Discuss about the Investment Analysis and Portfolio Value Management.
The share valuation model provides the intrinsic value of the shares with analysing the fundamental financial data of the company. The valuation system provides the ‘would be’ intrinsic value of the shares of every company on the basis of the financial performance. Unlike trend analysis, the valuation model provides the fundamental share price the by current financial performance, instead of any past financial trend of the company. The share valuation can be done by using several models like dividend discount model, capital asset pricing model, free cashflow based model and few others. Every model has some pros and cons and valuation of the share does not match for every case (Adorjan, 2007). The report has provided the deep insights on the valuation model and relevant literature present in finance. The report has presented the share valuation of TPG Telecom Limited, as Australia-based company listed in AU stock exchange (ASX). The analysis is supported by the relevant valuation model. Moreover, the report discusses market influence on the share price. Finally, the report provides a recommendation based on the analysed information in the report as to buy, hold or sell the securities of the said company.
TPG Telecom is popularly known as broadband and cellular carrier in Australia and Singapore mainly. The company has its presence in both segments of the market – B2B and B2C for providing service of mobile telephone and mobile network. The company has recorded turnover in the last few years and has positioned itself at the second position in Australia in internet service segment. The company provides the accounting software to its business clients. The history of the company states that initially, the company used to sell OEM computers only. It has transformed its business since 2007 after acquiring Chariot. The merged entity of Chariot, SP Telemedia and TPG under one banner has provided internet service and mobile service to the customers in the country (www.tpg.com.au, 2017). The business of the company is divided into three parts mainly – the internet, system and mobile service. The company has segregated its business division with AAPT for every type of wholesale dealing. The company has recorded the second largest internet and the largest mobile service provider in the country.
The business performance of the company has shown tremendous improvement recently. The acquisition of iiNet has provided an addition of 171k more subscribers in its mobile service industry (www.tpg.com.au, 2017). The entire revenue of the company is almost equally divided between wholesale and retail arms. iiNet has provided the boost in broadband subscribers too. The organic market share of broadband internet subscriber has seen the growth whereas the business of iiNet has declined by small portions.
The share price of TPG Telecom has shown a mild increase in the last quarter of 2016 whereas the peer company in the same industry cannot maintain the growth throughout the year. The following graph has shown that TPG Telecom has performed better than the industry recently in the secondary market (www.tpg.com.au, 2017). The sentiment of the investors is slightly bullish for the company, which is observed throughout the last quarter.
There are several valuation models are present in the theoretical models. The best practice of the valuation is divided into two categories – earning based and asset based valuation model. The earning based valuation models are suitable for the service related companies whereas the asset-based valuation is appropriate for the industry where sunk cost is high for the fixed assets (Arikan and Stulz, 2016). The TPG Telecom Limited is a service related company providing its customer’s connection of internet and mobile network. So, the report has provided the earning based valuation of the company. There are two types of earning based valuation model – earning per share and price to equity of the share and the second one is the dividend discount model. The price to earnings ratio is a model where earnings per share hold the importance. The major change in the price to earnings ratio can be seen due to change in the EPS value. The value of EPS is the intrinsic valuation of the shares of the companies. Additionally, the high EPS might not influence the price of the stock in the secondary market (www.tradingeconomics.com, 2017). It might drive the price of the share at the time of bull market with profound optimism, and the reverse is true too.
The empirical formula of EPS is EPS = earnings/number of total shares (Bistrova et al. 2014)
The EPS is the intrinsic value of the company, and the valuation cannot reflect the exact characteristics of the share price in the stock market. The analysts like to find the price to earnings ratio of the company where the change in the ratio due to due to any anomaly can be checked from time to time (Blau and Fuller, 2008). The increase in P/E (price/EPS) ratio shows that increase in the price of the share in the secondary market is responsible if the EPS of the company stands still. The change in EPS and the price of the share in the similar direction might not change the P/E ratio much, and it is an indication of the influence of the market price by the earnings of the business.
Dividend discount model of the company shows the valuation of the share by predicting the future dividend of the company. The current price of the share is then compared with the price obtained in the discounted valuation of the dividend prediction model. If the current price is lower than that of the valued price applying the dividend discount model – the share price is considered to be undervalued. The model is applicable for the companies pay dividends to its shareholders (Boudry, 2011). The application of this model allows the analysts to apply the constant dividend growth in future to predict the future growth in the earning model of the firm. The model provides the price of the share compare to growth in the dividend. But, the cost of equity is considered constant for the model, and it is the main drawback of the model (Campbell et al. 2012). The empirical formula of the dividend discount model is as follows:
Value of stock = expected dividend per share / (cost of equity-dividend growth rate) (Ceria et al. 2011)
The expected dividend is measured by measuring the average growth in the current dividend of the company. The model is suitable for the constant dividend growth model. The constant dividend growth might not be observed for the companies. At that moment, the empirical formula changes to the following form:
Value per share = expected dividend per share / (1+ cost of equity)1 (Crilly, 2012)
The model provides the return measurement of any assets in the business. It also provides the measurement of the relationship between systematic risk and expected return of the stocks. The expected return of the asset is used as the cost of equity of any business as it might provide the shareholders with an idea of obtaining the return of their assets or the investments (Dasilas et al. 2008). The empirical formula of capital asset pricing model is as follows:
Ra = Rf+ β * (Rm– Rf) (Bistrova et al. 2014)
The beta provides the measurement of the fluctuation of the stock market whereas ten years bond interest rate is considered as risk-free rate of the market.
The analysis of share price is conducted using the dividend discount model as TPG Telecom has not paid a dividend to its shareholders for constant growth. The dividend payment cannot be analysed by Gordon constant growth model in this case. It is the only reason; the dividend discount model is used here where the discount rate is the cost of equity of the respective year (Edwards, 2012). However, the interpretation shows that the dividend payout is not in the constant growth for the last five years. So, the valuation of the share has shown negative value for the future. In this context, dividend discount model (DDM) is applied where growth rate is not considered. DDM is used to obtain the valuation of the share, especially when the stock shows abnormality in dividend growth. The given model shows the valuation at $18.26 per share of TPG Telecom Limited. The future price of the share of the company is for the next one year only. The high price of the future of the share in the stock market indicates that current price of the share lower than that of the current market price. So, the current price of the share is under priced in the stock market. In other words, the security is undervalued and having the potential to rise in the near future.
The EPS of the company has grown in the last five year consistently. However, the price of the share in the stock market has not increased consistently. The closing price of the share is $12.83 in 2016, December whereas the price was $5.52 in December 2014. The price to earnings ratio has deteriorated during the last two years as seen from the following table. It proves that despite growth in earnings per share, the price of the share has decreased during the period. The P/E valuation model suggests that negative P/E growth has under price the share of the company in the stock market.
|
Particulars/ Year |
2016 |
2015 |
2014 |
2013 |
2012 |
|
EPS (cents) |
45.30 |
28.20 |
21.60 |
18.80 |
11.50 |
|
DPS (cents) |
14.50 |
11.50 |
9.25 |
7.50 |
5.50 |
|
Change in DPS |
26.09% |
24.32% |
23.33% |
36.36% |
|
|
Average Change in DPS (g) |
27.53% |
||||
|
10 Year’s AU Bond Rate (Rf) |
4.75% |
||||
|
MPS |
12.83 |
9.51 |
5.52 |
||
|
PE Ratio |
0.28 |
0.34 |
0.26 |
Table 1: P/E Ratio and EPS of TPG Telecom
(Source: created by author)
The share price of the company can be influenced by the factors of the market. The price of the ASX 200 index during last financial year has shown that the stock market has decreased during the said period. However, contrary to this, the price of TPG securities has shown upward movement in FY2015-16. There are factors like iiNETacquisition which has proved to be one of the reasons for the increase in share price of the company. The change in the market has not influenced the price of the share at all, as the price of the share has increased at the end of the period.
Both types of measurement of valuation show that the investors must invest in the stock of the share. The dividend discount model shows that price of the share must be $18.26 in future by existing dividend of the company. The CAPM model where the cost of equity is shown as supporting the valuation of the share. In addition to this, the price to earnings ratio shows negative growth in the last year. The change in EPS is positive during the period. So, it can be recommended to the investors to invest in the share of TPG Telecoms the intrinsic value of the company is higher than that of the market price. It is normal to invest in that share where the cost of equity is low for the investors. The low cost of equity enhances the opportunity to the shareholders to maximise their investment by obtaining a high return on equity. In addition to this, the high EPS indicates that the company has high intrinsic value due to its growth. So, the shareholders would like to invest in the share of TPG Telecom Limited as it has low P/E ratio compared to EPS growth in the recent years.
Conclusions
The report has presented the necessary theoretical viewpoints on the share valuation of the companies. The dividend discount model and P/E ratio are used here to obtain the valuation of the share. The valuation has shown that TPG Telecom is undervalued in the market with its current financial performance. It is recommended to the investors to invest in this share after observing the economic situation in future.
References
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Arikan, A.M. and Stulz, R.M. (2016) ‘Corporate acquisitions, diversification, and the firm’s life cycle’, The Journal of Finance, 71(1), pp. 139–194.
Bistrova, J., Titko, J. and Lace, N. (2014) ‘SUSTAINABLE SHAREHOLDER VALUE: ANALYSIS OF VALUE DRIVERS’, ECONOMICS AND MANAGEMENT, 19(2), pp. 125–128.
Blau, B.M. and Fuller, K.P. (2008) ‘Flexibility and dividends’, Journal of Corporate Finance, 14(2), pp. 133–152.
Boudry, W.I. (2011) ‘An examination of REIT dividend payout policy’, Real Estate Economics, 39(4), pp. 601–634.
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