equity valuation and analysis report december 4,...
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Equity Valuation and Analysis Report
December 4, 2008
Analysis Group
Brady Nesbitt [email protected]
Brian Zelman [email protected]
Marshall Wiley [email protected]
Raymond Jenkins [email protected]
Ryan Barnes [email protected]
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Table of Contents
Executive Summary 8
Business and Industry Analysis 16
Company Overview 16
Industry Overview 17
Five Forces Model 20
Competitive Force One: Rivalry Among Existing Firms 22
Industry Growth 22
Concentration of Competitors 23
Differentiation and Switching Costs 23
Economies of Scale 24
Learning Economies 25
Fixed to Variable Costs 25
Excess Capacity 26
Exit Barriers 26
Conclusion 27
Competitive Force Two: Threat of New Entrants 27
Economies of Scale 27
First Mover Advantage 28
Access to Channels of Distribution 28
Relationships 29
Legal Barriers 29
Conclusion 30
Competitive Force Three: Threat of Substitute Products 30
Relative Price and Performance 31
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Customers Willingness to Switch 32
Conclusion 32
Competitive Force Four: Bargaining Power of Customers 33
Switching Costs 33
Differentiation 33
Importance of Cost and Quality 34
Number of Buyers 34
Conclusion 35
Competitive Force Five: Bargaining Power of Suppliers 35
Switching Costs 35
Differentiation 36
Importance of Cost and Quality 36
Number of Suppliers 37
Conclusion 37
Five Force Conclusion 37
Value Creation Analysis 38
Cost Leadership 38
Differentiation 40
Competitive Advantage Analysis 41
Growth and Production 42
Recycling and Strip Casting 43
Research and Development 43
Accounting Analysis 44
Key Accounting Policies 45
Research and Development 45
Goodwill 46
Capital and Operating Leases 47
Pension Benefits 48
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Currency Risk 50
Accounting Flexibility 50
Research and Development 51
Goodwill 52
Capital and Operating Leases 53
Pension Benefits 53
Currency Risk 54
Evaluate Accounting Strategy 54
Research and Development 55
Goodwill 56
Capital and Operating Leases 57
Pension Benefits 58
Currency Risk 58
Quality of Disclosure 59
Qualitative Analysis 59
Quantitative Analysis 60
Sales Manipulation Diagnostics 61
Net Sales/ Cash from Sales 61
Net Sales/ Accounts Receivables 62
Net Sales/ Warranty Liabilities 64
Net Sales/ Inventory 66
Core Expense Manipulation Diagnostics 69
Asset Turnover 70
Changes in CFFO/OI 71
Changes in CFFO/NOA 73
Total Accruals/ Sales 74
Pension Expense/ SG&A 76
Potential Red Flags 80
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Undo Accounting Distortions 80
Financial Analysis, Forecasting Financials and Cost of Capital Estimation 82
Financial Analysis 82
Liquidity Ratio Analysis 82
Current Ratio 83
Quick Asset Ratio 84
Accounts Receivables Turnover 85
Days Sales Outstanding 87
Inventory Turnover 88
Days’ Supply of Inventory 89
Working Capital Turnover 90
Cash to Cash Cycle 91
Conclusion 92
Profitability Analysis 92
Gross Profit Margin 93
Operating Profit Margin 94
Net Profit Margin 95
Asset Turnover 96
Return on Assets 97
Return on Equity 98
Internal Growth Rate 99
Sustainable Growth Rate 101
Conclusion 102
Capital Structure Analysis 103
Debt to Equity 103
Debt Service Margin 105
Times Interest Earned 107
Z-score 108
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Conclusion 109
Financial Statement Forecasting 110
Income Statement 111
Balance Sheet 115
Statement of Cash Flows 120
Estimating Cost of Capital 124
Cost of Equity 124
Alternative Cost of Equity 127
Cost of Debt 127
Weighted Average Cost of Capital 128
Valuation Analysis 129
Method of Comparables 129
Trailing P/E 130
Forward P/E 131
Price to Book 132
PEG Ratio 133
Price to Free Cash Flows 134
Enterprise Value/ EBITDA 135
Dividends to Price 136
Price to EBITDA 137
Intrinsic Valuation Models 138
Dividend Discount Model 139
Discounted Free Cash Flow Model 140
Residual Income Model 142
AEG Model 143
Long Run Residual Income Model 145
Analyst Recommendation 147
Appendices 148
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Sales Manipulation Diagnostics 148
Expense Manipulation Diagnostics 149
Liquidity Ratios 150
Profitability Ratios 152
Capital Structure Ratios 154
Financial Statements 155
Weighted Average Cost of Debt 160
Weighted Average Cost of Capital 160
Weighted Average Cost of Equity(includes regressions) 161
Method of Comparables 170
Dividend Discount Model 172
Discounted Free Cash Flow Model 173
Residual Income Model 174
AEG Model 175
Long Run Residual Income Model 176
References 177
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Executive Summary Investment Recommendation: Overvalued Sell
As of November 3rd, 2008
NUE- NYSE (11/3/2008) $37.83 Altman Z-Scores 52 Week Range: $25.25 - $83.56 2003 2004 2005 2006 2007 Revenue: $1.47 Billion 2.25 3.28 3.01 3.38 2.96Market Capitalization: $10.45 Billion
Shares Outstanding: 314,000,000 Financial Based Valuations
Initial InitialBook Value per Share: $17.68 Trailing P/E: 19.12Return on Equity: 30.30% Forward P/E: 24.60Return on Assets: 18.65% Dividends to Price: 32.26Current Dividend Yield: 4.10% Price to Book: 12.80 P.E.G. Ratio: 3.18Cost of Capital Price to EBITDA: 8.93 Enterprise Value/ EBITDA: 11.11 R-Squared Beta Adj. CAPM Price to Free Cash Flows: 5.303 Month 0.287 1.793 19.06% 2- Year 1.793 1.793 19.07% 5- Year 1.797 1.797 19.09% Intrinsic Valuations7- Year 1.798 1.798 19.11% 10- Year 1.798 1.798 19.11% Observed Price (11/3/2008): $37.83
Size Adjusted Ke: 19.10% Discounted Dividends: $19.93
Upper Bounds: 13.90% Discounted Free Cash Flows: $37.13 Lower Bounds: 24.30% Residual Income: $22.43 Back Door Ke: 27.89% Abnormal Earnings Growth: $22.10 Yahoo Beta: 1.00 Long Run Residual Income: $35.46 Cost of Debt: 4.30% WACC (BT): 14.80%
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Industry Analysis Nucor Corporation is a major manufacturer and supplier of steel and steel
products in North America. The manufacturing and sale of steel is an extremely
competitive industry that is thrived by innovative improvements in the steel production
process. Environmental preservation concerns are among the top concerns with all
steel manufactures around the world. In today’s market, a steadfast environmentally
friendly market strategy is essential to developing a positive reflection on society.
Industry competitors include Commercial Metals Company (CMC), United States Steel
Corporation (X), POSCO (PKX), and ArcelorMittal (MT). This is a highly competitive
industry that requires in depth research on market trends and constructive investor
relations. To be successful in the steel industry a corporation has to focus on keeping
costs, such as manufacturing, overhead, freight-in, freight-out, production, etc., as low
as possible while not compromising the quality, quantity, and sales of the product.
Staying ahead of the curve in any industry is extremely important to any company.
With new companies and new buyers entering the market it is important to be ahead of
the rest of the industry in any way possible. The best possible way to get ahead of the
industry is to research and develop things that other people are not aware of. Some
companies have spent more than 186 million dollars in research and development,
which allows them to be ahead of most of their competition. The figure below is an
overview of the steel industry, which shows us the main forces that have the greatest
effect on competition.
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Competitive Force Degree of Competition
Rivalry Among Existing Firms High
Threat of New Entrants Low
Threat of Substitute Products Moderate
Bargaining Power of Customers Low
Bargaining Power of Suppliers High
The steel industry is an industry that is fairly hard to get into. With such a high
rivalry between the existing firms in the industry there is a high degree of competition.
Since there is such a high competition in the steel market there is also a low degree of
competition for new entrants. The existing corporations in the industry make it difficult
for new entrants to be any kind of real threat. This results in a low degree of
competition in regards to the threat of new entrants. These companies have the
advantages of being the first movers, already having established relationships with
suppliers, and having already set up access to channels of distribution. Since the steel
industry has relatively high switching cost, the steel industry has a moderate threat of
substitute products. While bargaining power is calculated by how well the customer
can drive the prices down in the industry, the bargaining power of customers in the
steel industry is really in the hands of the suppliers.
Accounting Analysis
An Accounting analysis is used to separate the noise implemented by the
manager and evaluate a firms credible economic activities. Accounting flexibility is
often used by companies in order to distort the value of the firm. We used an
accounting analysis in order to find Nucor’s key accounting policies and to what degree
they were used in valuing the firm. Nucor’s key accounting policies include research
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and development, goodwill, capital and operating leases, pension benefits, and currency
risk.
When using accounting flexibility companies must follow laws and regulations set
by the generally accepted accounting principles or GAPP. Investors look at accounting
flexibility when trying to find the real position of the company they are analyzing.
Financial statements can be misleading because of accounting flexibility. Companies
have a high degree of flexibility when it comes to how they are able to report their
pension plans and capital/operating leases. The GAAP regulations for research and
development and currency risk are pretty straight forward. GAAP requires companies to
report their R&D as expensed when incurred.
After analyzing Nucor and its competitors we can assume that most companies
develop different methods and styles when it comes to reporting their financials. It is
important that companies report their financial statements carefully and accurately so
that investors and analyst can get a clear idea of the company’s value. Nucor’s
disclosure of R&D was low, but this was consistent throughout the steel industry.
Nucor has improved their goodwill disclosure greatly as compared to their 2004 10K to
the 2007 10K. Nucor has been involved with multiple acquisitions, and they have done
a nice job in showing the price they paid for the goodwill of these companies. Nucor
does not use a lot of operating leases, but they did show exactly how much they will be
expensing over the next 5 years. Overall, Nucor’s quality of disclosure was average.
The disclosure can be improved to help create a better estimate of firm’s value.
Financial Analysis, Forecast Financials, and Cost of Capital
The financial analysis, forecasting financials, and cost of capital estimation are
the three steps used in the process of analyzing a company. The financial ratio analysis
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includes several calculations that determine the liquidity, profitability, and the capital
structure of a company. Overall, Nucor’s liquidity is above the industry’s average.
Nucor leads its competitors in nearly all the liquidity ratios, which tells investors that
Nucor is financially strong when it comes to how quick they are able to liquefy their
company’s assets. One of the most important factors for a company is whether or not
they are generating enough profits to survive. A profitability analysis reflects a
company’s overall profits. In order for a firm to survive the firm must have its revenues
exceed its expenses. Gross profit margin, operating profit margin, net profit margin,
asset turnover, return on assets, and return on equity are the ratios we used in our
profitability analysis to evaluate Nucor. Nucor was able to outperform the steel
industry’s average in regards to gross profit margin, operating profit margin, net profit
margin, asset turnover, return on assets, and return on equity from 2005 through 2007.
We used 3 ratios when evaluating the capital structure of Nucor. The ratios we used
for the capital structure analysis are debt to equity ratio, the debt to service margin,
and the times interest earned. Overall, Nucor is under-performing in regards to their
debt service margin compared to the industry. Nucor is below average in the debt to
equity ratio, meaning that they have used less debt financing than the rest of the
industry. Nucor’s time’s interest earned ratio was well above the industry average,
except for the year 2006. This is because they have been able to keep their interest
expenses low, while still generating a lot of operating income.
Current Ratio Quick Ratio A/R TO Cash to CashNUE 3.21 1 10.29 78.88X 1.65 1.21 8.12 101.78CMC 2.29 1.4 7.69 91.96PKX 2.17 1.33 7.5 125.64MT 1.41 0.54 11.04 126.52Industry Average 2.15 1.1 8.93 104.95
2007 Liquidity Table
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The process of forecasting the financial statements for a company and its
competitors is very important when valuing a company. Accurate forecasting can
produce profits for companies because of the potential of avoiding risk. We started the
forecasting process by forecasting out future sales and sales growth for the next 10
years. We predicted Nucor’s sales to decrease by 4% in 2008 and 3% in 2009. This
was due to the recession the economy, and congress recently passing a corporate
average fuel economy bill that will affect the sales of steel to automobile manufactures.
In 2010 we expect sales growth rate to pick back up and increase to 5% and continue
increasing. Through forecasting we have provided ourselves with data that will help us
in our intrinsic valuations. Our forecast consisted of net sales, net income, retained
earnings, CFFI, CFFO, and book value of equity.
When determining the cost of capital, we must look at the cost of equity along
with the cost of debt. Estimating cost of equity has been known to be more
controversial than estimating the cost of debt. Estimating cost of equity can be
calculated in a variety of ways, but we have chosen to use the capital asset pricing
model. The most recent 10 year constant maturity Treasury bill was used to for our
constant risk free rate of 4.02%. This risk free rate was found on the St. Louis Reserve
website. An 8% market risk premium was used in our CAPM model. To find the
appropriate beta we used ran regression for 72 month, 60 month, 48 month, 36 month,
and 24 month comparisons. We ran a total of 25 regressions to determine the
appropriate beta to use. Inputted into the regressions were Nucor’s dividend returns
and the S&P 500’s returns. The beta we chose from our regressions was calculated at
1.7985. This beta was used in the CAPM, and produced an 18.41% cost of equity, then
adjusted for market cap size by adding .7%. Our final cost of equity was 19.11%.
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Valuations
Valuation analysis is the final step in valuing a firm. This analysis is conducted by
models and formulas used from different parts of the income statement, balance sheet,
and statement of cash flows. There are two sections that input in the valuation analysis:
methods of comparables and intrinsic valuation methods. Both of these models will
produce an estimated price per share that is compared to $37.83, the closing price on
11/3/2008. The $37.83 has a 20% safety margin that will allow models to be fairly
valued.
The methods of comparables are composed of simplistic ratios that help financial
analysts determine a company’s value. The ratios we computed in the method of
comparables section are price to earnings trailing, price to earnings forward, price to
book, price to earnings growth model, price over free cash flows, enterprise value to
EBITDA, and dividends to price. They can be beneficial when analyzing a company, but
at times the method of comparables can produce inefficient results. When calculating
the ratios in the method of comparables section we found that all the ratios; excluding
the dividend to price ratio; estimated Nucor to be overvalued. The dividend to price
ratio estimated Nucor to be fairly valued. Overall, with the calculations we produced in
the method of comparables section we assume Nucor to be overvalued.
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Comparables
Model Price Per Share Expected Price Per Share Value
Price / Earnings Trailing $37.83 19.12 Overvalued
Price / Earnings Forward $37.83 24.60 Overvalued
Price/ Book $37.83 12.80 Overvalued
Price Earnings Growth $37.83 3.18 Overvalued
Price / Free Cash Flows $37.83 5.30 Overvalued
Enterprise Value /EBITDA $37.83 11.11 Overvalued
Dividends / Price $37.83 32.26 Fairly Valued
Price / EBITDA $37.83 8.93 Overvalued
The intrinsic valuation models offer a more precise valuation of Nucor. There are
five models that contribute to this analysis: dividend discount, discounted free cash
flows, residual income, abnormal earnings growth, and the long run residual income
model. These models take in account the current financial condition and forecast ten
years out that we have predicted. For each model they show the present values of
financial numbers and the terminal value perpetuity. Every model is kept in a price per
share basis and time consistent of where we are in the year. These models use
sensitivity analysis by changing growth rates, cost of equity and cost of capital upper
and lower bounds. This compares the models prices to the benchmark price of $37.83.
These models are accurate in their estimates, but the only input that can make them
inaccurate would be forecasting errors.
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Business and Industry Analysis
Company Overview
Nucor Corporation is a major manufacturer and supplier of steel and steel
products in North America. In 1955, Ransom E. Olds founded Nuclear Corporation of
America, which was concentrated on the nuclear instrument and electronics business.
Nuclear Corporation eventually merged with several companies including a steel
specialized company, Vulcraft Corporation. With Vulcraft being the only profitable
segment, Ken Iverson and Sam Siegel looked to further the company’s success by
concentrating in the steel industry. In 1966, Nuclear Corp. relocated their corporate
offices to Charlotte, North Carolina where they are today. Thereafter, Nuclear
Corporation was renamed to Nucor Corporation. (Nucor.com)
Nucor has grown to be one of the leading competitors in the steel and iron
industry today increasing their sales 62% over the past 5 years to $16.5 billion. One of
Nucor’s success factors has been to locate in many different rural regions of the U.S.
and Canada. Nucor uses their recycled steel for their products, making them the largest
recycler in North America.
In the steel and iron industry, Nucor “operates in two main segments, Steel Mills
and Steel Products. Steel Mills produce hot rolled steel such as angles, rounds, flats,
channels, rebar, sheets, wide-flange beams, pilings, billets, blooms, beam blanks, and
plates; and cold-rolled steel. The Steel Products segment manufactures steel joists and
joist girders, steel deck, cold finished steel, steel fasteners, metal building systems, light
gauge steel framing, steel grating, and expanded metal, and wire and wire mesh.”
(Nucor 2008 10-K)
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Nucor is a fairly large company with 18,000 employees and has a market cap of
$15.3 billion. Our direct competitors in the steel industry are United States Steel
Corporation (X), Commercial Metals Company (CMC), and ArcelorMittal USA Inc.
(privately held).
Industry Overview
The manufacturing and sale of steel is an extremely competitive industry that is
thrived by innovative improvements in the steel production process. Environmental
preservation concerns are among the top concerns with all steel manufactures around
the world. In today’s market, a steadfast environmentally friendly market strategy is
essential to developing a positive reflection on society. The Nucor Corporation is
recognized throughout this market as a fast forward company that serves as being a
protector of the environment and is the largest recycler in North America totaling 21
million tons of steel in 2007.
Industry competitors include Commercial Metals Company (CMC), United States
Steel Corporation (X), POSCO (PKX), and ArcelorMittal (MT). This is a highly
competitive industry that requires in depth research on market trends and constructive
investor relations. To be successful in the steel industry a corporation has to focus on
keeping costs, such as manufacturing, overhead, freight-in, freight-out, production,
etc., as low as possible while not compromising the quality, quantity, and sales of the
product. The main competition throughout the steel industry is in keeping the price low
Key Statistics 2003 2004 2005 2006 2007 Total Sales* 6,265,823 11,376,828 12,700,999 14,751,270 16,592,976 Sales Growth 23% 45% 12% 16% 12% Total Assets* 4,511,577 6,140,391 7,148,845 7,893,018 9,826,122
* in Thousands
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and customer service at the highest. Another area companies compete in is employee
safety. Steel manufacturing can be an extremely dangerous business and most
companies today are making it a top priority to keep their employees safe at and away
from work. Unfortunately, Nucor and its North American competitors have suffered due
to the increase in traded steel imports. Nucor, working alongside with its competitors is
tackling this issue with full force to restore free and fair trade.
Market Share Industry Sales
2003 2004 2005 2006 2007NUE 16% 16% 15% 12% 9%
X 24% 19% 16% 13% 9% CMC 7% 6% 7% 6% 5% PKX 39% 29% 30% 22% 19%MT 14% 30% 32% 48% 58%
Industry 100% 100% 100% 100% 100%
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The table and the bar chart above show Market Share for the steel production
industry through the growth in sales for Nucor Corporation and each of its four
competitors. It is clear that the percentage change in sales for the industry is growing
substantially over this four year period. From 2003 to 2007 industry sales have
increased 368% at an average of 49.19% each year which proves the high growth and
competition throughout the industry. Aside from Arcelor Mittal, all of the companies in
our defined industry have less than 5% market share of the entire steel industry, with
Nucor Corporation accounting for approximately 2%. ArcelorMittal Corporation, which
accounts for 10% of the entire steel production industry, was quoted in a Wall Street
Journal article saying that some companies “are predicting that steel consumption
world-wide will continue to be strong, growing at a yearly rate of about 5%, although
that is off slightly from the recent 7% annual growth rate.”
020,000,00040,000,00060,000,00080,000,000100,000,000120,000,000140,000,000160,000,000180,000,000200,000,000
2003 2004 2005 2006 2007
Industry Salesin Thousands
NUE
X
CMC
PKX
MT
Industry
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The Five Forces Model
In order to effectively analyze Nucor’s value, it is important that we have a
proper understanding of the industry in which they compete. Nucor’s production of
basic steel products puts it in an extremely competitive league. They are one of three
companies that are S&P 500 members; however, there are still fifty-three total public
companies that are in the steel industry. This doesn’t include the many private
companies that influence the industry competition. Because of the heavy presence of
many different firms, the profits that companies are able to realize rely on many forces
within the industry. These forces make up the Five Forces Model. This model allows us
to determine what kinds of profits are available in an industry, and what drives these
profits.
There are three forces that influence the degree of actual and potential
competition, as well as two more forces that determine the bargaining power in input
and output markets. The first competitive force is the “Rivalry Among Existing Firms.”
The second force is the “Threat of New Entrants.” The third and final competitive force
is the “Threat of Substitute Products.” The two bargaining forces are the “Bargaining
Power of Buyers” and the “Bargaining Power of Suppliers. Together, all of these factors
make up The Five Forces Model, which is displayed in the figure below.
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This figure above is based on a figure from Palepu and Healy’s “Business Analysis and
Valuation, Using Financial Statements.”
The figure below is an overview of the steel industry, and which forces have the
greatest effect on competition.
Competitive Force Degree of Competition
Rivalry Among Existing Firms High
Threat of New Entrants Low
Threat of Substitute Products Moderate
Bargaining Power of Customers Low
Bargaining Power of Suppliers High
Industry Profitability
Rivavlry Among Existing Firms
Threats of new Entrants Threat of
Substitute Products
Bargaining Power Of Buyers
Bargaining Power of Suppliers
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Competitive Force One: Rivalry Among Existing Firms
The rivalry among existing firms in a particular industry is a factor in determining
what kinds of profits are attainable. In a price taker industry, such as steel, companies
must find areas in which they can gain a competitive edge. Within the industry, there
are many subjects that factor into the competition.
Industry Growth
An industry’s growth rate can affect its competition level. When an industry is
booming, many players can benefit without stepping on each other’s toes. However, in
an industry such as steel, where there are many companies at war, market share
becomes very important. Over the past five years the defined industry has experienced
growth rates of 89%, 19%, 42%, and 46%.
Industry Growth Sales in thousands
2003 2004 2005 2006 2007NUE 6,265,000 11,376,000 12,700,000 14,751,000 16,592,000
X 9,328,000 13,969,000 14,039,000 15,715,000 16,873,000
CMC 2,728,000 4,568,000 6,260,000 7,212,000 8,329,000PKX 14,925,000 21,096,000 25,697,000 27,134,000 34,136,000MT 5,441,000 22,197,000 28,132,000 58,870,000 105,215,000
Industry 38,687,000 73,206,000 86,828,000 123,682,000 181,145,000Industry Growth - 89% 19% 42% 46%
These numbers don’t accurately reflect the entire steel industry, but they
represent Nucor’s competitors’ growth over the past five years. While the entire steel
industry has maintained steady growth, these companies have been expanding at fast
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rates due to recent mergers and acquisitions. According to two separate articles
published on consecutive days in the Wall Street Journal (WSJ.com), a firm in the
industry announced their acquisitions of two large steel companies, American
Compressed Steel and Ambassador Steel Corporation. This effort is a prime example of
a company expanding their market share, and spreading their presence across the
country.
Concentration and Balance of Competitors
The concentration and balance of competitors is another important factor. In an
industry such as steel, finding a company’s direct competitors can be more difficult than
just finding a similar company that produces steel. Arcelor Mittal, the largest steel
company in the world, only accounts for about 10% of the steel output in the world
(arcelormittal.com). This fact emphasizes how many companies there are competing in
the industry. There are many different grades of steel, as well as a variety of ways to
make it. Some companies focus on engineered steel, which is often used for the
structure of large buildings, while others specialize in alloy steel and fasteners for the
production of nuts and bolts. Regardless, there are still enough players in the industry
making the same products. With a few exceptions, steel companies, for the most part,
are highly competitive in their pricing.
Differentiation and Switching Costs
Companies with the ability to differentiate between the types of steel they
produce help them steer clear of some of their competitors. In this industry, switching
from different grades of steel is not a huge expense. For example, switching from hot
rolled steel to cold rolled steel would not be too costly. However, if a company decided
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to produce a completely different material, the costs would be much more substantial.
The plant and machinery that are required for the production of steel are industry
specific. This means that you can’t transform a steel plant into a cotton mill without
taking on heavy costs.
Economies of Scale
Economies of scale play a major role in how an industry operates. In some
industries it is extremely difficult to enter the market because the established firms are
much more developed and sophisticated. In the steel industry, it takes enormous
capital to start out a company. Steel mills and the plants that support them require
large properties to produce on. On top of the machinery, it is still difficult for small
players to gain market share because bigger companies tend to have more capital to
allocate to new technology. To make a profit in this industry, a company must produce
large enough quantities to cover their costs. When this is the case, it affects
competition because fewer firms can obtain market share. This decreases the
competition, but increases the rivalries between existing firms.
If an industry has economies of scale, that means that firms can benefit from
higher production or expansion. In 2007, many companies made acquisitions to
increase their market share. Arcelor Mittal was involved in 35 different acquisitions
(arcelormittal.com). US Steel and several other companies were also engaged in key
merger and acquisitions. This shows that the big companies have made their presence
clear in this industry.
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Learning Economies
The learning curve between existing companies and startup companies varies in
the industry. Many of the companies that break into the industry are successful
because they have new technology. They have either found a new way to make steel,
or they have found a more efficient way of producing it. One company in the industry
figured out a way to produce steel without the use of coke, a common component in
steel. This is an example of achieving learning economies. In this case, the company’s
new technology resulted in lower costs of production, and it proved to be a cleaner
means of production. People have been making steel for a long time, so companies
must have some competitive edge that enables them to profit.
Fixed to Variable Costs
The ratio of fixed to variable costs is important because it can be a key
determinant in decision making. In an industry where there are low fixed costs,
companies don’t have to worry as much about producing enough to cover them. But,
in an industry like steel, there are high fixed costs, so it is very important that
production is high enough to cover them. Steel companies operate on many very large
plants, which accumulate for a large portion of their fixed costs. Because steel is a
commodity, the costs of producing it are quite volatile. For example, scrap steel prices
have experienced increases in recent years. Scrap steel rose 13% from $246 per ton to
$278 per ton just over the last year. Nucor reported the implementation of a “raw
material sales price surcharge” to transfer the effect of rising prices to customers so
they could stay competitive with prices (Nucor.com).
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Excess Capacity
When the capacity of an industry exceeds the customer demand, firms are often
forced to cut prices to fill capacity. In the steel industry this is a global issue. Steel
production in China and other Asian countries has exceeded their economy’s demand,
which could affect U.S. steel companies if we see our steel imports increase. This is a
major threat because the imported steel would sell at a price that U.S. companies could
not consistently compete with and still make profits. The industry could also see excess
capacity become an issue in the near future if automobile manufacturers start using
less steel in production. This movement would be to comply with stricter automobile
requirements. With these threats in the possible future, John Anton, a steel analyst,
was quoted in the Wall Street Journal as saying "The main difference between now and,
say, 10 years ago is that there is no excess capacity in the market." This means that
steel companies aren’t lowering their prices to fill to capacity, and that companies are
going out and bidding high dollars to get what they need. Excess capacity is a big
factor in the degree of competition.
Exit Barriers
Exit barriers prevent companies from leaving an industry at any point in time.
When exit barriers are strong, companies are more likely to find solutions to their
problems as opposed to just leaving. In the steel industry, the exit barriers are quite
strong. Steel operations are specialized to a point where the machinery used would be
all but useless in another line of business. Also, assets are so expensive and valuable
that shutting down operations would be extremely costly.
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Conclusion
We have concluded that there is a high degree of competition due to the rivalries
among existing firms in the steel industry and it has created a high degree of
concentration. In an industry that has shown growth in past years, there are a huge
number of competitors that prevent companies from setting prices freely, and more
importantly, from making ridiculous profits. Companies in the industry are able to
switch back and forth between different types of steel, but are not capable of
completely abandoning the steel market. The industry has proven that there are plenty
of large companies that are constantly increasing their market share, and increasing the
learning curve between themselves and new entrants. With these companies becoming
so large, they have made it even more difficult for themselves to exit the industry.
Competitive Force Two: Threat of New Entrants
In every industry there are threats of new entrants taking over a portion of the
market share. The steel industry is no exception to that idea. But in the steel industry,
the threat of new entrants is relatively low. In the industry there are over fifty publicly
owned corporations and numerous privately owned corporations which make up the
steel industry. With this much competition, the size alone of the industry is a huge
threat to new entrants.
Economies of Scale
The steel industry is an industry of low concentration. This means that there
are countless companies from all over the world competing in this industry. Any new
entrants would have to start a relatively big company or risk being pushed around by
the corporations that exist today. The corporations in the industry have been around
for a long time and are well established. To even be considered a threat after entering,
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a company must have a substantial amount of capital to compete. So whether the new
entrant tries to build a huge corporation or something small to try and make it work,
the entrants will have to “suffer a cost disadvantage in competing with the existing
firms,” according to Palepu and Healy. Besides the fact that the new entrants are well
established, they also already have agreements with many of the scrap metal providers
due to first mover advantage.
First Mover Advantage
When dealing with the steel industry one would probably shy away from entering
the market due to the first mover advantages which the other companies have put into
effect. When entering this market one factor that a company will have to keep in mind
is where they will receive the scrap metal that they will be melting down to make the
steel. Since this is such a low concentration industry and there are so many steel
corporations already out there in the market, it will be hard to find a steady supply of
scrap metal to melt down. With the rise in scrap metal prices recently, it is expensive to
buy the scrap metal now, much less pay more than the competitors pay. The
advantages that the existing firms have seem to far outweigh any that a new firm might
get from entering the market.
Access to Channels of Distribution
The steel industry is something that relates almost directly with the U.S.
economy. With the economy falling in the recent years so has that of the steel
industry. According to Nucor’s 10-K of 2008, “In late 2006, the International Trade
Commission chose to remove the duties that were in place on many of the countries
involved in dumping these products into our country,” because of this problem
happening in the United States the company is getting, “negative effects on the
business.” This quote shows that even the companies that have been in the business
for many years are having problems dealing with the distribution of their steel. In
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seeing this, a company trying to enter this market would have more problems if not the
same in dealing with the distribution of the steel. This does not seem to be a very
appealing feature to anyone thinking about entering the steel market.
Relationships
A key aspect for any business is the relationships that they have with their
suppliers and their customers. The relationship with suppliers in the steel industry is
vital to the success of a company. Companies who try to enter the steel industry often
find it very hard to build relationships with suppliers who have already found
themselves loyal to other corporations. Many of the steel companies in the industry
have been around for many years and have formed long relationships with their
personal suppliers. This is important because in the industry, the contracts are
generally long term. Long term contracts are nice because they lock in suppliers and
consumers, depending on which side the firm is on. Also, the long term contracts are
important because steel is a commodity. Even in a volatile market, the firm knows
exactly what they are getting because of the nature of the contracts. In business the
money always does the talking, so if someone were to out pay one of these companies
it would probably help the chances of forming a lasting relationship with a supplier.
The down side is that no new entering company can afford to take on the extreme cost
disadvantages of paying more for their scrap metal.
Legal Barriers
In most industries there are certain barriers that might hurt the new entrants
from entering the market. The steel industry also has barriers that might discourage
the entering of the market. “In 2007, several bills were introduced in the United States
Senate that would regulate GHG and carbon dioxide emissions,” according Nucor’s 10-K
of 2008. This means that all companies in the industry are going to take a big hit.
Since the regulation has been set by the Senate, the costs to begin a company and run
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a company have increased. This legislation will severely hurt the domestic makers and
leave the door open for imports. The ruling only affects the steel made in the United
States. All foreign importers do not have to pay the extra cost to make their company
limit the emissions of carbon dioxide and GHG. This will cause a big threat to anyone
trying to enter the steel industry.
Conclusion
The existing corporations in the industry make it difficult for new entrants to be
any kind of real threat. This results in a low degree of competition in regards to the
threat of new entrants. These companies have the advantages of being the first
movers, already having established relationships with suppliers, and having already set
up access to channels of distribution. Since these companies are so established and
have spent time and money to keep their companies competitive, the new entrants
pose very little threat to the well established companies in the steel industry.
Competitive Force Three: Threat of Substitute Products
The third competitive force regarding the degree of actual and potential
competition is the threat of substitute products. The two most important factors in this
type of competition are; relative price and performance, and a buyers’ willingness to
switch to a different product. The steel industry competes at a high level of
competition. Companies in this industry are always looking for ways to make their
product better and less expensive to produce. By focusing on being innovative,
companies in the steel industry try to avoid the threat of substitute products.
Substitute materials in the steel industry such as aluminum, composites, cement, wood,
plastics, and glass are becoming increasingly available which leads to a decrease in
demand for steel.
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Relative Price and Performance
The steel industry competes in cycles. Prolonged periods of declines and
prolonged periods of “steel booms” seem to be of regular nature in this industry. Steel
companies including its major consumers tend to follow this cycle of economic declines
and booms. In the steel industry substitute materials can adversely affect the price and
performance of a company.
The domestic steel making capacity surpasses the domestic demand for steel.
Due to this conflict, foreign steel company’s can afford to export and sell steel to
domestic customers at a much lower price than domestic steel producing companies
can afford to. This negatively affects the domestic steel companies’ financial position
and performance. Considering most companies in the steel industry operate with a high
fixed cost, a reduction in the demand for steel is followed by inefficient operations.
China is known for being the world’s largest producer of steel. Due to the
amount of excess steel produced in China; low priced steel periodically floods the
domestic steel market creating a decreased demand for a domestic producer’s higher
priced steel. When the U.S. steel market struggles the Asian market struggles as well.
In the Asian market, “Steel companies were hit especially hard on concerns that a
slump in U.S. auto sales would sap demand for steel,” According to the Wall Street
Journal.
Companies in the steel industry rely heavily on their vendors to provide them
with the raw materials they need to make steel. If vendors raise the prices of raw
materials companies in the industry may struggle financially to obtain the supply of raw
materials needed to make steel. These steel companies can try to fix this problem by
raising the price of steel they produce and sell to their customers, but this may damage
a company’s reputation and make loyal customers turn to a company’s competitor that
offers steel at a lower price than the rest of the industry.
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Customers Willingness to Switch
Companies in the steel industry that produce similar products must provide their
customers with additional incentives in order to keep their customers happy. Small
fluctuations in price in the steel industry can increase a loyal customers willingness to
switch. A company that has the product a customer needs for a lower price will often
attract more customers than a company that offers the same product at a higher price.
Offering an incentive is a way to keep loyal customers from switching. For example,
making a quality product in an environmental friendly process can reduce their
customer’s willingness to switch. Companies in the same industry that do not offer
these incentives will not have as much control over a customer’s willingness to switch
as do the companies that offer incentives.
Companies in the steel industry strive for brand loyalty. Companies with good
reputations who are known for their brand loyalty tend to outperform their competitors.
Considering that customers in the steel industry tend to be price sensitive, having a
strong form of brand loyalty reduces a customer’s overall willingness to switch.
Conclusion
In order to become profitable in the highly competitive cyclical steel industry,
firms need to continue making customers satisfied. Although companies in the steel
industry tend to focus on keeping their loyal customers satisfied with the price and
quality of their product, substitutes of steel are increasingly growing. Having an
environmentally friendly production processes, being innovative, and keeping their
brand loyalty are ways that companies in the steel industry attract and keep loyal
customers. The threat of substitute products in the steel industry overall is moderate.
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Competitive Force Four: Bargaining Power of Customers
In any industry there is a supply and a demand which highly influence the price
of many products in the market. The steel industry is no different in that they too must
try and compete on price so that they may continue to sell their product. Since most of
the industry is competing on price they too will fall into the hands of the customers
bargaining power. Two main points which establish the customers bargaining power are
price sensitivity and relative bargaining power.
Switching costs
Companies in the steel industry strive for brand loyalty. Companies with
good reputations who are known for their brand loyalty tend to outperform their
competitors. Considering that customers in the steel industry tend to be price sensitive,
having a strong form of brand loyalty reduces a customer’s overall willingness to switch,
but it still tends to happen. If a company that does not have a big brand name then
they must try and give some kind of incentive so they may still look good in the eyes of
the consumer. This then in turn gives a great bargaining chip to the consumer,
because they have the right to go to another company if they are not comfortable in
the name or an incentive is not given.
Differentiation
Companies with the ability to differentiate between the types of steel they
produce help them steer clear of some of their competitors. In this industry, switching
from different grades of steel is not a huge expense. The reason a company must do
this is so that they my stay ahead of the curve when it comes to the industry. In trying
to make the consumer happy a company should try and do everything economically
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possible. So in a sense the consumer has a lot of bargaining power when it comes to
what they want and are willing to buy. A consumer is only going to buy what they
need and want, so it is the company’s role to try make the steel in which the consumer
wants.
Importance of Costs and Quality
The steel market is a highly competitive market, which in turn makes the
customers especially price sensitive. Price sensitivity decides the action in which a
buyer takes in respect to the bargaining price of other companies in the industry.
Excluding specialty steel, the steel industry has very similar steel in which they are
selling. Because the steel is so similar in the United States the switching cost is low for
the customers. With the switching cost low for the customer, this leaves them room to
try and make deals with certain companies in the industry. This shows us how much
bargaining power the customer has. The consumer has the ability to go to a company
with the highest quality for the cheapest price. This forces all companies in the industry
to try and find an economical way to make their steel better for less money.
Number of and Volume per Buyers
One advantage the customer has is the ability to shop around the market. By
shopping around, the customer can try to find the best possible price that is in the
market. The number of buyers over the past years has slowly increased so in turn the
industry has expanded as well. In the steel industry it is more common for a customer
to place a large order rather than a small one. With a big order, the customer has the
choice to see if one company might price the steel cheaper than another due to the size
of the order. By shopping around the customer is using their bargaining power to see if
the chance of a better deal is out there. Even though some steel companies might give
into this bargaining tactic by the customer, the majority of the companies in the
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industry will probably not. Therefore, the customers really do not have much say when
it comes to bargaining power.
Conclusion
While bargaining power is calculated by how well the customer can drive the
prices down in the industry, the bargaining power of customers in the steel industry is
really in the hands of the suppliers. Even though many industries are price sensitive
and try to please the consumer, the steel companies are less likely to be so
accommodating to the consumer. Although some companies might lower their prices
and give in to the bargaining tactics, most companies are not willing to do the same.
Competitive Force Five: Bargaining Power of Supplier
The bargaining power of the supplier depends on supply and demand in the
market industry. If there is a high demand, there will be more suppliers to fit the needs
of the firms. There are two factors that contribute to the bargaining power of suppliers,
price sensitivity and relative bargaining power.
Switching costs
“Buyers are more price sensitive when the product is undifferentiated and there
are few switching costs.” (Paelpu and Healy) Switching costs are the costs incurred with
switching suppliers for better costs on raw materials. Many firms have contracts or
joint ventures that enable them to decrease prices, which in return will decrease
switching costs. Also, we have seen many firms vertically integrate so that they do not
have to rely on other firms. By taking all operations under one house, this allows
companies to have a little more freedom with their price setting.
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Differentiation
As mentioned before in the differentiation of the consumers, the companies with
the ability to differentiate between the types of steel they produce help them steer clear
of some of their competitors. It is really a big benefit for companies in any industry to
be able to differentiate their product no matter what that product might be. In this
industry, switching from different grades of steel is not a huge expense. It is fairly easy
to change the way certain steel is made, even if it is being cold rolled or hot rolled. In
differentiating a product it gives a company the best chance of selling a lot of a certain
material.
Importance of Costs and Quality
Cost and quality are still the two factors that companies look for when buying
supplies. Most of the large competitors in the steel industry compete on cost and
quality. So it is important that any company in the industry to try and make the best
product for the cheapest price. This will not only help the supplier, but it will also help
the consumer as well. The supplier gets more sales and the consumer gets a better
deal on the product they buy. If both the consumer and the supplier are happy then
there is going to be a lot of money being made.
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Number of and Volume per Suppliers
Relative bargaining power is the influence that the suppliers have on the buyers
or firms on price. Since the largest firm, Arcelor Mittal only makes up 10% of the steel
industry, it’s clear that there are many smaller firms competing for market share. There
are fewer suppliers than buyers; therefore, the suppliers have an upper hand over the
buyers. Because the number of products is limited for the buyer, the purchasing power
is in control of the suppliers. This means that companies in the steel industry really
have the upper hand when it comes to making the prices for steel. The bargaining
power of the suppliers heavily outweighs the bargaining power of the consumers.
Conclusion
The supplier’s are always competing on price against one another. There are
many ways the suppliers can control price sensitivity through joint ventures and
contracts. Because there are many buyers that outnumber the suppliers bargaining
power will be weak for the smaller buyers. Therefore, the bargaining power of the
suppliers is high for the steel industry.
Five Forces Conclusion
We have concluded that the steel industry experiences a high degree of
competition when it comes to the rivalries among existing firms. After observing all
aspects of the industry, we believe that the threat of new entrants is weak, which
results in a lower competition. The fact that there are many similar products that could
be used in the place of steel is a factor, but the demand for steel has stayed high. The
customers have low bargaining power because they don’t have much pull on the prices
of steel. The customers can freely choose who they want to do business with, but
generally stay with the company with whom they have developed a relationship with.
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Suppliers have the bargaining power in this industry because there are more
consumers. The suppliers are enabled with the power to set their own prices.
Value Creation Analysis
Value creation is a determining factor in separating firms from one another. It is
the competitive advantage that one firm has over the other in an industry. Many
factors input into this equation including cost leadership strategies and product
differentiation. Cost leadership is the ability to produce the same product as another
firm with lower costs. There are many different ways firms a firm can cut their costs.
Firms can also differentiate their product in a number of ways. Some firms have
superior product variety, while others excel in their ability to deliver their product.
Firms use these two concepts to add value.
Cost leadership
In the steel industry, firms produce products in mass quantities for their
customers. Many of the companies sell similar products. This gives customers the
ability to change their supplier quick and easily. Because of this, companies try to cut
their costs so they are able to sell their products at the lowest price. Cutting costs also
leads to higher profits.
Economies of Scale and Scope
Economies of scale and scope can add value to firms in the steel industry by
cutting costs. Economies of scale exist when a company benefits from increasing
production and in effect reducing costs. This is common in the steel industry, where
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mass production is a cost cutter. Also, the steel industry has seen many mergers and
acquisitions over that past couple years. This is because firms believe that increasing
their production will increase their profits. Economies of scope exist when a firm can
cut costs by using different marketing and distribution strategies. Many firms in the
industry distribute a variety of different types of steel. If a firm can efficiently produce
many different types of steel, it will be able to provide for a broader range of
customers.
Low-Cost Distribution
One way to cut costs is to reduce the costs of distribution. If a company has a
customer three thousand miles away, distribution costs can get expensive. As
mentioned before, the steel industry has seen a lot of mergers. This could likely be
related to the improvement of distribution channels. Many companies in our industry
have acquired companies all across the country, which gives them better access to
more customers. With more plants spread out across the country, companies are able
to deliver their products for much less.
Research and Development
Research and development has proved to be an important part of just about
every industry. However, some companies do not rely as heavily on their R&D as
others. If a company feels that it is comfortable with their current products and
technology, it might not invest large amounts of cash into R&D. On the flip side, there
are companies that invest millions of dollars every year to stay in front of the rest of
their industries. These firms believe that discovering new technology will get them an
edge on their competitors. In the steel industry, the firms vary in their R&D
investments. Certainly, ArcelorMittal is a leader in the industry. They invested much
more than every other firm in the industry. This is not an example of cutting costs, but
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they believe that their research will benefit them in the future. Companies wishing to
be cost leaders can minimize there R&D costs.
Differentiation
Since the steel industry has a small percentage of products that differentiate
from other competitors they rely on other factors. A valued customer looks for a firm
that can set themselves apart from the other ones, which can be accomplished several
ways.
Superior Product Quality
In the steel industry many companies make the same kind of steel. For the most
part all the steel produced in the industry is relatively the same. What makes a
company stand above the rest is the ability to produce specialty steels. In the steel
business there are more than three hundred standard steel types, which most
companies can produce. The thing that good companies strive for is the ability to
produce specialized steel with certain customized alloy grades. Making these certain
types of steel really can make a good company a great one in the industry.
Superior Product Variety
Investments in product quality help larger firms take advantage over the smaller
ones. Many companies pride themselves in the quality of steel they provide for their
customers. There are many product varieties that go along with a steel manufacturing
company. Many of the large firms have hot-rolled and cold-rolled sheets of steel that
have many varieties in them such as angles, rolls, flats, and many more. When
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thinking along the lines of steel most people might think that there is not a big variety,
but steel companies really do produce more than one might think. A company with
superior product variety produces everything from carbon steels, fasteners, alloy steel,
and engineered steel. This is something that might separate the best steel producer in
the industry with the medium or worst producer in the industry.
Investment in Research and Development
Staying ahead of the curve in any industry is extremely important to any
company. With new companies and new buyers entering the market it is important to
be ahead of the rest of the industry in any way possible. The best possible way to get
ahead of the industry is to research and develop things that other people are not aware
of. Some companies have spent more than 186 million dollars in research and
development, which allows them to be ahead of most of their competition. Even
though it is confusing on how they exactly use their research and development money,
one thing we know is that when spending that much money there has to be some type
of gain that justifies the spending.
Competitive Advantage Analysis
Like all industries, companies in the steel industry must try and sustain a
competitive advantage to stay afloat. A company in the steel industry must try and
stay in the cost leadership role and also differentiate their product from others
products. In perfecting these two things a company in the steel industry can
successfully position themselves within the industry.
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Growth and Production
Nucor moved to the steel industry from the nuclear instrument and electronics
industry in 1966 and immediately started to expand. When Nucor started its company
it bought its steel rather than producing its own steel. In the steel industry, without
having a specialized product, it is difficult to get a competitive advantage over your
competition. In order to become more profitable and gain a competitive advantage
over other companies in the steel industry, Nucor decided to produce its own steel.
After building their first mill, profits began to rise tremendously. Nucor has grown at an
inclining rate to where it is today, with over $15 million in market cap and a member of
the S&P 500.
Over the past 5 years Nucor has expanded its company through mergers and
joint ventures and continues to do so. They are always looking for an opportunity in
business acquisitions and joint ventures as well. Acquiring other companies can lead to
lower input cost, greater production, and easier distribution. Nucor has one of the most
cost efficient services in the industry allowing their employees to make quick, decisive
decisions without wasting valuable time.
Because of Nucor expansion, they continue to remain competitive with other
large companies that are in the steel industry. Nucor’s decision to produce its own steel
and expand its company through a series of mergers and joint ventures has given it the
competitive advantage over many firms in the steel industry.
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Recycling and Strip Casting
Nucor is the largest recycling company in the world. Nucor’s production process
is known for being economic friendly and protective. According to Steve Rowlan at
(Nucor.com), “Protecting the environment is critical to our operations and the
company’s long-term success. To this end, we endorse these principles to demonstrate
our commitment to the environment.”
Today, Greenfield projects are helping Nucor grow and become more cost
efficient with new plants. Spending money on research and development has paid off
for Nucor. Recently, they found breakthrough technology in strip casting, which only
Nucor has exclusive rights to in North America. Strip casting allows “lower investment
and operating costs, reduced energy consumption and smaller scaled plants than can
be economically built with current technology. This process also reduces the overall
environmental impact of producing steel by generating significantly lower emissions.”
(Nucor 10-K 2008)
Through Nucor’s recycling scrap production process, Nucor has increased gross
profit and decreased expenses. Nucor’s new method of strip casting has lead to lower
operating cost and reduced energy consumption which has lead to an increase in
profits. Nucor’s recycling production process and method of strip casting has given
Nucor a competitive advantage over other competitors in the steel industry.
Research and Development
Nucor has been using research and development in order to stay innovative and
compete in the steel industry. Nucor’s research and development has given them the
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competitive advantage they have over other companies in the industry today. Nucor will
continue to explore different areas of their industry in order to stay competitive with
other companies. Nucor has developed and will continue to develop new products and
methods to compete with other companies.
Through research and development and some risk taking Nucor will continue to
grow, explore, and produce new innovations that will give Nucor the competitive
advantage over other companies in the steel industry.
Accounting Analysis
Financial statements do not always reflect firms true economic business
activities. Most financial statements are often biased reflecting a manager’s
interpretation and or desire to incorporate a specific objective and outcome into a firm’s
financial statement. An analyst uses the accounting analysis to separate the noise
implemented by the manager and evaluate a firms credible economic business
activities. There are six steps that an analyst follows in an accounting analysis. The
first step is identifying a firm’s key accounting policies. This is important because many
companies use different policies. Using different policies can distort accounting
numbers, which in effect can mislead investors. An analyst compares a firms key
success factors to other competitors in the same industry. The second step in the
accounting analysis is to assess the degree of potential accounting flexibility. A
manager uses accounting flexibility in relation to their firm’s key accounting policies.
The third step is to evaluate an accounting strategy. By incorporating an accounting
strategy a manager is able to show the firms true economic business activities or use
these strategies to make the firm look appealing. The fourth step in the accounting
analysis is to evaluate the quality of disclosure. “Disclosure quality, therefore, is an
important dimension of a firm’s accounting quality” (Palepu & Healy). The fifth step in
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the accounting analysis is to look for any potential red flags. Red flags are indicators
that the analysts should evaluate the disclosure in more depth. The sixth and final step
in the accounting analysis is to undo the accounting distortions. Undoing the
accounting distortions will make the firm’s financial statement more accurate and
unbiased regarding a managers accounting strategy (Palepu & Healy).
Research and Development
A firm’s investment in research and development can give the company a
competitive edge in the future. There have been questions raised on whether R & D
should be recorded on the balance sheet or as an expense. Under IFRS (International
Financial Reporting Standards), R&D is reported as an intangible asset if certain
requirements are met (allbusiness.com). However, under GAAP regulations, R& D is
reported as an expense. This is due to the fact that R&D doesn’t guarantee to payoff,
and if in fact it does not pan out, companies would suffer losses.
In the steel industry, companies differ in their investment in R&D. Not only can
R&D help to grow and develop new products, it also can help companies run more
efficiently. While most steel companies still use coke in their steel production, Nucor
found a way to produce without coke, which has significantly reduced their coal
consumption. Also, companies in the industry rely heavily on natural gases and
electricity to run their plants. These companies can experience great cost reductions if
they are able to find ways to run their mills more efficiently.
These expenses have a negative effect on net income. Given that they are
reported as expenses on the income statement, companies see reductions in their net
income equal to the amount of invested R&D. If companies were required to comply
with IFRS, their balance sheets would show R&D as intangible assets. Because they do
not, sometimes a company’s assets are understated.
The degree to which steel companies in the industry report their R&D varies
from firm to firm. Nucor briefly talked about staying innovative and constantly looking
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for ways to improve the efficiency of their operations (Nucor 10K-2007), but they
neglected to go into details.
In conclusion, R&D can be a huge competitive advantage for firms fighting for
cost leadership and differentiation. Investors should be aware that a company with
high R&D expenses will have lower values for net income on their income statements.
High R&D expenses can possibly result in greater payoffs in the future.
Goodwill
Goodwill is the intangible asset account that is created when the purchase cost
of an acquisition is greater than the fair value of the assets obtained. Goodwill is no
longer amortized but is required to be tested annually for any changes. The amount of
goodwill that is charged is reassessed each year to make up for any impairment that
may have occurred. Having a market value less than the carrying value of an asset, or
in most cases a purchased business, creates impairment. If there is impairment after
the company has performed the annual test to determine the amount of goodwill, they
must disclose this information in their financial statements by reducing that asset down
to market value, decrease the amount of goodwill that is reported, and recognize the
impairment as a loss and expense it on the income statement. As a result of
impairment, the assets of the company will be overstated and subject to an adjustment.
Prior to 2002 goodwill was amortized over a certain period of time as an asset
with a limited life but because goodwill can be such a large percentage of a company’s
assets, it was determined that an annual test to test for impairments would most
accurately display the company’s value. If this test is done correctly and annually fixes
the amount charged to goodwill, it will help investors analyze the true value of the
assets. As in all accounting areas, GAAP leaves some discretion up to the managers
and if they desire the assets of a company can always be undervalued or overvalued.
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Goodwill 2004 2005 2006 2007
Nucor 6,599 17,020 143,265 847,887
Commercial Metals
30,542 30,542 35,749 37,843
U.S. Steel - - - 1,712,000
Arcelor Mittal 106 1439 11,040,000 15,031,000
*In thousands (U.S. Steel did not disclose goodwill before 2007) Operating Leases
There are two common forms of leases that companies can choose from. A
company’s decision on which lease to use is based on what they would like their
financial statements to show. It is important that investors know the difference
between operating and capital leases because companies’ financial statements are often
misleading.
In an operating lease, companies do not have to debit their assets, nor do they
have to credit their lease payments as liabilities. This is an example of what is
commonly referred to as “keeping it off the balance sheet.” For operating leases,
companies must report an operating expense on the income statement to account for
these leases. When a company uses operating leases, it is often that their intentions
are to overstate their expenses, which in effect, understates their net income. These
lower net incomes are incentives for companies because they allow them to pay lower
taxes.
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In a capital lease, companies must debit the lease as an asset and credit their
liabilities for lease payments. This is the main difference between the two. Another
difference is that companies can depreciate capital leases. When a capital lease is
exercised, a company’s total assets are much more accurately reported than under an
operating lease.
In the steel industry, operating leases are drastically outweighed by capital
leases. Most firms in the industry have minimal operating leases, and some don’t
report any on their income statements. Nucor had total operating leases of just over
$40 million in 2007. This number seems fairly insignificant because they had total long
term liabilities of more than $3 billion. If they were to capitalize these leases, it would
not significantly affect Nucor’s balance sheets.
Pension and Postretirement Benefits As one of Nucor’s Key Success Factors, cost leadership is something they focus
on so they can try and pass their savings onto their customers. Since Nucor tries to be
as cost efficient as possible, they expense their pension and postretirement benefits.
This makes them be extra careful to make sure that the rates are fairly accurate. The
benefits of the employees are earned and accumulated over the life of their career at
Nucor. This is a liability that the company will have to worry about for many years to
come. When comparing Nucor’s discount rate to U.S. Steel their rates were fairly close
by comparison over the years. Nucor was the one of the only companies which
displayed their discount rates and benefit obligations in their 10-k.
49
Nucor’s Discount Rate and Benefit Obligations
Year 2003 2004 2005 2006 2007
Discount Rate 6% 5.75% 5.50% 5.75% 6.50%
Benefit Obligations 8.9 million 172.3 million 206 million 272.6 million 229.9 million
*Numbers from Nucor’s 10-k 2008-2003
One main problem that Nucor might have with their discount rate for a particular
year is that it rate is a prediction. This prediction is something that can really affect the
outcome of the company’s balance sheet. If the discount rate is understated that
would then cause the liabilities to in turn be overstated. A problem will not only occur
on the balance sheet if the discount rate is understated, but if the discount rate is
overstated it will cause the liabilities to then be understated. This is something very
important to focus on when trying to analyze the financial statements of a company.
One way to show this is by the following chart:
A = L + E R + E = NI
N O U N O U
*N = No change O = Overstated U= Understated
50
Currency Risk
International Corporations that have factories in different countries are affected
by the market risk of currency. Many of Nucor’s competitors in the steel industry
conduct business in foreign markets. For example Arcelor Mittal one of Nucor’s biggest
competitors conducts the majority of its business in foreign markets. Although Nucor
does minimal business in other countries and the majority of their income comes from
the domestic market; in 2007, Nucor’s gain from derivative contracts in foreign
countries was 5,847,000. It’s important for all firms in the steel industry to let the
public know how they account for each foreign transaction.
According to Nucor’s 10K, “During time of a strengthening U.S. dollar, our
reported net revenues and operating income will be reduced because the local currency
will translate to fewer U.S. dollars” (Nucor 10K 2008). For this apparent situation, it
would be imperative for Nucor to have an accounting strategy to take advantage of the
inconsistency of the domestic and foreign currency market. Nucor uses derivatives to
manage and protect themselves from volatile interest rates on outstanding debt
instruments. Forward foreign exchange contracts are used by Nucor also in order to
hedge cash flows that are affiliated with assets and liabilities.
Accounting Flexibility
Nucor, as well as other companies in the steel industry, compiles their financial
statements together by following the accounting rules which are normally perceived as
acceptable by the United States. Accounting flexibility is something that companies
has, which allow them to estimate or make certain predictions about certain accounting
actions they take in recording on their financial statements. Accounting flexibility is
something that investors must look at when trying to find out the real position of the
51
company they are analyzing. According to Nucor’s 10-k of 2008, “The preparation of
these financial statements requires us to make estimates and assumptions that affect
the reported amounts of assets and liabilities, the disclosure of contingent assets and
liabilities at year end, and the reported amount of revenues and expenses during the
year.” The bad thing about these financial statements being estimates and
assumptions is that it can really be misleading on certain financial statements. So it is
very important for managers to take their position seriously and try to state their
financial positions as close as possible.
Research and Development
The GAAP regulations for research and development are pretty straight forward.
GAAP requires companies to report their R&D costs as expenses. Companies have
some freedom when it comes to what they are allowed to expense under R&D. They
are allowed to expense salaries and wages of employees involved with R&D, and other
things that provide R&D benefit such as contract services and research
centers(nysscpa.org). For example, Arcelor Mittal’s has 1,200 researchers employed at
13 different centers across the globe, working to better their R&D (Arcelor Mittal 10K,
2006). The flexibility companies are given to associate certain expenses as R&D costs
can get a little cloudy. Companies also have the flexibility to capitalize these expenses
once there is a realized asset. This allows companies to more accurately state their net
income, and recognize the asset on the balance sheet.
On the companies we examined in our industry, other than Arcelor Mittal, the
R&D disclosures were poor. They didn’t provide the information to back up their claims
of reliance on R&D. Therefore, we don’t consider research and development to be an
effective means of evaluating these companies’ statements.
52
Goodwill
It is very important for companies to report the goodwill account accurately each
year because it can be an extremely large component of a firm’s assets. There is
however, a certain degree of flexibility given to the managers of a company when
determining how to record goodwill in their financial statements. Since goodwill is no
longer allowed to be amortized, the GAAP has made it a requirement that goodwill be
tested for impairment annually and in turn, creating many ways for managers to
manipulate the overall value of the firm. This is contingent on whether the company
records financial statements with high disclosure or low disclosure information.
Many companies in the industry have large amounts of goodwill on their books.
An overstatement of assets can result from a delayed impairment of goodwill. Because
of the GAAP policy changes regarding goodwill in 2001, companies are now forced to
take more aggressive steps in impairing and ultimately recording goodwill. These
aggressive guidelines force companies to display net income, assets, and equity with
more accuracy. Imperfect information on goodwill throughout the industry makes it
difficult to specifically relate this policy change to accounting flexibility that was
expected when the GAAP implemented this adjustment. The GAAP does not insist that
the amount of fair value and the allocation process be recorded on the financial
statements of the company; this allows for great flexibility in the accounting policies
and shows how much control the managers have when preparing these statements.
The manipulation that managers can use over the value of the company is
usually a recognized accomplishment in the eyes of the executive office. Many times,
there is reward for an increased value of a company through taking advantage of
accounting flexibilities. One of the most common ways to control the financial
statements through goodwill is to expense the write off of goodwill through the income
statement which would overstate equity and net income. At any time a company can
be undervalued or overvalued as a result of the flexibility of goodwill and it is at the
investors benefit to understand the policies that create this volatility.
53
In this industry, we have yet to find a company that has recorded impairments to
their goodwill. It is possible that some companies have impaired their goodwill during
mergers and acquisitions. If this is the case, they need to do a better job of disclosing
it.
Flexibility Capital and Operating Leases
Companies have a high degree of flexibility when it comes to how they can
report their capital and operating leases. As we mentioned before, capital leases are
recorded on the balance sheet, with the actual lease listed as an asset, and the lease
payments listed as liabilities. From industry to industry, companies can manipulate
these leases to make their statements appear a certain way. If a company wants to
show that they have high incomes, then they will often use capital leases. If they want
to have higher total assets, they will also use capital leases. This is because operating
leases are not recorded on the balance sheet. The reason that higher incomes are a
result of capital leases is because operating leases overstate expenses. This causes the
net income to be understated. Nucor and its competitors have relatively small
operating lease totals on their income statements. However, if they wanted a way to
lower income taxes or just to have fewer liabilities on their sheets, they have the
accounting flexibility to use more operating leases. For investors, it is important that
they be able to understand the effects of the different leases.
Pension and Postretirement Benefits
Pension plans and the postretirement benefits which Nucor steel pays to its
employees is a promise which they must keep for a long time. These benefits have
been earned by former employees and must be up held for many years to come. Even
though we could only find the discount rates of a small amount of other companies in
the industry, Nucor compares fairly close by comparison. Even though the benefits
54
have a negative effect on the net income, management could be a little more flexible
with reporting the information needed. Since the discount rates are predicted, it is up
to the managers to decide the certain rate for a particular year. Over the last five
years, Nucor’s discount rate has seen little volatility. In 2003, it was at 6% and in 2007
and it was 6.5%. As stated in Nucor’s 10-k for 2008, the total liabilities for 2007 were
4.7 billion dollars. The benefit obligations for 2007 were 229.9 million, which were a
small part of the total liabilities. Since the percentage of debt is so small there can be a
little flexibility when reporting this certain information.
Currency Risk A minimal amount of accounting flexibility is used when it comes to currency
exchanges. Noise from management is not implemented or is very improbable
considering all foreign exchanges are monitored by the SEC and recorded using GAAP
standards. Interest rates and exchange rates are both publicly available information.
Since this information is publicized a manager is less likely to manipulate a calculation.
People are able to find and calculate the exact interest rates or exchange rates used,
and compare these numbers to the manager’s numbers. Consequently, we can
speculate that Nucor abides by the strict principles of the GAAP when using foreign
currency exchanges.
Accounting Strategy
Understanding the accounting strategies of a company is an important element
when determining overall value of the corporation. Companies can choose many
different ways to portray their status through their financial statements. An important
component of reporting financial statements is whether the company is a high
disclosure corporation or a low disclosure corporation. A high disclosure firm
meticulously explains all key accounting decisions that could help investors accurately
55
depict the company’s value. This type of disclosure assures the GAAP policies are met
and has the company’s value fully transparent to any reader. A low disclosure firm
satisfies the bare minimum requirements of GAAP which can create and construed value
of expenses, liabilities, assets, and revenues. To determine whether a company is a
high or low disclosure firm, an investor would usually look at the levels of dis-
aggregation, segment reporting, extensive discussion and disclosure. In addition to the
level of disclosure a company uses, the nature of a firm’s key accounting policies is also
important. An aggressive use of these policies leads to higher reported earnings and a
conservative practice leads to lower reported earnings. Each of these dimensions to the
strategy of accounting can help establish the true value of a company, regardless of
how transparent the financial statements are.
Research and Development
Throughout the steel industry, many firms agree that research and
development can be very beneficial. With that said, it is still unclear as to how exactly
these firms approach their R&D, and to what extent. Also, many of the companies in
the steel industry have engaged in major acquisitions and mergers in recent years.
Within these deals, it is common to see two companies coming together with differing
emphasize on their R&D programs. The disclosure of how these companies have dealt
with the mergers and the R&D departments has been extremely vague. It is difficult to
get a good idea of these companies’ R&D expenses with the low degree of disclosure.
For the most part, using R&D as an accounting policy has been ineffective.
Then again, an investor looking at a company like Arcelor Mittal, who reported 147
million euros on R&D in 2006, would need to know that their income statements would
show overstated expenses, and an understated net income.
As for Nucor, R&D has helped them lower their costs by improving their plants to
make production more efficient, and has differentiated their products. Their financial
statements leave some questions as to how much they actually invest in R&D.
56
Goodwill
Nucor’s disclosure of goodwill in their financial reports has improved
drastically in recent years. They provide the reader with a segmented
breakdown of the different types of products they manufacture. The table
provided in the previous section breaks down the different segments of
Nucor’s goodwill. This allows an investor to take a deeper look into the core
values of the company to ultimately asses the level of value. In years prior to
2006, Nucor’s disclosure of goodwill is nonexistent. Goodwill in years 2004-
2006 can be found on the 2006 10K, but they have not shown any
impairments. In 2007, Nucor did a good job in reporting their goodwill. They
also broke down one of the major acquisitions and showed the price they
paid to acquire the new company’s goodwill. This company’s accounting
flexibility and the high disclosure information create a set of financial
statements that are very transparent and can also be manipulated through
these different accounting policies set by GAAP.
Although recent years’ financials are highly disclosed, Nucor’s has not
shown any evidence of impairments. As mentioned above, companies are
required to assess their goodwill every year to see if impairment is needed.
We feel that because Nucor has been involved with so many acquisitions,
they have neglected to impair their goodwill. We feel like this is a mistake.
Even though their goodwill has grown very fast, they still need to impair it
from time to time. Other than the lack of impairments, Nucor has drastically
improved their disclosures regarding goodwill. The most recent financials
give investors and analyst sufficient information to accurately evaluate the
firm.
57
Capital and Operating Leases
As we mentioned earlier, companies have the choice between using capital and
operating leases. Each accounting strategy influences the financial statements
differently. Capital leases are recorded on the balance sheet, hopefully showing the
companies true assets and liabilities. Operating leases are included in the income
statement, and they normally overstate expenses and understate net income. Nucor
along with the rest of the steel industry has used much more capital leases than
operating leases. We consider this to be a conservative approach to accounting for
their leases. Their balance sheets are more accurate, and their income statements are
not misleading. This chart demonstrates just how small of a percentage Nucor’s
operating leases are compared to their total contractual obligations. (Nucor 10k, 2007)
Payments Due By Period
Contractual Obligations Total 2008 2009 - 2010 2011 - 2012 2013 and after
Operating leases
40,532 9,134 11,718 5,480 14,200
Others
8,617,555 1,752,471 1,529,296 1,649,049 3,686,739
Total contractual
obligations $8,658,087 $1,761,605 $1,541,014 $1,654,529 $3,700,939
58
Pension and Postretirement Benefits When regarding pension benefits, Nucor disclosed about the same or less
information than most of its competitors in the industry. When looking at the 10-k
report they do state the discount rates, but they do not state how they calculated these
numbers or how where they found them like some of the other companies did. Also,
they fail to show any of the future discount rates, which their particular company might
use in the later on. This is something that some of the other companies in the industry
disclosed in their 10-k reports. We do feel that they did do better than some
companies in the industry because they did give the discount rate and the benefit
obligation amount paid throughout the years, but they could have done a better job at
talking about how they calculated the discount rate and also they could have disclosed
future discount rates.
Currency Risk
Although Nucor conducts most of its business in the domestic market they still
are involved with transactions in foreign countries. These transactions make it hard for
managers to create noise by twisting numbers and making the firm appear to be better
off than it really is. Managers use derivatives to “manage its exposure to changes in
interest rates on outstanding debt instruments and uses forward foreign exchange
contracts to hedge cash flows associated with certain assets and liabilities” (Nucor 10K
2008). This information is available to the public making it difficult for managers to
distort figures. Nucor does great job with providing information through its disclosure.
Nucor describes the financial instruments they use and where to find the gains and
losses produced by these derivatives in their financial statements. From the information
embedded in the disclosure to the relatively minimal amount of accounting flexibility
managers have when it comes to currency exchanges, we can assume that Nucor
strictly follows the GAAP accounting principles when dealing with currency risk.
59
Nucor’s moderate amount of disclosure for currency risk is available through its
10K. Nucor continues to find strategies to protect themselves from the variety of market
risk that are exposed to their business. Nucor explains how these strategies are
implemented into their business and to what affect these strategies have on their
business. Nucor continues to use derivatives in foreign markets to help protect
themselves from the volatile interest rates and they continue to hedge cash flows
affiliated with assets and liabilities. These methods help Nucor reduce the amount of
market risk and currency risk Nucor encounters.
Quality of Disclosure
After analyzing the previous sections, we were able to form some opinions about
the quality of Nucor’s disclosure. It is important that companies report their financial
statements carefully and accurately so that investors and analyst can get a clear idea of
the company’s value. Nucor’s disclosure is more complete and transparent in some
areas, but still vague in others.
Qualitative Analysis
As we just mentioned, some areas of Nucor’s statement disclosure were easier to
analyze than others. In their 2007 10K, they talked about the importance of their R&D
and how they must stay innovative to maintain their status in the industry. However,
they didn’t do a good job of backing this up with facts. This was common throughout
the industry. For a company that says they have a strong focus on R&D, one would
expect to see some evidence. Nucor’s disclosure of R&D was low, but just about the
same as others in the industry.
Over the last couple years, Nucor has improved their goodwill disclosure greatly.
When we compared the 2004 10K to the 2007 10K we saw that they do a much better
job of reporting goodwill. Nucor has been involved with multiple acquisitions, and they
60
have done a nice job in showing that price they paid for the goodwill of these
companies. Although they showed goodwill clearly, they didn’t show any impairment to
their goodwill. Over the past few years they should have analyzed their goodwill at the
end of each year, and made adjustments. Nucor’s disclosure of goodwill was high, and
above average in the industry.
Nucor doesn’t use a lot of operating leases, but they did show exactly how much
they will be expensing over the next 5 years. These numbers would be more relevant if
we were able to compare them to capital leases, but there were no capital leases
recorded. Nucor’s disclosure of capital and operating leases was low to moderate, and
the information that was in the report didn’t tell us what we wanted to know.
Nucor’s moderate amount of disclosure regarding currency risk is available
through its 10K. Nucor does a relatively well job of informing the public through its
disclosure about the financial derivatives they use in order to capitalize on the currency
exchange. Nucor explains the strategies they use and how they implement these
derivatives when focusing on currency exchange rates. Overall the quality of the
information embedded in Nucor’s disclosure regarding currency risk is moderate.
Quantitative Analysis
Analysts use quantitative analysis to see if a firm’s financials are telling an
accurate story. Accountants look for ways to distort a firm’s financials to provide more
value for a firm. Thus, GAAP allows more flexibility for managers to choose their own
accounting methods when valuing a firm. Since managers have incentives to distort or
make the firm look better, they prefer one that will present more value for their firm.
This can be deceiving to others because the information may be misleading. To
prevent deception, there are two ways to provide information that can make it clearer.
Quantitative analysis uses sales manipulation and expense manipulation
diagnostics to evaluate a firms accounting analysis. Each one of these diagnostics has
61
ratios that represent figures from statements so we can quickly identify any distortions.
By using these ratios, potential “red flags” can be spotted in the accounting analysis.
Identifying these “red flags” can show where distortions in the accounting cycle are
being made to outsiders.
Sales Manipulation Diagnostics
Sales manipulation provides values from sales, cash from sales, accounts
receivables, warranty liabilities, and inventory. These are found on the balance sheet
and income statement. As financial analysts, we have collected the past 5 years of
financial information, raw and change form, for Nucor and their closest competitors in
the steel industry. By comparing the firms’ financial statements, we will be able to
make assumptions based on the correlation between their current assets and liabilities
and their sales. After analyzing how they relate, we can then see if they are similar to
the rest of the industry. Thus, can provide a quick assumption for how the industry is
changing which can raise any “red flags.”
Net Sales/Cash From Sales
This ratio is an indicator of how much cash has been collected as a percentage of total
sales. Firms like to receive payment as quickly as possible, so the higher this ratio is,
the better. If companies are doing a good job collecting cash, this number is generally
around 1. This is displayed in the following graphs.
62
Net Sales/Cash From Sales (Raw)
Net Sales/Cash From Sales (Change):
The first graph above shows us how much cash each company in the industry is
collecting from their sales. To get this ratio, take net sales divided by cash from sales
for the year. This means their customers are paying with liquid assets, avoiding a high
accounts receivable for firms. The industry as a whole is stabilizing, for the most part,
0.84
0.86
0.88
0.90
0.92
0.94
0.96
0.98
1.00
1.02
2003 2004 2005 2006 2007
NUE
X
CMC
PKX
MT
‐0.20
0.00
0.20
0.40
0.60
0.80
1.00
1.20
1.40
1.60
2003 2004 2005 2006 2007
NUE
X
CMC
PKX
MT
63
around .98. We see that in the second graph that there was a dramatic decrease
collected in 2005 for U.S. Steel. This could be related to an increase in sales to
companies who are given a grace period to pay their bills rather than companies who
pay their bill when the order is placed.
Net Sales/Net Accounts Receivable :
This ratio shows how much of a company’s total sales are still on credit. The higher
this ratio is, the more the company has on hand. This means that they are turning
their credit sales into cash more quickly. If this ratio is low, that means that
companies are missing out on the opportunity to use or invest the cash in some other
area.
Net Sales/Net Accounts Receivable (Raw):
0.00
2.00
4.00
6.00
8.00
10.00
12.00
14.00
16.00
2003 2004 2005 2006 2007
NUE
X
CMC
PKX
MT
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Net Sales/Net Accounts Receivable (Change):
In the first chart we can see that the industry is relatively stable in collecting
their accounts receivable compared to Nucor. The industry is averaging around eight or
nine days in collecting their money, while Nucor is usually higher and even peaking in
2006. Even though Nucor has been higher relative to the industry, they have lowered
their collection days from 13.82 to 10.30 in the past year. The second graph shows
that Nucor has taken a big step in trying to correct their collection problem. Nucor,
compared to industry, has made a dramatic change in the number of days that it will
take them to collect their money. This should help to keep Nucor on the right track for
years to come.
Net Sales/Warranty Liabilities
This ratio represents a company’s warranty liabilities as a percentage of its total net
sales. Companies want this ratio to be high, which would indicate small warranty
liabilities. Warranty liabilities are a result of a product not living up to its potential, and
the company has to pay to make it right. Obviously, if a company can avoid doing this,
they will avoid having to pay extra cash.
‐30.00
‐20.00
‐10.00
0.00
10.00
20.00
30.00
40.00
50.00
60.00
70.00
2003 2004 2005 2006 2007
NUE
X
CMC
PKX
MT
65
Net Sales/Warranty Liabilities (Raw):
Net Sales/Warranty Liabilities (Change):
The first graph represents net sales divided by warranty liabilities (raw). This is
important to analyze because managers tend to understate their warranties to increase
earnings. There should be a direct relationship between sales and warranty liabilities;
0.00
100.00
200.00
300.00
400.00
500.00
600.00
700.00
800.00
900.00
2003 2004 2005 2006 2007
NUE
X
CMC
PKX
MT
‐400.00
‐200.00
0.00
200.00
400.00
600.00
800.00
1000.00
2003 2004 2005 2006 2007
NUE
X
CMC
PKX
MT
66
when sales increase, warranty liabilities increase. If anything varies from this, the
manager could potentially manipulating warranty liabilities to improve the company’s
perceived value. The steel industry has been steady the past 5 years, except for US
Steel. US Steel’s net sales have increased over the past 5 years, but their warranty
liabilities have remained constant or barely increased. This ratio shows that they are
probably understating their warranty liabilities, potentially raising “red flags”.
The second graph represents net sales divided by warranty liabilities
(change). In 2004, US Steel improved their sales but they decreased their warranty
liabilities. This could raise another “red flag” during this period. Other than US Steel’s
sudden increase, the steel industry has stable ratios.
Net Sales/Inventory
This ratio represents the how much inventory a firm keeps as a percentage of
their net sales. Companies want to get their inventory “off the shelves” as quickly as
possible. It is costly and inefficient to keep large amounts of inventory. The higher this
ratio is, the smaller amount of inventory a company is holding.
Net Sales/Inventory (Raw):
67
Net Sales/Inventory (Change):
In the graphs above we can see that the industry has been relatively stable over
the past five years. Nucor has been above the industry average for the past three
years. The ratio is basically something that indicates the inventory costs and unit sales.
This means that Nucor is doing rather well in their inventory. The higher the ratio the
0.00
2.00
4.00
6.00
8.00
10.00
12.00
14.00
16.00
2003 2004 2005 2006 2007
NUE
X
CMC
PKX
MT
‐250.00
‐200.00
‐150.00
‐100.00
‐50.00
0.00
50.00
100.00
2003 2004 2005 2006 2007NUE
X
CMC
PKX
MT
68
better it is for the company. If the ratio is higher this means that there will be lower
inventory cost which will also lead to lower overhead cost.
Conclusion
After conducting a sales manipulation diagnostics of Nucor and its closest
competitors in the steel industry, we found that the ratios are accurate. We did not
find anything that appeared to be distorted in the past 5 years, except for US Steel. As
analyst, we have concluded that US Steel has understated warranty liabilities to
increase earnings. Other than a couple of spikes and dips, the industry as a whole
seemed to migrate together.
69
The following table was used to make the graphs above.
NUE Sales Manipulation Diagnostics 2003 2004 2005 2006 2007Net Sales/Cash from Sales 0.99 0.97 1.00 1.00 0.97Net Sales/Net Accounts Receivable 10.95 11.83 12.69 13.82 10.30Net Sales/Warranty Liabilities 29.98 46.43 44.88 48.67 65.07Net Sales/Inventory 11.19 9.17 13.44 12.93 10.36X Sales Manipulation Diagnostics 2003 2004 2005 2006 2007Net Sales/Cash from Sales 0.96 0.96 1.01 0.99 0.98Net Sales/Net Accounts Receivable 7.65 7.89 8.73 8.74 8.12Net Sales/Warranty Liabilities 186.56 481.69 452.87 506.94 843.65Net Sales/Inventory 7.27 11.67 9.62 9.80 7.40CMC Sales Manipulation Diagnostics 2003 2004 2005 2006 2007Net Sales/Cash from Sales 0.93 0.96 0.97 0.96 1.01Net Sales/Net Accounts Receivable 6.87 7.53 7.55 6.33 7.64Net Sales/Warranty Liabilities 30.65 36.84 47.42 31.09 32.03Net Sales/Inventory 8.77 7.08 8.85 9.45 9.53PKX Sales Manipulation Diagnostics 2003 2004 2005 2006 2007Net Sales/Cash from Sales 0.98 0.97 0.99 0.98 0.99Net Sales/Net Accounts Receivable 8.60 9.01 9.41 7.95 8.93Net Sales/Warranty Liabilities 57.40 19.48 17.96 21.78 25.34Net Sales/Inventory 8.60 8.48 8.18 7.44 7.82MT Sales Manipulation Diagnostics 2003 2004 2005 2006 2007Net Sales/Cash from Sales 0.90 0.98 0.99 0.90 0.99Net Sales/Net Accounts Receivable 6.03 11.07 12.30 6.71 11.04Net Sales/Warranty Liabilities 19.45 9.62 10.57 8.74 14..46Net Sales/Inventory 6.03 5.53 4.47 3.06 4.84
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Expense Manipulation Diagnostics:
Another way to expose accounting distortions is using expense manipulation over
the past 5 years. It consists of provides information for asset turnover, cash flows, and
total accruals. Information for these ratios is found from the income statement and the
statement of cash flows. Managers have incentives here to understate expenses,
manipulating this part of the quantitative analysis.
Asset Turnover:
The Asset Turnover is computed by dividing net sales by total assets. The ratio is
preferred high because it concludes the amount of sales that have come from each
dollar of assets. This ratio is important to investors because as firms grow, they will
acquire more assets and it is essential that the sales expand enough to cover the higher
asset levels.
Asset Turnover (Raw):
0.00
0.50
1.00
1.50
2.00
2.50
3.00
2003 2004 2005 2006 2007
NUE
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CMC
PKX
MT
71
Asset Turnover (Change):
The first graph represents asset turnover (raw), or sales divided by total assets.
“Companies with low profit margins tend to have high asset turnover, those with high
profit margins have low asset turnover - it indicates pricing strategy.”
(investopedia.com) As you can see the most of the industry is above or around 1. This
is caused by competitive pricing among firms.
The second graph represents asset turnover in change form from year to year.
After 2004 the steel industry is relatively stable in the 4.5 to -.06 region. This graph
shows the competitiveness on cost leadership for steel.
CFFO/OI:
A firm’s cash flow from operations divided by its operating income explains the quality
of earnings. The statement of cash flows and the income statement are easily linked
through this ratio. When a firm operates with a CFFO/OI ratio of 1 to 1 it is said that
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72
the company’s cash flows from operations are produced from their earnings from
operations.
CFFO/OI (Raw):
CFFO/OI (Change):
The first graph represents cash flows from operations divided by operating
income (raw). This directly relates the income statement and statement of cash flows.
Firms around a 1 show that they are receiving as much cash flows as to how much they
are operating on. The second graph represents cash flows from operations divided by
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73
operating income (change). The industry has a stable average around 1. In 2005,
Nucor rose to an all time high of 4.01. This shows that Nucor has more cash flows from
operations than its operating income.
CFFO/NOA:
Dividing the cash flow from operations by the net operating assets tells how much cash
is being produced from daily operations and how well a firm uses its assets. This ratio
is used to determine how much money is replaced into the firm from spending one
dollar on the operating assets.
CFFO/NOA (Raw):
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2003 2004 2005 2006 2007
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74
CFFO/NOA (Raw):
The first graph represents cash flows from operations divided by net operating
assets (raw). Net operating assets consist of tangible assets such as plant, property,
and equipment. This ratio represents how well a firm uses its cash flows from its
assets. The higher the ratio the better the firm is utilizing its assets from cash. From
2004 to 2007, Nucor has the best ratio with a peak of .79 in 2006. In the same year,
ArcelorMittal dropped to an industry low of .26.
The second graph represents cash flows from operations divided by net
operating assets (change). Throughout the industry there has been little change from
year to year. US Steel has fluctuated the past 5 years, which could be due to
overstating assets in 2004.
Total Accruals/Change in Sales:
This computation is performed by taking the cash flow from operations minus
the net earnings from the period divided by the total sales. An ideal result is
somewhere close to one because that explains a balance between sales made on credit
accounts and other sources. Ultimately, this ratio calculates the companies ability to
obtain sales from its receivables.
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75
Total Accruals/Change in Sales (Raw):
Total Accruals/Change in Sales (Change):
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76
The previous graphs show the ratio of accruals to change in sales. This will
show us exactly how much of their sales are relying on their receivables. If the ratio is
low this means more people are paying cash for the purchase. If the ratio is high it
means that more people are paying for the purchase by way of accounts payable. This
ratio seems to be very consistent with the industry excluding U.S. Steel. U.S. Steel
seemed to have a dramatic increase in their sales on account for the year of 2005. In
previous graphs this was also shown, but by 2006 they turn around the amount of sales
on account to be relatively stabilized with the industry.
Pension Expense/SG&A:
The graphs below show the percentage of capital that is spent paying the
pension plans. To get this ratio we divided pension expense by selling, general, and
administrative expenses. This ratio is desired to be a relatively low number. Firms
what this low because it shows how much money they are paying their former
employees. If the ratio is high it lets us know that the pension plans were not thought
out very well. The higher the ration the more they are paying and thus lowering the
net income of the firm.
77
Pension Expense/SG&A (Raw):
Pension Expense/SG&A (Change):
Over the past five years Nucor has done a good job at setting pension plans and
keeping a steady average ratio. In the second graph, between 2006 and 2007, we can
see that U.S. Steel paid a bigger percentage to their former employees than previous
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78
years. This means they probably miscalculated the amount of pension that they figured
to pay for that year and their net income is suffering because of it.
Conclusion
After conducting an expense manipulation diagnostics of Nucor and its closest
competitors in the steel industry, we found that over the past 5 years, the companies’
ratios have been consistent. The ratios show that Nucor has not experienced anything
that would indicate that they are straying far from the industry. Thus, leading us to
believe that there were not any red flags in the expense diagnostics.
79
The following table was used to make the graphs above.
NUE Expense Manipulation Diagnostics 2003 2004 2005 2006 2007Asset Turnover 1.39 1.85 1.78 1.87 1.69CFFO/OI 4.76 0.56 1.01 0.78 0.76CFFO/NOA 0.18 0.37 0.75 0.79 0.60Total Accruals/Change in Sales 0.30 ‐0.02 0.62 0.24 0.25Pension Expense/SG&A 0.05 0.41 0.42 0.46 0.40X Expense Manipulation Diagnostics 2003 2004 2005 2006 2007Asset Turnover 1.18 1.26 1.43 1.48 1.08CFFO/OI ‐3.26 0.96 0.89 0.99 1.52CFFO/NOA 0.17 0.39 0.30 0.38 0.26Total Accruals/Change in Sales 0.30 0.07 4.66 0.19 0.75Pension Expense/SG&A 3.54 2.96 3.06 3.60 5.41CMC Expense Manipulation Diagnostics 2003 2004 2005 2006 2007Asset Turnover 2.13 2.30 2.68 2.49 2.40CFFO/OI 0.30 0.20 0.42 0.39 0.80CFFO/NOA 0.04 0.11 0.40 0.40 0.60Total Accruals/Change in Sales ‐0.02 ‐0.05 ‐0.05 ‐0.13 0.09Pension Expense/SG&A 0.02 0.07 0.10 0.16 0.27PKX Expense Manipulation Diagnostics 2003 2004 2005 2006 2007Asset Turnover 0.86 0.91 0.95 0.81 0.89CFFO/OI 1.07 0.93 0.90 0.89 1.12CFFO/NOA 0.36 0.43 0.44 0.26 0.36Total Accruals/Change in Sales 0.44 0.16 0.31 0.43 0.30Pension Expense/SG&A 0.28 0.38 0.44 0.48 0.47MT Expense Manipulation Diagnostics 2003 2004 2005 2006 2007Asset Turnover 0.94 1.16 0.91 0.52 0.79CFFO/OI 1.11 0.75 0.82 0.95 1.11CFFO/NOA 0.47 0.61 0.25 0.13 0.27Total Accruals/Change in Sales 0.05 ‐0.08 0.01 0.03 0.10Pension Expense/SG&A 5.72 4.06 3.45 2.90 1.74
80
Potential Red Flags
When analyzing financial statements, it is important to keep in mind that they
are not always 100% correct. The third party accounting firms that audit these reports
do not always find every little possible error. Their job is to make sure that a
company’s statements do not indicate that there is an environment that could support
corruption. The statements are documents that have been created by humans, so it is
not uncommon to find either an error, or an area of concern that may or may not have
been intentional. We call these areas of concern “red flags.” From examining prior
years’ financial statements, sometimes these red flags can be explained. For Nucor, we
found that they had inconsistencies in their reported accounts receivables. On their
balance sheet, Nucor reported their accounts receivables at over $1.6 billion for 2007
and just over $1.06 billion for 2006. The exact difference between these two years is
$544,522,000. However, on Nucor’s statement of cash flows, they reported Nucor’s
change in accounts receivables from 2006 to 2007 at -$174,326,000. The total
difference between the two statements is over $700 million. We red flagged this as it is
potentially misleading. One other area of concern was in goodwill. Nucor’s disclosure
of goodwill prior to 2006 was non-existent. But, in 2006 and 2007 they got
progressively better at reporting goodwill. However, they did not impair it once over
the last four years. We red flagged this, because the lack of impairments of goodwill
can lead to misleading figures for assets and earnings.
Undoing Accounting Distortions
When an analyst or investor red flags something when looking over statements,
they must decide if the issue is substantial, and if it is, whether or not it needs to be
corrected to get accurate financials. Many accounting distortions come from
manipulated numbers that are intended to make the firm’s financials look a certain way.
Some distortions are merely human error. For the accounts receivable growth rate
81
issue that we red flagged, we determined that the reason for the $700 million dollar
difference was because the $-174 million excluded mergers and acquisitions. Nucor’s
acquisition of Harris Steel in 2007 most likely played a large part of this. Nucor’s 10K in
2007 shows in the acquisition, $460 million of the purchase price was allocated to
current assets. Although Harris Steel’s receivables only account for a portion of their
current assets, we think that a good chunk of it was responsible for the difference
between the statement of cash flows and the balance sheet. There were other
acquisitions during the year, but they were not disclosed near to the extent that Harris
Steel was. We assume that the other acquisitions would make up the difference, but
we can’t be sure. Regardless, when making calculations for different ratios, it is best to
use the balance sheets numbers as opposed to the cash flows statement.
For the goodwill red flag, we decided to discount impairments of 20% per year
to see what the numbers would look like. We could not find numerical values for
Nucor’s goodwill prior to 2004, so the following table shows the impairments from
2004-2007.
NUCOR'S GOODWILL IMPAIRMENTS
2004 2005 2006 2007
Before Impairments 6099 17020 143265 847887
After Impairments 5279.2 14935.8 118016 706962.4
(in thousands)
The effects of these write downs will change both the balance sheet and the
income statement. Before the impairments, both assets and net income were
overstated because the impairment expense was understated. However, we don’t
82
believe that Nucor’s goodwill should be discounted 20% per year. If it should be
discounted at all, then the rate would be no greater than 5%. We believe that with all
of Nucor’s acquisitions and mergers would enhance their goodwill. The company has
grown tremendously over the past five years, and we think that its increase in goodwill
is appropriate. Therefore, we don’t believe that the statements need to be restated.
Financial Analysis, Forecast Financials, and Cost of Capital
Estimation
Investors and analysts must observe the financial information that is provided to
accurately evaluate a company. The ratio analysis, forecasting financials, and cost of
capital estimation are the three steps used in the process of analyzing a company. The
ratio analysis includes several calculations that determine the liquidity, profitability, and
the capital structure of a company. When comparing a company to its competitors an
analyst is able to study tendencies throughout the market. Examining these market
trends will also allow a forecast of future financial statements to be performed. An
estimation of Nucor’s cost of capital will follow steps one and two to accurately value
the company.
Financial Analysis
The ratios used in this financial analysis were developed to facilitate the process
of comparing industry competitors and to determine the overall value of the company.
Using the financial statements provided, an investor can evaluate a company by
computing these ratios and discussing how each calculation is an indication of standard
performance. The calculations of these ratios will later be used to forecast Nucor’s
financial statements.
Liquidity Analysis
Liquidity Ratios give investors an idea about how easy it is for a company to turn
their assets into cash. These ratios are relevant because investors need to know if a
company can convert their short term assets into cash to cover their debt. If a
83
company cannot do this, they run the potential risk of going bankrupt. Certain loan
officers and creditors make sure that a company maintains a certain ratio so that they
can cover any debt that might arise unexpectedly. These ratios also let the investors
know the amount of credit risk related to the company they are going to invest in. The
formulas that we calculated are the current ratio, quick ratio, accounts receivable
turnover, days sales outstanding, inventory turnover, day’s supply inventory, working
capital turnover, and cash to cash.
Current Ratio
To find the current ratio you divide the current assets by the current liabilities.
This shows investors how capable a company is in covering their current liabilities with
their current assets. A good number that most companies try and shoot for is around
two to one. This means that their current assets double their current liabilities. As you
can see Nucor has had the highest current ratio in the industry for quite a while now.
This tells investors that compared to the industry; Nucor has great short-term financial
strength. Their assets over the past five years has almost been three times more that
the amount of liabilities.
Current Ratio
2003 2004 2005 2006 2007Nucor 2.57 2.98 3.24 3.29 3.21 X 1.46 1.72 1.76 1.92 1.65 CMC 1.90 1.82 1.91 1.81 2.29 PKX 1.83 2.10 1.98 2.41 2.17 MT 1.06 1.54 2.09 1.60 1.41 Industry Avg. 1.76 2.03 2.19 2.21 2.15
84
The industry average current ratio is just over 2. This means that these companies’
current assets are twice that of their current liabilities. The whole industry seems to be
following the same trend, with Nucor showing a little more liquidity.
Quick Asset Ratio
To find the quick ratio you divide the quick assets by the current liabilities. The
quick assets are usually things like cash, securities, and accounts receivables. These
quick assets are the easiest and fastest things to convert into cash. This ratio tends to
show investors the financial strength or weakness of a certain company. The higher
the ratio is, the stronger the company tends to be, but the smaller the ratio is, the
weaker the company’s financials tend to be. As the graph shows, Nucor has been up
and down over the past five years. The rise in 2004 was due to the merging of
companies and around 2006 Nucor lowered the amount of cash on hand and came
closer to the industry average.
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Industry Avg.
85
Quick Asset Ratio 2003 2004 2005 2006 2007
Nucor 0.56 0.73 1.46 1.54 1.00X 1.39 0.90 0.89 0.84 1.21CMC 1.06 0.93 1.06 1.11 1.40PKX 1.30 1.45 1.26 1.52 1.33MT 1.13 0.72 0.77 0.60 0.54Industry Avg. 1.09 0.95 1.09 1.12 1.10
There is no central theme for the industry for the quick ratios. The numbers have
jumped around quite a bit. There is no industry trend that the companies are following
here.
Accounts Receivable Turnover
To find accounts receivable turnover you divide sales by accounts receivable.
This number also shows investors the financial strength or weakness of a company.
Most companies desire a high accounts receivable turnover because this shows how
quickly they are collecting on their receivables. This is important to investors because if
a company takes a long time to collect payments, then it is missing the opportunity to
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CMC
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Industry Avg.
86
invest the cash revenue. As the graph shows Nucor is leading this statistic for the
industry also. This shows that Nucor has been efficient in collecting their cash quickly
over the past five years. Nucor’s average over the past five years has nearly been a
quarter more than the industry average.
A/R Turnover 2003 2004 2005 2006 2007
Nucor 10.95 11.82 12.69 13.82 10.29X 7.65 7.90 8.79 8.74 8.12CMC 7.24 7.86 7.55 6.36 7.69PKX 6.99 6.66 7.91 6.68 7.50MT 10.76 11.07 12.30 6.71 11.04
Industry Avg. 8.72 9.06 9.85 8.46 8.93
From 2003 to 2005, the industry experienced increases in accounts receivables turnover
at similar rates. The trend of the market dipped after 2005, and Nucor followed in
2006.
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CMC
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Industry Avg.
87
Days Sales Outstanding
To find day’s supply of receivables you divide the numbers of days in a year
(365) by the accounts receivable turnover (sales divided by accounts receivables). This
number shows investors the amount of days it takes for a company to collect their
accounts receivables. This number is desired to be low, because the faster a company
receives their money the better. As shown in the graph below Nucor once again is
leading the industry. Nucor over the past five years has been hovering around the
thirty day mark, while the industry has been hovering around the forty-five to fifty
mark. This tells us that Nucor is better at collecting their receivables.
Days Sales Outstanding 2003 2004 2005 2006 2007
Nucor 33.35 30.89 28.76 26.41 35.46X 47.70 46.23 41.55 41.78 44.93CMC 50.45 46.46 48.34 57.43 47.45PKX 52.21 54.78 46.16 54.68 48.64MT 33.92 32.99 29.67 54.37 33.07
Industry Avg. 43.53 42.27 38.90 46.94 41.91
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Industry Avg.
88
Inventory Turnover
To find inventory turnover you divide cost of goods sold by inventory. Inventory
turnover is much like accounts receivable turnover in that they both show how much
they are turned over a year. Like most ratios, companies want a higher number on this
statistic also. It shows how long the average good stays in inventory in a particular
year. A low turnover shows investors that the company is being inefficient when it
comes to their inventory, because items in inventory are costly and are not bringing in
any money. Once again Nucor leads the industry in this category. Over the past five
years Nucor has been higher than the industry average and will continue to do so
because of their just-in-time inventory system. This allows them to have a higher
inventory turnover than their leading competitors.
Inventory Turnover 2003 2004 2005 2006 2007
Nucor 10.70 7.36 10.70 9.89 8.41X 6.59 8.71 7.94 8.08 6.42CMC 0.78 0.57 7.61 8.05 8.20PKX 5.78 4.71 4.50 4.40 4.74MT 4.77 3.66 3.70 2.51 3.91Industry Avg. 5.72 5.00 6.89 6.59 6.33
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Industry Avg.
89
Day’s Supply of Inventory
To find days supply of inventory, you divide the number of days in a year (365)
by the inventory turnover. This number is obviously desired to be low by companies.
This shows investors the average amount of days in which it takes a company to sell
their inventory. Since Nucor has had higher inventory turnover rates, they will in turn
have a lower day’s supply of inventory. The two calculations work together to show
how well a company deals with their inventory. Over the past five years Nucor has
done very well in being slightly lower than the industry average. This again shows how
well they use their just-in-time inventory system.
Days Supply of Inventory 2003 2004 2005 2006 2007
Nucor 34.11 49.57 34.12 36.91 43.42X 55.37 41.90 45.96 45.15 56.85CMC 466.27 641.01 47.98 45.35 44.51
PKX 63.18 77.43 81.14 82.96 77.00MT 76.54 99.68 98.61 145.16 93.45Industry Avg. 139.09 181.92 61.56 71.11 63.05
90
Working Capital Turnover
To find working capital turnover you divide sales by working capital. This
calculation shows investors how effectively a company is using its working capital to
generate sales. Companies desire a high number for this calculation. If the number is
high, then that means that the company is generating more money in sales than the
amount of money that they paid to fund the sales. As you can see from the graph
below, Nucor has been right around the industry average. This shows that the industry
as a whole has not found a better way to generate sales for a cheaper price.
Working Capital Turnover 2003 2004 2005 2006 2007
Nucor 6.11 5.32 4.45 4.52 4.75X 9.55 7.70 6.74 6.30 8.63CMC 7.20 7.44 7.74 7.49 6.01PKX 5.16 3.98 4.53 3.51 4.15MT 106.30 6.54 4.61 3.96 8.02Industry Avg. 26.86 6.19 5.61 5.16 6.31
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Nucor
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CMC
PKX
MT
Industry Avg.
91
Cash to Cash Cycle
To find the cash to cash you simply add the days sales outstanding and the day’s
supply of inventory. This calculation shows how long it takes between buying the raw
materials for inventory and the time it takes to get money back from accounts
receivable. Once again this number is desired to be relatively low. The faster a
company receives their cash the better. As you can see from the graph below Nucor is
leading the industry again. With better A/R turnovers and inventory turnovers, it is no
surprise that their cash to cash calculation is better than the industry as well. This lets
investors know that they are getting a much faster return on their cash than the rest of
the industry.
Cash to Cash Cycle
2003 2004 2005 2006 2007Nucor 67.46 80.46 62.88 63.32 78.88X 103.07 88.13 87.50 86.93 101.78CMC 516.72 687.47 96.33 102.78 91.96
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120.00
2003 2004 2005 2006 2007
Nucor
X
CMC
PKX
MT
Industry Avg.
92
PKX 115.39 132.21 127.31 137.64 125.64MT 110.46 132.67 128.29 199.53 126.52Industry Avg. 182.62 224.19 100.46 118.04 104.95
Conclusion
After analyzing the liquidity ratios of Nucor and the industry, we have concluded
that Nucor seems to be more liquid than the industry average. This shows that they
have the ability to liquefy current assets to cover any debt that might come up in a
timely manner. Investors can see that Nucor is financially strong when it comes to how
quick they can liquefy the assets of their company.
Profitability analysis
One of the most important factors for a company is whether or not they are
generating enough profits to survive. In order for a firm to survive, the firm must have
its revenues exceed its expenses. A profitability analysis reflects a company’s overall
profits. In this section we used six ratios to evaluate Nucor’s profit efficiency. Gross
profit margin, operating profit margin, net profit margin, asset turnover, return on
assets, and return on equity are the ratios we used in this profitability analysis to
evaluate Nucor.
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500.00
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700.00
800.00
2003 2004 2005 2006 2007
Nucor
X
CMC
PKX
MT
Industry Avg.
93
Gross Profit Margin
The gross profit margin is calculated by taking a firms gross profit (sales minus
cost of goods sold), divided by its sales. The “gross margin is influenced by two
factors: (1) the price premium that a firm’s products or services command in the market
place and (2) the efficiency of the firm’s procurement and productions process” (Palepu
Healy). A common theme in the following to profit margins is that the larger companies
seem to have higher margins. This may be a result to economies of scale, meaning
that the more sales they generate, the more they profit. As Nucor and US Steel merged
with other companies, their margins rose to the levels of the larger firms.
Gross Profit Margin 2003 2004 2005 2006 2007 Nucor 4.30% 19.76% 20.41% 23.50% 18.86% X 9.33% 18.65% 17.07% 17.48% 13.28% CMC 10.05% 12.74% 14.10% 14.89% 13.94% PKX 24.02% 27.30% 28.42% 22.72% 20.94% MT 20.89% 33.80% 20.59% 17.82% 19.26% Industry Avg. 13.72% 22.45% 20.11% 19.28% 17.25%
0.00%
5.00%
10.00%
15.00%
20.00%
25.00%
30.00%
35.00%
40.00%
2003 2004 2005 2006 2007
Nucor
X
CMC
PKX
MT
Industry Avg.
94
Operating Profit Margin
Operating Profit Margin is calculated by taking the operating income (gross profit
minus selling and administrative expenses), and dividing it by sales. Successful firms
have high operating profit margins. In order to have a high operating profit margin a
firm must have a low fixed cost and operating expenses. The steel industry is known
for having high fixed cost. The two largest companies in the industry started out with
the highest operating profit margins, but as the other companies grew, the margins
started to balance out.
Operating Profit Margin 2003 2004 2005 2006 2007Nucor 1.66% 16.47% 16.79% 19.48% 15.38%X 2.11% 13.37% 12.39% 13.64% 9.78%CMC 3.89% 1.59% 7.54% 8.23% 6.93%PKX 18.35% 22.19% 23.13% 16.99% 15.56%MT 13.58% 27.69% 16.81% 12.79% 14.09%Industry Avg. 7.92% 16.26% 15.33% 14.23% 12.35%
0.00%
5.00%
10.00%
15.00%
20.00%
25.00%
30.00%
2003 2004 2005 2006 2007
Nucor
X
CMC
PKX
MT
Industry Avg.
95
Net Profit Margin
Net profit margin which is also known as return on sales is calculated by taking
the net income and dividing it by sales. Net profit margin is used to determine the total
profitability a company has through its operating activities. Financial analysts use the
net profit margin ratio to determine the overall efficiency of a company’s operating
management. A firm with a high net profit margin is more desirable to an investor than
a firm with a low net profit margin. Firms with high profit margins have control over
their cost. Since 2005 Nucor has consistently had a higher net profit margin relative to
the steel industry’s average. On the other hand Commercials Metal Company (CMC)
and United States Steel (X); two of Nucor’s competitors have had net profit margin
ratios below the industry’s average.
Net Profit Margin 2003 2004 2005 2006 2007
Nucor 1.00% 9.86% 10.37% 11.91% 8.87%X -4.50% 8.12% 6.48% 8.74% 5.21%CMC 0.66% 2.77% 4.56% 4.94% 4.27%PKX 11.22% 15.91% 15.25% 12.83% 11.26%MT 12.35% 21.18% 13.49% 10.37% 11.26%Industry Avg. 4.15% 11.57% 10.03% 9.76% 8.17%
-10.00%
-5.00%
0.00%
5.00%
10.00%
15.00%
20.00%
25.00%
2003 2004 2005 2006 2007
Nucor
X
CMC
PKX
MT
Industry Avg.
96
Asset Turnover
Asset Turnover is calculated by taking the total sales divided by total assets from
the previous year. For every one dollar invested in a company’s assets, asset turnover
reflects the dollar amount of sales generated for that one dollar. “Since firms invest
considerable resources in their assets, using them productively is critical to overall
profitability” (Palepu Healy). Firms that have and hold highly efficient assets are more
likely to have higher asset turnover ratios. The higher the asset turnover the better off
the firm is. Companies in the steel industry tend to have an abundant amount of
assets recorded on their balance sheet; such as factories and equipment. It is critical
for these firm’s to sale enough of their products in order to cover the high cost of their
assets. Nucor does a tremendous job of keeping its asset turnover ratio above the
majority of its competitors. Since 2004 Nucor has not let its asset turnover ratio fall
below 2.07.
Asset Turnover 2003 2004 2005 2006 2007
Nucor 1.43 2.53 2.07 2.07 2.10X 1.17 1.78 1.27 1.60 1.59CMC 2.34 3.74 3.15 3.09 2.87PKX 0.93 1.21 1.10 1.00 1.02MT 1.74 2.19 1.47 1.90 0.93Industry Avg. 1.52 2.29 1.81 1.93 1.71
0.00
0.50
1.00
1.50
2.00
2.50
3.00
3.50
4.00
2003 2004 2005 2006 2007
Nucor
X
CMC
PKX
MT
Industry Avg.
97
Return on Assets
Return on assets is calculated by taking a firm’s net income divided by the total
assets of the previous year. Last year’s assets are used because they are the assets
that are generating this year’s income. The higher the return on assets ratio, the more
profitable last year’s investments in assets are. Nucor is fairly consistent with in regards
to its returns on average ratio. Nucor has maintained a higher return on assets ratio
compared to the steel industry’s average since 2004. Since 2005, Nucor has had the
highest return on assets ratio compared to the rest of its competitors. Nucor does a
great job at utilizing its assets which leads to a high rate of productivity. In 2004, the
entire industry’s ROA increased significantly due to heavy increases in production.
Return on Assets 2003 2004 2005 2006 2007
Nucor 1.43% 24.96% 21.48% 24.61% 18.65%X -5.27% 14.48% 8.22% 13.99% 8.30%CMC 1.54% 10.35% 14.37% 15.27% 12.26%PKX 10.42% 19.31% 16.85% 12.85% 11.52%MT 21.44% 46.37% 19.81% 19.67% 10.52%Industry Avg. 5.91% 23.10% 16.15% 17.28% 12.25%
98
Return on Equity
Return on Equity is the final profitability analysis ratio. Return on Equity is
calculated by taking net income of one year divided by the total equity of the year
before. Return on equity reflects how well a company produces returns from the
capital received by shareholders. Companies that use more debt than equity for
financing purposes tend to have a higher return on equity. Companies that use very
little debt for financing purposes tend to have a lower return on equity. Nucor’s return
on equity has been relatively consistent since 2004. Nucor has been able to continue to
have a higher return on equity than the industry’s average since 2005.
Return on Equity 2003 2004 2005 2006 2007
Nucor 2.70% 47.88% 38.12% 41.05% 30.30%X -20.72% 103.84% 22.34% 41.34% 20.14%CMC 3.42% 23.31% 43.26% 39.61% 29.13%PKX 17.17% 19.31% 16.85% 12.85% 11.52%MT 923.44% 183.56% 64.92% 60.16% 23.59%Industry Avg. 185.20% 75.58% 37.10% 39.00% 22.94%
-10.00%
0.00%
10.00%
20.00%
30.00%
40.00%
50.00%
2003 2004 2005 2006 2007
Nucor
X
CMC
PKX
MT
Industry Avg.
99
Internal Growth Rate The internal growth rate is a key ratio when predicting how well a company will
do in the future. Like its name suggests(internal), it is a measure of how much the
company can grow on its own, without financing from outside investors. The IGR is
computed by multiplying the return on assets (net income divided by total assets from
the previous year) by one minus the dividend payout ratio (dividends paid divided by
net income. The higher the rate is, the more the company can grow without outside
investors. As you can see, the Internal Growth Rate for Nucor’s IGR decreased each
year, but managed to stay just above the industry average in 2007.
-200.00%
0.00%
200.00%
400.00%
600.00%
800.00%
1000.00%
2003 2004 2005 2006 2007
Nucor
X
CMC
PKX
MT
Industry Avg.
100
IGR
2003 2004 2005 2006 2007
Nucor 0.0% 23.4% 18.1% 16.5% 9.4%
X -5.7% 14.0% 7.7% 13.2% 7.4%
CMC 0.8% 9.6% 13.7% 14.4% 10.9%
PKX 8.7% 16.6% 14.0% 10.4% 9.4%
MT 18.7% 38.8% 8.9% 17.5% 8.5%
Industry Avg. 4.5% 20.5% 12.5% 14.4% 9.1%
-10.0%
-5.0%
0.0%
5.0%
10.0%
15.0%
20.0%
25.0%
30.0%
35.0%
40.0%
45.0%
2003 2004 2005 2006 2007
Nucor
X
CMC
PKX
MT
Industry Avg.
101
Sustainable Growth Rate
The sustainable growth rate tells investor the amount of growth a company is
capable of when reinvestment is geared toward retained earnings. This rate is
computed by multiplying the internal growth rate by one minus the debt to equity ratio
(total liabilities divided by total equity). After analyzing a sustainable growth rate, these
questions may arise: “How quickly can the firm grow its business by keeping its
profitability and financial policies unchanged? If it intends growing faster, where is the
growth going to come from? Is management expecting profitability to increase, or
asset productivity to improve? Are these expectations realistic? Is the firm planning for
these changes? If the firm is planning to increase its financial leverage or cut
dividends, what is the likely impact of these financial policy changes?” (Palepu & Healy).
The SGR is a standard that a firm uses to evaluate its growth plans and can be a good
indicator for the company’s potentials. The data below displays the Sustainable Growth
Rate for the steel industry. Similar to the IGR, Nucor is performing at a rate that is
matched with the industry average (18.82%) at 18.16%.
SGR
2003 2004 2005 2006 2007
Nucor 0.0% 41.5% 30.2% 26.8% 18.2%
X -40.9% 37.9% 22.6% 31.9% 20.8%
CMC 1.8% 28.2% 34.7% 33.5% 24.4%
PKX 11.9% 22.0% 17.9% 13.2% 12.2%
MT 71.9% 115.7% 25.6% 39.4% 18.5%
Industry Avg. 8.9% 49.0% 26.2% 29.0% 18.8%
102
Nucor’s sustainable growth rate of 18.2% means that the company cannot grow any
faster than that without increasing their debt leverage. By borrowing more money,
Nucor would enable itself to grow at a quicker rate than the SGR, but 18.2% is the
maximum growth rate if the company sustains its current position.
Conclusion
After comparing Nucor’s profitability ratios to its competitors in the steel industry
we are able to conclude that Nucor is one of the leading profitable firms in the steel
industry. Through the ratios conducted in the profitability analysis section we are able
to determine the areas where Nucor is effective and profitable. During the profitability
analysis we found that Nucor struggled to keep up with the steel industry’s average in
2003 and 2004. After 2004 however Nucor was able to outperform the steel industry’s
average in regards to gross profit margin, operating profit margin, net profit margin,
-60.0%
-40.0%
-20.0%
0.0%
20.0%
40.0%
60.0%
80.0%
100.0%
120.0%
140.0%
2003 2004 2005 2006 2007
Nucor
X
CMC
PKX
MT
Industry Avg.
103
asset turnover, return on assets, and return on equity from 2005 through 2007.
Nucor’s top performing ratio is the operating profit margin. Nucor’s ability to control
operating and administrative expenses is a strong indication of why Nucor’s operating
profit margin is the top performing ratio. Overall, Nucor is performing above the
industry’s average and through its ratios; Nucor indicates that it will continue to do so
in the future.
Capital Structure Analysis
The way a company chooses to finance their assets is defined as their capital
structure. An analysis of this structure will explain the ratios used when assessing
these decisions that a company selects to use. A detailed breakdown of the financing
options used can aide an investor on how well a company manages its assets; the
assets of companies can be financed through debt or equity on the balance sheet.
Using equity to finance assets is done by raising equity through selling shares of stock.
If the company chooses to finance their assets through debt, money is loaned from a
bank or some other lender. Anyone that is researching how a company is performing
will want to perform a capital structure analysis. The debt and income of a company is
measured on efficiency through this analysis and a firm that is proficient in these areas
will portray a positive image amongst its competitors. There are three ratios that are
used when calculating the capital structure of a company: the debt to equity ratio, the
debt to service margin, and the times interest earned. We also focus on Altman’s Z-
score which is a ratio that determines credit risk. The results can be used to appraise a
company’s credit merit, financial leverage, and the capability to control interest charges.
Debt To Equity Ratio
An easy way to determine which type of capital structure is used is to compute
the debt to equity ratio. The calculation of the ratio is performed by dividing the total
104
liabilities of a company by its total equity. The result of the ratio indicates exactly how
much of the company’s assets are financed through debt with relation to the overall
equity. The amount of default risk that is assigned to a corporation is decided by how
large their debt to equity ratio is. Each capital structure method has its advantages and
disadvantages but a debt financing firm tends to be more risky in that they are paying
off their lenders on a regular basis. Nucor Steel Corporation’s debt to equity ratio is
0.9218 which is lower than the industry average. To translate this result, an analyst
would conclude that for every one dollar of equity Nucor has 92 cents of financing for
their liabilities. Nucor is performing under the industry average of 1.0893. Nucor
Corporation had one of the lowest performances in the debt to equity ratio. The
amount of debt used to form the capital structure throughout the industry is similar,
since mid 2006 Nucor has steadily increased this ratio and moving more toward the
average. Nucor is forecasted to consistently increase its debt to equity ratio to better
accommodate its resources. The numerical data is presented above and the graph that
illustrates these figures is below them.
Debt to Equity Ratio
2003 2004 2005 2006 2007
Nucor 0.92 0.77 0.67 0.62 0.92
X 6.17 1.71 1.95 1.42 1.81
CMC 1.25 1.94 1.54 1.33 1.24
PKX 0.36 0.32 0.28 0.27 0.30
MT 2.86 1.98 1.88 1.24 1.17
Industry Avg. 2.31 1.34 1.26 0.98 1.09
105
Debt Service Margin
Another capital structure calculation is the debt service margin which is
computed by dividing the current operating cash flows by the current maturities of long
term debt from the previous year. This margin uses the prior year’s current maturities
because it is currently playing for it. The Debt service margin measures the cash flow
generating abilities of a company versus its current portion of notes payable. It
indicates whether a company can pay for the current portion of its long term debt with
its cash flow operations. Companies want this lagged evaluation to have high margins
because that means they will be able to pay off the current portion of their note
payable. Nucor’s debt service margin is 3.7459 and is underperforming the industry
average. This subpar performance can be explained by its increasing amount of
liabilities. Although Nucor has a below average debt to service margin, it remains to be
very consistent throughout these five years. The data and graph below illustrate that
0.00
1.00
2.00
3.00
4.00
5.00
6.00
7.00
2003 2004 2005 2006 2007
Nucor
X
CMC
PKX
MT
Industry Avg.
106
the debt to service margin for the steel industry is hardly consistent for most
corporations. Nucor might have one of the lowest margins shown on the graph but a
steady use of the operating cash flows is almost always preferred to many fluctuations
with these assets. Another approach when analyzing this margin is that some firms
have different computations for what is considered due on long term debt. The current
portion of long term debt is vastly different throughout the industry; this might explain
why there are such drastic increases and decreases on the graph.
Debt Service Margin 2003 2004 2005 2006 2007
Nucor 30.86 3.11 4.53 4.49 3.75
X 22.19 32.56 152.25 6.75 21.28
CMC 24.23 77.65 15.99 32.31 6.21
PKX 1.83 2.96 3.34 2.40 3.38
MT 5.49 5.91 11.36 21.32 3.36
Industry Avg. 16.92 24.44 37.49 13.46 7.60
107
Times Interest Earned
Times interest earned shows a company’s ability to repay interest on borrowed
money. It is calculated by dividing the operating income by the interest expense. The
money that is allocated for these resources is essential to a company’s success. A
company that does not have enough capital to cover insurance expenses and other
payments will quickly be forced into bankruptcy. The table and graph that are
illustrated below have the times interested earned of Nucor and the competitors. The
industry average shows how Nucor is benchmarked amongst its competition. As you
can see Nucor Corporation is performing way above the industry with a times interest
earned of 412.02 compared to the average of 92.93. The closest competition regarding
this comparison is Posco Steel Company with 21.68 times, that’s only 5.26% of the
0.00
20.00
40.00
60.00
80.00
100.00
120.00
140.00
160.00
2003 2004 2005 2006 2007
Nucor
X
CMC
PKX
MT
Industry Avg.
108
amount that Nucor is executing. The reason for the steel industry’s high times interest
earned is due to the low interest payments that they are subject to. We assume that
the dip in 2006 is due to the large acquisition of Harris Steel.
Times Interest Earned 2003 2004 2005 2006 2007
Nucor 2.72 77.46 482.52 -72.06 412.02 X -5.53 11.13 12.09 15.39 7.98 CMC 1.98 7.54 14.17 19.31 14.89 PKX 11.98 28.82 37.73 24.43 21.68 MT 7.00 23.14 9.30 6.43 8.10 Industry Avg. 3.63 29.62 111.16 -1.30 92.93
Altman’s Z-score
The Altman’s Z-Score is a ratio that is effective in determining how strong a
company is from going bankrupt. “Generally speaking, the lower the score, the higher
the odds of bankruptcy. Companies with Z-Scores above 3 are considered to be healthy
and, therefore, unlikely to enter bankruptcy. Scores in between 1.8 and 3 lie in a grey
area.” (Investopedia.com). Taking the Z-Score’s from Nucor and their closest
competitors in the steel industry it is clear that Nucor is financially secure of credit risk
with a five year average of 2.98. On the other hand, US Steel is struggling over the
past 5-years only averaging 1.94. As an industry standard, Nucor and its competitors’
-100.00
0.00
100.00
200.00
300.00
400.00
500.00
600.00
2003 2004 2005 2006 2007
Nucor
X
CMC
PKX
MT
Industry Avg.
109
Z-Score’s range from a medium-high at 2.7 to very high at 3.35. In conclusion, it is
highly unlikely that Nucor will go bankrupt from the recession we are in.
Altman's Z-Score 2003 2004 2005 2006 2007
Nucor 2.25 3.28 3.01 3.38 2.96X 1.41 1.89 2.22 2.46 1.70CMC 3.07 3.18 3.30 3.43 3.95PKX 3.48 4.07 4.39 4.01 3.34MT 3.57 4.33 3.24 1.31 1.54Industry Avg. 2.76 3.35 3.23 2.92 2.70
Altman’s Z-Score= (working capital/total assets)+(retained earnings/total assets)+ (ebit/total assets)+(MV of equity/BV of liabilities)+(sales/total assets)
Conclusion
As stated earlier, analysis of a firm’s capital structure lets investors know how a
company finances their operations. Overall, Nucor is under-performing in regards to
their debt to service margin compared to the industry. Nucor is below average in the
debt to equity ratio, meaning that they have used less debt financing than the rest of
the industry. Also, Nucor’s times interest earned was well above the industry average,
except for the year 2006. This is because they have been able to keep their interest
expenses low, while still generating a lot of operating income. Nucor’s sustainable
0.00
1.00
2.00
3.00
4.00
5.00
2003 2004 2005 2006 2007
Nucor
X
CMC
PKX
MT
Industry Avg.
110
growth rates and internal growth rates have been around the industry average over the
past five years. Analyzing the capital structure ratios is very important for investors and
analysts because it allows them to understand how a company is financed. For the
times interest earned and debt to equity ratios, most of the firms in the industry have
followed the same trends. For the debt to service margin, we saw a little more
inconsistency.
One would think that if the debt service margin is low, that would be a result of
a large current portion of a note payable coming due. If that is the case, then the
interest payment due would also be relatively large, but the numbers we ran didn’t
support this. Our debt service margin was low; however, our times interest earned was
very high because the interest expense for 2007 was extremely low. These seem to
contradict each other, and the financial statements didn’t provide any explanations.
Financial Statements Forecasting The process of forecasting the financial statements of a company and its
competitors is very important when valuing a company. This is because the value of a
company includes future earnings. If forecast results are accurate there can be
potential for big profits and avoiding risk. To compare the financial statements more
easily, a common sized conversion of the financial statements must be made. “The
values on the common size statement are expressed as percentages of a statement
component such as revenue. While most firms don't report their statements in common
size, it is beneficial to compute if you want to analyze two or more companies of
differing size against each other (Investopedia.com).” Following these discussions, a
forecasted set of financial statements is presented for the next ten years for each
statement.
111
Income Statement
We begin our forecasting section starting with the income statement. By
creating a common size income statement we were able to use the income statement to
compare sales. We used the common size income statement to look for past trends in
Nucor’s financial statements.
The first forecast we made is the fourth quarter of 2008. Forecasts were based
off Nucor’s third quarter 10-Q’s. Our forecasts were influenced by the severity of the
recent economic downfall. This caused our forecasts for the fourth quarter of 2008 to
have negative growth rates. We predicted that the fourth quarter sales will decrease by
20%, which in effect will leave the annual 2008 growth rate negative. This is supported
by the fact that steel prices have declined significantly since the beginning of 2008.
We started the forecasting process by forecasting out future sales and sales
growth. Sales growth dropped from 16.14% in 2006 to 12.49% in 2007. After
analyzing this data we feel that Nucor’s growth rate will decrease by 4% in 2008 and
3% in 2009. The reason for the 2008 and 2009 decreases is the worldwide recession.
Officially, the US economy has been in recession since December of 2009. In a
recession, just about everyone gets hurt, including the steel industry. Also, congress
recently is passing a bill that has raised the corporate average fuel economy (CAFE)
mileage requirements for new automobiles being produced in the U.S. The bill pushes
for more light cars and trucks to be produced which will lower the demand for steel in
the automobile industry. Being that the automobile industry is a fair portion of Nucor’s
net sales, we expected to decrease production and sales for the next year.
As well as the auto industry suffering, the housing industry has been declining
too. Nine months ago there was a mortgage crisis, to where now it is extremely hard to
receive a mortgage or a loan to buy a house. Since then the housing market has
declined significantly. This means that construction for new houses is in a decline. The
construction of commercial buildings has also slowed down dramatically. All of these
112
factors have caused market prices for steel per ton to decrease as well as price per
share to decrease in the time being.
In 2010 we expect the economy to come out of the recession, and Nucor to
rebound from this decrease in sales growth and have a sales growth percent of 5%.
After 2010 we predict that Nucor will continue to grow consistently at a growth rate at
around 7%. Cost of goods sold was forecasted by taking the difference between the
forecasted sales and forecasted gross income. By using this method we will be able to
keep Nucor’s gross profit margin consistent with the growth of their profits as they have
been in years past. For keeping our projections consistent, net income will be
correlated with net sales as well.
113
114
115
Balance Sheet
In forecasting Nucor’s fourth quarter balance sheet, we related net sales to total
assets in the percent of growth. In return, this assumption will have a decline in total
assets. Liabilities, owner’s equity, and retained earnings will follow the same trend as
net income with negative growth rates as well.
After forecasting Nucor’s income statement we had to then link the income
statement to the balance sheet so we could then forecast the assets, liabilities, and
owners equity. We did this by linking the two statements together with the asset
turnover ratio. To find the asset turnover ratio we divided sales and total assets of the
firm for a year. When forecasting the numbers for sales we thought that in 2008 that
we would still be in the recession that we are in today and would continue for a year
and eventually rebound and come back up and level off by 2014. We came to the
assumption that our sales growth would decline because of the economic recession. So
to find our total asset turnover we averaged the five previous years and came up with a
ratio of 2.0404 to use in our forecasting and gave us a link between our income
statement and balance sheet.
First, to calculate our total assets we simply looked back at the income statement
and get the sales by linking it to the total asset turnover. We used the same
percentage of sales growth for each future year to multiply it by the previous year’s
total assets. Next, we calculated our total current and non-current total assets. We
calculated these numbers by also using the same percentages that the sales growth
would be using from the income statement. We would multiply the percentage growth
by the previous year’s current or non-current assets. Then, we forecasted the
inventories for the next ten years by multiplying the average inventory turnover, of 9.4,
by the previous year’s inventory. To forecast our property, plant, and equipment we
multiplied by a four percent growth rate for the next ten years. We did this because we
thought that out property, plant, and equipment would grow at a consistent rate of four
116
percent. This ratio lets us divide the current assets by the current ratio and we find the
current liabilities.
Stockholder’s equity involved linking the cash flows statement. We calculated
next year’s stockholder’s by:
BVE1= BVE0 + NI1 - Tot Div1
This equation links total dividends, net income, and the book value of equity
together. As well as the book value of equity being linked to net income and total
dividends, it is also linked to retained earnings.
Retained Earnings= Beg. RE + NI – Tot Div
Retained earnings are also correlated to net income and dividends. The
difference from year to year retained earnings should equal the year to year difference
in equity.
117
118
Balan
ce Sh
eet
n Tho
usands
2003
2004
2005
2006
2007
Assume
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
ales G
rowt
hSSETS
URRE
NT AS
SETS:
ash a
nd ca
sh eq
uivale
nts
350,3
32779,0
49
980,1
50
785,6
51
1,393,94
3 ho
rt‐term
investm
ents (Note 4
)—
—
857,3
60
1,410
,633
182,4
50
ccou
nts receiv
able, ne
t (No
te 5)
572,4
79
962,7
55
1,000
,629
1,067
,322
1,611,84
4 1,3
27,43
81,2
87,61
51,3
51,99
61,4
33,11
51,5
33,43
41,6
71,44
31,7
88,44
31,9
13,63
52,0
47,58
92,1
90,92
02,3
44,28
51.7
7nventorie
s (No
te 6)
560,3
96
1,239,88
8 94
5,054
1,1
41,19
4 1,6
01,60
0 1,6
94,60
21,6
43,76
41,7
25,95
21,8
29,50
91,9
57,57
52,1
33,75
62,2
83,11
92,4
42,93
82,6
13,94
32,7
96,91
92,9
92,70
41.7
7ther cu
rrent as
sets (Note 1
9)13
7,353
193,2
56
288,3
60
278,2
65
283,4
12
otal curre
nt as
sets
1,620
,560
3,174,94
8 4,0
71,55
3 4,6
83,06
5 5,0
73,24
9 4,8
70,31
94,7
24,20
94,9
60,42
05,2
58,04
55,6
26,10
86,1
32,45
86,5
61,73
07,0
21,05
17,5
12,52
58,0
38,40
28,6
01,09
01.7
7
ROPERT
Y, PLAN
T AND
EQUIPM
ENT, NE
T (No
te 7)
2,817
,135
2,818,30
7 2,8
55,71
7 2,8
56,41
5 3,2
32,99
8 4%
3,350
,818
3,472,93
23,6
11,84
93,7
56,32
33,9
06,57
64,0
62,83
94,2
25,35
34,3
94,36
74,5
70,14
24,7
52,94
74,9
43,06
51.4
8OO
DWILL
(Note 8
)—
—
—
143,2
65
847,8
87
THER
INTA
NGIBL
E ASSETS, NE
T (No
te 8)
—
—
—
5,015
46
9,936
TH
ER AS
SETS (N
otes 1 and 1
3)54
,658
211,5
17
139,9
52
205,2
58
202,0
52
otal No
n‐Current As
sets
2,871
,793
3,029,82
4 2,9
95,66
9 3,2
09,95
3 4,7
52,87
3 4,5
62,75
84,4
25,87
54,6
47,16
94,9
25,99
95,2
70,81
95,7
45,19
36,1
47,35
66,5
77,67
17,0
38,10
87,5
30,77
68,0
57,93
01.7
7
OTAL
ASSETS
4,492
,353
6,133,20
7 7,1
38,78
7 7,8
93,01
8 9,8
26,12
2 9,5
31,33
89,2
45,39
89,8
92,57
610,68
3,982
11,53
8,701
12,46
1,797
13,45
8,741
14,53
5,440
15,69
8,275
16,95
4,137
18,31
0,468
1.92
2003
2004
2005
2006
2007
Assume
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
ABILITIE
S AND
STOC
KHOL
DERS’ EQU
ITYUR
RENT
LIAB
ILITIE
S:ho
rt‐term
debt (N
ote 1
0)—
—
—
—
22,86
8 ccou
nts p
ayable (Note 9
)32
9,863
471,5
49
501,6
24
516,6
40
691,6
68
alarie
s, wa
ges a
nd re
lated
accru
als (N
otes 15
and 1
6)91
,187
320,2
76
368,5
68
455,0
51
436,3
52
ccrued
expenses an
d other cu
rrent lia
bilitie
s (No
tes 9
, 13
nd 14
)20
8,545
245,0
08
384,2
57
450,2
26
431,1
48
otal curre
nt lia
bilitie
s62
9,595
1,0
65,79
0 1,2
55,69
9 1,4
21,91
7 1,5
82,03
6 1,5
71,07
11,5
23,93
91,6
00,13
51,6
96,14
41,8
14,87
41,9
78,21
22,1
16,68
72,2
64,85
52,4
23,39
52,5
93,03
32,7
74,54
51.7
7
ONG‐TERM
DEB
T DUE
AFTER O
NE YE
AR (N
ote 1
0)90
3,550
922,3
00
923,5
50
922,3
00
2,250,30
0
EFER
RED CR
EDITS
AND OT
HER L
IABIL
ITIES (N
otes 14
, 15, 16
nd
19)
439,8
52
486,9
10
514,5
69
448,0
84
593,4
23
MINOR
ITY IN
TERE
STS
177,2
79
194,0
90
173,3
13
243,3
66
287,4
46
otal Lia
bilitie
s2,1
50,27
6 2,6
69,09
0 2,8
67,13
1 3,0
35,66
7 4,7
13,20
5 3,7
64,16
72,9
00,51
22,9
37,12
43,0
68,90
13,1
96,16
83,2
85,62
13,3
66,92
73,4
39,18
83,5
01,45
93,5
52,74
03,5
91,97
70.9
5
OMMITM
ENTS AN
D CO
NTINGE
NCIES
(Notes 6 and 1
4)TO
CKHO
LDER
S’ EQ
UITY (N
otes 11
, 12 a
nd 15
):om
mon s
tock
36,42
7 74,12
0 73
,753
149,0
06
149,3
02
dditio
nal paid
‐in ca
pital
117,3
99
191,8
50
147,2
06
195,5
43
256,4
06
etain
ed ea
rning
s2,6
41,70
8 4,7
09,11
1 3,6
88,55
5 5,8
40,06
7 6,6
21,64
6 7,2
75,90
07,8
53,61
58,4
64,18
19,1
23,81
09,8
51,26
210
,684,9
0511
,600,5
4312
,604,9
8113
,705,5
4514
,910,1
2616
,227,2
202.2
3
ccum
ulated o
ther co
mprehe
nsive
income
, net of
income
axes (N
otes 2 and 1
3)—
(1,17
7)46
,600
4,470
16
3,362
2,795
,534
3,907,94
5 5,0
18,39
4 6,1
89,08
6 7,1
90,71
6 reasury s
tock
(453,4
57)
(451,9
60)
(738,6
06)
(1,331,7
35)
(2,07
7,799
)
otal sto
ckho
lders’
equit
y2,3
42,07
7 3,4
55,98
5 4,2
79,78
8 4,8
57,35
1 5,1
12,91
7 5,7
67,17
16,3
44,88
66,9
55,45
27,6
15,08
18,3
42,53
39,1
76,17
610,09
1,814
11,09
6,252
12,19
6,816
13,40
1,397
14,71
8,491
2.55
OTAL
LIAB
ILITIE
S AND
STOC
KHOL
DERS’ EQU
ITY4,4
92,35
3 6,1
33,20
7 7,1
38,78
7 7,8
93,01
8 9,8
26,12
2 9,5
31,33
89,2
45,39
89,8
92,57
610,68
3,982
11,53
8,701
12,46
1,797
13,45
8,741
14,53
5,440
15,69
8,275
16,95
4,137
18,31
0,468
1.92
Actual
Foreceast
Perce
nt Ch
ange
(201
8/20
08)
119
120
Statement of Cash Flow
In forecasting Nucor’s statement of cash flows we just looked at all the activities
that provided cash to the company. Forecasting Nucor’s statement of cash flows is
difficult because cash flows from operating, investing, financing activities have growth
rates that are highly volatile each year. So in forecasting these numbers we looked at
the companies past averages, other statements, and the economy’s future.
Nucor’s fourth quarter cash flows were forecasted from third quarter’s revenue
and net income. Relating back to the income statement, we predict the market is very
volatile and will decline heavily the fourth quarter. In correlation, cash flows from the
operating and investing sections will decline in similar fashion as well.
The best forecasting was a percentage that was stable for the next ten years.
When forecasting cash flows from operating activities, 10% growth each year would be
a fair value that Nucor could attain in the future. Forecasting cash flows from investing
activities was forecasted by 6%. This is a lower growth rate because with this
recession, Nucor probably not expand into new territories or invest into any new capital
expenditures in the near future.
In the financing section, forecasting dividends can be very difficult, because they
are a stair stepping growth rate. We took a stable growth rate approach, 4.5%, and
applied that to the next 10 years. Total dividends correlates with the balance sheet and
the income statement from the past 2 equations below:
Retained Earnings= Beg. RE + NI – Tot Div
BVE1= BVE0 + NI1 - Tot Div1
121
122
Statem
ent o
f Cash Flo
ws
in Th
ousand
s20
0320
0420
0520
0620
07As
sume
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
‐4%
‐3%
5%6%
7%9%
7%7%
7%7%
7%OP
ERAT
ING AC
TIVITIES
Net e
arnings
62,781
1,12
1,48
51,31
7,24
9 1,75
6,78
2 1,47
1,94
7 1,41
3,06
9 1,37
0,67
7 1,43
9,21
1 1,52
5,56
4 1,63
2,35
31,77
9,26
51,90
3,81
32,03
7,08
02,17
9,67
62,33
2,25
32,49
5,51
11.77
Adjustmen
ts:De
preciat
ion
364,11
238
3,30
537
5,05
4 36
3,93
6 40
3,17
2 41
4,17
9 42
5,48
6 43
7,10
1 44
9,03
4 46
1,29
3 47
3,88
6 48
6,82
3 50
0,11
4 51
3,76
7 52
7,79
3 54
2,20
1 1.31
Amortization
—
13,200
1,07
2 1,33
3 24
,384
Stock‐based compe
nsation
16,791
40
,106
44
,001
De
ferre
d income taxes
74,300
6,69
3(25,62
9)(39,39
4)(81,20
6)Minority
interests
23,942
80,892
110,63
9 21
9,10
7 29
3,49
8 Settlem
ent o
f natural gas h
edges
—
—
12,365
(6,793
)(18,01
9)Ch
anges in assets an
d liabilities
(exclusiv
e of ac
quisitio
ns):
Accoun
ts receiva
ble
(88,87
1)(354
,897
)(19,42
5)(33,87
8)(174
,326
)Inventories
28,973
(635
,641
)33
7,86
2 (143
,971
)(102
,490
)Accoun
ts payable
82,634
130,60
417
,259
(8,517
)57
,259
Fede
ral in
come taxes
(15,39
6)35
,403
(68,33
1)(7,233
)13
,332
Salar
ies, w
ages an
d relat
ed ac
cruals
(25,06
0)22
8,20
339
,869
86
,475
(42,93
1)Othe
r(13,61
4)15
,509
21,840
23
,280
46
,685
Cash provid
ed by o
peratin
g activitie
s49
3,80
11,02
4,75
62,13
6,61
5 2,25
1,23
3 1,93
5,30
6 10
%2,12
8,83
7 2,34
1,72
0 2,57
5,89
2 2,83
3,48
2 3,11
6,83
0 3,42
8,51
3 3,77
1,36
4 4,14
8,50
0 4,56
3,35
0 5,01
9,68
5 5,52
1,65
4 2.59
INVE
STING AC
TIVITIES
2003
2004
2005
2006
2007
Assume
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Capital expen
ditures
(215
,408
)(285
,925
)(331
,466
)(338
,404
)(520
,353
)6%
(541
,167
)(562
,814
)(585
,326
)(608
,739
)(633
,089
)(658
,413
)(684
,749
)(712
,139
)(740
,625
)(770
,250
)(801
,060
)Sale of interest in affiliat
e—
—
—
—
29,500
Investmen
t in affiliat
es(22,12
5)(82,45
8)(41,90
3)(34,32
4)(31,43
5)Disposition
of p
lant a
nd equ
ipmen
t11
,634
3,09
475
2 2,17
7 2,78
7 Acqu
isitio
ns (n
et of cash acqu
ired)
(34,94
1)(169
,646
)(154
,864
)(223
,920
)(1,542
,666
)Pu
rchases o
f investm
ents
—
—
(919
,950
)(1,082
,378
)(487
,395
)Proceeds from
the s
ale of investm
ents
—
—
62,590
52
9,10
5 1,68
7,57
8 Proceeds from
curre
ncy d
eriva
tive c
ontra
cts
—
—
—
—
517,24
1 Settlem
ent o
f currency d
eriva
tive c
ontra
cts
—
—
—
—
(511
,394
)
Cash used in investing
activ
ities
(267
,582
)(534
,935
)(1,384
,841
)(1,147
,744
)(856
,137
)6%
(907
,505
)(961
,956
)(1,019
,673
)(1,080
,853
)(1,145
,704
)(1,214
,447
)(1,287
,313
)(1,364
,552
)(1,446
,425
)(1,533
,211
)(1,625
,204
)1.79
FINAN
CING
ACT
IVITIES
2003
2004
2005
2006
2007
Assume
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Net change in sh
ort‐term deb
t—
—
—
—
(65,87
1)Re
paym
ent o
f lon
g‐term
deb
t(16,00
0)—
—
(1,250
)—
Proceeds from
issuance of lon
g‐term
deb
t—
—
—
—
1,32
2,44
5 De
bt issuance co
sts
—
—
—
—
(9,200
)Iss
uance of co
mmon
stock
18,961
68,630
40,209
37
,233
12
,003
Excess ta
x ben
efits from
stock‐based compe
nsation
—
—
—
18,000
13
,000
Distr
ibutions to
minority
interests
(63,31
8)(84,85
8)(89,88
6)(174
,709
)(263
,086
)Cash divide
nds
(61,83
5)(69,67
6)(209
,752
)(577
,816
)(726
,139
)4.5%
(758
,815
)(792
,962
)(828
,645
)(865
,934
)(904
,901
)(945
,622
)(988
,175
)(1,032
,643
)(1,079
,112
)(1,127
,672
)(1,178
,417
)1.55
Acqu
isitio
n of treasury stock
—
—
(291
,244
)(599
,446
)(754
,029
)
Cash used in financing a
ctivitie
s(94,89
2)(61,10
4)(550
,673
)(1,297
,988
)(470
,877
)(452
,042
)(438
,481
)(460
,405
)(488
,029
)(522
,191
) (56
9,18
8)(609
,031
)(651
,664
)(697
,280
)(746
,090
)(798
,316
)1.77
INCR
EASE (D
ECRE
ASE) IN
CAS
H AN
D CA
SH EQ
UIVA
LENT
S13
1,32
742
8,71
720
1,10
1 (194
,499
)60
8,29
2 CA
SH AND
CAS
H EQ
UIVA
LENT
S – BEG
INNING
OF Y
EAR
219,00
535
0,33
277
9,04
9 98
0,15
0 78
5,65
1
CASH
AND
CAS
H EQ
UIVA
LENT
S – EN
D OF
YEA
R35
0,33
277
9,04
998
0,15
0 78
5,65
1 1,39
3,94
3
Actual
Foreceast
Percen
t Cha
nge
(201
8/20
08)
123
Statem
ent o
f Cash Flow
s
in Tho
usands
2003
2004
2005
2006
2007
Assume
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Sales G
rowth
OPE
RATING ACT
IVITIES
Net earnings
Adjustmen
ts:
Depreciatio
n73
.7%
37.4%
17.6%
16.2%
20.8%
19.5%
18.2%
17.0%
15.8%
14.8%
13.8%
12.9%
12.1%
11.3%
10.5%
9.8%
Amortization
1.3%
0.1%
0.1%
1.3%
Stock‐based compe
nsation
0.0%
0.0%
0.8%
1.8%
2.3%
Deferred
income taxes
15.0%
0.7%
‐1.2%
‐1.7%
‐4.2%
Minority
interests
4.8%
7.9%
5.2%
9.7%
15.2%
Settlemen
t of n
atural gas hed
ges
0.6%
‐0.3%
‐0.9%
Changes in assets and
liabilitie
s (exclusiv
e of acquisitions):
Accoun
ts re
ceivable
‐18.0%
‐34.6%
‐0.9%
‐1.5%
‐9.0%
Inventories
5.9%
‐62.0%
15.8%
‐6.4%
‐5.3%
Accoun
ts payable
16.7%
12.7%
0.8%
‐0.4%
3.0%
Fede
ral incom
e taxes
‐3.1%
3.5%
‐3.2%
‐0.3%
0.7%
Salarie
s, wages and
related accruals
‐5.1%
22.3%
1.9%
3.8%
‐2.2%
Other
‐2.8%
1.5%
1.0%
1.0%
2.4%
Cash provide
d by
ope
ratin
g activ
ities
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
INVE
STING ACT
IVITIES
2003
2004
2005
2006
2007
Assume
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Capital expen
ditures
80.5%
53.5%
23.9%
29.5%
60.8%
59.6%
58.5%
57.4%
56.3%
55.3%
54.2%
53.2%
52.2%
51.2%
50.2%
49.3%
Sale of interest in affiliate
‐3.4%
Investmen
t in affiliates
8.3%
15.4%
3.0%
3.0%
3.7%
Disposition
of p
lant and
equ
ipmen
t‐4.3%
‐0.6%
‐0.1%
‐0.2%
‐0.3%
Acqu
isitio
ns (n
et of cash acqu
ired)
13.1%
31.7%
11.2%
19.5%
180.2%
Purchases o
f investm
ents
66.4%
94.3%
56.9%
Proceeds from
the sale of investm
ents
‐4.5%
‐46.1%
‐197
.1%
Proceeds from
currency de
rivative contracts
‐60.4%
Settlemen
t of currency de
rivative contracts
59.7%
Cash used in investing activ
ities
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
FINAN
CING ACT
IVITIES
2003
2004
2005
2006
2007
Assume
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Net change in sh
ort‐term
deb
t14
.0%
Repaym
ent o
f lon
g‐term
deb
t16
.9%
0.1%
Proceeds from
issuance of lon
g‐term
deb
t‐280
.8%
Debt issuance costs
2.0%
Issuance of com
mon
stock
‐20.0%
‐112
.3%
‐7.3%
‐2.9%
‐2.5%
Excess ta
x be
nefits from stock‐based compensation
‐1.4%
‐2.8%
Distrib
utions to
minority
interests
66.7%
138.9%
16.3%
13.5%
55.9%
Cash dividen
ds65
.2%
114.0%
38.1%
44.5%
154.2%
167.9%
180.8%
180.0%
177.4%
173.3%
166.1%
162.3%
158.5%
154.8%
151.1%
147.6%
Acqu
isitio
n of treasury stock
65.2%
114.0%
38.1%
44.5%
154.2%
52.9%
46.2%
160.1%
Cash used in financing activ
ities
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
INCR
EASE (D
ECRE
ASE) IN
CAS
H AND CAS
H EQUIVAL
ENTS
CASH
AND CAS
H EQUIVAL
ENTS – BEG
INNING OF YE
AR
CASH
AND CAS
H EQUIVAL
ENTS – END OF YE
AR
Actual
Foreceast
124
Cost of Capital Estimation
When determining the cost of capital, we must look at the cost of equity along
with the cost of debt. The manner in which one estimates cost of equity has been
more controversial than estimating the cost of debt. Estimating the cost of debt is done
by observing the interest rates that a company’s liabilities are being charged.
Estimating a company’s cost of equity can be done in a variety of ways, but we have
chosen to use the capital asset pricing model (CAPM).
Cost of Equity
Our first step in estimating Nucor’s cost of capital was to find their cost of equity.
As we mentioned before, we used the CAPM approach to do this. CAPM simply states
that:
Cost of Equity = Risk free Rate of Return + Beta * Market Risk Premium Our goals were to find out if Nucor has a long run or short run horizon and to see how
beta changes as we take more or less observations. We obtained the risk free rate
from the St. Louis Reserve website. We used the most recent 10 year constant
maturity T-bill as our constant risk free rate at 4.02%. We found the risk free rates for
3-month, 2 year, 5 year, 7 year, and 10 year treasury bills. We chose a market risk
premium of 8% because we don’t think markets are sustainable, and the 3% historical
average isn’t a strong measure of risk. We used regression to find the appropriate
betas for 72 month, 60 month, 48 month, 36 month, and 24 month comparisons. For
the regressions we inputted Nucor’s cumulative dividend returns and the S&P 500’s
returns. The resulting betas show how much systematic risk the company has. We ran
25 regressions to find out which beta to use. We compared each regression’s R
squared, to find the one that explained its beta best. In other words, we chose the
highest R squared. Through our regressions, we found that the 72 month observations
125
consistently showed the most explanatory power. Other than the 24 month
observation, Beta stayed pretty constant. This means that it is a stable investment and
that the company has not undergone any recent major structural shifts. No matter
where we looked on the yield curve, the explanatory power was similar in every
horizon. This leads us to believe that this investment has a long run horizon.
The strongest R squared came in with the 10 year rates on the 72 month
observation at 28.84% explaining a beta of 1.7985. On YahooFinance, they came up
with Nucor’s beta to be 1. We have no idea how they calculated this, so we used our
beta in the CAPM, and calculated an 18.41% cost of equity, then adjusted for market
cap size by adding .7%. Our final cost of equity was 19.11%. The following charts
show the 25 regressions we ran, along with the appropriate cost of equity.
3 Month Months Adj. R^2 Beta Est. Risk free rate MRP ke CAPM Size Adj.
72 0.287009 1.792527 4.02% 8% 18.36% 19.06%60 0.238071 1.828812 4.02% 8% 18.65% 19.35%48 0.246997 1.882869 4.02% 8% 19.08% 19.78%36 0.23227 1.71454 4.02% 8% 17.74% 18.44%24 0.228119 1.550069 4.02% 8% 16.42% 17.12%
2 Year Months Adj. R^2 Beta Est. Risk free rate MRP ke CAPM Size Adj. 72 0.287348 1.793131 4.02% 8% 18.37% 19.07% 60 0.238279 1.829334 4.02% 8% 18.65% 19.35% 48 0.248592 1.885972 4.02% 8% 19.11% 19.81% 36 0.233996 1.715682 4.02% 8% 17.75% 18.45% 24 0.231167 1.554293 4.02% 8% 16.45% 17.15%
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5 Year Months Adj. R^2 Beta Est. Risk free rate MRP ke CAPM Size Adj. 72 0.288021 1.796633 4.02% 8% 18.39% 19.09% 60 0.237697 1.826413 4.02% 8% 18.63% 19.33% 48 0.248882 1.881954 4.02% 8% 19.08% 19.78% 36 0.234422 1.710693 4.02% 8% 17.71% 18.41% 24 0.231346 1.549472 4.02% 8% 16.42% 17.12% 7 Year Months Adj. R^2 Beta Est. Risk free rate MRP ke CAPM Size Adj. 72 0.288278 1.798129 4.02% 8% 18.41% 19.11% 60 0.237453 1.825027 4.02% 8% 18.62% 19.32% 48 0.248923 1.88021 4.02% 8% 19.06% 19.76% 36 0.234528 1.708502 4.02% 8% 17.69% 18.39% 24 0.231209 1.547036 4.02% 8% 16.40% 17.10% 10 YEAR Months Adj. R^2 Beta Est. Risk free rate MRP ke CAPM Size Adj. 72 0.288444 1.798488 4.02% 8% 18.41% 19.11% 60 0.237279 1.823186 4.02% 8% 18.61% 19.31% 48 0.248967 1.877888 4.02% 8% 19.04% 19.74% 36 0.234631 1.705818 4.02% 8% 17.67% 18.37% 24 0.234631 1.543981 4.02% 8% 16.37% 17.07%
CAPM Size Adj. Upper Bound Cost of Equity 23.67% 24.37% Lower Bound Cost of Equity 13.15% 13.85%
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Alternative Cost of Equity
We could have used an alternative way to estimate the cost of capital. This
formula gives us a different estimation. This method is called the backdoor approach.
Ke = (ROE + (P/B – 1) * g)
P/B In this formula, Ke = Cost of capital ROE = Return on Equity P/B = Price to Book Ratio g = growth rate of net earnings When we plug in all these variables we get a cost of capital of 27.89%, but we feel that the CAPM model is more accurate.
Cost of Debt
The cost of debt is generally cheaper than the cost of equity for companies. This
is because debt is less risky. The cost of debt is equal to the combined short term and
long term borrowings. Each classification of debt has a different weight and rate.
Nucor’s long term debt obligations were listed on their 10k with the appropriate rates.
For more current liabilities, we used the St. Louis Federal Reserve website to find the 3
month nonfinancial commercial paper rate for accounts payable. Salaries and wages
and other accrued liabilities were also listed on Nucor’s 10k. For deferred income and
minority rights we used the 10 month treasury constant maturity rate, again from the
St. Louis Fed.
We weighted each debt item as a percentage of total liabilities, so that the sum
of all the weights is equal to 1 (100%). We then multiplied each of the liabilities’
weights by the corresponding rate to get a weighted rate, each of which is a portion of
our total weighted average cost of debt. The sum of all of the weighted rates is 4.3%,
which is our cost of debt that we will use for our WACC calculation.
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The table on the next page displays this a little more clearly.
Weighted Average Cost of Debt
Weighted Average Cost of Capital
The weighted average cost of capital is the combined costs of equity and debt.
WACC can be computed before or after taxes, depending on whether the FCF was
calculated before or after taxes. For our purposes, we used the before tax WACC. To
calculate before tax WACC, we multiply our cost of equity by the percentage that debt
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represents of the combined total debt and total equity and then multiply our cost of
debt by the percentage that equity represents of the combined total debt and total
equity.
WACC= (MVL/MVA)*kd+(MVE/MVA)*ke
We calculated both before and after tax WACC just to make comparisons. For
the after tax WACC we used a 34.68% tax rate, which we found on Nucor’s 2007 10K.
After making our calculations, we found that Nucor’s WACC before tax is 14.83% and
WACC after tax is 14.40%.
Weighted Average Cost of Capital MVE/MVA Cost of Equity MVL/MVA Cost of Debt Tax Rate WACC
WACCBT 11600224/ 16313429 19.11%
4713205/ 16313429 4.30% 0 14.83%
WACCAT 11600224/ 16313430 19.11%
4713205/ 16313430 4.30% 34.68% 14.40%
CAPM Size Adj. Upper Bound Cost of Equity 23.67% 24.37% Lower Bound Cost of Equity 13.15% 13.85%
Valuation Analysis Method of Comparables The methods of comparables are composed of simplistic ratios that help financial
analysts in determining a company’s value. Comparables are known to be simplistic,
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quick, and easy to use. They can be beneficial when analyzing a company, but at times
comparables produce inconsistent results. Comparables are calculated by calculating
the industry average, exempting Nucor’s numbers from the average, and used to get
Nucor’s share price. Our comparables section is made up of 8 ratios which help
investors determine if a firm is overvalued, fairly valued, or undervalued. This is in
regards to being calculated within 20% of the actual share price. Nucor’s published
share price on November 3, 2008 was $37.83. The margin of safety used for this
comparables section was 20%. Our margin of safety lies between the share price of
$30.26 and $45.40.
Price / Earnings Trailing
PPS EPS P/E Trailing Industry Avg. Expected PPS
Nucor 37.83 4.69 8.07 4.08 19.12
X 37.75 15.71 2.40
CMC 11.53 1.97 5.85
MT 24.88 9.65 2.58
PKX 64.84 11.86 5.47
The price to earnings trailing ratio is calculated by dividing the price per share by
the net earnings per share. The net earnings per share are calculated by taking the net
earnings of the past year and dividing that by the total number of shares outstanding.
This ratio uses the earnings per share of the past year and the prices of the upcoming
year. Considering that the earnings per share of the past year and the prices of the
upcoming year are used in this ratio; we can expect this ratio to not be an efficient
measurement of Nucor’s share price in the long run. When calculating the industry
average we took the average of Nucor’s four competitors P/E trailing ratios, and
exempted Nucor’s P/E trailing ratio from the calculation. No outliers were found when
calculating the industry average. The industry average was calculated to be 4.08. We
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then took the industry average of 4.08 and multiplied it by Nucor’s earnings per share
of 4.69. This calculation gave us Nucor’s expected price per share; which came out to
be $19.12. Considering Nucor’s price per share is $37.83, and we calculated Nucor’s
expected share price to be $19.12; we have determined Nucor’s stock to be overvalued.
Price / Earnings Forward
PPS EPS 1 Year Out P/E Forward Industry Avg. Expected PPS
Nucor 37.83 4.54 8.33 5.42 24.60
X 37.75 8.82 4.28
CMC 11.53 2.53 4.56
MT 24.88 8.85 2.81 Outlier
PKX 64.84 8.74 7.42
The next ratio computed in this comparable section is the price to earnings
forward model. This ratio is also known as the forecasted price to earnings ratio. The
price to earnings forward model is closely related to the price to earnings trailing model.
The major difference between the price to earnings trailing model and the price to
earnings forward model is the price to earnings forward model uses the forecasted
earnings per share to calculate the ratio. The price to earnings forward model is
calculated by taking the price per share divided by the forecasted earnings per share.
The forecasted earnings per share are calculated by taking next year’s forecasted net
earnings and dividing by the shares outstanding. We then took the industry’s average
excluding MT (Arcelor Mittal) from the average because it produced an outlier. The
industry average was calculated to be 5.42. The industry average was then multiplied
by Nucor’s earnings per share one year out to come up with the expected price per
share. Nucor’s expected calculated price per share from the price to earnings forward
model was $24.60. Considering Nucor’s price per share is $37.83 and its expected price
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per share through calculations in the price to earnings forward model is 24.60, we can
assume that Nucor’s stock is overvalued.
Price / Book
PPS BPS P/B Industry Avg. Expected PPS
Nucor 37.83 17.68 2.14 0.72 12.80
X 37.75 45.54 0.83
CMC 11.53 14.40 0.80
MT 24.88 45.54 0.55
PKX 64.84 8.74 0.72
The price to book ratio is used to compare the market price value to the book
value of equity. The price to book ratio is calculated by taking the price per share of a
firm divided by the book value of equity per share. Book value of equity per share is
calculated by taking the book value of equity divided by the outstanding shares of
common stock. No outliers were found in the price to book ratio. After we calculated
the price to book ratio we took the industry’s average. The industry’s average came
out to be 0.72. Our next step in the price to book ratio was to multiply the industry
average by Nucor’s book value of equity. This gave us an expected price per share of
$12.80. Considering that Nucor’s price per share is $37.83 and its expected price is
$12.80 we can assume that Nucor’s stock is overvalued.
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PEG
PE EGR (t+1) P.E.G. Industry Avg. Expected PPS
Nucor 5.13 6.70 0.77 0.47 3.18
X 2.4 12.00 0.20
CMC 5.85 7.41 0.79
MT 2.58 6.45 0.40
PKX 5.47 10.74 0.51
The next comparable model that we computed is the price to earnings growth
model also known as the PEG model. This model is calculated by taking the price
earnings which is price per share over earnings per share and dividing that by the
earnings growth rate (t+1). The earnings growth rate (t+1) is the earnings growth rate
of next year. After finding the price earnings growth (PEG) we calculated the industry
average but excluded Nucor’s price earnings growth from the average. The industry
average came out to be 0.47. The industry average was then multiplied by Nucor’s
earnings growth rate for the next year which gave us Nucor’s expected price per share.
Nucor’s expected price per share after computing the price earnings growth model
came out to be $3.18. Considering Nucor’s price per share is $37.83 and the expected
price per share is $3.18 we can assume that Nucor’s stock is overvalued.
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Price / Free Cash Flows
MKT CAP FCF P/FCF Industry Avg. Expected PPS
Nucor 11.24 0.51 21.83 10.30 5.30
X 4.39 0.20 21.98
CMC 1.31 (0.04) (30.14) Not Used
MT 34.46 6.47 5.33
PKX 19.59 5.46 3.59 * Numbers in billions Price over Free Cash Flows
To find the price over free cash flows model we divided the market cap by the
free cash flows. To find our free cash flows we merely took the cash flows from
operations and either added or subtracted the cash flows which we incurred from
investments. To find the industry average we added up all of Nucor’s competitors,
excluded the Commercial Metals Company because in an industry average we cannot
use a negative number, and then divided by three to find an industry average. After
computing the industry average we have calculated an expected price per share by
multiplying the industry average by the free cash flow. The expected price per share
was calculated at $5.30. Considering that Nucor’s market price per share is 37.83 and
its expected price per share is $5.30 we can assume that Nucor’s stock is overvalued.
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Enterprise Value / EBITDA
EV EBITDA EV/EBITDA Industry Avg. Expected PPS
Nucor 12.85 4.12 3.12 2.70 11.11
X 6.82 3.23 2.11
CMC 2.62 0.53 4.95 Outlier
MT 65.24 22.82 2.86
PKX 19.59 5.90 3.32 * Numbers in billions Enterprise Value / EBITDA
To find the enterprise value to EBITDA model we divided the enterprise value by
EBITDA, which is earnings before income taxes, depreciation, and amortization. To find
the enterprise value we added the market value of equity, book value of liabilities, cash,
and investments. When then divided enterprise value by EBITDA to give us the
enterprise value to EBITDA for each company. To compute this industry average we
threw out Commercial Metals Company because it was an outlier. The expected price
per share that we came up with is $11.11 per share. Considering Nucor’s market price
per share is $37.83 and its expected price per share was calculated to be $11.11 we
can assume that Nucor’s stock is overvalued.
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Dividends/ Price
DPS PPS D/P Industry Avg. Expected PPS
Nucor 1.28 37.83 0.034 0.04 32.26
X 1.20 37.75 0.032
CMC 0.48 11.53 0.042
MT 1.28 24.88 0.051
PKX 3.30 64.84 0.051 Dividends/ Price
The dividends to price ratio was calculated by taking the dividends per share and
dividing them by the price per share. After computing the dividends to price ratio for
Nucor and each of its competitors; we found the industry average. The industry
average was calculated by taking the average of the dividends to price ratio for each
company excluding Nucor from the average. The expected share price was computed
by taking the dividends per share and dividing them by the industry average. The
expected price per share was calculated at $32.26. This is higher than the stock price
in the market, but it is within the margin of safety, so therefore Nucor stock is fairly
valued.
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Price / EBITDA
MKT CAP EBITDA P/EBITDA Industry Avg. Expected PPS
Nucor 11.24 4.12 2.73 2.17 8.93
X 4.39 3.23 1.36
CMC 1.31 0.53 2.48
MT 34.46 22.82 1.51
PKX 19.59 5.90 3.32 * Numbers in billions Price over EBITDA To find price over EBITDA we merely divided the price over EBITDA, which is
earnings before income taxes, depreciation, and amortization. To compute the price
over EBITDA for each company we divided the market cap by the EBITDA. We then
calculated the industry average by adding up Nucor’s competitors’ price over EBITDA
and dividing by four. After we calculated the industry average we found the expected
price per share by multiplying the industry average by Nucor’s EBITDA. The expected
price per share was calculated at $8.93. Considering Nucor’s market price per share is
$37.83 and its expected price per share is 8.93 we can assume that Nucor’s stock is
overvalued.
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Comparables
Model Price Per Share Expected Price Per Share
Value
Price / Earnings Trailing $37.83 19.12 Overvalued
Price / Earnings Forward $37.83 24.60 Overvalued
Price/ Book $37.83 12.80 Overvalued
Price Earnings Growth $37.83 3.18 Overvalued
Price / Free Cash Flows $37.83 5.30 Overvalued
Enterprise Value /EBITDA $37.83 11.11 Overvalued
Dividends / Price $37.83 32.26 Fairly Valued
Price / EBITDA $37.83 8.93 Overvalued
Conclusion
The methods of comparables are a set of simplistic models that when computed
will give you an estimation of the expected price per share of the company you are
valuing. By taking the expected price per share and comparing it to the current price
per share of a company considering a specific margin of safety; gives you a simplistic
way of valuing a firm. Through the method of comparables we computed for Nucor we
have come to an assumption that Nucor is overvalued. Although this assumption is
based on a set of ratios calculated through the method of comparables; this method is
not always efficient. The intrinsic model is known for calculating a better estimate of a
company’s true value.
Intrinsic Valuation Models
Besides methods of comparables, intrinsic valuations are an alternative way to
value a firm. These valuation approaches include the dividend discount model,
discounted free cash flow model, residual income model, long- run residual income
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model, and abnormal earnings growth model. Each of these models are based upon
forecasting the next ten years of net earnings, total dividends, book value of equity,
and cash flows from investing and operating activities. Once these components are
forecasted, the numbers will be discounted back to present value by using the weighted
average cost of capital or the cost of equity. The total present value of the numbers
and the terminal value perpetuity are the foundations of these models. Even though
firms are not immune of going bankrupt or being taken over, we still find the perpetuity
values for these models. These five intrinsic approaches can help interpret the value of
Nucor.
Dividend Discount Model
The dividend discount model is the least precise approach because it is difficult
to forecast dividends accurately, especially in the later years of forecasting. This
approach is based upon forecasting future dividends for a firm as well as the terminal
value to find a time consistent price.
To calculate this model, we forecasted ten years of dividends by 4.5% growth
and discounted the dividends back to present value by using the cost of equity, Ke,
19.1%. Multiplying the dividend by the discount rate will achieve this. The discount rate
for each year is calculated as 1 divided one plus the cost of equity raised to the
discount year, 1/((1+ Ke)^t). The total present value of dividends is simply adding
discounted dividends year 2008- 2017. The implied model price is found by the total
year by year present values of dividends and the terminal value perpetuity, ( PV of YBY
DPS + TV of Perp.). The terminal value perpetuity is derived by year 11 dividends
divided by Ke minus growth rate, then multiplied by the lagged discount rate. Finally,
we are able to calculate the time consistent model price of dividends. The time
consistent price is calculated by, (implied price*[(1+ Ke)^(10/12)] ). Raising the formula
by (10/12) will keep the price consistent with how many months we are out from the
start of the year; in this case October. This model performs sensitivity analysis by
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applying different growth rates and cost of equity’s. Below is the model using upper and
lower bounds of cost of equity, and increases and decreases in growth rates.
The model above explains Nucor’s dividend per share at different rates. By using
Nucor’s cost of equity, 19.1% and 0% growth rate, the model shows that dividends will
be $17.93. The margin of safety is 20% of the observed stock price on 11/3/2008,
$37.83, which are fairly valued. This model explains that Nucor is overvalued for this
model except for a cost of equity of 13.9%, and with growth rates above 6%. Even
though the dividend discount model is the least accurate, the table shows that Nucor is
overvalued.
Discounted Free Cash Flow Model
The discounted free cash flow model predicts the firm’s value of equity by 10-
15%. This model is on a per share basis because dividend forecast are on a per share
basis. The main components in this approach are the forecasted cash flows from the
operating and investing activities from the statement of cash flows. This model uses
WACC before tax because net earnings are already taxed and used in the operating
cash flows section.
In calculating this model, first, forecasts are made ten years out for both CFFO
and CFFI. By taking the difference of these two will derive the firm’s free cash flows of
assets, then discounted back using WACC(BT). The discount rate is calculated as 1
divided by one plus the WACC raised to the discount period, 1/((1+WACC)^t). The total
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present value of year by year cash flows is simply adding the discounted cash flows
from 2008- 2017, equaling $9,749,384. The future cash flow perpetuity is derived by
year 11 cash flow divided by WACC(BT) minus growth rate, then multiplied by the
lagged discount rate, $6,621,990. The model estimated market value of assets on
12/31/2007 is derived from the terminal value perpetuity plus PV YBY CF’s,
$16,371,374. Estimated market value of equity is found by subtracting the market value
of assets from market value of liabilities, $11,658,374. By getting numbers on a per
share basis, we divide the estimated market value of equity by the number of shares
outstanding, 314,000. Finally, the model’s time consistent price is calculated by the
price per share times 1 plus WACC(BT) raised to (10/12), PPS*((1+WACCBT)^(10/12)).
For this model, the upper and lower bounds of WACC(BT) are used, which are
11.1% and 18.6% as well as growth rates increasing by 1.5%. By tweaking the growth
rates and WACC(BT), time consistent numbers will show how sensitivity analysis that
the model performs.
This model shows that using a smaller WACC(BT) and a higher growth rates sky
rockets the price. Inversely, using a higher WACC(BT) and a 0% growth rate results in
the lowest price. Using Nucor’s WACC(BT), 14.8%, and a 0% growth rate, this models
price is $41.65. The margin of safety is 20% of the observed stock price on 11/3/2008,
$37.83, which are fairly valued. From the discounted free cash flows approach, this
model shows that Nucor is fairly valued.
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Residual Income Model
The residual income model does not rely heavily on terminal value as does the
dividend discount model and the discounted free cash flow model. Instead, this
approach puts more of an emphasis on book value of equity, the present value of
residual income, and the cost of equity. This model ties the balance sheet, income
statement, and the cash flows statement together, by using the formula BVEt-1+Nit- Tot
Divt. The book value of equity is easier to forecast, thus making residual income a more
accurate prediction, making this model a preference of valuing a company.
The first step in the residual income model is to forecast net income and total
dividends for the next ten years. Book value of equity is calculated by adding the lagged
book value of equity plus net income minus total dividends, BVEt-1+Nit- Tot Divt. Annual
normal income (benchmark) is found by multiplying the lagged book value of equity
and the cost of equity together. This now allows us to calculate the annual residual
income, which is a critical component in this model. Annual residual income equals net
income minus the annual normal income (benchmark).
Since we need to discount each year by year residual income back to present
value, we do this by multiplying the residual income by the discount rate each year.
Discounting back each year is calculated as 1 divided by one plus the Ke raised to the
year you are in, 1/((1+ Ke)^YR). Add up all of the discounted back numbers and this
equals the total present value of year by year residual income, equaling $1,012,588.
The terminal value of perpetuity is the annual residual income in year 11 divided by the
cost of equity minus the perpetuity growth rate, then multiplied by the lagged discount
rate. The MVE at 12/31/2007 is the BVE in 2007 plus the PV of YBY residual income
plus the terminal value perpetuity equaling $6,087,114. To be consistent with the other
models will divide the MVE by shares outstanding, 314,000, to get a price per share,
$19.39.
Finally, calculating the model’s time consistent price is price per share times one
plus Ke raised to the (10/12), PPS*((1+ Ke)^(10/12)).
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The model explains that at the lower bound, 13.9%, and with decreasing
terminal value growths, the price drops slightly. This happens because residual income
at year 10 starts off with positive perpetuity slope and decreases to a median of 19.1%.
Inversely, the upper bound Ke of 24.4% has a decreasing terminal value growth, which
increases price with negative growth rates. This happens because residual income at
year 10 starts off negative, and rises to a median of 19.1%.
Since the residual income approach is better at valuing a firm, we put more
weight on this model than the other ones. The margin of safety for this approach is
20% of the observed price on 11/3/2008, $37.83. Using the Ke at 13.9%, Nucor is fairly
valued for each terminal growth rate. When Ke increases, Nucor becomes dominantly
overvalued. Overall, this model suggests that Nucor is underperforming in the market
and is overvalued.
Abnormal Earnings Growth (A.E.G.)
The abnormal earnings growth model’s key components only come from the
income statement. This is a value added model because it is directly correlated with
the residual income model as well as creating theoretical forward earnings multiple,
(P0/E1) “Dr. Moore 2008”.
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The first step in calculating this model is to calculate DRIP income. DRIP,
dividend reinvestment is found by multiplying the cost of equity, 19.1% to the lagged
total dividends. Then cumulative dividend income is derived by adding DRIP and net
income together. Normal income (benchmark) equals lagged net income times 1 plus
cost of equity. Finally, the annual A.E.G. is calculated by subtracting the cumulative
dividend income from normal income (benchmark). Again, find the discount rates,
(1/((1+Ke)^t), and find the total present of the annual A.E.G.’s, -$203,192. To find the
terminal value perpetuity, we divide year 11 annual A.E.G. by cost of equity minus
growth rate, then multiply that number by the lagged discount rate. The total adjusted
earnings perpetuity is derived by adding the total present value of perpetuity and 2008
net income.
The model market value of equity equals the total adj. earnings perp. divided by
the cost of equity 19.1%, totaling $5,997,244. Keeping the model price on a price per
share basis we divide the MVE by total shares, 314,000. Finally, calculating the model’s
time consistent price is price per share times one plus Ke raised to the (10/12),
PPS*((1+ Ke)^(10/12)).
When the A.E.G. model was used, we used the upper and lower bounds of the
cost of equity, 13.9% and 24.4%, as well as negative growth rates from 0% to -50%.
Using 0% growth and Nucor’s cost of equity, 19.1%, the model gave Nucor a time
consistent price of $22.10. After the A.E.G. model was calculated, it shows that Nucor is
overvalued.
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Since the A.E.G. and residual income model are correlated to each other, we can
compare these models. To do this, we compare the annual abnormal earnings growth
to the change in residual income from year to year. If our model is correct both of
these numbers should be identical. As you can see below both the annual abnormal
earnings growth and change in residual income are the same.
Long Run Residual Income
The long run residual income model is closely related to the residual income
model. The only difference is the substitution of earnings and total dividends. This
model is highly sensitive to changes in growth rates, cost of equity, and return on
equity, thus making less frequently used for firms.
The model formula for finding the market value of equity is MVE0=BVE0 [(ROE-
Ke)/(Ke-g)]. We took the average ten years forecasted for the return on equity which is
32%. We also used a forward earnings growth rate, g, of 4.5% and a cost of equity of
19.1%. We used the time consistent price formula to compute the following models.
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The first two models, price changes are almost identical, but growth rates have
more sensitive prices. The lower bounds of the cost of equity and higher growth rates
and ROE, substantially increase prices. The third model is inversely related to the
others. Lower growth rates and lower ROE’s are severely undervalued. The long run
residual income models estimate that Nucor is fairly valued.
Conclusion
In conclusion, intrinsic valuation models are a core input in valuing Nucor. After
running the five models, three models were overvalued, and two models were fairly
valued. Our decisions were heavily weighted on the residual income model and the
abnormal earnings growth model. Since both of these models are overvalued, we
believe Nucor is overvalued as well.
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Analyst Recommendation
As analyst, we have done in depth research on Nucor and their closest
competitors. From this evaluation on Nucor’s accounting analysis and financial numbers,
we feel like Nucor is overvalued. After extensive valuations on intrinsic models and
methods of comparables, we concluded that ten out of thirteen models were
overvalued. With the facts researched and presented we have a recommendation to
sell.
Model Price ValueDividend Discount 17.93$ OvervaluedDiscounted Free Cash Flow 41.65$ Fairly ValuedResidual Income 22.43$ OvervaluedAbnormal Earnings Growth 22.10$ OvervaluedLong-Run Residual Income 35.46$ Fairly Valued
Observed Price (11/3/2008)Intrinsic Valuation Models
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Appendices
Sales Manipulation Diagnostics
Net Sales/Cash from Sales (Raw) 2003 2004 2005 2006 2007 NUE 0.99 0.97 1.00 1.00 0.97 X 0.96 0.96 1.01 0.99 0.98 CMC 0.93 0.96 0.97 0.96 1.01 PKX 0.98 0.97 0.99 0.98 0.99 MT 0.90 0.98 0.99 0.90 0.99
Net Sales/Net Accounts Receivable (Raw) 2003 2004 2005 2006 2007 NUE 10.95 11.83 12.69 13.82 10.30 X 7.65 7.89 8.73 8.74 8.12 CMC 6.87 7.53 7.55 6.33 7.64 PKX 8.60 9.01 9.41 7.95 8.93 MT 6.03 11.07 12.30 6.71 11.04
Net Sales/Warranty Liabilities (Raw) 2003 2004 2005 2006 2007 NUE 29.98 46.43 44.88 49.67 65.07 X 186.56 481.69 452.87 506.94 843.65 CMC 30.65 36.84 47.42 31.09 32.03 PKX 57.40 19.48 17.96 21.78 25.34 MT 19.45 9.62 10.57 8.47 14.46
Net Sales/Inventory (Raw) 2003 2004 2005 2006 2007 NUE 11.19 9.17 13.44 12.93 10.36 X 7.27 11.67 9.62 9.80 7.40 CMC 8.77 7.08 8.85 9.45 9.53 PKX 8.60 8.48 8.18 7.44 7.82 MT 6.03 5.53 4.47 3.06 4.84
149
Expense Manipulation Diagnostics
Asset Turnover (Raw) 2003 2004 2005 2006 2007 NUE 1.43 2.53 2.07 2.07 2.10X 1.17 1.78 1.27 1.60 1.59CMC 2.34 3.74 3.15 3.09 2.87PKX 0.93 1.21 1.10 1.00 1.02MT 1.74 2.19 1.47 1.90 0.93
CFFO/NOA (Raw) 2003 2004 2005 2006 2007 NUE 0.18 0.37 0.75 0.79 0.60 X 0.17 0.39 0.30 0.38 0.26 CMC 0.04 0.11 0.40 0.40 0.60 PKX 0.36 0.43 0.44 0.26 0.36 MT 0.47 0.61 0.25 0.13 0.27
Total Accruals/Change in Sales (Raw) 2003 2004 2005 2006 2007 NUE 0.30 -0.02 0.62 0.24 0.25 X 0.30 0.07 4.66 0.19 0.75 CMC -0.02 -0.05 -0.05 -0.13 0.09 PKX 0.44 0.16 0.31 0.43 0.30 MT 0.05 -0.08 0.01 0.03 0.10
Pension Expense/SG&A (Raw) 2003 2004 2005 2006 2007 NUE 0.05 0.41 0.42 0.46 0.40 X 3.54 2.96 3.06 3.60 5.41 CMC 0.02 0.07 0.10 0.16 0.27 PKX 0.28 0.38 0.44 0.48 0.47 MT 5.72 4.06 3.45 2.90 1.74
150
Liquidity Ratios
Current Ratio 2003 2004 2005 2006 2007 Nucor 2.57 2.98 3.24 3.29 3.21 X 1.46 1.72 1.76 1.92 1.65 CMC 1.90 1.82 1.91 1.81 2.29 PKX 1.83 2.10 1.98 2.41 2.17 MT 1.06 1.54 2.09 1.60 1.41 Industry Avg. 1.76 2.03 2.19 2.21 2.15
Quick Asset Ratio 2003 2004 2005 2006 2007 Nucor 0.56 0.73 1.46 1.54 1.00 X 1.39 0.90 0.89 0.84 1.21 CMC 1.06 0.93 1.06 1.11 1.40 PKX 1.30 1.45 1.26 1.52 1.33 MT 1.13 0.72 0.77 0.60 0.54 Industry Avg. 1.09 0.95 1.09 1.12 1.10
A/R Turnover 2003 2004 2005 2006 2007 Nucor 10.95 11.82 12.69 13.82 10.29 X 7.65 7.90 8.79 8.74 8.12 CMC 7.24 7.86 7.55 6.36 7.69 PKX 6.99 6.66 7.91 6.68 7.50 MT 10.76 11.07 12.30 6.71 11.04 Industry Avg. 8.72 9.06 9.85 8.46 8.93
151
Days Sales Outstanding 2003 2004 2005 2006 2007 Nucor 33.35 30.89 28.76 26.41 35.46 X 47.70 46.23 41.55 41.78 44.93 CMC 50.45 46.46 48.34 57.43 47.45 PKX 52.21 54.78 46.16 54.68 48.64 MT 33.92 32.99 29.67 54.37 33.07 Industry Avg. 43.53 42.27 38.90 46.94 41.91
Inventory Turnover 2003 2004 2005 2006 2007 Nucor 10.70 7.36 10.70 9.89 8.41 X 6.59 8.71 7.94 8.08 6.42 CMC 0.78 0.57 7.61 8.05 8.20 PKX 5.78 4.71 4.50 4.40 4.74 MT 4.77 3.66 3.70 2.51 3.91 Industry Avg. 5.72 5.00 6.89 6.59 6.33
Days Supply of Inventory 2003 2004 2005 2006 2007 Nucor 34.11 49.57 34.12 36.91 43.42 X 55.37 41.90 45.96 45.15 56.85 CMC 466.27 641.01 47.98 45.35 44.51 PKX 63.18 77.43 81.14 82.96 77.00 MT 76.54 99.68 98.61 145.16 93.45 Industry Avg. 139.09 181.92 61.56 71.11 63.05
Working Capital Turnover 2003 2004 2005 2006 2007 Nucor 6.11 5.32 4.45 4.52 4.75 X 9.55 7.70 6.74 6.30 8.63 CMC 7.20 7.44 7.74 7.49 6.01 PKX 5.16 3.98 4.53 3.51 4.15 MT 106.30 6.54 4.61 3.96 8.02 Industry Avg. 26.86 6.19 5.61 5.16 6.31
152
Profitability Ratios
Gross Profit Margin 2003 2004 2005 2006 2007 Nucor 4.30% 19.76% 20.41% 23.50% 18.86% X 9.33% 18.65% 17.07% 17.48% 13.28% CMC 91.54% 92.29% 14.10% 14.89% 13.94% PKX 24.02% 27.30% 28.42% 22.72% 20.94% MT 20.89% 33.80% 20.59% 17.82% 19.26% Industry Avg. 30.02% 38.36% 20.11% 19.28% 17.25%
Operating Profit Margin 2003 2004 2005 2006 2007 Nucor 79.35% 61.44% 57.13% 54.39% 60.10% X 2.11% 13.37% 12.39% 13.64% 9.78% CMC 83.08% 84.58% 7.54% 8.23% 6.93% PKX 18.35% 22.19% 23.13% 16.99% 15.56% MT 13.58% 27.69% 16.81% 12.79% 14.09% Industry Avg. 39.29% 41.85% 23.40% 21.21% 21.29%
Net Profit Margin 2003 2004 2005 2006 2007 Nucor 1.00% 9.86% 10.37% 11.91% 8.87% X -4.50% 8.12% 6.48% 8.74% 5.21% CMC 0.66% 2.77% 4.56% 4.94% 4.27% PKX 11.22% 15.91% 15.25% 12.83% 11.26% MT 12.35% 21.18% 13.49% 10.37% 11.26% Industry Avg. 4.15% 11.57% 10.03% 9.76% 8.17%
Asset Turnover 2003 2004 2005 2006 2007 Nucor 1.43 2.53 2.07 2.07 2.10 X 1.17 1.78 1.27 1.60 1.59 CMC 2.34 3.74 3.15 3.09 2.87 PKX 0.93 1.21 1.10 1.00 1.02 MT 1.74 2.19 1.47 1.90 0.93 Industry Avg. 1.52 2.29 1.81 1.93 1.71
153
Return on Assets 2003 2004 2005 2006 2007 Nucor 1.43% 24.96% 21.48% 24.61% 18.65% X -5.27% 14.48% 8.22% 13.99% 8.30% CMC 1.54% 10.35% 14.37% 15.27% 12.26% PKX 10.42% 19.31% 16.85% 12.85% 11.52% MT 21.44% 46.37% 19.81% 19.67% 10.52% Industry Avg. 5.91% 23.10% 16.15% 17.28% 12.25%
Return on Equity 2003 2004 2005 2006 2007 Nucor 2.70% 47.88% 38.12% 41.05% 30.30% X -20.72% 103.84% 22.34% 41.34% 20.14% CMC 3.42% 23.31% 43.26% 39.61% 29.13% PKX 17.17% 19.31% 16.85% 12.85% 11.52% MT 923.44% 183.56% 64.92% 60.16% 23.59% Industry Avg. 185.20% 75.58% 37.10% 39.00% 22.94%
IGR 2003 2004 2005 2006 2007
Nucor 0.0% 23.4% 18.1% 16.5% 9.4%X -5.7% 14.0% 7.7% 13.2% 7.4%CMC 0.8% 9.6% 13.7% 14.4% 10.9%PKX 8.7% 16.6% 14.0% 10.4% 9.4%MT 18.7% 38.8% 8.9% 17.5% 8.5%Industry Avg. 4.5% 20.5% 12.5% 14.4% 9.1%
SGR 2003 2004 2005 2006 2007
Nucor 0.0% 41.5% 30.2% 26.8% 18.2%X -40.9% 37.9% 22.6% 31.9% 20.8%CMC 1.8% 28.2% 34.7% 33.5% 24.4%PKX 11.9% 22.0% 17.9% 13.2% 12.2%MT 71.9% 115.7% 25.6% 39.4% 18.5%Industry Avg. 8.9% 49.0% 26.2% 29.0% 18.8%
154
Capital Structure Ratios
Debt to Equity 2003 2004 2005 2006 2007 Nucor 0.92 0.77 0.67 0.62 0.92 X 6.17 1.71 1.95 1.42 1.81 CMC 1.25 1.94 1.54 1.33 1.24 PKX 0.36 0.32 0.28 0.27 0.30 MT 2.86 1.98 1.88 1.24 1.17 Industry Avg. 2.31 1.34 1.26 0.98 1.09
Times Interest Earned 2003 2004 2005 2006 2007 Nucor 2.72 77.46 482.52 -72.06 412.02 X -5.53 11.13 12.09 15.39 7.98 CMC 1.98 7.54 14.17 19.31 14.89 PKX 11.98 28.82 37.73 24.43 21.68 MT 7.00 23.14 9.30 6.43 8.10 Industry Avg. 3.63 29.62 111.16 -1.30 92.93 Debt Service Margin 2003 2004 2005 2006 2007 Nucor 30.86 3.11 4.53 4.49 3.75 X 22.19 32.56 152.25 6.75 21.28 CMC 24.23 77.65 15.99 32.31 6.21 PKX 1.83 2.96 3.34 2.40 3.38 MT 5.49 5.91 11.36 21.32 3.36 Industry Avg. 16.92 24.44 37.49 13.46 7.60
Altman's Z-Score 2003 2004 2005 2006 2007
Nucor 2.25 3.28 3.01 3.38 2.96X 1.41 1.89 2.22 2.46 1.70CMC 3.07 3.18 3.30 3.43 3.95PKX 3.48 4.07 4.39 4.01 3.34MT 3.57 4.33 3.24 1.31 1.54Industry Avg. 2.76 3.35 3.23 2.92 2.70
155
Balance Sheet
in Tho
usands
2003
2004
2005
2006
2007
Assume
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Sales G
rowth
ASSETS
CURR
ENT AS
SETS:
Cash and
cash equ
ivalents
350,33
277
9,04
9 98
0,15
0 78
5,65
1 1,39
3,94
3 Short‐term investmen
ts (N
ote 4)
—
—
857,36
0 1,41
0,63
3 18
2,45
0 Accoun
ts re
ceiva
ble, net (N
ote 5)
572,47
9 96
2,75
5 1,00
0,62
9 1,06
7,32
2 1,61
1,84
4 1,32
7,43
81,28
7,61
51,35
1,99
61,43
3,11
51,53
3,43
41,67
1,44
31,78
8,44
31,91
3,63
52,04
7,58
92,19
0,92
02,34
4,28
51.77
Inventories (No
te 6)
560,39
6 1,23
9,88
8 94
5,05
4 1,14
1,19
4 1,60
1,60
0 1,69
4,60
21,64
3,76
41,72
5,95
21,82
9,50
91,95
7,57
52,13
3,75
62,28
3,11
92,44
2,93
82,61
3,94
32,79
6,91
92,99
2,70
41.77
Othe
r current assets (No
te 19)
137,35
3 19
3,25
6 28
8,36
0 27
8,26
5 28
3,41
2
Total current assets
1,62
0,56
0 3,17
4,94
8 4,07
1,55
3 4,68
3,06
5 5,07
3,24
9 4,87
0,31
94,72
4,20
94,96
0,42
05,25
8,04
55,62
6,10
86,13
2,45
86,56
1,73
07,02
1,05
17,51
2,52
58,03
8,40
28,60
1,09
01.77
PROP
ERTY, PLANT
AND
EQU
IPMEN
T, NET (N
ote 7)
2,81
7,13
5 2,81
8,30
7 2,85
5,71
7 2,85
6,41
5 3,23
2,99
8 4%
3,35
0,81
83,47
2,93
23,61
1,84
93,75
6,32
33,90
6,57
64,06
2,83
94,22
5,35
34,39
4,36
74,57
0,14
24,75
2,94
74,94
3,06
51.48
GOOD
WILL
(Note 8)
—
—
—
143,26
5 84
7,88
7 OT
HER INTA
NGIBLE ASSETS, NET
(Note 8)
—
—
—
5,01
5 46
9,93
6 OT
HER AS
SETS (N
otes 1 and
13)
54,658
21
1,51
7 13
9,95
2 20
5,25
8 20
2,05
2 To
tal N
on‐Current Assets
2,87
1,79
3 3,02
9,82
4 2,99
5,66
9 3,20
9,95
3 4,75
2,87
3 4,56
2,75
84,42
5,87
54,64
7,16
94,92
5,99
95,27
0,81
95,74
5,19
36,14
7,35
66,57
7,67
17,03
8,10
87,53
0,77
68,05
7,93
01.77
TOTA
L ASSETS
4,49
2,35
3 6,13
3,20
7 7,13
8,78
7 7,89
3,01
8 9,82
6,12
2 9,53
1,33
89,24
5,39
89,89
2,57
610
,683
,982
11,538
,701
12,461
,797
13,458
,741
14,535
,440
15,698
,275
16,954
,137
18,310
,468
1.92
2003
2004
2005
2006
2007
Assume
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
LIABILIT
IES A
ND ST
OCKH
OLDE
RS’ EQU
ITY
CURR
ENT LIA
BILIT
IES:
Short‐term deb
t (No
te 10)
—
—
—
—
22,868
Accoun
ts payable (N
ote 9)
329,86
3 47
1,54
9 50
1,62
4 51
6,64
0 69
1,66
8 Salarie
s, wages and
relat
ed accruals
(Notes 15 and 16)
91,187
32
0,27
6 36
8,56
8 45
5,05
1 43
6,35
2 Accrue
d expe
nses and
other cu
rrent lia
bilities (No
tes 9
, 13
and 14
)20
8,54
5 24
5,00
8 38
4,25
7 45
0,22
6 43
1,14
8
Total current lia
bilities
629,59
5 1,06
5,79
0 1,25
5,69
9 1,42
1,91
7 1,58
2,03
6 1,57
1,07
11,52
3,93
91,60
0,13
51,69
6,14
41,81
4,87
41,97
8,21
22,11
6,68
72,26
4,85
52,42
3,39
52,59
3,03
32,77
4,54
51.77
LONG
‐TER
M DEB
T DU
E AF
TER ON
E YEAR
(Note 10
)90
3,55
0 92
2,30
0 92
3,55
0 92
2,30
0 2,25
0,30
0
DEFERR
ED CRE
DITS AND
OTH
ER LIAB
ILITIES (N
otes 14, 15, 16
and 19
)43
9,85
2 48
6,91
0 51
4,56
9 44
8,08
4 59
3,42
3
MINOR
ITY INTERE
STS
177,27
9 19
4,09
0 17
3,31
3 24
3,36
6 28
7,44
6
Total Liab
ilities
2,15
0,27
6 2,66
9,09
0 2,86
7,13
1 3,03
5,66
7 4,71
3,20
5 3,76
4,16
72,90
0,51
22,93
7,12
43,06
8,90
13,19
6,16
83,28
5,62
13,36
6,92
73,43
9,18
83,50
1,45
93,55
2,74
03,59
1,97
70.95
COMMITMEN
TS AND
CON
TING
ENCIES (N
otes 6 and
14)
STOC
KHOL
DERS’ EQU
ITY (Notes 11, 12 and 15
):Co
mmon
stock
36,427
74
,120
73,753
14
9,00
6 14
9,30
2 Ad
ditio
nal paid
‐in ca
pital
117,39
9 19
1,85
0 14
7,20
6 19
5,54
3 25
6,40
6 Re
tained
earnings
2,64
1,70
8 4,70
9,11
1 3,68
8,55
5 5,84
0,06
7 6,62
1,64
6 7,27
5,90
07,85
3,61
58,46
4,18
19,12
3,81
09,85
1,26
210
,684
,905
11,600
,543
12,604
,981
13,705
,545
14,910
,126
16,227
,220
2.23
Accumulated
other co
mpreh
ensiv
e income, net of incom
e taxes (No
tes 2
and
13)
—
(1,177
)46,600
4,47
0 16
3,36
2
2,79
5,53
4 3,90
7,94
5 5,01
8,39
4 6,18
9,08
6 7,19
0,71
6 Treasury stock
(453
,457
)(451
,960
)(738
,606
)(1,331
,735
)(2,077,799
)
Total stockho
lders’ eq
uity
2,34
2,07
7 3,45
5,98
5 4,27
9,78
8 4,85
7,35
1 5,11
2,91
7 5,76
7,17
16,34
4,88
66,95
5,45
27,61
5,08
18,34
2,53
39,17
6,17
610
,091
,814
11,096
,252
12,196
,816
13,401
,397
14,718
,491
2.55
TOTA
L LIABILIT
IES A
ND ST
OCKH
OLDE
RS’ EQU
ITY
4,49
2,35
3 6,13
3,20
7 7,13
8,78
7 7,89
3,01
8 9,82
6,12
2 9,53
1,33
89,24
5,39
89,89
2,57
610
,683
,982
11,538
,701
12,461
,797
13,458
,741
14,535
,440
15,698
,275
16,954
,137
18,310
,468
1.92
Actual
Foreceast
Percen
t Cha
nge
(201
8/20
08)
156
157
158
Statem
ent o
f Cash F
lows
in Thou
sand
s20
0320
0420
0520
0620
07As
sume
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
‐4%
‐3%
5%6%
7%9%
7%7%
7%7%
7%OP
ERAT
ING AC
TIVITIES
Net e
arnings
62,781
1,12
1,48
51,31
7,249
1,75
6,78
2 1,47
1,94
7 1,41
3,06
9 1,37
0,67
7 1,43
9,21
1 1,52
5,56
4 1,63
2,35
31,77
9,26
51,90
3,81
32,03
7,08
02,17
9,67
62,33
2,25
32,49
5,51
11.77
Adjustm
ents:
Depreciat
ion
364,11
238
3,30
537
5,054
36
3,93
6 40
3,172
41
4,17
9 42
5,486
43
7,10
1 44
9,03
4 46
1,29
3 47
3,88
6 48
6,82
3 50
0,11
4 51
3,76
7 52
7,79
3 54
2,20
1 1.31
Amortization
—
13,200
1,07
2 1,33
3 24
,384
Stock‐b
ased
compe
nsation
16,791
40
,106
44
,001
De
ferre
d incom
e taxes
74,300
6,69
3(25,62
9)(39,39
4)(81,20
6)Minority
interests
23,942
80,892
110,6
39
219,10
7 29
3,498
Settlem
ent o
f natural gas h
edges
—
—
12,365
(6,793
)(18,01
9)Ch
anges in a
ssets a
nd lia
bilities (e
xclus
ive of a
cquis
ition
s):Accoun
ts receiva
ble(88,87
1)(354
,897
)(19,42
5)(33,87
8)(174
,326
)Inventories
28,97
3(635
,641
)33
7,862
(143
,971
)(102
,490
)Accoun
ts payable
82,63
4130,6
0417
,259
(8,517
)57
,259
Fede
ral in
come t
axes
(15,39
6)35
,403
(68,33
1)(7,233
)13
,332
Salar
ies, w
ages an
d rela
ted accruals
(25,06
0)22
8,20
339
,869
86
,475
(42,93
1)Othe
r(13,61
4)15
,509
21,840
23
,280
46
,685
Cash pr
ovide
d by ope
ratin
g activitie
s49
3,80
11,02
4,75
62,13
6,615
2,25
1,23
3 1,93
5,30
6 10
%2,12
8,83
7 2,34
1,72
0 2,57
5,89
2 2,83
3,48
2 3,1
16,830
3,42
8,51
3 3,77
1,36
4 4,1
48,500
4,56
3,35
0 5,01
9,68
5 5,52
1,65
4 2.59
INVE
STING AC
TIVITIES
2003
2004
2005
2006
2007
Assume
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Capit
al expe
nditu
res
(215
,408
)(285
,925
)(331
,466
)(338
,404
)(520
,353
)6%
(541
,167
)(562
,814
)(585
,326
)(608
,739
)(633
,089)
(658
,413
)(684
,749
)(712
,139
)(740
,625
)(770
,250
)(801
,060
)Sale of interest in affiliat
e—
—
—
—
29,500
Investm
ent in a
ffiliates
(22,12
5)(82,45
8)(41,90
3)(34,32
4)(31,43
5)Disposition
of p
lant a
nd eq
uipmen
t11,63
43,0
9475
2 2,17
7 2,7
87
Acqu
isitio
ns (n
et of cash a
cquired)
(34,94
1)(169
,646
)(154
,864
)(223
,920
)(1,542
,666
)Pu
rchases o
f investm
ents
—
—
(919
,950
)(1,082
,378
)(487
,395
)Proceeds from
the s
ale of
investm
ents
—
—
62,590
52
9,10
5 1,68
7,57
8 Proceeds from
curre
ncy d
eriva
tive c
ontra
cts
—
—
—
—
517,2
41
Settlem
ent o
f currency d
eriva
tive c
ontra
cts
—
—
—
—
(511
,394
)
Cash us
ed in
investing
activ
ities
(267
,582
)(534
,935
)(1,384
,841
)(1,147
,744
)(856
,137
)6%
(907
,505
)(961
,956
)(1,019
,673
)(1,080
,853
)(1,145
,704)
(1,214
,447)
(1,287
,313
)(1,364
,552
)(1,446
,425
)(1,533
,211
)(1,625
,204
)1.79
FINAN
CING
ACT
IVITIES
2003
2004
2005
2006
2007
Assume
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Net change in s
hort‐term
debt
—
—
—
—
(65,87
1)Re
paym
ent o
f lon
g‐term
debt
(16,00
0)—
—
(1,250
)—
Proceeds from
issuance of lon
g‐term
debt
—
—
—
—
1,32
2,44
5 De
bt issuance co
sts—
—
—
—
(9,200
)Iss
uance o
f com
mon
stock
18,961
68,630
40,209
37
,233
12
,003
Excess ta
x ben
efits from
stock‐based c
ompe
nsation
—
—
—
18,000
13
,000
Distr
ibutio
ns to
mino
rity interests
(63,31
8)(84,85
8)(89,88
6)(174
,709
)(263
,086
)Cash divid
ends
(61,83
5)(69,67
6)(209
,752
)(577
,816
)(726
,139
)4.5%
(758
,815
)(792
,962
)(828
,645
)(865
,934
)(904
,901)
(945
,622
)(988
,175
)(1,032
,643
)(1,079
,112
)(1,127
,672
)(1,178
,417
)1.55
Acqu
isitio
n of treasury s
tock
—
—
(291
,244
)(599
,446
)(754
,029
)
Cash us
ed in
financin
g activitie
s(94,89
2)(61,10
4)(550
,673
)(1,297
,988
)(470
,877
)(452
,042
)(438
,481
)(460
,405
)(488
,029
)(522
,191)
(569
,188
)(609
,031
)(651
,664
)(697
,280
)(746
,090
)(798
,316)
1.77
INCR
EASE (D
ECRE
ASE) IN
CAS
H AN
D CA
SH EQ
UIVA
LENT
S13
1,32
742
8,71
720
1,101
(194
,499
)60
8,292
CA
SH AND
CAS
H EQ
UIVA
LENT
S – BEG
INNING
OF Y
EAR
219,00
535
0,33
277
9,049
98
0,15
0 78
5,651
CASH
AND
CAS
H EQ
UIVA
LENT
S – EN
D OF
YEAR
350,33
277
9,04
998
0,150
78
5,65
1 1,39
3,94
3
Actual
Foreceast
Percen
t Cha
nge
(201
8/20
08)
159
Statem
ent o
f Cash Flow
s
in Tho
usands
2003
2004
2005
2006
2007
Assume
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Sales G
rowth
OPE
RATING AC
TIVITIES
Net e
arnings
Adjustmen
ts:
Depreciatio
n73
.7%
37.4%
17.6%
16.2%
20.8%
19.5%
18.2%
17.0%
15.8%
14.8%
13.8%
12.9%
12.1%
11.3%
10.5%
9.8%
Amortization
1.3%
0.1%
0.1%
1.3%
Stock‐based compe
nsation
0.0%
0.0%
0.8%
1.8%
2.3%
Deferred
income taxes
15.0%
0.7%
‐1.2%
‐1.7%
‐4.2%
Minority
interests
4.8%
7.9%
5.2%
9.7%
15.2%
Settlemen
t of n
atural gas hed
ges
0.6%
‐0.3%
‐0.9%
Changes in assets and
liabilitie
s (exclu
sive of acquisitions):
Accoun
ts re
ceivable
‐18.0%
‐34.6%
‐0.9%
‐1.5%
‐9.0%
Inventories
5.9%
‐62.0%
15.8%
‐6.4%
‐5.3%
Accoun
ts payable
16.7%
12.7%
0.8%
‐0.4%
3.0%
Fede
ral incom
e taxes
‐3.1%
3.5%
‐3.2%
‐0.3%
0.7%
Salarie
s, wages and
related accruals
‐5.1%
22.3%
1.9%
3.8%
‐2.2%
Other
‐2.8%
1.5%
1.0%
1.0%
2.4%
Cash provide
d by ope
ratin
g activ
ities
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
INVE
STING AC
TIVITIES
2003
2004
2005
2006
2007
Assume
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Capital expen
ditures
80.5%
53.5%
23.9%
29.5%
60.8%
59.6%
58.5%
57.4%
56.3%
55.3%
54.2%
53.2%
52.2%
51.2%
50.2%
49.3%
Sale of interest in affiliate
‐3.4%
Investmen
t in affiliates
8.3%
15.4%
3.0%
3.0%
3.7%
Disposition
of p
lant and
equ
ipmen
t‐4.3%
‐0.6%
‐0.1%
‐0.2%
‐0.3%
Acqu
isitio
ns (n
et of cash acqu
ired)
13.1%
31.7%
11.2%
19.5%
180.2%
Purchases o
f investm
ents
66.4%
94.3%
56.9%
Proceeds from
the sale of investm
ents
‐4.5%
‐46.1%
‐197
.1%
Proceeds from
currency de
rivative contracts
‐60.4%
Settlemen
t of currency de
rivative contracts
59.7%
Cash used in investing activ
ities
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
FINAN
CING AC
TIVITIES
2003
2004
2005
2006
2007
Assume
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Net change in sh
ort‐term deb
t14
.0%
Repaym
ent o
f lon
g‐term
deb
t16
.9%
0.1%
Proceeds from
issuance of lon
g‐term
deb
t‐280
.8%
Debt issuance costs
2.0%
Issuance of com
mon
stock
‐20.0%
‐112
.3%
‐7.3%
‐2.9%
‐2.5%
Excess ta
x be
nefits from stock‐based compe
nsation
‐1.4%
‐2.8%
Distrib
utions to
minority
interests
66.7%
138.9%
16.3%
13.5%
55.9%
Cash dividen
ds65
.2%
114.0%
38.1%
44.5%
154.2%
167.9%
180.8%
180.0%
177.4%
173.3%
166.1%
162.3%
158.5%
154.8%
151.1%
147.6%
Acqu
isitio
n of treasury stock
65.2%
114.0%
38.1%
44.5%
154.2%
52.9%
46.2%
160.1%
Cash used in financing activ
ities
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
100.0%
INCR
EASE (D
ECRE
ASE) IN
CAS
H AN
D CA
SH EQUIVAL
ENTS
CASH
AND CA
SH EQUIVAL
ENTS – BEG
INNING OF YE
AR
CASH
AND CA
SH EQUIVAL
ENTS – END OF YEAR
Actual
Foreceast
160
Weighted Average Cost of Debt
Weighted Average Cost of Capital
Weighted Average Cost of Capital
MVE/MVA Cost of Equity MVL/MVA Cost of Debt Tax Rate WACC
WACCBT 11600224/ 16313429 19.11%
4713205/ 16313429 4.30% 0 14.83%
WACCAT 11600224/ 16313430 19.11%
4713205/ 16313430 4.30% 34.68% 14.40%
161
Weighted Average Cost of Equity
3-Month Rates
Regression StatisticsMultiple R 0.545023952R Square 0.297051108Adjusted R Square 0.287008981Standard Error 0.091329637Observations 72
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.021675013 0.010814687 2.004220081 0.048916873 0.0001058 0.043244225 0.0001058 0.043244225X Variable 1 1.792527232 0.329581654 5.438795544 7.42118E‐07 1.135197358 2.449857106 1.135197358 2.449857106
SUMMARY OUTPUT‐ 72
Regression StatisticsMultiple R 0.500984563R Square 0.250985533Adjusted R Square 0.23807149Standard Error 0.095017116Observations 60
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.027622868 0.012268279 2.251568312 0.028152563 0.00306524 0.052180496 0.00306524 0.052180496X Variable 1 1.828812411 0.414835508 4.40852429 4.56325E‐05 0.998428929 2.659195893 0.998428929 2.659195893
Regression StatisticsMultiple R 0.512852939R Square 0.263018137Adjusted R Square 0.246996792Standard Error 0.097632033Observations 48
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.022944857 0.014111464 1.625972853 0.11078784 ‐0.005460046 0.05134976 ‐0.005460046 0.05134976X Variable 1 1.882869193 0.464704401 4.051756749 0.000193729 0.947467764 2.818270622 0.947467764 2.818270622
SUMMARY OUTPUT‐ 60
SUMMARY OUTPUT‐ 48
162
2-Year Rates
Regression StatisticsMultiple R 0.504187461R Square 0.254204996Adjusted R Square 0.232269849Standard Error 0.097022666Observations 36
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.024234366 0.016306204 1.486205185 0.1464397 ‐0.008903829 0.05737256 ‐0.008903829 0.05737256X Variable 1 1.714540277 0.503646624 3.404252498 0.001716535 0.691007197 2.738073357 0.691007197 2.738073357
Regression StatisticsMultiple R 0.511545614R Square 0.261678915Adjusted R Square 0.228118866Standard Error 0.099614761Observations 24
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.012633489 0.020804059 0.607260795 0.549894834 ‐0.030511488 0.055778467 ‐0.030511488 0.055778467X Variable 1 1.550069092 0.555108639 2.792370687 0.010617848 0.398844241 2.701293942 0.398844241 2.701293942
SUMMARY OUTPUT‐ 24
SUMMARY OUTPUT‐ 36
Regression StatisticsMultiple R 0.545330253R Square 0.297385085Adjusted R Square 0.287347729Standard Error 0.091307939Observations 72
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.022324755 0.010801097 2.066896948 0.042444074 0.000782646 0.043866864 0.000782646 0.043866864X Variable 1 1.793130708 0.329429145 5.443145322 7.295E‐07 1.136105005 2.450156412 1.136105005 2.450156412
Regression StatisticsMultiple R 0.501188177R Square 0.251189588Adjusted R Square 0.238279064Standard Error 0.095004173Observations 60
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.028260597 0.012265108 2.30414576 0.024815752 0.003709316 0.052811879 0.003709316 0.052811879X Variable 1 1.829334195 0.414728782 4.410916908 4.52569E‐05 0.999164348 2.659504041 0.999164348 2.659504041
SUMMARY OUTPUT‐ 72
SUMMARY OUTPUT‐ 60
163
Regression StatisticsMultiple R 0.51437309R Square 0.264579676Adjusted R Square 0.248592278Standard Error 0.097528545Observations 48
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.023369568 0.014102246 1.657152192 0.104294631 ‐0.005016781 0.051755917 ‐0.005016781 0.051755917X Variable 1 1.885972178 0.463602682 4.068078661 0.000184028 0.952788394 2.819155961 0.952788394 2.819155961
SUMMARY OUTPUT‐ 48
Regression StatisticsMultiple R 0.505847506R Square 0.255881699Adjusted R Square 0.233995867Standard Error 0.096913541Observations 36
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.024406325 0.016293511 1.497916915 0.143382358 ‐0.008706072 0.057518723 ‐0.008706072 0.057518723X Variable 1 1.715682062 0.501763114 3.419306868 0.001647554 0.695976734 2.735387389 0.695976734 2.735387389
Regression StatisticsMultiple R 0.51438756R Square 0.264594562Adjusted R Square 0.231167042Standard Error 0.099417876Observations 24
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.01279486 0.020769965 0.616027051 0.544198378 ‐0.03027941 0.05586913 ‐0.03027941 0.05586913X Variable 1 1.554292603 0.552451811 2.813444672 0.010121557 0.408577677 2.700007529 0.408577677 2.700007529
SUMMARY OUTPUT‐ 24
SUMMARY OUTPUT‐ 36
164
5-Year Rates
Regression StatisticsMultiple R 0.545938524R Square 0.298048872Adjusted R Square 0.288020999Standard Error 0.091264797Observations 72
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.023160546 0.010783761 2.147724337 0.035199327 0.001653013 0.044668079 0.001653013 0.044668079X Variable 1 1.796632519 0.329548951 5.451792564 7.05039E‐07 1.13936787 2.453897167 1.13936787 2.453897167
Regression StatisticsMultiple R 0.500616615R Square 0.250616995Adjusted R Square 0.237696599Standard Error 0.095040489Observations 60
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.028912658 0.012270028 2.356364411 0.021854323 0.004351528 0.053473787 0.004351528 0.053473787X Variable 1 1.826413102 0.414697748 4.404203082 4.63184E‐05 0.996305375 2.656520828 0.996305375 2.656520828
SUMMARY OUTPUT‐ 72
SUMMARY OUTPUT‐ 60
Regression StatisticsMultiple R 0.5146491R Square 0.264863696Adjusted R Square 0.248882472Standard Error 0.09750971Observations 48
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.023721011 0.014104916 1.681754834 0.099394278 ‐0.004670712 0.052112734 ‐0.004670712 0.052112734X Variable 1 1.881954461 0.462277666 4.071047771 0.000182315 0.951437796 2.812471125 0.951437796 2.812471125
Regression StatisticsMultiple R 0.50625694R Square 0.25629609Adjusted R Square 0.234422445Standard Error 0.096886553Observations 36
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.024649562 0.016298227 1.512407521 0.139670618 ‐0.008472421 0.057771544 ‐0.008472421 0.057771544X Variable 1 1.710692667 0.499760098 3.423027719 0.001630919 0.695057958 2.726327375 0.695057958 2.726327375
SUMMARY OUTPUT‐ 48
SUMMARY OUTPUT‐ 36
165
7-Year Rates
Regression StatisticsMultiple R 0.514553503R Square 0.264765307Adjusted R Square 0.231345549Standard Error 0.099406334Observations 24
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.013134488 0.020793271 0.631670146 0.534111731 ‐0.029988115 0.056257092 ‐0.029988115 0.056257092X Variable 1 1.549471944 0.550496844 2.814679071 0.010093182 0.407811372 2.691132517 0.407811372 2.691132517
SUMMARY OUTPUT‐ 24
Regression StatisticsMultiple R 0.54617074R Square 0.298302477Adjusted R Square 0.288278226Standard Error 0.09124831Observations 72
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.023555349 0.010776811 2.185743841 0.032181669 0.002061677 0.045049022 0.002061677 0.045049022X Variable 1 1.798128632 0.329623585 5.455097006 6.95907E‐07 1.140715129 2.455542134 1.140715129 2.455542134
Regression StatisticsMultiple R 0.500377063R Square 0.250377205Adjusted R Square 0.237452674Standard Error 0.095055694Observations 60
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.029224375 0.012272734 2.381244121 0.02055763 0.00465783 0.053790921 0.00465783 0.053790921X Variable 1 1.825027405 0.414647825 4.401391481 4.67701E‐05 0.99501961 2.655035199 0.99501961 2.655035199
SUMMARY OUTPUT‐ 72
SUMMARY OUTPUT‐ 60
166
Regression StatisticsMultiple R 0.51468749R Square 0.264903212Adjusted R Square 0.248922848Standard Error 0.097507089Observations 48
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.023930336 0.01410801 1.69622334 0.096602103 ‐0.004467615 0.052328288 ‐0.004467615 0.052328288X Variable 1 1.880210224 0.461802356 4.071460877 0.000182078 0.950650309 2.809770138 0.950650309 2.809770138
Regression StatisticsMultiple R 0.506357744R Square 0.256398165Adjusted R Square 0.234527523Standard Error 0.096879903Observations 36
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.024808749 0.016303416 1.521690233 0.137333728 ‐0.008323779 0.057941276 ‐0.008323779 0.057941276X Variable 1 1.708501979 0.498986502 3.423944279 0.001626847 0.694439406 2.722564553 0.694439406 2.722564553
SUMMARY OUTPUT‐ 48
SUMMARY OUTPUT‐ 36
Regression StatisticsMultiple R 0.51442657R Square 0.264634695Adjusted R Square 0.231209Standard Error 0.099415164Observations 24
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.013332482 0.020810848 0.640650553 0.528367094 ‐0.029826576 0.056491539 ‐0.029826576 0.056491539X Variable 1 1.547036071 0.549815876 2.813734814 0.010114881 0.406787739 2.687284403 0.406787739 2.687284403
SUMMARY OUTPUT‐ 24
167
10-Year Rates
Regression StatisticsMultiple R 0.546320624R Square 0.298466224Adjusted R Square 0.288444313Standard Error 0.091237662Observations 72
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.023964445 0.010770897 2.224925556 0.029311142 0.002482568 0.045446322 0.002482568 0.045446322X Variable 1 1.798487798 0.329560515 5.457230817 6.90071E‐07 1.141200085 2.45577551 1.141200085 2.45577551
Regression StatisticsMultiple R 0.500206675R Square 0.250206718Adjusted R Square 0.237279247Standard Error 0.095066502Observations 60
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.029580181 0.012275478 2.409696857 0.01915943 0.005008142 0.054152219 0.005008142 0.054152219X Variable 1 1.823185664 0.414417599 4.399392468 4.70939E‐05 0.993638717 2.652732611 0.993638717 2.652732611
SUMMARY OUTPUT‐ 72
SUMMARY OUTPUT‐ 60
Regression StatisticsMultiple R 0.514729815R Square 0.264946782Adjusted R Square 0.248967365Standard Error 0.0975042Observations 48
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.024207744 0.014112482 1.715342809 0.093012097 ‐0.004199208 0.052614697 ‐0.004199208 0.052614697X Variable 1 1.877888248 0.461180457 4.071916363 0.000181817 0.949580151 2.806196345 0.949580151 2.806196345
Regression StatisticsMultiple R 0.506457417R Square 0.256499115Adjusted R Square 0.234631442Standard Error 0.096873327Observations 36
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.025043015 0.01631185 1.53526521 0.133973094 ‐0.008106651 0.058192682 ‐0.008106651 0.058192682X Variable 1 1.70581846 0.49807089 3.424850744 0.001622828 0.693616633 2.718020287 0.693616633 2.718020287
SUMMARY OUTPUT‐ 36
SUMMARY OUTPUT‐ 48
168
Regression StatisticsMultiple R 0.514205741R Square 0.264407544Adjusted R Square 0.230971523Standard Error 0.099430517Observations 24
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%Intercept 0.013611357 0.02083672 0.653238962 0.520371458 ‐0.029601355 0.056824069 ‐0.029601355 0.056824069X Variable 1 1.543981372 0.549050673 2.81209267 0.010152723 0.405319975 2.68264277 0.405319975 2.68264277
SUMMARY OUTPUT‐ 24
169
Months Adj. R^2 Beta Est. Risk free rate MRP ke CAPM Size Adj.72 0.287009 1.792527 4.02% 8% 18.36% 19.06%60 0.238071 1.828812 4.02% 8% 18.65% 19.35%48 0.246997 1.882869 4.02% 8% 19.08% 19.78%36 0.23227 1.71454 4.02% 8% 17.74% 18.44%24 0.228119 1.550069 4.02% 8% 16.42% 17.12%
Months Adj. R^2 Beta Est. Risk free rate MRP ke CAPM Size Adj.72 0.287348 1.793131 4.02% 8% 18.37% 19.07%60 0.238279 1.829334 4.02% 8% 18.65% 19.35%48 0.248592 1.885972 4.02% 8% 19.11% 19.81%36 0.233996 1.715682 4.02% 8% 17.75% 18.45%24 0.231167 1.554293 4.02% 8% 16.45% 17.15%
Months Adj. R^2 Beta Est. Risk free rate MRP ke CAPM Size Adj.72 0.288021 1.796633 4.02% 8% 18.39% 19.09%60 0.237697 1.826413 4.02% 8% 18.63% 19.33%48 0.248882 1.881954 4.02% 8% 19.08% 19.78%36 0.234422 1.710693 4.02% 8% 17.71% 18.41%24 0.231346 1.549472 4.02% 8% 16.42% 17.12%
Months Adj. R^2 Beta Est. Risk free rate MRP ke CAPM Size Adj.72 0.288278 1.798129 4.02% 8% 18.41% 19.11%60 0.237453 1.825027 4.02% 8% 18.62% 19.32%48 0.248923 1.88021 4.02% 8% 19.06% 19.76%36 0.234528 1.708502 4.02% 8% 17.69% 18.39%24 0.231209 1.547036 4.02% 8% 16.40% 17.10%
Months Adj. R^2 Beta Est. Risk free rate MRP ke CAPM Size Adj.72 0.288444 1.798488 4.02% 8% 18.41% 19.11%60 0.237279 1.823186 4.02% 8% 18.61% 19.31%48 0.248967 1.877888 4.02% 8% 19.04% 19.74%36 0.234631 1.705818 4.02% 8% 17.67% 18.37%24 0.234631 1.543981 4.02% 8% 16.37% 17.07%
CAPM Size Adj.24.37%13.85%
5 Year
2 Year
3 Month
23.67%13.15%
Upper Bound Cost of EquityLower Bound Cost of Equity
10 YEAR
7 Year
170
Methods of Comparables
PPS EPS P/E Trailing Industry Avg. Expected PPSNucor 37.83 4.69 8.07 4.08 19.12X 37.75 15.71 2.40CMC 11.53 1.97 5.85MT 24.88 9.65 2.58PKX 64.84 11.86 5.47
PPS EPS 1 Year Out P/E Forward Industry Avg. Expected PPSNucor 37.83 4.54 8.33 5.42 24.60X 37.75 8.82 4.28CMC 11.53 2.53 4.56MT 24.88 8.85 2.81 <== OutlierPKX 64.84 8.74 7.42
Price / Earnings Trailing
Price / Earnings Forward
PPS BPS P/B Industry Avg. Expected PPSNucor 37.83 17.68 2.14 0.72 12.80X 37.75 45.54 0.83CMC 11.53 14.40 0.80MT 24.88 45.54 0.55PKX 64.84 8.74 0.72
PE EGR (t+1) P.E.G. Industry Avg. Expected PPSNucor 5.13 6.70 0.77 0.47 3.18X 2.4 12.00 0.20CMC 5.85 7.41 0.79MT 2.58 6.45 0.40PKX 5.47 10.74 0.51
Price / Book
PEG
171
MKT CAP FCF P/FCF Industry Avg. Expected PPSNucor 11.24 0.51 21.83 10.30 5.30 X 4.39 0.20 21.98 CMC 1.31 (0.04) (30.14) <‐‐Not UsedMT 34.46 6.47 5.33 PKX 19.59 5.46 3.59
EV EBITDA EV/EBITDA Industry Avg. Expected PPSNucor 12.85 4.12 3.12 2.70 11.11X 6.82 3.23 2.11CMC 2.62 0.53 4.95 <‐‐‐ OutlierMT 65.24 22.82 2.86PKX 19.59 5.90 3.32
Enterprise Value / EBITDA
Price Free Cash Flows
DPS PPS D/P Industry Avg. Expected PPSNucor 1.28 37.83 0.034 0.04 32.26X 1.20 37.75 0.032CMC 0.48 11.53 0.042MT 1.28 24.88 0.051PKX 3.30 64.84 0.051
MKT CAP EBITDA P/EBITDA Industry Avg. Expected PPSNucor 11.24 4.12 2.73 2.17 8.93X 4.39 3.23 1.36CMC 1.31 0.53 2.48MT 34.46 22.82 1.51PKX 19.59 5.9 3.32
Dividends/Price
Price Over EBITDA
172
Intrinsic Valuations
Divide
nd Dis
count A
pproac
h
01
23
45
67
89
10Per
petuity
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
DPS (Di
vidend
s per S
hare)
2.31
2.42
2.53
2.64
2.76
2.88
3.01
3.15
3.29
3.44
3.59
3.75
PV fac
tor1.0
00.8
40.7
00.5
90.5
00.4
20.3
50.2
90.2
50.2
10.1
7PV
of Divid
end2.3
102.0
31.7
81.5
61.3
71.2
01.0
60.9
30.8
10.7
10.6
319.
65PV
of YBY
DPS12.
08TV
Perpet
uity3.4
2Imp
lied mo
del pri
ce15.
50Gro
wth Ra
teTim
e cons
istent p
rice17.
93Ke
00.01
50.03
0.045
0.06
0.075
0.09
Obser
ved Pri
ce on
11/3/2
00840.
2513.
9%24.
7325.
7226.
9928.
6530.
9534.
3339.
7715.
3%22.
4223.
1524.
0525.
1926.
7128.
8231.
9317.
5%19.
5720.
0320.
5821.
2622.
1223.
2424.
75BV
of Debt
and P
referred
Stock
4,713,
000
19.1%
17.93
18.26
18.67
19.15
19.74
20.49
21.45
21.3%
16.09
16.32
16.58
16.9
17.27
17.72
18.29
Obser
ved Pri
ce on
11/3/2
00837.
83$
22.5%
15.25
15.44
15.65
15.9
16.19
16.55
16.98
Perpet
uity Gr
owth R
ate (g)
0.00%
24.4%
14.1
14.23
14.39
14.57
14.77
15.02
15.31
Ke (Co
st of Eq
uity)
19.1%
Shares
Outsta
nding
314,00
0
Foreca
sted
Overva
lued<
$30.26
$30.26
<Fairl
y Valu
ed< $4
5.4Un
derval
ued> $
45.4
Obser
ved Pri
ce= $3
7.83
Divide
nd Dis
count M
odel
173
Disco
unted
FCF
01
23
45
67
89
10Pe
rpetui
ty200
7200
8200
9201
0201
1201
2201
3201
4201
5201
6201
7201
8CF
FO2,1
28,83
72,3
41,72
02,5
75,89
22,8
33,48
23,1
16,83
03,4
28,51
33,7
71,36
44,1
48,50
04,5
63,35
05,0
19,68
55,5
21,65
4CF
FI-90
7,505
-961,9
56-1,
019,6
73-1,
080,8
53-1,
145,7
04-1,
214,4
47-1,
287,3
13-1,
364,5
52-1,
446,4
25-1,
533,2
11-1,
625,2
04
FCF F
irm's A
ssets
1,221
,331
1,379
,765
1,556
,219
1,752
,628
1,971
,125
2,214
,066
2,484
,050
2,783
,948
3,116
,925
3,486
,474
3,896
,450
PV Fa
ctor
0.87
0.76
0.66
0.58
0.50
0.44
0.38
0.33
0.29
0.25
PV YB
Y FCF
's1,0
63,87
81,0
46,93
91,0
28,59
71,0
09,07
298
8,564
967,2
5194
5,295
922,8
3990
0,014
876,9
3526
,327,3
67
Total
PV YB
Y FCF
9,749
,384
FCF P
erp6,6
21,99
0
Ma
rket V
alue o
f Asse
ts on
12/31
/0716
,371,3
74
Book
Value
Debt
& Pref
erred
Stoc
k4,7
13,00
0
WA
CC(BT
)0
0.015
0.03
0.045
0.06
0.075
0.09
Mode
l Esti
mated
MVE
11,65
8,374
11.
1%66
.7473.4
82.52
95.78
116.8
615
5.48
249.3
Divide
By Sh
are31
4,000
12.4%
56.1
60.81
67.04
75.62
88.23
108.5
614
6.82
Mode
l Pric
e on 1
2/31/2
00737
.1313.
6%48
.1951
.7156.22
62.21
70.57
83.05
103.6
6Tim
e con
sisten
t Pric
e 41
.65
14.
8%41
.6544
.3247
.6751
.9957
.7965
.9686
.91Ob
erved
Share
Price
on 11
/5/2008
37.83
$
16.
0%36
.1738
.2340
.7643
.9548.11
53.72
61.75
17.3%
31.15
32.73
34.64
36.99
39.97
43.87
49.17
WACC
(BT)
14.80
%18.
6%26
.8928
.1229.58
31.35
33.54
36.33
39.9
Perp
Grow
th Ra
te0.0
0%
Forec
asted
Disco
unted
Free
Cash
Flow
s Mod
elGr
owth
Rate
Overv
alued
< $30
.26$3
0.26 <
Fairly
Value
d< $4
5.4Un
derva
lued>
$45.4
Obser
ved Pr
ice= $
37.83
174
Resid
ual In
come
Appro
ach
01
23
45
67
89
10Pe
rpetui
ty200
7200
8200
9201
0201
1201
2201
3201
4201
5201
6201
7201
8Ne
t Inco
me
1,413
,069
1,370
,677
1,439
,211
1,525
,564
1,632
,353
1,779
,265
1,903
,813
2,037
,080
2,179
,676
2,332
,253
2,495
,511
Total
Divid
ends
75
8,815
79
2,962
82
8,645
86
5,934
90
4,901
94
5,622
98
8,175
1,0
32,64
3
1,0
79,11
2
1,1
27,67
2
1,17
8,417
Bo
ok Va
lue Eq
uity
5,112
,917
5,767
,171
6,344
,886
6,955
,452
7,615
,081
8,342
,533
9,176
,176
10,09
1,814
11
,096,2
52
12,19
6,816
13
,401,3
97
14,71
8,491
Annu
al Norm
al Inc
ome (
Becn
hmark
)97
6,567
1,101
,530
1,211
,873
1,328
,491
1,454
,480
1,593
,424
1,752
,650
1,927
,536
2,119
,384
2,329
,592
2,559
,667
Annu
al Resi
dual I
ncom
e43
6,502
269,1
4722
7,338
197,0
7217
7,873
185,8
4115
1,164
109,5
4460
,292
2,661
(64,15
6)PV
Facto
r0.8
40.7
00.5
90.5
00.4
20.3
50.2
90.2
50.2
10.1
7YB
Y PV R
I36
6,500
189,7
4313
4,566
97,94
474
,225
65,11
444
,470
27,05
812
,504
463
(220,4
67)
Book
Value
Equit
y 5,1
12,91
7
84
%To
tal PV
of YB
Y RI
1,012
,588
17%
Term
inal V
alue P
erpetu
ity(38
,391)
-1%MV
E on 1
2/31/2
0076,0
87,11
4
10
0%Div
ide by
Share
s31
4,000
Ke-0.
1-0.
2-0.
3-0.
4-0.
5Mo
del P
rice o
n 12/3
1/2007
19.39
13.9%
32.05
31.29
30.88
30.62
30.45
Time C
onsis
tent P
rice
22.43
15.3%
28.86
28.43
28.19
28.04
27.93
17.5%
24.81
24.7
24.64
24.6
24.57
Obser
ved Sh
are Pr
ice (1
1/5/20
08)37
.83$
19.1%
22.43
22.46
22.48
22.5
22.51
Initia
l Cos
t of E
quity
19
.1%21.
3%19
.7419
.8919
.9820
.0420
.09Pe
rpetui
ty Gr
owth
Rate
(g)-10
.00%
22.5%
18.5
18.69
18.81
18.88
18.94
24.4%
16.82
17.04
17.17
17.27
17.34
Forec
asted
Sens
itivity
Analy
sis: R
esidu
al Inc
ome M
odel
Term
inal V
alue G
rowth
Overv
alued
< $30
.26$3
0.26<
Fairly
Value
d<$4
5.4Un
derva
lued>
$45.4
0
Price=
$37.8
3
175
A.E.G.
Appro
ach
01
23
45
67
89
10Pe
rpetui
ty200
7200
8200
9201
0201
1201
2201
3201
4201
5201
6201
7201
8Ne
t Incom
e1,4
71,947
1,413,
0691,3
70,677
1,439,
2111,5
25,564
1,632,
3531,7
79,265
1,903,
8132,0
37,080
2,179,
6762,3
32,253
2,495,
511
To
tal Div
idend
s726
,139
758,81
5792
,962
828,64
5865
,934
904,90
1945
,622
988,17
51,0
32,643
1,079,
1121,1
27,672
1,178,
417
Dri
p Incom
e138
,765
145,01
0151
,535
158,35
4165
,480
172,92
7180
,708
188,84
0197
,338
206,21
8Cu
mulati
ve Div
idend
Incom
e1,5
51,834
1,515,
6871,5
90,746
1,683,
9181,7
97,833
1,952,
1912,0
84,522
2,225,
9202,3
77,014
2,538,
471No
rmal (
Bench
mark)
Incom
e1,7
53,236
1,683,
1071,6
32,613
1,714,
2441,8
17,099
1,944,
2962,1
19,282
2,267,
6322,4
26,366
2,596,
212An
nual A
EG(16
7,420)
(41,86
8)(30
,326)
(19,26
6)7,8
96(34
,761)
(41,71
2)(49
,352)
(57,74
1)(69
,289)
PV Fa
ctor
0.70
0.59
0.50
0.42
0.35
0.29
0.25
0.21
0.17
PV AE
G(11
8,008)
(24,77
6)(15
,067)
(8,036
)2,7
65(10
,220)
(10,29
6)(10
,228)
(10,04
6)RI
Check
Figure
(167,4
20)(41
,868)
(30,32
6)(19
,266)
7,896
(34,76
1)(41
,712)
(49,35
2)(57
,741)
(36257
7.78)
Core
Perpe
tuity
1,413,
069
To
tal PV
of AE
G (20
3,912)
AEG T
V Perp
etuity
(63,08
4)To
tal PV
of AE
G(26
6,996)
Total
Adjus
ted Ea
rning
s Perp
1,146,
073Ke
0-0.0
5-0.1
-0.2-0.3
-0.4-0.5
Model
MVE
5,997,
24413.
9%24
.84
24.85
24
.85
24.85
24
.86
24.86
24
.86
Divide
by Sh
ares
314,00
015.
3%23
.77
23.91
23
.99
24.09
24
.14
24.18
24
.20
Model
Price
on 12
/31/20
0719.
10$
17.5%
22.63
22
.87
23.01
23
.19
23.29
23
.36
23.41
Tim
e Con
sisten
t Pric
e22.
10$
19.1%
22.10
22
.35
22.52
22
.72
22.84
22
.92
22.98
21.
3%21
.64
21.88
22
.05
22.27
22
.40
22.49
22
.55
Capit
alizatio
n Rate
Ke19.
1%22.
5%21
.48
21.72
21
.89
22.10
22
.23
22.32
22
.39
Obser
ved Sh
are Pr
ice37.
83$
24.4%
21.35
21
.56
21.72
21
.92
22.05
22
.14
22.21
Init
ial Eq
uity
19.1%
Perpe
tuity G
rowth
(g)0.0
0%Ob
served
Price
= $37.
83
Forec
asted
Growth
Rate
A.E.G.
Model
Overv
alued
< $30
.26Un
derva
lued>
$45.4
$30.2
6 <Fai
rly Va
lued<
$45.4
176
Long Run Residual Income
2009 2010 2011 2012 2013 2014 2015 2016 2017Annual A.E.G. (167,420) (41,868) (30,326) (19,266) 7,896 (34,761) (41,712) (49,352) (57,741)Change in RI (167,420) (41,868) (30,326) (19,266) 7,896 (34,761) (41,712) (49,352) (57,741)
A.E.G. vs. Change in Residual Income
Ke 0 0.015 0.03 0.045 0.06 0.075 0.0913.9% 41.78 44.64 48.29 53.09 59.73 69.47 85.1915.3% 38.35 40.52 43.23 46.68 51.26 57.59 66.9317.5% 34.06 35.50 37.25 39.40 42.11 45.63 50.4019.1% 31.54 32.63 33.91 35.46 37.36 39.75 42.8621.3% 28.73 29.46 30.31 31.31 32.50 33.96 35.7622.5% 27.43 28.01 28.68 29.46 30.39 31.5 32.8524.4% 25.62 26.01 26.47 26.99 27.60 28.32 29.17
Ke 0.26 0.28 0.3 0.32 0.34 0.36 0.3813.9% 41.51 45.37 49.23 53.09 56.96 60.82 64.6815.3% 36.50 39.89 43.29 46.68 50.08 53.47 56.8717.5% 30.8 33.67 36.50 39.40 42.27 45.13 48.0019.1% 27.74 30.32 32.90 35.48 38.06 40.64 43.2221.3% 24.48 26.75 29.03 31.31 33.58 35.86 38.1422.5% 23.03 25.18 27.32 29.46 31.6 33.75 35.8924.4% 21.10 23.07 25.03 26.99 28.96 30.92 32.88
G 0.26 0.28 0.3 0.32 0.34 0.36 0.380 25.63 27.60 29.57 31.54 33.52 35.49 37.46
0.015 26.21 28.35 30.49 32.63 34.77 36.91 39.040.03 26.89 29.23 31.57 33.91 36.25 38.59 40.93
0.045 27.72 30.3 32.88 35.46 38.04 40.62 43.190.06 28.74 31.61 34.49 37.36 40.23 43.11 45.98
0.075 30.02 33.26 36.51 39.75 43 46.24 49.490.09 31.68 35.4 39.13 42.86 46.58 50.31 54.04
Observed Price= $37.83
$30.26 <Fairly Valued< $45.4 Undervalued> $45.4
Observed Price= $37.83
Overvalued< $30.26 Undervalued> $45.4$30.26 <Fairly Valued< $45.4
ROE
ROE
Growth Rate
Overvalued< $30.26 $30.26 <Fairly Valued< $45.4 Undervalued> $45.4
Observed Price= $37.83
Overvalued< $30.26
177
References
1. Yahoo Finance
2. Investopedia.com
3. Business Analysis & Valuations, Palepu & Healy
4. Dr. Mark Moore’s Notes Finance 3321
5. Nucor 10-K (2002-2007)
6. St. Louis Federal Reserve Website
7. US Steel 10-K (2002-2007)
8. Commercial Metal Company 10-K (2002-2007)
9. Posco.com
10. MittalArcelor.com
11. wsj.com
12. cnbc.com
13. msn.com