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1
Nikita Pashkin
Israel Shaked
FE 449 A1
November 30th, 2015
2
Table of Contents
Industry Background 3-7
MarketAnalysis 3-5
Porter’s Five Forces Analysis 5-7
Macy’s Inc. 7-13
Company ...
3
Industry Background
At the turn of the 19th century the industrialrevolution took
place and significantly increased per ...
4
Exhibit 1: Industry Revenue
Year
Industry
Revenue $
million
Growth
%
2008 224,784.60 -6.9
2009 210,460.30 -6.4
2010 206,...
5
Exhibit 2: Industry Revenue vs. Disposable Income
Source: Carter, Per Capita Disposable Income
Duringthis period, consum...
6
Threat of entrants – Medium: Largeeconomies of scale benefit
well established incumbentswho purchase in bulk and are abl...
7
In conclusion, three out of five forces have a high impact on
profitswith only threat of entrants having a medium and
su...
8
traded on the NYSE with the ticker symbol“M” (About Us - Macy’s,
Inc).
Mergers and Acquisitions
Bluemercury
The most rec...
9
Retailing owningthe remaining35%. The newly formed venturewill
begin selling onlinein late 2015 throughAlibaba’s Tmall G...
10
developmentof the companiesrelative to one another. The
departmentstore industry averageis around 5% (Department&
Disco...
11
Business Strategy
Core pillarsof strategy
Macy’sfocuses its strategy around threecore issues: My
Macy’s, Omnichannelint...
12
the off-priceretailing, and Macy’s realized that in order to not be left
behind, it had to do the same. The company wil...
13
departmentstore industry, thismay hinder the company and limitits
revenuesources.
Diversifyingaway from the decliningan...
14
Valuation
Company valuation occurred in three separate ways. The first
was usinga DCFto determinefuturecash flows, seco...
15
Exhibit 5: Revenue Forecast
Source: Colby, Per Capita Disposable Income, Global B2C
Ecommerce Salesto Hit $1.5 Trillion...
16
Exhibit 6: Projected Income Statement
Capital Expenditure
Capital expenditurewasderived from acommon-sizeanalysis
of ex...
17
figureI was able to forecast changes in workingcapital over the
followingfive years.
Beta
Beta was calculated usingtwo ...
18
Cost of equity
Macy’sInc. had a 16.1 billion-dollar marketcap as of the day of
the valuation. Ibbotson SBBIby Morningst...
19
WACC
The weighted average cost of capital wascalculated by
weighing the cost of debt as well as the cost of equity outl...
20
DCF Conclusion
Using all of the aforementioned information, theDCFstatement
was created. After taking the NPV of the ca...
21
search wasfurther narrowed down to only includecompleted deals
of publictarget companieswithin the U.S., where a majori...
22
Exhibit 16: Comp M&A Valuation
Comparable Company Valuation
The ComparableCompany method wasalso used in order to
give ...
23
Exhibit 18: CompCo multiples
Using the market valueof equity at the time of the valuation
plusdebt, less excess cash pr...
24
Exhibit 19: Comp Co Valuation
Conclusion
All of the above valuationsyielded fairly similar results above
the tradingsto...
25
Appendix
Exhibit 21: Historical Income Statement
Exhibit 22: CommonSize Income Statement
In Millions 2008 2009 2010 201...
26
Bibliography
"2015 Proxy Statement." Macy's Inc., 1 Apr. 2015. Web. 19 Nov. 2015.
"About Us - Macy’s, Inc." Macy’s, Inc...
27
Friese, Susanne. "Coming to Live in a Consumer Society." Self-concept and Identity in a
Consumer Society: Aspects of Sy...
28
"Macy’s, Inc. History - Macy’s, Inc." Macy’s, Inc. History - Macy’s, Inc. Macy's Inc. Web. 11
Nov. 2015.
"Macy’s, Inc. ...
29
"United States | Economic Forecasts | 2015-2050 Outlook." United States | Economic
Forecasts | 2015-2050 Outlook. Tradi...
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Macy’s

  1. 1. 1 Nikita Pashkin Israel Shaked FE 449 A1 November 30th, 2015
  2. 2. 2 Table of Contents Industry Background 3-7 MarketAnalysis 3-5 Porter’s Five Forces Analysis 5-7 Macy’s Inc. 7-13 Company Background 7-8 Mergersand Acquisitions 8-9 Bluemercury 8 China Joint Venture 9 Comparison to other industry players 9-10 Mission Statement 10 BusinessStrategy 11-12 Core Pillarsof Strategy 11 Macy’s Backstage 11-12 Outlook 12-13 Valuation 14-24 DCFValuation 14-20 Revenue 14-15 Expenses 15-16 Capital Expenditure 16 Working Capital 16-17 Beta 17 Cost of Equity 18 Cost of Debt 18 WACC 19 Terminal Value 19 DCF Conclusion 20 ComparableMergers and Acquisitions Valuation 20-22 ComparableCompany Valuation 22-24 Conclusion 24 Appendix 25 Bibliography 26-29
  3. 3. 3 Industry Background At the turn of the 19th century the industrialrevolution took place and significantly increased per capita efficiency. In turn this allowed the middleclass to become wealthier while increasing output. These aforementioned changes led to a “dream world” of consumption (Friese)that was unheard of before. Departmentstores, with several departmentsselling differentgoods, wereintroduced at this period. Customerswerenotused to being able to wander in to a store and walk around window-shoppingatthe goods on display. Departmentstores werea revolutionary conceptthat changed the way peopleshopped. Alexander Turney and R.H. Macy werethe pioneersof departmentstores. The trademarksof a departmentstore included selling multipledifferentproductsunder asingle roof as well as having an established fixed price. Initially specializing in women’s clothing, departmentstores evolved to retailing clothing, home goods, furniture, sportsapparel, and kitchenware. Retailers selling groceries and fresh foodsare usually not considered to be within the same industry and areconsidered supercentersinstead. Market Analysis Fast-forward to 2015 and departmentstoreshavebecome an industry generating$164 billion in revenuesand $6.7 billion (4% of revenues) in profit. This industry however, hasbeen steadily decliningover the years. An annualaverageof -4.5% decreasein revenuehas been noted for the years 2010-2015, withaslow down in declineforecasted to -2.5% for the years 2015-2020 (Carter). Consumer trendsareleaningmore towardsonlineretailers, supercenters, and warehouseclubs. All of these alternatives provide a cheaper and often times more convenientalternativefor consumer spending. This increased competition from outsidethe industry is drivingdown industry profits, forcingrecentrevenuereturnsand forecasted growth to be negative.
  4. 4. 4 Exhibit 1: Industry Revenue Year Industry Revenue $ million Growth % 2008 224,784.60 -6.9 2009 210,460.30 -6.4 2010 206,459.10 -1.9 2011 201,232.30 -2.5 2012 191,617.80 -4.8 2013 180,179.30 -6 2014 172,871.50 -4.1 2015 163,999.40 -5.1 2016 156,875.70 -4.4 2017 152,479.60 -2.8 2018 149,066.20 -2.2 2019 145,579.30 -2.3 2020 143,492.90 -1.4 (Source: Carter) Some of the main driversthat impact the departmentstore industriesinclude: disposableincome, ecommerce, population, and price of oil. Disposableincome directly impacts where and how soon customerswill shop to replace their current products. Lower disposable incomewill lead to thriftier purchases, with consumers opting outof buyingnew clothes and continuingusingor repairing owned goods. Ecommerceis impacting traditional departmentstores by divertingsome of the retail purchasesto online purchases. Increase in population resultsin an increase in consumers, and vice versa. Finally, higher oil prices resultsin higher transportation costs, decreasing profits(Carter). Consumer spendingand personalincomeareforecasted to increase to 2020 (United States| EconomicForecasts| 2015-2050 Outlook). Even though this is oneof the main driversof the departmentstore industry, based on historical data, department stores were unableto significantly increase industry revenueafter the 2008 stock marketcrash.
  5. 5. 5 Exhibit 2: Industry Revenue vs. Disposable Income Source: Carter, Per Capita Disposable Income Duringthis period, consumer spendingand incomeincreased significantly, however, departmentstore growth continuesto be in the negatives. This shows that income growth is not enough to increase revenuesacross the industry dueto fierce competition. To conclude, it is unlikely that the departmentstore industry willhave a major turnaround in the near future, indicatinga continualsteady decline. Porter’s Five Forces Analysis: Retail Department StoreIndustry Power of suppliers - Low: Macy’sbuysin large volumesdueto the company’s sizeand vast amountof stores, resultingin bargaining leverage. This bargainingleverage is further enhanced dueto the wide rangeof productsthey purchase from smaller, non-concentrated suppliers. Supply costsaccount for a high 67% of industry revenues (Carter), suggesting incumbentsare price sensitive and willingto switch inputsor suppliers if prices are too high. Power of buyers – High: Buyers, individualconsumers, areprice sensitive. There are a large number of alternatives buyers can pursueat no switching cost. Even though buyersdo notbuy in large volumes, the pricesensitivity as well as substitute threats hold moresway over buyer power, increasingit significantly. -8.00% -6.00% -4.00% -2.00% 0.00% 2.00% 4.00% 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 Revenue vs. Income Disposable Income Industry Revenue
  6. 6. 6 Threat of entrants – Medium: Largeeconomies of scale benefit well established incumbentswho purchase in bulk and are able to charge a lower price, making it harder for new entrants. Low capital requirements (Sachs) increase threat of entrants. Brand differentiation is present, giving incumbentsan advantageover new entrants. Threat of substitutes – High: Supercenters, discountstoresand ecommerce providesimilar goodsfor a lower cost, thus increasing substitute perceived value. With the emergenceof Internet and the developmentof ecommerce, the traditional brick and mortar stores are becoming less and less appealing. Higher fixed costs and staffing needsforce departmentstores to charge higher prices than their online competitors. Ecommercewebsites are able to access morecustomers, spanninglarge geographic locations and are able to do business24/7. Growingecommercetrend is contributing to the decrease in industry profitability and may proveto be an increasing threat in the years to come. Industry rivalry – High: High concentration, the top 4 rivals dominatewith an 81.4% marketshare. However, these rivals are contendingin a decliningindustry (Carter), forcing incumbentsto fiercely battle for the currentavailable market share. Rivalry is often characterized by pricecompetition. The moreimportantfactors, declining industry and heavy price competition, contribute to very high rivalry within the industry. Exhibit 3: Porter’sFive Forces Industry Rivalry (high) Suppliers (low) Buyers (high) Threat of Entry (med) Substitutes (high)
  7. 7. 7 In conclusion, three out of five forces have a high impact on profitswith only threat of entrants having a medium and supplier power havinga low impact. The most important forces, rivalry and substitutes forceincumbentsto lower their prices in an attempt to increase perceived valuefor the customers. With the availability of Internet, customersare able to shop around onlineand easily compareprices, limiting mark-up ability of retailers. Incumbentsface both internaland external industry competition to maintain lowest possible prices. Asa direct resultof this pressure, this is nota very profitable industry for incumbentsand decreasingindustry profitability is not surprising. Macy’s Inc. Company background Founded by R.H. Macy, Macy’sInc. operates within the departmentstores industry withtwo separate divisions: Macy’sand Bloomingdales, as wellas specialized beauty products under the brand Bluemercury. Historically, the company hasbeen a leader and innovator since beginningoperationsin 1858. Notonly wasthe company oneof the first to open a departmentstore, but also the first to promotea woman to an executive position, offer a fixed price for goods, and hold a retail liquor license in New York. The trend setting continued with the Macy’sThanksgivingDay Parade in 1924, exposingthe company to huge publicity ever since. After going publicin 1922, thecompany began aggressively expandingby taking over competitorsand openingregional stores. As of December 1994, Macy’sInc. (known asFederated Department Stores Inc. at the time) acquired R.H. Macy’s company. Thecompany operated over 400 departmentstores. Federated DepartmentStores Inc. renamed their businessto Macy’sInc. in 1995 and began convertingacquired name brand stores to Macy’s stores (Macy’sInc. History). Macy’sInc. currently operatesin 45 states with around 900 stores. The company employsaround167,000peopleand generated $28.1 billion in revenuefor the year-end 2014. Thecompany is
  8. 8. 8 traded on the NYSE with the ticker symbol“M” (About Us - Macy’s, Inc). Mergers and Acquisitions Bluemercury The most recent acquisition occurred on March 15th, 2015. The transaction involved Macy’sInc. acquiring Bluemercury for $210 million in cash. Bluemercury, based in Washington D.C., isa chain of specialized luxury beauty productsand spas. Macy’spurchased the retailer with the expectation of widely expandingreachand presence, while focusingon the prestige and quality of the already known luxury brand. Thebuyer planson a decentralized approach, retaining Bluemercury’scurrentCEOand COO (Macy's, Inc. Completes Bluemercury Acquisition). Macy’smay be diversifyingfrom the traditional retail departmentstore industry throughthis acquisition. Bluemercury serves a younger, higher incomecustomer base, and as many as 350 Bluemercury storesmay open insideof currentMacy’sstores (Halkias). This may increase foot-traffic within currentstores, and cross-sell currentproducts, increasingrevenues. Even though the beauty and cosmetics industry has many similar external drivers(disposableincome, ecommercesales), the industry hasbeen faring well. Growthhas averaged 6.4% per annum over the last four years, while forecasts predict an annualgrowth of 4.9% untilthe year 2020 (Carter “Beauty, Cosmetics& Fragrance Storesinthe US”). As long as the economy is doingwell, this investmentshould provebeneficial to Macy’sdueto the synergies involved. Thecompany willbe able to cross-sell the beauty products within Macy’sstores, increasing willingnessto pay. Locating freestandingdepartmentsof Bluemercury within currentMacy’s retail outlets will reducerentexpenses for the acquired company, providingadditional cost synergies. China Joint Venture with Fung Retailing Limited On August15th 2015,Macy’sannounced thatit had formed a joint venturecompany withFungRetailing to attempt retailing through ecommerce in China. Macy’swill own 65% with Fung
  9. 9. 9 Retailing owningthe remaining35%. The newly formed venturewill begin selling onlinein late 2015 throughAlibaba’s Tmall Global, an onlinemarket space dedicated to connectingforeign companieswith local Chineseconsumers. FungRetailing, a privately held Chinese company, has extensive local market know-how with 1,000 storesin China. Furthermore, FungRetailing focuses extensively on technological developmentand omnichannelretailing, similar to Macy’s (Macy's FormsJoint Venture with Fung Retailing to Test E-commerce inChina). Comparison to other industryplayers Macy’sInc. holds a dominating18.1% marketshare, second only to Target (38.1%). Other importantindustry competitors includeSears, with a 14.2% marketshare, Walmartwith 11%, JCPenny with8%, and Nordstrom with7.2% (Carter). Exhibit 4: Competitors Source: Carter Historical marketshare, calculated usingcompany revenueasa percentage of industry revenue, can shed light as to the growth or decline of the companieswithin the industry. Outof the aforementioned companies, Macy’sand two other competitors have increased market share, while the other three decreased. Macy’s began with a modest12% marketshare in 2010 and expanded to an 18% share by 2015. Targetexperienced the largest acquisition of market share, going from 25% in 2010 to 37% in 2015. Nordstrom also grew its hold over the market from 4% in 2010 to 7% fiveyears later. On the other hand, Walmartwentfrom 14% in 2010 to 11% in 2015. Searsexperienced a similar declinefrom 18% to 14%. Finally, JCPenny lostthe least market share, going from 9% in 2010 to 8% in 2015. Using EBITas a percentage of revenue to measurekey industry ratios, illustrates a company’s ability to generate earnings based on sales. Using historical EBITover sales helps uscomparethe efficiency
  10. 10. 10 developmentof the companiesrelative to one another. The departmentstore industry averageis around 5% (Department& Discount Retail Industry). Macy’sraised its EBIT as a percentage of revenueover 3% during2010to 2015, from 7.5%to 10.6%. Target dropped in efficiency by 1% from 10% to 9% over the same period. Walmartdecreased this ratio from 7.6% in 2010 to 7.1% in 2015. Nordstrom also declined 4%, from 9.7% to 5.7%. Searsbegan with a low ratio of 1% in 2010 and droppedto a negative 3.1% in 2015 due to an operating incomeloss. JCPenny experienced thelargest drop in this ratio from 4.7% in 2010 to negative 3.9% in 2015. Out of all of the main industry rivals, Macy’sproved to be effective in growingits dominanceof the market. The company increased market share by 5% in five years, the second largest market acquisition behind Target. Efficiency wise, illustrated by the EBITover revenueratio, Macy’swas the only one of its competitors who was able to increase the ratio from 2010 to 2015. Thiscan be attributed solely to a larger increase in EBIT compared to sales, as sales were growingeach year from oneperiod to the next. The higher EBITto revenuepercentageleads to the conclusion that Macy’sis moreefficient at controlling its costs while still generating increasing revenue. In addition, the large increase in marketshare relative to competitors indicates that Macy’sis in a strongposition going forward and iscapable of defendingits dominantstatus. Mission Statement "Our goal is to be a retailer with the ability to see opportunity on the horizon and have a clear path for capitalizing on it. To do so, weare movingfaster than ever before, employingmoretechnology and concentrating our resourceson those elements most importantto our core customers." The company furthermorehasa mission statement focused specifically on Macy’s and Bloomingdalesand readsthe following: "Our vision is to operateMacy'sand Bloomingdale'sasdynamic national brandswhile focusingon the customer offeringin each store location" (Farfan). These two mission statements have been reflected in Macy’s businessstrategies regardingits first two pillars: adaptation and technological integration. The company isclosely followingits mission statements and this is reflected in positiveand growing earningswithin a decliningindustry.
  11. 11. 11 Business Strategy Core pillarsof strategy Macy’sfocuses its strategy around threecore issues: My Macy’s, Omnichannelintegration, and Magic Selling (M.O.M. for short). Since 2008 when these strategies have been introduced, they have been steadily interwoven to enhance and bring increased customer value(Refinement of M.O.M. Strategies - Macy’s, Inc). My Macy’sinvolveslocalization and catering to local tastes. Localization incorporates providinglocation specific optionsfor consumersto purchase. Examplesof this includemen in some states demandingcuffed pants, or Pittsburgh customersasking for bedspreadswhile the rest of the nation doesnot (Touryalai). The second part, Omnichannel integration, ensuresif any Macy’sin the country has a specific item available, the customer has access to it. This required Macy’sto upgrade40,000 registersin 2010 so that employeescan search all existing stores and warehousesfor items that may be unavailablein specific outlets. The same tool will also ship items to customersfrom locations with larger stocks, rather than closer locations. Omnichannels can help maintain higher productmarginsby shipping from locations with plentifulstock, which may have otherwise been sold in a clearance discount (Touryalai). The finalpillar of integrated strategy revolvesaround “Magic Selling” (Touryalai). In short, this simply meansmakingconnections with customers and engaging with them throughoutthe sale process. These closely linked M.O.M. pillarsof strategy have ensured that Macy’sprosperswhile many of its competitors face diminishing marginsand revenuesover the past fiveyear period. However, this strategy was not enoughto lead to a sustainable competitive advantage. After the release of third quarter earnings, the company realized that they mustattempt a change in strategy if they want to see a turnaroundin revenuesafter persistentdecreasing sales. Terry Lundgren, CEO, announcedthecompany willfocus willalter in store productmixas well as experimentwith onlinesales (Bose). Macy’s Backstage In September 2015 Macy’sentered the discountstore retailer business, titled Macy’sBackstage. Competitorssuch as Nordstrom and Sacks Fifth Avenuehavepreviously proved successfulin entering
  12. 12. 12 the off-priceretailing, and Macy’s realized that in order to not be left behind, it had to do the same. The company willenter the market space of T.J. Maxx and Marshalls, who generate a whopping$304 of sales per squarefoot, compared to Macy’s$158. Macy’swillhave to alter strategy for this particular business, as departmentstores buy inventory in advanceand in bulk, while discountstores buy inventory whenever alower cost opportunity presentsitself (Thau). Outlook Macy’shave a similar pessimistic futureoutlook as the entire departmentstore industry. After the release of third quarter results on the 11th of November 2015, thecompany thought it necessary to make downward adjustmentsto their forecasts for year’s end. The company expected same-store sales to drop by 1.8-2.2% for the currentfiscal year (Bose). As a result of the warmer weather, shoppershave been reluctant to purchasethe winter clothes offeringsalready in stores. As CEOTerry Lundgren confirmed, “We’regoingto take markdowns, […] we’re going to get rid of the inventory – have to do that before Christmas.” (Belvedere). Quarter four earningswillinevitably suffer as a result of the larger markdowns. Thedifficulty in forecasting months in advancewhen to exhibit inventory for new seasons has proven to be a drastic hindrancefor the company. Should Macy’s avoid such mishaps in the future, they will requiremore flexible inventory and supplier contracts. Even though this may be costly and difficultto implement, a rapid just-in-time inventory stockingsystem can mean the difference between life and death for a retail company. If the giant retailer wantsto continueearning above average industry profits and gain an edge over competition, they will have to better control inventory. Customersare choosing to decrease spendingon new retail goods and merchandise, hurtingMacy’s. Instead, consumersare spendingtheir additionalincome on experiences and eating out (Belvedere). If this trend is to continueand reprioritization from tangible goodsto experiencesbecomes the new norm, Macy’sInc. will need to adapt its strategy to better fit this new environment. The company willalso halt any ambitions to invest in a real estate investmenttrust, diversifyingaway from departmentstores (Belvedere). Thisfrugalstrategy may proveto be usefulin the short run and allow more liquidity needed to financegrowth and a turnaround in strategy. However, in the longrun with the shrinking
  13. 13. 13 departmentstore industry, thismay hinder the company and limitits revenuesources. Diversifyingaway from the decliningand highly saturated U.S. market through a joint venturein China is a wiseattempt to maintain profitsand growth (Bose, Macy's CutsFull-year SalesForecast, Forms China Venture). Spreadingoutrevenueto a country with over 668 million Internetshoppersand a growing middleclass can further bolster futuresales and provideafoothold in the expandingforeign markets (Macy's FormsJoint Venture with Fung Retailing to Test E- commerce inChina). Overall, the company is faringbetter than the majority of its competition. However, the industry isshrinkingand is forecast to continueshrinking. In all likelihood, Macy’swill be forced to evolve or face a similar fate as many of its previousbankruptcompetitors. The company hasmade a promisingstep forward over the past five years by focusingon local tastes and entering new channels (such as online). This proved to be highly beneficial, yet no longer enough. Diversifyingwiththe acquisition of Bluemercury aswellas opening Macy’sBackstage is a prudentand promisingstep, yet may be too late. Enteringthe growingChinese market holds promise and may providethe much-needed boost in sales.
  14. 14. 14 Valuation Company valuation occurred in three separate ways. The first was usinga DCFto determinefuturecash flows, second was using comparable companies, and finally through comparable mergers & acquisitions. DCF Valuation Revenue Calculating the DCFwasa several step process. First thing needingto be donewasto forecast revenuefor the following five years, up to 2020. Asof the day of the valuation, Macy’sreleased three quartersof earnings. Based on the earningscall and Macy’s corporate website, sales were adjusted by managementto decrease from a 1% annualgrowth down to a 1% annualdecline(Macy’s, Inc. ReportsSecond Quarter Earnings, Adjusts2015 Guidanceand Outlines New Sales GrowthInitiatives). This drop in sales had a 100% weightin the 2015 salescalculation as managementwere likely to have an accurate forecast for such a short time period. The followingyearswere calculated usinga weighted average of the mostimportantexternal industry driversoutlined in the Market Analysis section above. The external driversincluded: population growth, disposable income, and a growingecommerce trend. Alongwith this, CAGR wascalculated for the previousfive years and given a weight. As the forecasts progressed further into the future, CAGR decreased in weight as past data become moreand moreinsignificant. On the contrast, the external driversof population growth, disposableincome, and loss of marketshare to ecommerce bore moreweight. Finally, inflation wasaccounted for and added to the calculated growth.
  15. 15. 15 Exhibit 5: Revenue Forecast Source: Colby, Per Capita Disposable Income, Global B2C Ecommerce Salesto Hit $1.5 TrillionThis Year Drivenby Growth in Emerging Markets, USInflationForecast 2015-2020 and up to 2060, Data and Charts The yearly revenuegrowthwas consistent with the managementforecast stated in quarter 3 earnings call, of 2-3% annually (Macy's(M) EarningsReport: Q3 2015 Conference Call Transcript). Expenses Expenseswerecalculated by performinga common size analysisof the income statement. Costs of good sold and SG&A expenseswere averaged out over the previousfiveyears (Exhibit 22: CommonSize Income Statement). Thesefigureswere then used to project expensesas a percentageof sales. The tax rate was calculated by usingMacy’stax expenseas a percentage of pre-tax income, averaged out over the past five years. This led me to a tax rate of 35.81% thatwas applied to futureincome. Cost of goodssold has remained around asteady 60% over the years, making this figureappropriatefor futureprojections. SG&A expenses, depreciation expenses (doneon a straight line basis), as well as interest expenses wereall taken as a percentage of revenue averaged out. Year 2015 2016 2017 2018 2019 2020 Population Growth 0.99% 0.99% 0.99% 0.99% 0.99% 0.99% Weight 0.00% 30.00% 32.50% 37.50% 40.00% 42.50% Per capita disposable income growth 2.58% 2.70% 2.51% 2.55% 2.19% 2.14% Weight 0.00% 30.00% 32.50% 37.50% 40.00% 42.50% Loss of market to ecommerce 3.85% 4.43% 4.18% 4.15% 4.15% 4.15% Weight 0.00% 5.00% 10.00% 15.00% 20.00% 25.00% CAGR 1.75% 1.75% 1.75% 1.75% 1.75% 1.75% Weight 0.00% 35.00% 30.00% 20.00% 15.00% 10.00% Management forecast -1.00% Weight 100.00% Growth pre inflation -1.00% 1.50% 1.24% 1.05% 0.70% 0.47% Inflation 0.09% 1.15% 1.84% 2.17% 2.28% 2.38% Revenue Growth -0.91% 2.65% 3.08% 3.22% 2.98% 2.85%
  16. 16. 16 Exhibit 6: Projected Income Statement Capital Expenditure Capital expenditurewasderived from acommon-sizeanalysis of expenditureasa percentage of revenue. The average trend over the yearswas around 2.2%. Macy’s, however, haveaplan to upgrade 150 of their top performingstores (Sheff), which will resultin higher initial capital expenditures. Furthermore, the joint ventureexpansion into China will requiresignificant expenditureto gain an initial foothold in the new market. As a result, it was appropriateto grow capital expenditureby 10% for the years 2015-2017, and then decrease to the historical average over the following three years. Working Capital Workingcapital is generally positivefor the departmentand discountretail industry (Department & Discount Retail Industry). Macy’sworkingcapital ratio hovers around 1.5, indicatingcurrent assets are almost alwayshigher than currentliabilities. To project workingcapital for futureyears, the methodology used was calculating the change in workingcapital over the change in sales. Using percentage change as a percentage change of sales gives a moreaccurate resultin comparison to usingworkingcapital as a percentage of sales, which overstates workingcapital. Based on historical data over the previousseven years, the average change in workingcapital over change in sales was taken. As a result, working capital changed 2.12 times morethan changes in sales. With this In Millions 2015 2016 2017 2018 2019 2020 Net sales 27,849 28,587 29,468 30,419 31,326 32,218 % growth 2.65% 3.08% 3.22% 2.98% 2.85% CoGS (16,710) (17,152) (17,681) (18,251) (18,796) (19,331) % of sales 60% 60% 60% 60% 60% 60% Gross Margin 11140 11435 11787 12167 12531 12887 Expenses (SG&A, D&A) (8,887) (9,122) (9,403) (9,707) (9,996) (10,281) % of sales 32% 32% 32% 32% 32% 32% EBIT 2253 2313 2384 2461 2534 2606 Interest Expense (557) (572) (589) (608) (627) (644) Taxable Income 1,696 1,741 1,795 1,852 1,908 1,962 Tax (607) (623) (643) (663) (683) (703) Net Income 1,089 1,118 1,152 1,189 1,225 1,259 EPS 3.20 3.28 3.38 3.49 3.60 3.70
  17. 17. 17 figureI was able to forecast changes in workingcapital over the followingfive years. Beta Beta was calculated usingtwo differentmethodologies. The first methodology was runningaregression usingMacy’sreturns versusthe S&P 500 returns. Usinghistorical prices from November 11th 2010 to November 11th 2015, itwaspossible to concludeon a statistically significant Beta of 0.87. Exhibit 7: RegressionBeta The second method used was through un-leveraging comparable companies’ Betas and then re-leveraging the median Beta usingMacy’s debt to equity ratio with the followingformula: 𝐵𝑒𝑡𝑎𝑙𝑒𝑣𝑒𝑟𝑒𝑑 = 𝐵𝑒𝑡𝑎 𝑢𝑛𝑙𝑒𝑣𝑒𝑟𝑒𝑑 ∗ [1 + (1 − 𝑡𝑎𝑥) ∗ 𝐷𝑒𝑏𝑡 𝐸𝑞𝑢𝑖𝑡𝑦 ] Exhibit 8: CompCo Beta Calculation Using comparable company re-leveragingmethod resulted in a Beta of 0.834. TheBeta used for the WACC wasan equally weighted average Beta of 0.852 Company Beta Levered Tax rate Debt Equity Unlevered JC Penny 1.371 37% 5279 2,831.99 0.63 Kohls 0.751 36% 5135 8,764.17 0.55 Nordstrom 1.08 39% 2809 12,553.28 0.95 TJX 0.709 37% 1624 47,680.08 0.69 median 0.66 Macys 0.834 36% 7006.00 17387.63 0.66 ANOVA df SS MS F Significance F Regression 1 0.050346036 0.050346 13.53252933 0.000514995 Residual 58 0.215781545 0.00372 Total 59 0.266127581 Coefficients Standard Error t Stat P-value Lower 95% Upper 95% Intercept 0.005413072 0.009360431 0.578293 0.565305055 -0.013323867 0.024150012 Beta 0.879236403 0.239010055 3.678659 0.000514995 0.400805796 1.357667009
  18. 18. 18 Cost of equity Macy’sInc. had a 16.1 billion-dollar marketcap as of the day of the valuation. Ibbotson SBBIby Morningstar placesthis market cap in the third decile, adding0.93% to the company’scost of equity. The same documentwasused to determinethe long horizon equity risk premium, 6.96%. Thelong-term risk free rate (20-year government bond), as stated by the departmentof treasury, was 2.49% asof the day of the valuation (Daily Treasury Yield Curve Rates). Using these aforementioned ratesas well as the combined Beta from the 60-monthregression against the S&P500 and re-leveraging CompCo, Iwas able to determine the cost of equity through the followingformula: 𝐶𝑜𝑠𝑡 𝑜𝑓 𝑒𝑞𝑢𝑖𝑡𝑦 = 𝑅𝑖𝑠𝑘 𝑓𝑟𝑒𝑒 𝑟𝑎𝑡𝑒 + 𝐵𝑒𝑡𝑎 ∗ ( 𝑀𝑎𝑟𝑘𝑒𝑡 𝑃𝑟𝑒𝑚𝑖𝑢𝑚) + 𝑆𝑖𝑧𝑒 𝑃𝑟𝑒𝑚𝑖𝑢𝑚 Exhibit 9: Cost of equity Cost of equity was thus determined to be 9.35%. Cost of debt Macy’sInc. has 26 differenttypesof bondsoutstanding, making it difficultto calculate a weighted average YTM. An alternative method wastherefore found. Usingthe Bloombergterminal it was possible to assess that all of the company’soutstandingdebt has been issued with a compositedebt rating of BBB. To confirm this bond rating, Morningstar wasused to doublecheck the credit classification of Macy’s. Morningstar’sratingaffirmed the BBB creditrating. As of the valuation date, the US CorporateBBB EffectiveYield rate was 4.12% (BofA MerrillLynchUS CorporateBBB EffectiveYield). Exhibit 10: Cost of Debt Risk Free Rate Beta Market Risk Premium Size Premium Re Cost of Equity 2.49% 0.85 6.96% 0.93% 9.35% Cost of debt Bloomberg Morninstar Rating BBB BBB BofA Merrill Lynch yield 4.12%
  19. 19. 19 WACC The weighted average cost of capital wascalculated by weighing the cost of debt as well as the cost of equity outlined above. Weights were assigned based on Macy’scapital structure. 𝑊𝐴𝐶𝐶 = 𝑅𝑒 ∗ ( 𝐸 𝑉 )+ 𝑅𝑑 ∗ (1 − 𝑡)( 𝐷 𝑉 ) Cost of equity was taken from the Recalculation to be 9.35%. Cost of debt, 4.12%, wastheBBB corporatebond yield. Marketvalue of equity was determined by the company’sshare pricemultiplied by shares outstanding. Debt was calculated usingthe sum of all outstandingbonds. These two figures wereadded to find the denominator value. The tax rate used wasan average of the historical tax rate, 35.81%. Exhibit 11: Weighted Average Cost of Capital Terminal Value Terminalvaluerepresents the perpetualcash flow from operationsafter the last year of the DCF. This perpetuity accountsfor the largest portion of the Discounted CashFlow Analysisand is therefore extremely important. For this valuation I used the Gordon GrowthModelwhen determiningthe TerminalValue. 𝑇𝑉 = 𝐶𝑎𝑠ℎ 𝐹𝑙𝑜𝑤 ∗ (1 + 𝐺𝑟𝑜𝑤𝑡ℎ 𝑅𝑎𝑡𝑒)/(𝑊𝐴𝐶𝐶 − 𝐺𝑟𝑜𝑤𝑡ℎ 𝑅𝑎𝑡𝑒) A 2% growth rate was used to calculate perpetualfuturecash flows. This figurewas derived from a2.38% averageGDP growthup untilthe year 2040 (USGDP Growth Forecast 2015-2019 and up to 2060 | Data and), rounded downto representthe slow decline in the retail industry. The2% growth rate was then applied to 2020’s free cash flow of $2,652. Thisfigurewas divided by WACC minusgrowth rate and discounted at the WACC to arrive at the presentday terminal valueof $16,327. WACC Value Weight Cost Tax Debt 7,006.00$ 29% 4.12% 35.81% Equity 17,387.63$ 71% 9.35% Total 24,393.63$ 100% 7.42%
  20. 20. 20 DCF Conclusion Using all of the aforementioned information, theDCFstatement was created. After taking the NPV of the cash flowsfrom 2015 to 2020 usingthe WACC, TerminalValuewascalculated and discounted. By addingthese two figuresI was able to concludeon a businessenterprise valuefor Macy’sInc. Since Macy’s currentassets less cash are enough to cover currentliabilities, all of its cash was excess (Skonieczny). However, beinga retailer I presumed they need 20% of this cash to stock registers and continueoperations. After subtracting debt and addingback excess cash, equity valueemerged. Equity valuewas then divided by the number of shares outstanding to concludeon an implied valueper share of $51.74. Exhibit 12: DCF Exhibit 13: DCF Valuation Comparable Mergers & Acquisitions Valuation The comparablemergers and acquisitions method uses acquisitions of related companiesfrom within the retail industry to valueMacy’sInc. I began the search by lookingat M&Asfrom the most recent two years, from November 2013 to November 2015. The Year end 2015 2016 2017 2018 2019 2020 Terminal Value Net Earnings x (1-t) 2,253 2,313 2,384 2,461 2,534 2,606 Tax (807) (828) (854) (881) (908) (933) After Tax earnings 1,446 1,484 1,530 1,580 1,627 1,673 D&A 1197.52 1229.23 1267.14 1308.00 1347.03 1385.39 Capex (622) (638) (658) (629) (648) (666) Change in NWC 61 (173) (213) (238) (235) (238) FCF 2,083 1,902 1,926 2,021 2,091 2,154 21,971.65 WACC 7.42% Cash Flow NPV 9,522.23$ Terminal Value PV 13,309.14$ BEV 22,831.37$ Debt 7,006.00$ Excess Cash 1,797.00$ Equity Value 17,622.37$ Shares 340.60$ Value per share 51.74$
  21. 21. 21 search wasfurther narrowed down to only includecompleted deals of publictarget companieswithin the U.S., where a majority stake was acquired. Finally, an SIC codeof 5311-5399, acodefor departmentstores, yielded two companies. To further expand my search, I included the SIC codeof 5611-5699, whichincludesmen’s and women’sclothing stores. This was an appropriatemeasureasTJ Maxx as well as Nordstrom wereboth in this category, and were two of the mostfrequently mentioned competitorsfrom analyst reports and company statements. Expandingthe SIC codes resulted in three additionalcomparable mergers& acquisitions, bringing the total up to five. Exhibit 14: Comp M&A Exhibit 15: Comp M&A Multiple Calculation After determiningthe shares acquired at a premium, itwas importantto compare the share price to the price90 daysprior to the announcement. Usingthese two prices, I discovered the premium paid per share. Adjustingfor the pricepremium, equity valuewas determined to which net debt assumed was added to in order to come up with the businessenterprise value. Finally, usingthe BEV I divided it by the last twelve month’sEBITDA, for the BEV/EBITDA multiples. The median multiple, 6.63, wasthen multiplied by Macy’s Inc.’s LTM EBITDA to get its BEV. Interest bearing debt was subtracted from this value, while excess cash was added to arriveat the firm’sequity value. Dividingequity valueby shares outstanding resulted in an implied share valueof $55.01per share. Target Name Acquirer Name Close date Shares bought* Share price 90 days prior Premium Net debt* ANN INC Ascena Retail Group Inc 5/18/15 45 37.34 35.19 6.11% -207.71 Jos A Bank Clothiers Inc Men's Wearhouse Inc 11/26/13 28 65 40.50 60.49% -333.18 rue21 inc Apax Partners LLP 5/23/13 23.78 42 27.70 51.62% -63.52 Family Dollar Stores Inc Dollar Tree Inc 7/28/14 114.5 59.6 57.95 2.85% 594.65 Saks Inc Hudson's Bay Co 7/29/13 145.5 16 11.46 39.62% 296.85 *millions Target Name BEV* EBITDA* BEV/EBITDA ANN INC 1375.84 251.10 5.48 Jos A Bank Clothiers Inc 800.82 133.10 6.02 rue21 inc 595.186 89.80 6.63 Family Dollar Stores Inc 7229.925 728.00 9.93 Saks Inc 1964.28 262.30 7.49 *millions Median 6.63
  22. 22. 22 Exhibit 16: Comp M&A Valuation Comparable Company Valuation The ComparableCompany method wasalso used in order to give morecredibility in determiningthe valueof the company. The comparable companieswerefound usingseveralsources. Macy’s most recent 10k filings, Proxy Statement (14a), as well as multiple analyst reports (Sterne Agee, Cowen and Company, Barclays, Morgan Stanley’s AlphaWise) were all utilized in determiningthe competitors. The most frequently mentioned competitorswere: Dillards, JC Penny, Kohl’s, Nordstrom, Sears, Target, and TJ Maxx. Next, to make surethat the companieswere in the same line of business, each company’sbusinessdescription wassought. As a result of this, three companieswere eliminated. Dillardsoperates a construction company under itsname, as well as departmentstores. Dueto this, it was eliminated. Sears was also operating in too many segments includingSears Auto Services, specializing in car repairs, and Sears HomeImprovement, specializingin carpet cleaning and home service installations. Target proved to offer a widerange of productsthat were too diversified, includingfreshand frozen food, aswell as computer hardware, software, and videogames. After removingthese three companies, I was left with four businessesthat operated under very similar modelswhile offeringthe same productsasMacy’s Inc; JC Penny, Kohl’s, Nordstrom, and TJ Maxx. Exhibit 17: Comparable Companies Company Ticker MV Equity* EBIT* EBITDA* Sales* Debt* CA* CL* Cash* Excess cash? BEV* JC Penny JCP 2,832 -509 126 12146 5279 4331 2241 4405 no 8,110.99 Kohls KSS 8,764 1644 2533 18785 5135 5698 2859 3065 no 13,899.17 Nordstrom JWN 12,553 1345 1843 13174 2809 5224 2800 3414 no 15,362.28 TJX TJX 47,680 3511 4091 28583 1624 6715 3930 8546 no 49,304.08 *millions Macys EBITDA* 3524.00 EBITDA multiple 6.63 BEV* 23356.74 IBD* 7006.00 Excess Cash* 2246.00 Equity Value* 18147.54 Shares* 340.60 Share value 55.01 *millions
  23. 23. 23 Exhibit 18: CompCo multiples Using the market valueof equity at the time of the valuation plusdebt, less excess cash provided mewitha BEVfor these companies. Excess cash was derived in the followingway: if current assets less cash weregreater than currentliabilities, the companies had enoughcurrentassets to cover current liabilities (Skonieczny). This meansthat all of the companies’cash is excess. However, dueto the fact that these companiesoperate within the retail industry, this is simply unrealistic, as these companies need cash in registers to continueoperations. As a result, only 80% of cash was considered excess while the remaining20% would beused to continue operations. On the other hand, if currentassets less cash were less than currentliabilities, companiesneeded all of their cash for operationsand did not have any excess cash, as the case with the comparable companies. Businessenterprisevaluewas determined usingthe market valueof equity plusdebt less excess cash. This valuewas then divided by EBITDA, EBIT, and sales to find the multiplesthat could be applied to Macy’sInc. After lookingat five-year average growth of the comparable companiescompared to Macy’s Inc., it was appropriate to use only the lower quartile of the multiples, as the higher quartile growth was morethan double that of Macy’s. By applyingthe lower quartile mediansto Macy’sLTM figures, I determined the company’sBEV. Subtracting the market valueof interest bearing debt and addingexcess cash resulted in equity value, which wasthen divided by shares outstanding. The EBITDA multiple was the mostimportant multipleas retail stores have many physical locations, resulting in significant depreciation expenses. It was therefore importantto use a valuethat reflected this, unlike EBIT. Sales are less accurate as they do not account for any of the company’sexpenses. Using the EBITDA multipleresulted in an implied share valueof $56.21. Multiples EBITDA EBIT Sales JCP 64.37 15.94- 0.67 Kohls 5.49 8.45 0.74 Nordstrom 8.34 11.42 1.17 TJX 12.05 14.04 1.72 Median 6.91 9.94 0.70
  24. 24. 24 Exhibit 19: Comp Co Valuation Conclusion All of the above valuationsyielded fairly similar results above the tradingstock priceof $51.05 atthe day of the valuation with an equity valueof $17,387.63. In order to computea single implied stock value, I took an equally weighted average of all of the concludingequity valuesand stock prices. This resulted in an equity valueof $18,305.44and ashare price of $54.32. Theimplied share price wasat a 6.41% premium of theactual stock price. Exhibit 20: Final valuation Multiples EBITDA EBIT Sales Macy's LTM* 3524 2467 27574 BEV* 24356 24517 19408 IBD* 7006 7006 7006 Excess Cash* 1797 1797 1797 Equity Value* 19146 19308 14199 Shares* 340.6 340.6 340.6 Share value 56.21 56.69 41.69 *millions Method Weight Equity Value Implied Stock Value DCF 33% 17,622.37$ 51.74$ CompM&A 33% 18,147.54$ 55.01$ CompCo 33% 19,146.42$ 56.21$ Weighted Average 18,305.44$ 54.32$ Actual 17,387.63$ 51.05$ Difference (Premium) 5.28% 6.41%
  25. 25. 25 Appendix Exhibit 21: Historical Income Statement Exhibit 22: CommonSize Income Statement In Millions 2008 2009 2010 2011 2012 2013 2014 Income Statement Net sales $ 24,892 $ 23,489 $25,003 $26,405 $27,686 $27,931 $28,105 CoGS (15,009) (13,973) (14,824) (15,738) (16,538) (16,725) (16,863) Gross Margin 9883 9516 10179 10667 11148 11206 11242 Expenses (SG&A, D&A) (14,261) (8,453) (8,285) (8,256) (8,487) (8,528) (8,442) EBIT (4,378) 1,063 1,894 2,411 2,661 2,678 2,800 Interest Expense (560) (556) (574) (443) (559) (388) (410) Taxable Income (4,938) 507 1,320 1,968 2,102 2,290 2,390 Tax 163 (178) (473) (712) (767) (804) (864) Net Income (4,775) 329 847 1,256 1,335 1,486 1,526 EPS ($11.34) $ 0.78 $2.00 $2.96 $3.29 $3.93 $4.30 In Millions 2008 2009 2010 2011 2012 2013 2014 Net sales 100% 100% 100% 100% 100% 100% 100% CoGS -60% -59% -59% -60% -60% -60% -60% Gross Margin 40% 41% 41% 40% 40% 40% 40% Expenses (SG&A, D&A) -57% -36% -33% -31% -31% -31% -30% EBIT -18% 5% 8% 9% 10% 10% 10% Interest Expense -2% -2% -2% -2% -2% -1% -1% Taxable Income -20% 2% 5% 7% 8% 8% 9% Tax -3% -35% -36% -36% -36% -35% -36% Net Income -19% 1% 3% 5% 5% 5% 5%
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