Valuation & Case Analysis

Donaldson, Lufkin & Jenrette (1995)

Agenda
Company Brief Objective Industry Analysis PEST Analysis Operational Analysis Ratio Analysis SWOT Analysis Pros & Cons of Going Public Valuation Recommendation Ending Words

Company Brief
Donaldson, Lufkin & Jenrette or DLJ is a defunct U.S. investment bank founded by William H. Donaldson, Richard Jenrette and Dan Lufkin in 1959 Its businesses included securities underwriting; sales and trading; investment and merchant banking; financial advisory services; investment research; venture capital; correspondent brokerage services; online, interactive brokerage services; and asset management. In 1995, ranked second among 19 firms in the quality of its research.

Objective
What should be the price per share for the new IPO? How Many Shares to be Offered? How Many shares would be allocated to Employees as Stock Option? At which average price employees could get the shares?

Industry Analysis
Concurrent Analysis: 1. 2. Introduction of New Products like SWAPs and Yankee bonds Change of Control from Individual investors to Institutional Investors 3. 4. 5. Change in the Scope of Operation Rise of Derivates Moving into Principal Trading

6.

Participation in Merchant Banking and Venture Capital

Investments

7. 8. 9.

Expansion in the Global Arena Building up Asset Management Business Volatility of Earnings

10. Expected Consolidation Within the Industry

Industry Analysis (Contd.)

Pre-Tax Profits (in Million US$) & Pre-Tax Margin (%) 1980-1993 $14000 $12000 $10000 $8000 $6000 $4000 $2000 $0 1980 1985 1988 1989
Pretax profits

20.00% 15.94% 13.05% 10.20% 10.06% 15.00% 11.93% 10.00% 5.26% 3.67% 1.11% 0.00% 1990 1991
Pretax margin

5.00%

1992

1993

Revenue & Expense Trends of Security Industry 1980-1993

Figures in Million US$
120,000 100,000 80,000 60,000 40,000 20,000 0 19801985198819891990199119921993 Total expenses Linear (Total revenues) Linear (Total expenses) Total revenues

PEST Analysis
Political Factors
Employee Retirement Income Security Act Elimination of Fixed Brokerage Commission Introduction of Rule 415 of permitting "shelf registration"

Economic Factors
Before mid-1970s, IBs served as only as fin. Intermediaries required little capital of their own Providing shield for Event Risk, Business Risk & Credit Risk

Social Factors
Doubtfulness of critical success factors Social acceptance & customer mentality towards IBs

Technological Factors
Introduction of Computers Inception of innovative financial instruments; e.g. Options, derivatives etc.

Operational Analysis
Capital Markets Group Institutional Equities Taxable Fixed Income Equity Derivatives Sprout Venture Capital

Banking Group Investment Banking Merchant Banking Emerging Markets

Financial Services Group Pershing Division Investment Services Group Wood, Struthers & Winthrop

DLJ Business Groups

Operational Analysis (Contd.)

The Banking Group: The Investment Banking Group
Restructuring and other transaction Private Placement, Pr ivate Fund Raising Structured Finance & Restructuring

Mergers & Acquisitions

The Merchant Banking Group

1.DLJ Merchant Banking Partners L.P. and 2. DLJ Bridge Fund.
DLJ Real State Fund Funds DLJ investment Partners Global Retail Partners L.P. DLJ Senior Debt Fund

Operational Analysis (Contd.)

The Capital Market Group
The Institutional Equities division The Taxable Fixed Income division Equity Derivatives division Sprout Venture Capital

Business Services

Computer Graphics & Peripherals Office Automation

Investing Areas Health Care

Retailing
Leveraged Transaction Telecom

Operational Analysis (Contd.)

Financial Services Group
The Pershing Division The Investment Services Group (ISG) Wood, Struthers & Winthrop AUTRANET

Ratio Analysis

Ratio of Long-Term Borrowings to Total Cap

0.60 0.50 0.40 0.30 0.20 0.10 1990 1991 1992 1993 1994 1994 (Till Jun 30) 1995(Till Jine 30)

Ratio Analysis (Contd.)

Gross Profit Margin
70.0% 60.0% 50.0% 40.0% 30.0% 20.0% 10.0% 0.0%

Net Profit Margin

10.0% 8.0% 6.0% 4.0% 2.0% 0.0% 1990 1991 1992 1993 1994 1994 (Till 1995(Till Jun 30) Jine 30)

Ratio Analysis (Contd.)

0.8 0.7 0.6 0.5 0.4 0.3 0.2 0.1 0

DLJ Ind. Avg.

0.4 0.35 0.3 0.25 0.2 0.15 0.1 0.05 0 Average 1991 Average 1992 Average 1993 Average 1994

DLJ Ind. Avg.

SWOT Analysis
Strength: Firm's outpacing growth Successful strategy Revenue, profits & consistent market share growth The three operating groups have expanded roughly at equal rates Opportunity: Investors opportunity to share in DLJ's success One of the most desirable franchise in Wall Street Yet not committed large amount of resources to the lower margin businesses of underwriting and trading of investment grade debt and municipal bonds

SWOT Analysis
Weakness: increasingly compete with large firms like Goldman Sachs, Merrill Lynch and Morgan Stanley to continue gaining market share does not have sufficient operations overseas or large recurring-fee operations profits were tied to trading activity by its client does not have sources of steady revenue stream from asset management activity Threats: finding new business lines Increasingly competitive high yield market and lack of diversification Employee retention The stock offering by DLJ may that be perceived as the owners' decision of thinking it as a good time to sell the firm and thus become unattractive to the investors

Pros & Cons of Going Public

Advantages: It will increase liquidity and allow founders to harvest their wealth It will permit founders to diversify It is going to facilitate raising new corporate cash It will again establish the value for the firm It will increase the potential markets Disadvantages: There will be Cost of reporting New disclosures are needed There will be self-dealings There may be Inactive market and price will reduce Firm will lose some of its control Higher degree of Investor relations has to be maintained

Valuation
Impediments to identifying future cash flows: Interest rates in the United States and abroad Merger-and-acquisition activity Domestic savings & Investment rates Overall direction of the stock market

Methods of Valuation: DCF Method (Free Cash flow to the Firm) DCF Method (Free Cash flow to the Equity) EBIT Multiple Method Book Value Method

Valuation (DCF Method)

Cash Flow Enterprise Value Debt Value Equity Value No of Equity Shares FCFF 147,360.85 723.09 146,637.76 5,150.00 FCFE 112,301.49 5,150.00

Share Value
RM Rf Tax 10.00% 2.30% 30.00% 8.61% 1.31 2.30% 10.00% 7.70% 12.39% 40.8% 59.2%

28.47

21.81

Market Risk Premium Risk Free Rate Tax Rate in US

Cost of Debt
Equity beta Rf RM RM-Rf

Refer Beta of DLJ US Treasuries traded at a yield of 2.30% Rm = Rf + Rp Market risk premium is 20% Ke = Rf + b*(Rm-Rf) 768,067.00 1,116,384.00 WACC = Kd (1-t) * Wd + Kp*Wp + Ke* We

Cost of common stock

Weight of Debt Weight of common stock WACC

10.85%

Valuation (EBIT Multiple & Book Value method)

Book Value Method:
Firms Alex. Brown 46.63 Bear Stearns 20.00 A.G. Edward s 25.13 Brot hers Ly nc h 56. 98 17 5.7 2 3.7 2 31. 06 1.8 3 Sta nle y 87. 50 77. 60 4.0 6 52. 34 1.6 7 PaineW ebber 21.50 Brot hers

Stock Price as of October 23, 1995 Shares Outstanding (Millions)

Last Twelve Months Earnings per Share Last Twelve Months Book Value per Share SP/BV per shares Average SP/BV Per shares BV Per Share (DLJ)

22.5 0
104. 57 1.59 27.9 5 0.80

36.7 5
106. 43 0.58 34.6 4 1.06

15.52
5.39 29.53

118.78
3.40 16.59

62.30
2.64 15.80

97.44
(0.26) 15.04

1.58 1.40 20.95

1.21

1.59

1.43

Share Value

29.26

EBIT Multiple Method:

EBIT Number of Shares EBIT Multiple 132.50 51.50 10.00

Share Value

25.73

Recommendation
Per Shares should be the IPO Price
DFCFF EBIT Multiple Book Value DFCFE EBIT Multiple Book Value 28.47 25.73 29.26 21.81 25.73 29.26

27.82

26.71
25.60

Recommendation
Employees Option:
Employees' Options: Total Value for 500 Employees: Number of Stocks offered: Average Price Per Stock: Additional Value for 500 Employees: Offer Price of Stock Number of Stocks Available Total Number of Shares to the Employess Average Price Per Stock 100,000,000 5,200,000.00 19.23 55,700,000.00 26.71 2,085,477.31

7,285,477.31 22.97

Ending Words

Thanks to all & Any Queries??

Presenters
Md. Shaheenur Rahman # 20063 Md. Raihan Reza # 20020 S. M. Zubayer Hussain # 20048 Md. Tanvir Hossain # 20013