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BUNGE LTD.
Analysis Team
Shelby Bentley [email protected]
Nicolas King [email protected]
Jon Murphy [email protected]
Colby Norris [email protected]
Georgia Sanchez [email protected]
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Table of Contents
Executive Summary ………………………………………………………………………..8
Company Overview ……………………………………………………………………….14
Industry Overview …………………………………………………………….............15
Five Forces Model …………………………………………………………………………16
Rivalry among Existing Firms ………………………………………………..18
Industry Growth …………………………………………………………………………18
Concentration …………………………………………………………………………….20
Differentiation ……………………………………………………………………………21
Switching Costs ………………………………………………………………………….22
Economies of Scale …………………………………………………………………….22
Learning Economies of Scale ……………………………………………………….23
Fixed Variable Cost ……………………………………………………………………..24
Threat of New Entrants ………………………………………………………..25
Economies of Scale ………………………………………………………..……………25
First Mover Advantage ………………………………………………………………..26
Distribution Access and Relationships …………………………………………..26
Legal Barriers …………………………………………………………………………….27
Threat of Substitute Products ……………………………………………….28
Relative Price and Performance ……………………………………………………28
Customers Willingness to Switch ………………………………………………….29
Bargaining Power of Customers …………………………………………….30
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Switching Costs ……………………………………………………………………….…30
Differentiation ……………………………………………………………………………31
Cost and Strategy Importance …………………………………………………….31
Number of Customers …………………………………………………………………32
Volume per Customer …………………………………………………………………32
Bargaining Power of Suppliers ………………………………………………33
Switching Costs ………………………………………………………………………….34
Differentiation ……………………………………………………………………………34
Cost and Quality Importance ……………………………………………………….35
Number of Suppliers/Volume per Supplier …………………………………….35
Analysis of Key Success Factors …………………………………………………….36
Cost Leadership …………………………………………………………………..37
Differentiation ……………………………………………………………………..41
Competitive Advantage Analysis …………………………………………………….43
Cost Leadership …………………………………………………………………..43
Differentiation ……………………………………………………………………..48
Formal Accounting Analysis ……………………………………………………………50
Identifying Key Accounting Policies …………………………………………………51
Key Accounting Policies …………………………………………………………51
Type One Key Accounting Policy ……………………………………………………51
Type Two Key Accounting Policy ……………………………………………………53
Goodwill ……………………………………………………………………………53
Hedging …………………………………………………………………………….55
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Pension and Postretirement Plans ………………………………………..55
Operating and Capital Leases ………………………………………………56
Degree of Potential Accounting Flexibility …………………………………………56
Goodwill ………………………………………………………………………………………………..57
Hedging ………………………………………………………………………………………………..57
Pension and Postretirement Plans …………………………………………………………….58
Capital vs. Operating Leases ……………………………………………………………………59
Evaluate Accounting Strategies ……………………………………………………….59
Goodwill ………………………………………………………………………………………………..60
Hedging ………………………………………………………………………………………………..61
Pension and Postretirement Plans …………………………………………………………….61
Operating Leases ……………………………………………………………………………………63
Qualitative Disclosure ……………………………………………………………………..64
Goodwill ………………………………………………………………………………………………..65
Hedging …………………………………………………………………………………………………65
Pension Plans and Post Retirement Compensation …………………………………….66
Operating Leases ……………………………………………………………………………………66
Quantitative Accounting Measures and Disclosures ……………………………66
Sales Manipulation Diagnostics ……………………………………………….67
Net Sales/Accounts Receivable ……………………………………………………...68
Net Sales/Inventories ……………………………………………………………………71
Net Sales/Cash from Sales …………………………………………………………….73
Expense Manipulation Diagnostics …………………………………………..75
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Asset Turnover ……………………………………………………………………………..75
CFFO/Operating Income ………………………………………………………………..77
CFFO/Net Operating Assets ………………………………………………………….79
Total Accruals/Sales …………………………………………………………………….81
Pension Expense/SG&A ………………………………………………………….…….83
Other Employment Expenses ………………………………………………………..85
Potential Red Flags ………………………………………………………………………..88
Undo Accounting Distortions …………………………………………………………..89
Financial Ratio Analysis ………………………………………………………………….91
Liquidity Ratio Analysis ………………………………………………………….91
Current Ratio ……………………………………………………………………………….92
Quick Asset Ratio …………………………………………………………………………93
Inventory Turnover ………………………………………………………………………95
Days Stay in Inventory ………………………………………………………………….96
Accounts Receivable Turnover …………………………………………………….…97
Days Sales Outstanding ……………………………………………………….……….98
Cash to Cash Cycle ……………………………………………………………………...99
Working Capital Turnover ………………………………………………………….….99
Profitability Ratio Analysis ……………………………………………………..101
Gross Profit Margin ……………………………………………………………………..102
Operating Expense Ratio ………………………………………………………………103
Operating Profit Margin ………………………………………………………………..104
Net Profit Margin ………………………………………………………………………….105
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Asset Turnover …………………………………………………………………………….107
Return on Assets ………………………………………………………………………….108
Return on Equity ………………………………………………………………………….109
Internal Growth Rate ……………………………………………………………………110
Substantial Growth Rate ……………………………………………………………….111
Capital Structure Ratio Analysis ……………………………………………..114
Debt/Equity Ratio …………………………………………………………………………114
Times Interest Earned ………………………………………………………………….115
Debt Service Margin ………………………………………………………………….….116
Z-Score ………………………………………………………………………………….…….117
Financial Forecasting ……………………………………………………………..120
Income Statement ………………………………………………………….……………120
Balance Sheet ……………………………………………………………………………..123
Statement of Cash Flows ……………………………………………………………….126
Estimated Cost of Capital ……………………………………………………………….128
Size Adjusted Cost of Equity …………………………………………………………..131
Backdoor Cost of Equity …………………………………………………………………132
Cost of Debt ……………………………………………………………………..………….133
Weighted Average Cost of Capital (WACC) ………………………………………136
Valuation Analysis ………………………………………………………………………….139
Method of Comparables ……………………………………………………………...….139
Trailing P/E ……………………………………………………………………………….…………..140
Forecasted P/E …………………………………………………………………………………….…141
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Price to Book ……………………………………………………………………………………….…141
Dividends/Price …………………………………………………………………………………..….142
Price/EBITDA …………………………………………………………………………………….…..143
P.E.G. ………………………………………………………………………………………………..….143
Enterprise Value/EBITDA ………………………………………………………………………..144
Price/Free Cash Flow ………………………………………………………………………………145
Intrinsic Valuation Models ……………………………………………………………...146
Discounted Dividends Model ……………………………………………………………………147
Free Cash Flows Model …………………………………………………………………………..150
Residual Income Model …………………………………………………………………………..154
Abnormal Earnings Growth (AEG) Model …………………………………………………..158
Long Run Residual Income Model …………………………………………………………….162
Analyst Recommendation ………………………………………………………………..165
Appendices ……………………………………………………………………………………168
Work Cited …………………………………………………………………………………….206
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Executive Summary
Analyst Recommendation: Overvalued, Sell
April 1st, 2009
52 Wk Range 2004 2005 2006 2007 2008Revenue 3.83886 3.53366 3.62642 3.95541 3.52709Market Cap.Shares Outstanding
Book Value Per Share
Return on EquityReturn on Assets Trailing P/E $52.92
Forward P/E $76.05
Div/Price $34.33
Estimated R‐Squared Beta Ke Price/Book $73.673‐Month 0.3016 1.670 14.23% P.E.G. $43.441‐Year 0.3015 1.666 14.20% Price/EBITDA $54.512‐Year 0.3011 1.663 14.18% EV/EBITDA $65.477‐year 0.3007 1.655 14.12% Price/FCF N/A10‐Year 0.3005 1.651 14.10%
Upper Lower
Published Beta 1.61
Estimated Beta 1.67 4.79 39.51
Size Adj. WACC 7.40% 9.96% 4.83% 11.49 199.81
Size Adj. Cost of Equity 15.13% 22.25% 8.00% 16.49 64.25
Cost of Debt 3.05% 11.68 65.15
WACC 7.07% 8.68 52.24
Relavent RangePrice
BG‐NYSE (4/1/2009) $57.94 Altman Z‐Score
Financial Based Evaluations
Intrinsic Valuations
27.60 ‐ 127.6449.30 B5.69 B
121.63 Mil
Free Cash Flows
Residual Income
Long‐Run Residual Income
61.14
13.40%4.84%
Cost of Capital
Discounted Dividends
Abnormal Earnings Growth
7.96
148.47
38.91
23.35
23.85
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Industry/Business Strategy Analysis
Bunge Ltd. Was in 1818 by John Peter Gottiele Bunge. Bunge entered the
market as an importer and exporter of grain. Since then, Bunge has grown into a
multi-million dollar Agribusiness corporation. They specialize in manufacturing
consumer products from oilseed and grain. Bunge also manufactures fertilizer and
animal feed. They are listed on the New York Stock Exchange and they are one of the
global leaders in agribusiness doing business anywhere from Brazil to China.
The Agribusiness industry uses commodities as its main input, and firms within
the industry compete on cost leadership. Bunge must focus on maintaining a tight cost
control system in order to be successful. The industry maximizes economies of scale to
earn profits on goods with a low profit margin. Bunge’s main competitors are Archer-
Daniels Midland, Corn Products, and CHS Inc. Customers of the industry include: food
service distributors, restaurant chains, feed manufacturers, and retail outlets. These
customers can easily switch distributors, so Bunge must stay competitive to maintain
market share.
The sudden increase in demand for alternative fuels has allowed Bunge to
expand their operations and manufacture ethanol from their corn supply. Last year
alone the industry saw a 50% increase in growth. With the industry growing so fast it
is important to know what impact various forces will have on profits. By utilizing the
Five Forces model, we can identify the most crucial aspects of the industry. Our results
are posted below.
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Buyers have an advantage against the producers when it comes to negotiating
prices. High start up costs and economies of scale prevents new entrants into the
market. The threat of substitutes is low because the industry uses homogenous
products across the board. Rivalry among firms is high and this leads to the pure lost
leadership strategy for the Agribusiness industry.
Accounting Analysis
Bunge must comply with SEC and GAAP standards, but a high level of
flexibility still exists. In this section we scrutinized the accounting methods Bunge uses
and whether or not they paint an accurate picture of what is really going on within the
company. The extent to which a firm discloses their financial statements is key to
determine whether or not a firm is properly valued. We found that Bunge is a very
transparent company. They go above and beyond when disclosing information relating
to goodwill, hedging, operating leases, and pension and post retirement-funds. While
examining key accounting policies we found no potential “red flags” and did not have to
restate and of the income statements.
Bunge is rather aggressive when it comes to pension and post-retirement funds.
By comparing their discount and growth rates to the industry, we found that Bunge
uses higher rates. This decreases the present value of the funds.
Five Forces of the Agribusiness
Industry
Concentration
Bargaining Power of Buyers High
Bargaining Power of Suppliers Low
Threat of New Entrants Low
Threat of Substitute Products Low
Rivalry Amongst Existing Firms High
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Goodwill is an intangible asset on the balance sheet and it is easy to
misrepresent the overall value of the company. When compared to total long term
assets, Bunge never carries more than ten percent in goodwill. From this we concluded
that Bunge is accurately stating its assets and owners equity. Firms have minimal
flexibility when disclosing hedging activities, and Bunge goes into more detail than
required. Bunge shows the fair and market risk for their highest long and short position
in future contracts. Bunge uses operating leases which can lead to understated
liabilities and assets. We compared the present value of future operating lease
obligations to the present value of long-term debt. A healthy company will have a ratio
under ten percent; and for Bunge the percentage was less than one percent. This is a
good sign for Bunge because it shows that they are not stretching themselves too thin,
and that they will have adequate funds to pay future obligations.
Financial Analysis
Financial analysis involves looking at liquidity, profitability, and viability of a firm
by applying several financial ratios. These ratios can give a better insight in to Bunge,
as well as give us another opportunity to measure and compare Bunge to other
competitors in the industry. We will also use financial ratios to gain a stronger insight
into Bunge’s strengths and weakness. The three ratios we will able consist of liquidity,
profitability and capital structure. Liquidity ratios are used to judge if a firm will be able
to meet current and future obligations. We founded that Bunge is outperforming other
competitors in liquidity ratios. This helps Bunge attract investors because it shows they
have the strong ability to pay off debts. Profitability ratios are applied to view the
performance of the firm. Compared to other firms, Bunge is under performing in
profitability ratios. Capital structure ratios are used to judge and view the way firms
finance operations and investments. Firms have two options when choosing how to pay
for activities, debt or equity. The more heavily a firm relies on debt, the larger default
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risk weighs on the firm. Bunge performed on average with other firms when comparing
capital structure ratios.
The next step in performing a financial analysis is to forecast future financial
statements. It is important to remember that forecast will never be one hundred
percent accurate. Still, by using current and historical data, we were able to forecast
future financial statements for Bunge. By first forecasting sales growth, this is the most
important estimate in the entire forecast because every other item in the financial
statements can be linked to sales. Due to the economy currently being in a recession
we forecasted lower growth for Bunge in the next two years. Afterwards we forecasted
Bunge to return to a normal growth rate that the company has experienced in the past.
After sales we applied several financial ratios in order to forecast other items on
Bunge’s financial statements. For example, by using the asset turnover ratio to forecast
assets we linked the income statement to the balance sheet.
The last step in our financial analysis was to derive Bunge’s cost of capital. Cost
of capital is what investors expect to receive if they choose to invest in a firm. By using
regressions we found what we believe is Bunge’s Beta. By applying CAPM, we
concluded that Bunge’s cost of capital is 14.23%.
Valuation
The valuation section of our analysis was done in two pieces. The first part of
our valuation of Bunge was done by using the method of comparables. First we found
several ratios for Bunge and its competitors. By finding an industry average in a ratio,
excluding Bunge, we set Bunge equal to the average in order to compute a comparable
price. The method of comparables has several flaws. For one, any competitive
advantages Bunge holds over its competitors is not accounted for. Since we believe the
method of comparables is flawed, we decided not to value the results it produced in
making our final decision on the equity value of Bunge.
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The second piece of our valuation of Bunge was intrinsic value. Intrinsic
models are backed by sound theory. They do not ignore advantages Bunge may have
over its competitors. Since we believe intrinsic valuations are strong and relevant, we
weighed them heavily in our final decision. We used five different models before making
our decision. After studying the results we found, we strongly believe that Bunge is an
overvalued firm at the share price of $57.94 traded on April 1, 2008.
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Business and Industry Analysis
Company Overview
Bunge Ltd. was founded in 1818 by John Peter Gottliele Bunge. Bunge began as
an importer and exporter of grain before evolving into the multi-million dollar
agribusiness firm it is today. Headquartered in White Plains, New York, Bunge
specializes in manufacturing fertilizer, producing animal feed, as well as creating
consumer products from oilseed and other grains. Now trading on the New York Stock
Exchange, Bunge has become one of the global leaders in agribusiness while
conducting business anywhere from Brazil to China.
Bunge’s major divisions include agribusiness, fertilizer, and food products. They
take raw materials such as soy beans, grains, wheat and corn and process them into
ingredients for cattle feed, edible food oils, and biodiesel. Bunge states, “We believe we
are: a leading oilseed processing company based in processing capacity, the largest
producer and supplier of fertilizer to farmers in South America, based on volume, and a
leading seller of packaged vegetable oils worldwide based on sales” (Bunge 10-K). This
complex firm utilizes its sources to provide a wide variety of products to a wide variety
of customers. Their customers include animal feed manufacturers, food service
distributors, restaurant chains, and retail outlets. Having such a wide variety of
customers allows Bunge to rapidly expand their business to meet the needs of
consumers. Their main competitors include Archer Daniels Midland, Corn Products, and
CHS Inc. whose purpose is to “enhance lives by improving the global agribusiness and
food chain” (Bunge 10-K and Yahoo Finance). Bunge is slightly smaller than their
competitors but is rapidly growing their market cap. In the past few years Bunge has
continued to dramatically increase their sales and be a solid competitor in the industry.
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Total Assets, Net Sales, and Comparable Sales Growth
2004 2005 2006 2007 2008
Total
Assets
9884 10907 11446 21991 20230
Net Sales 25168 24275 26274 37842 52574
Sales
Growth
13.55% -3.53% 8.23% 44.02% 38.93%
(All in Millions; Bunge 10-K)
Industry Overview
The agribusiness industry is one of high importance in the consumer goods
market. It caters to customers all over the world providing products to help improve
the welfare of farming and livestock while also providing services to people all over the
world. Products produced in this market include fertilizers for farmers, feed for
livestock, and oilseed products for other food products. Because this industry includes
so many different firms with similar products, it puts high importance on price and
product differentiation. Similar products make this industry highly competitive and
firms must set themselves apart from each other in order to be successful.
Major competitors in the industry include firms like Archer Daniels Midland,
Bunge Ltd., CHS Inc., and Corn Products. Archer Daniels Midland continues to be the
industry giant while firms like Bunge Ltd. and CHS Inc. are firms quickly on the rise.
The Wall Street Journal states, “Over the past two years or so, Bunge and other grain-
trading companies earned record profits amid volatile grain and energy markets”
(Etter). In spite of the current financial market turmoil, agribusiness firms have
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continued to find ways to improve their business and increase industry productivity.
Overall the industry seems highly competitive while there is still room for growth.
Five Forces Model
The Five Forces model is a tool used to analyze and interpret the impact various
forces have on an industry’s profitability. The Five Forces model was created by
Michael Porter out of Harvard University. We use this model to determine the degree of
importance relative to the industry for each force. It also examines how each
component serves as a potential profit driver for the competitiveness of the industry as
a whole.
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Industries can compete on the basis of cost leadership or product differentiation.
Competitors in the agribusiness industry compete on the basis of cost leadership. Price
in the agribusiness industry is affected by population changes, weather, government
regulations, and standards of living. The main goal in the agribusiness industry is to
manage unit costs and improve efficiency. (Corn Products 10-K)
The Five Forces model can be separated into two main categories. The first is
the level of actual and potential competition. The second category is bargaining power
with input and output markets. The first three forces analyze the degree of competition
in an industry. Rivalry amongst existing firms is the first force discussed. It outlines
the level of competition among existing firms in the industry. This is followed by the
threat of new entrants where we will examine how difficult it is for new firms to enter
the industry and be successful. If there is a relatively high probability for new entrants
in the market, there will be a much greater chance that firms will struggle within the
industry to recognize profits. The third force is the threat of substitute products. We
will determine to what extent the range of substitute products exists outside the
industry.
The final two forces investigate the bargaining power of distributors (or
customers) and the bargaining power of suppliers in the market. The fourth force is the
bargaining power of buyers. It explains why there is a greater threat to firms when the
buyers have more control over the prices in the market. When buyers have control
over prices it takes away the ability for the firm to control its profit margin. This can
make profits difficult, if not impossible, to realize. Similarly, the fifth force is bargaining
power of suppliers. The more control suppliers have in determining the cost of raw
material, the smaller the margin becomes for the firm. After examining these five
forces, it is then possible to recognize the level of competition that exists within the
industry. The industry can have three different levels of competition: high, mixed, and
low. When a high level of competition exists firms are focused on cost leadership. On
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the other hand, when competition is low firms are focused on differentiation. Finally a
mixed level of competition is a combination of cost leadership and differentiation.
Rivalry among Existing Firms
Rivalry among firms within an industry can occur in various ways and firms can
also compete in many different ways. Firms can compete based on price competition or
they can focus on other factors that can help add value to the product. Some of the
factors include: industry growth, concentration and balance of competitors, degree of
differentiation, switching costs, economies of scale, excess capacity, and exit barriers,
which can all help compete against other existing firms in the industry.
Industry Growth
The industry growth rate can play a role in the competitive forces within an
industry. Firms will have plenty of opportunities to gain market share during rapid
growth rates. However, firms will have to compete more against each other to gain
more market share during slow industry growth rates. Industry growth rate can also
Five Forces of the Agribusiness
Industry
Concentration
Bargaining Power of Buyers High
Bargaining Power of Suppliers Low
Threat of New Entrants Low
Threat of Substitute Products Low
Rivalry Amongst Existing Firms High
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help firms evaluate each other in terms as to who is growing at a faster rate and how
the industry can grow in the near future.
(Information derived from Bunge, ADM, Corn Products, and CHS 10-K’s)
The above figure shows the growth rates in the agribusiness industry throughout
the past five years. The chart shows that the growth rate is inconsistent but overall
displays a growing trend over the past five years. For instance, this past year there was
a growth rate of about 50%, but in 2005, the industry growth rate for that year was
about 10%. This past year, the drastic increase was due to new opportunities such as
the ethanol and sugarcane opportunities. New alternative fuels have gained lots of
popularity, and it has helped agribusiness as an industry grow. In a price commodity
industry new opportunities are not as common when compared to a more innovative
industry. However, the new alternative to natural resources has given the industry a
chance to expand.
0.00%
10.00%
20.00%
30.00%
40.00%
50.00%
60.00%
2004 2005 2006 2007 2008
Percetna
ges
Years
Industry Growth
Industry Growth
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Market share for agribusiness industry has experienced a wide range of growth
rates. The change in growth rates primarily depended on location and consumer
preferences. Consumer preferences could be determined by current economic
conditions. For example, ADM was competing with Valero Energy Corporation for the
right to buy Verasun Energy Corp. Valero was able to beat ADM’s offering, so ADM did
not purchase Verasun Energy Corp (Resnick). ADM was trying to gain in market share
with this new investment. The acquisition was unsuccessful, and ADM did not acquire
Verasun. The agribusiness industry includes a wide variety of products following the
“farm to consumer” chain. The “farm to consumer” supply chain consists of all the
processes involved in the agribusiness industry which include: trade, transport, store,
and processing of food products.
Firms within the agribusiness industry primarily produce fertilizers, edible oil
products, milling products, with grains, soybeans, wheat, corn, sugar cane, and
vegetable oils allowing the industry to compete in a price commodity industry with
several growth opportunities. In The Wall Street Journal, Tony Danby reported Brazil’s
sugar exports are expected to increase 21% in the next year. (Brazil’s Sugar, WSJ)
Concentration and Balance of Competitors
The degree of competition among an industry is determined by the size of each
firm. Furthermore, the concentration can help coordinate pricing and other competitive
actions. If the market share for each firm is relatively equal, the firms will not focus on
price competition as much compared to if there was one dominant firm in the industry.
The Agribusiness industry is very concentrated, and firms are maintaining market share.
ADM has the majority followed Bunge. Corn Products and CHS Inc. remain relatively
small. By having one dominant firm in the industry, price competition will be more
necessary to allow other firms to compete effectively. The chart below shows ADM has
held the dominant position within the industry. Since there is a dominant firm in the
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industry, other firms will have to focus on price competition among other competitive
strategies to gain market share.
(Information derived from all four 10-K’s)
Degree of Differentiation
The extent to which firms in an industry can avoid head-on competition depends
on the extent to which they can differentiate their products and services. (Palepu &
Healy) The Agribusiness industry delivers a homogenous product. With little to no
differentiation between products firms must rely on price competition be successful. If
a firm does not concentrate on cost leadership, they will see demand for their sales
plummet. This is due to the high supply of substitute products in the market.
0%
10%
20%
30%
40%
50%
60%
2004 2005 2006 2007 2008
Market Share in Percentages Over past 5 Years
Bunge ADM Corn Products CHS Inc.
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Switching Costs
Switching costs are the firm’s ability to change where it receives the raw
materials used in production. Lower switching costs give more power to the firms in
the industry to negotiate price. Firms could switch between commodities. Switching
costs would be relatively low due to large supply of commodities around the world.
Many firms in the industry choose to do business in South America because costs are
cheaper. Since there are so many farms it makes it easy for firms to shop the market
and get the cheapest price on raw materials. This is consistent with a cost leadership
strategy.
Economies of Scale
The idea of economies of scale refers to whether a company must be as large as
the other firms it competes with in order for it to be successful. For agribusiness
industry, a firm must compete in the price input and output levels to maintain cost
leadership. Producing large amounts of products and services at a minimal cost allow
larger firms to achieve economies of scale. If there is a dominant firm in the industry it
makes it more difficult for the other firms to survive.
23
(Information derived from all four 10-K’s)
The chart above shows that ADM has highest percentage of total assets and has
an advantage in economies of scale. While analyzing the industry we found that firms
with higher total assets had a higher sales volume. When a firm has a higher total
asset they are able to produce more goods. This is where ADM is realizing the benefit
of economies of scale.
Learning Economies of Scale
Learning economies of scale suggests that firms must have significant knowledge
in their industry to succeed against competitors. In the agribusiness industry, it is
essential to have knowledge about the “farm to consumer” chain. By streamlining this
supply chain firms can reduce waste and increase efficiency. The agribusiness industry
does not normally experience radical jumps in technology because the processes rarely
change. Firms within the industry do not spend more than 1% of their total sales on
0.00%
10.00%
20.00%
30.00%
40.00%
50.00%
60.00%
2004 2005 2006 2007 2008
Total Asset Percentage
Bunge ADM Corn Products CHS Inc
24
research and development. We found no information on new patents in the firm’s 10-
K’s. Research and development is a low priority across the board. Firms learn through
experience, so more established firms have a better advantage.
Fixed-Variable Costs
A fixed-variable cost is dividing estimated fixed-costs by estimated variable costs.
It is an important ratio used when firms are deciding how much to produce and what
price they should charge for it. For firms in the industry, the fixed variable costs ratio
is important because firms own manufacturing facilities not only in the U.S., but
overseas as well. The Addition of storage facilities and expensive equipment lead to
high fixed costs. Variable costs include: raw materials, transport, energy, and
manufacturing. These costs must be carefully planned with cost effective programs.
This leads to high fixed-variable ratio. It makes it necessary for firms to produce large
quantities to maintain their low price strategy.
Conclusion
The Agribusiness industry has a high level of rivalry among firms. Agribusiness is
currently experiencing high levels of growth accompanied with high economies of scale.
Learning economies of scale focuses on the “farm to consumer” supply chain to
streamline costs. Products offered are undifferentiated and contain large amounts of
fixed costs. A high fixed-variable cost ratio makes it necessary for firms to produce
very high quantities to recognize profits. The abundance of farms around the world
enables firms to have low switching costs. Although the industry has a high
concentration, all of the firms are very competitive. This high level of competition
makes it necessary for firms concentrate on cost control and pricing strategies to offer
cheaper prices than the competition.
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Threat of New Entrants
The ease of new entrants entering the market is an important factor for existing
firms in the industry. The threat of new entrant effects profit potential and market
share. If there are abnormal earnings within the industry, then new entrants will be
attracted to enter. More firms in the industry results in an increased level of price
competition. More barriers make it less profitable for new firms to enter the market.
The key factors that determine the degree to which new entrants will attempt to enter
the industry are: economies of scale, first mover advantage, access to channels of
distribution and relationships, and legal barriers. These factors help determine the
threat new entrants will have in the industry against its competitors.
Economies of Scale
Economies of scale will prevent new entrants from entering into the market. The
established firms use economies of scale to drive down average unit cost per unit
through increased production. The small profit margin makes it necessary for firms to
have massive levels of production in order to realize profits. The chart below shows the
total assets over the past five years and they each own millions of dollars in assets.
Since firms in the agribusiness industry are in dominant position it would be extremely
difficult and costly to try to enter in the market.
Total Assets
(In Millions)
Year Bunge ADM Corn Prod CHS Inc
2008 20,230 37,056 3,207 8,772 2007 21,991 25,118 3,103 6,754 2006 14,347 21,269 2,662 4,943 2005 11,446 18,589 2,389 4,727 2004 10,901 19,369 2,367 4,031 (Information is derived from all four 10-k’s)
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Current demand is being met and existing firms are struggling over market
share. ADM and Bunge held 83% of the market share in 2008. This leaves no
opportunity to gain market share or realize profits. New entrants will not have the
resources to compete with the established firms.
First Mover Advantage
The first mover Advantage is the benefit of being the first to open up a new
segment of the market. This allows you to gain a permanent advantage while everyone
else is catching up. “Being the first mover in an industry can have several advantages,
such as setting industry standards, obtaining exclusive arrangements, or acquiring
scarce government licenses to operate.” (Palepu and Healy) The most recent example
of a first mover advantage is the use of commodities to produce alternative fuels.
Technology has helped develop new alternative fuels such as ethanol and sugarcane
that have help fit consumers’ desires. Also, firms have to follow government guidelines
and regulations to farm and produce their food products. Obtaining the proper
information first will allow the firm to adapt to the new rules faster. Being the first
mover will help the firm grow, while other firms will be forced to compete in order to
maintain their market share.
Access to Channels of Distribution and Relationships
A potential problem for new companies attempting to make their way in the
industry can be gaining access to channels of distribution. Establishing key
relationships in any industry is also very crucial. Successful relationships with
customers gain market share. Through outsourcing and building relationships within
the industry, new entrants have a much better chance of quickly adapting to their new
market and being competitive. It is also important to think globally when striving for
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growth. The top firms in the industry conduct business in both the Northern and
Southern hemisphere. This type of globalization helps expand and differentiate the
nature of the industry’s business. It has become much easier today to establish
relationships across the world due to evolved technology without incurring high costs.
In order to gain access to distribution channels it is imperative for firms within an
industry to gain trust with their customers and establish reliable relationships. It may
also be difficult for a small firm to develop relations when the larger firms in the
industry have already established them.
Legal Barriers
Like many large industries, legal barriers play a very large role in limiting entry
into the global agribusiness industry. Government Regulation is a very big risk factor
within this business. Problems that the industry faces can be explained by, “Global
suppliers are challenged to comply with evolving regulations that vary country-by-
country. The issue is becoming even more complicated because of non-harmonized
standards and norms internationally, which can become barriers for some agribusiness
companies to participate in markets, at the same time opening market access for
others” (Poghosyan 124). This article, taken from the International Food and
Agribusiness Management Review, reveals the difficulty of performing around the world
by having to adapt to each country’s individual laws. The industry also is facing many
biodiesel regulations because a majority of the products they make are refined into bio-
fuels. This proves that the agribusiness industry encounters high legal barriers.
Conclusion
In conclusion, the industry faces a very low level of new entrants. The low level
is mainly due to factors such as: Large firms in the industry and high legal barriers. It is
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very difficult for a smaller firm to gain leverage and competitive advantages during
entry because of the nature of this business.
Threat of Substitute Products
Substitute products can be defined as products that are found to be alternatives
by the user. New or existing products can be labeled substitute products. Substantial
investments in research and development are a major factor to the development of
substitute products. Research and development costs in the agribusiness industry are
less than one percent of total sales. In the agribusiness industry there are many
products that are very similar making the industry quite competitive and hard to gain an
advantage.
Relative Price and Performance
In gaining advantages in the agribusiness and food industry, two major factors
include cost leadership and product differentiation. The ability to offer a product at a
lower price than the competition while keeping profits high can be a crucial way to
becoming a leader in the industry. Another way to stand out in an industry is to
develop product differentiation. By being innovative and setting your product apart
from others while providing something more valuable to a consumer is a key way to
gaining competitive advantages in this industry. In the case of oil products, new
government regulation reduced the chances for product differentiation decreasing the
threat of new oil products controlling the market. One might believe that this industry
can tend to be pretty basic by providing certain agricultural food products that haven’t
changed dramatically throughout the years. However, recently with the world now
becoming more health conscious, the industry has been able to increase business by
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spending more time and money on research and development to come up with healthy
solutions of foods and grains. Soon there may be a higher threat of new products but
for the time being, cost leadership and differentiation levels remain low.
Customers’ Willingness to Switch
A buyer’s willingness to switch from an original product in the industry to a
substitute product depends largely on the availability of that substitute and the price at
which it is available. In this particular industry, the threat of substitute products is
relatively low. Due to this fact, a buyer would be less likely to switch to a new product
because they would be skeptical. The products in this industry have been very similar
across the firms making it more of a price driven market. If a rare substitute product
were available it may take longer to become sales worthy because it would have to
prove to be innovative and relevant to the customer. Overall, because the agribusiness
industry has a low threat of substitute products, the buyer would be less willing to
switch from traditional products unless the substitute was substantially different in
price.
Conclusion
In conclusion, the threat of substitute products in the agribusiness industry tends to
be low but possibly increasing with new technology and new product opportunities.
There are few if any substitutes to the types of oil’s, seeded foods, fertilizers, and other
products that this industry provides leaving substitutes little to no threat on the industry
as a whole. This would cause buyers to be less likely to switch to substitute products
without a major difference in price and productivity.
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Bargaining Power of Customers
The agribusiness industry has a wide variety of customers which makes each of
their division’s very competitive. Customers include farmers, retail chains, food service
companies, and food processors. Bunge Ltd’s customers are very important because
with top competitors like ADM, CHS Incorporated, and Corn Products International, the
customers can switch suppliers easily. The industry distributes its products to
companies like animal feeders, restaurants, and retail industries. Much of the industry
has the majority of their customers in Brazil and the rest of South America. Bunge,
ADM, CHS, and Corn Products have farm land in Brazil to produce their products. In
2003, CHS Inc opened an office in Sao Paulo, Brazil to organize and handle their
soybeans and grain marketing operations for international customers (CHS Inc. 10-k).
Each company handles transportation and handling for their products. In turn, proves
to be beneficial for the customers. Since Bunge, ADM, CHS, and Corn Products each
handle a portion of their business in Brazil; customers have a strong bargaining power
to make each company compete for business.
Switching Costs
For most customers, their ability to switch suppliers is very easy because there
are many different companies offering the same products as each other. For instance,
Corn Products claim they are one of the largest agribusinesses in the U.S. (Corn
Products 10-K). Because the firms in this industry offer very similar products, switching
costs for customers within the industry are quite low. If a customer is displeased with
the product of one firm or must switch to a product from a competitor for some reason,
the customer’s switching cost will be low. The costs of these products are low which
also explains why switching from one to another requires minimal costs.
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Differentiation
When assessing the bargaining power of customers, consider differentiation of
products within the industry. In agribusiness, as previously mentioned, the products
have low cost relative to many other industries. The ability to make a product unique
and efficient in this industry takes a lot of research and development because of the
basic nature of the industry’s products. This leads product differentiation to be very
low. When products are this similar throughout the industry, it creates higher
competition among the firms operating in the agribusiness market. When firms have
trouble setting their products apart from each other, differentiation becomes more cost
based meaning firms compete for business through their prices.
Cost and Strategy Importance
Cost and strategy are extremely important when competing for sales in
agribusiness and fertilizers. Since ADM and CHS both compete in agribusinesses in
Brazil, other firms have to rely on price competition. Bunge states in their agribusiness
division, “The markets for our product are highly competitive and are sensitive to
product substitution… Competition is based on price, product, service offerings, and
geographical location”. (Bunge 10-K) The firms within the industry must derive their
own ways to set apart from one another and attract their customers. In this market,
price and costs of production are very important when battling for business. The
strategy in which firms do business with their customers can also set them apart from
the competition. Bunge, as well as the industry as a whole, has to compete in several
areas for each division to compete effectively. They make appropriate leases for
transportation and invest in different ports and storage facilities to “better serve our
customer base and improve our distribution and logistics capabilities”. (Corn Products
10-K) CHS just recently purchased distribution ports in Brazil to better manage the
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international activity, so Bunge has to rely in greater product and service offerings so
that their market share will not decline. (CHS 10-K) As for fertilizer division, Bunge
states, “The Brazilian fertilizer industry is highly competitive. Competition is based
largely on price, quality, and service including customer financing.” (Bunge 10-K) All of
these are examples that can help a firm gain an advantage with their customers.
Limiting costs and improving customer service strategies can set a company apart from
the industry.
Number of Customers
All three divisions in Bunge’s industry are highly competitive, because each
industry offers its products to a different set of customers. Corn Products mainly has
sales towards manufacturers and distributors, while Bunge sales towards restaurants
and retail stores. Even though the two have different sets of customers, they can easily
switch suppliers because they offer similar products. Bargaining power of customers is
very crucial for any firm in the agribusiness industry because there are many different
substitutes for their products. There will always be high demand for the products
provided by this industry, so there will always be customers to serve for. The hardest
thing for firms is to have a great business model so the industry’s customers will be
their customers. By maintaining existing customers and expanding to new customers,
firms will be able to grow with the company and gain in market share.
Volume per Customer
A high sales volume per customer is good for a company because it minimizes
excess account costs and gives the seller more security in their sales. The firms within
the industry can predict how much they will sell because the majority of their customers
do repeat business with them. Due to the nature of their business the oils, fertilizers,
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and foods are purchased by their customers in very large amounts. Each processor or
distributor that buys from this industry buys in bulk. The sales volume per customer in
the agribusiness industry is very high because they are the source to the distributor and
do not have to make small individual sales.
Conclusion
In this industry, customers have relatively high bargaining power because the
costs of the company’s products are relatively low. Switching costs for customers is low
giving them the upper hand in deciding who they do business with. To compete in this
industry the firm has to keep prices low because there is little differentiation between
their products and those of their competitors. This industry also has a high number of
customers and high sales volume per customer which is good for the firm if there are
not many competitors in their industry. Overall, the customers in this industry have
high bargaining power.
Bargaining Power of Suppliers
A crucial aspect of valuing an industry’s attractiveness is assessing the
bargaining power of their suppliers. The suppliers within this industry deal with
companies much larger and more powerful than themselves. The firms in the
agribusiness and food business have more power over there suppliers and are able to
dictate the way they do business with each other. Their suppliers come from countries
with lower value while they do business in countries all over the world. This allows the
firms within this industry to turn higher profits while not paying excess amounts to their
suppliers. By looking at switching costs, differentiation, costs and quality importance,
and the number of suppliers, more information will help determine the supplier’s
bargaining power in the industry.
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Switching Costs
To value the effect of the suppliers bargaining power in this industry, consider
the firms’ switching costs. In a market such as the edible oils food market and other
agribusiness products the ability to switch from one supplier to another is relatively
inexpensive. There is little importance in the technology among suppliers so the
difference between them is minimal. This makes switching costs mainly dependent on
the difference in price and quality. If something were to happen where a company like
Bunge or Archer Daniels Midland had to switch suppliers, they would not lose much
profit or productivity in the move. Similarly, if a Brazilian supplier lost the business of
this type of market, the transition to a new market would prove to be ultimately
inexpensive. Therefore overall switching costs between the industry and their suppliers
is very low and looks to continue that trend.
Differentiation
Another key factor when considering suppliers bargaining power is the
differentiation among the suppliers. If a supplier can set themselves apart from their
competition by creating more productive ways of business and innovative service
techniques more buyers will be likely to do business with them. This could put the
unique supplier in a category all by themselves and would increase their bargaining
power among their buyers. The differentiation among suppliers in the oil food and
agribusiness industry seems to be low because the basis of their work is done through
traditional farming and goods production. There is not much need for innovative
techniques or revolutionary ideas. The suppliers provide a basic service to the industry
and the way suppliers provide this service seems unlikely to change. Differentiation
among suppliers is low making it less likely for them to gain substantial power in
negotiating sales terms.
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Costs and Quality Importance
Cost and quality are very important factors in this industry. Firms provide
consumer goods sold all over the world and must do so at a relatively low price. Due to
this, the firms within the industry strive to seek out suppliers that have a similar motive.
A company like Bunge is in a great position to gain better suppliers at a lower price.
Bunge’s spokesperson Stewart Lindsay said that they are trying to be “more selective”
and control working capital with risk involved during the economic recession (Etter).
Because of a bare financial market, the industry’s firms are searching for suppliers
inexpensive suppliers without giving up the quality of the products they are purchasing.
These suppliers depend very highly on being able to supply their products at the
highest possible grade with the lowest possible cost. This in turn also lowers the
suppliers bargaining power. In this recession, they are doing their best to stay afloat by
conducting business with whomever they can at possibly reduced prices.
Number of Suppliers/ Volume per Supplier
The number of potential suppliers for this industry is exceptionally high. Farmers
cover a high majority of the type of business done in South America therefore
availability is relatively easy when looking for a supplier. In today’s market however, as
business for consumer goods declines, the number of suppliers will continue to
diminish. Products like soybean, grains, fertilizers, and other convertible foods are sold
in high bulk to the industry. The volume purchased from each supplier is extremely
high. This is why most firms in this industry do business with established suppliers
through private financing. Suppliers again show low bargaining power with the high
number of others striving to offer their same business.
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Conclusion
When assessing this industry’s supplier bargaining power we discussed switching
costs, differentiation, cost and quality importance, and the number of suppliers. After
revealing performance in each of the categories we can conclude that overall the
bargaining power of the industry’s suppliers is very low. Larger companies control
suppliers and have the ability to dictate both prices and quality because of the simplistic
products that the supplying farmers provide.
Analysis of Key Success Factors for Value Creation in the Industry
The ability to establish a competitive advantage sets successful companies apart
from the others. It takes more to build value than just having a solid structure.
Companies have to have strong strategic choices in order to compete in such a high
playing field. The business activities that firms select enable them to achieve these key
success factors. When you are choosing a strategic plan there are two different routes
you can take. Firms can choose to compete in cost leadership or differentiation. Cost
leadership is where you drive prices down in production in order to sell as cheap as
possible and still make a profit. Companies produce at such at a high volume, that they
are still able to make a large profit on a small margin. When using differentiation, firms
choose to focus on producing specialty products which allow them to charge a price
premium. The Agribusiness industry is concentrated on cost leadership.
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Cost Leadership
“Products compete with virtually identical or similar products manufactured by
other companies.” (Corn Products 10-K) Every company in the agribusiness industry is
working with a low profit margin and a high volume of sales. This means that cost
leadership is crucial. By selling the most products you gain the most products. With
commodities increasing in price, companies are always looking for a way to cut costs.
Competitive pricing is the name of the game. If a company is not able to compete in
pricing then it will be impossible to stay in the industry. The main components that
drive cost leadership are: economies of scale, economies of scope, efficient production,
simpler product designs, lower input costs, low cost distribution, little research and
development, little brand advertising, and a tight control system. We will now take a
look at each one of these drivers and see how it is used to create a competitive
advantage in the industry. Larger firms find it easier to take advantage of economies of
scale because they have more resources. This makes it much more difficult for smaller
firms to enter into the industry. This exemplifies the competitiveness of the industry.
Economies of Scale
In a cost leadership industry, economies of scale can either make or break a
company. Bunge LTD, ADM, CHS, and Corn Products employ economies of scale across
the board. “Given the commodity-based nature of many of its businesses, the
company, on an ongoing basis, focuses on managing unit costs and improving
efficiency through technology improvements and productivity enhancements. (ADM 10-
K) Concentrating on lowering the long run average cost facilitates companies with
maximizing profits. This, in turn, lowers overall costs. By increasing the amount of
capital used and lowering fixed costs enables firms to produce more at a lower cost.
Fixed costs such as plant and property are already incurred so it is necessary to get as
much production from them as possible. With such a large start up investment
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necessary, it is difficult for new firms to enter the industry. This is why economies of
scale is so important in the agribusiness industry.
Economies of Scope
Whereas economies of scale focuses on minimizing input cost, economies of
scope concentrates on maximizing outputs. These companies take advantage of
economies of scope by using their corn and soybeans for both food products and means
for alternative energy. The industry as a whole is turning its interest to the sugar-
based ethanol markets. They are already so established in Brazil and see the
opportunity to capitalize off the cheaper refinement prices of sugarcane. Firms can
maximize their outputs by using their products for other areas of the industry. “Partially
refined oil is sold for use in chemicals, paints and other industrial products.” (ADM 10-K)
Getting the most out of every dollar is vital in the agribusiness industry. This results in
the highest returns to the company. Economies of scope is a crucial aspect when it
comes to creating and sustaining a competitive advantage.
Efficient Production
Another major factor in maintaining cost leadership is efficient production. In
efficient production you simply turn your inputs into outputs as economically as
possible. They industry can do this by making sure they do not waste any of the
resources they use in production. The Industry takes it soybean and corn food
products and separates them into two groups. What they cannot use for vegetable oil
they split off and turn into animal feed. (Bunge 10-K) This process maintains efficiency
and cuts down on waste. The Industry also makes different types of fertilizers which
offer different levels of quality. The mines contain everything from potash to triple
superphosphate which is far more precious. Extracting all of these minerals from the
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same mine is a solid example of efficient production. Streamlining production facilities
can cut back on excessive waste. “We have preventive maintenance and de-
bottlenecking programs designed to maintain and improve capacity and facility
reliability.” (Corn Products 10-K) By implementing plans like this, the industry can
eliminate waste and achieve more efficient production.
Input Costs
Lowering input costs is a key component to having more control over your
pricing. The Agribusiness industry’s main input is commodities. “In any single year, the
availability and price of these commodities are subject to unpredictable factors such as
weather, plantings, government programs and policies, changes in demand, and
changes in standards of living.” (ADM 10-K)
Transporting overseas is directly affected by crude oil prices since the freighters
run off gasoline. Companies also engage in hedging to protect themselves from losses.
“The company uses derivative contracts to fix the purchase price of anticipated volumes
to be purchase within the next month, to fix the company’s gas requirements. The
change in value has historically been highly effective at offsetting changes in price
movements.” (ADM 10-K) In the fertilizer segment it is important for companies to
ensure that they are using the most efficient means of extracting the minerals from the
earth. If a mine is not rich with phosphate and other minerals then the company might
be paying more than they would to buy the fertilizer off another company. All of these
factors determine the ways that firms can lower input costs.
Distribution Costs
Distribution costs are one of the main areas of strategy that provide a
competitive advantage in this industry. Distribution costs are defined as costs
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associated with the holding of inventory and the shipment of goods to customers. The
ability for a company to ship its product efficiently drives down cost. Firms in the
Agribusiness drive down cost by minimizing the cost tied up in distribution. “Since
products are shipped mainly in bulk the company has developed a transportation
system utilizing trucks, railcars, river barges, and oceanic vessels to efficiently move
commodities and processed products anywhere in the world.” (ADM 10-K) With
operations in Brazil, the U.S.A., Europe, Canada, Argentina, and Asia Distribution costs
must be carefully planned in order to avoid waste. Shipping goods around the world
can be a huge expense. Last year the industry spent approximately 5-6% of its net
sales on distribution. If a firm can obtain cheaper distribution costs then it will
definitely see a competitive advantage in the industry.
Research and Development
Most commodity industries use little research and development. The
Agribusiness industry is driven by cost leadership. With already low margins, there is
no room to sacrifice earnings. The experience of the industry is that R&D is not an
effective tool to enhance overall profitability. Compared to total sales, the amount
designated to research and development is less than one percent industry-wide.
Tight cost control system
A tight cost control system is way to keep track and monitor costs in a company
or project. Here the goal is to eliminate unnecessary spending to have the largest
profit margin possible. By following all of these key success factors, firms are able to
utilize a tight cost control system. If a firm only concentrates on one or two of these
key success factors they will not have a tight cost control system. However, you do not
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want to be so concentrated on cost control that it affects the quality of the finished
product. Obtaining a successful cost control system will add substantial profits for
firms. Tight cost control is a constant battle in the Agribusiness industry. “Significant
increases in the cost of (commodities) could adversely affect the company’s production
costs and operating results.” (Corn Products 10-K)
Firms also need to focus on manufacturing methods that reduce cost.
Economies of scale allows firms to minimize input cost due to the high volumes of
production. If any more steps are being taken than are absolutely necessary the firms
are watching their bottom line get chipped away.
Differentiation
Firms in an industry can also choose to compete in a different level of
competition known as differentiation. In differentiation you focus on: product variety,
customer service, more flexible delivery, product variety, brand image, research and
development, innovation, and product creativity. When a company is focused on
differentiation they believe that it is necessary to spend money to make money. These
ideas do not coincide with the Agribusiness industry because it is a cost leadership
industry. The industry does imply a very small portion of these ideas. These include:
superior product quality, investment in brand image, and investment in research and
development. Although they play a small part, these drivers contribute to a competitive
advantage.
Superior Product Quality
The Agribusiness industry tries to deliver the best quality of food at the best
possible price. They control their product quality by obtaining the highest quality
products from the field. However, since they make their own corn and process their
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own fertilizer there is no room to expand the search for quality. Every competitor in the
industry is pleased with the goods they buy. Once they have good corn or minerals,
there is not much more benefit they can realize.
Investment in Brand Image
The best brand image for this industry is the food and fertilizer you distribute.
Packaging is more of a necessity than an area for marketing and gimmicks. The best
way to have a good brand image is to sell high quality products. Investing large
amounts of money into a program like this would not have any beneficial returns.
Investment in Research and Development
In the Agribusiness, Fertilizer, and corn refining industry research and develop
has its place, but it does not compare to say an industry such as information
technology. It is beneficial to search out new opportunities that will add value to the
business the potentially generate income, but an overexposure in this segment of the
market would cost the firms an unrealistic amount of capital. ADM has recently teamed
up with ConocoPhillips to “develop transportation fuels from agriculture, forestry, and
crops grown specifically for energy. This development effort is focused on the
production of bio-crude oil that can be used by conventional petroleum refineries to
produce transportation fuels.” (ADM 10-K) ADM is involved with the project but the
cost is being paid for by ConocoPhillips. Limiting investment in R&D is more cost
efficient for the industry.
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Conclusion
As we stated earlier, the Agribusiness, fertilizer, and Corn Products industries and
driven by cost leadership. Each firm must seek out a way to keep costs at a minimum
and sell at huge volumes to recognize a profit. By focusing on cost leadership to create
competitive advantage a firm will seek to be as steam-lined as possible. Waste is a
thief to the industry and firms must constantly seek it out and destroy it in order to
compete in any of these industries. We looked in detail to each of the separate factors
that play a role in cost leadership and determined that opportunity was contained in
each of them. We also looked at the aspects behind differentiation and explained why
a company could not focus on those factors and expect to make it in the industry.
Firm Competitive Advantage Analysis
The commodity based industry of agribusiness creates a highly competitive
environment. Bunge focuses on a cost leadership strategy to realize the highest gains
possible. Now, we will explain how Bunge uses the key success factors to produce a
competitive advantage. Establishing and maintaining a competitive advantage gives
Bunge the opportunity to increase profits and market share within the industry.
Cost Leadership
Every company in this industry is trying to have control in each process in the
production process so they can obtain the highest profits possible. By selling the most
products you gain the most profits. With the volatility of the markets especially the
price of crude oil companies are always fighting each other to be able to sell the
finished product for as cheap as possible. Competitive pricing is the name of the game
and if a company is not able to compete with their prices then it will be impossible to
44
stay in the industry. The main components that drive cost leadership are: economies of
scale, economies of scope, efficient production, simpler product designs, lower input
costs, low cost distribution, little research and development, little brand advertising, and
a tight control system. We will now take a look at each one of these drivers and see
how it is used to create a competitive advantage.
Risk Factors
By using a cost leadership strategy Bunge Limited primarily focuses on cost
control. This puts a lot of pressure on executing a proper cost control model. Bunge
hedges against energy and commodity prices to protect themselves from unexpected
changes in the market. “We use net investment hedges to mitigate the translation
adjustments arising from re-measuring our investments.” (Bunge 10-K) Cost leadership
depends on volume sales to achieve maximum profitability. This is due to the low
margins and the low switching costs of customers. If Bunge increases its prices, then it
will not be expensive for their customers to go somewhere else for their business. With
these low switching costs in place it can be very difficult to maintain market share.
Bunge can also suffer loss of their market share if they do not implement efficient
production. Bunge has no room for waste in any part of its production. Bunge has
other “risk factors that include: trade barriers, inflation and adverse economic
conditions, changes in laws and regulations, exchange controls, and increased
government ownership.” (Bunge 10-K)
Core Competencies
A firms core competencies dictates their competitive strategy. Bunge states that
their core competencies include an “individual initiative to meet opportunity and deliver
results; contribution to the development of individuals and the social and economic
45
fabric of our communities; maintain alliance relationships; and honesty and fairness
guide their every action.” (Bunge 10k) Bunge’s core competencies are very much
implemented in the cost leadership strategy. Bunge is the only company out of its
competitors that is registered in Bermuda instead of the U.S. to receive the tax breaks
associated with not being incorporated in America. Bunge also implements drivers from
the economies of scale and scope to develop their core competencies. Other key
success factors that engrain core competencies include input costs and distribution
costs. We will explain each in greater detail.
Economies of Scale
Economies of Scale are arguably one of the most important factors of the cost
leadership strategy. With a commodity based industry, competition is primarily based
on price. One of the ways to lower price is through economies of scale. The industry
itself uses economies of scale to drive down long run costs. Bunge is committed to
enlarging economies scale. For example, In 2008, Gross profit increased 44% as a
result of stronger margins across most of our agribusiness portfolio. This was due to
the 3% increase in volumes.” (Bunge 10-K) This demonstrates how crucial economies
of scale is for Bunge. A 3% addition in volume contributed an extra return of 44% to
gross profits. Bunge takes advantage of economies of scale in hopes of more
aggressive growth for the company.
Economies of Scope
Bunge is in a great position to expand with low switching cost. We stated
previously that Bunge gets the most out it oil seed refinery by separating the inedible
oils apart from the others and selling for different uses. This makes a profit off of what
would be considered waste for some of the other companies in the industry. With their
46
farm land in Brazil, Bunge is able to adjust to the demand of their products. In 2007,
Bunge expanded their business to the sugar cane industry to expand on alternative
fuels. This will allow the company to switch their production costs a small bit and try to
expand in a different field. Bunge is in a great position to meet the demand of new
opportunities at a low switching cost to help expand their market cap. Expanding the
market cap will help Bunge exceed some of their top competitors such as ADM.
Efficient Production
Efficient use of the asset is very important for a competitive advantage. Bunge is
very selective with their land and the multiple uses they have for them. As stated
earlier, Bunge will produce edible oils but what is not used can be used to help produce
fertilizer and animal feed. Being efficient allows Bunge to expand their market cap
without incurring additional expenses in their operations.
Input Costs
Input costs have helped Bunge to gain market share from suppliers. By offering
private financing to farms, Bunge has been able control supply and manage raw
materials. Controlling raw materials allows Bunge to meet the demand in a low cost and
efficient way. Bunge is exposed to the risk of fluctuating commodity prices; being able
to adjust production in relation to the change in demand offers a competitive
advantage. Corn prices have increased since 2007 due to the new demand for ethanol,
as an alternative fuel. Bunge is able to obtain their corn for a cheaper price because
they finance the farms that grow it for them. This allows Bunge to keep input costs
low, which is very important because you cannot pass the extra expense of
commodities to the customer. They will just buy their products from another producer.
The agribusiness is very price competitive because there are many substitute products
47
consumers can switch to, so Bunge has to provide dependable products at a low price
in order to continue to gain in market capitalization.
Distribution Costs
With there being such low profit margins in the agribusiness industry,
distribution costs are a major factor in improving profit margins. Bunge hedges against
energy prices to cover the volatility involved with shipping goods across the world.
Without hedging, the company would be much more vulnerable to changes in oil prices.
With Bunge having a global manufacturing presence it helps to lower the distribution
cost significantly. Bunge is able to lower costs by shipping out agricultural commodities
on the same ocean vessels that they have their own fertilizer brought in by. Another
way Bunge is able to lower their distribution cost is by having their own mines in Brazil
which lowers their importation of raw materials. “To better serve our customer base
and improve our distribution and logistics capabilities, we have made and will continue
to make selective investments in port logistics and storage facilities.” (Bunge 10-K)
Research and Development
Research and development costs help Bunge expand competitively by helping to
improve on crop production. The expense is to help with the production from raw
materials that will benefit all divisions. Bunge is not a differentiation industry that
specializes in anything; however they do focus on enhancing their products so that they
will be dependable. If the research and development succeeds, Bunge will be able to
expand their market cap and use their resources more efficiently in the future.
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Differentiation
The amount of differentiated products and services that Bunge incorporates into
their business strategy is very small but unique. For example, Bunge is one of the
market leaders in packaged vegetable oils worldwide. They have become very
successful in Brazil because of brand image. The brand Bunge Pro is the top
foodservice shortening brand in Brazil. In the United States, Bunge’s Elite brand is one
of the leading foodservice brands of edible oil products. In addition, to address
customer demand in the United States, we have broadened our portfolio of edible oil
products which contain no or low levels of trans-fatty acids, to include NutraClear low
linolenic soybean oil, as well as palm oil and palm oil blends, and other solutions.
(Bunge10-K) Bunge has differentiated their products and offered more brands in more
countries which ultimately provides them with a competitive advantage in the industry.
Research and Development
Bunge focuses their research and development activities on developing products
and optimizing techniques that will drive growth and otherwise add value to their core
business lines. To develop and enhance technology and processes associated with food
product development Bunge has several research and development centers located in
the United States, Brazil, and Hungary. With such a strong global presence Bunge is
able to engage in the different cultures of the world and make unique products. Bunge’s
total research and development expenses were less than one percent of total sales the
past five years. As of December 31, their research and development organization
consisted of approximately 133 employees worldwide. (Bunge10-K)
Bunge owns trademarks on several of the brands they produce and has patents
covering some of their products and manufacturing processes in their fertilizer divisions.
Bunge typically obtains long-term licenses for the remainder. “We believe we have
49
taken appropriate steps to be the owner of or to be entitled to use all intellectual
property rights necessary to carry out our business.” (Bunge 10-K)
Flexibility of Delivery
Bunge has a competitive advantage in the agribusiness industry because of very
flexible modes of transporting their products, including trucks, railcars, river barges, and
ocean vessels, which they generally lease, and transportation services provided by truck
lines, railroads and barge and ocean freight companies. “Bunge has several storage
facilities all over the globe which helps to better serve their customer base and
improves the distribution and logistics capabilities of the firm.” (Bunge10-K) Having
these necessary facilities increases the promptness of delivery and the customer’s
dependability of the firm. Having such strong capabilities of delivery gives Bunge a
competitive advantage in the industry.
Conclusion
In a cost leadership strategy competitive pricing is the name of the game and
the company that has the lowest price will ultimately have the competitive advantage.
Bunge is able to maximize its economies of scale by growing and mining most of their
goods. Through efficient production of goods and services and low input costs, Bunge
is able to make a profit even though the margin is so low. Research and development
plays a small but beneficial role. By hedging, Bunge reduces its risk and protects
themselves from sudden jumps in input prices. These business activities give Bunge
their niche in the market.
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FORMAL ACCOUNTING ANALYSIS
Accounting analysis is essential and should be considered by analysts when
attempting to value a firm. By analyzing a firm’s accounting structure, we can better
understand how firms show the effects of their business activities. “The purpose of
accounting analysis is to evaluate the degree to which a firm’s accounting captures the
underlying business reality.” (Palepu & Healy) Firms must adhere to Generally
Accepted Accounting Principles (GAAP) that was established by the Financial Accounting
Standards Board (FASB). These principles are strictly enforced by the Securities and
Exchange Commission (SEC) and supported by the Sarbanes-Oxley Act of 2002, which
requires firms to be audited by third parties. GAAP gives managers the responsibility of
reporting estimates and numbers representing their firm’s financial conditions.
However, under GAAP managers have flexibility in how they estimate and report those
accounting numbers.
Potential investors should be aware that managers have incentives to report
distorted information. In many instances, managers have overstated net income to
present stakeholders a more favorable depiction of their firm’s financial health. Other
cases have included attempts to reduce earnings to alleviate tax expense. Under GAAP
regulations, companies have successfully distorted their accounting information in order
to appear more profitable. Users of financial statements need to understand that
deception is prevalent in corporate accounting due to the flexibility GAAP allows.
However, by performing an accounting analysis we will be able to identify a particular
firm’s key success factors and whether or not the company has distorted its accounting
data.
Six steps must be performed in order to accurately complete an accounting
analysis. Each step builds on the previous one and will eventually leave analysts with
the decision of whether a restatement of financial statements is necessary. Restating
financial statements is only needed if it is clear that managers have manipulated their
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accounting numbers to portray a better financial position. By following these steps,
potential investors are able to see distorted information and uncover the true financial
position of a firm. The six accounting analysis steps are as follows:
1. Identify Key Accounting Policies
2. Assess Degree of Potential Accounting Flexibility
3. Evaluate Actual Accounting Strategy
4. Evaluate the Quality of Disclosure
5. Identify Potential “Red Flags”
6. Undo Accounting Distortions
Identify Key Accounting Policies
By using the key success factors we identified earlier, we can view key
accounting policies that drive value in the industry. Bunge strives to create a
competitive advantage by using key success factors that include economies of scale,
low input cost, and low distribution cost. Subsequently, these successful aspects have
resulted in tight cost control. There are two types of key accounting policies that will
be taken into consideration. Type one policies include disclosure of economies of scale,
low cost distribution, and low input cost. The second type of key accounting policies
relate to goodwill, hedging activity, pension plans and other postretirement benefits,
and disclosure of operating versus capital leases. By looking at each accounting policy
individually, it is possible to define industry standards and see how firms report their
value creating activities.
Type One Key Accounting Policies
The agricultural business and fertilizer industries are both classified as cost
leadership industries. Since all firms in the industries sell commodity products, firms
must make profits by selling high volumes while maintaining low production costs. By
52
examining gross profit, it is possible to see how firms are able to keep costs low in
order to maximize profits.
The graph above illustrates the gross profits each firm in the industry reported
over the past five years. It is evident that Archer Daniels Midland and Bunge are
maximizing gross profit. Corn Products and CHS Inc. are smaller firms and do not
compete in as many business sectors as ADM and Bunge. Therefore, their gross profits
are substantially lower than the larger companies. Bunge’s gross profit has steeply
increased since 2006 and is currently bringing in more revenue than Archer Daniels
Midland. This is notable because Archer Daniels has a much larger market share
compared to Bunge. Archer Daniels’ net sales are on average thirty-five percent
greater than Bunge’s. (Bunge & ADM 10-K’s) This means that Bunge is making higher
profits on less sales. We believe that this is a great advantage for Bunge. The graph
also indicates that larger firms are able to achieve economies of scale.
Another type one key accounting policy is disclosure of low cost distribution.
Unfortunately, it is not required for companies to disclose how much money they spend
on transporting their products. It is only possible to judge whether or not firms are
driving value by keeping distrubution cost low if managers have chose to disclose such
$‐$500.00
$1,000.00 $1,500.00 $2,000.00 $2,500.00 $3,000.00 $3,500.00 $4,000.00 $4,500.00 $5,000.00
2004 2005 2006 2007 2008
Millions
Gross Profit
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
53
information. Bunge has stated they minimize costs in their fertilizer segment by
producing fertilizer close to customers in Brazil. The amount of discussion that is
provided for investors is minimal and can be deemed unsatisfactory. Archer Daniels
Midland and Bunge both revealed that their firms use a variety of transportation
methods to move products more effieceintly.(Bunge & ADM 10-K)
Type Two Key Accounting Policies
Type two key accounting policies include goodwill, hedging, pension and
postretirement plans, and operating vs. capital leases. Depending on the way managers
choose to state these policies, they can cause dramatic effects on the financial
statements of a firm. Manager’s do not always report the numbers that accurately
reflect the firms true performance. Bonuses and appeasing shareholders to maintain
job security can distort the choices made on reflecting the company’s performance on
paper. This is why it is neccessarry for us to examine each aspect and expose any “red
flags”. From there, if we find that the numbers are significantly affected we will restate
the financials. This allows us to analyze the true performance of the firm.
Goodwill
Goodwill is created when one company buys another. Goodwill is defined as the
difference between the acquisition price of the company and the fair value of a firm’s
assets. Goodwill is an intangible asset and can is reported on the balance sheet. When
estimating goodwill, managers must follow No. 142 of the Statements of Financial
Accounting Standards (www.fasb.org). This clause states that “managers must test
goodwill for impairment on a yearly basis. If an impairment has incurred, goodwill must
be written down and expensed in the current period.” An impairment occurs when the
book value of an asset exceeds the fair value.
The following graphs show how much goodwill each firm reported over the past
five years as well as the amount of goodwill reported as a percentage of total long term
assets.
54
Goodwill 2004 2005 2006 2007 2008
Bunge $167,000,000 $176,000,000 $236,000,000 $354,000,000 $366,000,000
ADM $337,474,000 $325,167,000 $322,292,000 $317,000,000 $506,000,000
Corn Products $353,000,000 $359,000,000 $381,000,000 $426,000,000 $374,000,000
CHS Inc. $26,896,000 $3,291,000 $3,904,000 $3,804,000 $3,804,000
These graphs show that goodwill is significant in the industry. Since companies
frequently aquire other firms, goodwill is expected to be high. After examining goodwill
as a percentage of long-term assets, the percentage that Corn Products posts is
alarming. We will define any percentage that exceeds ten percent as evidence that the
firm is overstating assets. Overstating goodwill will also understate expenses, which
leads to overstating owners equity. This is shown in the figure below.
Assets = Liabilities + Owners Equity (Revenues – Expenses = Net Income)
O NE O NE U O
Goodwill as a Percent of LT Assets 2004 2005 2006 2007 2008
Bunge 3.9% 3.6% 4.0% 4.7% 5.0%
ADM 3.7% 3.7% 3.4% 3.2% 4.4%
Corn Products 20.7% 21.1% 20.9% 21.2% 19.1%
CHS Inc. 1.3% 0.2% 0.2% 0.1% 0.1%
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Hedging
In any multinational or commodity industry, it is important for companies to
hedge. Hedging is defined as “making an investment to reduce the risk of adverse price
movements in an asset.” (Investopedia.com) Hedging is a key accounting policy for the
industry because it is crucial in order to sustain profitability. Firms are exposed to
several risk factors and hedging can reduce the risk the companies must bear. Bunge
states that they hedge by using derivatives and other financial instruments. These
financial instruments would generally be futures contracts. Futures give the right to
firms to buy or sell a specific amount of something at a specific price, in a stated period
of time. Companies also enter into option contracts, which are similar to futures except
they do not guarantee the contract. Under the option contract firms may only have the
ability to buy or sell at a specific price. Derivatives are defined as “a security whose
price is dependent upon or derived from one or more underlying assets.”
(Investopedia.com) “Anticipating market developments and engaging in the hedging of
risk exposure is critical to protect and maximize our return on assets.” (Bunge 10-K)
Firms must hedge against energy costs, commodity prices, foreign currency and interest
rates.
Pension and Postretirement Benefit Plans
In order to attract employees companies offer pension and other post-retirement
benefit plans. Pension and post-retirement benefit plans are what a company has
promised to pay employees after they end working for a firm. These plans are reported
as liabilities on the balance sheet. Firms also report the amount of assets they set aside
in order to pay for future benefits. There is a wide range of flexibility given to
managers in reporting pension and other post-retirement plans.
Because the firm is valuing a future obligation, they choose a discount rate in
order to state the present value of the liability. The higher the discount rate a manager
uses to estimate the liability, the lower the present value will be. Managers also choose
the rate at which they believe the assets set aside to pay future obligations will grow.
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The higher the growth rate reported by firms, the greater the present value of the
stated assets.
Pension benefits and other plans can be a major expense to a firm. Due to the
fact that firms in the industry compete on cost leadership, managers will have
incentives to lower their estimates. Later, we will examine the discount and growth
rates each firm reported over the past five years.
Capital vs. Operating Leases
Firms can choose to lease equipment instead of actually buying the asset.
Companies lease assets from other companies to help create value. There are two
types of leases: capital and operating. A capital lease is found on the balance sheet
both as an asset and liability for future payment. The leases are recorded at the present
value of future payments. Capital leases are depreciated over the life of the lease.
Operating leases on the other hand are “off balance sheet” assets. Operating leases
are not recorded as an asset or liability on the financial statements. Instead, these
leases are disclosed in the notes of the financial statements. “Bunge routinely leases
storage facilities, transportation equipment and office facilities under operating leases.”
(Bunge 10-k) Payments for operating leases are expensed in the current period over
the life of the lease. A trend in the agricultural business industry is to use operating
leases. By doing this firms can lower the liabilities reported on their balance sheets.
Degree of Potential Accounting Flexibility
When performing an accounting analysis on a firm or industry, it is important to
understand the amount of flexibility managers have when reporting consequences of
business activities. Managers should use flexibility in order to show a true indication of
their firm’s financial position. However, managers can also use flexibility in order to
distort financial reports. When managers use flexibility to distort financial statements,
potential investors are not able to see the actual value of the firm. In this section we
57
will examine the amount of flexibility managers’ have in relation to the key accounting
policies.
Goodwill
Goodwill occurs when one company buys another. The difference between the
acquisition price and the fair value of a firm’s assets is defined as goodwill. Goodwill is
an intangible asset found on the balance sheet. As we stated earlier managers must
follow No. 142 of SFAS that explains how managers must test goodwill for impairment
on a yearly basis (www.fasb.org). If an impairment has incurred, goodwill must be
written off and expensed in the current period. An impairment occurs when the book
value of an asset exceeds the fair value. Though managers are required to test
goodwill for impairment on an annual basis, they still have to estimate fair value. Fair
value is a totally arbitrary number so it is impossible to regulate the amount of goodwill
that should be recognized each year. This makes goodwill an area of high flexibility for
managers.
Generally, when goodwill is greater than ten percent of total long term assets,
goodwill should be written down through impairments. If goodwill does exceed ten
percent of total long term assets, then a firm is overstating its assets and owners
equity. Firms can appear to be stronger by not impairing goodwill in order to keep their
total assets and owner’s equity large.
Hedging
When accounting for derivatives and other hedging instruments, managers have
little to no flexibility. SFAS states that firms must, “recognize all derivatives as either
assets or liabilities and measure those instruments at fair value.” (www.fasb.org) Firms
report derivatives and other financial instruments at quoted market prices, mark to
market. This leaves no room for companies to try to over or understate the value of
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these items. SFAS provision 161 further mandates how firms disclose financial
instruments. As ADM states, “SFAS 161 requires an entity with derivatives to disclose
how and why it uses derivative instruments; how derivative instruments and related
hedged items are accounted for under SFAS 133; and how derivative instruments and
related hedged items affect the entity’s financial position, financial performance, and
cash flows.”(ADM 10-K) Firms are currently not required to meet the standards of SFAS
161, but the provision will become mandatory in 2009.
Pension and Postretirement Plans
Managers have an enormous amount of flexibility when it comes to pension
plans and postretirement benefits. Estimates are used in order to discount the future
liability of the firm to pay their former employees. The larger discount rate used to
discount future liabilities, the smaller current liability reported on the balance sheet.
Managers must also estimate the return on assets they have set aside to pay for these
future liabilities. Again, if the firm uses a larger estimate on return on assets, then they
can overstate the return they expect to receive from their planned assets set aside to
cover future payouts to their employees. By simply raising the discount rate used to
calculate future liabilities, managers can understate their firm’s liabilities by millions of
dollars. Planned assets set aside to pay future obligations can also easily be
manipulated by overstating the projected growth rate of the assets.
The actual future amount of money firms will have to pay in pension and other
post-retirement plans is uncertain. The flexibility in defining future obligations is an
important area to pay attention to. When comparing industry trends it is easier to
identify if one or more firms is manipulating their estimates in order to falsely represent
a stronger firm.
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Capital vs. Operating Leases
Firms have a great deal of flexibility when disclosing leases. They can either use
operating or capital leases. By using an operating lease instead of a capital lease, firms
can lower liabilities and assets. This can give a distorted view of the firm for investors.
Capital leases are depreciated over the life of the lease; however operating leases are
expensed under operating expense. By choosing to use operating leases, firms will
report higher levels of expense. This leads to lower levels of reported net income. The
flexibility in leases gives the managers the option of lowering liabilities and assets, at
the cost of reporting lower net income. By changing a capital lease to an operating
lease, firms will report lower net income. This amount will exceed the total of
depreciation and interest expense of a capital lease. Recognizing whether or not
managers are using leases in a way to distort financial statements will be further
analyzed in the following section.
Evaluate Accounting Strategy
To truly understand a firm’s accounting strategy it must be compared to its rivals
in the industry, and compare the level of information disclosed in the management’s
discussion. This makes it possible to see if the firm is following the industry norms and
recognize any unusual trends over time. Managers can use the flexibility of accounting
“to either communicate their firm’s economic situation or to hide true performance”
(Palepu & Healy). Quarterly bonuses and maximizing profit both provide managers with
the incentive to distort the financials; by analyzing the performance over a five-year
period allows us to paint an accurate picture of the firm’s overall health. There are two
main topics to assess a firm’s actual accounting strategy that we will concentrate on.
The first area of concentration will focus on how transparent the firm’s financial
statements are and what level of disclosure they present to investors. In a high-
disclosure company the management explains in great detail the events and policies
60
that have impacted the firm significantly over the past year. Details involving: goodwill,
hedging, operating leases, and pension and postretirement plans all impact the firm but
are not required to be stated in the financials. It is left to the discretion of the
management team to decide whether or not these details are mentioned. Choosing not
to explain the activities would classify the company as a low-disclosure firm. These
low-disclosure firms only provide the minimum requirements to satisfy GAAP.
The second area of focus is to determine how aggressive or conservative the
firm is with their accounting policies. Aggressive accounting leads to inflated net
incomes and understated liabilities. Managers use aggressive accounting to take
advantage of incentives such as quarterly bonuses to enhance their personal well-being.
It also can lead to an inflated share price. Conservative accounting can lead to
understating earnings, but can also benefit a firm by minimizing tax expense. Both
strategies have their own advantages and disadvantages and it is entirely up to the
individual firm to decide which is most beneficial.
Goodwill
How companies record goodwill is an important factor to evaluate when
examining accounting strategy. Goodwill is found on the balance sheet listed as an
intangible asset. To discover the accounting strategy of a firm regarding goodwill, it is
important to look at how much the firm impairs goodwill over a five year basis. The
following graph represents Bunge’s reported goodwill and the amount of impairment
the company stated for the year.
GOODWILL‐BUNGE
2004 2005 2006 2007 2008
Goodwill $167,000,000.00 $176,000,000.00 $236,000,000.00 $354,000,000.00 $366,000,000.00
Impairment $0.00 $0.00 $0.00 $13,000,000.00 $0.00
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Goodwill increase when firms acquire new companies. Impairments should normally
happen often. If impairments are rare, it can be a sign that a company is trying to
overstate their assets. The single impairment of 13 million dollars in 2007 is a sign that
Bunge is very aggressive when accounting for goodwill. Bunge does give segment
discloser. This helps investor get a true sense of the firm. Bunge also discloses how
much goodwill was acquired in each segment. It is a generally accepted rule that you
will need to restate financial if goodwill divided by long-term assets gives you
percentage greater than 10. Bunge has never been close to this threshold so no “red
flags” are found in their goodwill.
Hedging
As stated before, firms have minimal flexibility when disclosing hedging activity.
Financial instruments are disclosed as either and asset or liability in the balance sheet.
Any gains or losses are recognized in comprehensive income. Hedging instruments are
measured at fair market values. With the addition of SFAS 161, in 2009, disclosure on
hedging will become more expanded. Since hedging has a low standard of flexibility, it
is not possible to asses if Bunge is aggressive of conservative.
Pension and Postretirement Plans
When evaluating a firm’s accounting strategy involving pension and other post
retirement plans, it is important to look two aspects of their discloser. First, we will
examine the discount rate the firm uses to calculate the present value of future
obligations. The higher the discount rate used by the firm, the lower future liability
they are reporting. By examining the discount rates used by the industry, it is possible
to see if Bunge is being aggressive or conservative. The second step is to look at the
growth rate each firm discloses. The growth rate relates to what the firm predicts the
assets set aside to pay future obligations will increase year to year. The following graph
shows discount rates report by each firm. All information was taken for each firm’s 10-
K.
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DISCOUNT RATES 2004 2005 2006 2007 2008
Bunge 6 8.05 7.9 7.85 7.85
ADM 5.6 5.4 5.5 5.5 5.6
Corn Products 6 5.5 5.33 5.85 6.47
CHS Inc. 6.4 5.25 6.05 6.25 6.25
Based on the previous table, it is evident that Bunge is being very aggressive by
using high discount rates. Another important fact disclosed in Bunge’s 10-K is there use
of different discount rates for U.S. and foreign employees. The discount rate shown in
the table above is an average of these two rates. In past years Bunge has used
discount rates for foreign employees far exceeding the rate used for U.S. employees. As
an example, in 2007 Bunge used the rate of 6.0% for the U.S., and a rate of 9.7% for
foreign employees. Bunge never discloses why there is such a drastic difference in
rates used. The following table shows the growth rates stated on each firms 10-K.
GROWTH RATES 2004 2005 2006 2007 2008
Bunge 8 8.3 8.3 8 8
ADM 7.4 7.3 7.2 7.2 7.6
Corn Products 7.5 7.25 7.13 7.23 7.25
CHS Inc. 9 9 4.5 4.5 4.5
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Bunge is also being aggressive regarding growth rates. The higher growth rate a firm
uses, the more they are estimating they have to cover future obligations. Bunge uses a
growth rate far exceeding the industry norm.
Discount rates used to calculate other post retirement plans is also aggressive
compared to the industry. Discount rates used by firms for other postretirement plans
are shown below. All information was taken from firms 10-K’s.
Bunge did not have other post retirement plans until 2005. Also, Corn Products
has never had any other post retirement plans for employees.
Operating Leases
As previously mentioned, firms can use operating or capital leases. Operating
leases are “off-balance sheet” transactions which show up as operating expenses on the
income statement. Capital leases are found on the balance sheet under assets and
liabilities. By using strictly operating leases, it might be evident that a firm is
understating liabilities and assets. Bunge is a firm that only uses operating leases. To
test if this is aggressive, we will compare the present value of future operating lease
obligations. Bunge states that the maximum future payment for operating leases will
be 36 million dollars. By using Bunge’s pension plan discount rate to find the present
value of operating lease, we can compare the present value to long term debt. The
average discount rate Bunge states for U.S. and foreign pension plans is 7.85%. Bunge
Disc. Rate‐Other Benefits 2004 2005 2006 2007 2008
Bunge N/A 8.65 8.05 7.95 7.95
ADM 5.8 5.8 6 6 6
Corn Products N/A N/A N/A N/A N/A
CHS Inc. 6.4 5.25 6.05 6.25 6.25
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also states that their operating lease expire in 2010. Because of this, we will divide the
future obligation of operating lease into two years and discount them back to present
value.
Present Value = [(18/ (1.0785)) + (18/ (1.07852)]
Present Value = 32.18 million (rounded up)
Now, we will compare this number to long term debt. If the ratio exceeds 10%,
then we believe that Bunge is clearly being aggressive in the using operating leases.
Based on the present value of future operating lease expenses, Bunge is clearly
not using operating leases inappropriately. Bunge is conservative when evaluating
operating leases.
Qualitative Disclosure
It is important for analysts to evaluate the quality of disclosure when performing
firm valuations. Because managers disclose the consequences of a firm’s economic
activities, it is essential to determine the degree of relevant accounting information that
has been made available. Although GAAP has established a minimum level of
accounting disclosure that must be met, managers have the ability to report only as
much as they are required to. When more information is available to analysts, it
increases accuracy and produces a better estimate of true performance. Overall the
extent of disclosure that Bunge presents is good and the financial statements measure
a fair level of transparency.
Present Value of Operating Leases 32.18 million
Long Term Debt 3435 million
Percentage (%) 0.9%
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Goodwill
Many firms report goodwill as a significant portion of their long-term assets.
Therefore, it is important for companies to provide stakeholders sufficient information
on their goodwill and the way in which it is increased and impaired. Bunge discloses
ample data on its goodwill for several different accounting periods in every annual
report. The firm provides users with a breakdown of the manner in which goodwill is
obtained, impaired and impacted by tax benefits. Annual impairment tests are explained
in detail as being performed in the fourth quarters of each fiscal year. Because of the
range of business sectors that Bunge competes in, goodwill is further explained for each
segment. The firm presents its goodwill information clearly to the point where it is easy
for stakeholders to identify the goodwill allocated to each business segment, as well as
the total goodwill acquired and impaired for the year.
Hedging
As mentioned before, Bunge and its competitors must hedge against energy
cost, commodity prices, foreign currency and interest rates. Reducing risk through
hedging is crucial in the multinational industry. Bunge discloses information on all of
their different hedging activities. For example, Bunge shows the fair and market risk
for their highest long and short position in future contracts purchased and sold to
hedge against fluctuations in commodity prices. Bunge also details how they have high
exposure to foreign currency. Bunge specifically has a high exposure to the Brazilian
Reais. Overall, Bunge has high disclosure of their hedging activity. This is also true for
other firms in the industry. Without relatively high disclosure of hedging activities,
investors would not want to invest in a firm that competes in a global market place.
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Pension Plans & Post-Retirement Compensation
Analysts should evaluate the level of disclosure pertaining to pension and
retirement plans offered to employees. It is important to understand the process of
such plans and the forecasts set forth in the 10-K that are expected to fulfill their
obligations. Discount rates should be analyzed as well in order to determine whether or
not they are sufficient to produce enough future cash flows to cover pension and
retirement plan payments. Another area to consider is if the firm discloses what type of
assets comprises their planned assets. Bunge discloses what percentages of their
planned assets are invested in equities, fixed income securities, cash, real estate, and
others. Though Bunge does disclose this information, further detail does not exist. It
would be helpful for investors to be given specifics on planned assets. For example,
how many credit deposits exist in their percentage of fixed income securities?
Operating Leases
The amount of disclosure given by Bunge in regard to operating leases is
adequate. Given the small size of operating leases compared to long-term debt, this is
not surprising. The industry as a whole leases very few assets. Bunge states the
maximum potential future payment on operating leases of 36 million dollars. They also
state that current operating lease contracts end in the year 2010. Disclosure of
operating leases is only mentioned in one section of Bunge’s financial statements.
Again, this is on par with the industry as a whole.
Quantitative Accounting Measures and Disclosure
Quantitative accounting measures become important when breaking down a
company’s financial statements. While numbers reported on consolidated statements
may convey to stakeholders that the financial state of a firm is solid, quantitative data
can surface distorted information. By analyzing these measures, analysts are able to
67
learn the underlying financial condition of a firm. Furthermore, quantitative figures are
helpful when determining the value of a specific company. Due to the semi-flexible
accounting standards still allowed under GAAP, managers sometimes manipulate
numbers on their reports to stakeholders in order to portray a healthier financial
condition. However, quantitative ratios assist external users of financial statements in
determining actual performance.
Two quantitative measures will be performed to determine whether or not a firm
has accurately and efficiently disclosed its financial information. These ratios will assess
current accounting circumstances for the agricultural business industry and its
participating firms. Sales manipulation diagnostics evaluate companies by measuring
several business activities against net sales. This is done by dividing net sales by net
accounts receivables, inventories and cash from sales. From these ratios a stakeholder
can determine if income claimed by a firm is inaccurately reported to benefit the
company. In the case for revenue diagnostics, an analyst can determine if
manipulation is present when increases or decreases in different measures are
outpacing net sales. Expense manipulation diagnostics examine firms by taking different
ratios of reported expenses into consideration. The results of these ratios will inform
external users of any under-or-overstatements that exist to increase the profitability
and value of the firm. Both of these quantitative measures provide analysts a realistic
depiction of a company’s financial picture. Additionally, the sales and expense
manipulation diagnostics will be helpful in discovering certain trends in the industry and
spotting potential “red flags” for our firm.
Sales Manipulation Diagnostics
The sales manipulation diagnostics detect any manipulated adjustments that
affect the quality of revenues. The forthcoming ratios will present the accounts
receivables, inventories and cash from sales that each firm in the industry claimed
relative to its annual net sales. By investigating these ratios over a five year period, an
analyst will be able to identify trends in the industry. Subsequently, we will become
68
aware of potential “red flags” of companies in the industry and the factors that
attributed to them.
Net Sales/Accounts Receivable
This diagnostic is measured by dividing net sales by the firm’s accounts
receivable. When a sale on credit is made, accounts receivable is debited and revenue
is credited. This sale increases revenues on the income statement. The correlation of
these two figures should be positive, thus indicating that any changes in net sales from
period to period should produce a corresponding increase or decrease in accounts
receivable. This correlation can be explained by the fact that any sale on accounts
receivable increases both the A/R and revenue accounts. On most income statements,
revenues are recognized by a line item called total net sales. Decreases or increases
should therefore be positively correlated and produce a relatively stable outcome over a
given period of time. In the event that the two numbers move opposite from each
other, a lower ratio will result. A low ratio implies that a company is heavily dependent
upon their accounts receivable and does not rely as much on cash from sales as a
significant source of revenue. Analysts should be aware of increasingly growing ratios
as this could mean that firms are understating accounts receivable (thus overstating
cash sales) or overstating its net sales. Firms may be inclined to manipulate these items
in order to present more favorable net incomes and cash flows from operations.
69
This graph shows that Bunge has seen a gradual increase in its ratio since 2006.
This suggests that accounts receivable has represented a lower portion of Bunge’s net
sales compared to the industry in recent years. When taking the industry as a whole
into account, most of Bunge’s competitors saw decreases in their accounts receivable
turnovers over the five year period. Archer Daniels Midland and Corn Products saw their
accounts receivables rise significantly over the years, thus increasing their dependencies
on A/R to generate revenue. CHS Inc. has seen varying increases and decreases in its
accounts receivables and produced slightly volatile results. The firm is considerably
smaller than the rest of the industry. CHS Inc. has therefore consistently generated
outcomes that are not consistent with the industry. Bunge’s ratios do not suggest any
“red flags” at the current time because the increase in net sales the firm has seen over
the past two years is modest. Since the industry trend displays a declining A/R
turnover, analysts should continue to monitor Bunge. A constant increase in A/R
turnover over longer periods of time may suggest that Bunge is overstating its net sales
to increase net income or understating accounts receivable.
5.0
7.0
9.0
11.0
13.0
15.0
17.0
2004 2005 2006 2007 2008
Net Sales/Accounts Receivable (Raw)
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
70
The change in net sales over the change in accounts receivable is a
supplementary ratio that aids us in understanding financial statements. Change ratios
are determined from the change in one aspect of a firm’s financials over the course of a
fiscal year to the change in another. The change ratio is based on a first derivative basis
that identifies rates of change. Values greater than zero indicate firms are experiencing
positive change. As evidenced from the graph above, all firms in the industry have
maintained a steady degree of change in the past five years with the exception of CHS
Inc. It is clear that the rapid decline CHS Inc. experienced in the first two years, as well
as the extreme rise and fall that occurred from 2005-2007 are questionable and
definitely potential “red flags”. The distinct pattern CHS Inc. follows can most likely be
attributed to the fact that the firm is smaller than the other companies in the industry
and does not compete in as many sectors as its competition. The remaining three firms
in the industry did not witness a disturbing trend in their change ratios for sales to
receivables. Aside from CHS Inc., all companies in the industry had a positive
correlation for the majority of the five year period. We can therefore conclude that
Bunge, along with Archer Daniels Midland and Corn Products, sustained relatively
healthy rates of change over the past five years and did not generate severe outcomes
that would indicate any potential “red flags”.
‐150.0
‐130.0
‐110.0
‐90.0
‐70.0
‐50.0
‐30.0
‐10.0
10.0
30.0
2004 2005 2006 2007 2008
Net Sales/Accounts Receivable (Change)
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
71
Net Sales/Inventories
Inventory turnover is calculated by dividing net sales by a firm’s total inventory.
As explained earlier, these two measures are also positively correlated. As net sales
increases, so should inventory. Therefore, a 10% increase in sales should produce a
correlating 10% rise in inventories.
The graph above illustrates the amount of net sales reported annually divided by
the levels of inventories each firm in the industry possessed in each year. Over the five
year period, CHS Inc. sustained a higher ratio than the three other firms that currently
compete in the industry. The graph suggests that over the duration of the analysis
Bunge, Archer Daniels Midland and Corn Products achieved ratios that were on par with
each other and exhibited minimal range. Bunge’s sales over inventory declined from
2004-2007; the ratio plummeted from 9.57 to 6.39 in three years. The majority of the
firms in the industry experienced a reduction in their inventory efficiency since 2004.
CHS Inc. again displayed a somewhat volatile change throughout the five year period.
Although the range is relatively trivial, this could be a potential “red flag” for
stakeholders. Bunge and its two other competitors did not exhibit abnormal increases or
decreases in their raw ratios that would suggest a further investigation.
6.0
8.0
10.0
12.0
14.0
16.0
2004 2005 2006 2007 2008
Net Sales/Inventory (Raw)
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
72
The change ratio evaluation provides additional information about the fluctuation
of business activity from period to period. The graph supports the “red flag” claim
previously discussed with regards to CHS Inc. The firm displayed an unsuccessful
attempt to minimize inventory levels in 2003, but has since steadily recovered. The
changes experienced by CHS Inc. are extremely volatile and suggests that the firm has
witnessed a tradeoff between successful and inefficient inventory control. Corn
Products and Archer Daniels Midland both faired favorably over the past five years.
Their changes in sales and inventories were moderate and did not produce severe
results. From 2004-2005, Corn Products witnessed no change in its ratio because its
inventory remained the same. Bunge saw its change ratio decrease by 19.6 in 2005,
but has since enjoyed a positive change in its ability to sell inventory. Going negative is
a bad sign for investors. When a change ratio falls below zero, it indicates that the two
variables in the ratio are negatively correlated. With the exception of CHS Inc., the
majority of the industry witnessed drops in changes of NS/Inventory in 2004. The
industry has since then seen increases in their ratios. Therefore, due to the congruency
of the industry, we have concluded that there are no “red flags” for any firms.
‐25.0‐20.0‐15.0‐10.0‐5.00.05.010.015.020.025.0
2004 2005 2006 2007 2008
Net Sales/Inventory (Change)
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
73
Net Sales/Cash from Sales
This ratio measures the amount of net sales a firm claimed to the total amount
of sales that were paid with cash. The intention of this ratio is to show analysts the
degree of dependency firms have on their cash sales. The optimal outcome of the sales
to cash sales ratio is 1:1. If the ratio is above one the firm is recognizing too little cash
from sales, and if it generates a number less than one this indicates a company is
heavily dependent on cash sales. A ratio that deviates far from one can indicate a
potential “red flag” for investors. Additionally, the ratio should not display sharp
increases or decreases from period to period. This would indicate that a firm has
utilized its accounting flexibility to distort financial statements, thus creating a “red
flag”.
As shown by the graph, all firms in the industry maintain a ratio between .9908
and 1.0785 over the past five years. The industry follows a recognizable trend and all
firms experienced increases from 2006-2008. Archer Daniels Midland posted a relatively
high ratio in 2008, which could be a potential area of concern. However, the ratio does
not stray too far from the industry trend to classify it as a “red flag”. We can conclude
0.98
1.00
1.02
1.04
1.06
1.08
1.10
2004 2005 2006 2007 2008
Net Sales/Cash from Sales (Raw)
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
74
that all of the firm’s Net Sales/Cash from Sales ratios are contained and do not
insinuate that accounting manipulation has been executed.
As shown in the graph above, changes in net sales and cash from sales are for
the most part consistent in the industry. Even though Bunge witnessed a spike in
change from 2004-2005, it is not significant enough to be considered an outlier.
Additionally, the increase in change was positively correlated. Archer Daniels Midland
also experienced a negative change, but it is irrelevant as well. The change form of this
ratio supports the previous assertion that there are no “red flags” in the agricultural
business industry for this particular evaluation.
Conclusion
After completing the sales manipulation diagnostics, we have determined that no
“red flags” exist for Bunge. The firm performed very well against its competition and did
not display any abnormal activity that would be of concern for investors. Bunge
followed industry trends and at times lead the entire industry. The ratios generated
‐1
0
1
2
3
4
5
2004 2005 2006 2007 2008
Net Sales/Cash from Sales (Change)
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
75
results that are favorable to the firm and support its competitive advantage over other
companies in the agricultural business industry.
Expense Manipulation Diagnostics When expense manipulation diagnostics are utilized, a user of financial
statements has the ability to observe certain trends in an industry and identify
accounting distortions. The ratios below are derived from items reported on the balance
sheets, income statements, and statements of cash flows of each firm in the industry.
These ratios will help determine whether firms are properly reporting expenses. The
ratios are important to investors because they can show how realistic reported numbers
are. Additionally, the ratios will display abnormal patterns that deviate from the industry
trend and expose any existing “red flags”.
Asset Turnover
By dividing net sales by total assets, we derive asset turnover. By studying asset
turnover, an analyst can gather an idea of how a firm’s assets are growing in relation to
their sales. Furthermore, this ratio will determine whether or not a company is using
proper means of depreciating or disposing of its assets. As an example, if a firm is not
depreciating assets at a reasonable rate, then the ratio will be higher than it would be if
the firm depreciated assets legitimately.
76
The graph shows that only CHS Inc. showed a major jump in 2008. This could
be seen as a “red flag”. Potentail investors could ask if CHS Inc. is overstating assets,
or understating sales. Both Bunge and ADM show a consistant ratio around 2. This
simply means that over the past five years, both firms have reported assets around
twice the dollar value of the sales they report. Corn Products has had a steady asset
turnover of 1.
0
0.5
1
1.5
2
2.5
3
3.5
4
2004 2005 2006 2007 2008
Asset Turnover (Raw)
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
‐2
0
2
4
6
8
10
2004 2005 2006 2007 2008
Asset Turnover (Change)
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
77
The graph above shows the change in sales compared to change in total assets
during a five year period. The highly volatile change CHS Inc. witnessed in its asset
turnover indicates that over the past five years CHS Inc. has experience major percent
changes in assets. The change the firm saw in each year was at extreme odds from the
preceding year. Corn Products and Archer Daniels Midland both maintained constant
change and experienced only trivial differences each year. By going negative in 2005,
Bunge raises questions to potential investors. Going negative represents that Bunge
had decreases in reported assets or sales from 2004 to 2005. By falling below zero a
firm is indicating that the two variables in the ratio are negatively correlated, which is
bad. Meaning that if one is rising the other is falling. A potential investor wants to see
variables growing and decling together. Going negative in 2005 should make an
investor more suspiciuos of the numbers reported by Bunge.
CFFO/Operating Income
This ratio is calculated by dividing cash flow from operations by the operating
income generated by a firm. The ratio helps evaluate the relationship between the cash
received from operating activities and a firm’s income from such operations. Investors
should study this ratio to determine if a company’s cash flow from operations is moving
parallel to its operating income. If the ratio declines, this indicates that the firms
operating income is increasing faster than reported CFFO.
78
Over the past five years, every firm in the industry has experience very volalitle
numbers. Several firms have reported negative CFFO in recent years, which can help
explain the instability. For example Bunge reported negative CFFO in 2006 and in 2007.
From going positive to negative CFFO from 2005 to 2006 explains the dramatic decline
in the graph. ADM also experienced a similar situation from 2007 to 2008. ADM’s CFFO
dropped almost three billion dollars between the two years.
‐1.5
‐1
‐0.5
0
0.5
1
1.5
2
2004 2005 2006 2007 2008
CFFO/Operating Income (Raw)
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
‐10
‐5
0
5
10
15
20
25
30
35
2004 2005 2006 2007 2008
CFFO/Operating Income (Change)
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
79
The change in CFFO over the change in operating income presents additional
data to determine whether or not accounting manipulations exist in the industry. Once
again, CHS Inc. has generated a ratio that dangerously deviates from the industry
trend. From 2007-2008, the firm saw a small increase in operating income matched
with an enormous increase in operating cash flow. This resulted in a ratio of 181.54, a
number that is extremely inconsistent with the rest of the firms in the industry. This
behavior can be flagged as a possible accounting distortion. Corn Products experienced
little change in the past five years and has continued to maintain a constant rate of
change. Bunge goes below zero once, which is not good, but compared to the rest of
the industry has reported better numbers for the past five years. Going negative in
2007 happen because Bunge reported CFFO decreasing by 322 million dollars. By falling
below zero a firm is indicating that the two variables in the ratio are negatively
correlated, when the two variables should show positive correlation.
CFFO/Net Operating Assets
Net operating assets are classified as the property, plant and equipment (PP&E)
a company has less any applicable depreciation. Large increases in cash flows from
operations along with a decrease in net operating assets over a year may be a sign of
accounting manipulation. Generally you would like to see this diagnostic rise or stay
constant over time. A firm could overstate their net operating assets by depreciating
their assets at a slow pace. Additionally, any blatant outliers should alert analysts that
skewed information may be present.
80
The graph shows the industry had very volatile results. Every firm with the
exception of CHS Inc., showed negative results in at least one year. Again, this can be
explained by the relative consistance that firms report negative CFFO. Bunge went
negative from 2005 to 2007, but in 2008 reported CFFO of 2.3 billion dollars making
their ratio rise considerably.
‐0.5
‐0.3
‐0.1
0.1
0.3
0.5
0.7
2004 2005 2006 2007 2008
CFFO/Net Operating Assets (Raw)
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
‐30
‐20
‐10
0
10
20
30
2004 2005 2006 2007 2008
CFFO/Net Operating Assets (Change)
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
81
Each firm in the industry went negative atleast once in this change diagnostic.
Anytime a firm has negative percent change in a diagnostic, investors should be
suspicious. By falling below zero a firm is indicating that the two variables in the ratio
are negatively correlated. The two variables should show positive correlation. If the
correlation is positive then the firm is reporting that they are increasing CFFO by
aquiring more assets, which a potential investor would expect. ADM especially has a
shocking decline from 2004 to 2005. Bunge also has a very suspicious jump in 2008.
The jump is due to Bunge having CFFO go from -411 million dollars in 2007 to 2.3
billion dollars in 2008.
Total Accruals/Sales
The Total Accruals/Change in Sales ratio illustrates the relationship between a
firm’s annual accruals and its sales from period to period. Total accruals are generated
by subtracting a company’s net income from its cash flow from operations. The reason
a firm would report a negative ratio is if their cash from operating activities were
negative for that year. It is possible for a firm to manipulate their amount of capital for
uncollectable accounts to give them a better financial standing. With the following
graph we will be able to discuss whether we believe Bunge’s total accruals to net sales
ratio to be true or if it may have been manipulated.
82
After looking at this graph we see that Bunge was on the lower end of the
industry until last year when a dramatic increase in net sales drove up their ratio which
put them as the industry leader. CHS Inc. showed simlilar movement while Corn
Products and Archer Daniels Midland’s ratio swiftly declined after highs in 2005. These
declines resulted from firms reporting more net income than cash flow from operations.
Overall there is no real industry trend but it seems as some firms increase their ratio
others decrease theirs. Bunge’s recent increase is due to the dramatic increase of their
cash flow from operations which drove up their total accruals. This number could have
been manipulated to raise this ratio because of the big increase in sales for 2008.
‐0.1
‐0.08
‐0.06
‐0.04
‐0.02
0
0.02
0.04
0.06
2004 2005 2006 2007 2008
Total Accruals/Sales (Raw)
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
83
The graph above illustrates the changes in total accruals compared to the
changes in sales over the past five years. The industry for the most part has followed a
pattern of consistent change, with the exception of Archer Daniels Midland. The firm
experienced a negatively correlated change in 2005 that severely deviated from the
trend. This could be a potential “red flag” from the firm and should be looked into
further. Bunge’s change reamained steady for the past few years as accruals have
increased do to their increased business. But, in 2006 Bunge does fall below zero. By
falling below zero, Bunge was reporting that total accruals and sales were negatively
correlated. This can be view as a potential “red flag”.
Pension Expense/SG&A
The Pension Expense/SG&A ratio helps determine the amount of pension
expense that represents all selling, general and administrative expenses. This ratio is
calculated by dividing pension expense by SG&A. Ideally, a firm would like as low a
ratio as possible in order limit the amount of expenses associated with retired workers.
A high ratio would indicate that too much money is being spent on resources that do
not add value or increase profit. A high pension expense also further reduces net
income. Extremely high ratios that do not fit the industry trend should be examined.
‐7.5
‐6.5
‐5.5
‐4.5
‐3.5
‐2.5
‐1.5
‐0.5
0.5
1.5
2004 2005 2006 2007 2008
Total Accruals/Sales (Change)
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
84
After examining this ratio we will be able to assess the impact of the firm’s pension
expense and whether we believe it was manipulated or not.
As shown by the graph above, CHS Inc. has exhibited ratios significantly higher
than the other firms in the industry. This is a sign that CHS Inc. is spending too much
money on pension expense and not allocating funds efficiently. Archer Daniels Midland
and Corn Products were in the middle of the pack. Bunge however outperformed all of
the firms in the industry with its ratio. The increase in 2006 was due to higher reported
pension expenses than the rest of the five years. This increase isn’t enough to lead us
to believe they have manipulated numbers for the previous few years. This indicates
that Bunge is managing its pension expense well and has been conservative when
distributing money to retired workers. Bunge’s ratio proves to be a believable
assessment of its pension expense. The firm does not have excess amounts of their
SG&A expenses tied up in previous employment which allows them to reduce there
expenses and spend that extra money in more effective ways. We believe this trend will
continue due to the nature of the current financial market. Bunge’s pension expense
should continue to be a very low portion of their selling, general and administrative
expenses and drive this ratio down.
0
0.02
0.04
0.06
0.08
0.1
0.12
0.14
0.16
0.18
2004 2005 2006 2007 2008
Pension Expense/SG&A (Raw)
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
85
It is evident from the graph that the industry has followed a fairly constant trend
and only has one significant outlier. Archer Daniels Midland saw a negative change from
2006-2007 due to a large decrease in pension expense and corresponding increase in
selling, general and administrative expense. Thus, the drop in pension expense was
balanced out with an increase in another operating expense. The rest of the industry
stayed fairly conisistent with each other. Bunge’s change went slightly below zero in
both 2007 and 2008. This is not a good trend, because by going below zero Bunge is
reporting that pension expense and SG&A are negatively correlated. Both of these
expenses should be growing of declining together. If this trend continues in the future,
investor will become wary of the expenses Bunge is reporting.
Other Employment Expenses/SG&A
This expense manipulation ratio is generated by dividing other employment
expenses by selling, general and administrative expenses. The purpose of the ratio is to
show analysts the amount of SG&A that is allocated to employee benefits. This can
include medical coverage, insurance, defined benefit plans and so on. A smaller ratio is
beneficial, as that again indicates that firms are not spending too much money on
‐17
‐15
‐13
‐11
‐9
‐7
‐5
‐3
‐1
1
2004 2005 2006 2007 2008
Pension Expense/SG&A (Change)
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
86
benefit packages. A higher ratio suggests that employee benefits are a significant
portion of SG&A expense, and could suggest inefficient operations. Since employment
expenses and SG&A are directly correlated, it is difficult for a firm to compromise one
number without it affecting the other.
After looking at the graph, investors can gather information about companies’
other employment expenses. The range of these numbers is very small and we can
determine that employee benefit plans are not a large portion of the industry’s SG&A
expense. Bunge again held the lowest ratio over the past five years, with other
employment expenses maxing out at only 1% of SG&A. Like their pension expenses, in
2006 Bunge reported a higher amount of other employee expenses which showed to be
out of the ordinary. We believe this declining pattern for Bunge will continue because
their employee benefits have declined over the past few years while SG&A has
continued to increase steadily over the past five years.
0
0.005
0.01
0.015
0.02
0.025
0.03
2004 2005 2006 2007 2008
Other Employment Expenses/SG&A (Raw)
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
87
The industry as a whole kept within a reasonable rate of change during the five
year period. Although Archer Daniels Midland and Bunge experienced spikes in change
at some point in the time period, they were trivial and did not deviate far away enough
from the industry trend to be considered a “red flag”. All firms maintained somewhat
constant change ratios that were all on par with each other. After looking at Bunge’s
other employment expenses over the last five years, it’s evident that they are limiting
their expenses efficiently. Therefore, we believe Bunge’s ratio to be true and for it show
little change or possibly fall in the future.
Conclusion
The expense manipulation diagnostics have provided us with the opportunity to
peel back the layers of firms that are active in the agricultural business industry. From
these ratios, we have concluded that there are two analyses that resulted in “red flags”
for Bunge. These discrepancies are CFFO/Operating Income and CFFO/Net Operating
Assets. Overall, Bunge followed industry trends and did not deviate severely from them.
Additionally, the firm outperformed its competition in several business activity
comparisons. Although firms in the industry frequently exhibited erratic behavior, it
does not lead us to believe accounting distortion is rampant.
‐0.1
0.1
0.3
0.5
0.7
0.9
1.1
2004 2005 2006 2007 2008
Other Employment Expenses/SG&A (Change)
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
88
Potential Red Flags
Sales and expense manipulation diagnostics are performed to expose any “red
flags” that might exist within the company. These red flags exist because managers
hold decision-making power with regards to the accounting policies and level of
disclosure in the company. By intentionally misrepresenting accounting information on
financial statements firms can obscure aspects of the business that would concern
investors. With the gray area and flexibility that exists with GAAP rules it is relatively
easy for executives to pull the sheet over the eyes of the shareholders. After a red flag
is found, analysts go beneath the surface and measure the level of significance of the
problem. Depending on the magnitude of the misrepresentation it is possible that the
financial statements will need to be restated to portray the true state of the company.
When compared to the industry, Bunge uses too big of discount rates on its
pension and post-retirement plans. Furthermore, the firm’s growth rates on its planned
assets are larger than its current competitors. Bunge is forecasting that the cost of
healthcare will decline in future years. Healthcare costs have always increased over the
years and it is unrealistic to predict that costs associated with healthcare will diminish in
the future. This poor forecast will cause problems in the years to come because actual
growth rates will not reflect the projected rates and the lack of growth will need to be
realized. In the event that these estimates are incorrect, adjustments to the financial
statements will have to be made in the future. Therefore, we have concluded that
Bunge is understating its future obligations and overstating the assets they plan to use
to pay for those liabilities.
As evidenced from the expense manipulation diagnostics, Bunge exhibited
relatively volatile fluctuation in its CFFO/Operating Income and CFFO/Net Operating
Assets ratios. The firm reported negative cash flows in two of the five years measured
in the evaluation. These negative outflows resulted in inconsistent data in the
diagnostics that led to the further investigation of the issue.
89
BUNGE 2004 2006 2007 2008 2009
CFFO $802,000,000.00 $382,000,000.00 ($289,000,000.00) ($411,000,000.00) $2,302,666,666.00
OI $1,015,000,000.00 $615,000,000.00 $593,000,000.00 $1,156,000,000.00 $3,044,000,000.00
NOA $2,536,000,000.00 $2,900,000,000.00 $3,446,000,000.00 $4,216,000,000.00 $4,298,000,000.00
CFFO/OI 0.7901 0.6211 ‐0.4874 ‐0.3555 0.7565
CFFO/NOA 0.3162 0.1317 ‐0.0839 ‐0.0975 0.5358
The cash flow oriented ratios that were generated for Bunge can be explained
from the table above. From 2006-2007, the firm’s cash flows from operations were
negative. The two consecutive years resulted in negative ratios when divided by
operating income and net operating assets. Additionally, when change ratios were
calculated they produced three years of negative numbers due to the subtraction of
previous periods. The large decline in cash flows from operations from 2005-2006 can
be attributed to a substantial increases in inventories and accounts receivable. These
assets negatively impact operating cash flows. Reductions in cash flows from operations
in other years are the result of similar increases or decrease in assets and liabilities.
Although cash flow from operations has been flagged as areas of concern, we do not
believe that these irregularities are the result of accounting manipulations.
Undoing Accounting Distortions
After analyzing all aspects of Bunge’s accounting structure and its reported
information, we have concluded that it is not necessary to undo any numbers stated in
the financial statements. Bunge did not meet the standards for both operating leases
and goodwill. To be deemed necessary to restate financial statements because of
90
operating leases, a firm must have a present value of future obligations over 10% of
long term debt. The following graph shows Bunge’s present value of future obligations
for operating leases compared to its long term debt. As seen in the table below,
Bunge’s present value of operating leases is only .9% of long term debt.
The threshold to determine whether it is necessary to restate financial
statements with regard to goodwill can be determined in two ways. The first approach
is to compare the company’s goodwill to the amount of property, plant and equipment
it holds. If goodwill exceeds 20% of property, plant and equipment in any period over
the past five years then a restatement is necessary. The following table compares
Bunge’s goodwill to PP&E for the last five years.
2004 2005 2006 2007 2008
Goodwill $167,000,000 $176,000,000 $236,000,000 $354,000,000 $366,000,000
PPE $2,353,000,000 $2,900,000,000 $3,446,000,000 $4,216,000,000 $4,298,000,000
% 7.10% 6.07% 6.85% 8.40% 8.52%
Bunge’s goodwill never exceeded 20% of property, plant and equipment, thus
making a restatement of the financials unnecessary. The second way to test if goodwill
needs to be restated is by amortizing the current value of goodwill in equal amounts
PV of Operating Leases 32.18 million
Long term Debt 3435 million
% 0.9%
91
over the past five years. If the amortized value of goodwill surpasses 20% or more of
operating income, then it is necessary to restate the financials. The following table
shows the relationship between amortized goodwill and operating income.
2004 2005 2006 2007 2008
Amortized
Goodwill $73,200,000 $73,200,000 $73,200,000 $73,200,000 $73,200,000
Operating Income $915,000,000 $615,000,000 $593,000,000 $1,156,000,000 $3,044,000,000
% 8.0% 11.9% 12.3% 6.3% 2.4%
Again, Bunge never breaks the threshold to be deemed necessary to restate their
financial statements. It is evident that the firm has not met the criteria for restatement
of any of its operations and therefore the undoing of accounting distortions can be
ignored.
Financial Ratio Analysis
Liquidity Ratio Analysis
Liquidity ratios are used to asses a company’s ability to pay off its short term
liability’s. The higher the amount of a company’s most liquid assets, the higher the
likelihood of that company being able to pay off their debt. By calculating such ratios
and benchmarking them to past performance as well as the performance of the
company’s competition, we are able to evaluate Bunge’s overall ability to meet their
92
obligations compared to the industry. When conducting a liquidity ratio analysis, we
use seven particular ratios:
1) Current Ratio
2) Quick Asset Ratio
3) Inventory Turnover
4) Days Supply of Inventory
5) Receivables Turnover
6) Days Sales Outstanding
7) Working Capital Turnover
Companies want higher liquidity ratios rather than low ones because it shows the
firms efficiency as well as their urgency to take care of obligations. However, if these
ratios are too high the company isn’t working as resourcefully and could be doing more
to expand their company. Greater liquidity ratios are also very important when a
company is working to get a loan or borrow some sort of assets. Because these ratios
tell the tendencies of a company to repay their debts, better ratios can result in better
loans and quicker growth.
Current Ratio
Our first liquidity ratio is a measure of the firm’s current assets and current
liabilities. By dividing a company’s total assets by their total liabilities we are assessing
their liquidity risk. This ratio shows the extent to which the company is able to pay off
current liabilities with their most liquid (current) assets. It is the best way to judge a
firm’s current liquidity. For purposes of gaining loan support, banks normally like to see
that a company’s current ratio is greater than 2 but anything higher than 1 is
acceptable. This number shows that the company has no problem paying off current
93
debt within the time frame given and banks will be more inclined to do business with
them.
In comparison to the total industry, Bunge’s current ratio is above average. The
industry as a whole has seen dramatic movement in this ratio over the previous five
years and it looks to continue this way. At 1.63, Bunge’s current ratio is a little lower
than what some like to see but for this industry they are in a great position for financial
assistance if need be. They show the capability of taking care of current liabilities when
they are incurred which greatly lowers their default risk. The large drop in 2007 was
due to significant current liabilities being obtained while their current assets were not as
increasingly present. To their competitors, Bunge shows good signs of being able to
minimize their liquidity risk while outperforming the majority of the market.
Quick Asset Ratio
The quick asset ratio is a variation of the current ratio. The current ratio takes
total current assets divided by the total current liabilities. The quick ratio concentrates
on the most liquid current assets. For the current assets you take only: cash and cash
equivalents, short term investments, marketable securities, and accounts receivable.
1
1.1
1.2
1.3
1.4
1.5
1.6
1.7
1.8
1.9
2
2004 2005 2006 2007 2008
Current Ratio
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
Industry Average
94
Only using the most liquid of assets gives us a beneficial perspective into the company
because it takes out inventories accounts, which can easily distort the appearance of
the firm’s financial position. In the agribusiness industry it is not uncommon for
inventories to expire, also food products have a limited shelf-life. Taking inventories
out of the current ratio gives us a better idea of the real liquidity position of our
company. Evaluating the current asset ratio is fundamentally the same as the current
ratio. A higher ratio is better because it indicates that the firm is more liquid. However
if the ratio is below one it is not necessarily a liquidity risk because inventories are such
a large portion of current assets.
Bunge has a very low quick asset ratio but we believe this is partially due to
Bunge’s superior performance in handling accounts receivable. This will be discussed
shortly under accounts receivables turnover. Bunge has consistently had the lowest
ratio over the past five years. This brings into question whether or not Bunge has
adequate liquidity to cover the current portion of debt. Historically they have been able
to survive this low ratio. You can see that Bunge’s main competition, Archer Daniels
Midland, has a superior position in their quick asset ratio. The industry average has
0.2
0.3
0.4
0.5
0.6
0.7
0.8
0.9
1
1.1
1.2
2004 2005 2006 2007 2008
Quick Asset Ratio
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
Industry Average
95
been consistent over the past five years and Bunge’s ratio has steadily decreased with
the exception of 2008 which is showing sign of improvement from .39 to .42.
Inventory Turnover
The inventory turnover ratio measures the efficiency of the relationship between
cost of goods sold and inventory. The ratio is calculated by dividing COGS by inventory.
Inventory is valued at cost which yields a consistent ratio. When we evaluate this ratio
it easy to discern whether a company is improving or falling behind by looking at the
changes in the past five years. A high ratio suggests a high level of sales throughout
the year with a low inventory. A low turnover would suggest low sales and an
inventory surplus, which is not healthy for profits.
Bunge saw a significant increase in the inventory turnover ratio in 2008 which
was accompanied with a larger market share. This increase allowed for greater profits
and less money obligated into inventories. Prior to 2007 Bunge was realizing decreases
in the inventory turnover ratio consistent with the industry average. The recent jump in
the efficiency of Bunge’s inventory systems has improved their profitability. Bunge
5
6
7
8
9
10
11
12
13
14
15
2004 2005 2006 2007 2008
Inventory Turnover
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
Industry Average
96
needs to ensure that they retain adequate inventories to guarantee that they can keep
up with an increase in future sales growth.
Days Supply of Inventory
Days supply of inventory or “DSI” is more or less an extension of the inventory
turnover ratio. This ratio allows to measure the speed at which inventory is turned into
sales revenue. It is calculated by dividing 365 by the inventory turnover ratio. This
yields the number of days it takes for a company to turn its entire inventory. Here a
lower number is better because it means that it takes fewer days to complete the
“money merry-go-round”. Low numbers indicate that inventory is sold quicker and cash
inflows are more efficient.
Bunge has been below the industry average until this past year, where it beat
out everyone except CHS Inc. It should be noted that CHS Inc. has nowhere near the
sales volume or market share that Bunge does. Bunge took its DSI from 61 days in
2007 to 42.5 in 2008. We would expect this improvement due to our results from
25
30
35
40
45
50
55
60
65
2004 2005 2006 2007 2008
Days Supply of Inventory
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
Industry Average
97
inventory turnover. ADM’s DSI has continued to increase from 2005. Compared to the
industry, Bunge is doing a superior job managing their inventory levels and sales
growth.
Accounts Receivable Turnover
The accounts receivable turnover ratio measures the efficiency of working capital
management. It is calculated by dividing sales by accounts receivable. A higher ratio
indicates that the firm is able to collect outstanding debt faster. If the firm has a low
ratio it implies that payment is not being realized in a suitable manner. If the ratio is
low, then it is necessary to modify the credit policies and find a way to speed up the
process.
Bunge has led the industry in receivables turnover for the past five years
straight. This means that they are the most efficient in collecting their accounts
receivable. In 2008 they were able to take the ratio from 15 to 22. This is a dramatic
increase and easy to see on the graph. We believe that this is why Bunge is able to
maintain such a low quick asset ratio. The fact that they keep such a low number in
5
7
9
11
13
15
17
19
21
23
2004 2005 2006 2007 2008
Receivables Turnover
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
Industry Average
98
accounts receivable justifies why the quick asset ratio would be lower than the industry
average.
Days Sales Outstanding
Days sales outstanding “DSO” is an extension of the accounts receivable
turnover ratio. To calculate DSO you take 365 and divide it by accounts receivable
turnover. This provides us with the number of days that it takes to collect accounts
receivable. Lower numbers are better due to the fact that it speeds up the “money
merry-go-round”. The quicker accounts receivable can be collected, the faster it can be
reinvested to the business.
Bunge has clearly dominated the days sales outstanding for the past five years.
None of the other firms have managed to achieve a better ratio than Bunge. In 2008,
Bunge only needs 16 days to collect it accounts receivables. It takes ADM 60 days to
do the same. The overall trend of the industry is steadily and slightly increasing, but
Bunge is out-performing the industry and then some.
10
20
30
40
50
60
70
2004 2005 2006 2007 2008
Days Sales Outstanding
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
Industry Average
99
Cash to Cash Cycle
The cash to cash cycle measures how many days it takes to convert cash outflow
into cash inflow. We have referred to this as the “money merry-go-round”. It is
calculated by adding days stay in inventory to the days sales outstanding. If a firm is
able to convert its assets into cash quickly its cash to cash cycle will be a low number.
If a company can exhibit a low cash to cash cycle they are seen as being more credit
worthy because they can generate cash more efficiently.
Bunge was almost parallel with the industry trend until 2008. This is when
Bunge drastically reduced the cash to cash cycle. They went from 86 days down to 59
days. This illustrates that Bunge will be seen as a credit worthy company and has the
ability to generate cash in a timely manner. The industry average has slightly increased
over the past five years and Bunge is the only firm that has seen a major decrease.
Working Capital Turnover
The working capital turnover ratio is calculated by dividing sales by net working
capital. Net working capital is found by subtracting the firm’s current liabilities from
their current assets. This ratio displays how efficiently working capital is managed in
30.00
40.00
50.00
60.00
70.00
80.00
90.00
100.00
110.00
120.00
2004 2005 2006 2007 2008
Cash to Cash Cycle
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
Industry Average
100
relation to sales volume. A higher ratio is better because it means that the firm is
making better use of its operating capital.
Bunge shows positive signs of improving working capital turnover by increasing
the ratio by nearly 4 turns. Due to this sudden resurgence, Bunge is much closer to the
industry average of 11 and proves to be using its excess in assets in generating sales.
While CHS highly outperforms the industry, Bunge has made positive steps to increase
the efficiency of their net working capital. The increase in 2008 resulted from a
tremendous increase in sales while keeping their net working capital fairly consistent.
Bunge is able to generate higher revenue without increase in their excess current assets
showing great productivity.
Conclusion
Bunge shows good current liquidity by outperforming the industry in current ratio
but slower sales efficiency by underperforming when it comes to the quick asset ratio
and inventory turnover. They show great ability to pay off current debt and collect on
accounts quickly while turning their assets to cash. Bunge should have little problem
receiving financial assistance if need be and due to the fact that they can turn quick
5
7
9
11
13
15
17
19
21
23
2004 2005 2006 2007 2008
Working Capital Turnover
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
Industry Average
101
profits and pay off debts they should be able to build high confidence in investors.
They have used their assets and taken care of liabilities in a very efficient manner.
Below is a recap and breakdown of each liquidity ratio, how they match up against the
industry, and the current movement of that ratio.
Ratio Performance Trend
Current Ratio Outperforming Decreasing
Quick Asset Ratio Underperforming Stable
Inventory Turnover Underperforming Increasing
Days Stay in Inventory Outperforming Decreasing
Receivables Turnover Strongly Outperforming Increasing
Days Sales Outstanding Outperforming Decreasing
Cash to Cash Cycle Outperforming Decreasing
Working Capital Turnover
Overall
Underperforming
Slightly Outperforming
Increasing
Volatile
Profitability Ratio Analysis
We measure a firm’s profitability by calculating percentage ratios. These ratios
show how the company’s earnings relate to their incurred costs. The firm’s operating
efficiency; asset productivity, rate of return on asset, and rate of return on equity are
measured through the following seven ratios:
1) Gross Profit Margin
2) Operating Expense Ratio
3) Operating Profit Margin
4) Net Profit Margin
102
5) Asset Turnover
6) Return on Assets
7) Return on Equity
8) Internal Growth Rate
9) Sustainable Growth Rate
By calculating Bunge’s profitability ratios, we will be able to evaluate their
earnings compared to overall income and benchmark that against their competition.
The higher the percentage of these ratios means the greater the profitability of the
company. High profitability ratios can reflect greater interest from investors because
they have the ability to pay out higher dividends and are not worried about
overwhelming expenses.
Gross Profit Margin
Gross profit margin is the company’s gross profit as a percentage of their net
sales. This margin is a major component in evaluating Bunge’s operating efficiency. A
high gross profit margin relates to a low amount of costs of goods sold and shows the
efficiency of the operating activities. The following graph shows the gross profit
margins for Bunge and its competitors over the last five years.
103
Over the past five years, Bunge’s gross profit margin has been slightly volatile
but has steadily increased over the past three years. At 7.7%, Bunge is about average
with the market other than market leader Corn Products. Due to the nature of business
in this particular industry, cost of goods sold is a much higher percentage of net sales
than gross profit and will continue to be so. As much as they can, Bunge will need to
minimize their cost of sales as much as possible to beat out the industry average. In
recent years, Bunge has improved its gross profit percentage by nearly 3% but could do
more to increase this percentage as one of their competitors has. All things considered,
Bunge’s recent growth has shown great promise to investors while proving itself to be a
threat among competitors and we predict that this trend will only continue.
Operating Expense Ratio
Another profitability ratio is the operating expense ratio. This ratio measures
selling and administrative expenses as a percentage of sales. This percentage shows
how much of every sales dollar goes to expenses incurred in moving that product.
Unlike the rest of the profitability ratios where bigger is usually better, a company
wants to keep a small percentage of operating expenses.
0.02
0.04
0.06
0.08
0.1
0.12
0.14
0.16
0.18
2004 2005 2006 2007 2008
Gross Profit Margin
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
Industry Average
104
As shown above, Bunge’s operating expense ratio has remained about at the
industry average for the past five years and is continuing to decline. At about 3.1%,
Bunge is succeeding in minimizing total selling and administrative expenses as a portion
of sales. This percentage is fairly low and continues to drop showing good signs of
increased profits in the future. The industry overall is also steadily decreasing operating
expenses as well. Corn Products, Archer Daniels Midland, and CHS Inc. have all seen
steady decreases in the past three years although Corn Products’ operating expense
percentage is still much higher than the rest of the industry. Reducing costs tied to
sales and other administrative activities had proven to be an issue in the past for Bunge
and its competitors but they have done an excellent job in reducing those expenses.
However if Bunge wants to continue to increase profitability, this ratio will need to be
lower.
Operating Profit Margin
Operating profit margin is another financial ratio that shows the firms operating
efficiency by taking the percentage of operating income to total sales. Operating
income is found after taking out the selling and administrative expenses mentioned
0.00
0.01
0.02
0.03
0.04
0.05
0.06
0.07
0.08
2004 2005 2006 2007 2008
Operating Expense Ratio
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
Industry Average
105
above from gross profit. A high operating profit margin shows the importance of the
company’s operating activities as a part of total revenue.
As shown above, Corn Products once again outperforms the rest of the industry
while the remaining three companies including Bunge show the same trends. Having a
lower operating profit margin than the rest of the industry for the majority of this time
period, Bunge shows where it needs to excel to increase operating efficiency. Although
selling and administrative expenses are relatively low, cost of goods sold is still much
higher than it needs to be if they hope to increase not only gross profit but operating
profit as well. Their operating profit margin has been steady over the past year and it
looks to continue with possibly more decline if certain costs are not reduced. This
margin is a major factor when assessing overall profitability. Bunge needs to reduce
costs to increase its operating profit margin if it wants to be a big player in the market
in the future.
Net Profit Margin
Probably the most important profitability ratio is net profit margin. This margin
measures the amount of profit a company makes off of each dollar sold by dividing net
0
0.02
0.04
0.06
0.08
0.1
0.12
2004 2005 2006 2007 2008
Operating Profit Margin
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
Industry Average
106
income by net sales. Net profit margin is incredibly important when assessing a firm’s
value in the market and for investors to find out how much profit the company is
actually bringing in. A high net profit margin shows that the firm is minimizing
extensive costs and turning a high percentage of profit on each sale. This can lead to
greater investor interest because of the ability to pay out higher dividends.
Over the past five years, Bunge has been very steady but much lower than the
rest of the market. Out of each sales dollar, Bunge turns only 2 cents profit compared
to the industry average of about 3 and a half cents per dollar. The agribusiness
industry turns low net profit due to the nature of costs in the business but Corn
Products has still been able to raise its net profit margin over the past four years to a
peak of almost 7%. Bunge on the other hand has been at about 2% for the past five
years and it doesn’t look to change that much in the future. Because Bunge is about a
cent and a half off the industry average, they show to have poor operating efficiency
and will need to improve their margins if they want to be a competitor and generate
investors in the future.
0.01
0.02
0.03
0.04
0.05
0.06
0.07
2004 2005 2006 2007 2008
Net Profit Margin
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
Industry Average
107
Asset Turnover
A way of realizing the productivity in the way assets are used is by interpreting
the asset turnover. This turnover ratio is measured by the total sales of the current
year divided by the total assets of the previous year. This ratio tells how productive the
company’s assets are in producing revenue and in turning profit. Asset turnover is so
important valuing a firm’s profitability because it links the income statement to the
balance sheet and gives the investor a chance to see the strength of the relationship
between the two. Firms want a higher asset turnover because it shows that they are
using their assets in a productive and efficient manner.
As you can see over the past years, Bunge had been pretty stable with the
industry average up until last year when they dropped below it. In 2008, Bunge’s asset
turnover of 2.4 was lower than that of the industry average but has been consistent in
that same range. This 2.4 turnover means that each dollar of assets produced about
$2.40 of sales which is a good level for any particular business but still lower than firms
like CHS Inc. CHS uses their assets more productively which has decreased their selling
and administrative expenses and explains why they had such a low operating expense
ratio. The same goes for the rest of the firms in the market. Bunge was around the
0.5
1
1.5
2
2.5
3
3.5
4
4.5
5
2004 2005 2006 2007 2008
Asset Turnover
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
Industry Average
108
industry average for operating expenses which also puts them around the industry
average for asset turnover. To be around the industry average for this ratio is good
and shows that Bunge is doing a good job of utilizing their assets without raising
expenses too high.
Return on Assets
Unlike asset turnover, return on assets measures how assets affect total profits
directly by dividing the current year’s net income by the previous year’s total assets.
This percentage is also found by multiplying asset turnover by profit margin. Return on
assets is the percentage of assets to total earnings and can reveal a company with high
profitability through a high asset return. Like asset turnover, it shows how efficient the
company is utilizing its assets. We use the firm’s previous year assets to see how the
assets have performed at the beginning of the current period and throughout the
current year.
For having such a higher than average asset turnover, Bunge’s return on assets
are very low. At 4.8% of net income in 2008, their returns on assets have been
consistent but quite a bit lower than the industry average. Bunge is doing a poor job of
using their assets to turn high profits compared to their competitors. This again shows
0.02
0.04
0.06
0.08
0.1
0.12
0.14
0.16
2004 2005 2006 2007 2008
Return on Assets (ROA)
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
Industry Average
109
that Bunge needs to reduce expenses and costs of sales if they want to show high
productivity and profitability in the market. A higher return on assets will show that
they are making good use of their assets and are highly efficient in their operations.
For now their asset return is too low to catch the eye of potential investors.
Return on Equity
Similar to the return on assets, the return on equity also measures against net
income. The return on equity is a calculation of total owner’s equity of the previous
year as a percentage of the current period’s net earnings. Again this “lag” effect is
used to see how the beginning balance in owner’s equity is used in throughout the
current period. This profitability ratio measures the company’s owners’ interest in total
asset productivity. A high return on equity infers a high profit margin and smaller
investment in debt financed assets.
As shown, Bunge’s return on equity decreased until 2006 and then fluctuated up
to 2008 to 13.4%. In comparison to the industry average, Bunge is outperformed by all
of its competitors. They are not earning as much on their invested equity therefore not
using their assets efficiently to increase their return on equity. Return on equity shows
to be positively correlated with return on assets in this particular industry meaning as
0.05
0.1
0.15
0.2
0.25
0.3
0.35
0.4
2004 2005 2006 2007 2008
Return on Equity (ROE)
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
Industry Average
110
one move up and down, the other will do the same. If Bunge can find a way to
increase their return on assets by making better use of them, their return on equity
could follow and lead to greater confidence for investors. Because of the current
economic recession this ratio may decrease even more due to higher difficulty of
financing debt.
Internal Growth Rate (IGR)
The internal growth rate, IGR, is the rate at which firms can growth without
using outside financing. Instead of raising capital via equity or debt agreements, they
can take the retained earnings from the year before and pump them back into the
company. This plays a substantial role in generating long term growth for the firm.
When the firm is just starting out or is experiencing rapid growth, they will pay little or
no dividends so they can take the funds and put it back into the firm. This is the
cheapest way for the firm to grow because they don’t have to pay interest on loans or
dividends on issued stock. IGR is calculated by multiplying return on assets, ROA, by
one minus the payout ratio.
IGR = ROA (1-DIV/NI)
(1-payout ratio) shows how much the firm has to reinvest after paying dividends
to stock holders. The industry and maturity of the company play important roles in
formulating the IGR.
111
(CHS is not included because they do not have common stock)
As the graph shows, Bunge stayed above the industry average until 2006. Up
until then Bunge led the industry. After 2006 Bunge’s IGR increased and decreased at
the same rate as the industry average but remained below it. The firm’s IGR has
remained very stable and has not experienced significant change in the past five years.
The trend of the industry has been increasing, but Bunge has maintained an average
performance. After 2006 ADM led the industry by a significant margin. A smaller
growth rate will limit Bunge’s ability to generate growth from resources within. Larger
firms have an easier time producing internal growth due to their vast resources. Bunge
needs to focus on raising their IGR if they want to be able to compete with ADM in the
long run.
Sustainable Growth Rate (SGR)
The sustainable growth rate, SGR, is the rate at which firms can grow without
increasing financial leverage. This means that the leverage will neither increase or
decrease during the forecasted time. You would not want to increase your leverage of
debt too much because it could create significant problems for the firm due to the risk
structure and the total cost of capital. SGR is calculated by multiplying IGR by one plus
debt divided by equity.
0.01
0.02
0.03
0.04
0.05
0.06
0.07
0.08
0.09
2004 2005 2006 2007 2008
Internal Growth Rate
Bunge
Archer Daniels Midland
Corn Products
Industry Average
112
SGR = IGR [1 + (Debtt/Equityt)]
(CHS is not included because they do not have common stock)
Bunge led the industry from 2004 to 2006. Only in 2008 did Bunge’s SGR fall
below the industry average. From 2006 to 2008 ADM led the industry. Corn Products
has had difficulty in the past with its SGR. Having a low IGR makes it more difficult for
firms to increase SGR. Bunge held a somewhat consistent SGR over the five year
period. This means that Bunge can consistently grow without increasing financial
leverage. Overall, Bunge outperformed the industry and kept a stable trend. Therefore,
we expect the sustainable growth rate to be steady in the future.
Conclusion
Bunge’s overall profitability performance is below what it needs to be in almost
every ratio. They perform at the industry average for gross profit margin, operating
expense ratio, and asset turnover which proves they do a decent job of utilizing their
assets to generate sales while keeping expenses fairly low. Their gross profit margin
seems to be the only profitability ratio than continues to increase which proves to be a
good sign that their cost of goods sold is low.
00.020.040.060.080.1
0.120.140.160.180.2
2004 2005 2006 2007 2008
Sustainable Growth Rate
Bunge
Archer Daniels Midland
Corn Products
Industry Average
113
As you can imply from their performance in the other ratios, they are greatly
underperforming. In operating profit margin, net profit margin, return on assets, and
return on equity, Bunge is showing stable signs of inefficiency. Unless they are able to
limit their selling, administrative and other expenses while increase sales productivity in
the future, operating profit margin as well as net profit margin will continue to
underperform. Their returns are being outperformed because of their lack of ability to
generate income through the use of their assets and equity. By using these things
more efficiently and limiting costs, they should be able to increase their returns and
overall profitability.
Ratio Performance Trend
Gross Profit Margin Average Steadily Increasing
Operating Expense Ratio Average Slightly Decreasing
Operating Profit Margin Underperforming Stable
Net Profit Margin Underperforming Stable
Asset Turnover Average Slightly Decreasing
Return on Assets Underperforming Slightly Decreasing
Return on Equity
Internal Growth Rate
Sustainable Growth Rate
Overall
Underperforming
Average
Outperforming
Slightly
Underperforming
Stable
Stable
Stable
Stable
114
Capital Structure Ratio Analysis
Capital structure ratios are used to analyze a company’s sources of financing in
which obtain assets. In other words, we are dealing with debt and equity to value the
company’s financial leverage. These ratios also assess a firm’s credit risk. When
analyzing Bunge’s capital structure we are concerned with three different things: The
relationship of debt as a part of owner’s equity through the debt to equity ratio, the
recurrence of interest expense and ability to pay it off by calculating the times interest
earned ratio, and the firm’s ability to pay off their debt through cash from operations by
calculating the debt service margin.
Debt/Equity Ratio
This measure of debt to equity indicates the amount of credit risk the company is
exposed to. Because we are doing an equity valuation, we are more interested in just
that, equity. Therefore a smaller debt to equity ratio is what a company must strive for
to keep their capital structure risk at a minimum. Anything above 1.5 is considered too
high a risk and companies should begin to be concerned. This table shows Bunge’s
debt to equity along with the rest of the industry.
0.5
0.7
0.9
1.1
1.3
1.5
1.7
1.9
2.1
2.3
2.5
2004 2005 2006 2007 2008
Debt to Equity (D/E)
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
Industry Average
115
With the exception on Bunge, the rest of the industry is experiencing increasing
trends in their debt to equity ratio. After a drop in 2008 due to decreases in total
liabilities, Bunge is at the industry average for debt to equity at a ratio of 1.72. In
2008, only one firm had a ratio below 1.5 which should raise some concerns industry
wide. Bunge seems to be aware of this problem as they worked to decrease their
liabilities this past year. However, Bunge still has a very high level of capital structure
risk that could is hurting their credit and drive away potential investors from not only
themselves but the industry as a whole.
Times Interest Earned
This next ratio is important to make sure the company can pay off its own
interest expense with income provided from operations so they will be able to pay
stockholders for their investments. This measure of payment ability is calculated by
dividing the company’s income from operations by the interest expense. This is simply
the amount of your income that is going towards interest and shows an investor how
much the company has remaining to payout. Banks like to see a times interest earned
between 4 and 7 to insure that the company is able to easily take care of their interest
expense.
1
3
5
7
9
11
13
15
2004 2005 2006 2007 2008
Times Interest Earned
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
Industry Average
116
At 4.3 times, Bunge is well below the industry average but that does not mean
they are in bad shape. This is still a good number for times interest earned because it
says that they’re able to pay off their interest 4.3 times with operating income.
Although their competitors post higher amounts, the industry average is on the decline
while Bunge continues to improve. With an industrial average of 7.4, Bunge needs to
continue to raise their times interest earned to show that they are making more
efficient use of their income from operations. Right now, investors may see this
particular number as poor compared to their competitors but will notice the trend of
improvement.
Debt Service Margin
Debt service margin measures the company’s ability to pay of current portions of
their long-term debt with the cash provided from their operating activities. This margin
is found by dividing cash provided from operations over the installment due on the
current portion of long term debt from the previous year. This “lag” effect is used
because we want to measure by the ending current portion of long-term debt from the
previous year as the beginning amount due within the next year. This margin attempts
to signify how efficiently the company is using is cash from operations and the
simplicity of using that cash to pay off current long-term debt. Therefore, the bigger
the number the better.
117
Bunge looks to be doing quite well in their debt service margin compared to the
majority of the industry. Archer Daniels Midland’s margin has plummeted further
negative because of a negative balance in cash flow from operations forcing them to
find other means of payment for their long-term debt. Bunge’s debt service margin
recovered in 2008 when they saw a large increase of cash flow from operating
activities. They now stand above the industry average and at 4.9; Bunge was able to
use that cash to pay $4.90 on every $1 of debt that will mature in 2009. Investors will
be impressed with a debt service margin like Bunge’s in 2008 but the key is to keep it
that way.
Z-Score
Altman’s Z-score is a measure that helps analysts determine how susceptible a
firm is to becoming bankrupt. This is done by “using five variables to compute a
bankruptcy score.” (Palepu & Healy) The Z-score is helpful because it helps determine a
firm’s risk of default. Investors find this measure useful as it illustrates a financial
picture of a company and whether or not it is wise to invest money into it. Additionally,
the Z-score can be utilized to gauge the credit scores of firms. A Z-score that is less
than 1.81 is considered to be very vulnerable to bankruptcy. If the Z-score of a firm lies
‐50
‐40
‐30
‐20
‐10
0
10
20
30
2004 2005 2006 2007 2008
Debt Service Margin
Bunge
Archer Daniels Midland
Corn Products
CHS Inc.
Industry Average
118
within the range of 1.81-2.67 then the company is in a “gray area”. Finally, bankruptcy
does not pose a large threat to firms with Z-scores over 2.67. Firms that exhibit scores
over 3 are considered to be in very sound condition. The Z-score of a firm can be
calculated by the following equation (Palepu & Healy):
1.2*(Working Capital/Total Assets) + Measures liquidity
1.4*(Retained Earnings/Total Assets) + Measures profitability
3.3*(Earnings Before Interest & Taxes/Total Assets) + Measures return on assets
.6*(Market Value of Equity/Book Value of Liabilities) + Measures market leverage
Asset Turnover (Sales/Assets) Measures potential of assets
Below is a graph that exhibits the Z-scores of each firm in the industry over the
past five years. CHS Inc. is not included in this analysis because the firm did not
disclose its retained earnings for the five year period and does not currently issue
common stock. There are only three firms and that were available to calculate a Z-
Score, and an industry average was computed as well.
2.5
3
3.5
4
4.5
5
2004 2005 2006 2007 2008
Z‐Score
Bunge
Archer Daniels Midland
Corn Products
Industry Average
119
The industry as a whole has exhibited relatively high Z-scores over the past five
years. In 2005, Corn Products produced a Z-Score of 2.53 that landed the firm in a
“gray area”. This suggests that in that year they might have had trouble paying off their
debts. They have since seen a steady increase in their Z-scores. Archer Daniels Midland
saw their Z-score increase by more than 1 from 2004-2007. Although ADM’s Z-Score fell
in 2008 they have consistently led the industry with very superior numbers. Bunge has
stayed within a .5 range over the past five years. The firm’s Z-score did not fall out of
the 3.5-4 range. Bunge consistently beat the industry average over the five year period
which leads us to believe that the company is faring well. All firms in the industry
experienced declines in their Z-scores in 2008. This can most likely be attributed to a
slower economy and rising prices for commodities. Overall, the trend has remained
stable as the Z-score has been slightly volatile over the years and has not exhibited
major increases or decreases.
Conclusion
These capital structure ratios measure up Bunge’s overall ability to finance their
assets. The company showed average performance compared to the total industry but
none of their ratios were that bad. Debt to equity did show a very high capital risk
which could dramatically increase Bunge’s credit risk. However, compared to the
industry as a whole their ratio proved to be at par. They were outperformed by all their
competitors when regarding times interest earned but still kept a ratio above 4 times.
They will need to improve this ratio by increasing efficiency of operating income if they
want to keep up with their competition. The good news is they have shown an
increasing trend of doing so while some others are decreasing. Their debt service
margin, although shaky in the past, is currently at a terrific point. They outperformed
most competitors in 2008 and kept cash flows from operating activities high. The Z-
scores Bunge posted in the past five years are healthy and do not suggest evidence of a
potential bankruptcy. Overall investors should be happy with the capital structure of
Bunge although there are still some questions of efficiency.
120
Ratio Performance Trend
Debt to Equity Ratio Average Slightly Decreasing
Times Interest Earned Underperforming Increasing
Debt Service Margin
Z-Score
Outperforming
Outperforming
Increasing
Stable
Overall Slightly Outperforming Slightly Increasing
FINANCIAL FORECASTING
By using historical data and trends, it is possible to forecast a company’s future
financial statements. In order to forecast future financial statements, we will use ratios,
trends, averages, and growth rates. Out of the four financial statements, we will
forecast the income statement, balance sheet and the statement of cash flows. Each of
these statements will be forecasted for the next ten years. We begin our forecasting
with the income statement because it is most important in determining the profitability
of the company. Next we will forecast the balance sheet to ensure that our future
assets will equal the future liabilities and owner’s equity. Then we will forecast future
cash flows. After the initial forecasting we will convert the actual financial statements
into common size sheets so the data can be easily interpreted from year to year.
Income Statement
The most important financial statement to forecast is the income statement. The
income statement will be the first statement to be forecast. Only after it is forecasted
can the two remaining statements be derived. The first step in forecasting the income
statement is to establish a sales growth rate. Unfortunately, Bunge’s sales growth rate
has been extremely volatile for the past five years. The previous years have seen a
range from -3.4% to 44%. Due to the economy being in recession, we predict that
121
Bunge will see smaller growth in the next two year compared to other future years. We
have predicted a growth rate of 3% for 2009 and 2010, after we predict Bunge will see
growth of 4%. We believe this is a solid estimate because even in a recession people
will still continue to buy food and food products.
The next step in forecasting the income statement is to estimate cost of goods
sold. For the past five years Bunge’s cost of goods sold has steadily been 93% of net
sales. By using the forecasted net sales we are able to derive future cost of goods sold
by multiplying net sales by 93%. We know that the industry is mature and low margins
will continue to stay intact over the next ten years.
Gross profit is the third item on the income statement to be forecasted. By
simple subtracting cost of goods sold from net sales, gross profit is found. After gross
profit, we forecasted operating income. Bunge had an average operating income
divided by net sales of 2.77%, but by removing an outlying percentage of 1.8%, we
predict operating income will be 3% of net sales for the next ten years.
The final item to be forecasted on the income statement is net income. Net
income is also affected by the market pressure of the industry. The competitive nature
of agribusiness keeps these ratios consistent to total revenues. Cost control is a major
player in the overall profitability of the industry. With all factors maxed out, we see no
real room for net profits to increase. Over the previous five years, Bunge’s net income
has consistently been 3% of net sales. Since their numbers have been consistent, we
decided to use 3% for the future ten years.
122
Income Statement Fiscal Year
20032004
20052006
20072008
Average Assume
20092010
20112012
20132014
20152016
20172018
Dollars in millions, except per shareNet Sales
22,195
25,234
24,377
26,274
37,842
52,574
54151.2255775.76
58006.7960327.06
62740.1465249.75
67859.7470574.13
73397.0976332.97
Cost of Goods Sold(20,890)
(23,348)(22,806)
(24,703)(35,327)
(48,538)50360.63
51871.4553946.31
56104.1658348.33
60682.2663109.55
65633.9468259.29
70989.67Gross Profit
1,3051,886
1,5711,571
2,5154,036
3790.593904.30
4060.484222.89
4391.814567.48
4750.184940.19
5137.805343.31
SG&A(691)
(871)(956)
(978)(1,359)
(1,613)1949.44
2007.932088.24
2171.772258.65
2348.992442.95
2540.672642.30
2747.99Gain on Sale of Soy Ingredients Business
111Interest Income
102103
104119
166214
232.85239.84
249.43259.41
269.78280.57
291.80303.47
315.61328.23
Interest Expense(215)
(214)(231)
(280)(353)
(361)498.19
513.14533.66
555.01577.21
600.30624.31
649.28675.25
702.26Foreign Exchange Gain/Loss
92(31)
(22)59
217(749)
Other Income (Expenses)‐net3
1822
3115
10
Income from Operations‐ Before Tax707
891448
5221,201
1,5371624.54
1673.271740.20
1809.811882.20
1957.492035.79
2117.222201.91
2289.99Income Tax (Expense) Benefit
(201)(289)
8236
(310)(245)
Income from Operations‐ After Tax506
602570
558891
1,2921272.55
1310.731363.16
1417.691474.39
1533.371594.70
1658.491724.83
1793.82Minority Interest
(104)(146)
(71)(60)
(146)(262)
Equity in Earnings of Affiliates16
1331
2333
34
Net Income411
469530
521778
1,0641083.02
1115.521160.14
1206.541254.80
1304.991357.19
1411.481467.94
1526.66
Common Size Income StatementFiscal Year
20032004
20052006
20072008
Average Assume
20092010
20112012
20132014
20152016
20172018
Dollars in millions, except per shareSales Growth Rate
13.7%‐3.4%
7.8%44.0%
38.9%20.2%
4.00%3.00%
3.00%4.00%
4.00%4.00%
4.00%4.00%
4.00%4.00%
4.00%Net Sales
100%100%
100%100%
100%100.0%
Cost of Goods Sold94.1%
92.5%93.6%
94.0%93.4%
92.3%93.2%
93.00%93.00%
93.00%93.00%
93.00%93.00%
93.00%93.00%
93.00%93.00%
93.00%Gross Profit
5.9%7.5%
6.4%6.0%
6.6%7.7%
6.8%7.00%
7.00%7.00%
7.00%7.00%
7.00%7.00%
7.00%7.00%
7.00%SG&A
3.1%3.5%
3.9%3.7%
3.6%3.1%
3.6%3.60%
3.60%3.60%
3.60%3.60%
3.60%3.60%
3.60%3.60%
3.60%3.60%
Gain on Sale of Soy Ingredients Business0.5%
Interest Income0.46%
0.41%0.43%
0.45%0.44%
0.41%0.43%
0.43%0.43%
0.43%0.43%
0.43%0.43%
0.43%0.43%
0.43%0.43%
0.43%Interest Expense
0.97%0.85%
0.95%1.07%
0.93%0.69%
0.90%0.92%
0.92%0.92%
0.92%0.92%
0.92%0.92%
0.92%0.92%
0.92%0.92%
Foreign Exchange Gain/Loss0.41%
0.12%0.09%
0.22%0.57%
1.42%0.47%
Other Income (Expenses)‐net0.01%
0.07%0.09%
0.12%0.04%
0.02%0.06%
Income from Operations‐ Before Tax3.2%
3.5%1.8%
2.0%3.2%
2.9%2.77%
3.00%3.00%
3.00%3.00%
3.00%3.00%
3.00%3.00%
3.00%3.00%
3.00%Income Tax (Expense) Benefit
Income from Operations‐ After Tax2.28%
2.39%2.34%
2.12%2.35%
2.46%2.32%
2.35%2.35%
2.35%2.35%
2.35%2.35%
2.35%2.35%
2.35%2.35%
2.35%Minority Interest
Equity in Earnings of Affiliates
Net Income1.85%
1.86%2.17%
1.98%2.06%
2.02%1.99%
2.00%2.00%
2.00%2.00%
2.00%2.00%
2.00%2.00%
2.00%2.00%
2.00%
ACTUAL FINANCIALS
ACTUAL FINANCIALS
FORECASTED FINANCIALS
FORECASTED FINANCIALS
123
Balance Sheet
The second financial statement to be forecasted is the balance sheet. By using the
asset turnover ratio, it is possible to directly link Bunge’s income statement to their
balance sheet. Bunge had an asset turnover ratio close to 2.4 for the past five years.
By dividing the one year ahead previously forecasted net sales by 2.4, we derive total
assets for the year.
By finding total non-current assets as a percentage of total assets for the
previous five years, we recognized that Bunge’s total non-current assets were generally
35% of total assets. Next we subtract total non-current assets from total assets to find
current assets.
The next item to forecast on the balance sheet is total current liabilities. By
using the current ratio, current assets divided by current liabilities, this is possible.
Over the past five years Bunge had an average current ratio of 1.6. By dividing current
assets we forecasted by 1.6, we predicted the current liabilities.
The next item on the balance sheet to be forecasted is stock holders equity.
Retained earnings is derived by taking the previous year’s retained earnings and adding
forecasted net income and subtracting out dividends paid. The first two parts of this
have already been found, but dividends will be needed to be predicted. Over the past
five years Bunge has consistently increased their dividends paid per common share by
six cents. This consistency leads us to believe that this trend will continue without
alteration in the future. After future retained earnings have been established, we can
find total stock holder’s equity by adding the changes in retain earnings to the previous
year’s stock holder’s equity.
By having total assets and total stock holder’s equity forecasted, we can find
total liabilities. By rearranging the balance sheet equation, assets=liabilities + stock
holder’s equity, we simple subtract stock holder’s equity from total assets to derive total
liabilities. Since we previously established current liabilities by applying the current
124
ratio, we can find total non-current liabilities by subtracting total current liabilities from
total liabilities.
Next, we can forecast several other items on the balance sheet by applying ratios
we have found. By using the accounts receivable turnover ratio, we can forecast
accounts receivable. By not recognizing an outlying ratio in 2008, we believe Bunge’s
accounts receivable turnover will equal 15 for the next ten years. We then derived
inventory by applying the inventory turnover ratio. A trend helped us predict that
Bunge will have an inventory turnover ratio of 8.6 in the future. Next, we created a
new ratio in order to forecast property, plant and equipment. By dividing net sales by
one year lag amount of property, plant and equipment, we found Bunge generally had
a property, plant and equipment turnover of 12. We then divided the forecasted net
sales by 12 in order to derive future property, plant and equipment.
125
Bunge 2009 10‐KForecasted Balance Sheet
Balance SheetFiscal Year 2003 2004 2005 2006 2007 2008 Average Assume 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018
Dollars in millions, except per shareASSETS:Current Assets:
Cash & Cash Equivalents 489 432 354 365 981 1,004Accounts Receivable 1,495 1,928 1,702 1,879 2,541 2,350 3,610.08 3,718.38 3,867.12 4,021.80 4,182.68 4,349.98 4,523.98 4,704.94 4,893.14 5,088.86
Inventories 2,867 2,636 2,769 3,684 5,924 5,653 5,855.89 6,031.56 6,272.83 6,523.74 6,784.69 7,056.08 7,338.32 7,631.85 7,937.13 8,254.61 Deferred Income Taxes 93 95 102 149 219 268Other Current Assets 1,474 1,577 1,637 2,316 4,853 3,901Total Current Assets 6,418 6,668 6,564 8,393 14,518 13,176 15,105.93 15,710.17 16,338.58 16,992.12 17,671.81 18,378.68 19,113.83 19,878.38 20,673.51 21,500.45
PP&E 2,090 2,536 2,900 3,446 4,216 3,969 4,512.60 4,647.98 4,833.90 5,027.25 5,228.35 5,437.48 5,654.98 5,881.18 6,116.42 6,361.08 Goodwill 148 167 176 236 354 325
Other Intangible Assets‐ net 92 156 132 99 139 107Investments in Affiliates 537 564 585 649 706 761Deferred Income Taxes 233 273 462 714 903 864
Other Non‐Current Assets 366 543 627 810 1,155 1,028Total Non‐Current Assets 3,466 4,239 4,882 5,954 7,473 7,054 8,133.96 8,459.32 8,797.70 9,149.60 9,515.59 9,896.21 10,292.06 10,703.74 11,131.89 11,577.17
TOTAL ASSETS 9,884 10,907 11,446 14,347 21,991 20,230 23,239.90 24,169.49 25,136.27 26,141.73 27,187.39 28,274.89 29,405.89 30,582.12 31,805.41 33,077.62
LIABILITIES & OWNERS EQUITY:Current Liabilities:
Short‐Term Debt 889 541 411 454 590 473Current Portion‐Long Term Debt 128 140 178 156 522 78
Accounts Payable 1,678 1,898 1,803 2,328 4,061 4,158Deferred Income Taxes 42 38 38 54 166 104Other Current Liabilities 1,200 1,285 1,187 1,523 3,495 3,261Total Current Liabilities 3,937 3,902 3,617 4,515 8,834 8,074 9,441.21 9,818.86 10,211.61 10,620.08 11,044.88 11,486.67 11,946.14 12,423.99 12,920.95 13,437.78
Long‐Term Debt 2,377 2,600 2,557 2,874 3,435 3,032Deferred Income Taxes 206 232 145 180 149 132
Other Non‐Current Liabilities 433 518 576 700 876 864Minority Interest in Subsidiaries 554 280 325 410 752 692
Total Non‐Current Liabilities 3,570 3,630 3,603 4,164 5,212 4,720 6,362.69 6,914.64 7,488.66 8,085.65 8,706.52 9,352.22 10,023.74 10,722.13 11,448.46 12,203.84 TOTAL LIABILITIES 7,507 7,532 7,220 8,679 14,046 12,794 15,803.90 16,733.49 17,700.27 18,705.73 19,751.39 20,838.89 21,969.89 23,146.12 24,369.41 25,641.62
Stockholders Equity:Mandatory Convertible Preference Shares, Par Value $.01 863 863
Outstanding: 2008‐862,455; 2007‐862,500 (Liquidation‐ $1000/share)Convertible Perpetual Preference Shares, Par Value $.01 690 690 690
Outstanding: 2008 & 2007‐ 6,900,000 (Liquidation‐ $100/share)Common Shares, Par Value $.01; Authorized‐ 240,000,000 1 1 1 1 1 1
Additional Paid‐In Capital 2,010 2,361 2,630 2,690 2,760 2,849Retained Earnings 1,022 1,440 1,907 2,350 2,962 3,844 4,832.15 5,845.49 6,896.16 7,985.94 9,116.67 10,290.31 11,506.41 12,769.50 14,081.75 15,445.42
Accumulated Other Comprehensive Income (Loss) (656) (427) (312) (63) 669 (811)TOTAL STOCKHOLDERS EQUITY 2,377 3,375 4,226 5,668 7,945 7,436 7,436.00 7,436.00 7,436.00 7,436.00 7,436.00 7,436.00 7,436.00 7,436.00 7,436.00 7,436.00
TOTAL LIABILITIES & OWNERS EQUITY 9,884 10,907 11,446 14,347 21,991 20,230 23,239.90 24,169.49 25,136.27 26,141.73 27,187.39 28,274.89 29,405.89 30,582.12 31,805.41 33,077.62
COMMON SIZE BALANCE SHEETFiscal Year 2003 2004 2005 2006 2007 2008 Average Assume 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018
Dollars in millions, except per shareASSETS:Current Assets:
Cash & Cash Equivalents 4.9% 4.0% 3.1% 2.5% 4.5% 5.0% 4.0%Accounts Receivable 15.1% 17.7% 14.9% 13.1% 11.6% 11.6% 14.0% 15.5% 15.4% 15.4% 15.4% 15.4% 15.4% 15.4% 15.4% 15.4% 15.4%
Inventories 29.0% 24.2% 24.2% 25.7% 26.9% 27.9% 26.3% 25.2% 25.0% 25.0% 25.0% 25.0% 25.0% 25.0% 25.0% 25.0% 25.0%Deferred Income Taxes 0.9% 0.9% 0.9% 1.0% 1.0% 1.3% 1.0%Other Current Assets 14.9% 14.5% 14.3% 16.1% 22.1% 19.3% 16.9%Total Current Assets 64.9% 61.1% 57.3% 58.5% 66.0% 65.1% 62.2% 65.0% 65.0% 65.0% 65.0% 65.0% 65.0% 65.0% 65.0% 65.0% 65.0%
PP&E 21.1% 23.3% 25.3% 24.0% 19.2% 19.6% 22.1% 19.4% 19.2% 19.2% 19.2% 19.2% 19.2% 19.2% 19.2% 19.2% 19.2%Goodwill 1.5% 1.5% 1.5% 1.6% 1.6% 1.6% 1.6%
Other Intangible Assets‐ net 0.9% 1.4% 1.2% 0.7% 0.6% 0.5% 0.9%Investments in Affiliates 5.4% 5.2% 5.1% 4.5% 3.2% 3.8% 4.5%Deferred Income Taxes 2.4% 2.5% 4.0% 5.0% 4.1% 4.3% 3.7%
Other Non‐Current Assets 3.7% 5.0% 5.5% 5.6% 5.3% 5.1% 5.0%Total Non‐Current Assets 35.1% 38.9% 42.7% 41.5% 34.0% 34.9% 37.8% 35.0% 35.0% 35.0% 35.0% 35.0% 35.0% 35.0% 35.0% 35.0% 35.0%
TOTAL ASSETS 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%
LIABILITIES & OWNERS EQUITY:Current Liabilities:
Short‐Term Debt 9.0% 5.0% 3.6% 3.2% 2.7% 2.3%Current Portion‐Long Term Debt 1.3% 1.3% 1.6% 1.1% 2.4% 0.4%
Accounts Payable 17.0% 17.4% 15.8% 16.2% 18.5% 20.6%Deferred Income Taxes 0.4% 0.3% 0.3% 0.4% 0.8% 0.5%Other Current Liabilities 12.1% 11.8% 10.4% 10.6% 15.9% 16.1%Total Current Liabilities 39.8% 35.8% 31.6% 31.5% 40.2% 39.9% 40.6% 40.6% 40.6% 40.6% 40.6% 40.6% 40.6% 40.6% 40.6% 40.6%
Long‐Term Debt 24.0% 23.8% 22.3% 20.0% 15.6% 15.0%Deferred Income Taxes 2.1% 2.1% 1.3% 1.3% 0.7% 0.7%
Other Non‐Current Liabilities 4.4% 4.7% 5.0% 4.9% 4.0% 4.3%Minority Interest in Subsidiaries 5.6% 2.6% 2.8% 2.9% 3.4% 3.4%
Total Non‐Current Liabilities 36.1% 33.3% 31.5% 29.0% 23.7% 23.3% 27.4% 28.6% 29.8% 30.9% 32.0% 33.1% 34.1% 35.1% 36.0% 36.9%TOTAL LIABILITIES 76.0% 69.1% 63.1% 60.5% 63.9% 63.2% 68.0% 69.2% 70.4% 71.6% 72.6% 73.7% 74.7% 75.7% 76.6% 77.5%
Stockholders Equity: 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%Mandatory Convertible Preference Shares, Par Value $.01 0.0% 0.0% 0.0% 0.0% 3.9% 4.3%
Outstanding: 2008‐862,455; 2007‐862,500 (Liquidation‐ $1000/share) 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%Convertible Perpetual Preference Shares, Par Value $.01 0.0% 0.0% 0.0% 4.8% 3.1% 3.4%
Outstanding: 2008 & 2007‐ 6,900,000 (Liquidation‐ $100/share) 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%Common Shares, Par Value $.01; Authorized‐ 240,000,000 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%
RE(t) ‐ RE(t‐1) 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%Additional Paid‐In Capital 20.3% 21.6% 23.0% 18.7% 12.6% 14.1%
Retained Earnings 10.3% 13.2% 16.7% 16.4% 13.5% 19.0% 20.8% 24.2% 27.4% 30.5% 33.5% 36.4% 39.1% 41.8% 44.3% 46.7%Accumulated Other Comprehensive Income (Loss) ‐6.6% ‐3.9% ‐2.7% ‐0.4% 3.0% ‐4.0%
TOTAL STOCKHOLDERS EQUITY 24.0% 30.9% 36.9% 39.5% 36.1% 36.8% 32.0% 30.8% 29.6% 28.4% 27.4% 26.3% 25.3% 24.3% 23.4% 22.5%TOTAL LIABILITIES & OWNERS EQUITY 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%
ACTUAL FINANCIALS FORECASTED FINANCIALS
ACTUAL FINANCIALS FORECASTED FINANCIALS
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Statement of Cash Flows
The final financial statement to forecast is the statement of cash flows.
Unfortunately, forecasting the statement of cash flows is the most imperfect of the
three statements being forecasted. The statement of cash flows consists of three parts,
cash flows from operations, cash flows from investing and cash flows from financing.
Cash flow from operations is the most important of the three parts because it shows
how efficient the company is.
To forecast cash flow from operations we compared Bunge’s reported cash flow
from operations, CFFO, with three things. First we calculated CFFO over Net sales, next
CFFO over Net Income and finally CFFO over Operating Income. Only CFFO over
Operating Income provided a ratio consistent enough to use for the purpose of
forecasting. In 2003 and 2004 Bunge had CFFO divided by Operating Income equal to
.9 and .853. Because of this, we estimated that in the future Bunge’s CFFO would be
.875 of Operating Income.
Next, we forecasted cash flow from investing, CFFI. Since the majority of CFFI is
due to investing in long term assets, we decided to forecast CFFI by calculating the
change in property, plant and equipment. The last forecast made on the statement of
cash flows is cash flow for financing, CFFF. The only legitimate forecast that can be
made in relation to CFFF is the amount of dividends Bunge will pay. As stated before,
we recognized that Bunge has increased its dividends by six cents per share of common
stock each year. Therefore, we derived the forecasted CFFF from this increase.
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Bunge 2009 10‐KForecasted Cash Flow Statement
Cash Flow StatementFiscal Year 2003 2004 2005 2006 2007 2008 Average Assume 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018
Dollars in millions, except per shareNet Income 411 469 530 521 778 1064 1,083.02 1,115.52 1,160.14 1,206.54 1,254.80 1,304.99 1,357.19 1,411.48 1,467.94 1,526.66
Adjustments: Gain on Sale of Soy Ingredients Business (111)Foreign Exchange Loss (Gain) On Debt (120) (85) (112) (175) (285) 472
Impairment of Assets 56 17 35 20 70 18Bad Debt Expense 3 58 40 41 46 69
Depreciation, Depletion and Amortization 184 212 278 324 385 439Stock‐Based Compensation Expense 25 17 19 48 66
Gain on Sale of Assets (6) (13) (36) (22) (14)(Decrease) Increase in Recoverable Taxes Provision (38) 2 (27) 5 81 (9)
Deferred Income Taxes (17) (56) (238) (191) (62) (251)Minority Interest 104 146 71 60 146 262
Equity in Earnings of Affiliates (13) (31) (23) (33) (34)Changes in Operating Assets/Liabilities:
Accounts Receivable (129) (398) 270 (69) (319) (338)Inventories (249) 328 (11) (729) (1743) (905)
Prepaid Commodity Purchase Contracts (76) 211 (41) (88) (184) 300Secured Advances to Suppliers (30) (341) 135 256 207 (143)
Accounts Payable 174 164 (337) 365 1231 1161Arbitration Settlement (57)
Advances on Sales (24) 190 (106)Unrealized Net Gain/Loss on Derivative Contracts 17 81 (184) (530) 184
Margin Deposits 54 (9) (85) (175) 8Accrued Liabilities 64 299 207
Other‐ net (146) (2) (256) (360) (539) 93CASH PROVIDED BY OPERATING ACTIVITIES (41) 802 382 (289) (411) 2543 1421.47 1464.11 1522.68 1583.59 1646.93 1712.81 1781.32 1852.57 1926.67 2003.74
Investing ActivitiesPayments made for capital expenditures (304) (437) (522) (503) (658) (896)
Acquisitions of businesses and intangible assets (196) (355) (50) (74) (153) (131)Investments in Affiliates (24) (18) (91) (39) (71)
Proceeds from disposal of PPE 28 14 59 49 55 39Return of capital from Affiliates 17 38 18
Related party repayments (loans) (13) 13 21 (22) (47)(Payments for) proceeds from investments 11 23 (94)
CASH PROVIDED BY INVESTING ACTIVITIES 60 (824) (480) (611) (794) (1106) (1,079.96) (325.36) (338.37) (351.91) (365.98) (380.62) (395.85) (411.68) (428.15) (445.28)Financing Activities
Net change in short‐term debt maturitites of 90 days or less (381) (348) (130) 11 19 (687)Proceeds from short‐term debt with maturities of greater than 90 days 851 860 1210 488 1105 1887Repayments of short‐term debt with maturities greater than 90 days (529) (678) (952) (200) (1029) (1206)
Proceeds from sale of preference shares, net 677 844Proceeds from sale of common shares 7 348 13 16 32 7
Dividends paid to preference share holdersDividends paid to common share holders (51) (58) (68) (75) (80) (88) (94.87) (102.17) (109.47) (116.77) (124.07) (131.36) (141.09) (148.39) (155.69) (162.99)
Dividends paid to minority interest (63) (52) (57) (27) (18) (154)Minority interst investments in less than wholly‐owned subsidiaries 27
Other netCASH PROVIDED BY FINANCING ACTIVITIES (61) (91) 21 891 1762 (1146) (94.87) (102.17) (109.47) (116.77) (124.07) (131.36) (141.09) (148.39) (155.69) (162.99)
Effect of exchange rate changes on cash and cash equivalents 61 56 (1) 20 59 (268)Net increase in cash and cash equivalents 19 (57) (78) 11 616 23
Cash and cash equivalents, beginning of period 470 489 432 354 365 981Cash and cash equivalents, end of period 489 432 354 365 981 1004
Common Size Cash Flow Statement2003 2004 2005 2006 2007 2008 Average Assume 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018
Dollars in millions, except per shareNet Income ‐1002.4% 58.5% 138.7% ‐180.3% ‐189.3% 41.8% 76.2% 76.2% 76.2% 76.2% 76.2% 76.2% 76.2% 76.2% 76.2% 76.2%
Adjustments: Foreign Exchange Loss (Gain) On Debt 292.7% ‐10.6% ‐29.3% 60.6% 69.3% 18.6%
Impairment of Assets ‐136.6% 2.1% 9.2% ‐6.9% ‐17.0% 0.7%Bad Debt Expense ‐7.3% 7.2% 10.5% ‐14.2% ‐11.2% 2.7%
Depreciation, Depletion and Amortization ‐448.8% 26.4% 72.8% ‐112.1% ‐93.7% 17.3%Stock‐Based Compensation Expense 0.0% 3.1% 4.5% ‐6.6% ‐11.7% 2.6%
Gain on Sale of Assets 0.0% ‐0.7% ‐3.4% 12.5% 5.4% ‐0.6%(Decrease) Increase in Recoverable Taxes Provision 92.7% 0.2% ‐7.1% ‐1.7% ‐19.7% ‐0.4%
Deferred Income Taxes 41.5% ‐7.0% ‐62.3% 66.1% 15.1% ‐9.9%Minority Interest ‐253.7% 18.2% 18.6% ‐20.8% ‐35.5% 10.3%
Equity in Earnings of Affiliates 0.0% ‐1.6% ‐8.1% 8.0% 8.0% ‐1.3%Changes in Operating Assets/Liabilities: 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%
Accounts Receivable 314.6% ‐49.6% 70.7% 23.9% 77.6% ‐13.3%Inventories 607.3% 40.9% ‐2.9% 252.2% 424.1% ‐35.6%
Prepaid Commodity Purchase Contracts 185.4% 26.3% ‐10.7% 30.4% 44.8% 11.8%Secured Advances to Suppliers 73.2% ‐42.5% 35.3% ‐88.6% ‐50.4% ‐5.6%
Accounts Payable ‐424.4% 20.4% ‐88.2% ‐126.3% ‐299.5% 45.7%Arbitration Settlement 139.0% 0.0% 0.0% 0.0% 0.0% 0.0%
Advances on Sales 0.0% 0.0% 0.0% 8.3% ‐46.2% ‐4.2%Unrealized Net Gain/Loss on Derivative Contracts 0.0% 2.1% 21.2% 63.7% 129.0% 7.2%
Margin Deposits 0.0% 6.7% ‐2.4% 29.4% 42.6% 0.3%Accrued Liabilities 0.0% 0.0% 0.0% ‐22.1% ‐72.7% 8.1%
Other‐ net 356.1% ‐0.2% ‐67.0% 124.6% 131.1% 3.7%CASH PROVIDED BY OPERATING ACTIVITIES 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%
Investing ActivitiesPayments made for capital expenditures ‐506.7% 53.0% 108.8% 82.3% 82.9% 81.0%
Acquisitions of businesses and intangible assets ‐326.7% 43.1% 10.4% 12.1% 19.3% 11.8%Investments in Affiliates 0.0% 2.9% 3.8% 14.9% 4.9% 6.4%
Proceeds from disposal of PPE 46.7% ‐1.7% ‐12.3% ‐8.0% ‐6.9% ‐3.5%Return of capital from Affiliates 0.0% ‐2.1% ‐7.9% ‐2.9% 0.0% 0.0%
Related party repayments (loans) 0.0% 1.6% ‐2.7% ‐3.4% 2.8% 4.2%(Payments for) proceeds from investments 0.0% 0.0% 0.0% ‐1.8% ‐2.9% 8.5%
0.0% 0.0% 0.0% 0.0% 0.0% 0.0%CASH PROVIDED BY INVESTING ACTIVITIES 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%
Financing ActivitiesNet change in short‐term debt maturitites of 90 days or less 624.6% 382.4% ‐619.0% 1.2% 1.1% 59.9%
Proceeds from short‐term debt with maturities of greater than 90 days ‐1395.1% ‐945.1% 5761.9% 54.8% 62.7% ‐164.7%Repayments of short‐term debt with maturities greater than 90 days 867.2% 745.1% ‐4533.3% ‐22.4% ‐58.4% 105.2%
Proceeds from sale of preference shares, net 0.0% 0.0% 0.0% 76.0% 47.9% 0.0%proceeds from sale of common shares ‐11.5% ‐382.4% 61.9% 1.8% 1.8% ‐0.6%
Dividends paid to preference share holders 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%Dividends paid to common share holders 83.7% 64.2% ‐324.4% ‐8.5% ‐4.6% 7.6%
Dividends paid to minority interest 103.3% 57.1% ‐271.4% ‐3.0% ‐1.0% 13.4%Minority interst investments in less than wholly‐owned subsidiaries 0.0% 0.0% 0.0% 0.0% 0.0% ‐2.4%
Other net 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%CASH PROVIDED BY FINANCING ACTIVITIES 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%
Effect of exchange rate changes on cash and cash equivalentsNet increase in cash and cash equivalents
Cash and cash equivalents, beginning of periodCash and cash equivalents, end of period
ACTUAL FINANCIALS FORECASTED FINANCIALS
ACTUAL FINANCIALS FORECASTED FINANCIALS
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Estimating Cost of Capital
Cost of Equity
Cost of equity can be defined as the minimum “compensation that the market
demands in exchange for owning the asset and bearing the risk of ownership.”
(Investopedia.com) When the risk associated with an asset is higher; shareholders
require a higher rate of return on their investment. We used the Capital Asset Pricing
Model (CAPM) to derive the cost of equity for Bunge. This is done by multiplying the
estimated beta of the firm by the market risk premium and then adding it to the risk
free rate. The market risk premium is the market return minus the risk free rate, which
can be derived from the most current Treasury bill rates. CAPM measures the amount
of return an investor can expect to receive when risk increases. The formula for CAPM
is:
Ke = Risk Free Rate + Beta (Market Risk Premium)
In order to find the most suitable beta for the pricing model, a regression
analysis was performed. Beta (β) measures the amount of systematic risk a firm has as
well as the sensitivity between the expected return on an asset and the market return.
Five points on the yield curve were analyzed in order to find a beta that best explains
the firm’s current risk. The returns that were used in the regression include ones on a 3
month, 1 year, 2 year, 7 year and 10 year basis. These were taken from the St. Louis
Federal Reserve economic database and were derived from the appropriate treasury
constant maturity. The results were subtracted from the monthly returns of the S&P
500 to create market risk premiums for each period. These MRPs were then regressed
against the monthly returns that Bunge has exhibited. Five slices of observations were
analyzed on each yield curve in order to produce an estimated beta, a 95% confidence
interval for the beta, and an estimated cost of equity. Each period included a 72 month,
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60 month, 48 month, 36 month, and 24 month regression. Below are the results of the
regression analysis.
Three Month Regression
Months Beta Adjusted R² MRP Risk Free Ke
72 1.3855 0.2705 6.8 2.87 12.2915
60 1.4609 0.2699 6.8 2.87 12.8039
48 1.4558 0.2656 6.8 2.87 12.7695
36 1.5739 0.2932 6.8 2.87 13.5724
24 1.6700 0.3016 6.8 2.87 14.2262
One Year Regression
Months Beta Adjusted R² MRP Risk Free Ke
72 1.3838 0.2706 6.8 2.87 12.2799
60 1.4592 0.2701 6.8 2.87 12.7928
48 1.4536 0.2659 6.8 2.87 12.7543
36 1.5705 0.2934 6.8 2.87 13.5491
24 1.6665 0.3015 6.8 2.87 14.2023
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Two Year Regression
Months Beta Adjusted R² MRP Risk Free Ke
72 1.3841 0.2707 6.8 2.87 12.2820
60 1.4580 0.2700 6.8 2.87 12.7845
48 1.4514 0.2658 6.8 2.87 12.7395
36 1.5672 0.2931 6.8 2.87 13.5266
24 1.6634 0.3011 6.8 2.87 14.1812
Seven Year Regression
Months Beta Adjusted R² MRP Risk Free Ke
72 1.3832 0.2710 6.8 2.87 12.2758
60 1.4489 0.2694 6.8 2.87 12.7227
48 1.4408 0.2653 6.8 2.87 12.6676
36 1.5564 0.2927 6.8 2.87 13.4534
24 1.6547 0.3007 6.8 2.87 14.1223
Ten Year Regression
Months Beta Adjusted R² MRP Risk Free Ke
72 1.3814 0.2709 6.8 2.87 12.2634
60 1.4450 0.2690 6.8 2.87 12.6961
48 1.4366 0.2649 6.8 2.87 12.6389
36 1.5521 0.2924 6.8 2.87 13.4241
24 1.6513 0.3005 6.8 2.87 14.0990
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Choosing which beta to use in the capital asset pricing model involves assessing
the explanatory power of each observation. The beta with the highest corresponding
adjusted R² should be used when estimating cost of equity. The adjusted R² helps
analysts determine the percentage of total risk that is explained by the systematic risk
of the firm (β). Therefore, the higher the adjusted R² the more explanatory power the
beta has. For example, the beta of the 24 month observation of a 10 year regression
explains a little over 30% of the total risk of the stock. As a result 70% of the risk of
this beta cannot be explained by market-wide risk. The beta that produced the highest
R² was derived from the 24 month observation in the three month regression period.
The beta of 1.67 explains 30.16% of the overall risk of Bunge’s stock. After plugging
the estimated beta into the CAPM formula along with the current market risk premium
and risk free rate, we computed the estimated cost of equity to be 14.23%. In
addition, a 95% confidence interval was calculated to provide an upper and lower
bound cost of equity. In other words, we are 95% confident that Bunge’s cost of equity
falls between 7.1% and 21.35%. These were calculated from the 95% confidence
interval for the estimated beta, which was identified as having a lower bound of .62 and
an upper bound of 2.72.
Estimated Ke: .1423= .0287 + 1.67 (.068)
Upper Ke: .2135= .0287 + 2.72 (.068)
Lower Ke: .071= .0287 + .62 (.068)
Size-Adjusted Cost of Equity
The size adjusted cost of equity suggests that factors other than systematic risk
influence long term rates of return. This includes the “size effect”, which implies that
the size of a firm can play a factor in the amount of return an investor receives. For
example, smaller firms have historically generated higher returns than those of larger
companies most likely because of the higher risk associated with investing. The size
adjusted cost of equity estimation was created in order to compensate for varying firm
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sizes. It suggests that there is less risk associated with larger firms. This method
combines an additional rate of return (taken from size deciles based on the market
capitalization of the firm) and the estimated CAPM, or cost of equity. The formula for
the size adjusted is as follows:
Ke = Risk Free Rate + β (Market Risk Premium) + Size Premium
The size adjustment table ranges from 1 to 10, with the largest firms falling into
the latter category. These are companies whose market capitalizations exceed 367
billion. As deciles approach 10, the betas of companies have shown to be lower and
therefore have exhibited lower size premiums. This supports our claim that the larger
the firm is the lower the risk of investment. Bunge currently has a market cap that falls
into the eighth decile. The respective size premium associated with this classification is
.9%. Therefore, we added this percentage onto the calculated CAPM to produce a size
adjusted cost of equity of 15.13%.
Size Adjusted Ke: .1513= .0287 + 1.67 (.068) + .009
Backdoor Cost of Equity
Another way to calculate cost of equity is the backdoor method. It is a common
alternative to the Capital Asset Pricing Model and incorporates different measures to
calculate Ke. The backdoor method determines cost of equity by utilizing the current
price of a firm’s stock. The formula for the backdoor method is as follows:
1 ROE K
K g
The current price to book ratio listed on Yahoo! Finance is 1.22. This
measurement takes into account the current market capitalization of the firm. The
return on equity factor was calculated by taking the average of the lagged form of the
ratio from the forecasted ten year period of 2009-2018. The forecasted ROE is expected
to average around 10.54% in the next ten years. The growth rate (g) for the backdoor
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method was derived from the average growth of the forecasted owner’s equity. This
was computed by using a growth formula for the predicted stockholders equity from
2009-2018 and then taking the average. By following this procedure, we have
estimated the growth rate for the backdoor method to be 9.49%. By setting the
formula up algebraically, we solved for Ke and determined it to be 10.35%.
BACKDOOR Ke
ROE Price/Book Value Growth Rate Cost of Equity
BG 10.54% 1.22 9.49% 10.35%
After analyzing the backdoor method of calculating cost of equity, we believe
that the CAPM method for estimating Ke is more reliable. The backdoor cost of equity is
3.88% less than the Ke estimated by CAPM. The size adjusted cost of equity also varies
significantly from the 10.35% that the backdoor method produced. We have concluded
that this rate is too low to reflect the estimated cost of equity for Bunge. The CAPM and
size adjusted rates of 14.23% and 15.13% have led us to believe that an accurate Ke
would lie more within that range.
Cost of Debt
The cost of debt (Kd) for a firm is the rate at which firms pay creditors to borrow
funds. It is important for analysts to consider this measure when performing a valuation
analysis because the higher the cost of debt, the more expensive it is to acquire debt.
To calculate the estimated cost of debt for a firm, the weighted average of interest
rates of liabilities (both short and long term) are computed and then added together. In
order to get a weighted average for each line item, the amount of each liability is
weighted against total liabilities. The appropriate interest rate for each liability is then
multiplied by that weight to produce a weighted interest rate. The sum of these rates
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are then calculated when every weighted interest rate has been found. The total of the
weighted interest rates equal the estimated cost of debt for the firm. The cost of debt
and cost of equity can then be entered into the Weighted Average Cost of Capital
(WACC) formula to produce an estimated cost of capital for the firm. Because equity
investors take on greater risk than that of debt holders, the cost of equity is typically
higher than that of the cost of debt. When WACC is performed, the estimated cost of
capital should lie between the Ke and Kd. In the case for most firms, the measures for
CAPM and WACC should follow the following pattern:
Risk Free Rate < Kd < WACC < Ke
The cost of equity is higher because these investors are only compensated when
all liabilities have been fulfilled. Therefore if a firm were to default on its payments,
shareholders would not receive a return on their investment unless the firm pays all of
its creditors.
The table below presents total liabilities with their respective interest rates.
These rates were taken from Bunge’s 10-K and the St. Louis Federal Reserve economic
database. The rate for short term debt was acquired by taking the weighted average of
interest rates listed under the short term debt schedule. Due to a 53.79% interest rate
that applied to $20 million of short term debt, the weighted average of short term debt
is estimated to be 11.79% (or 11.8%). The interest rate for long term debt was also
found by taking the weighted average of the long term debt schedule. Some portions of
overall long term debt had several interest rates. In an effort to avoid underestimating
cost of debt, we were conservative when weighing multiple interest rates for one line
item of long term debt. Therefore, we chose the highest interest rate stated for such
loans. The sum of the weighted interest rates for all of long term debt equaled 6.19%
(or 6.2%). Current portion of long term debt was also estimated to be 6.2% because
Bunge does not specify what specific debt is currently being paid off. Additionally, the
long term rate of 6.2% was applied to minority interest in subsidiaries because Bunge
has long term obligations to parties who own interest in their subsidiary companies
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The interest rate of 6.5% was allocated to other non-current liabilities. This rate
reflects that of future obligations for pensions. It is reported in Bunge’s 10-K that
99.2% of total pension plan obligations is recognized under noncurrent liabilities on the
balance sheet. For this reason, and the fact that Bunge did not disclose a rate for these
liabilities, we chose to weigh non-current liabilities with the pension plan rate of 6.5%.
The interest rates for the remainder of the liabilities on the balance sheet were taken
from the St. Louis Federal Reserve economic database. Accounts Payable and other
current liabilities were given a rate of .48%, which reflects the rate of the current 3
month AA Non-Financial Commercial paper rate. This rate is very low compared to the
rate from a year ago when it was over 1%. Thus, the low interest rate resulted in a
lower weighted rate that was used to estimate cost of debt. A rate of 2.87% was
applied to deferred income taxes, which was taken from the 10 year treasury yield
(monthly). When the weighted interest rates were added up, a rate of 3.05% was
calculated as the estimated cost of debt.
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COST OF DEBT
Amount Weight Rate Weighted
Rate Source of
Rate Current Liabilities:
Short Term Debt 473 3.70% 11.79% 0.436% Bunge 10-K Current Portion- LTD 78 0.61% 6.2% 0.038% Bunge 10-K
A/P 4158 32.50% 0.48% 0.156% St. Louis FED Deferred Income
Taxes 104 0.81% 2.87% 0.023% St. Louis FED Other Current
Liabilities 3261 25.49% 0.48% 0.122% St. Louis FED Total Current
Liabilities: 8074 0.775%
Long Term Liabilities:
Long Term Debt 3032 23.70% 6.2% 1.47% Bunge 10-K Deferred Income
Taxes 132 1.03% 2.87% 0.03% St. Louis FED Non-Current Liabilities 864 6.75% 6.5% 0.44% Bunge 10-K
Minority Interest in Subsidiaries 692 5.41% 6.2% 0.34% Bunge 10-K
Total Long Term Liabilities: 4720 2.27%
TOTAL LIABILITIES 12794 Kd 3.05%
Weighted Average Cost of Capital (WACC)
The cost of capital is an estimation of the overall interest rate a firm pays its
investors and creditors in order to finance its operations. The weighted average cost of
capital incorporates both the estimated cost of equity and cost of debt. The book value
of liabilities is divided by the value of the firm and multiplied by the estimated cost of
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debt. The market value of equity is also divided by the value of the firm and multiplied
by the Ke. These two measures are then added together to produce an overall interest
rate, or weighted average cost of capital. This calculation is done on both a before tax
(WACCbt) and after tax (WACCat) basis. In the after tax method of calculating cost of
capital, (1-tax rate) is multiplied by the weighted average cost of debt. When
calculated, it is added to the weighted average cost of equity to produce the after tax
cost of capital. Below are the WACCbt and WACCat for Bunge as well as the WACCbt for
the upper and lower bound cost of equities.
WACCbt= (BVL/MVF)(Kd) + (MVE/MVF)(Ke) WACCat= (BVL/MVF)(Kd)(1-t) + (MVE/MVF)(Ke)
WEIGHTED AVERAGE COST OF CAPITAL (WACC)
BVL/MVF Kd Tax Rate MVE/MVF Ke WACC
WACC (BT) 64.03% 3.05% 0% 35.97% 14.23% 7.07%
WACC (AT) 64.03% 3.05% 35% 35.97% 14.23% 6.43% WACC (BT)- Upper 64.03% 3.05% 0% 35.97% 21.35% 9.63% WACC (BT)- Lower 64.03% 3.05% 0% 35.97% 7.10% 4.51%
We found the estimated before tax cost of capital for Bunge to be 7.07%. This is
expected due to the high percentage of firm value that liabilities represent. This
suggests that Bunge relies heavily on debt to finance its business. It also makes sense
because the calculated debt/equity ratios over the past five years for Bunge were all
well over one. If the estimated WACC for Bunge is correct, then the firm must produce
a 7.07% return on its assets to successfully compensate stockholders, bondholders and
other investors for their risk tolerance. When the 35% tax rate that was provided in the
firm’s 10-K is applied, the after tax cost of capital comes out to be 9.63%. Using the
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upper and lower bound cost of equities, a 95% confidence level can be formed.
According to the table, we can be 95% confident that the true cost of capital for Bunge
lies between 4.51% and 9.63%.
THREE MONTH- 24 OBSERVATION REGRESSION
SUMMARY OUTPUT
Regression Statistics
Multiple R 0.576143512
R Square 0.331941346 Adjusted R Square 0.301575044 Standard Error 0.131563454
Observations 24
ANOVA
df SS MS F Significance
F
Regression 1 0.189208206 0.189208206 10.93124022 0.003214114
Residual 22 0.380796731 0.017308942
Total 23 0.570004938
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.037660368 0.030175637 1.248038881 0.225137128 ‐
0.024920072 0.100240809 ‐
0.024920072 0.100240809
X Variable 1 1.670027271 0.505113346 3.306242614 0.003214114 0.62248631 2.717568231 0.62248631 2.717568231
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VALUATION ANALYSIS
Introduction
To this point we have analyzed Bunge’s operations, accounting structure, and
current and expected financial performance. The valuation analysis will help us
determine an overall opinion on the value of Bunge. The method of comparables and
intrinsic models are tools that will provide estimates of whether the firm is undervalued,
overvalued or fairly valued. Each method of comparable and individual intrinsic model
will calculate an estimated share price based on different factors. The closing stock
price of $57.94 was taken on April 1, 2009 in order to have a benchmark for computed
share prices. From the estimated share prices we can determine if it is wise for the
typical investor to buy shares in Bunge or seek a more lucrative stock.
Method of Comparables
Using the method of comparables is one way to value a firm’s stock price. By
computing various ratios from several firms and industry averages we can derive
Bunge’s stock price. Each ratio has one variable divided by another to compute a price.
By finding an industry average and multiplying it by one of Bunge’s variables, we can
compute a price based on the industry average. We will be using a 15% confidence
range. On April 1, 2009 Bunge’s common share price closed at $57.94. Therefore, any
computed price that falls below $49.25 will result in Bunge’s stock price being declared
overvalued. Also any computed price exceeding $66.63 will be declared undervalued.
Any computed comparable price above $49.25 and below $66.63 will be deemed fairly
valued. Although the method of comparables is widely used by investors, we consider
them not highly conclusive because they are not backed by theory. Each firm in the
industry is not identical and may run their company differently than competitors. That
being said, the method of comparables does not take this into account in any of the
ratios. We will be analyzing these eight comparables: Trailing P/E, Forecasted P/E, P/B,
DIV/P, P/EBITDA, P.E.G., EV/EBITDA, and P/FCF. All comparable ratios are computed
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using prices as of April 1, 2009 and numbers and ratios for competitors were taken
from Yahoo! Finance (http://finance.yahoo.com).
Trailing P/E
P/E Trailing
Company PPS EPS P/E Trailing Computed Price
BG 57.94 8.11 52.92
ADM 28.35 6.61
CPO 21.61 6.44
Average 6.525
The trailing price to earnings ratio is defined by taking the firm’s market price of
equity and dividing it by the previous year’s earnings per share. The trailing EPS can be
derived by dividing the previous year’s net income by the total number of shares
outstanding. By using previous year’s numbers one can argue that the trailing price to
earnings ratio is more relevant than using forecasts in assessing value because it is a
proven number. When we found the industry average of 6.525 for the trailing P/E we
multiplied it by Bunge’s current EPS to get a computed price of $52.92. This computed
price suggests Bunge’s stock is fairly valued.
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Forecasted P/E
Forecasted P/E
Company PPS Forecasted EPS P/E Forecasted Computed
Price
BG 57.94 8.90 76.05
ADM 28.35 9.47
CPO 21.61 7.62
Average 8.545
This price to earnings ratio is computed by taking the market price of equity and
dividing it by the forecasted earnings per share for the future. This number is more of
estimation when computing price since the firm’s earnings per share is a predicted
future value. When growth is expected we will see that the forecasted price to earnings
value should be greater than the trailing price to earnings value. After computing the
industry average of 8.545, we then multiplied this average by Bunge’s future EPS of 8.9
to find a comparable price of $76.05. By using a 15% confidence range, this computed
price would tell us that Bunge’s shares are undervalued.
Price to Book
Price/Book
Company PPS BPS P/B Computed Price
BG 57.94 61.14 0.948 73.67
ADM 28.35 1.20
CPO 21.61 1.21
Average 1.205
The price to book ratio is an important factor when assessing a firm’s value
because it uses fairly stable numbers. By dividing the company’s current price per share
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by their current book value of equity per share we can do a better job determining
whether or not the firm’s current stock price is over, under, or fairly valued. This
comparable is one of the best ways to do so. By taking the 1.205 industry average of
price to book ratios and multiplying it by Bunge’s 61.14 book value of equity per share
we were able to conclude that their stock is undervalued. The computed price of $73.67
is far above that of the current stock price.
Dividends/Price
Div/P
Company Div PPS Div/P Computed Price
BG 0.72 34.33
ADM 0.52 28.35 0.018342
CPO 0.51 21.61 0.0236
Average 0.020971
This ratio is intended to measure the relationship between dividends paid to
investors and the current market price of shares. The ratio is computed by dividing the
total dividends paid to investors over the last year of operations by the current market
price per share. The industry average, excluding Bunge, was found to be .0209. By
dividing Bunge’s total dividends paid last year by the industry average Div/P, we
computed Bunge’s comparable price of $34.33. By using a 15% confidence range,
Bunge’s current share price is concluded to be overvalued.
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Price/EBITDA
P/EBITDA
Company Market Cap EBITDA P/EBITDA Computed Price
BG 5.85 2.109 54.51
ADM 15.26 4.37 3.491991
CPO 1.58 0.565 2.79646
Average 3.144226
This ratio is found by dividing a firm’s market capitalization by earnings before
interest, taxes, depreciation and amortization. Market capitalization is found by
multiplying the current share price by the number of shares outstanding. The ratio is
intended to show the relationship between the market value of equity and cash flows
from operations. After calculating an industry average, excluding Bunge, of 3.144 we
multiplied it by Bunge’s EBITDA of 2.109 to get 6.631. We divided this 6.631 by the
number of shares outstanding (.12163 – the decimal was moved in order to calculate
the correct share price) to compute Bunge’s comparable price. By using a 15%
confidence range, a computed price of $54.51 can be deemed fairly valued.
P.E.G.
P.E.G.
Company EPS P/E Growth P.E.G Computed Price
BG 8.90 7.14 9.00 43.44
ADM 6.61 15.00 0.440667
CPO 6.44 10.00 0.644
Average 0.542333
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Price earnings growth (P.E.G.) is a valuation method that takes into account
future growth of earnings. P.E.G. is calculated by dividing the trailing P/E by future
earnings growth. It is important to use trailing P/E instead of forecasted P/E because if
future P/E is used then growth is mistakenly doubled. An industry average P.E.G. was
calculated to be .542. By multiplying the industry average P.E.G. by Bunge’s future
growth rate of 9 and then multiplying by the 8.9 future earnings per share, we
computed a price of $43.44. With a 15% confidence range, Bunge is overvalued.
Enterprise Value/ EBITDA
EV/EBITDA
Company EV EV/EBITDA Computed Price
BG 16.879 65.47
ADM 4.921
CPO 4.305
Average 4.613
Enterprise Value (EV) is defined as market capitalization plus book value of debt
minus cash and investments. By dividing Enterprise Value by EBITDA you compare the
value of a firm, free of debt, to its earnings before interest, taxes, depreciation and
amortization. This ratio is useful because it does not take into effect an individual firm’s
capital structure. The industry average, excluding Bunge, was found to be 4.613. By
multiplying the industry average by Bunge’s EBITDA, then subtracting out book value of
debt plus cash and investments, and finally dividing by the number of shares
outstanding (121.63 million), we computed Bunge’s comparable price to be $65.47.
This computed price finds Bunge’s stock to be fairly valued.
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Price/ Free Cash Flow
P/FCF
Company PPS FCF per Share P/FCF Computed Price
BG 57.94 11.813 ‐53.09
ADM 28.35 ‐7.944 ‐3.56885
CPO 21.61 ‐3.987 ‐5.4199
Average ‐4.49438
This ratio is intended to show the correlation between a company’s share price
and the free cash they generate. To find Free Cash Flow (FCF) we added cash flow
from operations (CFFO) to cash flow from investing (CFFI) and added the change in
cash flow from financing (CFFF). By dividing price per share by FCF per share we derive
P/FCF. Because both ADM and Corn Products had negative FCF, the industry average
was found to be -4.49. By multiplying Bunge’s FCF per share of 11.813 by the industry
average, we computed Bunge’s comparable price of -53.09. This share price is clearly
unrealistic and is not applicable.
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Conclusion
Comparable Ratios Valuation Results
Trailing P/E Fairly Valued
Forecasted P/E Undervalued
Price/Book Undervalued
Div/Price Overvalued
Price/EBITDA Fairly Valued
P.E.G Overvalued
EV/EBITDA Fairly Valued
Price/FCF N/A
We can conclude by using several comparables that Bunge’s stock price on April
1, 2009 of $57.94 is a fair price. This is concluded by using a 15% confidence range.
The results are mixed with Forecasted P/E and Price/Book both indicating that Bunge is
undervalued. Div/Price and P.E.G. indicate that as of April 1, 2009 Bunge is overvalued.
The remaining three ratios all indicate that the current price is fairly valued. An absolute
conclusion on Bunge’s stock price value is impossible to define simply by utilizing
method of comparable ratios. These ratios are not backed by sound theory; therefore
we cannot heavily weigh their results.
Intrinsic Valuation
We will use several different models in this category to help determine Bunge’s
actual value. The models that have been compiled and analyzed are the dividend
discount, forecasted free cash flows, residual income growth, long run residual income
growth, and abnormal earnings growth (AEG) valuations. The inputs to these models
include the forecasted financial measures that we have calculated for 2009-2018.
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Additionally, analysts have the opportunity to observe the sensitivity of the models
when growth rates, weighted average cost of capital (WACC), estimated cost of equity
(Ke), and return on equity move. These models are supported by financial theories that
provide a good estimate of what current stock prices should be. We have chosen a 15%
fairy valued interval to determine the value of share prices. Fifteen percent was chosen
because we believe this is a relatively conservative range on which a typical investor
can confidently rely. The share prices that each model presents will aid us in
determining the overall value of Bunge.
Discounted Dividend Model
The dividend discount model places value on a firm by calculating the present
value of all future dividends that will be paid to investors. This model will take into
account the forecasted dividends that we have estimated. The model is comprised of
two different calculations that determine share prices. First, the present value of
dividends per share is determined every year from 2009-2018. Then perpetuity in 2019
is brought back to time zero to represent all future dividends to be paid out after that
time.
Bunge has consistently increased dividends per share by $.06 every year.
Therefore we forecasted that this trend would continue over the next ten years and
beyond. The present value of each year’s dividend per share is calculated and then all
of them are added together. The present value for each year is calculated by
multiplying the present value factor by the dividend per share for that year. The present
value factor is found by dividing 1 by one plus the estimated Ke raised to the time, in
years, away from time zero (1/((1+Ke)^n)). In this case, the time away from time zero
would fall between 1-10 (2009-2018). For example, the year 2013 is five years away
from time zero, or 2008, so the denominator would be raised to the fifth. When the
present value factor for each year is found it is then multiplied by the dividend per
share for the correlating year. When this is completed we have computed the present
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value of dividends. In order to get the present value of year by year dividends per share
we must sum all of the present values of dividends.
The perpetuity for 2019 and beyond must then be calculated by dividing the
forecasted dividend per share for 2019 by the estimated cost of equity minus the
perpetuity growth rate (DPS/((Ke-g)). When this is completed an analyst must bring the
perpetuity back to time zero money. This is done by dividing the previous equation by
one plus the cost of equity raised to the tenth ((1+Ke)^10), or by one year before the
perpetuity. After this is calculated we will have determined the present value of the
terminal value perpetuity.
The dividend discount model share price can then be found by adding the
present value of the terminal value perpetuity to the present value of year by year
dividends. Because we are valuing the firm as of April 1, 2009 we must calculate a time
consistent price. This is done by multiplying the model share price by one plus the
estimated cost of equity raised to (3/12), or one quarter of a fiscal year. This will adjust
the price to reflect value at the beginning of the second quarter of 2009. The time
consistent price for a given cost of equity and perpetuity growth rate provides analysts
with a basis of value for Bunge.
Discounted Dividend Model
Overvalued < 49.25 < Fairly Valued < 66.63 < Undervalued
Ke
Growth Rate
0 0.01 0.02 0.03 0.04 0.05 0.06
0.0800 15.07 16.23 17.78 19.96 23.22 28.65 39.51
0.1038 11.28 11.83 12.50 13.35 14.47 16.00 18.24
0.1275 8.96 9.25 9.59 10.00 10.50 11.13 11.95
0.1513 7.39 7.56 7.74 7.96 8.22 8.53 8.91
0.1750 6.27 6.37 6.48 6.61 6.76 6.93 7.13
0.1988 5.43 5.50 5.57 5.65 5.73 5.83 5.95
0.2225 4.79 4.83 4.88 4.93 4.98 5.04 5.11
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We multiplied the dividends per share for each year by their present value
factors and added them up using the size-adjusted estimated cost of equity of 15.13%.
For purposes of explanation a .04 growth rate will be used due to the fact the growth
rate of dividends per share was diverging near 4% in year 10. The present value of
year by year dividends at a 15.13% Ke and .04 g was $4.91. To derive the present
value of the terminal value perpetuity we divided the $1.38 DPS in 2019 by (.1513-.04).
This came out to be $12.40, which was further divided by ((1+.1513)^10) to obtain the
present value of the perpetuity. The present value of the perpetuity was calculated to
be $3.03. This was added to the $4.91 to get a model share price of $7.94. The time
consistent formula was applied to get the share price to 4/1/2009. We multiplied $7.94
by ((1.1513)^3/12). This gave us an estimated share price on April 1st to be $8.22. The
observed share price for the same date was $57.94. The $8.22 share price does not fall
into the 15% fairly valued range, but falls well below it. This leads us to conclude that
based on the DDM model at seven different growth rates and cost of equities, for a
total of 49 observations, Bunge is significantly overvalued.
Although the model suggest that Bunge is overvalued, the discounted dividend
model is not very effective when assessing the firm’s future dividends. Bunge does not
pay high dividends and this significantly brings down the PV of year by year dividends
per share. The DDM is also very sensitive to its inputs. Even the slightest change in cost
of equity or perpetuity growth rate will generate substantially different prices.
Therefore, the differences between forecasted dividends and actual dividends will cause
error and yield varying share prices. Additionally, the model assumes that the dividend
growth rate is upward sloping and the payout ratio is constant. It does not reflect the
volatility of the firm’s capital structure, market capitalization or other financial
measurements.
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Free Cash Flows Model
The free cash flows model can be used to calculate intrinsic values of a given
firm’s equity. The cash flow that a firm experiences in a specific year represents the
amount of cash that they will retain. Unlike the dividend discount model, the free cash
flows model will allow analysts to observe how capital gain increases affect stock prices.
The cash flows for a firm can be determined for each year by taking cash flows from
investing activities (CFFI) and subtracting it from cash flows from operations (CFFO).
This should be done for years 1-10, or 2009-2018.
The free cash flows model is supported by theory and has a higher explanatory
power than the discounted dividends model (>20%). Unlike the DDM model, the FCF
valuation method is not sensitive to forecast error or discount rate assumptions. Instead
it places more valuation emphasis on what the firm can do today and in the near future.
The FCF model takes into consideration capital gain increases that affect share prices.
There are three components to configuring the estimated share price under the
free cash flows model. First, the present value of year by year net cash flows from
2009-2018 must be calculated. Then we must determine the present value of a free
cash flows perpetuity for 2019 and beyond. These two components will eventually help
us determine a market value of assets in time zero. From there, we must take into
account the book value of liabilities to determine a market value of equity and model
share price.
To find the present value of year by year cash flows an analyst must first
configure each year’s net cash flow by subtracting cash flow from investing activities
(CFFI) from cash flow from operations (CFFO). Now the net cash flows from years 1-10
must be taken back to time zero. This is done by multiplying the net cash flow of each
year by its correlating present value factor. The present value factor for each year is
calculated by dividing 1 by one plus the estimated WACCbt raised to the time, in years,
away from time zero (1/((1+WACCbt)^n)). As mentioned before, this is the number of
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years the forecasted cash flow is away from 2008. The present value factor should be
determined for each year from 2009-2018. After this is done we can multiply the
present value factor for each year by the net cash flow for that same year. This will
result in the present value of cash flows for each year over the ten year period. The
total present value of year by year free cash flows can then be found by adding up all
of the present values of future cash flows from years 1-10 (2009-2018).
The perpetuity must then be calculated to produce a present value of all future
cash flows beyond 2019. The figure for year 2019 must be estimated to be the next
logical figure in the increasing or decreasing trend of the overall cash flows. When that
number has been formed, it is divided by WACCbt minus the perpetuity growth rate
(WACCbt-g). Now the perpetuity should be brought back to time zero by dividing the
previous equation by 1 plus WACCbt raised to the tenth power (1+(WACCbt^10)), or
one year before the perpetuity. The perpetuity can also be brought back to year zero by
multiplying it by the present value factor of year ten. When all this has been performed
the present value of the free cash flows perpetuity has been calculated.
The free cash flows model can now generate a price per share with these
present values. The present value of year by year free cash flows should be added to
the present value of the free cash flows perpetuity to generate an estimated market
value of assets in time zero. From there, an analyst should subtract the book value of
liabilities that is reported on the firm’s 10-K from the estimated market value of assets.
By doing this we have calculated an estimated market value of equity. By dividing this
equity estimation by the number of shares outstanding a model share price is
generated. However, this share price reflects one that would be expected on December
31, 2008. To find a time consistent price, and bring the share price up to the time of
valuation (April 1, 2009), we should times the model share price by 1 plus the WACCbt
raised to the (3/12). This brings up the estimated stock price by three months to April
1st.
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Free Cash Flows Model
Overvalued < 49.25 < Fairly Valued < 66.63 < Undervalued
WACC
Growth Rate
0.0075 0.015 0.0225 0.03 0.0375 0.045 0.0525
0.0483 183.27 230.98 306.42 443.71 771.66 2590.33 N/A
0.0569 129.36 158.28 199.81 264.49 379.18 638.45 1781.58
0.0654 91.90 110.87 136.48 172.93 228.98 326.24 536.60
0.0740 63.82 76.86 93.71 116.30 148.17 196.52 278.61
0.0825 42.44 51.80 63.50 78.55 98.61 126.70 168.83
0.0910 25.45 32.37 40.81 51.32 64.78 82.62 107.42
0.0996 11.49 16.71 22.95 30.53 39.94 51.94 67.76
The net cash flow of the firm’s assets was calculated for the ten year period and
the results showed a positive, increasing trend. After we computed the present value
factors for each year and multiplied them by their corresponding cash flows we
configured the present value of year by year free cash flows. We summed all of the
present values up to retrieve a total present value of year by year free cash flows.
Using our estimated size adjusted WACCbt of .0740 we found the PV of free cash flows
to be $8,157.28 million. The size adjusted WACCbt was retrieved by inputting the size
adjusted Ke into the WACC formula. Next we computed the free cash flows perpetuity.
We estimated that the cash flow in 2019 will be $1665 million. We divided 1665 using
the size adjusted WACCbt of .0740 and a growth rate of .0375 (both cash flows from
operations and investing activities are growing at a rate of 4%). When we calculated
(1665/(.0740-.0375)) we found the value of the perpetuity in year 2019 to be
$45,616.44 million. We needed to bring this back to time zero so we divided it by
(1.074^10) or 2.0419. This gave us the present value of the perpetuity in 2008, or
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$22,339.76 million. We added this number to the PV of year by year free cash flows, or
$8,157.28 million, to get an estimated market value of assets.
The market value of assets is an important measure because it reflects the
overall market value of the firm. The market value of assets at December 31, 2008 was
calculated to be $30,497.04 million. Now we must derive a market value of equity by
subtracting out the book value of liabilities in 2008 from the calculated market value of
assets. Therefore, we took out $12,794 million from the $30,497.04 million to get an
estimated market value of equity of $17,703.04 million. After that we divided the MVE
by the 121,632,456 shares outstanding to get a model price. With the size adjusted
WACC of .0740 and growth rate of .0375 the model price at 12/31/08 was $145.55. We
brought the share price up to April 1st by multiplying 145.55 by (1+.0740)^(3/12). That
gave us a time consistent price of $148.17. This is well above the 15% range and
suggests that Bunge is an undervalued firm.
Although the FCF model insinuates that Bunge is undervalued, we believe the
results are skewed. When the WACCbt decreases the present value of year by year cash
flows and present value of the perpetuity increases significantly. When these are added
together and BVL is subtracted the MVE is a lot larger. In addition, as growth rates
increase the perpetuity increases due to the figure in 2019 being divided by a smaller
number (Ke-larger g= smaller denominator). This has resulted in share prices being as
high as $2,600. It is obvious that the stock prices of Bunge should not be selling at that
high of a price. The reason for these numbers can be explained by our low WACCbt
estimates. Because Bunge is over 65% debt financed and has a low cost of debt, the
weighted average cost of capital produced lower numbers.
The 95% confidence interval included a size adjusted lower bound WACCbt of
.0483, with an estimated WACCbt of .0740. These lower WACC estimates produced
higher PV factors that increased the present values of yearly cash flows. They also
provided little difference between g and WACCbt when g was subtracted from WACC to
derive the present value of the perpetuity in 2019. Therefore, higher than normal share
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prices were calculated. Additionally, when the growth rate exceeded the .0483 lower
bound WACCbt the resulting share price was negative. This was because the growth
rate was larger than the WACC, which produced a negative denominator. We believe
that since the FCF model is sensitive to lower WACC estimates the share prices do not
provide a reliable basis for developing an opinion.
Residual Income Model
The residual income model is one of the most accurate models of the intrinsic
valuation techniques. This is because the model is not as sensitive to changes in the
growing perpetuity, which is one of the main components of the model. In addition, the
residual income model is also one of the most reliable because its explanatory power
can reach upwards of 80-90%. For this reason, we should be able to form confident
assumptions concerning the value of the firm based on model stock prices.
A cornerstone of the residual income measurement is the creation or destruction
of firm value. This can be determined by subtracting the annual normal income (the
benchmark) for a specific year from the net income of that year. The annual normal
income of a firm is found by first calculating the current year’s projected book value of
equity. This is done by taking the book value of equity from the previous year, staring
in the base year, and adding the forecasted net income for the current year. For
example, to calculate the book value of equity for 2013 an analyst would add the 2013
net income to the 2012 book value of equity. Analysts should then subtract the
forecasted total dividends paid for that same year to retrieve the projected book value
of equity for the year. In the case of the example, the 2013 total dividends paid would
be subtracted from the calculation performed earlier. This should be done for each of
the ten forecast years.
Now that the book value of equity has been determined for each year from
2009-2018, annual normal income can be found. To do this, the estimated cost of
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equity (Ke) will be multiplied by the previous year’s book value of equity. This
calculation will continue to be a lagged formula for the entire ten year period. The
number that is calculated is the annual normal income. When this has been performed
for every year, annual normal income should be subtracted from the net income for the
year to retrieve the given year’s annual residual income.
After the annual residual income for each year has been computed, we must
bring back the annual residual incomes for 2009-2018 to their present values. This is
done by multiplying the annual residual incomes for each year by its corresponding
present value factor. The present value factor can be calculated by dividing 1 by one
plus the cost of equity raised to the time (n) that has elapsed since time zero
(1/(1+Ke)^n)). The present value factor should decrease as the years go into the
future. When we multiply the present value factors by the annual residual incomes for
each year the result is the present value of the year by year residual incomes. By
adding all of the years up we can derive the total present value of year by year residual
income.
Investors can further analyze the PV of year by year residual income. A negative
figure suggests that the firm is destroying value. If the outcome of the calculation
produces a positive number, then the firm is adding value. Over a given period of time,
consistent positive or negative numbers indicate that a firm is expected to add or
destroy value in future years.
Now we need to find the present value of the perpetuity in order to determine
the present values of residual incomes from 2019 beyond. To do this residual income
for the perpetuity should be forecasted. This can be done by selecting a number that
fits the overall trend and would be acceptable as the next logical figure in such trend.
After selecting a number we need to divide it by the cost of equity minus the chosen
perpetuity growth rate. Negative growth rates were used in this model because the
equilibrium theory suggests that residual income moves back to zero after a given
period of time. When all of this has been performed the previous equation should be
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divided by 1 plus the cost of equity raised to the tenth year, or one year before the
perpetuity ((1+Ke)^10). The equation could also be multiplied by the present value
factor of year ten. The resulting figure is the present value of terminal value perpetuity.
To get the model share price a market value of equity in time zero must be
calculated. This is done by adding the present value of year by year residual income,
the present value of the terminal value perpetuity and the book value of equity for time
zero (2008) together. After this is calculated we divide it by the number of shares
outstanding. This will give us the estimated model share price for a given Ke and
growth rate. To bring the share price up to April 1st, we will multiply the model stock
price by 1 plus the cost of equity, or (1+Ke), raised to the (3/12).
Residual Income Model
Overvalued < 49.25 66.63 < Undervalued
49.25 < Fairly Valued < 66.63
Ke
Growth Rate
-0.1 -0.2 -0.3 -0.4 -0.5
0.0800 83.55 82.59 82.14 81.88 81.70
0.1038 60.78 62.50 63.37 63.89 64.24
0.1275 45.24 47.98 49.44 50.34 50.96
0.1513 34.28 37.25 38.91 39.97 40.70
0.1750 26.45 29.30 30.95 32.03 32.79
0.1988 20.72 23.29 24.84 25.86 26.60
0.2225 16.49 18.74 20.13 21.08 21.76
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After we derived the book value of equity for each year by adding the previous
year’s BVE plus net income minus dividends, we multiplied them by the estimated size
adjusted cost of equity of .1513 to retrieve each year’s annual normal income. Then we
subtracted those annual normal incomes from its corresponding net income to find the
residual income for years 1-10. With a Ke of .1513, residual income from 2009 beyond
was negative. This indicates that with our estimated forecast and cost of equities Bunge
will continue to destroy value in the upcoming years. When each year’s residual income
is multiplied by its present value factor, we derived the present value of year by year
residual income.
When all of the present values were added together we calculated the total PV of
year by year RI to be -$2,183.3 million. The present value of the perpetuity was then
found. We forecasted that the residual income in 2019 and beyond would be 1.1 times
the residual income in 2018. With a Ke of .1513 and growth rate of -.3 the residual
income for the perpetuity was -$1262 million. We divided this by the cost of equity
minus the growth rate, or (.1513- (-.3)) = .4513. This gave us the present value of the
perpetuity in 2019, or -$2,796.62 million. To get this back to time zero we divided this
number by ((1+.1513)^10) to get a present value of the terminal value perpetuity in
2008 of -$683.52 million. After we calculated the present values of the residual income
model components we found the market value of equity at 12/31/08. We added the -
$683.52 million and -$2,796.62 million to get a total of -$3,480.14 million. This was
then added to the book value of liabilities in 2008, or $7,436 million, to find the market
value of equity. With the .1513 cost of equity and -.3 growth rate the MVE in time zero
equaled $4,569.14 million. This was divided by the 121.63 million shares outstanding to
get a model share price of $37.57. When multiplied by ((1+.1513)^(3/12)) to get a
time consistent price, the stock was estimated to be $38.91.
When using the residual income model, several combinations of different cost of
equities and growth rates suggest that Bunge is overvalued. Only at a drastically lower
Ke and higher growth rates would the firm produce a fairly valued or undervalued share
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price. We believe that the residual income model is an effective model due to its high
explanatory power and accounting based theory. Therefore we are confident that the
residual income model will support our final conclusion.
Abnormal Earnings Growth (AEG) Model
The Abnormal Earnings Growth (AEG) model is one that relies on financial theory
derived from the financial statements. Components of the model include dividend
reinvestment (DRIP), cumulative dividend earnings, and normal earnings. These factors
help determine whether or not a firm is expected to fulfill its obligations to investors.
The cumulative dividend earnings and normal earnings are compared to determine the
difference between actual earnings and earnings expected by investors. The calculated
abnormal earnings growth for each year determines whether or not the firm is expected
to destroy or add to firm value. This directly affects investors because it can destroy or
increase shareholder wealth. If actual return meets or exceeds that of the expected
return then shareholder wealth is preserved. On the contrary, actual return that falls
short of the expected return decreases shareholder wealth. If an analysis predicts
negative returns for the future then estimated share prices are lowered, which
increases a firm’s chances of being overvalued.
To find model share prices we must first derive the abnormal earnings growth for
the years 2010-2018. The forecasted net income for 2009 is not included because it
represents the core net income that will help determine estimated share prices. This is
first done by finding the dividend reinvestment for each year at a drip that equals the
cost of equity. This drip represents the amount of money that investors can reinvest in
the firm with their previous year’s dividend payment. To do this the estimated Ke is
multiplied by the previous year’s forecasted total dividends. This should be done
through the year 2018. When this has been calculated we can derive cumulative
dividend earnings for the nine year period. By adding the dividend reinvestment for
each year to the forecasted net income for that same year we can get the cumulative
dividend earnings. In order to get the AEG for the nine years the normal earnings for
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each year should now be computed. Normal earnings are calculated by multiplying 1
plus the estimated cost of equity by the previous year’s forecasted net income, or (NIt-
1 *(1+Ke)). As with before, this should be done for each year for the first nine years.
Now that we have calculated both the normal earnings and cumulative dividend
earnings we can derive AEG. This is done by subtracting the normal earnings for each
year from the cumulative dividend earnings for that same year. From these annual
abnormal earnings growth figures we can determine whether or not Bunge is adding or
decreasing value.
Although the AEG has been calculated we need to bring each year back to time
zero. This is done by multiplying each AEG by its corresponding present value factor.
The present value factor for each year can be computed by dividing 1 by 1 plus the
estimated Ke raised to the n, or the time in years away from time zero:(1/((1+Ke)^n)).
After the PV factor is multiplied by the AEG we can add up all of the present values to
retrieve a total PV of year by year AEGs. Before an analyst should go any further, a
residual income check figure should be applied to ensure AEG for each year is correct.
This is done by calculating the difference between each year’s expected residual
income. When compared to the AEG model, the numbers should be the same. If not
either the residual incomes or AEGs are incorrect.
Now the present value of the perpetuity in year 2019 should be found. First an
estimated AEG for year 2019 and beyond should be formed. This figure should be the
next logical number in the discovered trend for the AEG over the previous nine years.
Once this has been done the 2019 AEG is divided by the cost of equity minus the
growth rate, or (Ke-g). This gives us the present value of the perpetuity in 2019 dollars.
As previously mentioned, negative growth rates are used in the AEG model because
they help determine the rate at which the AEG is regressing back to zero. To get the PV
of the perpetuity at 12/31/08 the previous equation is divided by ((1+Ke)^9), or one
year before the perpetuity.
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The intrinsic value per share can be computed with the present value of year by
year AEG and PV of the perpetuity. First the total average net income must be found.
This is done by adding the core net income (or forecasted net income for 2009), PV of
year by year AEG, and PV of the terminal value perpetuity. Once the total average net
income is computed it should be divided by the number of shares outstanding to derive
the earnings on a per share basis. This EPS figure is then divided by the capitalization
rate, or the estimated cost of equity (Ke), to derive a model share price. To get the
stock price in 4/1/09 dollars the previous share price is multiplied by 1 plus the
estimated Ke rose to the (3/12), or ((1+Ke)^(3/12)).
Abnormal Earnings Growth (AEG) Model
Overvalued < 49.25 66.63 < Undervalued
49.25 < Fairly Valued < 66.63
Ke
Growth Rate
-0.1 -0.2 -0.3 -0.4 -0.5
0.0800 72.36 77.36 79.72 81.10 82.01
0.1038 43.52 47.85 50.04 51.36 52.24
0.1275 28.48 31.90 33.71 34.84 35.61
0.1513 19.80 22.40 23.85 24.78 25.42
0.1750 14.48 16.45 17.59 18.34 18.86
0.1988 11.02 12.51 13.40 13.99 14.42
0.2225 8.68 9.82 10.52 10.99 11.33
We first derived the dividend reinvestment using a .1513 cost of equity (drip) for
the years 2010-2018. This was then added to the forecasted net incomes for each year
to derive the cumulative dividend earnings. Next we computed the normal earnings for
the nine year period by multiplying the previous year’s net income by 1.1513. We then
subtracted those normal earnings from the cumulative dividend earnings for the same
year to retrieve AEG. We checked our AEG figures by comparing them to the difference
in residual incomes at the same Ke, or .1513.
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Ke = .1513 2010 2011 2012 2013 2014 2015 2016 2017 2018
∆ Residual Income (117.02) (108.70) (112.56) (116.62) (120.89) (125.37) (129.71) (134.65) (139.83)
AEG (117.02) (108.70) (112.56) (116.62) (120.89) (125.37) (129.71) (134.65) (139.83)
After calculating present value factors using our estimated size-adjusted Ke and
multiplying them by their corresponding AEGs, we totaled up the present values to get
a total present value of year by year AEG of -$568.73 million. The present value of the
perpetuity was then found. Because the growth rate for AEG hovered around 3.8% over
the previous nine years we believe that the trend will remain the same. Therefore we
multiplied the 2018 AEG of -$139.83 million by 1.038 to get a 2019 AEG of -$145.14
million. To get the perpetuity in 2019 dollars we divided -145.14 by (.1513-(-.3)) to get
a PV of -$321.60 million. Negative 30% was used because we believe Bunge will
regress back to zero at a moderate rate. Next we divided the -$321.60 by (1.1513^9),
or 3.554, to get a present value of the terminal value perpetuity at 12/31/08 of -$90.49
million.
From there we added the present values from the nine year period (-$568.73
million) and the perpetuity (-$90.49 million) to the forecasted net income in 2009, or
core net income, of $1,083.02 million. That gave us a total average net income of
$423.80 million. This was further divided by the 121.63 million shares outstanding to
derive an EPS of $3.48. To get the model price we divided the calculated EPS of 3.48 by
the estimated size-adjusted cost of equity (.1513). This resulted in an intrinsic value per
share of $23.03. Finally, the 23.03 was multiplied by ((1.1513^(3/12)) to get a time
consistent share price of $23.85. This price does not fall into the 15% fairly valued
range. The model has determined that Bunge is an overvalued firm. Looking at the
sensitivity table it is evident that at different cost of equities and growth rates Bunge is
for the most part overvalued. Only when the cost of equity is really low is the firm
considered under-or-fairly valued. As mentioned before, we believe the true Ke lies
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somewhere within one standard deviation of the estimated cost of equity. Therefore we
have determined our basis of opinion will rely on share prices derived from higher cost
of equities. With that being said, the sensitivity table shows that Bunge is entirely
overvalued.
Long Run Residual Income Model
The long run residual income method allows us to place more importance on the
forecasted earnings of the firm instead of dividends. The model incorporates the book
value of equity in time zero, the long run return on equity, Ke and growth rates to
generate a market value of equity on which to derive a share price. The equation is as
follows:
MVE = BVE * (1 + (ROE – Ke)/(Ke– G))
The model is sensitive to changes in the ROE, Ke and growth rate. Therefore the
model can produce a varying range of estimated share prices. The ROE of the firm must
first be calculated on a lagged basis to provide an input on which to derive a stock
price. This is done by taking the forecasted net income for the year and dividing it by
the previous year’s forecasted book value of equity for 2009-2018. This will give us a
range of ROEs to use in the formula.
2009 2010 2011 2012 2013 2014 2015 2016 2017 2018
ROE 0.146 0.132 0.123 0.115 0.108 0.103 0.098 0.093 0.090 0.086
Now we must compute a series of growth rates based on the estimated cost of
equities and ROEs. We have already determined the ROEs for 2009-2018 but need a
reference of the difference between the return on equity and Ke. This can be done by
subtracting each of the five Ke’s in the 95% confidence interval from each year’s ROE
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from 2009-2018, or (ROE-Ke). After this has been done we can compute a % change in
(ROE-Ke) over the ten year period to see where the growth rate is diverging. The
associated growth rates for each Ke are as follows:
Ke 0.0800 0.1275 0.1513 0.1750 0.2225
g -0.3436 0.0884 0.0542 0.0392 0.0251
Three different methods were used to derive share prices. First, an ROE of .09
was held constant in the equation and different Ke’s and growth rates were applied.
The .09 was used because the computed ROE for 2018 floated around there. After that,
the growth rate of .0542 that was derived with our estimated size adjusted Ke was held
constant. Finally, the estimated size adjusted Ke of .1513 was kept constant and MVE
was computed using different growth rates and ROEs. The latter two were compared
with six ROEs because the trend of return on equity is decreasing. Once a market value
of equity has been determined we divide the number by the 121.63 million shares
outstanding to retrieve a model share price. To convert the stock price to April 1st
dollars the share price at 12/31/08 is multiplied by ((1+Ke)^(3/12)).
Long Run Residual Income Model- Constant .09 ROE
Overvalued < 49.25 66.63 < Undervalued
49.25 < Fairly Valued < 66.63
Ke
Growth Rate
-0.3436 0.0251 0.0392 0.0542 0.0884
0.0800 63.79 73.67 77.60 86.48 N/A
0.1275 57.98 39.93 36.24 30.77 2.58
0.1513 55.48 32.57 28.70 23.35 1.61
0.1750 53.22 27.56 23.81 18.86 1.18
0.2225 49.24 21.13 17.82 13.67 0.77
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Long Run Residual Income Model- Constant .0542 Growth Rate
Overvalued 49.25 < Fairly Valued < 66.63 Undervalued
Ke
ROE
0.09 0.10 0.11 0.12 0.13 0.15
0.0800 86.48 110.63 134.79 158.95 183.10 231.42
0.1275 30.77 39.36 47.96 56.55 65.15 82.33
0.1513 23.35 29.87 36.39 42.91 49.44 62.48
0.1750 18.86 24.13 29.40 34.67 39.94 50.48
0.2225 13.67 17.49 21.31 25.13 28.95 36.59
Long Run Residual Income Model- Constant .1513 Ke
Overvalued 49.25 < Fairly Valued <
66.63 Undervalued
G
ROE
0.09 0.10 0.11 0.12 0.13 0.15
-0.3436 55.48 56.76 58.04 59.32 60.60 63.16
0.0251 32.57 37.58 42.60 47.62 52.64 62.67
0.0392 28.70 34.35 40.00 45.64 51.29 62.59
0.0542 23.35 29.87 36.39 42.91 49.44 62.48
0.0884 1.61 11.68 21.75 31.81 41.88 62.02
After calculating the ROEs for 2009-2018 and growth rates for our cost of
equities, we performed these three methods. Using a .09 ROE, .1513 Ke and .0542
growth rates we calculated the formula and multiplied it by the book value of equity in
2008. When we subtracted .1513 from .09 and divided it by (.1513-.0542) we got a
number of -.6313. When then added that number to one to get .3687. This was
multiplied by the book value of equity, or $7,436 million, to get an estimated market
165
value of equity. When calculated, the MVE with these three inputs equaled $2,741.59
million. From there we divided the market value of equity by the 121.63 million shares
outstanding to get model share price of $22.54. That number was multiplied by (1.1513
^ (3/12)) to get a time consistent stock price of $23.35. This figure is well below the
reported stock price on 4/1/09 and suggests that Bunge is an overvalued firm.
Differing growth rates, ROEs and cost of equities were applied that produced
prices that for the most part stayed within a specific range. As growth rates increased,
Ke decreased or ROE increased the model price increased. When growth rates
decreased, Ke increased or ROE decreased the model price decreased. Although the
range of ROE is .09-.15, we believe that the true long run ROE is around .09 or lower.
Since the trend is decreasing it is expected that the ROE beyond 2019 will decrease.
The case is similar with the growth rate. The -.34 g was computed using the .08 Ke. We
believe that the actual cost of equity (size adjusted) falls between .1275 and .175 and
would only fall to 8% in extreme circumstances. Therefore, we have estimated that the
true growth rate falls somewhere in the .03 to .08 range. Within the ranges of Ke and
growth rates that we believe better reflect the true state of the firm, the share prices
are overvalued. Overall when all three techniques are analyzed it is evident that each
one suggests Bunge is overvalued.
Analysts Recommendation
After conducting thorough research and analysis on Bunge we have determined
that the firm is an overvalued company. Our conclusion is based on a firm and industry
analysis, accounting accuracy, current and future financial performance, and varying
model valuations. The models were dependent on a 15% fairly valued interval that was
based on the share price of $57.94 taken on April 1, 2009.
The discussion of our firm and its environment helped us evaluate the current
position of the company in regards to industry competitiveness and stability, key
166
success factors, and competitive advantage management. The accounting analysis
provided us with a foundation for concluding the believability of Bunge’s financial
statements. We determined that Bunge’s reported accounting was not manipulated to
portray a more attractive position. Although negative cash flows in some years skewed
the results of some expense diagnostic ratios, this would not suggest that the firm is
trying to overstate revenue or understate expenses. Goodwill or capital leases did not
need to be restated as they did not represent large enough percentages of total assets
or liabilities.
The financial analysis is considered the backbone of our final opinion. Although
the liquidity, profitability and capital structure ratios suggest that Bunge is stable to
slightly outperforming, it is the forecasted financial statements that estimate future
performance and value. These financial statements were forecasted using historical
data and trends. The income statement was the most important statement to forecast
because the balance sheet and statement of cash flows are dependent on its figures.
We forecasted net sales would increase by 3% in 2009-10 and 4% from 2011 on. Net
income was forecasted to increase by 3% each year for the entire ten year period
because it has consistently been 3% of net sales.
On the balance sheet forecasted total assets was derived by dividing forecasted
net sales by the asset turnover ratio of 2.4. Other items on the balance sheet were
calculated from ratios that were previously determined and reflected the historical trend
of the firm. Finally, the statement of cash flows was forecasted. Cash flows from
operations were forecasted to be .875 of operating income. CFFI was then derived by
using a property, plant and equipment turnover ratio. Cash flows from financing were
the final item on the statement to be forecasted. Since Bunge has increased dividends
per share by $.06 each year we expect this to continue.
By performing a regression analysis we were able to derive an estimated beta
and cost of equity. The beta with the highest adjusted r2 was 1.67, and explains only
30.16% of overall risk. When this was entered into the capital asset pricing model we
167
configured an estimated cost of equity of 14.23%. A 95% confidence interval was
formed to ensure the true Ke is included. A cost of debt was then determined to be
3.05%. These two estimates were used as inputs in the WACCbt formula, which
generated an estimated before tax WACCbt figure of 7.07%. A 95% confidence interval
for WACCbt was also created. The forecasted financial statements, estimated cost of
equity and before tax WACCbt that were generated are the core of the valuation
analysis.
The valuation models support our final conclusion. We did not put a lot of
emphasis on the method of comparables because they are not backed by sound
financial theory. The discounted dividend model and free cash flows models were also
considered outliers and were not heavily considered in our final decision. The free cash
flow model was overly sensitive to our before tax WACCbts. The discounted dividend
model did not provide us with realistic share prices because our forecasted total
dividends were low. Nevertheless, the model indicates that Bunge’s current share price
is overvalued.
We believe that the final three intrinsic models are the most reliable valuation
models. The residual income model has a high explanatory power and is not as
sensitive to changes in inputs. The AEG model is supported by the financial statements
and incorporates the future addition or destruction of value. Finally, the long run
residual income model evaluates value at several different growth rates, size-adjusted
Ke, and long run return on equity. All three suggest that Bunge is an overvalued
company.
Only in extreme circumstances is Bunge expected to sell at an undervalued price.
We do not believe that the cost of equity of WACCbt will decrease in the future, but
rather increase. The cost of debt was unusually low due to a drop in the non financial
commercial paper rate that affected a large portion of total liabilities. In the case for the
three valuation models we most heavily relied, increases in cost of equity, WACCbt and
some growth rates decrease share prices. This increases the chance of a share price
168
being overvalued. Overall four out of the five intrinsic models suggest Bunge is an
overvalued firm. This includes the models that are high in explanatory power and
financial theory. Therefore, we suggest that investors sell any stock they currently hold
in Bunge and seek other viable options.
Appendices
Sales Manipulation Diagnostics
Net Sales / AR (Raw)
2004 2005 2006 2007 2008
Bunge 13.0882 14.3226 13.9830 14.8926 15.6980
Archer Daniels Midland 8.9467 8.7619 8.1848 6.8735 6.0799
Corn Products 8.0387 8.2230 7.3417 7.3717 7.0576
CHS Inc. 13.1372 10.9023 13.3604 12.2862 13.9386
Net Sales / AR (Change)
2004 2005 2006 2007 2008
Bunge 7.0185 3.7920 10.7175 17.4743 17.7547
Archer Daniels Midland 7.5558 ‐3.3751 1.7677 3.8400 5.0794
Corn Products 5.6563 25.6667 3.7286 7.4757 5.8012
CHS Inc. 23.2488 3.6981 ‐141.3296 8.7238 16.4928
169
Net Sales / Inventory (Raw)
2004 2005 2006 2007 2008
Bunge 9.5728 8.8035 7.1319 6.3879 7.9354
Archer Daniels Midland 7.8733 9.2006 7.8238 7.2637 6.8717
Corn Products 8.8488 9.1473 8.1651 7.9415 8.2315
CHS Inc. 15.1529 13.0466 12.7198 10.3298 13.5841
Net Sales / Inventory (Change)
2004 2005 2006 2007 2008
Bunge 13.1558 ‐6.4436 2.0732 5.1643 16.4949
Archer Daniels Midland 5.2268 0.3031 0.8461 5.3686 6.2922
Corn Products 4.2093 0.0000 4.1429 7.2642 10.1081
CHS Inc. ‐21.2202 5.0338 11.3407 5.2858 21.3168
Net Sales / Cash From Sales (Raw)
2004 2005 2006 2007 2008
Bunge 1.0175 0.9908 1.0068 1.0178 1.0183
Archer Daniels Midland 1.0203 1.0017 1.0102 1.0459 1.0785
Corn Products 1.0142 1.0013 1.0274 1.0313 1.0292
CHS Inc. 1.0065 1.0222 0.9988 1.0192 1.0290
170
Net Sales / Cash From Sales (Change)
2004 2005 2006 2007 2008
Bunge 1.0361 4.3282 1.2697 1.0438 1.0192
Archer Daniels Midland 1.0474 ‐0.4599 1.8917 1.2669 1.1389
Corn Products 1.1529 0.7264 1.3454 1.0448 1.0183
CHS Inc. 1.0305 1.2440 0.8989 1.1374 1.0405
Expense Manipulation Diagnostics
Asset Turnover (Raw)
2004 2005 2006 2007 2008
Bunge 2.3136 2.1297 1.8313 1.7208 2.2528
Archer Daniels Midland 1.8665 1.9327 1.7206 1.756 1.8841
Corn Products 0.9645 0.9879 0.9909 1.0928 1.2298
CHS Inc. 2.7099 2.5117 2.8801 2.5489 3.6671
Asset Turnover (Change)
2004 2005 2006 2007 2008
Bunge 2.9707 ‐1.59 0.6539 1.5133 6.6689
Archer Daniels Midland 2.4902 0.2693 0.2442 1.9517 2.1535
Corn Products 1.1529 3.5 1.0195 1.6812 5.3173
CHS Inc. 7.0841 1.3666 10.0071 1.609 7.4105
171
CFFO / Operating Income (Raw)
2004 2005 2006 2007 2008
Bunge 0.7901 0.6211 ‐0.4874 ‐0.3555 0.7565
Archer Daniels Midland 0.0447 1.5748 0.7761 0.1484 ‐1.3223
Corn Products 0.8469 1.408 1.0748 0.7656 ‐0.1837
CHS Inc. 1.6371 0.9564 0.813 0.4841 0.9552
CFFO / Operating Income (Change)
2004 2005 2006 2007 2008
Bunge 2.1022 1.05 30.5 ‐0.2167 1.4373
Archer Daniels Midland 31.389 3.4647 ‐1.773 ‐3.9888 ‐9.2047
Corn Products ‐3.3333 ‐3.5909 ‐0.375 0.2276 ‐3.6237
CHS Inc. 1.9441 ‐2.4415 0.6847 ‐0.3952 181.538
CFFO / Net Operating Assets (Raw)
2004 2005 2006 2007 2008
Bunge 0.3162 0.1317 ‐0.0839 ‐0.0975 0.5358
Archer Daniels Midland 0.0064 0.4017 0.229 0.0425 ‐0.4497
Corn Products 0.1371 0.1923 0.1696 0.172 ‐0.0546
CHS Inc. 0.3156 0.2034 0.3372 0.2357 0.4136
172
CFFO / Net Operating Assets (Change)
2004 2005 2006 2007 2008
Bunge 1.8901 ‐1.1538 ‐1.2289 ‐0.1584 33.0935
Archer Daniels Midland 4.8404 ‐29.4741 ‐6.8807 ‐1.4965 ‐3.1453
Corn Products ‐2.9167 1.254 ‐0.1829 0.1944 6.3585
CHS Inc. 1.4039 ‐1.0722 1.8962 ‐0.3594 1.8102
Total Accruals / Sales (Raw)
2004 2005 2006 2007 2008
Bunge 0.0132 ‐0.0061 ‐0.0308 ‐0.0314 0.0109
Archer Daniels Midland ‐0.0128 0.0301 0.0017 ‐0.0421 ‐0.0717
Corn Products 0.0315 0.0657 0.0404 0.0177 ‐0.0877
CHS Inc. 0.0157 0.0018 ‐0.0005 ‐0.0203 0.0001
Total Accruals / Sales (Change)
2004 2005 2006 2007 2008
Bunge 0.2583 0.5613 ‐0.349 ‐0.0328 0.1015
Archer Daniels Midland ‐0.1983 ‐7.4349 ‐1.5609 ‐0.256 ‐0.1224
Corn Products ‐0.4862 1.0779 ‐0.1877 ‐0.0597 ‐0.7342
CHS Inc. 0.0467 ‐0.1578 ‐0.0116 ‐0.1207 0.0236
173
Pension Expense / SG&A (Raw)
2004 2005 2006 2007 2008
Bunge 0.0333 0.0303 0.0613 0.0272 0.0088
Archer Daniels Midland 0.08 0.1212 0.1182 0.0904 0.0768
Corn Products 0.0823 0.0886 0.0842 0.0763 0.0727
CHS Inc. 0.149 0.1653 0.1535 0.1476 0.1215
Pension Expense / SG&A (Change)
2004 2005 2006 2007 2008
Bunge 0.0278 0 1.4091 ‐0.0604 ‐0.0745
Archer Daniels Midland 0.1034 ‐0.0587 0.0891 ‐16.5 0.0045
Corn Products 0.3333 0 0.0682 0.0426 0.0385
CHS Inc. ‐0.0001 ‐0.8965 0.0796 0.0509 0.0458
Other Employment Expenses / SG&A (Raw)
2004 2005 2006 2007 2008
Bunge 0.0023 0.0042 0.0102 0.0074 0.0024
Archer Daniels Midland 0.0091 0.0122 0.0126 0.0142 0.0155
Corn Products 0.0253 0.0253 0.0198 0.0161 0.0218
CHS Inc. 0.0124 0.0133 0.0112 0.0107 0.0091
174
Other Employment Expenses / SG&A (Change)
2004 2005 2006 2007 2008
Bunge ‐0.0056 0.0235 0.2727 0 ‐0.02
Archer Daniels Midland ‐0.0074 ‐0.0011 0.0165 1 0.0223
Corn Products 0.1111 0 0 0 0.0769
CHS Inc. 0.0053 ‐0.0445 ‐0.0018 0.0023 0.0043
Liquidity Ratios
Current Ratio
2004 2005 2006 2007 2008
Bunge 1.708867 1.814764 1.858915 1.643423 1.631905
Archer Daniels Midland 1.531649 1.809381 1.918248 1.921962 1.740989
Corn Products 1.480519 1.615566 1.618956 1.615727 1.509895
CHS Inc. 1.334 1.408 1.463 1.264 1.423
Quick Asset Ratio
2004 2005 2006 2007 2008
Bunge 0.604818 0.568427 0.49701 0.398687 0.415407
Archer Daniels Midland 0.807735 1.030897 1.103812 1.106126 1.01108
Corn Products 0.833333 0.950472 0.943907 0.942136 0.854482
CHS Inc. 0.658496 0.718598 0.664442 0.564679 0.594642
175
Inventory Turnover
Column1 2004 2005 2006 2007 2008
Bunge 8.85736 8.236186 6.705483 5.963369 8.586237
Archer Daniels Midland 7.405417 8.578209 7.190507 6.729538 6.493504
Corn Products 7.476744 7.860465 6.869159 6.569087 7.134361
CHS Inc. 14.54047 12.51225 11.97382 9.677741 13.08851
Days Supply of Inventory
2004 2005 2006 2007 2008
Bunge 41.20867 44.31663 54.43306 61.20701 42.50989
Archer Daniels Midland 49.28824 42.54968 50.76137 54.23849 56.21002
Corn Products 48.81804 46.43491 53.13605 55.56328 51.16085
CHS Inc. 25.10235 29.17141 30.48317 37.71541 27.88706
Receivables Turnover
2004 2005 2006 2007 2008
Bunge 13.08817 14.32256 13.98297 14.89256 22.37191
Archer Daniels Midland 8.946684 8.761947 8.185193 6.873517 6.079944
Corn Products 8.038732 8.222997 7.341737 7.371739 6.290271
CHS Inc. 13.13717 10.9023 13.3604 12.28616 13.93862
176
Days Sales Outstanding
2004 2005 2006 2007 2008
Bunge 27.88777 25.48427 26.10318 24.50888 16.3151
Archer Daniels Midland 40.79724 41.65741 44.59272 53.10237 60.03345
Corn Products 45.40517 44.38771 49.71576 49.51342 58.02612
CHS Inc. 27.78375 33.47918 27.31954 29.70823 26.18624
Cash to Cash Cycle
2004 2005 2006 2007 2008
Bunge 69.0964 69.8009 80.5362 85.7159 58.825
ADM 90.0855 84.2071 95.3541 107.3409 116.2435
Corn Products 94.2232 90.8226 102.8518 105.0767 109.187
CHS Inc. 52.8861 62.6506 57.8027 67.4236 54.0733
Ind. Avg 76.5728 76.8703 84.1362 91.3893 84.5822
Working Capital Turnover
2004 2005 2006 2007 2008
Bunge 9.122921 8.271802 6.775142 6.657635 10.30459
Archer Daniels Midland 10.07351 8.274668 6.464582 6.0681 6.444157
Corn Products 10.28378 9.042146 8.190625 8.171084 9.004566
CHS Inc. 22.22982 15.7202 17.35179 20.94714 18.50193
177
Profitability Ratios
Gross Profit Margin
2004 2005 2006 2007 2008
Bunge 0.07474 0.064446 0.059793 0.066461 0.076768
Archer Daniels Midland 0.059426 0.067643 0.081047 0.073538 0.05503
Corn Products 0.155059 0.140678 0.158718 0.17281 0.178753
CHS Inc. 0.040417 0.040957 0.058646 0.063125 0.036483
Operating Expense Ratio
2004 2005 2006 2007 2008
Bunge 0.03 0.04 0.04 0.04 0.03
Archer Daniels Midland 0.038777 0.030069 0.032599 0.027148 0.020325
Corn Products 0.069207 0.066949 0.07707 0.07343 0.069726
CHS Inc. 0.018457 0.016715 0.016076 0.014252 0.010258
Operating Profit Margin
2004 2005 2006 2007 2008
Bunge 0.03531 0.020019 0.019868 0.031737 0.029235
Archer Daniels Midland 0.019861 0.042187 0.050689 0.071653 0.037585
Corn Products 0.078406 0.077542 0.085464 0.10233 0.110041
CHS Inc. 0.02355 0.025703 0.039219 0.046317 0.027188
178
Net Profit Margin
2004 2005 2006 2007 2008
Bunge 0.018586 0.021742 0.019829 0.020559 0.020238
Archer Daniels Midland 0.013684 0.029056 0.035851 0.049116 0.025811
Corn Products 0.041174 0.038136 0.04731 0.05839 0.067698
CHS Inc. 0.020266 0.02143 0.035136 0.043955 0.024965
Asset Turnover
2004 2005 2006 2007 2008
Bunge 2.553015 2.234987 2.295474 2.637625 2.390705
Archer Daniels Midland 2.103919 1.855756 1.967727 2.069585 2.779521
Corn Products 1.030235 0.997043 1.097112 1.282042 1.271028
CHS Inc. 2.88056 2.946595 3.029034 3.447221 4.762464
Return on Assets (ROA)
2004 2005 2006 2007 2008
Bunge 0.04745 0.048593 0.045518 0.054227 0.048383
Archer Daniels Midland 0.028791 0.053921 0.070545 0.10165 0.071741
Corn Products 0.042419 0.038023 0.051905 0.074858 0.086046
CHS Inc. 0.058378 0.063145 0.106428 0.151521 0.118893
179
Return on Equity (ROE)
2004 2005 2006 2007 2008
Bunge 0.197308 0.157037 0.123284 0.137262 0.133921
Archer Daniels Midland 0.069981 0.135666 0.155571 0.220455 0.160135
Corn Products 0.103183 0.083256 0.102479 0.148872 0.166355
CHS Inc. 0.15003 0.155518 0.284106 0.36851 0.324403
Internal Growth Rate (IGR)
2004 2005 2006 2007 2008
Bunge 0.053357 0.054838 0.052107 0.059823 0.052366
Archer Daniels Midland 0.01754 0.04263 0.05674 0.08777 0.05845
Corn Products 0.03408 0.02034 0.03688 0.05304 0.05949
Industry Average 0.034992 0.039269 0.048576 0.066878 0.056769
Sustainable Growth Rate (SGR)
2004 2005 2006 2007 2008
Bunge 0.172435 0.148526 0.131894 0.165584 0.142464
Archer Daniels Midland 0.04413 0.09402 0.12307 0.19591 0.16056
Corn Products 0.07462 0.04016 0.07382 0.10254 0.13785
Industry Average 0.097062 0.094235 0.109595 0.154678 0.146958
180
Capital Structure Ratios
Debt to Equity
2004 2005 2006 2007 2008
Bunge 2.231704 1.708471 1.531228 1.767904 1.720549
Archer Daniels Midland 1.516014 1.205273 1.168757 1.232116 1.746924
Corn Products 1.189639 0.97438 0.988722 0.933333 1.317197
CHS Inc. 1.462873 1.669464 1.432067 1.728538 1.967831
Times Interest Earned
2004 2005 2006 2007 2008
Bunge 4.163551 2.112554 1.864286 3.402266 4.257618
Archer Daniels Midland 2.099503 4.643196 5.082192 7.267281 5.501048
Corn Products 4.972222 4.945946 6.588235 6.94 10.09302
CHS Inc. 5.30242 5.948963 11.15692 15.39038 9.678445
Debt Service Margin
2004 2005 2006 2007 2008
Bunge 6.265625 2.728571 ‐1.6236 ‐2.63462 4.871648
Archer Daniels Midland 1.079351 13.22292 6.17212 3.7875 ‐49.2923
Corn Products 1.693878 2.784091 4.035088 3.486486 ‐0.60769
CHS Inc. 26.37583 7.874562 14.08662 6.704517 8.140901
181
Z‐Score
2004 2005 2006 2007 2008
Bunge 3.838861 3.533661 3.626424 3.95541 3.527089
Archer Daniels Midland 3.408641 3.63663 3.997277 4.514062 4.162556
Corn Products 3.448414 2.53175 2.972655 3.229187 2.99974
Industry Average 3.565305 3.234014 3.532119 3.899553 3.563128
182
Cost of Debt
Amount Weight Rate Weighted Rate
Source of Rate
Total Current Liabilities:
Short Term Debt 473 3.70% 11.7891% 0.436% Bunge 10‐K
Current Portion‐ LTD 78 0.61% 5.6967% 0.035% Bunge 10‐K
A/P 4158 32.50% 0.48% 0.156% St. Louis FED
Deferred Income Taxes 104 0.81% 2.87% 0.023% St. Louis FED
Other Current Liabilities 3261 25.49% 0.48% 0.122% St. Louis FED
TOTAL 8074 0.772%
Total Long Term Liabilities:
Long Term Debt 3032 23.70% 5.6967% 1.35% Bunge 10‐K
Deferred Income Taxes 132 1.03% 2.87% 0.03% St. Louis FED
Non‐Current Liabilities 864 6.75% 6.50% 0.44% Bunge 10‐k
Minority Interest in Subsidiaries
692 5.41% 6.20% 0.34% Bunge 10‐k
Total LT Liabilities 4720
TOTAL LIABILITIES 12794 Kd 3.05%
183
WACC
MVL/MVF Kd Tax Rate MVE/MVF Ke WACC
WACC (BT) 64.03% 3.05% 0% 35.97% 14.23% 7.07%
WACC (AT) 64.03% 3.05% 35% 35.97% 14.23% 6.43%
WACC (BT)‐ Upper 64.03% 3.05% 0% 35.97% 21.35% 9.63%
WACC (BT)‐ Lower 64.03% 3.05% 0% 35.97% 7.10% 4.51%
184
Regressions
3 Month
SUMMARY OUTPUT 24
Regression Statistics
Multiple R 0.576143512
R Square 0.331941346
Adjusted R Square 0.301575044
Standard Error 0.131563454
Observations 24
ANOVA
df SS MS F Significance F
Regression 1 0.189208206 0.189208206 10.93124022 0.003214114
Residual 22 0.380796731 0.017308942
Total 23 0.570004938
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.037660368 0.030175637 1.248038881 0.225137128 ‐0.024920072 0.100240809 ‐0.024920072 0.100240809
X Variable 1 1.670027271 0.505113346 3.306242614 0.003214114 0.62248631 2.717568231 0.62248631 2.717568231
185
SUMMARY OUTPUT 36
Regression Statistics
Multiple R 0.559853867
R Square 0.313436352
Adjusted R Square 0.293243304
Standard Error 0.11244017
Observations 36
ANOVA
df SS MS F Significance F
Regression 1 0.196241324 0.196241324 15.52199277 0.000384681
Residual 34 0.429854924 0.012642792
Total 35 0.626096248
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.031667797 0.019915023 1.59014615 0.12105857 ‐0.008804399 0.072139993 ‐0.008804399 0.072139993
X Variable 1 1.573886821 0.399484341 3.939796032 0.000384681 0.762036967 2.385736675 0.762036967 2.385736675
SUMMARY OUTPUT 48
Regression Statistics
Multiple R 0.530333621
R Square 0.281253749
Adjusted R Square 0.265628831
Standard Error 0.101510541
Observations 48
ANOVA
df SS MS F Significance F
Regression 1 0.185482459 0.185482459 18.00033383 0.000105722
Residual 46 0.474001937 0.01030439
Total 47 0.659484396
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.022671611 0.015223344 1.489266111 0.143242056 ‐0.007971391 0.053314612 ‐0.007971391 0.053314612
X Variable 1 1.45581048 0.343134639 4.24268003 0.000105722 0.765116286 2.146504673 0.765116286 2.146504673
186
SUMMARY OUTPUT 40
Regression Statistics
Multiple R 0.531266221
R Square 0.282243797
Adjusted R Square 0.26986869
Standard Error 0.09448055
Observations 60
ANOVA
df SS MS F Significance F
Regression 1 0.203591794 0.203591794 22.80738248 1.25763E‐05
Residual 58 0.51774131 0.008926574
Total 59 0.721333104
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.0236202 0.012506045 1.888702539 0.063935516 ‐0.00141337 0.048653769 ‐0.00141337 0.048653769
X Variable 1 1.460861916 0.305894342 4.775707538 1.25763E‐05 0.848547868 2.073175965 0.848547868 2.073175965
SUMMARY OUTPUT 72
Regression Statistics
Multiple R 0.529910605
R Square 0.280805249
Adjusted R Square 0.270531038
Standard Error 0.08993932
Observations 72
ANOVA
df SS MS F Significance F
Regression 1 0.221083307 0.221083307 27.33107746 1.69421E‐06
Residual 70 0.566235689 0.008089081
Total 71 0.787318996
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
187
Intercept 0.019611043 0.010634795 1.844045282 0.069408664 ‐0.001599386 0.040821472 ‐0.001599386 0.040821472
X Variable 1 1.385508941 0.265021407 5.227913299 1.69421E‐06 0.856940417 1.914077464 0.856940417 1.914077464
1 Year
SUMMARY OUTPUT 24
Regression Statistics
Multiple R 0.576104692
R Square 0.331896616
Adjusted R Square 0.30152828
Standard Error 0.131567858
Observations 24
ANOVA
df SS MS F Significance F
Regression 1 0.18918271 0.18918271 10.92903542 0.003216659
Residual 22 0.380822228 0.017310101
Total 23 0.570004938
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.037944305 0.030216336 1.255754665 0.222378477 ‐0.02472054 0.10060915 ‐0.02472054 0.10060915
X Variable 1 1.666515991 0.504102172 3.305909168 0.003216659 0.621072078 2.711959903 0.621072078 2.711959903
188
SUMMARY OUTPUT 36
Regression Statistics
Multiple R 0.559967774
R Square 0.313563908
Adjusted R Square 0.293374612
Standard Error 0.112429725
Observations 36
ANOVA
df SS MS F Significance F
Regression 1 0.196321187 0.196321187 15.53119513 0.000383401
Residual 34 0.429775062 0.012640443
Total 35 0.626096248
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.031870206 0.019930145 1.599095517 0.119052308 ‐0.008632722 0.072373134 ‐0.008632722 0.072373134
X Variable 1 1.570455941 0.398495406 3.940963731 0.000383401 0.760615845 2.380296037 0.760615845 2.380296037
SUMMARY OUTPUT 48
Regression Statistics
Multiple R 0.530581338
R Square 0.281516556
Adjusted R Square 0.265897351
Standard Error 0.101491981
Observations 48
ANOVA
df SS MS F Significance F
Regression 1 0.185655776 0.185655776 18.02374392 0.000104793
Residual 46 0.47382862 0.010300622
Total 47 0.659484396
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
189
Intercept 0.022930654 0.015236706 1.504961416 0.139170061 ‐0.007739243 0.053600552 ‐0.007739243 0.053600552
X Variable 1 1.453578641 0.342386024 4.245438013 0.000104793 0.764391331 2.142765951 0.764391331 2.142765951
SUMMARY OUTPUT 60
Regression Statistics
Multiple R 0.531476569
R Square 0.282467343
Adjusted R Square 0.270096091
Standard Error 0.094465836
Observations 60
ANOVA
df SS MS F Significance F
Regression 1 0.203753045 0.203753045 22.83255786 1.24587E‐05
Residual 58 0.517580059 0.008923794
Total 59 0.721333104
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.02396074 0.012519779 1.913830853 0.060580663 ‐0.001100321 0.049021801 ‐0.001100321 0.049021801
X Variable 1 1.459228895 0.3053839 4.778342586 1.24587E‐05 0.847936608 2.070521182 0.847936608 2.070521182
SUMMARY OUTPUT 72
Regression Statistics
Multiple R 0.530010198
R Square 0.280910809
Adjusted R Square 0.270638107
Standard Error 0.089932719
Observations 72
ANOVA
df SS MS F Significance F
Regression 1 0.221166417 0.221166417 27.34536539 1.68523E‐06
Residual 70 0.56615258 0.008087894
Total 71 0.787318996
190
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.01993318 0.010639195 1.873560876 0.06516571 ‐0.001286026 0.041152386 ‐0.001286026 0.041152386
X Variable 1 1.383809109 0.264627101 5.229279625 1.68523E‐06 0.856027004 1.911591214 0.856027004 1.911591214
2 Year
SUMMARY OUTPUT
Regression Statistics
Multiple R 0.575725895
R Square 0.331460306
Adjusted R Square 0.301072138
Standard Error 0.131610812
Observations 24
ANOVA
df SS MS F Significance F
Regression 1 0.188934011 0.188934011 10.9075449 0.003241575
Residual 22 0.381070927 0.017321406
Total 23 0.570004938
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.03793524 0.030229121 1.254923713 0.222674322 ‐0.024756119 0.100626599 ‐0.024756119 0.100626599
X Variable 1 1.663410749 0.503658304 3.302657248 0.003241575 0.618887361 2.707934136 0.618887361 2.707934136
191
SUMMARY OUTPUT
Regression Statistics
Multiple R 0.559705362
R Square 0.313270092
Adjusted R Square 0.293072154
Standard Error 0.112453784
Observations 36
ANOVA
df SS MS F Significance F
Regression 1 0.19613723 0.19613723 15.51000332 0.000386356
Residual 34 0.429959019 0.012645853
Total 35 0.626096248
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.031799085 0.019929348 1.595590844 0.119834717 ‐0.008702223 0.072300394 ‐0.008702223 0.072300394
X Variable 1 1.567154279 0.397929199 3.938274155 0.000386356 0.758464854 2.375843703 0.758464854 2.375843703
SUMMARY OUTPUT
Regression Statistics
Multiple R 0.530461688
R Square 0.281389603
Adjusted R Square 0.265767638
Standard Error 0.101500947
Observations 48
ANOVA
df SS MS F Significance F
Regression 1 0.185572052 0.185572052 18.01243314 0.000105241
Residual 46 0.473912344 0.010302442
Total 47 0.659484396
192
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.022944607 0.015239217 1.505629064 0.138998908 ‐0.007730344 0.053619559 ‐0.007730344 0.053619559
X Variable 1 1.45140404 0.341981125 4.244105694 0.000105241 0.763031749 2.139776331 0.763031749 2.139776331
SUMMARY OUTPUT
Regression Statistics
Multiple R 0.531405783
R Square 0.282392106
Adjusted R Square 0.270019556
Standard Error 0.094470788
Observations 60
ANOVA
df SS MS F Significance F
Regression 1 0.203698775 0.203698775 22.82408306 1.24982E‐05
Residual 58 0.517634329 0.00892473
Total 59 0.721333104
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.024095638 0.012526937 1.923505981 0.059329458 ‐0.00097975 0.049171027 ‐0.00097975 0.049171027
X Variable 1 1.458009163 0.305185281 4.77745571 1.24982E‐05 0.847114455 2.068903871 0.847114455 2.068903871
SUMMARY OUTPUT
Regression Statistics
Multiple R 0.530038694
R Square 0.280941017
Adjusted R Square 0.270668746
Standard Error 0.08993083
Observations 72
ANOVA
df SS MS F Significance F
Regression 1 0.221190199 0.221190199 27.34945483 1.68268E‐06
Residual 70 0.566128797 0.008087554
193
Total 71 0.787318996
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.02013353 0.010642376 1.891826578 0.062651035 ‐0.00109202 0.04135908 ‐0.00109202 0.04135908
X Variable 1 1.3841125 0.26466533 5.229670624 1.68268E‐06 0.856254151 1.911970848 0.856254151 1.911970848
7 Year
SUMMARY OUTPUT
Regression Statistics
Multiple R 0.575453852
R Square 0.331147135
Adjusted R Square 0.300744732
Standard Error 0.131641634
Observations 24
ANOVA
df SS MS F Significance F
Regression 1 0.188755502 0.188755502 10.89213691 0.00325957
Residual 22 0.381249435 0.01732952
Total 23 0.570004938
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.038760362 0.030354684 1.276915373 0.214945679 ‐0.024191399 0.101712123 ‐0.024191399 0.101712123
X Variable 1 1.654747053 0.50138931 3.300323758 0.00325957 0.61492927 2.694564835 0.61492927 2.694564835
194
SUMMARY OUTPUT
Regression Statistics
Multiple R 0.55938805
R Square 0.31291499
Adjusted R Square 0.292706608
Standard Error 0.112482854
Observations 36
ANOVA
df SS MS F Significance F
Regression 1 0.195914902 0.195914902 15.48441536 0.000389957
Residual 34 0.430181347 0.012652393
Total 35 0.626096248
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.032251872 0.019975239 1.614592554 0.115642624 ‐0.008342697 0.072846441 ‐0.008342697 0.072846441
X Variable 1 1.556379545 0.395519689 3.935024188 0.000389957 0.752586832 2.360172258 0.752586832 2.360172258
SUMMARY OUTPUT
Regression Statistics
Multiple R 0.529984837
R Square 0.280883927
Adjusted R Square 0.265250969
Standard Error 0.101536653
Observations 48
ANOVA
df SS MS F Significance F
Regression 1 0.185238567 0.185238567 17.96742021 0.000107042
Residual 46 0.474245829 0.010309692
195
Total 47 0.659484396
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.023309793 0.015269579 1.52655117 0.133719833 ‐0.007426274 0.05404586 ‐0.007426274 0.05404586
X Variable 1 1.440819308 0.339912126 4.238799384 0.000107042 0.756611697 2.125026919 0.756611697 2.125026919
SUMMARY OUTPUT
Regression Statistics
Multiple R 0.530833086
R Square 0.281783766
Adjusted R Square 0.269400727
Standard Error 0.094510823
Observations 60
ANOVA
df SS MS F Significance F
Regression 1 0.203259958 0.203259958 22.75562376 1.28215E‐05
Residual 58 0.518073146 0.008932296
Total 59 0.721333104
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.024719831 0.012563499 1.967591206 0.053903258 ‐0.000428745 0.049868407 ‐0.000428745 0.049868407
X Variable 1 1.448919859 0.303738604 4.770285501 1.28215E‐05 0.84092099 2.056918729 0.84092099 2.056918729
SUMMARY OUTPUT
Regression Statistics
Multiple R 0.53033954
R Square 0.281260028
Adjusted R Square 0.270992314
Standard Error 0.089910879
Observations 72
ANOVA
df SS MS F Significance F
196
Regression 1 0.221441363 0.221441363 27.3926632 1.65588E‐06
Residual 70 0.565877633 0.008083966
Total 71 0.787318996
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.021054592 0.01065737 1.975589752 0.052144661 ‐0.000200863 0.042310047 ‐0.000200863 0.042310047
X Variable 1 1.383204003 0.264282927 5.233800072 1.65588E‐06 0.856108332 1.910299673 0.856108332 1.910299673
10 Year
SUMMARY OUTPUT
Regression Statistics
Multiple R 0.575218408 R Square 0.330876217 Adjusted R Square 0.300461499 Standard Error 0.131668292
Observations 24
ANOVA
df SS MS F Significance F
Regression 1 0.188601077 0.188601077 10.87881937 0.003275211 Residual 22 0.38140386 0.017336539
Total 23 0.570004938
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.03915432 0.030419278 1.28715482 0.211418431 ‐0.023931401 0.10224004 ‐0.023931401 0.10224004
X Variable 1 1.651327947 0.500659485 3.29830553 0.003275211 0.61302373 2.689632163 0.61302373 2.689632163
SUMMARY OUTPUT
Regression Statistics
Multiple R 0.559112534 R Square 0.312606825 Adjusted R Square 0.292389379 Standard Error 0.112508077
Observations 36
ANOVA
df SS MS F Significance F
Regression 1 0.195721961 0.195721961 15.46223102 0.000393107 Residual 34 0.430374288 0.012658067
Total 35 0.626096248
197
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.032498258 0.020002619 1.624700162 0.113462239 ‐0.008151954 0.07314847 ‐0.008151954 0.07314847
X Variable 1 1.552068456 0.394706968 3.932204346 0.000393107 0.749927391 2.35420952 0.749927391 2.35420952
SUMMARY OUTPUT
Regression Statistics
Multiple R 0.52965608 R Square 0.280535563 Adjusted R Square 0.264895031 Standard Error 0.101561244
Observations 48
ANOVA
df SS MS F Significance F
Regression 1 0.185008826 0.185008826 17.93644719 0.0001083 Residual 46 0.47447557 0.010314686
Total 47 0.659484396
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.023511459 0.015287467 1.537956421 0.130910237 ‐0.007260617 0.054283534 ‐0.007260617 0.054283534
X Variable 1 1.436598271 0.339208814 4.235144294 0.0001083 0.753806354 2.119390189 0.753806354 2.119390189
SUMMARY OUTPUT
Regression Statistics
Multiple R 0.530481085 R Square 0.281410181 Adjusted R Square 0.269020702 Standard Error 0.0945354
Observations 60
ANOVA
df SS MS F Significance F
Regression 1 0.20299048 0.20299048 22.71364009 1.30241E‐05 Residual 58 0.518342624 0.008936942
198
Total 59 0.721333104
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.024973305 0.012580033 1.985154126 0.051863025 ‐0.000208367 0.050154977 ‐0.000208367 0.050154977
X Variable 1 1.445011394 0.303199096 4.765882928 1.30241E‐05 0.838092468 2.051930319 0.838092468 2.051930319
SUMMARY OUTPUT
Regression Statistics
Multiple R 0.530220201 R Square 0.281133462 Adjusted R Square 0.27086394 Standard Error 0.089918795
Observations 72
ANOVA
df SS MS F Significance F
Regression 1 0.221341715 0.221341715 27.37551585 1.66646E‐06 Residual 70 0.565977281 0.00808539
Total 71 0.787318996
Coefficients Standard Error t Stat P‐value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.021375275 0.010665075 2.004231195 0.048915654 0.000104455 0.042646096 0.000104455 0.042646096
X Variable 1 1.381380432 0.264017153 5.23216168 1.66646E‐06 0.85481483 1.907946034 0.85481483 1.907946034
Method of Comparables
P/E Trailing
Company PPS EPS P/E Trailing Computed Price
BG 57.94 8.11 52.92
ADM 28.35 6.61
CPO 21.61 6.44
Average 6.525
Forecasted P/E Company PPS Forecasted EPS P/E Forecasted Computed Price
199
BG 57.94 8.90 76.05
ADM 28.35 9.47
CPO 21.61 7.62
Average 8.545
Price/Book
Company PPS BPS P/B Computed Price
BG 57.94 61.14 0.948 73.67
ADM 28.35 1.20
CPO 21.61 1.21
Average 1.205
Div/P Company Div PPS Div/P Computed Price
BG 0.72 34.33
ADM 0.52 28.35 0.018342
CPO 0.51 21.61 0.0236
Average 0.020971
P/EBITDA
Company Market Cap EBITDA P/EBITDA Computed Price
BG 5.85 2.109 54.51
ADM 15.26 4.37 3.491991
CPO 1.58 0.565 2.79646
Average 3.144226
200
P.E.G. Company EPS P/E Growth P.E.G Computed Price
BG 8.90 7.14 9.00 43.44
ADM 6.61 15.00 0.440667
CPO 6.44 10.00 0.644
Average 0.542333
EV/EBITDA
Company EV EV/EBITDA Computed Price
BG 16.879 65.47
ADM 4.921
CPO 4.305
Average 4.613
P/FCF
Company PPS FCF per Share P/FCF Computed Price
BG 57.94 11.813 ‐53.09
ADM 28.35 ‐7.944 ‐3.56885
CPO 21.61 ‐3.987 ‐5.4199
Average ‐4.49438
201
Intrinsic Valuations Models
4
Discounted Dividends Approach WACC(AT) 0.09 Kd 0.06 Ke 0.17Perp
Relevant Valuation Item 0 1 2 3 4 5 6 7 8 9 10 112008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
EPS (Earnings Per Share)DPS (Dividends Per Share) 0.78 0.84 0.90 0.96 1.02 1.08 1.14 1.20 1.26 1.32 1.38BPS (Book Value Equity per Share)Cash From OperationsCash Investments
PV Factor 0.89405 0.79933 0.71465 0.63893 0.57124 0.51072 0.45661 0.40824 0.36499 0.32632PV Dividend 0.69736 0.67144 0.64318 0.61338 0.58267 0.55158 0.52054 0.48988 0.45988 0.43074
PV YBY Dividends 5.66PV Terminal Value Perp. 7.70 23.58974359Model Price (Dec 31 87) 13.36Time Consistent Price 13.74
Observed Share Price (4/1/88) $57.94Initial Cost of Equity (You Derive) 0.1185Perpetuity Growth Rate (g) 0.06
Fill in the worksheet to derive a share value at the end of 1987. Assume a WACC = 0.09 and a cost of Debt = 0.06Estimate the cost of equity. Assume 55.733 million shares outstanding and that Free Cash flow from 1997 on will be 322 millionAssume from 1997 forward that Dividends will be $2.00 per share with no growth
0 0.01 0.02 0.03 0.04 0.05 0.060.0710 17.19 18.82 21.09 24.47 30.04 40.90 71.500.0948 12.48 13.19 14.09 15.27 16.88 19.20 22.86
0.1185 9.73 10.09 10.52 11.05 11.72 12.58 13.740.1423 7.92 8.12 8.35 8.63 8.96 9.36 9.85
0.1660 6.66 6.78 6.91 7.07 7.25 7.46 7.71
0.1898 5.73 5.80 5.88 5.98 6.08 6.20 6.340.2135 5.02 5.06 5.12 5.18 5.24 5.32 5.40
Overvalued Fairly Valued Undervalued
202
Discounted Free Cash Flow WACC(BT) 0.0707 Kd 0.0305 Ke 0.1423(in millions)
0 1 2 3 4 5 6 7 8 9 102008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018
Cash Flow From Operations (Millions) 1421.47 1464.11 1522.68 1583.59 1646.93 1712.81 1781.32 1852.57 1926.67 2003.74Cash Flow From Investing Activities 1079.96 325.36 338.37 351.91 365.98 380.62 395.85 411.68 428.15 445.28
FCF Firm's Assets 341.50502 1138.755 1184.305 1231.68 1280.94 1332.18 1385.47 1440.89 1498.52 1558.46PV Factor (WACC or Ke?) 0.9568462 0.915555 0.876045 0.83824 0.80207 0.76745 0.73434 0.70265 0.67233 0.64331PV YBY Free Cash Flows 326.77 1042.59 1037.50 1032.44 1027.4 1022.39 1017.4 1012.44 1007.5 1002.58
% ValueTotal PV YBY FCF 9,529.01$ 4.34% 326470.6FCF Perp 210,022.38$ 95.66%Market Value of Assets (12/31/08) 219,551.40$ 0.0075 0.015 0.0225 0.03 0.0375 0.045 0.0525Book Value Debt & Preferred Stock 12,794.00$ 0 0.005 0.01 0.015 0.02 0.025 0.03 0.035Market Value of Equity 206,757.40$ 0.0451 168.42 193.00 224.60 266.71 325.61 413.82 560.47 852.35divide by Shares to Get PPS at 12/31 1,699.85$ 0.0536 121.09 136.85 156.23 180.64 212.32 255.10 316.02 409.70Time consistent Price (4/1/09) 1718.70 0.0621 86.90 97.59 110.34 125.80 144.95 169.26 201.17 244.85Oberved Share Price (4/1/09) 57.94$ 0.0707 60.83 68.36 77.13 87.49 99.90 115.03 133.89 158.05
0.0792 40.75 46.24 52.53 59.81 68.33 78.43 90.59 105.52WACC(BT) 0.0451 0.0877 24.66 28.77 33.41 38.70 44.78 51.83 60.12 69.98Perp Growth Rate 0.04 0.0963 11.36 14.48 17.98 21.90 26.35 31.43 37.29 44.10
121.63245611?
Observed Share Price $20.88Initial WACC 0.09Perpetuity Growth Rate (g)
Fill in the worksheet to derive a share value at the end of 1987. Assume a WACC = 0.09 and a cost of Debt = 0.06Estimate the cost of equity. Assume 55.733 million shares outstanding and that Free Cash flow from 1997 on will be 322 million
Not Applicable Undervalued Fairly Valued Overvalued
203
Residual IncomeAll Items in Millions of DollarsChange in residual Income -131.54 -123.59 -128.01 -132.64 -137.51 -142.62 -147.58 -153.21 -159.12
0 1 2 3 4 5 6 7 8 9 102008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018
Net Income (Millions) 1083.02 1115.52 1160.14 1206.54 1254.80 1304.99 1357.19 1411.48 1467.94 1526.66Total Dividends (Millions) 94.87 102.17 109.47 116.77 124.07 131.36 141.09 148.39 155.69 162.99Book Value Equity (Millions) 7436.00 8424.15 9437.49 10488.16 11577.94 12708.67 13882.31 15098.41 16361.50 17673.75 19037.42
Annual Normal Income (Becnhmark) 1234.38 1398.41 1566.624 1741.035 1921.937 2109.64 2304.463 2506.335 2716.009 2933.842Annual Residual Income -151.35 -282.89 -406.49 -534.49 -667.13 -804.64 -947.27 -1094.85 -1248.07 -1407.18pv factor 0.858 0.736 0.631 0.541 0.464 0.398 0.341 0.293 0.251 0.215YBY PV RI -129.8 -208.08 -256.4204 -289.1667 -309.5427 -320.1938 -323.2831 -320.4552 -313.2931 -302.9459Percent Change in RI 0.60302 0.232327 0.127706 0.070465 0.034409 0.009648 -0.00875 -0.02235 -0.03303
-1248.727 11%% Value -1565.639
Book Value Equity (Millions) 7436.00Total PV of YBY RI -2773.2Terminal Value Perpetuity -500.36 -2324.176MVE 12/31/87 4162.46divide by shares 121.632Model Price on 12/31/08 34.22time consistent Price 35.56
Observed Share Price (4/1/2009) $57.94Initial Cost of Equity (You Derive) 0.166Perpetuity Growth Rate (g) -0.5
121.632456Fill in the subsequent worksheets to derive a share value at the end of 1987. Assume a WACC = 0.09 and a cost of Debt = 0.06Estimate the cost of equity. Assume 55.733 million shares outstanding and that Free Cash flow from 1997 on will be 322 millionAssume from 1997 forward that Dividends will be $2.00 per share with no growth
-0.1 -0.2 -0.3 -0.4 -0.50.0710 94.83 92.11 90.86 90.14 89.67
49.25 0.0948 68.37 69.34 69.81 70.10 70.2966.63 0.1185 50.49 52.94 54.26 55.05 55.59
0.1423 37.99 40.94 42.55 43.57 44.270.1660 29.13 32.06 33.73 34.81 35.560.1898 22.68 25.37 26.96 28.01 28.760.2135 17.95 20.33 21.78 22.76 23.46
Overvalued49.25 < Fairly Valued < 66.63Undervalued
204
g1 g2 g3 g4 g5ROE ROE ‐ K 0.071 0.1185 0.1423 0.166 0.2135
0.071 % change is 0.09 -0.178 0.06350.145646 0.074646 0.0514 ROE 0.1
0.132419 0.061419 ‐0.1772 0.11
0.122928 0.051928 ‐0.1545 0.12
Estimated Price per Share (end of 1987) 0.115038 0.044038 ‐0.1519 0.13
0.108379 0.037379 ‐0.1512 0.14
Observed Share Price $57.94 0.102685 0.031685 ‐0.15230.097764 0.026764 ‐0.1553
R 0.15 0.093486 0.022486 ‐0.1599K 0.1423 0.089719 0.018719 ‐0.1675G 0.6572 0.08638 0.01538 ‐0.1784BE 7436.00
Ke0.1898
MVE 7324.80 -0.1784 0.0270 0.0438 0.0635 0.1160 0.0334divide by shares 121.632456 0.0710 66.93 89.05 105.64 219.75 35.93 93.62Model Price 60.22 constant 0.1185 56.84 43.29 38.88 30.29 -653.86 41.82Time Consistent Price 62.26 0.09 0.1423 52.90 34.53 29.64 21.25 -62.48 32.85
0.1660 49.51 28.79 24.02 16.42 -33.03 27.120.2135 43.94 21.68 17.47 11.34 -17.11 20.17
49.25 0.09 0.1 0.11 0.12 0.13 0.1566.63 0.0710 219.75 302.67 385.59 468.52 551.44 717.29
0.1185 30.29 41.72 53.15 64.59 76.02 98.88constant 0.1423 21.25 29.28 37.30 45.32 53.34 69.38
0.0635 0.1660 16.42 22.62 28.82 35.02 41.22 53.610.2135 11.34 15.61 19.89 24.17 28.45 37.00
0.09 0.1 0.11 0.12 0.13 0.15-0.1784 52.90 54.87 56.84 58.81 60.78 64.720.0270 34.53 40.02 45.50 50.98 56.46 67.42
g 0.0438 29.64 36.06 42.48 48.89 55.31 68.140.0635 21.25 29.28 37.30 45.32 53.34 69.380.1160 -62.48 -38.45 -14.42 9.61 33.64 81.71
constant Ke 0.1898 0.0334 32.85 38.65 44.46 50.26 56.06 67.670.1423 0.0948 0.6572 69.62 68.39 67.17 65.94 64.71 62.26
205
A.E.G.WACC(AT) 0.09 Kd 0.06 Ke 0.17
0 1 2 3 4 5 6 7 8 9 102008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 Perp
Net Income (Millions) 1083.02 1115.52 1160.14 1206.54 1254.80 1304.99 1357.19 1411.48 1467.94 1526.66Total Dividends (Millions) 94.87 102.17 109.47 116.77 124.07 131.36 141.09 148.39 155.69 162.99Dividends Reinvested at 17% (Drip) 20.26 21.81 23.37 24.93 26.49 28.05 30.12 31.68 33.24Cum-Dividend Earnings 1135.77 1181.95 1229.91 1279.73 1331.48 1385.24 1441.61 1499.62 1559.90Normal Earnings 1314.25 1353.68 1407.82 1464.14 1522.70 1583.61 1646.96 1712.83 1781.35Abnormal Earning Growth (AEG) -178.48 -171.73 -177.91 -184.41 -191.22 -198.37 -205.35 -213.21 -221.45 -225.88
PV Factor 0.8241 0.6791 0.5596 0.4611 0.3800 0.3132 0.2581 0.2127 0.1752PV of AEG -147.08 -116.62 -99.56 -85.04 -72.67 -62.12 -52.99 -45.34 -38.81Residual Income Check Figure -108.1231673 -99.57822727 -103.1044173 -106.8131948 -110.7118634 -114.8080186 -118.7633939 -123.2785368 -128.0158253
Value DestroyedValue Destroyed per ShareCore Net Income 1083.02Total PV of AEG YBY ‐720.22Continuing (Terminal) ValuePV of Terminal Value ‐185.40 ‐1057.972602Total PV of AEGTotal Average Net Income Perp (t+1) 177.40Divide by shares to Get Average EPS Perp 1.46Capitalization Rate (perpetuity) 0.2135
Intrinsic Value Per Share (12/31/1987) 6.83 0 -0.1time consistent implied price 11/1/1988 7.17 49.25 0.0710 90.53 95.35Nov 1, 1988 observed price $57.94 66.63 0.0948 52.39 56.97Ke 0.2135 0.1185 33.40 37.09g 0.0 0.1423 22.75 25.59
121.632456 0.1660 16.36 18.52Actual Price per share 0.1898 12.27 13.90
Estimate the cost of equity. Assume 55.733 million shares outstanding and that Free Cash flow from 1997 on will be 322 million 0.2135 9.56 10.79
206
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