ACG 6176 Florida International University Ross Stores Inc Strategy Analysis Strategy Analysis / Understanding the Business – (Covered in Week 2 of Class)-S

ACG 6176 Florida International University Ross Stores Inc Strategy Analysis Strategy Analysis / Understanding the Business – (Covered in Week 2 of Class)-See PDF (every detail there) Only 3 questions Five forces analysisSWOT analysis-threats, weaknesses, Opportunity and threat analysis(attractiveness of companyCost leadership strategy or product differentiation strategyUse information from 10K( control +find, and look whatever you want therehttps://www.sec.gov/Archives/edgar/data/745732/000074573219000009/rost-20190202x10k.htm#sFBC0E6D02F1E6073590A9CD1FF93AAC9 2
Table of Contents
Summary ……………………………………………………………………………………………………………………………………. 2
Company Profile and History ……………………………………………………………………………………………………….. 3
Text Analysis ……………………………………………………………………………………………………………………………… 5
Strategic Analysis ……………………………………………………………………………………………………………………….. 9
“Five forces” analysis ……………………………………………………………………………………………………………… 9
SWOT Analysis………………………………………………………………………………………………………………………. 11
Competitive Strategy Analysis …………………………………………………………………………………………………. 13
Corporate Strategy…………………………………………………………………………………………………………………. 15
Accounting Analysis ………………………………………………………………………………………………………………….. 17
Identify principal accounting policies……………………………………………………………………………………….. 17
Assess accounting flexibility ……………………………………………………………………………………………………. 18
Evaluate the accounting strategy ……………………………………………………………………………………………… 19
Evaluate the quality of disclosure …………………………………………………………………………………………….. 20
Identify (search for) potential red flags …………………………………………………………………………………….. 21
Undo accounting distortions ……………………………………………………………………………………………………. 26
Financial Analysis……………………………………………………………………………………………………………………… 27
Decompose profitability ………………………………………………………………………………………………………….. 27
Ratio Analysis ……………………………………………………………………………………………………………………….. 28
Forecasting ……………………………………………………………………………………………………………………………….. 43
Forecast EPS and sales for each of the next four quarters using the Foster Model ………………………… 43
Long-term forecasting assumptions ………………………………………………………………………………………….. 44
Valuation ………………………………………………………………………………………………………………………………….. 45
Valuation using the discounted abnormal earnings valuation method …………………………………………… 45
Cost of equity calculation ……………………………………………………………………………………………………….. 45
Terminal value assumption ……………………………………………………………………………………………………… 46
Sensitivity analysis …………………………………………………………………………………………………………………. 47
Valuation using price multiples ……………………………………………………………………………………………….. 48
References ………………………………………………………………………………………………………………………………… 51
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American Eagle Outfitters
Summary
This valuation report consists in assessing a detailed quantitative and valuable portrayal of
American Eagle Outfitters Inc’s current and future valuation by using several strategies and points
of analysis. Throughout the project, we performed a strategic analysis and an accounting analysis
that helped us dive into the company’s accounting flexibility, strategies, accounting principles,
quality of disclosure and potential red flags. Additionally, we were able to enhance our analysis
by comparing and analyzing the company’s ratios against the industry.
To further comprehend and support American Eagle’s valuation, we performed a
forecasting using the Foster Model along with our assumptions for long-term forecasting. Within
the valuation section we were able to calculate the cost of equity, terminal value, our company’s
valuation using different industry’s ratios. The latter was a key component to reach our opinion on
whether selling or buying American Eagle’s stock.
Having said that, our estimated stock price using industry median P/E ratio is 16.5, which
is 14% less than the actual stock price (19.33). In the case of the market value, the valuation using
industry median Price-to-book ratio is 2,165 which is 35% less than actual market value (3,333).
Hence, American Eagle stock price and market value is undervalued and our recommendation is
to buy.
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Company Profile and History
American Eagle is one of the leading players in the American retail industry.
Headquartered in Pennsylvania, it was founded in 1977 as a subsidiary of Silvermans’s Menswear.
Some of its core products include footwear, outerwear, swimming costume, polo and rugby tshirts, jeans, khakis, among others. The firm currently has 1,200 stores. It has some sub-brands,
being Aerie lingerie the most famous one. Between the late 90s and early 2000s, it enjoyed high
annual sales, which increased by over thirty percent. The growth mentioned above was
acknowledged and ranked in Forbes’s category of fastest-growing firms at the time. Apart from
physical stores, the brand uses e-commerce platforms to serve its online client base.
Between 1993 and 1994, the company enjoyed immense growth in sales revenue and
profits. In the same year, the company announced it was going public by selling its shares to
investors. Besides, it was listed at the New York stock exchange, with the leading investors being
Forman and Schottenstein, who owned ten percent and sixty percent, respectively. The firm went
public offering 2.3 million shares. Since 1998, American Eagle’s stock has been increasing in
value. Currently, its stock is valued at $15.20 at the stock exchange (December 7, 2019).
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The graphs above show the price movements of American Eagle’s share at the stock exchange.
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Text Analysis
Word clouds – Earnings conference call transcript
According the text analysis created with the last Earnings conference call transcript of
AEO, the company used a lot of positive words as “growth”, “positive, “sales, and “strong”. This
pattern brings a filling of development and improvement in the financial position of the company
for the users of the financial statements. The word cloud above proves that the most used words in
the Earnings conference Q4 2018 and Q2 2019 were “year”, “quarter”, “brand”, “really”, and
“million”. It seems that the last two calls reflect better results for the brand.
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Word clouds – Risk factors
In the case of the word cloud of the Risk factors section of the 10-K, the most common
words for all the companies are related to tax regulation, technology, financial condition and
foreign currency. The reason for these patterns is due to the implication of the implementation of
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the new tax regulation and technology in the last years for the companies established in the USA.
Just with this information, users can expect positive changes in the financial statements.
Comparison cloud
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According to the comparison clouds, American Eagle is concentrated on new strategies
related to digital channel using new technologies to expand online sales. In 2019, the company is
focused on expanding the brand internationally and the related effects of the foreign currency in
the financial statements.
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Sentiment Analysis
doc_id
AEO-Transcript-2018-0829T13_00.txt
AEO-Transcript-2018-1211T21_15.txt
AEO-Transcript-2019-0306T21_00.txt
AEO-Transcript-2019-0605T13_00.txt
AEO-Transcript-2019-0904T13_00.txt
Positive
word count
200
Negative
word count
54
Total
word count
8,089
Tone
1.80492
242
61
9,194
1.968675
197
68
7,881
1.636848
220
65
8,747
1.772036
225
81
9,469
1.520752
The sentiment analysis demonstrated the frequent use of positive words in the last five
Earnings conference call transcript of the company. In the transcript for September 2019,
American Eagle had 225 positive word and 81 negative word, which represent a tone of 1.52.
According to these numbers, the company had good news for their investors.
Strategic Analysis
“Five forces” analysis
Porter’s five forces is a planning management approach for analyzing the
lever factors associated with profitability in a market. The firm’s top management
can employ the tool to determine the significant five competitive factors that affect
its profitability and come up with a plan for fortifying its competitive edge and
sustain its capital gains.
New players’ Threat
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New players in the Fashion industry can threaten American Eagle’s position
in the market through the unique value propositions, cost leadership, and new
technology and innovation. The firm should manage the problems mentioned above
and create a sufficient cushion to protect its position in the industry. American Eagle
can solve the problem of new players in the industry by continually innovating and
improving its products to meet the emerging needs of its customers (American
Eagle, 2014).
Suppliers’ Bargaining Power
All the players in the industry, including American Eagle, employ the services
of suppliers to get raw materials for their products. Dominant suppliers in the
industry can reduce the firm’s long-term profitability trend. For instance, powerful
third parties in the industry use their negotiation authority to charge more on
production materials. Powerful suppliers in the healthcare sector hurt the sales
revenues of Fashion firms. American Eagle can solve this problem by creating an
efficient chain of supply with many suppliers to avoid production stoppages.
Buyers’ Bargaining Power
Customers’ needs and preferences are highly dynamic. Most people prefer to
consume the best products in the market at the lowest cost possible.
The
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aforementioned has a long-term adverse effect on the firm’s profitability trend. Some
customer segments are influential and are likely to have increased bargaining power
against the company by asking for product discounts. American Eagle can solve the
problem by creating a massive customer base across the world to minimize its
customers’ bargaining authority.
Substitute Products’ Threat
The profitability of an industry, such as Fashion, is affected negatively
affected when the players produce homogenous products meeting similar needs for
the consumers. The company can solve the problem by increasing the substituting
expenses for its clients and by being more service-based.
Competition Among the Existing American Eagle’s Rivals
Intense and cutthroat rivalry in a dynamic industry like Fashion is likely to
reduce the market prices, which will affect the company’s sales revenue. American
Eagle can tackle the challenge by collaborating with other players to increase the
size of the market. By analyzing Porter’s model, the firm’s top management will have
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a clear landscape of what affect its long-term profitability trend in the highly
dynamic Fashion industry.
SWOT Analysis
SWOT is a tool used by the American Eagle to perform an analysis of its
current situation. It identifies the threats, opportunities, weaknesses, and strengths
that the retailers might be facing in the current business landscape.
American Eagle’s Strengths
American Eagle has an active community of distributors who commit to
training sales employees and promote its products. Besides, the firm has excellent
returns on its investments, which is a proactive diversification strategy. The fashion
retailer enjoys a higher level of satisfaction among its loyal customers due to a
dedicated relationship management division. Lastly, the firm has a strong network
of reliable raw material suppliers across the world that ensures its production runs
continuously.
Weaknesses
American Eagle has a product gap in its collection. Significant players in its
industry offer more comprehensive selection than the firm. Its investment in research
and innovation is lower compared to its close rivals, which reduces its status in the
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industry. Lastly, the firm lacks a clear definition of its unique selling proposition and
positioning in the market.
American Eagle’s Opportunities in the Market
The current economic boom in most countries across the world is promoting
growth in consumption after the 2008 financial meltdown. The new economic
development in the global economy, such as an increase in the middle-class
population, is an opportunity for American Eagle to increase its market segment.
The current trend of decreasing shipping costs presents the fashion firm with an
opportunity to lower its transport expenses and maximize its capital gains. The new
taxation legislation provides the firm with an opportunity to maximize its profits.
The new single corporate tax rate will enable the firm to sustain its profitability in
the long term. Lastly, the government is opening up new markets for the United
States by signing bilateral agreements. The aforementioned provides the firm with
an opportunity to increase its share in the global retail sector by investing in
developing markets.
American Eagle’s Threats in the Market
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One of the significant threats that American Eagle is facing is the highly
dynamic behaviors of the online market. The aforementioned is likely to affect its
existing infrastructure and supply chain. American Eagle is a multinational
corporation with production plants and distribution centers across the world. The
constant fluctuation and volatility of the foreign exchange market are likely to hurt
its revenues (American Eagle, 2014). The global political climate is a threat to
American Eagle. For instance, trade embargoes and sanctions by the US against its
political foes usually impacts negatively on the sales revenues of most American
multinational business corporations, such as American Eagle.
Strengths
Weaknesses
Strong community of distributors
Excellent returns on its investments
Higher level of satisfaction among its
loyal customers
Strong network of reliable raw
material suppliers
Opportunities
Product gap
No investment in R & D
Poor definition of unique selling
proposition and positioning
Economic boom
Decreasing shipping costs
Dynamic behaviors of the online market
Volatility of the foreign exchange
market
Global political climate
New taxation legislation
Bilateral trade agreements
Threats
Competitive Strategy Analysis
Cost Leadership
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American Eagle brand is one of the major players in the US and Canada’s
retail industries. It has numerous strategic factors that help to withstand competition
and thrive in the industry. One of the generic strategies the brand employ to stay
competitive is cost leadership and we were able to analyze that in class by calculating
different ratios that are helpful in competitive strategy analysis. There ratios are
gross profit margin and SG&A-to-sales ratio of American Eagle. Our calculations
returned a gross profit margin of 36.87% and &A-to-sales ratio of 24.98%. Low
values of these ratios indicate a cost leadership strategy and a higher value suggest
differentiation strategy. By looking at our ratios we are able to confirm our strategy
as cost leadership, since our values are considered low.
Additionally, cost leadership is an approach that entails gaining an edge over
rivals by minimizing production costs. It is the core strategy employed by the retail
giant in its various designated segments across the world. The main objective of cost
leadership is to sustain or increase the market share of firms in a particular industry.
The approach helps the American fashion firm to expand its market by targeting the
increasing middle-income households across the world. One of the benefits it gains
from the strategy is the increase in the consumption of its products in the consumer
segments in most states. The increasing population of middle-class families across
the globe presents a business opportunity for the retail industry.
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Besides, a considerable chunk of middle-class households emphasizes the
price of commodities, where leadership cost comes into play. The brand ensures that
its fashion products are easily affordable and affordable to the middle class
(American Eagle, 2017). The middle-class households account for almost half of the
retail industry’s customer base. The affordability of its products increases its brand
awareness among its customers. Besides, it provides the company with a substantial
competitive advantage over its rivals and a growth in its sales revenues. Besides
maximizing efficiency in its supply chain and charging low prices due to reduced
production expenses, the American Eagle brand offers its loyal client’s coupons and
sale discounts to handle the extreme competition in the industry and achieve its sales
budget for the year.
Corporate Strategy
Diversification
American Eagle started as a subsidiary of a brand that specializes in producing
apparel and accessories for young people. Over the years, the company has
diversified into other sub-categories, such as footwear, women apparel, and children
fashion. Besides, the company sells franchises to investors in efforts to break into
the diaspora marketplace. The income earned from selling franchises adds into its
annual income stream. Recently, the company joined the jeans’ segment that, for
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years, was dominated by players, such as Armani and Calvin Klein. Currently, its
jeans line is one of the most fashionable jeans brands among young Americans due
to its in-depth variety, price, and fashion trends. Besides, it has expanded its fashion
apparel division to cover the needs of the members of the LGBT community. In the
table below, we have the company sales from 2015-2019 by segments.
For the year 2019, in the category of men’s accessories and fashion, the brand
recorded gross sales revenue of $1.3 billion, which was 32% of its total sales
revenue. In the women’s division, the company sold $ 2.1 billion worth of
merchandise. Its Aerie division posted $645 million in sales revenue in the same
financial year.
Revenues by Products
The table below shows the contributions of each division owned by the
American Eagle firm. The highest-earning division is the women’s fashion and
accessories closely followed by the men’s fashion segment. Its Aerie division has
been performing better in the last four years.
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Sales by Geographical Regions
Over 75% of the brand’s annual gross sales revenue is earned in the US and
the remaining in foreign markets. Unlike other players in the industry, the brand has
established a firm market base in North America. The bar graph below shows AE’s
sales revenue in North America and foreign markets.
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Accounting Analysis
Identify principal accounting policies
To better understand the American Eagle Outfitters financial statement, it is essential…
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