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Finance and Investment Organization

Finance and Investment Organization. Meeting #3 September 28, 2000. Agenda. Markets Review Stock Analysis Partnership Agreement Review Logistics. Dow Jones Industrial. Thursday Opening – 10680.52 Wednesday Closing – 10628.36 Down 0.5% for the week. NASDAQ. Thursday Open - 3864.60

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Finance and Investment Organization

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  1. Finance and Investment Organization Meeting #3 September 28, 2000

  2. Agenda • Markets Review • Stock Analysis • Partnership Agreement Review • Logistics

  3. Dow Jones Industrial Thursday Opening – 10680.52 Wednesday Closing – 10628.36 Down 0.5% for the week

  4. NASDAQ Thursday Open - 3864.60 Wednesday Close - 3656.30 Down 5.8% for the week

  5. S&P500 Index Thursday Open - 1451.34 Wednesday Close - 1426.57 Down 1.7%

  6. Dow Jones Industrial Average • Oldest continuing US market index • First average was 40.94 on May 26, 1896 • Originally computed by summing the prices of 12 railroad stocks and dividing by the number of stocks. • 30 stocks first used in 1928. Same number ever since • List of stocks changes periodically

  7. Dow Stocks • International Business Machines Corp. • Intel Corp. • International Paper Co. • J.P. Morgan & Co. • Johnson & Johnson • McDonald's Corp. • Merck & Co. • Microsoft Corp. • Minnesota Mining & Manufacturing Co. • Philip Morris Cos. • Procter & Gamble Co. • SBC Communications Inc. • United Technologies Corp. • Wal-Mart Stores Inc. • Walt Disney Co. • Alcoa Inc. • American Express Co. • AT & T Corp. • Boeing Co. • Caterpillar Inc. • Citigroup Inc. • Coca-Cola Co. • DuPont Co. • Eastman Kodak Co. • Exxon Mobil Corp. • General Electric Co. • General Motors Corp. • Home Depot Inc. • Honeywell International Inc. • Hewlett-Packard Co.

  8. Dow Jones Industrial Average • Most recent change – Nov 1, 1999 • Removed Union Carbide, Sears, Goodyear, and Chevron • Replaced with Intel, Microsoft, SBC Communications, and Home Depot • Each company has same weight in index regardless of market capitalization

  9. Nasdaq • Index based on all 4400 companies that trade on the NASDAQ stock exchange • Predominantly newer and smaller companies • Market capitalization based index • Bigger companies have a greater weighting on the movement of the index

  10. S&P500 Index • A market capitalization based index composed of the 500 biggest companies in America. • Represents about 80% of the total market capitalization on all US markets. • One of the broadest and best indicators of the stock market’s performance • Wilshire Market Index – total market index http://university.smartmoney.com/departments/investing101/stocks/index.cfm?story=largecaps

  11. Movers of The Stock Market • Earnings/Revenues Warnings • – Intel, Priceline, Eastman Kodak, Guess • Recall that price of a stock is ultimately dependent on the stream of future earnings. • Weakness of the Euro • American companies report their earnings in dollars. Changing exchange rates can affect their earnings by a large amount. • January 1999 – 1 Euro = $1.17 • September 2000 – 1 Euro = $0.85

  12. Market Movers • Oil prices • $37.80/barrel late last week. • $8-10 last year • Risk of global recession • Release of US Strategic Petroleum Reserve and OPEC production hikes • Inflation • Calculation error • Effect on the Federal Reserve

  13. Stock Analysis

  14. COSTCO WHOLESAL (NasdaqNM:COST) - More Info: News , Msgs , Profile , Research , Insider , Options Last TradeSep 27 · 34 9/16 Change+3/4 (+2.22%) Prev Cls33 13/16 Volume3,937,500 Div DateJan 13, 2000 Day's Range33 15/16 - 34 13/16 Bid34 1/8 Ask34 3/4 Open34 1/8 Avg Vol4,892,545 Ex-DivJan 14, 2000 52-week Range25 15/16 - 60 1/2 Earn/Shr1.25 P/E27.05 Mkt Cap15.449B Div/ShrN/A YieldN/A Quote Details

  15. URL’s for Reports • http://www.bjsinvestor.com/news/20000815-21698.cfm • http://www.walmartstores.com/newsstand/archive/prf_000809_2ndqtr.shtml • http://quicken.elogic.com/sec_grab.asp?ticker=COST&faddr=edgar%2Fdata%2F909832%2F0000912057%2D00%2D028647%2Etxt&fkey=0000912057%2D00%2D028647&ftype=10%2DQ

  16. Costco Wholesale Corporation • Began operations in Seattle, WA in 1983 • Merged with The Price Company in 1993 • Operates a chain of membership warehouses that sell high quality, nationally branded or selected private label merchandise at low prices to businesses for resale and to individuals. • Business based on high sales volume and rapid inventory turnover

  17. Warehouses • 312 warehouses • 237 in 27 states in the US • 59 in 9 provinces in Canada • 18 in Mexico with a joint partner • 9 in the United Kingdom • 3 in Korea • 3 in Taiwan • 1 in Japan

  18. Financials • Sales increased 13% to $27.46 billion in fiscal 1999 • Operating income increased 16% to $860 million • Net income increased 12% to $515 million

  19. Major Competitors

  20. Time is Money • Two ways to make money • Cash Kings rely on high margin businesses. • Focus on making more money • Recall high gross and net margins of INTC last week • Merchant Kings rely on rapid inventory turnover • Focus on using less time • We will see this with COST this week

  21. Some Math • A distributor with faster inventory turnover can thrive with a lower profit margin because they make profit more often and compound their earnings more rapidly • 30% profit compounded 4 times = 2.86 times original amount • 15% profit compounded 8 times = 3.06 times original amount

  22. Businesss Model • Steal customers from competitors by offering lower prices • Fend off competitors by offering low costs, economies of sales, and customer loyalty

  23. How does Costco do this? • No stores – customers come to warehouse • No bags – boxes instead • No fancy displays – pallets instead • No advertising – word of mouth instead • No directional signs – more browsing • Limited hours – Open only 68 hours a week • If price exceeds cost by 14% alert triggered. Management is dedicated to passing the savings to the consumer • Kirkland brand puts pressure on their suppliers

  24. Consumer Profile • Average check - $95 per visit • Stable for the past five years • Trip frequency has doubled • Once every three weeks in 1995 • Once every ten days in 1999 • Membership Renewal Rate • 85% for individuals • 97% for small businesses • 30 million members in North America

  25. Costco Store Sales Data

  26. Why So Happy? • Low prices for high quality/high end merchandise. • Surprises – always changing inventory. • Only 4000 different products per store. • Compare to 40,000 for a supermarket and 125,000 for a Wal-Mart SuperCenter • Keeps customers coming back so they don’t miss something • Costco shops for them by searching for the best at the best price.

  27. Days Inventory Outstanding (DIO) • How long would it take to sell all the inventory of a company? • DIO = Average Inventory x # Days in Period for CGS Cost of Goods Sold For Costco = $2.367 Billion x 84 days / $6.768 Billion = 29 days for Q2 2000 For Wal-Mart = $31.093 Billion x 91 days / $36.044 Billion = 79 days for Q2 2000 For BJ’s = 40 days for Q2 2000 We want this to be as low as possible

  28. Days of Sales Outstanding (DSO) • DSO = Accounts Receivable/(Sales/# Days) • A low number means that a company is quickly collecting its receivables from its customers and not giving out long term interest free loans. • COST = $0.166 Billion / ($6.768 Billion/84) = 2.06 days • WMT = $1.249 Billion / ($46.588/91) = 2.44 days • BJ = 3.92 days We want this as low as possible.

  29. Days Payable Oustanding (DPO) • DPO = Accounts Payable/(Cost of Goods Sold /# days) • How long is it taking the company to pay its suppliers? • COST = $2.01 Billion/($6.08 Billion/84) = 28 days • WMT = $12.63 Billion/($36.04 Billion/91) = 32 days • BJ = 27 days We want this as high as possible.

  30. Cash Conversion Cycle (CCC) • CCC = DIO + DSO – DPO • What does this mean? • How long it takes to purchase a raw material, convert it into finished goods, sell the finished good and get paid for it. COST WMT BJ Days Sales Oustanding (DSO) 2 2 4 Days Inventory Outstanding (DIO) 29 79 40 Days Payable Outstanding (DPO) (28) (32) (27) = Cash Converstion Cycle (CCC) 3 49 17

  31. Sales, General, and Administrative Expenses (SG&A) • As a percentage of sales, we want this to be as low as possible COST = $0.605 Billion / $6.769 Billion = 8.93% WMT = $7.625 Billion / $46.588 Billion = 16.37%

  32. Inventory Shrinkage • Basically shoplifting by customers or embezzling by employees. More accessible than cash. • On average 2.4% for discount stores but as high as 5% for department stores • 0.5% at Costco. • Big items are hard to steal. • Good checkers at the door. • Happy customers

  33. Future Growth • Only 237 US stores right now • 450 for Sam’s Club, 750 for Home Depot • No stores in Texas and much of Midwest • International expansion • 25 stores this year • 40 in 2001 • Older stores do more business

  34. New Initiatives • Ancillary businesses • Pharmacy, optical dispensing centers, photo developing, print shops, copy centers, gas stations, food courts, hearing aid centers. • Costco.com • 2 million registered members • $60 million in sales this year and profitable • Co-branded card with American Express • First co-branded card for American Express • Additional convenience. Typically only cash and check.

  35. Current Stock Prices Price to Earnings Growth Ratio = PE Ratio / Earnings Growth Rate

  36. More Ratios • Price to Earnings Growth Ratio = PE/Growth • Companies with high growth rates tend to attract more investors. • Indicator for how much investors are willing to pay for each percentage of growth • Price to Sales Ratio = Price/Sales Per Share • Often easier calculated by market cap/total sales • Alternate form for valuing companies from P/E particularly for companies with no earnings or losses • Earnings not always believable. Can be managed or have unusual items. E.g. writeoffs, accounting adjustments, goodwill.

  37. Even More Ratios • Price to Cash Flow = Market Cap/Annual Cash Flow • Cash flow is the real cost of doing business. Certain expenses in the income statement are not cash outlays. E.g. depreciation • Price to Book Value = Stock Price/Book Value Per Share • Book value is what would be left if all the companies assets were sold, its liabilities paid off, and debt retired. • Better for traditional industries not technology companies

  38. Comparison

  39. Stock Charts from MoneyCentral • 1 year • 3 year • 5 year • Relative bargain – prices not seen since early 99. • Market cap only $15.5 billion. Compare to WMT - $215 billion.

  40. Rulemaker Review • See spreadsheet on web page

  41. Logistics • Key Points • 6. No partner’s share may exceed 20% • 9. Decisions require 2/3 majority based on assets not people • 16. Maximum number of partners is 40. Addition requires unanimous consent • 17. Removal of partner and termination of partnership requires 2/3 majority. • 20. Terms of payment. 97% of value or value minus costs whichever is less within 10 days

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