Home Depot Case Study

...

The focus in Milestone 2 of the Home Depot case study is stock valuation and bond issuance. According to page 35 on the Home Depot’s case study, the case dividends per share in the year ended February 1, 2015 was $1.88. I started off by calculating the growth rate. In order to do this, I found the dividend percent increase from 2013 to 2014, 1.16 and 1.56 respectively, and from 2014 to 2015, 1.56 to 1.88 respectively (Home Depot, 35). I then found the average of these two increases which came out to be 27.495%, (((2013-2014)/2013) + ((2014-2015)/2014)) / 2. The equation came to be (((1.16-1.56)/1.16) + ((1.56-1.88)/1.56)) / 2. Then, I found the current dividend yield (D1/P0), 2.40/120.305. For the market price of the stock today, I used the average price from June 9, 2015 (110.98) to June 9, 2016 (129.63) (The Home Depot Inc, n.d.). The current yield is 1.99%. If the company increased the dividend per share by 1.75, the new dividend yield would be (2.40*1.75)/120.305, which results in a yield of 2.73%. If home depot doubled its outstanding shares, (1.307 billion outstanding as of February 1, 2015) they would have 2.614 billion shares outstanding. From chapter 3 homework, the value of equity = Number of shares * price per share. So, as of February 1, 2015, the value of equity was 1.307B * 120.305 = 157.2386B. After issuing double the amount of shares, the new price per share would be (value of equity/number of shares), 157.2386B/2.614B= $60.1525. The resulting dividend yield would be calculated, 2.40/60.15= 3.99%. Return on equity is calculated by net income / common equity. So in the HD case, return on equity is: 6.345B/9.322B = 68.06%, which the net income and shareholders’ equity is found on Home Depot’s consolidated balance sheet.

If an investor is concerned with the dividends that will be paid to them when deciding to invest, the dividend yield is an important concept. Investors will be looking for a higher dividend yield. Home Depot has had increasing dividends each year, as calculated before with an average growth rate of 27% in the past two years, which looks good to investors. If the dividends increase, then the value increases. In the first scenario, where Home Depot pays $1.75 more per share in dividends, the result is a higher dividend yield. This would increase shareholder value because with a higher dividend yield, the “company pays its investors a large dividend compared to the fair market value of the stock…the investors are getting highly compensated for their investments” (Dividend Yield Ratio,” n.d.). When the outstanding stocks doubled, the price per share decreased by half. The resulting dividend yield is 3.99%. With paying its’ shareholders the $2.40 which was calculated as D1, shareholders value with again increase compared to the current dividend yield of 1.99%. The ROE for Home Depot was calculated as 68.06% which says that for every dollar of shareholder’s equity, Home Depot generates $.68 of profit (“Return on Equity,” n.d.). The high ROE shows that management is utilizing its equity base and has better returns to its investors (Loth, n.d.). So once again, if the goal of Home Depot is to maximize shareholder value, the ROE is an indication that they are achieving their goal.

Home Depot’s dividend policies are supporting their strategies. With an increasing growth rate, they are paying out more dividends each year. This is appealing to investors because it shows that the company is able to generate enough profit to increase the payouts. HD has had increased earnings from 4.535B (2013) to 5.385B (2014) to 6.345B (2015). So although they are paying out higher dividends to its shareholders, they are still generating a profit. Also, on the consolidated statements of cash flows, it is shown that HD invested money in acquiring businesses, as well as investing in an increasing amount of capital expenditures. Also the more cash a company keeps, the more likely it will overpay for acquisitions and in turn, damage shareholder value (Staff, n.d.). So with all that being said, the policies that Home Depot has in place is supporting the strategy of growing and maintaining/increasing shareholder value.

Another way to raise money to finance operations is by issuing bonds. In terms of Home Depot, I assumed that they already have bonds outstanding. The market rate of interest that I used was 15% and the number of years until the bonds mature is 15. The value of the bonds I made 500 million dollars. I used a calculator to find the PV with each scenario. Scenario 1 (Market increased by 5%): I=20, N=15, PMT=75, FV=500; with these entries, the PV=383M. Scenario 2 (Market decreased by 5%): I=10, N=15, PMT=75, FV=500; with these entries, the PV= 690M. Scenario 3 (Market remains the same), the PV comes to 500M. With all of these scenarios, HD will raise capital. However, it may not be smart to continue to have the bonds outstanding for all of the scenarios. The first scenario (interest rates increase), is a viable scenario for Home Depot. Since the bonds are already outstanding, Home Depot is locked into smaller interest payments (prior to the market rate increasing by 5%). The second scenario (interest rates decrease by 5%), is not a good scenario or Home Depot. Home Depot would want to call back these bonds. This is because they are paying a higher interest payment than is demanded by the market (“Market Interest Rate and Bond Prices,” n.d.). The third scenario is a viable scenario for Home Depot. Since they issued the bonds at 15%, the interest payments that HD is paying is what is demanded by the market, so they are raising capital while having outstanding bonds at the current market rate. As a rule of thumb, when the market rate decreases, HD would want to call back the outstanding bonds, while the optimal scenario for HD is when the market rates increase, and they are paying less on interest than current market. The PV of the bonds when the market rate increases is 383M while the PV when the market decreases is 690M.

By looking at Home Depot’s balance sheet, at year ended February 1, 2015, long term debt is listed at 16.869B. Long term debt is made up of loans, notes, bonds, and capital leases. So, by analyzing the balance sheet, Home Depot is borrowing in a proficient manner in order to fund operating expenses and refinance old debt. With these bonds outstanding, Home Depot is able to invest in more capital expenditures (which is shown as increased by 77 million from 2013 to 2014, and 53 million from 2014 to 2015). These bonds also gives Home Depot the money to pay back old debt. Home Depot repurchased 7 billion dollars worth of common stock at year ended February 1, 2015, as well as repaid 39 million dollars of long term debt, and 2.53 billion dollars in dividends to its stockholders. With all this being said, Home Depot’s bond issuance