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University of California, San Diego Alex Allphin, Brandon Blanchard, Chris Kwok, Sherry Pan, Vincent Lo

CALLAWAY GOLF COMPANY (NYSE:ELY). CFA Global Investment Challenge February 19 th , 2014. University of California, San Diego Alex Allphin, Brandon Blanchard, Chris Kwok, Sherry Pan, Vincent Lo. BUSINESS DESCRIPTION. BUSINESS DESCRIPTION.

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University of California, San Diego Alex Allphin, Brandon Blanchard, Chris Kwok, Sherry Pan, Vincent Lo

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  1. CALLAWAY GOLF COMPANY (NYSE:ELY) CFA Global Investment Challenge February 19th, 2014 University of California, San Diego Alex Allphin, Brandon Blanchard, Chris Kwok, Sherry Pan, Vincent Lo

  2. BUSINESS DESCRIPTION

  3. BUSINESS DESCRIPTION • Golf Manufacture: Hard Goods, Soft Goods, Golf Balls • Global Business • ExperiencingFourConsecutive Years of Diminishing Sales, and Negative Bottom Line • New CEO, Chip Brewer, Initiated Turnaround Effort • Initiatives • Drive change in corporate culture • Refocus on the core business • Stabilizing market share • Reducing cost structure • Restructuring Sales Organization • Strengthening Retail Relationships • Strengthening Global Tour Staff • Strengthening Social Media Presence • Releasing More Products Sales Breakdown By Product Sales Breakdown By Region Sources: SEC Filing Business Description Investment Thesis Industry & Competitive Analysis Financial Analysis & Valuation Investment Risk

  4. INVESTMENT THESIS

  5. INVESTMENT THESIS Key Point: Qualitative and Quantitatively, We Do Not Expect Huge Fluctuations in Stock Price over the Next Twelve Months Target Price: $8.57 Business Description Investment Thesis Industry & Competitive Analysis Financial Analysis & Valuation Investment Risk

  6. INDUSTRY AND COMPETITIVE ANALYSIS

  7. INDUSTRY OVERVIEW INDUSTRY OVERVIEW: MATURE CYCLICAL INDUSTRY Current Market • Diminishing Number of Participants • Slow Growth in Golf Equipment Spending Projected Golf Industry Growth vs Projected GDP Growth Consumer Spending on Golf Equipment (US) Narrow Future Prospects • Trailing the Economy and the Luxury Goods Industry • Projected Industry Growth Trails Projected GDP Growth Sources: IMF, U.S. Congressional Budget Office, Callaway Business Description Investment Thesis Industry & Competitive Analysis Financial Analysis & Valuation Investment Risk

  8. COMPETITIVE ANALYSIS Turnaround Objective: Stabilize Market Share and Build Up Growth Momentum ELY Market Share Growth % Sources: Callaway Business Description Investment Thesis Industry & Competitive Analysis Financial Analysis & Valuation Investment Risk

  9. FINANCIAL AND VALUATION ANALYSIS

  10. FINANCIAL ANALYSIS Restructuring and Cost Reduction Initiatives at Callaway: • Workforce Reductions • Sale of Non-Core Product Lines • Reorganization of Manufacturing and Distribution • Improved Debt structure: ISSUED: 3.75% Convertible Senior Notes RETIRED: 7.5% Convertible Preferred Stock Business Description Investment Thesis Industry & Competitive Analysis Financial Analysis & Valuation Investment Risk

  11. FINANCIAL ANALYSIS • Decreases in Net Sales Outpacing Decreases in Cost of Sales • GPM Forecasted to Improve 2014 and Beyond HIGH: 44% LOW: 30% Net Sales Cost of Sales Sources: SEC Filing, Student Research Business Description Investment Thesis Industry & Competitive Analysis Financial Analysis & Valuation Investment Risk

  12. FINANCIAL ANALYSIS Improving Operating Margins • SG&A Expenses Decreased by 28%From 2011-12 • Advertising Expenses have Increased Every Year Since 2009, and Grew by 23%From 2011 to 2012 Sources: SEC Filing Business Description Investment Thesis Industry & Competitive Analysis Financial Analysis & Valuation Investment Risk

  13. VALUATION Comparable Companies Universe • Source: Capital IQ, Student Research • Source: Student Research Business Description Investment Thesis Industry & Competitive Analysis Financial Analysis & Valuation Investment Risk

  14. VALUATION Comparable Company Analysis – Multiples • Source: Capital IQ, Student Research Business Description Investment Thesis Industry & Competitive Analysis Financial Analysis & Valuation Investment Risk

  15. VALUATION • Discounted Cash Flow Analysis– Assumptions Projected Revenue Gross Profit Margin • WACC Calculations Source: Student Research Capital Asset Pricing Model Source: Student Research Sources: Company Filing, Student Research Business Description Investment Thesis Industry & Competitive Analysis Financial Analysis & Valuation Investment Risk

  16. VALUATION • Discounted Cash Flow Analysis– Assumptions • REVENUE FORECAST • 2013: $836 MM • 2014: 6% Compared with the 10% Forecast On the Street • 2015 – 2017: 4% Straightline • GROSS PROFIT • 2013: 38.5% • 2014 – 2017: 40% Straightline • OPERATING EXPENSES • 2013: 38.3% • 2014 – 2017: 34.5% Straightline • INVENTORIES • Shorter Product Life Cycle -> Increase in Inventory (38%) • WACC • 8.88% • TERMINAL VALUE • Perpetuity Growth Rate: 4.7% (GDP Predictions for the Year 2017) Business Description Investment Thesis Industry & Competitive Analysis Financial Analysis & Valuation Investment Risk

  17. VALUATION • Summary • Weighed More Heavily Toward DCF Model Due to Lack of Direct Comparable Companies • Market Has Already Fairly Valued Callaway Stock 60% Perpetuity Growth $ 7.53 Target Price: $8.57 40% Comparable $10.12 Business Description Investment Thesis Industry & Competitive Analysis Financial Analysis & Valuation Investment Risk

  18. INVESTMENT RISK

  19. INVESTMENT RISK Remote Occasional Probable Probability Negligible Marginal Critical Impact Business Description Investment Thesis Industry & Competitive Analysis Financial Analysis & Valuation Investment Risk

  20. INVESTMENT RISK Sources: SEC Filing, Student Research

  21. CONCLUSION

  22. CONCLUSION Recommendation: HOLD Extremely Competitive Marketplace Industry Growth Trails GDP Growth Effective Turnaround Strategy Improved Product and Marketing Strategy Target Price: $8.57

  23. THANK YOU

  24. Q & A

  25. Q & A Presentation Slides Business Descriptions: Business Descriptions Investment Thesis: Investment Thesis Industry and Competitive Analysis: Industry Overview Competitive Analysis Financial Analysis and Valuation: Financial Analysis Reconstruction and Cost Reduction Initiative Net Sales and Cost of Sales Operating Margin Valuation Comparable Company Universe Comparable Company Analysis – Multiples Discounted Cash Flow Analysis – Assumptions Discounted Cash Flow Analysis – Assumptions II Summary Investment Risk: Investment Risk Chart Investment Risk Conclusion: Conclusion

  26. APPENDIX Appendix Slides Investment Thesis: Business Description: Company Profile and Key Ratio Sales Breakdown Sales Breakdown 2 Industry and Competitive Analysis: Brand Rating Number of Golfers in U.S. and Europe Luxury Goods Market vs Golf Market Growth Golf Company Profiles SWOT Analysis Porter’s Five Forces Index of Consumer Sentiment Financial Analysis and Valuation: Financial Analysis Net Income Disaggregation Pro Forma Key Financial Ratios Pro Forma Income Statement Pro Forma Balance Sheet Pro Forma Cash Flow Statement Cash Flow Outlook Efficiency and Profit Margin Valuation Perpetuity: Sensitivity Analysis DCF: Key Assumptions Comparable – Key Ratios Discounted Cash Flow Analysis – Build Up Investment Risk: Investment Risk Chart Conclusion: Miscellaneous: Stock Price Timeline

  27. COMPANY PROFILE & KEY RATIOS Resources: SEC Filing

  28. BRAND RATING

  29. NUMBER OF GOLFERS IN EUROPE AND U.S.

  30. GOLF COMPANY PROFILE Sources: Student Research

  31. SWOT ANALYSIS

  32. PORTER’S FIVE ANALYSIS Resources: Student Research

  33. EFFICIENCY & PROFIT MARGIN Efficiency and Profit Margin Show Improvement Select Financial Ratios, Actual and Projected Sources: SEC Filing

  34. DISCOUNTED CASH FLOW – BUILD UP

  35. 2012 NET INCOME DISAGGREATION Sources: SEC Filing, Student Research

  36. COMPARABLE KEY RATIOS Figure 1: Comparable Company Analysis • Source: Capital IQ Figure 2: Comparable Company Key Ratios Source: Capital IQ

  37. SENSITIVITY ANALYSIS Resources: Student Research

  38. STOCK PRICE TIMELINE Sources: Yahoo Finance, Google Finance

  39. INVESTMENT RISK CHART Sources: SEC Filing, Student Research

  40. SALES BREAKDOWN Figure 1: 2012 Sales Breakdown by Product Figure 2: Sales Breakdown By Country Source: Callaway Sources: SEC Filing, Student Research

  41. SALES BREAKDOWN Sources: SEC Filing Sources: SEC Filing, Student Research

  42. INDEX OF CONSUMER SENTIMENT Sources: University of Michigan

  43. PRO FORMA FINANCIAL RATIOS Sources: SEC Filing, Student Research

  44. PRO FORMA INCOME STATEMENT Sources: SEC Filing, Student Research

  45. PRO FORMA BALANCE SHEET Sources: SEC Filing, Student Research

  46. PRO FORMA CASH FLOW STATEMENT Sources: SEC Filing, Student Research

  47. LUXURY GOOD MARKET VS GOLF INDUSTRY Sources: SEC Filing, Student Research

  48. DCF: KEY ASSUMPTIONS

  49. CASH FLOW OUTLOOK Cash Flow Outlook Improving • 18.4 CapEx Spending • 26.9 M from Asset Sales • 46.8 M Proceeds from Convertible Notes • 11 M Dividends Paid • 122.9 Net Loss from Operations • Positive Future Net Income • Increasing CapEx Spending • Steady Dividend Maintained Sources: SEC Filing

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