Strategic Capital Group Workshop #1: Investment Fundamentals

Agenda
Creating a Company
Types of Financing Financial Statements Calculating Value Exercise and Closing

Meet the USIT Shirt Company

Currently run out of Parkers dads garage, we are providers low cost, awful quality t-shirts to any suckers who will buy them. Currently, we arent producing much, and with so many other competitors, we cant seem to make a dent on the market. However

Breaking News: Hippies destroy all Tshirt factories in protest of something!

Q2FY12 Profits Soar!
Sales up 400% Profit doubles as customer count skyrockets Heavy demand need for capital to expand

As the last surviving shirt company, what should USIT Co. do?

Capital Financing: Debt

USIT T-Shirt Co. can raise debt to fund its growth Terminology:
Par value: Initial amount paid by investor; returned at maturity Interest/Coupon: Amount paid periodically to investors

Types of Debt:
Bonds (source - public markets) Loans (source - privately traded or not traded)

Capital Financing: Equity

USIT T-Shirt Co. can raise equity to fund its growth Terminology:
Stock: a share of ownership in a company Initial Public Offering: initial issuance of stock by a company Secondary Markets: investors exchanging securities

Types of Equity:
Common Stock: no guaranteed dividend, vote Preferred Stock: guaranteed a dividend, no vote

Debt vs Equity
Debt Advantages:
Doesnt seize ownership Not as influence by market swings Easy to raise

Equity Advantages:
No legal obligation to pay No claims on assets

Disadvantages:
Giving over ownership
Shareholder activism Outside investors (hostile)

Disadvantages:
Legal obligation to pay Claim on assets during bankruptcy

Voting rights

Sanity Check
Weve created a company Weve talked about debt and equity

Terminology: Common Stock, Preferred Stock, Bonds, Loans, IPO, Coupon, Par Value, Secondary Markets, Primary Markets

USIT T-Shirt Co. Raises Debt and Equity

50/50 Split
50% Debt
Senior: more important paid first Junior: less important paid after senior

50% Equity
Meet the investment bankerWERE GOING TO GOLDMAN All common stock

USITs Finances
Total Capital Gain:
10,000,000 shares at $1.00 share $5,000,000 in senior-secured bonds $5,000,000 in junior bonds

Expanded to 100 countries in less than one year

Indonesia, China, Germany, Chile, etc. Factories, raw materials, human capital, more garages

Continued to increase revenues at fast rate

The year rolls to a close

Public companies are required by the Securities and Exchange Commission (SEC) to produce financial statements that detail revenues, costs, profits, assets, liabilities, equity, and cash employed in the business on an annual report or 10-K.

USIT Co.s Statements

The Income Statement: -Tells us how much we sold, what it cost us to sell it, and how much profit we made during the period. Revenue: $100,000,000 -Costs: $40,000,000 Profit: $60,000,000

USIT Co.s Statements

The Balance Sheet: -Tells us what resources are in the business (assets), how much we owe (liabilities) and the equity within the business.
Assets: Cash Inventory Equipment Building
Liabilities: Bonds Equity: Common Stock $10,220,000 $780,000 $2,350,000 $6,650,000

$10,000,000

$10,000,000

Sanity Check Part 2

Weve learned about accounting Weve raised debt and equity for USIT Co.

Terminology: 10-K, Asset, Liability, Balance Sheet, Income Statement, Revenue, Cost

Valuable Metrics Inside the 10-K

Net Income (Profit) $60 Million

Profit Margin =
Revenue (Sales)

=
$100 Million

= 60%

What percentage of your sales turn are left as profits

Net Income (Profit) $60 Million

Earnings per Share =

Shares Outstanding

=
10 million

$6 per share

Literallyhow much your company earns per each share

A Wild Pokmon Has Appeared! SCG Shirts Co.!

Another t-shirt company has seen our success and entered the market!
Revenue: $120,000,000 Costs: $20,000,000 Profit: $100,000,000 Shares Outstanding: 5,000,000

Share Price: $2.00 EPS: (100mm) / (5mm) = $20.00

Become The Investor

Which is the cheaper investment?

$1.00 per share

$2.00 per share

P/E- The Price to Earnings Ratio

Share price is not enough!
P/E: how much does one dollar of this companys earnings cost?
Price (the amount you pay) $1.00

USIT P/E =
Earnings per share (how much the firm makes) Price (the amount you pay)

=
$6.00 $2.00

.17x

SCG P/E =
Earnings per share (how much the firm makes)

=
$20.00

.10x

Become The Investor

So now which is the cheaper investment?

.17x

.10x

P/E: What Does It Mean?

Widely varying interpretations
High P/E investors value the earnings more, willing to pay more
Could mean optimism

Low P/E cheaper earnings

Note: This is all relative

Compare to other companies in industry Cheap-er, costli-er

More Ratios
P/B: Price-to-Book
Book Value: Accounting value of a companys assets Tells us what we are paying for every dollar of assets the company owns

P/S: Price-to-Sales
Tells us how much we are paying for a dollar of revenues.

Beta

Beta > 1 = more volatile Beta < 1 = less volatile

Sanity Check Part 3

Weve learned about three Price Multiples Weve covered what Beta is Weve compared two companies and decided which to invest in Terminology: Price to Earnings, Price to Sales, Price to Book, Beta, EPS, Margin

Exercise
Which of the following companies would you buy? Why?
Company Price Shares Assets Revenue Profit Margin P/E P/B P/S

USIT SCG UCF Nike

$4.00 $7.57 $82.53 $67.73

10,000,000 5,000,000 1,000,000 2,000,000

$11,000,000 $12,000,000 $19,800,000 $8,000,000

$100,000,000 $125,000,000 $228,000,000 $48,000,000

$33,300,000 $48,000,000 $49,500,000 $35,700,000

33.3% 38.4% 21.7% 74.4%

1.20 0.79 1.67 3.79

3.64 3.15 4.17 16.93

0.40 0.30 0.36 2.82

Average

$40.46

4500000

$12,700,000

$125,250,000

$41,625,000

41.9%

1.86

6.97

0.97