So for a class, I need to basically pick a company and do a DCF/comparables analysis along with a short spiel about some of the qualitative aspects of it (i.e. the strategy, industry trends, etc.). I was wondering what characteristics you recommend and or, if you're feeling generous, if you have some tickers I should look into for researching.
Based on some searching I've done, since I figured I'm not the only one to ask this, I've gathered that I should pick something with a relatively simple business model (i.e. not a JPM or other bank), that isn't that diversified (i.e. not GE/MMM with tons of different departments), and smaller is better. However, I'm wondering if there is anything more that you would add to this (these were the main points people seemed to emphasize), if you have advice for what sectors typically have more info on them, or if you've done something like this for a class and wanted to share some ideas about what you/others have chosen and why you would/wouldn't pick the company to value again.
how to analyze and pick a company for Class?
When picking a company to analyze for a class assignment - you should target stable, easy to understand industries as well as mature companies that are easily modeled.
User @Vancouver Canucks 2011, an investment banking associate, shared the rational for using a mature company:
For the DCF component, I would also pick a company in a defensive industry with steady and predicable cash flows. This way, you can project out future cash flows with more certainty. I would find a mature business so that you can reasonably estimate / control CAPEX and D&A. You probably know the rest... Nothing too funky like a FIG or TMT company that will require a lot of sensitivities...
Depending on the amount of time you have, it may be wise to choose a company that you are familiar with in order to save time researching what the company actually does.
What Sectors to Focus On?
You want to stick to sectors that are easily understood and modeled:
- Consumer Discretionary
- Consumer Staples
You will want to avoid complex sectors such as:
- Energy - Involves models such as NAV different from the DCF
- Financials - Involves Excess Equity Model
- Healthcare - Difficult to model drug approvals, insurance claims etc
- IT - Difficult to predict the model for fast growing companies
In the end, it will be in your best interest to use a company in the consumer space as they are usually stable and easily predictable.
What Qualitative Elements Should I Look For?
When you are doing your qualitative analysis, you want to look for trends that will effect the business over then next 6 months. You want to avoid backward looking events (IE previous strong earnings announcement, previous new product announcement).
Use resources such as The Wall Street Journal and other financial press to read about trends in the industry and contact your library to find out what industry databases your school has access to. If possible, gain access to Thomson Reuters or a similar research platform to learn what Wall Street research analysts think of the industry and the company.
How Do I Pick Comparable?
When looking to find comparable companies for your analysis, you want to look for competitors based on the following elements:
- Size - Market Cap
- Industry - Same or Similar Industry
If your company does not have many straight forward competitors, look for companies in similar industries that are valued in a similar way. Example - if you are valuing a cruise line you could include amusement parks in the comparables set.
You should target to have at least 5 companies in your peer set.
How to Build a Discounted Cash Flow Model
Once you have your qualitative analysis, you need to turn to the discounted cash flow analysis. For a review of how to build a DCF, please see below. When you are building your assumptions you should build them based upon your analysis of the industry and company. That being said - if you do not have any forward looking insight on the industry you could use historical averages to project out EBIT and the other line items of the DCF.
Read more about building the DCF in our WSO Company Database or check out a video from our partner Wall Street Prep below.
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