Stock Valuation
Target Corp (Ticker: TGT)
As of 02/03/2025
As a new analyst for a large brokerage firm, you are anxious to demonstrate the skills you learned in
the GWI Summer Intensive program and prove that you are worth your attractive salary. Your first
assignment was to analyze Columbia Sportswear's stock using the dividend discount model and
comparables method. Now, your boss asks you to determine Target Corporation's price based on the
discounted cash flow method.
1. Data Collection
Go to MorningStar (https://www.morningstar.com) and get the quote for Target
Corporation (symbol: TGT).
a. Under "Financials," click on the income statement. The income statements for the last
three fiscal years will appear. (Be sure to select the "Restated" tab rather than "As
Originally Reported.”) Using the "Export Data" tab, export the entire five years of
(annual) income statements into a new worksheet in your existing Excel file.
b. Repeat this process for the Balance Sheet. Go back to the Web page and select
"Balance Sheets" from the top of the page. Repeat the download procedure for the
balance sheets, then copy and paste them into the same workbook as the income
statements.
c. Select the "Chart" tab at the top and find Target's stock price on the date of the
analysis. Record the stock price in your spreadsheet.
2. Forecasting Free Cash Flows
a. Using the historical data from the financial statements, compute the following (use
the average of the five years to forecast the next six years):
i. Sales Growth
ii. EBIT / Sales
iii. Net Working Capital (excluding cash) / Sales
iv. Net Property Plant and Equipment/Sales
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v. Depreciation / Sales
b. Create a timeline for the next six years.
c. Forecast future sales based on the average of the last five years. Use a long-run growth
rate of 3% for year six.
d. Under the assumption that the ratios in part a remain constant, use the average ratios
computed in part a to forecast EBIT (Sales x EBIT to Sales ratio), Increases in NWC
(change in sales x NWC to Sales ratio), Net Investment (change in Sales x Net PPE
to Sales), and Depreciation (Sales x Depreciation to Sales ratio) for the next six years.
e. Forecast free cash flow for the next six years. You can use the current corporate tax
rate of 21%.
3. Determine the WACC
a. Cost of debt, rD
There are alternative ways to estimate the cost of debt:
i. Go to https://www.finra.org/finra-data/fixed-income/corp-and-agency and
click to search by Issuer Name. (search for Target Corp). Find the yield to
maturity of long-term bonds.
ii. Look at the average credit rating for Target's long-term bonds. Go to
https://www.hussmanfunds.com/html/datapage.htm and find the bond yield
corresponding to Target's bond rating. If you scroll down, you will find
Moody's Aaa and Baa Corporate Bond Yield (daily). Look up the yield on the
date of analysis.
iii. Decide on what cost of debt to use.
b. Cost of equity, re
There are different ways to estimate the cost of equity. One may use a dividend discount
model, historical returns, and/or CAPM.
i. Using historical returns
•
As one estimation of the cost of equity, you may find out what the
historical returns have been on your stock. The idea behind this is that
historical returns may be a good estimate of what returns the investors
in your stock require on their investment. There is a tradeoff when
finding the right length of time to measure historical returns. You
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would like a long horizon to partially offset the variability in stock
returns and measure the long-term required return. However,
companies often evolve over time so that their risk characteristics
change over long periods of time; in these instances, recent returns may
be a better indication of investor return requirements corresponding to
the new risk level of the stock.
•
Go to Yahoo! Finance (http://finance.yahoo.com) and get the
quote for Target Corporation (symbol: TGT). Click "Historical
data" in the left column and download the historical prices.1 You can
enter your range of dates and frequency of data and have the
information downloaded into Excel. You will need the column of data
in the Yahoo output labeled "adjusted close," which accounts for
dividends.
•
Report historical average annual returns for the past three, five, and
ten years. To find these, follow these instructions:
Let's assume you are using the last ten years' data. Find the annual return for each of the past ten years.
To do this, use the adjusted close column of prices2 for your stock and use the following formula to
figure returns:
This Period's Return =
This Period's Price- Last Period's Price
Last Period's Price
So, suppose we are doing this analysis on June 1, 2023. To find the return for the past year, you would
take
This Year's Return =
June 1, 2023 Price - June 1, 2022 Price
June 1, 2022 Price
1 You don’t need to pay to download the data. Simply select the data you want to use, copy it, and paste it into a blank
Excel spreadsheet. You may want to clean the dataset by removing any unnecessary rows, such as those showing
dividend payments.
2 Use the Adjusted Close column of data, since this column adjusts for stock splits and dividends.
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To find the return for the year before that,
Last Year's Return =
June 1, 2022 - June 1, 2021 Price
June 1, 2021 Price
And so on. Repeat this for each of the past ten years.
To find the three-year, five-year, and ten-year average annual returns, just take the average of the
annual returns from that period.
Decide about which is the best horizon to measure the cost of equity. Justify your choice.
ii. CAPM
To use CAPM, you need several components: the risk-free rate, the market risk premium, and the
beta of your stock.
Risk-free rate:
In class, we discussed the tradeoffs for choosing a security to proxy for the risk-free asset. Choose a
security as a proxy for the risk-free asset, and justify your choice.
Suppose
you
pick
a
treasury
paper
as
a
risk-free
asset.
You
can
go
to
https://www.hussmanfunds.com/html/datapage.htm. If you decide to use the spot rate, use the rate
as of the date of the analysis. If you think you need to "normalize" the rate, then use the historical
average.
Market risk premium
We also discussed the market risk premium in class. Using the class notes, estimate the future market
risk premium and justify your estimate. If you would like to use the historical market premium as a
proxy for the future market risk premium, you need to find the historical returns on the market and
the risk-free asset you picked in the previous step.
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Beta
While your stock has some true value of beta, we can't directly observe what this beta is. Because of
this, we have to estimate the beta. Unfortunately, different ways of estimating beta tend to give quite
different results. First, find a few beta estimates from sources like Yahoo! Finance, zacks.com,
Bloomberg etc. Each of these sites calculates beta differently, and you will find that the beta estimates
differ, sometimes significantly. As we discussed in class, beta can also be estimated as the coefficient
of regression of stock returns on market returns (actually, this is the same way that Yahoo and other
sites calculate beta as well). Here, we again have choices. You can use different frequencies of data
(i.e., daily, weekly, monthly), and you can choose the length of your time frame (i.e., one year, three
years, five years). More frequent data gives you more data points, so you can decrease your time frame
to include only recent history, which may be more representative of company risk in the future.
However, using more frequent data increases the noise component of your results and decreases the
reliability of your estimates. Less frequent data has less noise, but we need to increase the time frame
to get enough data points to run a valid statistical analysis (usually, we like to have at least 50 or 60
data points for a regression). For companies that have experienced recent changes in the level of firm
risk, a shorter length of time may be preferable. In contrast, for companies with fairly constant risk,
we would probably prefer to eliminate the noise and use lower-frequency data. Decide which
combination of frequency and length is most appropriate for your company. You may want to
consider whether your company has undergone any major changes recently that would affect its risk
characteristics. Justify your choice for a length of time based on the characteristics of your company.
How many data points will be in your regression? Is this enough for a valid statistical analysis? Use
the following instructions to estimate beta using these parameters.
Estimating Beta by Regression
Please note that you need the beta estimate as of the date of the analysis.
Begin by downloading historical prices for your stock and the market index. It is common to use
S&P500 as the market index. You already downloaded the data for your stock in Part 3. To download
the data for the market index, go to https://www.investing.com to get the quote for S&P500 index
(symbol: SPY). Click on the Historical Data tab. You can enter your range of dates and return interval
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and have the information downloaded into Excel. Make sure that you request the same set of dates
for both the index and your security. Once you download the historical prices into Excel, compute
the returns for each period for each security.
To calculate beta, you need to run the following regression model:
Ri = a + bRm + e
Where Ri = the period (daily, weekly, monthly, annual etc..) return on your stock
a = the regression intercept
b = beta
Rm = the period(daily, weekly, monthly, annual etc..) return on the S&P500 index
e = the regression error component
This looks complicated, but it is actually a very simple procedure to do in Excel. First, you will need
to turn on the regression analysis package in Excel.
a. Click on "File", "Options", "Add-Ins".
b. Find "Manage" "Excel Add-ins" and click on "Go"
c. When the dialogue box appears, check the two boxes for the add-ins labeled "Analysis
Toolpak" and "Analysis Toolpak – VBA". Then click "OK".
d. Click on "Data Analysis."
e. Another dialogue box will appear, asking you which data analysis package you want to use.
Scroll down and click on "Regression". Click "OK".
f. You will then need to fill in the regression parameters. The only thing you should have to
worry about is the X and Y variable data ranges.
X Variable = cell range for S&P500 returns
Y Variable = cell range for your stock's returns
Always make sure that your time periods match up in any regression of returns. For example,
make sure your August 2021 return for the S&P500 matches the August 2021 return for your
stock in the columns used for your regression. If the time periods don't match up, you typically
get a regression coefficient of about zero, so just be aware that this is something to look for.
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g. After entering the data ranges, click "OK," and your regression results should appear on a
separate sheet in your Excel worksheet. The beta will be the numbers labeled the
coefficient on the X variable (see the regression equation above).
h. Check the statistical quality for your estimation.
Note on regression betas: if you get a beta from your regression that is very close to zero
(e.g., 0.002106 or -0.0001683), you likely made an error. Compare your beta estimate with
the one on Yahoo Finance (or Bloomberg).
Once you have all of your estimates for the risk-free rate, beta, and market premium, use CAPM to
estimate a cost of equity. Compare your estimate with your cost of equity estimate using historical
returns. Decide on what cost of debt to use.
c. Determine the values for E and D for Target and the debt-to-value and equityto-value ratios.
i. We will use the book value of debt as a proxy for the market value of debt. To
compute the net debt for Target, add the long-term debt and the short-term
debt and subtract cash and cash equivalents for each year on the balance sheet.
ii. You need to obtain the number of shares outstanding at the date of the
analysis. You can find the number of shares outstanding on the Cover Page of
the
firm's
latest
10-K
document.
To
do
so,
go
to
https://www.sec.gov/edgar/searchedgar/companysearch , and enter Target's
ticker in the search box. If the information is not available on the front page,
you may find the number on the Statement of Shareholders' Equity. Note that
the amount must be in shares (not in dollars). Multiply the historical stock
price by the number of shares outstanding you collected to compute Target's
market capitalization as of the date of the analysis.
d. Compute the WACC for Target
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4. Determine the stock price
a. Estimate the terminal enterprise value in year five using the free cash flow in year six
and WACC.
b. Determine the enterprise value of the firm as the present value of the free cash flows.
c. Determine the stock price (i.e., intrinsic value of one stock).
d. Compare your result to the actual stock price you found in step 1c. What assumptions
might you change to justify this price?
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