project final

Contents
Page
PART 1
PART 2
PART 3
PART 4
Industry and company overview
Financial ratio analysis
Valuation and pricing
Risk analysis
PART 5 Recommendation

3
Differences between the manufacturing and service industry lie in business and the direction of innovation
……
SouthwestIndustry1 2
Industry and LUV: preview threat recent performance
Industry and company
overview
Financial ratio analysis Valuation and pricing Risk analysis Recommendation
Overall Industry Review
Recent performanceAirline IndustryThreat of Entry
Southwest

overview
Valuation and pricing Risk analysis Recommendation
Basic ratio analysis and industry comparation
Southwest (Q2 TTM) Industry Ranking in Industry
Current 0.78 0.71 1
Quick (Acid-test) 0.57 0.39 1
Receivable collection period 7.7
Debt to equity 0.39 1.42 1
Interest coverage 26.11 7.93 1
1 Liquidity and solvency
(Data Source: http://csimarket.com/stocks/LUV-Financial-Strength-Comparisons.html)

overview
Valuation and pricing Risk analysis Recommendation
Basic ratio analysis and industry comparation
Performance and return2
Southwest (Q2 TTM) Industry
Ranking in
Industry
Return on Asset 5.47% 11.72% 2
Return on Asset 5yrs Avg. 2.25% 2.61%
ROI 7.93% 17.00% 2
ROI 5yrs Avg 3.01% 3.73%
Return on Equity 14.98% 67.18% 3
Return on Equity 5yrs Avg. 5.85% 10.21%
Gross Margin 69.39% 53.24% 1
Gross Margin 5yrs Avg. 67.25% 48.28%
EBITDA Margin 15.11% 12.10% 1
EBITDA Margin 5yrs Avg. 10.15% 8.21%
OP Margin 9.73% 9.05% 2
Net Margin 5.99% 13.20% 2
3 Key ratios analysis
19.99
2.9
1.2
13.95
5.39
2.95
0.71
16.66
0
5
10
15
20
25
P/E P/B P/S P/FCF
Southwest
industry
P/E
(Data Source: http://csimarket.com/stocks/LUV-Valuation-Comparisons.html)
(Data Source: http://csimarket.com/stocks/LUV-Management-Effectiveness-Comparisons.html )

1
Comparable method
Valuation and pricingFinancial ratio analysis
overview
Risk analysis Recommendation
Using comparable firms
Sales Earnings
(EBIT)
Book
value
Market
value
P/S P/E P/B
Delta
airlines
$39,351 $10,769 $12,180 $30,694 0.78 2.85 2.52
United
continental
holdings
$38,725 $673 $3,349 $18,588 0.48 27.61 5.55
Industry
average
0.8 10.0 2.6
Southwest
airlines
$17,740 $1,062 $7,687
？
1.3 21.7 3.0
Multiples for comparable firms (TTM)
Average
multiple for
comparable
Southwest’s
Number
Southwest’s
Valuation
Sales 0.63 * $17,740 = $11,176
Earnings 15.23 * $1,062 = $16,174
Book
value
4.035 * $7,687 = $31,017
Average
valuation
$19,455
Apply comparable firm multiples to Southwest airlines
Average
multiple for
comparable
Southwest’s
Number
Southwest’s
Valuation
Sales 0.63 * $17,740 = $11,176
Earnings 15.23 * $1,062 = $16,174
Book
value
4.035 * $7,687 = $31,017
Average
valuation
$23,062

1
DCF method
overview
Valuation and 12-month ahead pricing
2014 2015 2016 2017 2018
Free cash flow 1,100 1,298 1,532 1,807 2,133
Total PV to
12/31/2014
4,088
Continuing value
70，875.79
PV of CV 32,469 -
Valuation of equity
9/31/14 21,667
Valuation of equity
9/31/15
27,987
Value per share
9/31/15
33.04
37.97
Free cash flow=18%
Annual discount rate=23.5%

1
DCF method
overview
FCF vs. Value added
Terminal value
liquidation concept
Investment is treated as loss of value.
∆1% growth rate
Going concern concept
Facts may cause the result to be inaccurate:

2
Residual earnings method
overview
Risk analysis RecommendationValuation and pricing
2014.1 2014.2 2014.3 2014.4 2015.1 2015.2 2015.3
Net income 152 465 377.286 308.821 221.419 677.367 549.594
Eps 0.22 0.67 0.52 0.44 0.32 0.97 0.79
Dps 0.02 0.02 0.02 0.02 0.02 0.02 0.02
Bps 10.17 10.77 11.27 11.69 11.57 12.64 12.46
RE -0.12 -0.27 0.34 0.16
Discount
rate
1.05 1.10 1.158 1.215
PV of RE -0.12 -0.24 0.29 0.13
Total PV of
RE to
9/31/14
3.848
Discount
rate
PV of RE
Total PV of
RE to
9/31/15
4.602
Continuing
value of CV
PV of CV
9/31/2014
20.673
PV of CV
9/31/2015
25.129
Value per
share
9/31/2014
35.79
shares
outstanding
698
valuation
of equity
9/31/2014 24,982
Value per
share
9/31/2015 42.19
BVt+1=BVt+Epst-Dpst
REt=Epst-required rate of
return*BVt-1
Constant residual earning
CV= RE/ discount rate

2
Residual earnings method
overview
Risk analysis RecommendationValuation and pricing
Balance sheet and income statement,
NOT merely C/F statement.
Accrual accounting, treat the investment as
an asset rather than a loss of value.
RE
method
DCF
method

3
AEG method
overview
2014.1 2014.2 2014.3 2014.4 2015.1 2015.2 2015.3
Dps 0.02 0.02 0.02 0.02 0.02 0.02 0.02
Eps 0.22 0.666 0.52 0.44 0.32 0.97 0.79
Dps reinvested
at (5%)
0.001 0.001 0.001 0.001 0.001 0.001 0.001
Cum-dividend
earnings
0.219 0.667 0.521 0.443 0.318 0.971 0.788
Normal
earnings
0.2178 0.2287 0.6995 0.5460 0.4646 0.3331 1.0190
AEG 0.0 0.4 (0.2) (0.1) (0.1463) 0.6384 (0.2306)
Discount rate 1.000 1.050 1.1025 1.158
PV of AEG
9/31/2014
-0.102 -0.139 0.579 -0.199
Total PV of AEG
9/31/2014
0.979
CV
PV of CV
9/31/2014
Total earnings
to be
capitalized to
9/31/2014
28.45
Shares
outstanding
698
valuation of
equity
9/31/2014
19,857
dicount rate
PV of AEG
9/31/2015
Total PV of AEG
9/31/2015
PV of CV
9/31/2015
Total earnings
to be
capitalized to 33.361
NEt=Epst-1*(1+discount rate)
Cum-dividends earningst=Epst+dividends reinvest.
AEGt=cum-dividend earningst-normal earningst.
CVt=AEGt+1/discount rate
CV=0
Quarterly discount rate=5%

3
AEG method
overview
Weakness compare with other two methods
• Accounting complexity
• Concept complexity
• Application to strategy
cum-dividend earning
Does not give
an insight into
the drivers of
earnings
growth
Understand
accrual
accounting
1 2
value is based
on earnings to
be earned
within the
firm and from
earnings from
the
reinvestment
of dividends
3

Beta and Required rate of return
Multiple R 0.547674
R Square 0.299947
Adjusted R Square 0.268127
standard deviation 0.055339
observed value 24
Coefficients
Intercept 0.039015
X Variable 1 1.478055
Beta=1.4781
Market return S&P 500
Risk free return 13 week treasury bill discount rate
return used monthly return
period 24
Required rate of return=rf+beta＊(market
return-rf)
rm 0.162271517
rf 1%
beta 1.478054898
required rate of return 23.506566191816600%
quarterly rate of return 0.054198786
overview
Valuation and pricing RecommendationRisk analysis

黑龙江
Technical and fundamental
Market shares
1 Debt paying ability2Stock price
Economy Hotels
4 Conclusion
overview
Valuation and pricing RecommendationRisk analysis
3 Fundamental analysis
• Market Risk
• Oil price risk
LUV Industry
Quick Ratio 0.57 0.39
Working Capital Ratio 0.76 0.72
LT Debt to Equity 0.29 0.99
Total Debt to Equity 0.37 1.12
Leverage Ratio 1.78 3.84
Interest Coverage 38.46 9.75
Debt Coverage 1.45 0.53

RecommendationFinancial ratio analysis Valuation and pricing Risk analysis
overview
Recommendation
Buy In
Buy In
Profitability
Hedged riskDebt control

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