+ 1. What is going on at Whole Foods Market, and how does that affect Short? Use Exhibit 7 to comment on the forecasted return on capital (ROC). Identify and comment on whether the forecast is optimistic, pessimistic, or just right. 2. Using investor opportunity cost of capital as a relevant benchmark how would you rate past ROC numbers? (Hint: Use the CAPM formula and information below to calculate Cost of Equity. Use the WACC formula, information provided and information from Exhibit 5 to complete the table.) Complete the table and comment on the results. Cost of Capital Estimation Assumptions Tax rate Risk-free rate 39% 3.4% 30-Year Treasury Bond Market risk premium Natural & Organic Whole Foods Market Sprouts Farmers Market The Fresh Market Conventional Grocers Kroger Safeway Supervalu Walmart Target Costco 5.0% Cost of Debt Cost of Equity D/V WACC 3. What is the case for buy? Share your qualitative perspective followed by your valuation analysis. Complete the following tables to support your arguments. (Hint: EBITDA Margin = EBIDTA/Sales, Enterprise Value = Market Cap of Equity + Total Debt) Company Natural & Organic Whole Foods Market EBITDA Margin EBITDA 1,222 Enterprise Value Ent. Value to EBITDA 187 Sprouts Farmers Market 138 The Fresh Market Conventional Grocers 4,428 Kroger 1,579 Safeway 720 Supervalu Supercenters and Wholesalers 35,742 Walmart 6,452 Target 3,999 Costco 0 4. Provide a declining margin version of the NPV analysis, using the Exhibit 7 values and forecasting cash-flows thru 2023, include the terminal value in 2023. Comment on your results. The EBITDA margin declines by 0.5% each year. In the terminal year, the EBITDA margin is estimated at 4.9%, a level that is consistent with the EBITDA margins of conventional grocers. For the steady state growth rate use 3.4%, the real growth rate of 2% plus a rate of expected long-term inflation of 1.4% based on the prevailing 30-year government bond yield. Exhibit 5 WHOLE FOODS MARKET Selected Financial Data for Comparable Companies (in millions of USD, except beta; financial statement data as of fiscal year 2013) Bond Company Market Cap Total Credit Sales EBITDA of Equity Debt Beta Rating Natural & Organic Whole Foods Market 12,917 1,222 14,481 0 0.70 N.A. Sprouts Farmers Market 2,438 187 4,102 304 0.75 BB- The Fresh Market 1,512 138 1,554 25 0.80 N.A. Conventional Grocers Kroger 98,375 4,428 23,679 11,311 0.70 BBB Safeway 36,139 1,579 7,899 4,451 0.75 BBB Supervalu 17,155 720 1,876 2,531 1.00 B- Supercenters and Wholesalers Wal-Mart 476,294 Target Costco 72,596 105,156 35,742 6,452 3,999 251,747 55,245 36,806 14,089 0.75 49,257 4,985 0.75 0.60 AA A A+ Sources: Value Line, Mergent Online, YCharts, Yahoo! Finance, Standard and Poor's, SEC company filings, and casewriter estimates. Exhibit 7 WHOLE FOODS MARKET Deutsche Bank Model (millions of USD, except per share figures) Actual Actual Actual Forecast Forecast At Fiscal Year End Store Growth 2011 2012 2013 2014 2015 4.0% 7.7% 8.1% 10.5% 12.6% Sales Growth 12.2% 15.7% 10.4% 11.1% 14.0% EBITDA Margin 8.5% 9.0% 9.5% 9.4% 9.8% Tax Rate 38.1% 38.4% 38.8% 39.0% 39.0% Current Asset Turnover 7.0 5.6 6.5 7.0 7.1 Current Liabilities Turnover 10.5 10.9 10.7 10.5 10.5 Net PP&E/Store 6.4 6.5 6.7 6.7 6.7 Annual Dep. & Amort. / Store 1.00 0.93 0.94 0.94 0.94 Stores 311 335 362 400 450 Sales 10,108 11,699 12,917 14,351 16,360 EBITDA 859 1,055 1,222 1,352 1,600 Dep. & Amort. 311 311 339 376 423 EBIT 548 744 883 976 1,176 Taxes 209 286 343 381 459 Net Income 339 458 540 596 717 Shares Outstanding 350 364 372 372 372 Earnings per Share 0.97 1.26 1.45 1.60 1.93 Current Assets 1,453 2,103 1,980 2,050 2,304 Current Liabilities 880 977 1,088 1,238 1,406 Net Working Capital 573 1,126 892 812 898 Net PP&E 1,997 2,193 2,428 2,680 3,018 Return on Capital 13.2% 13.8% 16.3% 17.1% 18.3% Source: Company Financial Reports, Deutsche Bank Analyst report and casewriter estimates