CORPORATE FINANCE PROJECT AND REPORT: (20 Points)
Due Date: April 24, 2014 (Thursday)
Each student is required to perform a research on a Corporate Finance project that involves writing
a report (22 pages) on a publicly traded company based on its available current financial
data. The project involves four parts, namely,
1) The Background Analysis of a company and its Benchmark Competitor
2) The Comprehensive Financial Analysis of the same company against its competitor
3) The Computation of Cost of Capital of the same company, and
4) The Historical analysis of the Company Stock Price
ALL CALCULATIONS FOR THE PROJECT SHOULD BE DONE IN EXCEL
AND ALL EXCEL OUTPUTS HAVE TO BE SUBMITTED ALONG WITH THE
PROJECT FOR EVALUATION.
1) The Background Analysis of a Company and its Benchmark Competitor: FIN 652 (MANAGERIAL FINANCE) SPRING 2014 SYLLABUS Page 4 of 11
The first part of the project involves the analysis of the company background as well the
background information of its major competitor. The following information must be analyzed:
A brief discussion on company products and the marketing strategies used (from company
quarterly and annual publications and company websites).
The Board of directors and Management of both companies (can be obtained from the annual
reports and proxy statements).
Top management compensation analysis of both companies (can be obtained from the
company annual reports and proxy statements).
2) Comprehensive Financial Analysis of a company:
The second part of the project (using the tools and techniques given in Chapter 4 of the textbook)
and its subsequent report is based on the Financial Ratio Analysis (Du Pont Chart Analysis) of a
company and its available current financial data. The students are required to evaluate the
company based on the trends in its financial ratios over time and evaluate them
against the industry standard (a major competitor). Details, including the selection
of the company (for time-series evaluation) and its competitor (for cross-section evaluation), will
be discussed throughout the semester. In general, the ratio analysis is done in the following steps:
In writing, submit the name of the company (publicly traded) and the name of
its major competitor company within the first two weeks of classes for
o Select the company and its competitor you want to use for your Financial Management
Project and submit the company names to me ASAP. I will make sure that no two students
select the same companies. Therefore, sooner you provide the company names to me,
more would be the chances that I will allow you to keep the companies (i.e., nobody else
has already selected the company). By the beginning of second week of the class,
everybody will be required to select the company and its competitor for analysis. The
student will not be allowed to complete the project in the course, if the submissions with
publicly-traded company names are not received by the instructor by the deadline.
Evaluate the company using the following ratios: Current, Quick, Average Collection
Period, Accounts Receivable Turnover, Inventory Turnover, Average Age of Inventory,
Inventory to Net Working Capital, Total Asset Turnover, Fixed Asset Turnover, Fixed Charge
Coverage, Basic Earning Power, Debt Ratio, Debt to Equity, Long-term Debt to Equity, Times
Interest Earned, Total Profit Margin, Operating Profit Margin, Net Profit Margin, Return on
Investment, Return on Asset, Return on Equity, Price-Earnings, Market-Value to Book-Value,
Cash Flow per Share, Dividend Payout, and Dividend Yield ratios.
Evaluate the company using the following accounting measures: Total Net Operating
Capital, Net Operating Working Capital, Gross Investment in Operating Capital, Net
Operating Profit after Taxes, Free Cash Flow, Operating Cash flow, Return on Invested
Capital, Market Value Added and Economic Value Added.
Use the ratio values and accounting measures to show performance trends (time-series
analysis) of the company (at least for five years).
Find industry quartiles for each of the ratio and accounting measures and evaluate the
company ratios and accounting measures against the industry norm (a major competitor
company) (cross-section analysis).
Write the analysis of the company on each of the ratio and accounting measurement areas
(both time-series and cross-sectional analyses). FIN 652 (MANAGERIAL FINANCE) SPRING 2014 SYLLABUS Page 5 of 11
Use the web resources available to obtain information on both time-series and cross-section
ratios and accounting measures. A series of web addresses that also provide company
financial and economic information are given below.
Remote access to http://www.mergentonline.com
o Username: finacct
o Password: rtlibrary
Make sure to attach all the relevant printouts such as ratios and financial statements (submit
them as attachments through the Assignment facility in the Black Board) you have obtained
from various web sources with your final write-up.
3) Computation of Cost of Capital of the Company:
In the third part, the cost of capital should be computed using the tools and techniques given
in Chapter 10 and utilizing the most recent data (different web-based resources should be used to
find necessary financial data such as common and preferred stocks, bond prices, and beta
coefficient for the company). It should be done in the following steps:
Compute the after-tax cost of debt of the company.
Compute the cost of preferred stock of the company. FIN 652 (MANAGERIAL FINANCE) SPRING 2014 SYLLABUS Page 6 of 11
Compute the cost of internal equity capital using both Dividend Valuation Model and
Compute the cost of external equity capital.
Compute the current capital structure (using the current financial statements of the
company) to determine appropriate weights for different sources of capital.
Compute the Weighted Average Cost of Capital the company should use to evaluate
Use the web resources available to obtain information on both corporate growth rate,
company beta, and calculation of cost of equity. A series of web addresses that also provide
company financial and economic information are given below.
Make sure to attach all of the cost of capital printouts (submit them as attachments through
the Assignment facility in the Black Board) you have obtained from various web sources with
your final write-up.
4) The Historical analysis of the Company Stock Price:
In the fourth part, the stock analysis can be performed using the tools and techniques learned in
chapter 6. The most recent stock price data must be used from different web-based resources.
The historical analysis of the stock prices of the company involves the following:
Perform the Graphical Analysis of the historical stock prices (daily stock prices for at
least two years)
Stock Price Trend analysis (using EXCEL Spreadsheet to Perform Regression)
Comparison of regression coefficients and available market risk-free rate and company beta
Compare the company stock price performance against the benchmark index (S&P,
NYSE, NASDAQ etc.)
Emerson Financial Strategy
This paper explores Emerson as a company, and its various financial features that it practices in its daily operations. The paper also takes its focus on the company’s chief competitor, the Powell Industries. Both companies are involved in the manufacture of electric tools, equipment and appliances. To a large extend, the two companies have gone international, despite the humble beginnings that they arose from. Emerson Electric Company, as it was known during its formation, diverse markets including consumer markets, industrial and commercial markets. In a bid to improve customer satisfaction and retention, the company is greatly involved in a great deal of innovations and inventions, As such, a significant percentage of the development that the company has been able to go through is credited to its system of innovations. A lot of resources and time are allocated toward developing the existing products, as well as developing new ones. Powell Industries has also been involved in a series of development leaps that has seen it prosper in the business. It has become more and more business oriented than ever before.
The business world today is witnessing an historical rate of growth and development. Business activities have become the most important source of income for any individual or country as a whole. Most of the activities going on today around the world are business related. Basically, the human population has somehow devised a way to turn everything into a business opportunity. Governments and individual operators are working day and night to grow and sustain the business sector at high levels. It is a major source of employment in any country, and therefore a vital determinant of the living standards and economic growth. As a matter of fact, business is the backbone of any nation (Montessori, 1967). Business activities trace their origin from ages ago when batter trade was the main form of exchange. Drastic developments have taken place since then, with the introduction of money being the most significant. The developing world currently registers the highest percentage of growth in the business sector. Through local industries, foreign establishments and small scale entities, developing countries seem to believe that trade is the only way to development and economic prosperity. To a large extent, this notion is true.
The business world today is booming with activity, with each seller looking to make the maximum profit possible, while at the same time each buyer is out to derive the maximum utility out of his or her money and resources. With the introduction of technology and electronic devices, business has gone a notch higher, with transactions being carried out online from the safety and comfort of one’s house. Households are carrying out their shopping online as firms are selling their products the same way.
A human being will always look for the easiest way out, and creating an online market is just perfect for him. Anything can now be sought out from the internet, ranging from the variety of goods on sale, their quality, prices, benefits and any other information that the consumer may need. This is the world of business today as we see it.
The result of expanding markets in terms of a growing population and increasing consumer awareness is the springing up of many firms, all dealing in homogenous products. This has led to high level of competition in the market, which has seen many firms that cannot bear the pressure collapse. There are many benefits that come with competition, regardless of whether the same kills some firms and reduces the profit margins realized.
To start with, having many competing firms gives the final consumer an opportunity to compare, relate and choose the best product that he or she feels would give her maximum utility. As a result, firms are forced to tighten up their belts and deliver high quality goods and services to their customers. In the process, the customer wins by obtaining high quality products at reduced costs. Competition also keeps organizations on their feet, and new products and technologies are invented every passing day in the struggle to maintain or even expand market shares.
Marketing comes in hand as a competition tool. It is apparent that most businesses are turning from profit focused operations to customer oriented activities. It has come to the realization of many that the customer, and not the profits, is the main part of any business cycle. Marketing is actually based on the customer; what he prefers, geographical locations, culture and many other considerations. In this light, it would be disastrous for any given player in any industry to just produce their products and release them into the market. Most consumers nowadays have preferences, which is the basic thing that manufacturers should be working on.
Marketing has actually been intertwined with networking through customers. If a customer is satisfied with a product he or she acquires, there is a very high possibility that he or she will go for the same brand the next time there is need for the same. They would act as ambassadors of the product, by telling family, friends and other parties the great experience they had with the brand. In return, more and more people would flock to buy the same.
General Information about Emerson
Emerson commands presence in over one hundred and fifty countries around the world. It has more than 265 manufacturing facilities, of which more than half are located outside the United States of America, which is it home. The initial name, Emerson Electric Company, was changed to provide a brand name that could be used to sell the product across many countries of the world. In this case, this was a strategy towards globalization and diversification of the market and products.
Emerson was formed back in the year 1890 by the two Metson brothers. John Emerson was the main financier of the company at the time, and it was thus name after him. It is based in the United States, with many branches that have dominated the European market for a very long time. Recently, its presence in Asia is also being felt, as its rate of advancement is extremely high.
Emerson acts as a parent company with more diversified businesses around the world. These include Emerson Industrial Automation, Emerson Power Network, Emerson Appliance and tools, Emerson Process Management and Emerson Climate Technologies. All these businesses focus on various fields of manufacturing, processing and service industries. In fact, Emerson has grown to an extent that it is found in all types of applications that require electrical tools and equipment. It even manufactures some parts that are used in making technological gadgets like computers.
Emerson boasts of a comprehensive marketing strategy that basically touches on all the factors that can affect its operations. Generally, there has been a significant advancement in geographical presence in the company, with expansions still taking effect.
Marketing strategies are normally stimulated by increasing levels of competition. In the business world today, firms have been forced to prioritize flexibility as a top strategy to deal with the ever stiffening competition from other firms. Due to the ever diversifying customer needs and preferences, the need to move with the trend is inevitable if a business will survive in the long run. According to Porter, Michael E (1998), competition for the market share has taken another direction, with firms developing new and long term methods to attract and maintain customers. Characterized by innovation, customer care and product differentiation, competition can always prove to be the cause for collapse of many firms that are unable to cope with its level. Established businesses are a constant threat to new entrants, especially where the product is a long term investment and is highly subject to customer confidence. Many buyers will always prefer the tested product to the new one irrespective of the cost or other services and offers provided.
In his book, Motta (2004) views competition in a different way from the traditional explanations. He emphasizes that competition can be effectively handled through competitor assessment and employing strategies to outplay the others. He bases his arguments in lowest cost, product differentiation and focus, and that firms can always do things their own way irrespective of market conditions and rigidity of other firms.
The industry that Emerson operates in is such that the increasing number of operators comes with an increase in demand for the products. One of the greatest strategies that the company uses in marketing its products is changing its policies from being profit oriented to customer oriented. For some reason, many businesses around the world are taking on this line of operations. Customer satisfaction is of ultimate importance to the Emerson. There has been a deeply rooted policy of diversity that has been witnessed in the whole Emerson operations. This has come in the form of ventures into each nook and cranny that requires automation. The demand for the services is increasing as more and more individuals and organizations are interested in automating their various processes and services. This comes in the wake of a crashing need to improve efficiency and effectiveness in delivery of services.
Customer service is another technique used to market products indirectly in Emerson. The nature of the products that are dealt with in Emerson is rather technical. As such, there has to be a constant presence and assurance of customer care services in case any of the equipment breaks down. For this reason, Emerson has established an extensive network where customer care centres are available at any time of the day. For this reason, customers feel safe buying their infrastructural installations. One of the main factors any customer would consider is the availability of spare parts for the installed infrastructure, which would otherwise be meaningless to acquire. In certain countries, a full day customer care number is available for dial for any consumer. Anyone who has had experience with Emerson products would primarily acknowledge its ability to render maximum utility. He or she would therefore automatically refer a friend to the same, and in this way, the product would be marketed further.
Emerson further utilizes the channels of promotion to market their products to the wider public. Captivating and informative adverts are aired on televisions and radio stations I regard to their products, accessibility and locations. The internet has provided a very important platform where Emerson can advertise its products. Through its website, the company has established an information database where anyone seeking information about it would never struggle to get it. Any individual can access such information without the hassle of travelling or looking for offices, since it can be accessed online from home. Contact details have also been availed online, which makes communication and enquiries even easier.
Emerson has an established customer feedback system where views and reviews of various customers on diverse subjects are collected. As a more service oriented rather than product oriented company, Emerson bases its innovation strategies on the needs and preferences of the customers. In this regard, information collected from the customer is ultimately important in developing new products. It is a well-known fact that the most important strategy that is applied in Emerson is innovation and creativeness. The maintenance of this strategy cannot be achieved without the input of the customer. As an example, a customer may be wishing to have a kind of infrastructure that serves a certain purpose in a particular way, either in the office or at home. In this case, Emerson takes up the idea, does research on it to assess it marketability and gets down to implementing it if found economically viable. By being economically viable, the implication here is that it can either have direct or indirect benefits. A new product may actually cost more to manufacture than its price. However, the particular product may be very important in establishing good customer relations and bringing more customers. Moreover, it may be important in the functioning of other products. Emerson makes good use of these factors in its marketing bid.
Emerson involves itself in many community activities and development projects. It has a committee which is in charge of various social engagements with the community around any branch. In so doing, a good relationship is established between the people and the company. These people are the ones who form the main market audience. In fact, the main target audience for Emerson is typically divided into three sections. The first one is the consumer section which includes various individuals and organizations who wish to have automated infrastructure in their homes, schools, offices or elsewhere. The second market division is the commercial section, which involves business men and firms. Infrastructure here is meant to streamline operations and increase the speed at which services are rendered to customers. The last division of the market audience is the industrial purpose. Here, production companies and firms buy automated infrastructure and other electrical appliances for use in daily operations. Although purchases may be done at a low frequency, the industrial section usually registers the highest amount of equipment bought in a typical year.
Product design and branding has also been extensively used in the marketing plan for Emerson. In a way, the products from the company are usually very different in appearance from others. The whole process usually narrows down to the aspect of competition. Everything that is done is aimed at giving the product the upper hand in the market. Emerson has designed its products in a physically attractive way. Research has it that human beings will prefer items that are attractive to look at or be in their premises. For instance, telephones were usually made in the same way in the past, with a basic design which was dull and unattractive. In this sense, manufactures were only interested in the functionality of the various appliances. No one saw the need of making a house or office telephone look attractive, as its function is just to make and receive calls. As time went by, developments in that industry came by, and coloured and attractive designs of telephones were interested. The impact was felt almost immediately. The old designs of telephone were quickly dropped in the market, and massive buying was made on the new variety. It made sense in that coloured telephones illuminated the house or office, and made the place look more beautiful. It is on record that people even bought such telephones not because they wanted to use them, but for appearance purposes. In the same way, Emerson utilizes design and brand differentiation in their production to make their products stand out. Such designs are based on the purpose of the product and its intended market.
Board of Directors and Management
Chuck Knight ran Emerson for 27 years from 1974 to 2004. He joined Emerson as a management consultant and later became CEO in 1973 when he was just 37 years old. With consistent tough-minded management, he led Emerson’s revenue growth from under $1billion to $15 billion. David N. Farr has been President of Emerson Electric Co. since November 1, 2005 and Chief Executive Officer since October 2000. Mr. Farr also serves as Chief Executive Officer of Emerson Network Power Embedded Computing Business and Emerson Storage Solutions. He previously served as Senior Executive Vice President and Chief Operating Officer of Emerson Electric Co. Mr. Farr joined Emerson Electric Co. in 1981 and has held numerous positions such as Manager of Investor Relations.
Michael H. Train became the President of the Emerson Process Management Asia Pacific region in 2002. He can be considered “an American Asian”. He has a vast experience in Asia. He worked in the Tokyo and Hong Kong offices for several years before taking over the headquarters office in Singapore.
Sweechee Lee is the General Manager at Emerson Process Management China. He took this position more than 12 years ago. In 2007 Emerson was recognized as one of China’s Top Employers in the Shanghai region for its highly regarded creation of an operating environment in which people can and do make a difference.
Administrative and General Expenses
Selling, general and administrative (SG&A) expenses of $5.6 billion increased $212 million compared with prioryear. SG&A as a percent of sales was 22.9 percent in 2013, a 0.6 percentage point increase versus 22.3 percent in 2012. The increase in SG&A primarily reflects costs associated with higher volume, $121 million of higher incentive stock compensation expense from the overlap of two performance shares programs and a higher stock price, as well as higher pension and other costs. Cost containment and the comparison effect of a $17 million charge in 2012 related to post-65 supplemental retiree medical benefits had a favorable impact. SG&A expenses for 2012 were $5.4 billion, or 22.3 percent of net sales, an increase of $108 million and 0.3 percentage points compared with $5.3 billion and 22.0 percentage for 2011. The increase in SG&A as a percentage of sales was largely due to the business mix impact from higher Process Management volume and deleverage on lower volume in Network Power, Climate Technologies and Industrial Automation, partially offset by significant cost reduction actions. In addition, SG&A increased on costs associated with incremental volume and a $17 million charge related to the elimination of post-65 supplemental retiree medical benefits for approximately 8,000 active employees, mostly offset by foreign currency translation and lower incentive stock compensation expense of $21 million
Financial Analysis of Emerson
The Company’s management is responsible for the integrity and accuracy of the financial statements. Management believes that the financial statements for the three years ended September 30, 2013 have been prepared in conformity with U.S. generally accepted accounting principles appropriate in the circumstances. In preparing the financial statements, management makes informed judgments and estimates where necessary to reflect the expected effects of events and transactions that have not been completed. The Company’s disclosure controls and procedures ensure that material information required to be disclosed is recorded, processed, summarized and communicated to management and reported within the required time periods.
In meeting its responsibility for the reliability of the financial statements, management relies on a system of internal accounting control. This system is designed to provide reasonable assurance that assets are safeguarded and transactions are executed in accordance with management’s authorization and recorded properly to permit the preparation of financial statements in accordance with U.S. generally accepted accounting principles. The design of this system recognizes that errors or irregularities may occur and that estimates and judgments are required to assess the relative cost and expected benefits of the controls. Management believes that the Company’s internal accounting controls provide reasonable assurance that errors or irregularities that could be material to the financial statements are prevented or would be detected within a timely period. The Audit Committee of the Board of Directors, which is composed solely of independent directors, is responsible for overseeing the Company’s financial reporting process.
The Audit Committee meets with management and the Company’s internal auditors periodically to review the work of each and to monitor the discharge by each of its responsibilities. The Audit Committee also meets periodically with the independent auditors, who have free access to the Audit Committee and the Board of Directors, to discuss the quality and acceptability of the Company’s financial reporting and internal controls, as well as no audit-related services.
The independent auditors are engaged to express an opinion on the Company’s consolidated financial statements and on the Company’s internal control over financial reporting. Their opinions are based on procedures that they believe to be sufficient to provide reasonable assurance that the financial statements contain no material errors and that the Company’s internal controls are effective.
Emerson’s sales increased to $24.7 billion in 2013, up 1 percent compared with prior year, reflecting mixed end markets and cautious levels of business investment amid a challenging global economic environment. Underlying sales for 2013 increased 2 percent, led by continued strong growth in Process Management and moderate growth in the Climate Technologies worldwide compressors business. Foreign currency translation and a prior year divestiture had a combined 1 percent unfavorable impact. Emerging markets growth exceeded that of mature economies. Asia grew 2 percent, the U.S. was flat and Europe declined 3 percent. Latin America and Middle East/Africa grew 11 percent and 13 percent, respectively. Net earnings common stockholders were $2.0 billion in 2013, up 2 percent versus prior year. Diluted earnings per share were $2.76, up 3 percent compared with $2.67 per share in 2012. Excluding impairment and income tax charges, 2013 net earnings were $2.6 billion, up 3 percent, while earnings per share were $3.54, up 4 percent compared with $3.39 in 2012. These charges primarily related to the embedded computing and power business, and totaled $566 million ($0.78 per share) in 2013 and $528 million ($0.72 per share) in 2012. Process Management reported strong sales and earnings growth on continued demand in global energy and chemical end markets. Climate Technologies sales and earnings increased on solid demand in the compressors business worldwide. Strong demand in U.S. residential end markets supported underlying sales and earnings growth in Commercial & Residential Solutions. Sales and earnings declined in the Industrial Automation businesses due to weakness in industrial goods end markets, particularly Europe and the U.S. Earnings comparisons in Industrial Automation were also unfavorably impacted by gains from dumping duties received in 2012. Network Power sales and earnings showed persistent weakness in telecommunications and information technology end markets.
The Company generated record operating cash flow of $3.6 billion, an increase of 20 percent from $3.1 billion in 2012. Free cash flow (operating cash flow less capital expenditures) of $3.0 billion also reached record levels, increasing 24 percent from prior year. Emerson is well positioned moving into next year given its strong financial position, global footprint in both mature and emerging markets, and focus on products, technology and customer solutions.
Net sales for 2013 were $24.7 billion, an increase of $257 million, or 1 percent compared with 2012. Consolidated results reflect a 2 percent ($388 million) increase in underlying sales driven by volume gains. Underlying sales exclude foreign currency translation, acquisitions and divestitures. Foreign currency translation ($55 million) and divestitures, net of acquisitions ($76 million) had a combined negative 1 percent impact. Underlying sales were flat in the United States and grew 3 percent internationally. Segment results were mixed as sales in Process Management increased $711 million and Climate Technologies increased $110 million, while sales in Industrial Automation and Network Power decreased $303 million and $244 million, respectively. Commercial & Residential Solutions decreased $12 million due to the prior year Knaack divestiture, largely offset by growth in the remaining businesses. Net sales for 2012 were $24.4 billion, an increase of $190 million, or 1 percent from 2011, on a 3 percent ($616 million) increase in underlying sales, a 2 percent ($411 million) unfavorable impact from foreign currency translation and a negligible ($15 million) negative impact from divestitures, net of acquisitions. Underlying sales reflect volume gains of 2 percent and an estimated 1 percent increase from price. Underlying sales increased 2 percent in the United States and 3 percent internationally. Segment results were mixed as sales in Process Management and Commercial & Residential Solutions increased $899 million and $40 million, respectively. Sales in Network Power, Climate Technologies and Industrial Automation decreased $412 million, $229 million and $106 million, respectively.
Emerson is a global business with international sales representing 59 percent of total sales, including U.S. exports. The Company expects faster economic growth in emerging markets in Asia, Latin America, Eastern Europe and Middle East/Africa. International destination sales increased 2 percent in 2013, to $14.7 billion, reflecting increases in Process Management and Climate Technologies, offset by decreases in Network Power, Industrial Automation and Commercial & Residential Solutions. U.S. exports of $1.6 billion were up 2 percent compared with 2012. Underlying international destination sales grew 3 percent on volume, as foreign currency translation had a 1 percent unfavorable impact on the comparison with 2012. Underlying sales increased 2 percent in Asia, 11 percent in Latin America, 13 percent in Middle East/Africa and 4 percent in Canada, and decreased 3 percent in Europe. Sales by international subsidiaries, including shipments to the United States, totaled $13.1 billion in 2013, up 2 percent compared with 2012. International destination sales increased 0.5 percent, to $14.4 billion in 2012, reflecting an increase in Process Management offset by decreases in Network Power, Industrial Automation and Climate Technologies. U.S. exports of $1.6 billion were up 4 percent compared with 2011. Underlying international destination sales increased 3 percent compared with 2011, including increases of 3 percent in Asia (China down 4 percent), 13 percent in Latin America, 7 percent in Middle East/Africa and 9 percent in Canada. Europe was down 1 percent. Sales by international subsidiaries, including shipments to the United States, totaled $12.8 billion in 2012, flat compared with 2011.
Cost of Sales
Cost of sales for 2013 and 2012 were $14.7 billion and $14.6 billion, resulting in gross profit of $10.0 billion or 40.3 percent of sales in 2013, and $9.8 billion or 40.0 percent of sales in 2012. The increases in gross profit and margin primarily reflect higher volume, particularly in Process Management, and materials cost containment and savings from cost reduction actions across the businesses. Deleverage in Industrial Automation and Network Power, product mix, and pension and other costs were unfavorable. Costs of sales for 2012 and 2011 were $14.6 billion and $14.7 billion, resulting in gross profit of $9.8 billion or 40.0 percent of sales in 2012, and $9.6 billion or 39.5 percent of sales in 2011. Cost of sales was essentially flat due to savings from cost reduction actions offset by higher wage and other costs, and incremental costs related to the Thailand supply chain disruption. The increase in gross margin primarily reflects leverage on higher volume and selling prices. Additionally, gross profit was negatively impacted by foreign currency translation due to the stronger U.S. dollar.
The Company’s stock-based compensation plans include stock options, performance shares, restricted stock and restricted stock units. Although the Company has discretion, shares distributed under these plans are issued from treasury stock. The Company’s stock option plans permit key officers and employees to purchase common stock at specified prices. Awards are granted at 100 percent of the closing market price of the Company’s common stock on the date of grant. Awards made prior to 2011 were granted at 100 percent of the average of the high and low market prices on the date of grant. Options generally vest one-third in each of the three years subsequent to grant and expire 10 years from the date of grant. Compensation expense is recognized ratably over the vesting period based on the number of options expected to vest. As of September 30, 2013, 19.1 million options were available for grant under the plans.
The Company’s incentive shares plans include performance shares awards which distribute the value of common stock to key management employees subject to certain operating performance conditions and other restrictions. Distribution is primarily in shares of common stock and partially in cash. Compensation expense for performance shares is recognized over the service period based on the number of shares ultimately expected to be earned. Performance shares awards are accounted for as liabilities in accordance with ASC 718, Compensation – Stock Compensation, with compensation expense adjusted at the end of each reporting period to reflect the change in fair value of the awards. As of September 30, 2013, 5,201,866 performance shares awarded primarily in 2010 were outstanding and contingent on the Company achieving its performance objectives and the provision of service by the employees. The objectives for these shares were met at the 93 percent level at the end of 2013, or 4,837,739 shares. Of these, 2,902,647 shares will be distributed in early 2014 while 1,935,092 shares remain subject to employees providing one additional year of service.
Additionally, 5,118,500 performance shares awarded in 2013 are outstanding and contingent on the Company achieving its performance objectives through 2016 and the provision of service by the employees. As a result of the Company achieving its performance objectives at the 96 percent level at the end of 2010 for performance shares awarded primarily in 2007, and employees providing an additional year of service, rights to receive 4,777,248 common shares vested and were distributed to participants in 2011 as follows: 2,841,534 issued as shares, 1,661,045 withheld for income taxes and the value of 274,669 paid in cash.
The Competitor: Powell Industries
The company develops, designs, manufactures and services custom engineered-to-order equipment and systems for the management and control of electrical energy and other critical processes. Headquartered in Houston, Texas, it serves the transportation, environmental, energy, industrial and utility industries. The business operations are consolidated into two business segments: Electrical Power Products and Process Control Systems. Revenues and costs are primarily related to custom engineered-to-order equipment and systems which precludes it from providing detailed price and volume information. The markets in which it participates are capital intensive and cyclical in nature. Cyclicality is predominantly driven by customer demand, global economic conditions and anticipated environmental or regulatory changes which affect the manner in which its customers proceed with capital investments. Its customers analyze various factors including the demand for oil, gas and electrical energy, the overall financial environment, governmental budgets, regulatory actions and environmental concerns. These factors influence the release of new capital projects by its customers, which are traditionally awarded in competitive bid situations.
Scheduling is matched to the customer requirements and projects may take a number of months to produce; schedules also may change during the course of any particular project. Its operating results are impacted by factors outside of our control, for example, many of our projects have contracting arrangements where the approval of engineering and design specifications may affect the timing of the project execution. As of September 30, 2013, the order backlog strengthened with unfilled orders of $516.6 million, an increase of approximately $80 million over the beginning of this fiscal year. Its backlog includes various projects, some of which are petrochemical, oil and gas construction and transportation infrastructure projects which take a number of months to produce. In the fourth quarter of Fiscal 2013, it recovered approximately $5.1 million related to one large project at Powell Canada, of which approximately $3.8 million was recorded as revenue and the remaining $1.3 million was related to amounts recorded to other assets in prior periods. This recovery related to cost overruns on a large project with execution challenges in the first half of Fiscal 2012 which negatively impacted revenue and gross profit in Fiscal 2012 in its Electrical Power Products segment.
Revenue and Gross Profit
Consolidated revenues decreased 5.9%, or $42.4 million, to $674.8 million in Fiscal 2013. Domestic revenues decreased by 1.9%, or $7.7 million, to $405.1 million in Fiscal 2013 and international revenues decreased 11.4%, or $34.7 million, to $269.7 million in Fiscal 2013. Gross profit increased 4.9%, or $6.9 million, to $146.8 million in Fiscal 2013. Gross profit as a percentage of revenues increased to 21.8% in Fiscal 2013, compared to 19.5% in Fiscal 2012. Operating results by segment are discussed below. Electrical Power Products Electrical Power Products business segment revenues decreased 7.5%, or $51.3 million, to $635.3 million in Fiscal 2013. Revenues decreased primarily due to the completion of certain complex domestic and international petrochemical and oil and gas construction projects that were in process during Fiscal 2012. However, revenues in Fiscal 2013 were favorably impacted by the recovery of $3.8 million related to cost overruns on a large industrial project at Powell Canada. This Canadian project experienced execution challenges in the first half of Fiscal 2012, which negatively impacted revenue and gross profit in Fiscal 2012.
Revenues from public and private utilities increased $22.7 million to $138.0 million in Fiscal 2013. Revenues from commercial and industrial customers decreased $72.1 million to $450.6 million in Fiscal 2013. Revenues from municipal and transit projects decreased $1.9 million to $46.6 million in Fiscal 2013. Electrical Power Products business segment gross profit increased 4.0%, or $5.3 million, to $137.8 million in Fiscal 2013. Gross profit, as a percentage of revenues, increased to 21.7% in Fiscal 2013compared to 19.3% in Fiscal 2012. These increases were primarily driven by the recovery from the Canadian contract settlement discussed above, the margins associated with the mix of projects in process during Fiscal 2012 and 2013, as well as the increased focus on cost reduction activities.
Selling, general and administrative expenses increased $2.2 million to $83.5 million in Fiscal 2013. Selling, general and administrative expenses, as a percentage of revenues, increased to 12.4% in Fiscal 2013 from 11.3% in Fiscal 2012. This increase is primarily related to increased personnel costs and increased long-term incentive compensation resulting from higher levels of operating performance over the three-year performance cycle. This increase in selling, general and administrative expenses was offset by a decrease in depreciation expense as our Business Systems became fully depreciated in December 2012. Additionally, selling, general and administrative costs for Fiscal 2013 were favorably impacted by the capitalization of certain personnel costs in Fiscal 2013 associated with the development and implementation of our new Business Systems. However, the favorable impact of depreciation expense and capitalization of certain personnel costs will no longer be realized once the Business Systems are implemented in our fiscal year ending September 30, 2014.
Consolidated revenues increased 27.5%, or $154.8 million, to $717.2 million in Fiscal 2012. Domestic revenues increased by 8.9%, or $33.9 million, to $412.8 million in Fiscal 2012 and international revenues increased 65.9%, or $120.9 million, to $304.4 million in Fiscal 2012. Revenues increased primarily as a result of an increase in activity in complex petrochemical and oil and gas construction projects, as a result of our Electrical Power Products business segment. Gross profit in Fiscal 2012 increased 40.0%, or $40.0 million, to $139.9 million in Fiscal 2012. Gross profit as a percentage of revenues increased to 19.5% in Fiscal 2012, compared to 17.8% in Fiscal 2011, primarily as a result of our Electrical Power Products business segment. Operating results by segment are discussed below. Electrical Power Products business segment revenues increased 28.7%, or $153.3 million, to $686.6 million in Fiscal 2012. Revenues increased primarily as a result of an increase in project activity in certain markets. Revenues from public and private utilities decreased $51.3 million to $115.3 million in Fiscal 2012. Revenues from commercial and industrial customers increased $202.2 million to $522.7 million in Fiscal 2012. Revenues from municipal and transit projects increased $2.4 million to $48.6 in Fiscal 2012.
Income tax expense and tax assets and liabilities reflect management’s assessment of taxes paid or expected to be paid (received) on items included in the financial statements. Uncertainty exists regarding tax positions taken in previously filed tax returns still under examination and positions expected to be taken in future returns. Deferred tax assets and liabilities arise because of temporary differences between the consolidated financial statement carrying amounts of existing assets and liabilities and their respective tax bases, and operating loss and tax credit carry forwards.
Deferred income taxes are measured using enacted tax rates in effect for the year in which the temporary differences are expected to be recovered or settled. Valuation allowances are provided to reduce deferred tax assets to the amount that will more likely than not be realized. The impact on deferred tax assets and liabilities of a change in tax rates is recognized in the period that includes the enactment date. The Company also pays U.S. federal income taxes, net of available foreign tax credits, on cash repatriated from non-U.S. locations. No provision is made for U.S. income taxes on the undistributed earnings of non-U.S. subsidiaries where these earnings are considered permanently invested or otherwise indefinitely retained for continuing international operations. Determination of the amount of taxes that might be paid on these undistributed earnings if eventually remitted is not practicable.
Emerson is a leading dealer in electrical appliances and infrastructure around the world. It is the chief supplier to the industries, commercial premises and individuals who require such products. Its financial position and analysis reveals that it is doing very well. It has strategies and policies that would see it remain competitive and a top player in the market. Its benchmark competitor, Powell Industries, also does well in the field. Both companies are careful when it comes to competitive measures, strategies ad decision.
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