[The Economist] [Case Study Competition 2015] 11/9/2015. Taylor Ternullo, Olawale Olaleye, Junaid Ahmed

Transcription

1 11/9/2015 [The Economist] [Case Study Competition 2015] Taylor Ternullo, Olawale Olaleye, Junaid Ahmed

2 Table of Contents Amazon vs. Wal-mart: Retail Trends:... 4 Future Growth:... 5 Analyst Recommendations:... 7 Mispricing: Opportunities for Wal-Mart: Ubiquity vs. Profitability: Profitability? Investment Structure: References

3 The stock market is a very important financial instrument. They represent a claim or ownership of a company s assets and earnings. Acquiring a stock actually means taking ownership of some parts of the company. People invest in stock of companies they perceive to be good or healthy for a number of reasons; to receive an income from them in the form of dividends, foreseeing a growth in their value and selling them at a profit, or simply a balance of both. There are so many factors that determine the stock prices of any company, and why they move the way they do. At the most basic levels, forces of demand and supply fix the prices, and so when demand is high (people), prices go up and when more people are selling, it generally drops. The key to protecting your investments in the stock market are by understanding these factors, being able to interpret them properly, and knowing where to put your money. A few things to consider when making investments in stocks include; industry/ sector, size and potential of company, important statistics like the growth rate and price/ earnings ratios, and the risks (beta) involved in making the investments. In recent years, finance, healthcare and technology have been the fastest growing sectors while consumer staples and utilities have been quite stable with moderate growth. Considering size, larger companies usually have large capitalization (company worth) and are usually pretty stable with lower growth potential relative to small-cap companies. Over the long run, small cap stock have tended to rise at a faster pace. With respect to the growth rate, stocks with moderately above average growth rates and a reasonable valuation are usually favorites. High-growth stocks on the other hand, are usually over-priced and have a hard time meeting over bloated investor expectations. 2

4 The earnings of a company are a very important focal point for the investor. The earnings are the main factors that influence investors evaluation of a company. The price to earnings ratio (P/E) compared to projected total return is an effective ratio used to determine value. Ideally a company s stock is a good buy when the P/E is less than double the projected return. With regards to risks, the general principle is the higher the risk, the higher the returns and so before investing, it is important to decide the level of risk the investor is willing to take. Amazon vs. Wal-mart: The stock that our group chooses to invest in after careful thought an expert opinion is Amazon. Amazon hit a huge milestone and is now more valuable than the biggest retailer in the world; Wal-Mart. Amazon was founded in 1994 and has 154,100 employees worldwide. Amazon has a 23.93% growth rate over the past five years in comparison to Wal-Mart with only a 3.07% growth rate in the same span of time. The company offers 250 million products on their online website. Regarding an innovative market, Amazon offers 75,000 new products per day as well as a new book every five minutes. Amazon is used world wide by 185 countries, while Wal-Mart only has stores in 27 countries. Amazons website is doing extremely well with 244 million active users buying many of their most popular products including books and electronics. The most popular products at Wal-Mart are groceries, which is not a growing trend as of now compared to technology. During the holiday season, Amazon is the most popular website to buy gifts from averaging 18 toys per second and selling 16 million products on cyber Monday. Many buyers placed an order on Amazon s website right through their phone, which makes the hassle of buying gifts a lot less extreme with a user friendly website. Marketing is extremely important when trying to attract new buyers and Amazon takes this very seriously spending 4.3 billion on advertising alone in 2014 (Peterson, 2015). 3

5 Amazon is a smart choice for our investment team because the company is doing everything they can to better their business. The company s priority is to make their customers happy and they will trade off short-term profits for the chance to earn long-term customer loyalty. This is important when taking into consideration our team s decade long investment plan. Amazon is considered to have the best corporate strategy measuring up to Google, Microsoft, Apple, and Facebook by always thinking a step ahead of their competitors. Amazon s stock is priced far beyond Facebook, Google, and Apple implying that their earnings have a great amount of room for growth. Amazon has expanded its third-party marketplace, which involved merchants all over the world setting up their own virtual stores on Amazon.com. Amazon juggles this while selling their own products and continually impressing their large customer base. Amazon surely has a bright future ahead of them (Peterson, 2015) Retail Trends: The world is changing day by day and it is up to the companies to create an innovative retail environment if they want to gain a competitive advantage quickly. Something that is very important to pay attention to are the retail trends occurring over the years. E-commerce is the leading trend that is quickly expanding like rapid fire. According to the article, 2015 Retail Trends retail sales have grown through online channels and shopping online accounts for 8% of the total retail sales. There are three sectors that e-commerce have not taken over such as cars, gasoline stations, and groceries. These categories take up take up almost half of the retail sales making the e-commerce revenue about 16%. This rate is growing at a rate of 15% beyond traditional retail. Wal-Mart makes a total of 56% profit off of their groceries and is making a huge effort to compete with Amazon through e-commerce. This will be difficult considering 4

6 their main profits come from groceries. As more people move to shopping online, this directly relates to a simplified way of shopping. Buyers can now save money shopping online by comparing prices and having these items shipped right to their door. Amazon being a very innovative company has every opportunity for growth especially if the retail trends are in their favor (2015 Retail Trends, 2015). Future Growth: Wal-Mart and Amazon are very different and similar in so many ways. They are hard to compare because Wal-Mart is a multinational retail corporation, whereas Amazon is an American electronic commerce company. They both sell retail products through different sales strategies. Amazon is also a cloud computing company and is the largest Internet based retailer in the U.S. Amazon starting as an online book store has grown dramatically and continues to grow as time goes on. Wal-Mart s overall sales are much higher than that of Amazon s, but e-commerce is changing the statistics. Wal-Marts online sales in 2014 were $12.2 billion compared to Amazon s being $89 billion. Amazon is making an impact and is being noticed world wide as a major success. Its online business is growing rapidly and investors are recognizing the importance of online commerce for retailers today. As shown in the graph below, Wal-Mart quarter by quarter seems to be declining when it comes to expansion, compared to Amazon s growth averaging to 27% in 2014 (D'Onfro, 2015). 5

7 (D'Onfro, 2015) There are new conveniences for customers such as same day delivery and automated ordering. Online shopping has gained a larger profit than brick-and-motor by e-commerce s share rising from.6% in 1999 to 7% in the first quarter of Quarterly, this average increases 3.7% compared to 1.1% for total sales. Wal-Mart is trying its best directly compete with Amazon, but the company does not stand a chance against their highly innovative website. Wal-Mart stated that they would spend up to $1.5 billion on its ecommerce business this year and launched a shoppers club, similar to Amazon Prime, charging its shoppers a yearly fee in order to get free shipping. The company has also stated that they will make their website more user friendly and offer a wider selection of products. Wal-Mart.com only offered 1.1% as many products as Amazon in April. In addition, Wal-Mart wants the users to create accounts in order to gather data about recommendations of products and offers same day grocery delivery just like Amazon Fresh. Wal-Mart has a chance of measuring up to Amazon s ecommerce website, but will never beat out Amazons unique retail market. Wal-Mart s core customers are not known to be tech savvy shoppers, therefore their online revenue will suffer. Although Wal-Mart has been making 6

8 large investments into ecommerce, their online revenue is only 2.5% of the company s total sales proving they still have a long way to go. Amazon is now a leading clothing retailer with analysts statistics estimating that the company can one day outdo Macy s as a leading clothing business. Amazon also has premium baby products with plans to extend its private-label to food and household essentials. By the time it takes Wal-Mart to catch up to Amazons success, the company will already be expanding and testing their future delivery drones (D'Onfro, 2015) Analyst Recommendations: Considering the ratios, the Price to Earning (P/E) ratio for Amazon is , which are approximately 3 times more, than the industry i.e This could mean one of the following, either the company is mispriced or it has a high growth rate. Looking at the growth rate, Amazon has a 5-year growth rate of 23.93%, which is higher than the industry i.e Amazon has a Beta of 0.90, which is indicative of higher risk investment. But theoretically, we know that a higher risk of an investment the higher the potential of returns (ROI) on such investments. Looking at the gross margin ratio, which is also the profitability ratio, Amazon has compared to the industry, which shows that Amazon is relatively profitable. Also looking at the Price-to-Sale and Price-to-Book value, Amazon appears to be doing better then the industry benchmark. These are all very positive quantitative aspects of Amazon. Wal-Mart on the other hand, has the Price to Earning (P/E) ratio of 12.10, which is lower than the market benchmark i.e Also the growth rate of Wal-Mart is 3.07, which is 3 times less then the industry i.e The gross margin ratio for Wal-Mart is 26.80, which is barely higher than the industry i.e

9 Company Average Analyst Recommendation MEAN Amazon BUY BUY Wal-Mart BUY HOLD The average price of Wal-Mart s stock in 2005 was approximately $45. Currently the average price for the stock of Wal-Mart is about $55 representing an 18% increase in the last 10 years. Whereas, Amazon had an average stock price of $43 in 2005 and now it is $629, which represents 1,350%, increase in price. Many investors rely on the recommendations of capital market analysts to choose their portfolios because of analysts greater market expertise and specific knowledge about the companies they follow. Analysts are arguably the eyes and ears of the market. Analysts provide an important source of information in today s market. They promote the efficiency of the markets by referring facts and offer valuable insights on companies and industry trends. The mere mention of a company by a popular analyst can temporarily cause its stock to rise or fall. The whole point of relying on analysts recommendations is that they are specialists with deeper knowledge of the market and the companies they follow, allowing them to reach more accurate forecasts of future returns than an ordinary investor could do. 8

10 It is quite evident that the analysts are in favor of Amazon to invest or buy in stocks compared to Wal-Mart. The historical data depicts an increase in analyst s interest in amazon. Multiple factors could be a reason e.g. the boom in technology, which is pushing the market toward the trend of online shopping instead of in-store shopping. In turn, this makes it a potential company with respect to future growth in the market. 9

11 Mean Recommendation Conversion Table 1.00 thru 1.24 = Buy thru 1.74 = Overweight 1.75 thru 2.24 = Hold 2.25 thru 2.74 = Underweight 2.75 thru 3.00 = Sell The worldwide expansion of the Internet has considerably contributed to the transformation of trade and in-store transactions. E-commerce statistics confirm the explosive pace at which this industry has developed as a worldwide B2C e-commerce sales, which amounted to more than 1.2 trillion US dollars in

12 Mispricing: Mispricing is a misrepresentation of the true value of a stock and a mispriced stock may mean it is undervalued or overvalued by the market. Calculating the fair value of the stock currently and comparing it with the market price is one way to determine if its mispriced. Fair Value (AMZN) = 456.9* 1.85 (using a 5 year average P/E * annual EPS) = $845 per share For Wal-Mart = 14.3 * 4.96 = $70.93 Compared to the current market value, both stock are underpriced with amazon by a larger margin. Another way to determine is to consider analysts opinions. If most analysts suggest that you buy a stock this means that it is not mispriced. Considering the analyst s recommendation, they believe Amazons stock is a good buy right now. This is suggested because Amazon has a large potential for future growth and Analysts predict that the stock s price will continue to increase. Opportunities for Wal-Mart: The changes that Wal-Mart must make to effectively compete in the Internet age consists of data that we analyzed within their S.W.O.T analysis. The first thing Wal-Mart should do to compete in the internet age would be etailing. Wal-Mart can promote the concept of egroceries, which 11

13 would benefit the company in terms of getting the insides of the customer buying patterns In turn, this can be used to target personalized promotions and marketing. Wal-Mart needs to expand their program for in store pick up of groceries. Right now, Wal-Mart has only 13 stores in total that actively use this program. On the other hand, Amazon offers all programs they have everywhere, simply because they operate online. Expanding this program to all stores will be vital for Wal-Mart to continually increase their profits in groceries. Also, Wal-Mart must find more innovative ways to sell their groceries because about 59% of their revenue comes from groceries (Peterson, 2015). Their biggest profit margin comes from their grocery sector; therefore it is highly important to keep up with the global trends. The trend of healthy eating is a way Wal-Mart can position their company for success. Also, the company should highly consider going into online perishables because that stands as an opportunity for infrastructure. Strengthening their brick-and-motor store channels will result in a positive outcome for their stores. If Wal-Mart develops a seamless integrated channel shopping experience by making a presence online and experimenting with the services offered across channels they will have a chance to measure up to Amazons single channel. Wal-Mart must diversify their products in their industry in order to appeal to larger target market. This company has many opportunities such as a retail market growth in emerging markets and private label products (Wal-marts SWOT analysis, 2015). According to our research, Wal-Mart should try to directly compete with Amazons online website because they set the standards for online shopping. With this in mind, Wal-mart should then expand their market by creating a portal to bring all their vendors to one table. Amazon is a portal for finding anything on one page. Anything that you find on Wal-mart s website you can only find in store. Wal-Mart needs to increase their options online to more than what they offer 12

14 in store. Wal-Marts stock in store is 140,000 SKU s whereas over the internet it only has 100,000 SKU s. This limits customers online shopping. Amazon gives more bargaining power to buyers because they are open to any vender, but Wal-mart offers limited bargaining power to buyers by only offering in store items. Amazon has created a user friendly website with cheap offerings of products all in one page. Wal-Mart has to compete directly with Amazon by offering all of these qualities that do not exist today (Wal-marts SWOT analysis, 2015). Another very important trend that exists today is social media. On twitter, Wal-Mart has thousand followers in comparison to Amazon, which has 2.1 million followers. Amazon spends $4.3 billion on advertising, whereas Wal-Mart spends 2.4 billion on advertising. Wal-Mart must make a bigger impression for the Internet age because this type of marketing is vital for attracting and retaining buyers. The traditional marketing techniques are being used less and less and marketers are finding that they are spending less money by advertising online. When analyzing Wal-Marts employee s satisfaction scores it is evident that they need make employee happiness a priority because they have an extremely high turn over rate. Creating a positive working environment for all employees makes a lasting impression of Wal-Mart in all levels of the business (Wal-marts SWOT analysis, 2015). Ubiquity vs. Profitability: Amazon has such a competitive advantage in online shopping that they will be able to go into any industry and succeed. Amazon has a presence everywhere in the world and Wal-Mart is only presented where their stores are located. For example, Amazon is also the leading web service provider and a major play in the game business. Amazon is thinking far beyond their balance sheet because they want to be successful globally. Amazons goal is to be everywhere for and 13

15 everything to consumers (Amazon Grocery, 2015). Stock investors are applauding Amazon and believe that their company will be apart of our daily lives, just like Apple. It is predicted that Amazon is going to quadruple its earnings per share by next year. As long as the company can grow its revenues, it can spend any profit it makes on new lines of business that create more revenue. Those revenues may also be profitable, and profits can in turn be immediately spent again on more growth. By eschewing profits, the company can also offer the lowest prices possible. Some parts of the company are profitable and fuel growth in others (Edwards, 2015). (Edwards, 2015) 14

16 Profitability? Every investor is interested in the profitability of whatever company they are investing in. However, when it comes to investing in stock, investors consider more than profitability at the time of investing. The future potential of the investment is always more important than the current profitability when making a choice between stocks. It is possible for a company to be profitable today and decrease in a few years to come. Therefore, the future potential is always the most important in making an investment decision. Amazon may be losing a large sum of money, but they are generating huge sale volumes and a growing market share. Revenue is increasing, benefitting profit. Short-term gains are sacrificed for long-term goals and it seems to be working in the company s favor. Amazon s growth is outpacing overall ecommerce and retail growth, which means it is succeeding at stealing market share from competitors. Of course there are also ways to hedge some of the losses from their core retail business through higher margin avenues like their Amazon Web Services (cash cow). Amazon has razor-thin margins and actually, according to Yahoo Finance, Amazon s profit margin is negative (-0.15%, 2009) at the moment. A bottom dollar strategy like this does not always work, but for a company like Amazon that has built up sufficient resources and the reputation to support such a strategy, it can. Part of the strategy may be to build up Amazon s brand to the point where the trust factor will eventually build in a premium factor. In turn, consumers will be willing to pay a premium price to get a certain item from Amazon versus other vendors (2015 Top 250, 2015). 15

17 Investment Structure: We would structure our investment by buying Amazon using the put option to protect the value. This option gives us the right to sell a stock at a certain price. When we choose the put option we will have to pay a premium. Amazons stock is priced at $657 as of November 6, 2015, therefore the strike has to be equal to 600. The higher strike the higher premium. The strike being 600 is equal to.06 cents per option premium, which is very low. Are plan is to keep buying the option to protect value over a decade long period. It will cost our team.06 cents for one option, therefore.06 X 100=$6 for one contract. At any point we have the right to sell for $600 if we choose to do so. After this expires, we buy put option once again. If stock price goes down the book value goes up and we keep the put at that point. We could loose money, but in turn make a lot on the put option. We expect that this stock is going to do well in the long run, but at the same time we do not know what will happen in the market and to protect this value we will use the put option. Amazon is able to convince investors that $657 is a good price because ecommerce is always highly relative to the future. It is clear that investors see a large growth potential with the stock being at such a high value. Amazons past and strong potential growth work in congruence with each other creating a bright future for Amazon and their stock. Amazon is the right stock to invest in and will certainly give our group the highest return. 16

18 References Amazon Grocery Puts AMZN One Step Closer to Apple-Like Ubiquity. (2015, July 28). Retrieved November 6, 2015, from stock-stock/#.vjfqcalsekj D'Onfro, J. (2015, July 25). Wal-Mart is losing the war against Amazon. Retrieved November 6, 2015, from Edwards, J. (2015, January 30). Amazon's profit shows how few people understand the way the company works. Retrieved November 6, Peterson, H. (2015, July 13). The key differences between Wal-Mart and Amazon in one chart. Retrieved November 6, 2015, from mart-in-one-chart Wal-marts SWOT analysis (n.d.). Retrieved November 6, 2015, from analysis.html 2015 Retail Trends. (n.d.). Retrieved November 6, 2015, from 17

19 2015 Top 250 Global Powers of Retailing. (n.d.). Retrieved November 6, 2015, from 18