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Amazon.com. cuddle up with a DCF model critically evaluate a valuation model what is the analyst assuming about profitability, efficiency and leverage? are the pieces put together in a logical way? consider the option value of owning a share of AMZN

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Amazon com
Amazon.com

  • cuddle up with a DCF model

  • critically evaluate a valuation model

    • what is the analyst assuming about profitability, efficiency and leverage?

    • are the pieces put together in a logical way?

  • consider the option value of owning a share of AMZN

  • how to adjust the value estimate for employee stock options



Why is the default valuation of amzn negative
Why is the default valuation of AMZN negative?

  • ROE is HUGE positive amount. Why?

  • Why can’t the stock price be negative?


Hitting the analyst forecasts clean up the financial statements
Hitting the analyst forecasts -clean up the financial statements

  • Restate financials in 2000 by moving 84460 of depreciation out of SG&A and into depreciation. Makes EBITDA really before DA!


Income Statement AssumptionsSales Revenue Growth Rate

Per analyst model, 24% in 2001, constant at 25%through 2010, and terminal growth rate (beyond 2010) of 7%.

…Is this reasonable?


Income statement assumptions ebitda margin
Income Statement AssumptionsEBITDA margin

  • EBITDA = “earnings before interest, taxes, depreciation and amortization”

    = gross margin – R&D – SG&A

  • keep CGS/Sales at constant 76.3% and adjust SG&A/Sales to hit EBITDA margins

    • SG&A/Sales is 9.7% in terminal period

    • EBITDA margin improves from -8% to 14%


Income statement assumptions depreciation and amortization just a stop on the way to capx
Income Statement AssumptionsDepreciation and Amortization(just a stop on the way to CapX)

  • goodwill and intangibles written off in 2001

  • 2000 depreciation ratio = 84460/(317613+366416)/2 = 25%

    • implies that the useful life of fixed assets is between 4 years and 8 years.

  • hold constant


Income statement assumptions non operating income interest and taxes
Income Statement Assumptionsnon-operating income, interest and taxes

  • Set non-operating income to –12% in 2001 to write off Investments, Intangibles and Other Assets (total is $407624)

  • set interest rate to 7.75% to value debt approximately at its book value

  • enter tax rates as given (although taxes are not, generally, expressed as a % of EBITDA, as in analyst report)


Balance sheet assumptions cash
balance sheet assumptionscash

  • what does the analyst report assume about cash?

  • set operating cash to 0% for all future periods

    • what is the valuation implication of doing this?


Balance sheet assumptions working capital
balance sheet assumptionsworking capital

  • what does analyst model assume?

  • adjusted Other Current Liabilities to hit WC assumptions (shown on FCF computations on Cash Analysis sheet)

  • in 2001 decrease in WC is 1220837 (=1100522 cash liquidation plus 120315 WC reduction in analyst report)

  • WC turnover ratio goes from +8 to -8.


Balance sheet assumptions pp e
balance sheet assumptionsPP&E

  • PPE end = PPE beg +capX– depreciation

    • can forecast depreciation and PPE (as % of sales), so two degrees of freedom to get to capX

    • forecast fixed depreciation at 25% and adjust the PPE/Sales ratio to get capX on SCF

    • should you forecast CapX/Sales or PPE/Sales?


Balance sheet assumptions leverage
balance sheet assumptionsleverage

  • nothing in analyst report about leverage

    • what is the present value implications of future debt issued at its cost of capital?

  • leave debt at approx. 100% of assets

  • OR trend from 100% of total assets to 50%

    • very little impact on valuation, unless….


Valuation assumptions
valuation assumptions

  • set cost of equity capital to 22.6 so that WACC is 20%.

  • set valuation date to 6/30/2001

  • change # of shares to 370,000K to match analysts’ # of shares.

  • P = $15

  • But check out ratios!


Option value for amzn
option value for AMZN

  • 1/3 chance EBITDA/Sales is .20 higher

    • P = $ 41.03

  • 1/3 chance that EBITDA/Sales is as forecast

    • P = $ 15.00

  • 1/3 chance that EBITDA/Sales is .20 lower

    • P = $-11.13

  • value = (41.03)/3 + (15.00)/3 + (0.00)/3 = $18.68

  • OR value = (41.03)/100 + (15.00)10/100 + (0.00)89/100 =$1.91


Amzn what happened
AMZN – what happened

excluding cash liquidation




Key takeaways from amzn
Key takeaways from AMZN

  • ALWAYS forecast complete income statements and balance sheets in order to arrive at free cash flow forecasts.

  • Always conduct a ratio analysis on your forecast financial statements to check they are plausible.

  • When a firm is in financial distress the equity has option value!



New accounting for stock options
new accounting for stock options

  • value option at grant date and record

    compensation expense 100

    PIC – options 100

  • at exercise

    cash 50

    PIC – options 100

    PIC – regular150

  • if not exercised

    do nothing


Amzn option income effects
AMZN option income effects

  • Years Ended December 31,

  • 2003 2002 2001

  • --------- ---------- ----------

  • Net income (loss)-as reported $ 35,282 $ (149,132 ) $ (567,277 )

  • Add: Stock-based 87,751 68,927 4,637

  • compensation, as reported

  • Deduct: Total stock-based (94,525 ) (148,083 ) (400,445 )

  • compensation determined under

  • fair value based method for

  • all awards

  • - ------- - - -------- - - -------- -

  • Net income (loss)-SFAS No. $ 28,508 $ (228,288 ) $ (963,085 )

  • 123 adjusted

  • - ------- - - -------- - - -------- -

  • Basic earnings (loss) per $ 0.09 $ (0.39 ) $ (1.56 )

  • share-as reported

  • Diluted earnings (loss) per $ 0.08 $ (0.39 ) $ (1.56 )

  • share-as reported

  • Basic and diluted earnings $ 0.07 $ (0.60 ) $ (2.64 )

  • (loss) per share-SFAS No. 123

  • adjusted

For S&P 500, expensing options would lower EPS by 20% in 2001. (Bear Stearns)


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