IB3960 Financial Statement Analysis & Security Valuation Summer 2020

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IB3960 Financial Statement Analysis & Security Valuation

Summer 2020

LEVEL 6 Open Book Assessment (1.5 hours)

You recently graduated from Warwick Business School and joined JP Stanley as a sell-side analyst. Your first assignment is to value Volvo Plc. After working on the information available for Volvo Plc, you produced the following summary forecasts for Volvo Plc for the next three years (all figures in £ million):

                                                                            2020               2021               2022

Sales                                                                     840                1000               1100

Operating profit (after tax)                                       25                   35                   60

Net operating assets at beginning of year                  420                 500                 550

You expect asset turnover (based on beginning of year net operating assets) to remain constant at 2.0 for all future years and have estimated Volvo Plc to have a weighted average cost of capital of 10%. After 2022, you expect sales revenue will grow at 2% per annum and that operating profit margin and return on net operating assets will remain constant at their 2022 level.

Your head of equity research is very impressed with your summary forecasts. However, she wanted some clarifications of the forecasting process.

She asked you to write an internal report to show the following in addition to the summary forecasts above.

(i) Estimation of the economic value of Volvo plc’s operating activities at the beginning of 2020 using:

(a) the abnormal operating profit model (b) the free cash flow model

(c) comment on the forecast figures

[15+15+10=40 marks]

(ii) Discussion of the role of financial statements analysis in equity valuation. Your discussion should include:

(a) how three financial statements (profit and loss accounts, statement of financial position and cash flow statements) should be reformulated for valuation purposes.

(b) how value oriented ratios should be linked to forecasting.

[30+30=60 marks]