Germany-based Adidas is one of the world’s largest producers of sportswear. During 2011, Adidas showed strong operational performance and saw its equity value increase by 3 percent to close to E10.5 billion. On April 1, 2012,

one month before the publication of the first-quarter results, an analyst produces the following forecasts of Adi- das’s 2012–2014 performance and financial position:

Income statement (E millions)			2012E		2013E		2014E
Sales			14917.0		15915.8		17029.7
Gross profit			7042.3		7532.9		8046.5
EBIT			1192.4		1380.6		1609.9
Net interest expense			-74.7		- 55.0		-39.6
Profit before tax			1117.7		1325.6		1570.3
Tax expense			-313.0		-371.2		- 439.7
Group profit			804.7		954.4		1130.6
Minority interest			-1.5		-1.7		- 1.8
Net profit			803.2		952.7		1128.8
Balance sheet (E millions)	2011R		2012E		2013E		2014E
Fixed assets	4717.0		5273.0		5626.1		6019.9
Current operating assets	4649.0		5197.0		5545.0		5933.1
Investment assets	2014.0		2251.4		2402.2		2570.3
Total assets	11380.0		12721.5		13573.3		14523.2
Shareholders’ equity	5327.0		5878.5		6520.0		7272.2
Minority interest	4.0		5.0		6.1		7.0
Debt	1589.0		1852.2		1727.6		1552.2
Current operating liabilities	3992.0		4462.6		4761.4		5094.6
Non-current operating liabilities	468.0		523.2		558.2		597.3
Total equity and liabilities	11380.0		12721.5		13573.3		14523.2
Other estimates	2011R		2012E		2013E		2014E
Dividends			251.7		311.3		376.6

Assume that Adidas’s cost of equity equals 10 percent.

1. Check whether all changes in the book value of equity that the analyst predicts can be fully explained through earnings and dividends. Why is this an important property of the analyst’s equity estimates?

2. When using these forecasts to estimate the value of equity, the analyst can deal with minority interests in the following ways:

   1. (1) Classify minority interests on the balance sheet as a non-interest-bearing liability (and hence as a nega- tive operating asset) and (2) exclude income from minority interests from earnings (i.e., focus on net profit).

   2. (1) Classify minority interests on the balance sheet as (group) equity, (2) include income from minority interests in earnings (i.e., focus on group profit), and (3) subtract the book value of minority interests from the estimated value of group equity to arrive at the value of shareholders’ equity.

These approaches may yield different values. Discuss potential drawbacks of both approaches.

3. Based on a market value of E12,247 million on March 30, 2012 and the analyst’s estimates, Adidas’s leading market value-to-earnings ratio is 15.2. What does this ratio suggest about the analyst’s expectations about future abnormal earnings growth?

4. Calculate abnormal earnings for the years 2012–2014.

5. Assume that abnormal earnings in 2015 and beyond are zero. Estimate the value of Adidas’s group equity (group equity is the sum of shareholders’ equity and minority interests). What might explain the difference between your equity value estimate and Adidas’s actual market value (of E12,247 million)?

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