Valuation Model with Sensitivity Analysis – Airgas
Financials:
· The beginning stock price for this valuation model is $69.85. However, this price may be artificially high due to effect of the Air Product’s hostile take-over bubble. The stock price currently is hovering around $70/share, but from October 2008 to February, 2010, it ranged from $28 to a little over $50/share.
Sensitivity Analysis: Therefore three other stock prices are used to see the effect of a much lower beginning stock price in case this model is run with a lower future stock price.
| If the beginning stock price is: | The ending stock price is: |
| $69.85 | $82.73 |
| $41.00 | $84.32 |
| $50.00 | $83.66 |
| $28.00 | $85.84 |
It is interesting to note that even a $40 span in prices does not have a dramatic effect on the ending stock prices which are all in the $80 range.
· Revenues [Net Sales); Net sales were down by 11.2% in 2010, partially due to the worldwide economic downturn. Recovery estimates for the business world in general have been modest according to Don Miller writing on the Market Guru website, http://www.marketoracle.co.uk/Article20662.html , but the specialty gas industry is positioned for greater growth. Also according to the Airgas 2010 annual report, Airgas is in a much better position than it was in 2002 to emerge from the recession. Estimates of growth used from 2011-2015 are moderate, but not pessimistic.
Sensitivity Analysis
| If the revenue growth estimate is: | The stock price is: |
| Pessimistic (1.5%) for 2011-2015 | $70.13 |
| Moderate (3-4%) for 2011-2015 | $82.73 |
| Optimistic (5% for 2011-2015 | $89.89 |
· COGS/COPS – in an internal effort to keep control over cost of products sold, the percentage of increase will be kept to 43%
· SG&A –Sales, general, and administrative will also be controlled so that the increase will be 35%
· Effective tax rate – was 37.5% in FY2010, down from 39.2% in FY2009. According to the 2010 Airgas Annual Report, the reduction in the tax rate was due to a reorganization of facilities and recognition of previously unrecognized tax benefits. Going forward, the 39% will be used since it is unclear if these tax benefits will carry over in the future.
Sensitivity Analysis for effective tax rate: if Airgas still can take the tax benefits resulting in a 37.5% tax rate versus a 39%, the effect on the stock price is negligible:
| If the effective tax rate is: | Stock price is: |
| 39% | $82.73 |
| 37.5% | $82.65 |
· Weighted shares outstanding were 81,403, 81,926, and 82,129 for years 2007, 2008, and 2009, respectively. According to www.advfn.com the amount of Airgas shares outstanding currently has increased to 83,700. The forecasted increases to FY2015 are 500,000 per year, following historical precedent.
· Capital expenditures: are $250,000 for the 5 years.
Cost of Capital and Terminal Value Assumptions
· Bond rating is BBB, still investment grade but not the best rating, still not junk bonds. However there is a higher risk associated with BBB rated bonds than other investment grade bonds, and the interest expense is higher.
· Risk free rate – is based on the 10 year Treasury rate. The risk free interest rate referenced in the 2010 Airgas Annual Report was 2.3%. However, according to www.treasury.gov website, the rate on 10 year treasuries is 2.5% as of 10.15.10; according to the Federal Reserve website as of 10.12.10, the rate is 2.5%
| If the risk free rate is: | The stock price is: |
| 2.5% | $82.73 |
| 2.3% | $83.43 |
· Risk Premium = expected market return-risk free rate; analysts say 5.1%, companies in the US say 5.3%, and companies in the EU say 5.7%. According to an Internet article by Aswarth Damo Daran entitled “Reversal on Market Risk Premiums: the 2010 story”
risk premiums skyrocketed (into the 8% range) during the height of the economic downturn. This would be expected since the market risk premium has been described as “hazard pay” for holding a risky investment or any investments in risky times. However, since that time, market risk premiums have reversed the upward trend, and at the beginning of 2010, they were in the 4.37% range. Market risk premium of 4.3% is used in this valuation.
Sensitivity analysis for the Market Risk Premium: a rising market risk premium has an inverse effect on stock price. If the market risk premium rate continues to fall, the dropping rates will have the following effect on the stock price:
| If the market risk premium rate is: | Stock price is: |
| 8.0% (at the height of the downturn) | $57.93 |
| 5.7% | $64.97 |
| 5.0% | $67.29 |
| 4.73% | $68.21 |
| 4.3% | $82.73 |
· Beta – according to www.advfn.com, Airgas’s beta ratio is 1.23, indicating that Airgas’ stock is 23% more volatile that other stocks in the market. The volatility is at least partially attributable to the drastic jump in the stock price due to the hostile takeover bid by Air Products Inc. According to Yahoo Finance, in 2010, the Airgas’ stock price ranged from a low of $41.82 to a high of $70.04 in a one year period.
Sensitivity analysis: if the beta is lower in the future, it will have the following effect on the stock price:
| If the beta is: | The stock price is: |
| 1.23 | $82.73 |
| 1.00 | $72.68 |
· Inflation rate: According to the US Inflation Calculator
the inflation rate in the US as of 9.10.10 is 1.1%
However, in a recent Bloomberg article of 10.15.10, covering Ben Bernacke’s Boston Fed speech of 10.15.10, Bernacke explained that the Fed was willing to enact “quantitative easing” through monetary policy which would cause inflation to rise. Therefore, in the future the inflation rates may rise due to government intervention. http://www.bloomberg.com/news/2010-10-13/fed-considers-raising-inflation-expectations-to-boost-economy.html
Sensitivity analysis: Inflation rate changes in the future will have the following effects on Airgas’ stock prices:
| If inflation rate is: | Stock Price is: |
| 1.1% | $82.73 |
| 2.1% | $101.05 |
| 3.1% | $128.34 |
· Use of excess cash flow toggle (1=build cash; 2-repay debt); toggling between 1 and 2:
o Had no effect on the bottom line stock price
· Perpetuity Growth Rate – original calculation of WACC:
(.79*7.1+.21*4.9)=6.6%
Sensitivity Analysis: the perpetuity growth rate can change based on changes to components of its formula that include:
| K of e is: | The perpetuity growth rate is: | The stock price is: | |
| Risk free rate becomes 2.3% as it was in the beginning of 2010 | 6.9% | Stays at 6.6% | $83.43 |
| Risk premium rises to 5%, due to fears of a further economic downturn, or double dip recession | 6.8% | 6.4% | $87.17 |
| Unlevered beta goes to .86 since beta goes to 1.00 due to less volatility in the stock price | 6.2% | 5.9% | $97.88 |
The change in the beta of a company’s stock has the most significant effect on the perpetuity growth rate and the stock price.
In conclusion, there are numerous factors that can change in this model which the effects the perpetuity growth rate and the stock price.
Specialty gas industry
expected market rate of return s&p
treasury bills
competitors
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