Jennifer Birss

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Jennifer Birss Leo Kwan Samarth Tosaria Mimi
Venekeo
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Agenda

• Selected Models
• EBO Strengths Weaknesses
• Other Valuation Models Inputs
• Stock Predictions
• EBO Table EMH
• Valuation model results vs. actual prices,
  regression and sensitivity analysis

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Valuation Models

• Edwards-Bell-Ohlson
• EVA
• Discounted Cash Flows

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EBO Strengths

• Simplicity to quickly estimate a firms
  fundamental value
• Relevance and reliability in using accounting
  numbers
• Overcomes the weakness of high sensitivity of
  terminal value in FCF analysis

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EBO Weaknesses

• Noise Common in accounting research
• GAAP
• Management Discretion
• Less practical to companies experiencing rapid
  and volatile earnings growth

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EVA Model (Financing)

• EVA NOPAT Capital Charge
• NOPAT (EBIT adjustments of future benefits) x
  (1- Tax)
• Adjustments interest on operating leases, RD
  expense, and deferred taxes expense
• Capital Charge EBV x WACC
• EBV CA LTA CL LTD E
• Adjustments PV of operating leases, RD
  capitalized for the period, and accumulated
  deferred taxes

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Discounted CF Model

• Value of the Firm S FCFFt / (1 WACC)t
• FCFF1t / (WACC g) / (1 WACC)t
• FCFF EBIT (1-Tax)
• Depreciation
• Capital Expenditures
• ? in Working Capital
• Theoretical Stock Price Firm Valuet / of
  Outstanding Sharest

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Beta

• Regression Model
• 10 year, weekly returns
• Imperial Oil returns vs. AMEX Oil Index returns
• Risk-free 6.0
• Market Risk Premium 5.5

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Stock Predictions

• ? Oil Consumption (China)
• ? Oil Price
• ? Profitability
• ? Stock Price
• cyclical nature possible economic recovery ?
  bull market ? ? Stock Price
• Risk-free rate 4.0

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Valuation Inputs

• Beta levered ? 10 yr average D/E ratio
• Constant Beta
• Cost of Equity ? CAPM
• Recalculation of WACC annually
• (Book Value of Debt)

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Edwards-Bell-Ohlson Model
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Lees Valuation Technique EMH

• Can believe in both
• Rely on publicly available information
• EBO requires at least semi-strong markets
• Finite time horizon - affected by changes in
  accounting policy
• Infinite time horizon - unaffected by policy
• Correlation between price and earnings

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Reasons Inter-Model Price Variation

• McCormack and Vytheeswaran (1998)
• Relation between valuation and financial
  indicators very weak or non-existent.
• accounting information reported by oil and gas
  concerns, Does a distressingly poor job of
  conveying the true economic results

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Reasons Inter-Model Price Variation

• Chua and Woodward (1994)
• Future Cash flow and Proven Reserves are
  statistically significant
• Antill and Arnott (2002)
• legacy assets ?low book values but high cash
  flow, hence high ROE

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EBO-Stock Price Revisited
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Regression Results R-square
Statistically Significant