One way that financial analysts approximate the value of a company is by applying a multiple to the company's net income. This multiple is commonly
One way that financial analysts approximate the value of a company is by applying a "multiple to the company's net income. This multiple is commonly known as the price-earnings (or PE) multiple. It is simple. but easily applied valuation method. For example, if a company had net income per share of $5 and analysts considered the appropriate PE multiple to be 12, the share would be valued at $60. The fair market value of the company would be $60 times the number of outstanding shares.
Conceptually, a PE multiple is akin to the factor for the present value of an annuity. When an annuity payment is expected to be perpetual (i.e., an infinite number of equal periodic payments), the present value of an annuity factor converges to (1 / r), where 'r' is the appropriate risk-adjusted discount rate for the firm. Thus, a PE multiple of 12 is equivalent to 1 /0.083. Applying the multiple of 12 to a given level of earnings is equivalent to valuing the company as though it would provide an annuity equal to its "earnings" every year, for an infinite number of years, using 8.3% as the discount rate.
a. If Weis Markets' shares are trading at year end at a PE multiple (based on 2013 net income) of 19.16, what is the implied discount rate? (Assume an annuity paying for an infinite number of years.) Does this discount rate seem reasonable? Explain.
b. Based on a PE multiple of 19.16, use net income to estimate the market value of Weis Markets' equity. In using net income for this calculation, what are you implicitly assuming?
c. Compare your responses in part c .in question f (which is the fair value of net assets = $1,333,858) and with the answer in b. of this question (market value of the equity). Why are these amounts so different? What do the differences represent?
d. PE multiples can also accommodate earnings growth. If earnings are predicted to grow at a constant rate, g, then the PE multiple can be written as (1 + g)/(r - g). (Note that in this formulation of the PE multiple, the earnings are last period's earnings, sometimes known as trailing earnings.) Assume that Weis Markets' shares have a PE multiple of 19.16 and that you believe that 8% is an appropriate discount rate for the company given its risk level. What is the implied growth rate embedded in the PE multiple of 19.16? Explain how you would assess whether the growth rate was reasonable.
WEIS MARKETS, INC. 6. Selected Financial Data: The following selected bi ollowing selected historical financial information has been derived from the Company's audited consolidated financial ents. This information should be read in connection with the Company's Consolidated Financial Statements and the thereto, as well as "Management's Discussion and Analysis of Financial Condition and Results of Operations, included statements. This in Item 7. Five Year Review of Operations 52 Weeks Ended Dec. 29. 2012 S 2,701,405 2,574,373 53 Weeks Ended Dec. 31.2011 $ 2,752,504 2,638,224 52 Weeks (dollars in thousands, except shares, Ended per share amounts and store information) Dec. 28. 2013 Net sales........... .... ---------.....$ 2,692,588 Costs and expenses.............. 2,581,406 Income from operations .. 111,182 Investment and other income 4,684 Income before provision for income taxes. 115,866 Provision for income taxes 44,145 52 Weeks Ended Dec. 25. 2010 $ 2,620,378 2,515,062 52 Weeks Ended Dec. 26.2009 $ 2,516,175 2,419,824 127,032 3,882 114,280 3,326 105,316 2,069 96,351 1,556 130,914 48,403 117,606 42,022 107,385 39,094 97,907 35,107 ........ Net income............. Retained earnings, beginning of year 71,721 931,579 82,511 881,346 75,584 864,132 68,291 827,042 62,800 795,473 858,273 963,857 32,278 939,716 58,370 31,231 S 1,003,300 Cash dividends 32,278 Retained earnings, end of year ...............S 971,022 Weighted-average shares outstanding, diluted 26,898,443 Cash dividends per share ......................S 1.20 Basic and diluted earnings per share --- S 2.67 Working capital.......... -.. $ 211,528 Total assets ..... . --...... $ 1,148,242 Shareholders' equity... $ 834,053 Number of grocery stores 165 S 931,579 26,898,443 $ 1.20 $ 3.07 $ 229,748 S 1,090,440 S 795,690 163 $ 881,346 26,898,443 $ 2.17 $ 2.81 $ 223,742 $ 1,029,004 $ 745,886 161 895,333 31,201 $ 864,132 26,898,443 $ 1.16 $ 2.54 $ 234,889 $ 992,081 $ 728,127 164 827,042 26,920,551 S 1.16 $ 2.33 $ $ $ 173,159 916,515 690,764 164 WEIS MARKETS, INC. 6. Selected Financial Data: The following selected bi ollowing selected historical financial information has been derived from the Company's audited consolidated financial ents. This information should be read in connection with the Company's Consolidated Financial Statements and the thereto, as well as "Management's Discussion and Analysis of Financial Condition and Results of Operations, included statements. This in Item 7. Five Year Review of Operations 52 Weeks Ended Dec. 29. 2012 S 2,701,405 2,574,373 53 Weeks Ended Dec. 31.2011 $ 2,752,504 2,638,224 52 Weeks (dollars in thousands, except shares, Ended per share amounts and store information) Dec. 28. 2013 Net sales........... .... ---------.....$ 2,692,588 Costs and expenses.............. 2,581,406 Income from operations .. 111,182 Investment and other income 4,684 Income before provision for income taxes. 115,866 Provision for income taxes 44,145 52 Weeks Ended Dec. 25. 2010 $ 2,620,378 2,515,062 52 Weeks Ended Dec. 26.2009 $ 2,516,175 2,419,824 127,032 3,882 114,280 3,326 105,316 2,069 96,351 1,556 130,914 48,403 117,606 42,022 107,385 39,094 97,907 35,107 ........ Net income............. Retained earnings, beginning of year 71,721 931,579 82,511 881,346 75,584 864,132 68,291 827,042 62,800 795,473 858,273 963,857 32,278 939,716 58,370 31,231 S 1,003,300 Cash dividends 32,278 Retained earnings, end of year ...............S 971,022 Weighted-average shares outstanding, diluted 26,898,443 Cash dividends per share ......................S 1.20 Basic and diluted earnings per share --- S 2.67 Working capital.......... -.. $ 211,528 Total assets ..... . --...... $ 1,148,242 Shareholders' equity... $ 834,053 Number of grocery stores 165 S 931,579 26,898,443 $ 1.20 $ 3.07 $ 229,748 S 1,090,440 S 795,690 163 $ 881,346 26,898,443 $ 2.17 $ 2.81 $ 223,742 $ 1,029,004 $ 745,886 161 895,333 31,201 $ 864,132 26,898,443 $ 1.16 $ 2.54 $ 234,889 $ 992,081 $ 728,127 164 827,042 26,920,551 S 1.16 $ 2.33 $ $ $ 173,159 916,515 690,764 164
