benchmark which in this case is the S&P 500. The relative returns consider the return of investment less the absolute return of the benchmark. 48 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Relative Return Performance for S&P, AAPL, CAT, ED, NTRS & M from 01/01/2014 to 05/01/2018 20.00% 15.00% 10.00% 5.00% 0.00% -5.00% -10.00% -15.00% S&P 500 AAPL CAT ED NTRS M Average Monthly Returns 0.78% 1.34% 0.83% 0.21% 0.62% -0.80% Monthly Variance 0.08% 0.35% 0.40% 0.18% 0.23% 0.90% Average Annual Return 9.36% 16.08% 9.92% 2.52% 7.39% -9.59% Annual Variance 0.97% 4.26% 4.80% 2.22% 2.81% 10.75% Average Monthly Returns Monthly Variance Average Annual Return Annual Variance B. The Benefits Of The Investments To Stakeholders. There are several benefits to the stakeholders when a corporation invests heavily in stocks, bonds, and other securities. One most significant benefit is that the investments may increase the firm’s overall net worth by taking a portion of the Company’s capital in high-yield securities (John, 2018). There are other defensive protections for the XYZ’s assets by investing in safer funds. This is additionally much safer than investing the firm’s excess cash in a bank, since the FDIC has insurance limitations and any funds in excess may be lost if the bank files for bankruptcy (John, 2018). Investments are also a beneficial source of income during an economic downturn when consumer spending decreases thus leading to a decline in total revenues. Investing some of the firm’s cash into securities provides the corporation with a steady income stream by using securities to generate revenue when normal business activities do not produce as much income (John, 2018). The firm can be protected from an economic downturn by investing some of its assets in securities from other industries and sectors, as well as hedging against a national recession by investing in 49 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report foreign securities or commodities like oil and gold (John, 2018). When revenues are increasing, the firm would have surplus cash in which investments would not suffer greatly in the event that the securities drop in value. On the contrary, significant returns could be generated for the corporation when high risk investments actually rise in value (John, 2018). C. Investment Performance As of May 1, 2018, Apple, Inc. is most likely to outperform the market when compared to the other four investments. In 2017, the Company had Dividends Per Share (DPS) of 2.46 USD which represents an increase when compared to the previous year 2016 of 2.23 and an average growth rate of 9.84 percent. In 2017, Apple’s reported annual EPS was 9.27 per share with a forecasted growth rate of 14.36 percent. In 2017, Caterpillar, Inc. had DPS of 3.10 USD which is an increase from 2016 where DPS was 3.08 and an average growth rate of 6.16 percent. However, during the past three years, the average EPS growth rate was -31.40 percent per year which is a concern that the Company could be losing money. However, EPS in 2018 was 3.68 up from 1.27 in 2017 and a sign of improvement. In 2017, Con-Ed had DPS of 3.10 and performs below the industry average. The Company’s average DPS growth rate is approximately 6.16 percent. In 2017, Con-Ed reported annual EPS of 4.97 which was an increase when compared to 2016 where EPS was 4.15 and an average growth rate of 4.11 percent. Overall the Company performs lower than the industry average mainly due to its location in a heavily regulated environment of New York. In 2017, Northern Trust had 2017 DPS of 1.60 which increased from 1.48 in 2016 and has an average growth rate of 6.81 percent. The Company reported annual 2017 EPS of 4.59 which is an increase when compared to 4.35 in 2016 and an average growth rate of 3.88 percent. Macy’s is the lowest performing stock in the portfolio with 2017 DPS of 1.51 up slightly from 2016 where DPS were 1.49, and has an average growth rate of 12.45%. EPS have shown a steady decline for 50 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report the past three years 2015, 2016, and 2017 which were 4.30, 3.26, and 2.01 respectively, and a negative growth rate. The following revenue forecasts show growth metrics for Apple, Caterpillar, Con-Ed, Northern Trust, and Macy’s. Forecasted Revenue Earnings Growth for AAPL, CAT, ED, NTRS, & M 40.00% 30.00% 20.00% 10.00% 0.00% -10.00% -20.00% -30.00% -40.00% 2017 2018 2019 2020 5 Years AAPL 9.27% CAT -30.06% 11.43% 1.70% 5.05% 10.89% 3.64% 30.79% 0% 4.25% ED NTRS 4.07% 4.23% 3.38% 0% 4.00% 34.63% 6.68% 8.25% 0% 11.66% M -13.26% 6.42% 5.60% 0% 8.50% AAPL CAT ED NTRS M In 2017, both Northern Trust and Apple experienced the highest levels of revenue growth with rates of 34.63 percent and 9.27 percent respectively, where Con-Ed had the lowest growth rate of 4.07 percent, where both Caterpillar and Macy’s had negative growth rates of -30.06 percent and -13.26 percent respectively (Nasdaq, 2018). In five years from now, NTRS, Apple, and Macy’s are expected to have the highest growth at rates in the portfolio of 11.66 percent, 10.89 percent, and 8.50 percent respectively (Nasdaq, 2018). The following analysis and forecasts show price to earnings ratio (P/E) metrics for Apple, Caterpillar, Con-Ed, Northern Trust, and Macy’s. 51 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Forecasted Price/Earnings Ratios for AAPL, CAT, ED, NTRS, & M 25 20 15 10 5 0 AAPL CAT ED NTRS M 2017 20.72 22.26 17.89 22.14 11.27 2018 16.71 14.29 18.35 16.45 12.99 2019 14.95 12.8 17.42 15.41 12.21 2020 13.55 11.81 16.66 14.24 11.55 2017 2018 2019 2020 The P/E ratio is the ratio used for valuing the Companies’ current share price relevant to its EPS. In general, higher ratios suggest that investors will expect higher earnings growth in the future when compared to other Companies in the portfolio. In theory, the median of P/E over a period of years could formulate a standardized ratio which could be used as a benchmark in order to determine which stocks should be invested in. In this case, Con-Ed, NTRS, and Apple had the highest median P/E ratios of 17.66, 15.93, and 15.83, where Caterpillar and Macy’s had the lowest median ratios of 13.55 and 11.88 respectively. D. Investment Performance Based On Risk/Return Metrics. One of the key principles of investing is the risk-return tradeoff which is defined as the correlation between the level of risk and the level of potential return of the investment (Horton, 2018). By accepting a higher level of risk or volatility, it is likely that there will be a greater potential for higher returns. When constructing the portfolio, the beta, the standard deviation, and the Sharpe ratio metrics were evaluated in order to minimize risk and maximize returns. For an optimal risky portfolio, it is recommended that higher weightings be allocated toward Apple and 52 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report Caterpillar since the betas were 1.11 and 1.59 respectively. A beta of 1 means that the underlying investments move in line with the market index, which in this was the S&P 500. Although a higher beta would result in more volatility than the S&P, it is likely that these two companies would produce the highest returns. The remaining companies in the portfolio, Macy’s, Consolidated Edison, and NTRS, had betas below one which has fewer fluctuations over time and the least amount of risk, meaning that returns would be lower as a result of less volatility. In addition to beta, the standard deviation was calculated to show its volatility and risk-reward trade-off. The standard deviation of the constructed portfolio was generally lower than the standard deviation for each of the individual investments aside from Macy’s which was slightly above, which is a sign that risk would be minimal due to the diversification benefits of investing in multiple stocks. The Sharpe Ratio of 1.52 compared the performance of a risk-free investment using the three-month T-Bill. Since the ratio of the portfolio was maximized to greater than 1, it depicts a return that is greater than expected for the level of risk assumed (Horton, 2018). E. The Strategies In The Portfolio Meet XYZ’s Investment Objectives. The strategies in the portfolio meet XYZ’s investment objectives because it reduces risk by selecting a variety of stocks and bonds that are likely to change in value in different ways or at different times. The process under MPT is known as diversification which means taking on advantages of the differences in risks among the investments in Apple, Consolidated Edison, Caterpillar, Northern Trust, and Macy’s. These investments tend to change in value and at varying times and directions. Therefore, since the portfolio consists of several types of investments, only a smaller percentage of value would be lost as opposed to investing in only one company. Through a diversified portfolio, the severity of any losses would be reduced which would maximize the total return on investment. Overall, the optimal risky portfolio structure diversifies the investme nts 53 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report while also providing the highest returns on the best investments, though it may risk losing value under opposite conditions. However, the risks would be offset by investing in other companies that may perform well under the same conditions. Furthermore, combining stocks with bonds will further minimize risks since stocks tend to move in the opposite direction of bonds when interest rates change under the same conditions. 54 Fin 640: Final Project: XYZ Tech Company: Investment Analysis Report References: Alvarez, S. (2018). What is the intrinsic value of a stock? Investopedia. Retrieved from: https://www.investopedia.com/articles/basics/12/intrinsic- value.asp Brick, J. (2018). 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