You will do just one analysis, for your stock.  There is no separate analysis for the competitor firm.

Whenever your stock exhibits a significant price change, you want to identify if the source of the price change was economy-wide news or industry-wide news or firm-specific news.

That's where the competitor firm and the market index will be relevant -- to judge what type of news affected your stock:

	Economy-wide news is indicated if the competitor stock and the market index also show similar movements
	Industry-wide news is indicated if the competitor stock shows a similar movement but not the market index
	Firm-specific news is indicated if neither the competitor stock nor the market index shows a similar movement

For economy-wide news, the best source may be the weekly market summaries to be found on the CBS.marketwatch.com web site.  This will require signing up for a free account.  If you can figure out how to access weekly market summaries directly from their home page, good for you (and please let me know!).  Otherwise, once you have an account, the following link will be a good starting point: The week's top news and commentary, 3/31 - 4/4.  When you scroll down to the bottom, you’ll find links to other weekly summaries (more recent and older).  You can keep hopping back using these links to get to whichever weeks you need. (I think it goes back only 6 months.  If so, just go back as far as you can, and don't worry about identifying economy-wide news for the previous period.)

For firm-specific and industry-wide news, just pull up the stock in yahoo.  Click on news, and keep scrolling back.

Use annual earnings estimates, not quarterly.

Use the mean estimate for the current year.

When computing PV of existing assets, we have to locate the earnings on a time line.  In other words, we have to decide on what date the earnings for the current year are deemed to be received. Instead of assuming they are received at the end of the fiscal year, it is more reasonable to assume they are received in the middle of the fiscal year (since the earnings are generated continuously over the year).

So you want to compute the PV of the existing assets "today" (whatever date you look up the stock price) assuming that annual earnings are received in the middle of the fiscal year.

If your company has a negative earnings estimate, come and talk to me.

If you come up with a negative PVGO, come and talk to me.

Assume that T^’ is 20%.

To estimate WACC we need the market value of Debt, Equity and any other source of capital your firm uses (e.g. preferred stock).  We also need the cost of capital for each source.

Equity is straightforward:

	Look up the stock price, equity beta and number of shares outstanding
	Use the CAPM to compute the cost of equity

Long-term debt, short-term debt and preferred stock are discussed below.  If your company has convertible debt, talk to me.

We need to estimate the total market value of all the long-term debt.

It is generally not a good idea to assume that market value equals book value.  It’s an even worse idea to do it at this point in time, given that interest rates have dropped steadily the last few years.  This will have increased the market value of most bonds. 

However, estimating the total market value of all the long-term debt would require valuing each bond separately.  And large firms sometimes have a very large number of bond issues, so this can add up to a lot of work. So here’s what we’ll do:

If there are more than 5 bond issues, pick 5 bonds and value each one separately, as described below. Then compute the ratio of total market value to total book value for these 5 bonds.  Apply this ratio to the entire long-term debt.  In other words, if these 5 bonds together are selling for 108% of book value, then we assume that the entire long-term debt has a market value equal to 108% of book value.

If there are less than 5 bond issues, value each bond issue separately.  If these bond issues are the only long-term debt the firm has, you have the total market value of long-term debt right away.  If there is other long-term debt, then do the same thing described above.  Compute the ratio of total market value to total book value for these bonds, and apply this ratio to the entire long-term debt.

The first thing you will need is information about how many different bonds the company has issued, the book value (or the number of bonds issued) for each bond issue, and the bond rating for each issue.  There is no good online source for this information.  You will need to go to the Commerce Library and looking up your company in the Mergent's manuals.  There are different manuals for different sectors of the economy, e.g. Mergent's Industrial, Mertgent’s OTC, Mergent's Transportation, Mergent’s Utilities, etc.  Ask for help at the reference desk if you have trouble finding your company in one of the Mergent's manuals.  When you look up your company, you will find a detailed profile of the company, including details of each individual bond issue.  Photocopy the relevant pages from Mergent’s, and turn them in with your report.

The first step in trying to value a bond is to see if you can find a price quotation for the bond.  If so, you have the value right away.  I suggest the folowing online sources for price quotations: bondsonline.com (Bondsonline) and the NASD bond information page (NASD Bond Information).  If you don’t find a price quotation in either place, chances are you will not find a price anywhere else online, but feel free to try.  If you find a price quotation, print out that page and turn it in with your report. 

If there is no price quotation for a bond, then you will need to compute its market price.  For this you need a discount rate.  Find 3 matching bonds with the same maturity and rating.  Use their average YTM as your discount rate.  Remember to take partial periods into account in computing the PV (just like the Fin 300 bond project). 

Make sure you show all your work for the market value of debt computation. 

R_d is not the coupon rate or YTM, it is the required return.  To come up with the cost of debt, we need to estimate the beta of debt, which is problematic.  Here’s what we’ll do.

For speculative grade debt (anything below BBB), YTM is not a good approximation for E(R).  And there is no good way to estimate R_d.  Most bonds are not traded frequently enough to provide reliable data for estimating the bond’s beta.  For that reason, we cannot look up bond betas the way we can look up equity betas. Recommended procedure for project: make up a reasonable debt beta.  This would be the overall beta for all the firm’s long-term debt together.  We can develop rules of thumb to define ‘reasonable”:

When financing a project, the firm has to raise capital to finance fixed assets plus net working capital (NWC).  This defines the project’s capital needs.

When NWC is positive: Say CA = 100, CL = 80 and NWC = 20.  The firm finances the CA partly through CL (including short-term debt).  However, the $20 difference represented by NWC is financed by some mix of long-term debt and equity.  Short-term debt is not used to meet the project’s capital needs.  So, short-term debt does not need to be considered as a separate source of capital in computing WACC.

When NWC is negative: Say CA = 100, CL = 120 and NWC = -20.   The firm is using short-term debt (or other CL) to finance long-term assets.  There are three sources of financing for long-term assets: long-term debt, short-term debt and equity.  Now short-term debt needs to be considered in computing WACC.

Bottom line: short-term debt should be considered only if net working capital is expected to be negative on a long-term basis (i.e. if short-term debt will be a permanent source of financing for long-term assets)

Assume that market value is same as book value.  That’s a reasonable assumption for short-term debt.

Cost of debt is again problematic.  Try to cook up a reasonable number.  Bear in mind the following:

	The yield curve shows roughly a 3.5% difference between short-term and long-term rates today.  This means that if the firm’s short-term debt had the same risk as its long-term debt, the required return on the short-term debt would be roughly 3.5% less.
	However, short-term debt is usually less risky than long-term debt.  This should be factored in.
	The more short-term debt there is, the more risky it will be, resulting in a greater cost of debt.

The cost of preferred stock will lie in between the cost of long-term debt and the cost of equity.

Usually, it will be a lot closer to the cost of long-term debt than to the cost of equity.

The less preferred stock there is, the closer its cost will be to the cost of long-term debt.

Also, strangely enough, the less long-term debt there is, the closer the cost of preferred stock will be to the cost of long-term debt.

	The cost of long-term debt is an average cost of many different issues, from less risky to more risky.
	The cost of preferred stock is more than the cost of the riskiest long-term debt.
	Suppose the cost of long-term debt is 9%.  If there’s less debt, the extreme values producing this average might be 8.75% and 9.25%.  The cost of preferred debt has to be more than 9.25%.  If there is more debt, the same 9% might come from extreme values of 8% and 10%.  Now the cost of preferred debt has to be more than 10%.

Once again, in your report, justify the number you came up with.

You can compute the market value of the preferred stock by discounting the preferred dividends at this cost of capital.  If you think some other assumption is more reasonable, go ahead and use that instead.  Make sure you explain clearly what you’re assuming, and why.