I have been using Ross Stores, Inc. (ROST) for past projects.
Basically it is asking to look at and calculate the: total risk, market risk, estimate the cost of equity, discounted cash flow model, bond yield plus risk premium, and do an analysis with a graph to show the results in Excel.
You have been accumulating two series of prices - one for your stock and one for your index. Keep picking up prices but you should start doing the following now.
Convert your stock price and index data to return series if you have not already done so. You will be calculating weekly returns. Calculate the mean, standard deviation and coefficient of variation using the functions in EXCEL.
1. Calculate your company's beta by regressing your stock's returns on the returns to your index using the LINEST function in EXCEL or the Data Analysis package.
2. Look up your company's beta. It is available on all of the Finance web sites. Be sure and document where you picked up your beta.
ESTIMATING THE COST OF EQUITY
Estimate the parameters of the Capital Asset Pricing Model. Find a current estimate of the risk-free rate (use the 30 day T-Bill rate). Estimate the market risk premium. There is a good source for the market risk premium at Ken French's web site. He is a finance professor at Dartmouth and he maintains a database for all to use. His web address is in the text on p. 257 in the margin. The data is listed under Benchmarks - annual returns. Calculate the long run average risk premium from the data given. Combine your estimates of beta, the risk-free rate and the market risk premium to estimate the cost of equity for your company using the CAPM.
2. DISCOUNTED CASH FLOW MODEL
Estimate the expected return on equity using the DCF model: rS = D1/P0 + g.
For your estimate of the growth rate use the analyst's forecast of earnings growth that can be found at the same site where you have been picking up your stock data.
3. BOND YIELD PLUS RISK PREMIUM
Estimate rS using the bond yield plus risk premium approach. You should be able to find the company's cost of debt in the footnotes to the financial statements. The current equity risk premium is 3.21%.
You are to write a summary analysis of your estimations. Document everything you do - tell me where you got all of your data and any assumptions you needed to make in coming up with your estimates. Answer the following questions in your analysis:
- How does your computed beta compare with the published beta? Why do you think they differ? Which do you think is a better estimate of the market risk of your stock?
- How does the beta compare to the total risk measures you calculated - standard deviation and CV? What is each statistic measuring? Does your company appear to have a lot of company specific risk or a little? Is it possible for a company to have lots of company specific risk and little market risk? Explain.
How do your three estimates of rS compare? Which do you feel is the best estimate of the cost of equity? Do you think your firm's recent performance is a good indicator of expected future returns?
Graph your stocks price performance against the market index.
Turn in a copy of your EXCEL spreadsheet with all the data and calculations and the graph. Also include a typed analysis addressing each of the questions above.
The solution provides the analysis of stock and index prices for Ross Stores.