tesco (2012) merged merged

8/14/2019 Tesco (2012) Merged Merged

1/45

We initiate coverage of Tesco with a BUY recommendation at

485.50p. Tescos share price was undervalued and we recom-

mended a BUY due to the company potential for continuous

domestic & international growth and development as well as

the tremendous performance over the recent economic down-

turn.

Exceptional Performance over and beyond. The four year period rec-

orded an increasing revenues (7% on average) and comprehensive in-

come. And expected to continue to do so for the foreseeable future.

International Expansion. Borrowings have increased greatly in light of

the reduced interest rate (0.5%) in financing capital (Tesco bank) ex-

penditures and expansion abroad (Mostly Asia).

Tescos courage and strength to survive downturn, and potential to

outperform. With the financial downturn still looming in the economy.

The increase in returns generated on assets coupled with the drop in bor-rowing costs were some of the main contributors for the continuous

growth in return o shareholders.

Dividends on the Rise. Tesco has certainly proved to be successful and

confident in maximising shareholders wealth. Financial year 2011 re-

vealed the 27th consecutive increase in dividends.

FIVE YEAR SUMMARY 406.10p26 February 2011

Summary

Recommendation BUY

Target price (p) 485.50

Shares (millions) 8046

ROCE (E2012) 13.93%

Beta 0.709

P/E (E2012) 2.34

P/B (E2012) 14.12

MV of Or!"ar# $are& (') 32707

ANALYST REPORT

olume 1, Issue 1

TESCOUOB EQUITY REPORT

UNITED IN!DOMARTICLE RESEARC"

University of BirminghamEdgbaston

Birmingham

B15 2TT

United Kingdom

[email protected]#1$#1$%#1&

University ID: 1032971


2/45

Com'a(y O)er)*e+

O-e./*)e o0 Re'or/

Share price movement between Tesco (Blue Line) and

Sainsbury (Red Line) from 20082011

Tesco is the third largest retail company in the world and the largest

British UK retailer - in terms of profit. Tesco has proved to be a

highly successful company as it comfortably operates in other sectors

i.e. health, financial services - apart from its specialty, food and

drinks. It operates globally in around 14 countries and continuously

to gain a fine edge over its competitors (Tesco, 2013) in its ability to

operate profitably, even during recession periods. Appendix 1.1

summarises Tesco SWOT analysiswhich reveal its strengths, weak-

nesses, opportunities and threats.

This report will examine and analyse the financial state-

ment for Tesco for the past five years - 2008 to 2012

(including 2012E forecast). This report is divided into

three different sections for full detail breakdown for

a n a l y s i s a n d i n t e r p r e t a t i o n p u r p o s e s .

The first section of the report will analyse Tescos finan-

cial performance (Credit status and ROCE - profitabil-

ity) over a four year period through the use of various

useful financial analysis tools such as ratio analysis and

common size analysis, in order to give a clearer trans-

parency on Tescos performance. Tescos ratio perfor-

mance will be analysed and compared with that of one

of Tescos peer and major competitor - Sainsbury J Plc

and the industry mean average where ever possible

from a reliable source (industry average as at

26/02/2011 - Thomson One Banker) - Appendix 3.3.

The second section will involve the exercise of using the

common size analysis, analysts projected revenue figure

(2012E) and CAGR model to forecast the financial posi-

tion and performance (Income Statement) of Tesco into

its fifth financial year (2012) - this will be compared

with its actual 2012 performance. In addition, I will uti-

lise the annual compound growth model in order to form

my perspective on Tescos forecast income statement.

Finally, the final section will attempt to calculate the -

(Tesco, 2013)

- companys forecasted value of equity per share at the

end of the fourth -financial year by using one equity val-uation model (the Residual Earning model).

Page 2Volume 1, Issue 1 ID: 1032971


3/45

In order to make an effective equity analysis of Tescos financial position and performance through the use of ratio

analysis, the financial statements (i.e. Income statement) were reformulated. Reformulation separates the operating

and financing items in the financial statement, compared to the traditional credit analysis which classifies them into

current and long term categories (Penman, 2010). Penman (2010) reveals that a benefit of reformulation allows addi-

tional information to be brought from footnotes.

The profitability analysis (ROCE) is broken down into three distinct levels. The first level is the separation of operat-

ing and financial profitability and the effects of leverage. The second break-down level are the drivers of operating

profitability. Finally, the third level containsProfit margin drivers, asset turnover drivers and analysis of Net bor-

rowing cost.

I will evaluate the three break-down levels of profitably (excluding the full break-down analysis of net borrowing

cost - due to lack of sufficient information in the annual reports). In addition to these ratios, I will also calculate oth-

er Credit ratios to assist in solidifying my analysis.

Reformulation

!e "nalysis of Profitability #Ratios$

Ratio analysis for TESCO PLC:

Ratios (Level 1 & 2) Abbreviations 2008 2009 2010 2011

Return on Common Equity ROCE 0.21 0.14 0.15 0.17

Return on Net Operang assets RNOA 0.13 0.08 0.11 0.12

Operang ro!t "argin PM 0.05 0.04 0.05 0.05

Asset #urno$er A#O 2.44 2.13 2.28 2.35

%inan&ia' (e$erage %(E) 0.*3 0.+* 0.70 0.5*

Net ,orro-ing Cost N,C 0.001 0.01 0.04 0.03

RNOA N,C 0.13 0.07 0.07 0.0+

%(E) / RNOAN,C 0.08 0.07 0.05 0.05

Operang (e$erage OLLEV 0.51 0.*4 0.71 0.74

Ratio analysis for J SAINSBURY's:Ratios (Level 1&2) Abbreviations 2008 2009 2010 2011

Return on Common Equity ROCE 0.14 0.0+ 0.10 0.12

Return on Net Operang assets RNOA 0.11 0.04 0.08 0.10

Operang ro!t "argin PM 0.04 0.02 0.03 0.03

Asset #urno$er A#O 2.53 2.87 2.7* 2.7*

%inan&ia' (e$erage %(E) 0.43 0.50 0.4* 0.41

Net ,orro-ing Cost N,C 0.04 0.05 0.01 0.02

RNOA N,C 0.07 0.0+ 0.0* 0.07

%(E) / RNOAN,C 0.03 0.05 0.03 0.03

Operang (e$erage OLLEV 0.42 0.50 0.47 0.4*



4/45Page %Volume 1, Issue 1 ID: 1032971

!e "nalysis of Profitability #&ont'($

0.15

0.1

0.05

00.05

0.1

0.15

0.2

0.25

2008 200+ 2010 2011

ROCE(%)

Year

ROCE (200*2011)

#es&o

3ainsurys

ROCE movements of Tesco & Sainsbury's between the four year period.

ROCE(profitability) for Tesco and J Sains-

bury's were positive over the four year peri-

od - except for Sainsburys in 2009 where

their profitability was negative. In 2009,

Tescos profitability also declined. However,

for both company after 2009 there was

steady growth in their ROCE. The decline of

ROCE in 2009, could have been due to the

aftershock of the credit crunch and after this

year there was improvements. We would

need to break down the ROCE into different

levels in order to evaluate in detail and try to

explain their respectively effects on the over-

all ROCE.

RNOA for both retailers were growing steadily after 2009, although

Sainsburys experienced a negative RONA in 2009 (Tesco also expe-

rienced a fall in this ratio in 2009). It seems as though the recession

affected Sainsburys more than Tesco even though they operate in the

same industry - Tesco are the market leaders in the UK market and are

able to resist the shocks of downturns in the economy better than its

competitors. In Tescos defence for the fall in RNOA in 2009 was due

to the decline in Operating Income in comparison to 2008. The causes

of this must have been the losses on the benefit pension scheme and

foreign currency translation differences. During this time the globalmarket was still unstable and losses were made on investments and

overseas transactions.

Sainsburys had a negative Operating Income in 2009, although they

were able to cover their cost of sales - other costs exceeded their in-

comes. In addition to the negative impact on RNOA was the losses

made on pension schemes and lower finance income subsequently in

2009 for J Sainsburys.

Operating Profit Margin (PM) was rather stable for both retailers

in years 2008, 2010 & 2011 - apart from in year 2009 where both

company had a decline in PM (negative in the case of Sainsburys).

Although both retailers had an increased revenue in all four years the

operating margin does not seem to be influenced favourably. One

reason for the fall in this ratio in 2009 was due to the reason stated

above (RNOA). During the rest of the other years, the stability in the

ratio was caused by price wars during the recession periods. Other

retailers such as Morrison's and Asda were forced to drop their price

in order to compete. This explains the continuous rise in revenue, but

also a proportionate rise in costs means the ratio is kept rather steady.

Asset Turnover (efficiency) for Tesco and

Sainsburys averages at 2.30 and 2.73 re-

spectively. Over the four year period it has

been fairly stable. Even though 2009 has

been the main focus when analysing the oth-

er ratios. Surprisingly there was an adverse

impact on Tesco ATO while J Sainsburystriumphed during 2009. Although Tesco gen-

erated a much higher revenue than Sains-

burys during this particular period, it can be

concluded that Sainsburys were more effi-

cient in using their Net Operating assets to

generate revenue - Tesco were inefficient. It

is evidently clear from various sources that

Tesco adopted a low-cost strategy especially

during 2009. This must have trigger an antic-

ipatory increase in demand and subsequently

sales. Looking at the cash flow statement

(Cash Investment) Tesco therefore invested

heavily, the highest investment over the four

year period - especially the extensive pur-

chase in PPE and Investment property. Sains-

burys on the other hand invested less in

PPE. Thus if Tesco ought to improve their

ATO they needed to recognise cautious peri-


5/45

- ods so investing in operating assets could

be minimised. The analysis of both retailers

level three break-down for ATO drivers

(Appendix 1.2) looks fairly similar - PPE

and Inventory turnover dominating the over-

all ATO ratio.

FLEV (Financial Leverage) - Tesco were

much more highly geared in comparison to

Sainsburys. Especially in 2009 FLEV ratio

for Tesco was at 0.96 while Sainsburys

stood at 0.50. The reason for the high gearing

is due to the dramatically fall in interest rates

to 0.5% in 2009 (BBC News, 2013) in the

UK and also Asia (Japan). The government

made it relatively easier to borrow funds in

order to stimulate the economy. Tesco took

advantage of the historic low interest rate

drop while Sainsburys, still played very cau-

tiously. During this year Tesco borrowed

16,450m (highest over the four year period

in comparison to the previous year -

8,056m. After this year borrowings in 2010

& 2011 didnt drop as far to 2008, rather

stayed close to 2009 borrowings.

On the other hand, Sainsburys increased

borrowings from 2008 to 2009 was 129m

compared to Tesco 8,394m. In my opinion

Sainsburys could have been reluctant to bor-row due to the unstable financial markets.

Although, borrowings are cheap it can bring

financial distress to the firm. However, on

the positive aspects of extra funds to support

operations, according to Modigliani

and Miller's models (Arnold, 2012) an in-

crease in borrowings lead to a potential in-

crease in returns to shareholders.

0

5000

10000

15000

20000

2008 200+ 2010 2011

'M

YE+R$

,O,+- BORRO.$ (200 *

2011)

#es&o

ainsurys

Net Borrowing costs (NBC) - effective cost of borrowings

for Tesco was lowest during 2008 and 2009 and a sudden

increase in 2010, followed by a drop in 2011. Unlike, for

Sainsburys its NBC ratio was highest during 2008 and

2009 and lowest during 2010 and 2011. From the Chart

above and the line graph below are connected and it ex-

plains clearly why both retail firms experienced differences

in their Net borrowing costs. In 2010, Tescos finance costs

were at the highest over the four year period as outstand-

ing borrowings increased in the previous year. But in 2011,

when borrowings started to decline, this is reflected on the

NBC ratio - as financial costs also started to drop.

In the case of Sainsburys, finance costs rose steadily over

three years and dropped to its lowest in 2011. Its NBC ra-

tio was expected to drop in 2011 as finance costs declined..

0.000

0.010

0.020

0.030

0.040

0.050

2008 200+ 2010 2011

(%)

Year&

BC (200 * 2011)

#es&o

ainsurys

Profitability "nalysis #&ont'($

Page )Volume 1, Issue 1 ID: 1032971


6/45

Profitability "nalysis #&ont'($


Operating Liability Leverage - Overall

Tesco proclaimed a higher average OLLEV

ratio in comparison to Sainsburys. This

simply could be due to the fact that Tesco are

a bigger group and generate more revenue

and therefore more operating liabilities.

Tescos OLLEV seems to continue growing

over the four years. While, j Sainsburys

OLLEV are falling after its peak in 2009.

Tescos higher OLLEV seems as though its

not of concern as its generating more revenue

each year to cover its operating liability.

However while analysing the cash flow state-

ment (the bar chart on the right), there was

decrease in cash in two years and a subse-

quent increase in 2010 & 2011. Tesco might

have found it rather difficult to pay the liabili-

ties falling due in 2008 and 2009 because of a

loss on cash.

Sainsburys OLLEV peak in 2009 was partly

due to a gradual increase in Trade and other

payables and a lower NOA figure. Sains-

burys also experienced a steady sales

growth, however in three out of the four year

period delivered a decrease in cash. In thiscase, it seems like good news that their

OLLEV is falling. But if it falls too much, it

might impact adversely on sales.

instead it rose again. This was due to a slight decline in borrowings and increase in Financial As-

sets.

Operating Spread (SPREAD) (RNOA>NBC) - was favourable during the four year and three year (08 10 and

11) period for Tesco and J Sainsburys respectively, where Positive spread is likely to generate higher return for

shareholders as it suggests that the company earns more on its operating assets than its borrowing costs. Sainsburysearned a negative spread in 2009 - as (RNOA


7/45

Along with the profitability ratio and its break-down, I will utilise other commonly well known credit rati-

os to evaluate the performance of my chosen company (Tesco's) and its fierce competitor (J Sainsburys).

Debtors Days - On average, Sainsburys has a much shorter debtors days in comparison to Tesco

and the industry average (11.48 days). The impact of a shorter debtors days would mean a more

healthy cash flow for J Sainsburys. However, less sales on credit for Sainsburys customers thus; this

strategy may have limited additional potential revenues that could have been gained. While in the

case of Tesco seems to be offering more sales on credit to customers should lead to improvements in

revenue, but could also increase the likelihood of bad debts. The strategy based on how much sales

credit is offered depends on both retailers management (cash flow to sales ratio is the closest to reveal

an insight into this). Over the four year period, debtors days for Sainsburys seem rather stable, while

Tescos ratio continues to rise steadily. Reason for the rise could be due high levels of unemployment

during economic downturn and offering more credit sales to attract more these type of customers.

Creditors Days - Sainsburys has lower creditors days compared to Tesco over the four year period. This isnt much

of a surprise as Tesco are the market leader, price setters and have the ability to obtain large economies of scale,

hence obtaining better payment terms with suppliers. Tesco can be seen to have a much higher bargaining power than

that of its competitors. As these days increases over the four years, the better cash flow is expected to be. Tesco are

taking longer to pay its suppliers than J Sainsburys. Tesco have succeeded in maintaining good relationship with its

suppliers as stated in its mission statement, in order to improve their chances of maintaining better contracts from

suppliers (Clark, 2010). Sainsburys have a similar believe in maintaining closer relationship with its suppliers, but

this is not reflected from this ratio. Because over the four years creditors days seems to be decreasing.

Ratio analysis for TESCO PLC:

Cre!t $tat& Ra5o& 2008 2009 2010 2011

Cre6itors ays *0.82 *2.08 *5.8+ *8.4+to& #urno$er ays 20.31 1+.44 1+.04 20.**

Current Rao to 1 0.*1 0.78 0.73 0.*7

9ui& Rao to 1 0.38 0.*3 0.5* 0.4+

etors ays 10.12 12.08 12.11 13.8*

:nterest Co$er mes 11.4* *.+4 *.03 8.01

;ross ro!t "argin


8/45

"nalysis of &re(it *tatus #&ont'($

Page -Volume 1, Issue 1 ID: 1032971

0.00

0.20

0.40

0.*0

0.80

1.00

2008 200+ 2010 2011

Rat!o

Year&

,e&o (C4rre"t 6 74!8 Rat!o)

Current Ratioto 1

9ui& Ratioto 1

0.00

0.10

0.20

0.30

0.40

0.50

0.*0

0.70

2008 200+ 2010 2011

Rat!o

Year

9 $a!"&:4r# (C4rre"t 6 74!8 Rat!o)

Current Ratioto 1

9ui& Ratioto 1

Current Ratio - Looking at the charts, in general

Tesco and Sainsburys are not holding enough

current assets in order to cover their current obli-

gations. Tescos current ratio are higher on aver-

age (0.7:1), compared to Sainsburys (0.61:1) &

industry (0.6:1 - Year 2011). Sainsburys current

ratio looks to be fluctuating over the four years,

while Tescos ratio seems to increase in 2009 and

starts to drop steadily again in 2010 & 2011.

Again, in reference to 2009 it is thought to be a

difficult year for all retailers in this industry.

However, it attained the highest current ratio in

comparison to all other years due to the fall in

interest rate and in turn Tescos borrowings to

increase cash held. This in turn increased current

assets and in turn favoured the ratio. In addition,

Tesco might have needed the cash in order to sur-

vive in the short-term during 2009. Because after

2009, the cash held by Tesco (Statement of Finan-

cial position) started to decline; having studied

their statement of financial position, some of these

cash were used for Investments.

Quick Ratio - my calculation of quick ratio is the

ability for the firm to survive excluding stock.

Also this ratio gives an insight as to how reliant

the retailers are on stock. Once again by looking

at the illustrations, Tesco seems to rely more on

stocks in 2008 in comparison to other years.

Through a deeper analysis, Sainsburys relied on

stock the most in 2011 and relied less on stock in

2009 - as the difference between the current ratio

and quick ratio revealed this insight. It comes as

no surprise that in 2011, thats when cash held by

Sainsburys was at its lowest over the four year

period. Does this suggest confidence from Sains-

burys in their stocks to sell within one year, andprojected prediction for better revenue in years to

come? I personally think this is true as the econo-

my gets better. However, in 2011 industry...

Stock Turnover - Sainsburys has a much lower stock turnover

days than Tesco and the industry average (23 days) - both aver-

aging at 14 and 20 days respectively. Both retailers did better

than industry average. Tesco took six days longer to replenish

its inventory, compared to J Sainsburys. This is mainly due to

the fact that Tesco holds more stocks than Sainsburys as they

expect more demand, therefore takes longer to sell. Both retailer

ratios seems rather steady. This is the case, if other functions of

the organisation (such as marketing) have done their market re-

search well enough to know how much demand they are expect-

ing, in order to be able to hold the right amount of stocks they

are able to sell. However, if these stocks are piled up as demand

has been wrongly forecasted, costs can be incurred to the retail-

ers - i.e. storage costs.

Both retailer seems to have succeeded to a certain degree in

forecasting the demands for its goods. Because over the four

year period stocks are increasing for both retailers and the ratio

remains fairly constant.

...average stood at 0.31:1.


9/45


Interest Cover - Tesco had a higher interest

cover than Sainsburys in each year over the

four year period. In 2008 Tesco had a high

twelve times interest cover. In 2010 Tesco ratio

fell due to higher finance costs (579m), this

must have been due to the increased in borrow-

ings in 2009 (refer to borrowing chart in previ-

ous pages). It makes sense for the ratio to be

adversely affected, especially if the borrowings

in 2009 was a short-term borrowing (< 1 year)

and it falls due in 2010. If this ratio was part of

the determinants in dividends policy by Tesco

directors in this particular year; hypothetically

ordinary shareholders are less likely to receive

dividends - but dividends was actually received.

Sainsburys had a lower interest cover rate com-

pared to Tesco simply because Tesco had a

higher Operating Income before Interest. In

2011, the Interest Cover ratio for Sainsburys

was at its highest over the four year period be-cause the finance cost was at its lowest over the

four year period. One reason is because Sains-

burys reduced its short-term borrowings in

years 2010 & 2011 dramatically. It is unclear as

to why this strategy was implemented, even

when interest rate was still low (0.5%). More

positively, Operating income before interest in-

creased during 2011.

0.00

2.00

4.00

*.00

8.00

10.00

12.00

14.00

2008 200+ 2010 2011

Co;er(,!

e&)

Year&

/"tere&t Co;er (200 * 2011)

#es&o

ainsurys

0

50

100

150

200

2008 200+ 2010 2011

('M)

Year&

$*, Borro

#es&o

ainsurys

Although revenue improved gradually over the these period, the

rate at which cost of sales was increasing was faster than the rate

in which revenue was increasing. This adversely impacted on

the ratio. In the fourth year Sainsbury performed below the in-

dustry benchmark

The fall in gross profit shows that maybe Sainsburys are not

bargaining for the lowest costs when purchasing from suppliers

or they were not willing to switch to a more cheaper supplier.



10/45


The reason was because the rate of inflation in

the UK from 2008 to 2009 fell from 3.2% to

2.2% (BBC News, 2013). This is expected to

deliver a lower cost of sales in proportion to

sales, but instead the gross profit margin de-

clined. Furthermore, Inflation rate in 2011 rose to

4.5%, this is expected to adversely affect the

Gross profit ratio, but instead gross profit im-

proved during this year in comparison to previ-

ous years (2009 & 2010). This should be further

investigated, as it illustrates some inconsisten-

Cash flow to Assets measures the efficiency ofthe retailers. How well each company use their

assets in producing cash from operating activities

This ratio for Tesco was very unstable over the

four year period. This is affected through the

buying and selling of fixed assets in responds to

growing cash from operating activities in years

2008, 2009 & 2010. Tesco were very efficient in

2008. However, in 2011 where total assets was at

the highest over the four year period, the ratio fell

to its lowest. This indicates inefficiency from

Tesco during this year, as less cash from opera-

tions were produced in comparison to 2010, even

when there was more assets.

Sainsburys ratios likewise were quite volatile

over the four year period, with it being least effi-

cient in year 2011. Although there were more

assets, Sainsburys achieved less cash from oper-

ations in comparison to year 2009 & 2010. In

these years (2009 & 2010) they were more effi-

cient compared to 2011.

Cash flow to sales measures the proportion of cash from operat-

ing activities to sales. Using this ratio, it gives a slight insight

into the cash sales offered by each retailer. Tesco experienced an

improvement in this ratio during the first three years, and a de-

cline in 2011. The main reason was due to the fact that there was

a decrease in cash from operations during 2011, even when reve-

nue continued to grow. We can conclude to an extent Tesco of-

fered more credit sales during 2011, which has impacted the cash

from operations. To fully conclude on the specific cause of the

ratio, Tesco credit sales policy to customers needs to be scruti-

nised in depth to bring some other facts to light.

Sainsburys cash flow to sales ratio similarly followed Tescos

ratio trend. Although revenue improved over the years, cash from

operations decreased. Tesco and Sainsburys could have both

used this strategy (more credit sales) to attain more revenue.

Tesco performed above the industry average of 5.66, while Sains-

burys this ratio.

0

1000

2000

3000

4000

5000

*000

2008 200+ 2010 2011

('M)

Year&

Ca&% fro Operat!"= +t!;!t!e& (200

* 2011)

#es&o

ainsurys

0

10000

20000

30000

40000

50000

2008 200+ 2010 2011

'M

Year&

,O,+- +$$E, (200 * 2011)

#es&o

ainsurys



11/45

This aim of this second sectionis to be able to calculate Tescos forecasted value of equity per share at the end of

the fourth year (2011). Through this I am able to give my own opinions based on the calculated value of Tesco and

thus advice my clients as to their next course of action - Buy, Hold or Sell Tesco shares.

I believe that the Residual Earnings model was the best choice in valuing the share price of Tesco Plc as the share

price valuation derived from this formula will be compared to actual share price of Tesco as at 26th February 2011.

During this process, I utilised the use of the Compound Annual Growth Rate (CAGR) model. I chose this

model in forecasting year 2012 Revenue, as it incorporates growth rate changes from year to year throughout the

four year period and eliminates and smoothen volatile rate changes (by providing a rate as a result). Beginning val-

ue = 2008 Revenue figure & Ending value = 2011 Revenue figure.

The rate that was derived (6.54%) from the CAGR formula was multiplied by the revenue for 2011 to obtain my

revenue prediction (64,916m). However, the revenue prediction does not include much macroeconomic infor-

mation and the calculation was based on past data. I found a way to incorporate analysts revenue figures before I

arrive at my final Revenue. Analyst are specialists in the monitoring companies and experts in finance field and they

would have take numerous accounts of macro economical information the CAGR model hasnt taken into considera-

tion. Therefore, I worked out an average between four figures that includes the three individual analyst revenue fig-

ures along with the CAGR model revenue prediction (64,916m) - this resulted in my final Revenue (65,773m)

that takes account of CAGR and macroeconomic factors. Below explains the process behind my theory.

C+R Moe> Rate *.54*4?+1*

+"a>#&t Re;e"e&

@niCre6it >*4?+43

C=ar'es tan'ey >*7?500

E$o'uon e&uries >*5?734

?!"a> +;era=e Re;e"e '6@A773

CAGR Formula - INVESTOPIDIA a, 2012

My predicted Revenue was surprisingly close to the actual 2012 Revenue. The next process was to be able to calcu-

late the cost of equity as this will be needed for the calculation of Tescos share price through the Residual Earnings

m o d e l .

I obtained twenty-four years worth of Tesco share price and FTSE ALL SHARE Price Index. I calculated returns

from the price indexes for both Tesco and FTSE ALL SHARE from DataStream. This enabled me to draw a re-

gression analysisand to be able to obtainBeta(Appendix 1.3).

Coefficients

StandardError t Stat P-value Lower 95%

Upper95%

Lower95.0%

Upper95.0%

Intercept 0.005649666 0.00317605 1.778834 0.076325 -0.000601639 0.011901 -0.0006 0.011901

X Variable 1 0.709382196 0.063222352 11.22043 1.82E-24 0.58494391 0.83382 0.584944 0.83382

From the result analysis Summary Output, the figure that is circled is the BETA and this was used with CAPM to

calculate the Cost of Equity Beta measures the sensitivity of Tescos stock in relative to market changes. From

this figure (0.709) - Tesco is not very sensitive to changes in the market environment, this truly reflects the compa-

ny.


Foreasting an( *!are Prie Valuation


12/45

Foreasting an( *!are Prie Valuation #&ont'($


CAPM is a model that describes the relationship between risk and expected return and that is used in the pricing of

risky securities. (Investopidia b, 2012).

Calculation: cost of equity, ke

CA" R gi$en equity eta "t ris premium equit eta / "t ris premium

4.20< 0.70+3821+* 0.054* 0.0387322*8

ke 8.07

tesco (2012) merged merged

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