Understanding Financial Decision Making: Tools for Evaluation
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Investment Analysis and Recommendation Paper
Understanding Financial Decision Making: Tools for Evaluation
Overview: During the next 7 weeks, you will examine theoretical and empirical points of view and apply the knowledge you have gained from your study and research in order to understand how financial decisions are made within a large publicly traded company that you choose as an exemplar. You will utilize financial tools to evaluate current financial data and use your calculations to justify those decisions. Approach this exercise as though you were a financial consultant who has been asked to analyze the value of the company as a potential investment. This assignment will require access to in-depth financial information, so selecting a company for which this information is easily obtainable will be most beneficial.
You will conduct a detailed analysis of the financial dealings of your selected organization. Each week you will focus on a different aspect of the company’s financial information. You will explore the monitoring capabilities of the Board of Directors and use financial tools to compare ratios with one of the firm’s competitors. You will establish an estimated growth rate and predict future dividends. In addition, you will use annual reports as a tool in capital budgeting to determine potential real options, establish a market risk premium, calculate the weighted average cost of capital, and compare the mix of debt and equity that the firm uses to an industry average. Finally, you will prepare an executive summary of the company, complete with current stock prices and a recommendation on investing in the business you select. Your paper will contain topics unique to the company chosen, but will incorporate the themes covered each week. You will strictly use the sample paper and maintain the format of the sample paper. APA is critical and the writer will continue to build the paper as the weeks go by adding each section. Each week you are required to submit sections of the paper to your Instructor. Each section will then be used as a part of your final analysis and will be included in the complete paper.
• This week, select a publicly traded company that you wish to analyze for this paper. Submit the name to your Instructor for approval. Obtain the company’s financial statements (annual report) and the most recent proxy statement.
Using the information on the proxy statement:
• Evaluate the monitoring potential of the firm’s Board of Directors.
• Identify the strengths and weaknesses of how the board is structured, as well as any ethical concerns.
Write a 1-page summary of your findings.
SAMPLE ANSWER
Understanding Financial Decision Making
Investment Analysis Paper on Chesapeake Energy Corporation
Chesapeake Energy Corporation is U.S based utility company dealing in natural gas exploration and production. The company is headquartered in Oklahoma City, OK and employs approximately 10,800 people (as of December 31, 2013). The company was incorporated in 1947 and has evolved to be a leader in the energy sector worldwide with over $7.4 billion in total assets (as of December 31, 2014).
Board of Directors
The board of directors is very important to the organization since they determine the direction to be taken by the business. The board of directors is composed of a ten member team; nine of the ten are independent members. Each of the nine sits in a charter committee namely; audit committee, compensation committee, nominating committee and finance committee. The Chair to the Board is a member of nominating committee and finance committee.
Monitoring Potential of the Firm’s Board of Director
The strategic monitoring potential of the board is derived from the fact that 90% of the members have complete autonomy and sits on committees (MarketLine, 2014). The charter is also governed by constituency statutes that permit them to make decisions in favor of the company rather than the shareholders’ interests (Brian et al, 2013).
Strengths and Weaknesses of Board Structure
Intense market competition and structuring of the board might either erode or increase the company’s market share. This board strength and weaknesses include:
| Strengths | Weaknesses |
| Mainstream on vertical integration
Strong market position based on personnel |
High debt resulting from heavy borrowing |
| Opportunities | Threats |
| Increasing demand for natural gas in the world and key employees | Increasing competition
Legal compliance and changing gas prices |
Ethical Concerns
The company lacks appropriate responsiveness to the shareholders concerns. This is because the directors have full autonomy over decision making. Despite the fact that their position is backed up by the constituency statutes, it amounts to lack of transparency in the overall organization (Bundy & Ann, 2013).
References
Brian, J. H, Sandra, M. T. & Jennifer, C. H. (2013). Benefit Corporation Concerns for Financial Service Professionals. Journal of Financial Service Professionals. 74-82.
Bundy, J & Ann, K. B. (2013). Strategic Cognition and Issue Salience: Toward an Explanation of Firm Responsiveness to Stakeholder Concerns. Academy of Management Review. 38 (3) 352-376.
Chesapeake Corp. (2015). Company Profile: Chesapeake Energy Corporation. MarketLine
DuPont Analysis for the companies for the past three years
Return on Investment (ROE) is the is one of the most important company analysis tools that is used to measure how well a company manages and creates value to their shareholders. However, the values on the ROE can sometimes be misleading in terms of real value and risks associated with a particular investment. The numbers in the ROE can easily be misleading to financial analysis if the individual components of the ROE have not been broken down to their individual components. In this regard, DuPont can bridge the gap created by the ROE and provide a reliable measure of how the company creates value for its shareholders (Mitchell, Mitchell, & Cai, 2013). DuPont is the financial analysis tool that enables the breakdown of the ROE into its various individual components such as financial leverage, asset turnover, and profit margin (Haskins, 2013). The following is the financial calculation of DuPont of Chesapeake Energy Corporation, together with their competitor, Anadarko Petroleum Corporation (APC) (Cheasapeake Corp, 2015).
DuPont takes utilizes the basis of the individual component of ROE which is given by;
Profit Margin X Asset Turnover X Leverage Factor
Chesapeake Energy Corporation (CEC) Financials for the past three years
| 2014 | 2013 | 2012 | |
| Total Assets | $40,751,000 | 41,782,000 | 41,611,000 |
| Shareholders’ Equity | $16,903,000 | 15,995,000 | 15,569,000 |
| Revenue | $20,951,000 | 17,506,000 | 12,316,000 |
| Net Income | $1,917,000 | 724,000 | 769,000 |
Anadarko Petroleum Corporation (APC) Financials for the past three years
| 2014 | 2013 | 2012 | |
| Total Assets | 61,689,000 | 55,781,000 | 52,589,000 |
| Shareholders’ Equity | 19,725,000 | 21,857,000 | 20,629,000 |
| Revenue | 18,470,000 | 14,581,000 | 13,411,000 |
| Net Income | (1,750,000) | 801,000 | 2,391,000 |
In the year 2012;
The DuPont for Chesapeake Energy Corporation is given by
Net Profit x Asset Turnover x Leverage Factor
(769,000/12,316,000) x (12,316,000/41,611,000) x (41,611,000/12,316,000)
= 0.0624 x 0.256 x 3.379 = 0.054
The DuPont for Anadarko Petroleum Corporation (APC) is given by
(2,391,000/13,411,000) x (13,411,000/52,589,000) x (52,589,000/20,629,000) =
=0.1783 x 0.255 x 2.541 = 0.116
In the year 2013;
The DuPont for Chesapeake Energy Corporation is given by
(724,000/17,506,000) x (17,506,000 / 41,782,000) x (41,782,000/15,995,000) =
0.041 x 0.419 x 2.612 = 0.045
The DuPont for Anadarko Petroleum Corporation (APC) is given by
(801,000/14,581,000) x (14,581,000/55,781,000) x (55,781,000/21,857,000) =
0.055 x 0.21 x 2.55 = 0.029
In the year 2014;
The DuPont for Chesapeake Energy Corporation is given by
(1,917,000/20,951,000) x (20,951,000/40,751,000) x (40,751,000/16,903,000) =
0.091 x 0.514 x 2.411 = 0.113
The DuPont for Anadarko Petroleum Corporation (APC) is given by
(1,750,000/18,470,000) x (18,470,000/61,689,000) x (61,689,000/19,725,000) =
0.095 x 0.299 x 3.127 = 0.089
Differences and trend that emerge
In the year 2012, the operating efficiency of APC (0.18) was higher than that of CEC (0.06) as can be seen in their profit margins. In the same year, it can be deduced that the asset use efficiency of between the two companies are almost the same since they stood at 0.255 for APC and 0.256 for CEC. On the other hand, the financial leverage for CEC was higher (3.4) than the financial leverage for APC (2.5).
In the year 2013, the operating efficiency of APC (0.05) was still higher than that of CEC (0.04). In the same year, the asset use efficiency of CEC was higher than the asset use efficiency of APC. Similarly, CEC had a higher financial leverage in the year 2013 than APC. Overall, it can be deduced that CEC performed better than APC in the year 2013.
In the year 2014, the operating efficiency of APC (0.095) was higher than that of CEC (0.091). However, the asset use efficiency of CEC stood higher (0.5) than that of APC (0.3). On the other hand, APC had a higher financial leverage (3.1) than CEC (2.4) as can be deduced from the financial calculations. The higher the financial leverage, the better a company is placed to provide good value for its shareholders (Brian, Sandra, & Jennifer, 2013).
References
Brian, J. H, Sandra, M. T. & Jennifer, C. H. (2013). Benefit Corporation Concerns for Cheasapeake Corp. (2015). Company Profile: Chesapeake Energy Corporation. MarketLine
Financial Service Professionals. Journal of Financial Service Professionals. 74-82.
Haskins, M. E.(2013). A decade of DuPont ratio performance. Management Accounting Quarterly, 14(2), 24-33.
Mitchell, T., Mitchell, S., & Cai, C. (2013). Using the DuPont decomposing process to create A marketing model. Journal of Business & Economics Research (Online), 11(11), 485.
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