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DuPont At A Glance
Economy Analysis
A decade after the economic boom of the 1990’s, the United States economy faced its largest recession. The attacks of September 11, along with the war on terrorism, were the reason of the economic depression. According to many analysts, the recession is now ending and the economy is at the start of expansion. Many also believe that the interest rate cuts by the Federal Government and an increase in government spending will result in growth throughout the year of 2000. Furthermore, with inflation low, productivity strong, and interest rates at low levels, growth should almost double in years to come.
Although growth exists, John Beggs suggests that the growth may be stall because of the decrease in consumer spending, weaker conditions in global markets, and the fear of fighting the war on terrorism. Also many are skeptic that companies are changing forecasting practices because of the many scandals that face the business world. (Monthly Market Focus).
Macroeconomic Factors
Inflation
Inflation is an important factor that affects the chemical industry. Moreover inflation is a very important aspect of consumer buying. As a result of the difficult times, inflation decreased and may products prospered within DuPont. As the economy begins to recover so will consumers, resulting in an increase in spending causing a rise in inflation. If inflation seems to rise along with the economy, then companies such as DuPont will adapt well. On the other hand if inflation and economic growth rise irrelevantly then DuPont could negatively be affected. For example, an increase in inflation will cause raw material prices needed for many Dupont products to skyrocket. This in essence will cause companies to increase prices resulting in the reduction of consumer spending. This increase in inflation will also result in reduced productivity from lower sales, and an increase in employee wages. This will cause the reduction of certain employees to help cut cost. Companies then may layoff workforce causing the shutdown of plants or even the discontinuance of certain product lines. Plus this inflation increase will also cause interest rates to hike in the long run.
Over the last several months’ inflation has been low because of a slow economy. As inflation begins to increase, an increase in the Consumer Price Index will result. This in turn will affect the chemical industry. As the Missouri Economic Research center states, the price index was 180.8, a 1.5 increase from last September. This is projected to remain unchanged, as the economy recovers which will have no positive or negative affect on the chemical industry. (Consumer Price Index and Inflation)
Interest Rates
Interest rates have seen many fluctuations during the last year to help recover from the recession. According to analysts from Privateer the Federal Reserve has cut interest rates eleven times in 2001 ranging from 6.5% to 1.75%. Since then the interest rate has been left unchanged since March but the meeting of November 06, 2000 cut rates by 0.5% to 1.5%. Despite this cut interest rates will begin to rise as the economy begins to recover from the recession. Interest rates play an important role in both the chemical industry and consumer confidence. Moreover this causes more buying by borrows because of low interest rates resulting in low cost of borrowing. In addition many car dealers offer zero financing helping to boost car sales. The increase in car sales will in turn help DuPont because of their products that contribute to car production. Moreover some consumers spending behavior will increase because of low lending which can also boost sales. This all is good news for the industry, but also we have to be cautious, because the economy is recovering and interest rates will soon increase. However if interest rates increase with the economic growth then this will be all right. (Monthly Market Focus).
Unemployment
Unemployment is a big indicator of how the economy and industries are doing. Unemployment is resulting factor, which means that it changes in sync with economy changes. It also gives us information on how the Gross Domestic Product is doing. In addition, it gives information about the current productivity, consumer spending and confidence. For example, if we have low unemployment this usually means that productivity is doing well, since companies are meeting the high demand with increased hiring. When people have jobs this indicates that more people have money resulting in higher consumer spending.
Wyss McDonald, analyst from Standard and Poor’s address that, unemployment rates fell unexpectedly to 5.5 percent this year as more than 800,00 Americans joined the work force. He also believes that this surprise decrease from the 5.8 percent rate we had in December is because of seasonal abnormalities in the payroll series. Since unemployment is a lagging factor we do not expect unemployment to fall during the rest of the year because of the economy being in the early stage of expansion. Alan Greenspan also stated that the unemployment rate would keep rising because companies will be hesitant to rehire employees. Finally analysts from Missouri Economic Research stated that unemployment would rise to 6 percent during the remainder of the year and slowly fall to the national 00, 5 percent average during the early months.
Productivity
Production measures the amount of output per hour worked. By looking at the production rate we can determine how efficient our labor and thus how efficient our industry is. High production also indicates high demand and consumer spending. According to Business Week Online, productivity raised to 1. percent for the entire year of 2001. This year it has seem much better results with a percent increase in the first quarter, a 1.5 in the second, and a 4 percent increase in the third quarter. Despite this recession, productivity seems to be doing very well. Allen Greenspan stated this earlier in the year, saying that companies cut their payrolls in response to low sales causing the total number of hours worked to drop faster than output and pushing up productivity. Business Week Online also stated that productivity is high not only because of the low payrolls but also because of the high competition that exists in the foreign market. This is an indicator that DuPont may increase production to keep up with foreign competitors. Furthermore this increase in productivity will result in higher income for employees, but in the short run higher productivity may mean sharper reduction in employment.
Review of the Macroeconomic Factors
Inflation now is still at fairly low levels compared to post September 11 statistics. Although they have began to rise as the economy has begun to expand. I believe that inflation will affect the chemical industry because as raw material prices increase so will products produced. Furthermore, a big factor will be how inflation increases in countries that many of our chemical companies do business in,
Interest rates were cut by 0.5% at the last Congress meeting. Analysts believe that interest rates will increase during the remainder of the year as the economy recovers from the recession. I personally believe that once interest rates increase it will be relative to the economic growth, resulting in consumer and investor confidence, which will provide positive results for the chemical industry.
Unemployment has been low and high throughout the year of 2000. As the year begins to come to an end the recession is expected to end and the economy will recover. Since unemployment changes with other factors it will decrease as the economy recovers.
Production seems to have stayed high even with the recession of the past year. This is primarily because of the decrease in payrolls that caused the total number of hours worked to decrease faster than output. In this industry (chemical), productivity remains high because of the high competition between domestic and foreign chemical companies. This is good news for us consumers but may hurt some chemical companies because of increased competition.
Chemical Industry
Competition
Most importantly, the chemical industry is a keystone industry, one critical to the global competitiveness of other U.S. industries. Because so many modern products depend on chemicals, the international competitiveness of other U.S. industries requires a high-tech, globally competitive U.S. chemical industry that can supply new products at prices that give U.S. producers an edge. These are some and most of the reasons that explain why the chemical industry presents a product differentiation type competition.
Meeting the rising R&D (research and development) and P&E (plant and equipment) investment needs of the future will require a chemical industry that is profitable and attractive to investors. While the industrys profitability will be determined primarily by individual company decisions, government decisions that influence the environment in which U.S. producers compete will also be critical to the industrys continued growth and competitiveness. According to Value Line’s Company Page, individual companies decisions that affect competition, include growth strategies, costs of production, and the amounts, strategies, and locations of both P&E and R&D investments. External factors that will effect the competitiveness within the industry include U.S. economic and trade policies; changing international political and economic conditions; export and investment access to foreign markets; global protection for intellectual property; and U.S. regulatory policies. These are the factors that will determine the future competitiveness of the industry.
Prices
Prices within the chemical industry are mainly fixed across the board. Rises in these occur because the rise in raw materials used to manufacture these chemicals. These prices are determined by competition in the domestic and foreign market. As I stated before there is a big competition with foreign companies therefore the keystone effect plays a vital role in pricing domestically. If DuPont can acquire the chemicals to produce its products within the United States at low prices, then prices stay low. This also explains how the chemical industry is product differential oriented because depending on the cost at which the chemicals are acquired and how they are utilized, results on the price. Finally prices are also being altered by changes within individual companies. DuPont is making these alterations by things such as reduced payrolls, production cuts, restructuring plans, and structural changes. (DuPont)
Regulations
With the many chemical precautions our society takes today, there are many regulations this industry is faced with. Within the chemical industry there are regulations that apply to every aspect from acquiring the chemicals to the production and waste of those chemicals. As I analyzed some of the different regulations I found that there are new regulations coming in to effect all the time. As I looked at different companies I found these to be very costly.
Due to these many regulations, the chemical industry can use this as a reason to increase prices, cut production, or even fire employees. Many of the practices and applications needed to obey these regulations can cause many problems. As I analyzed Dupont, I found that many costs are in administration and prevention of regulation problems. If these regulations are broken many negative consequences could follow. Although these regulations are a positive for the environment and people of it, these can really be a burden in the chemical industry. Furthermore I have found it to be very interesting that many analysts are skeptical to anticipate regulations that may affect companies in which they are looking to invest. As Dupont News and Media stated, they anticipate a prosperous year depending on many factors to include changes in laws and regulations.
Capital Vs. Labor Intensive Company
A capital incentive company requires many funds to operate. Capital-intensive industries need large expensive machines, high technology and few but high skilled employees. So many funds are needed in order to train employees, do research to improve technology and to create new products. On the other hand, a labor-intensive industry needs many more employees in order to run it. These employees usually have specific skills and do not receive a large salary. Such industries rely mostly on their workers in order to meet demand rather than machines. I believe the chemical industry is a capital-intensive industry. Although it sometimes needs assembly line type work in some production. This industry uses employees as a variable cost and they hire when the economy booms and vise versa. On the other hand these big companies need large capital to operate. First of all they use highly specialized chemists to figure out new products and the production of these products. Then large factories are needed in order to produce the chemical driven product. In these factories most machines do the work with few employees to supervise this process. In addition these employees must know how to operate the machines. These are cost driven to educate these employees. Also these products may then need to be sent to other factories for instillation into other products. Lastly chemical companies endure the cost in order to advertise the new innovation. In conclusion the chemical industry is a capital-intensive industry since it requires many funds to operate and it also requires high skilled workers and technology.
Growth
The chemical industry reacts to how the economy is doing. When the economy is doing well the chemical companies will be doing well also. During the recession chemical companies did not incur devastating losses but there was definitely a reduction in sales and revenue. Now that the economy is recovering and analysts expect GDP to be 0.5 percent by the end of this year and average out at 0.5 into next year. Since the economy is growing and analysts believe in more growth, I believe that the chemical industry will grow more as the economy recovers. Since this is a company that tends to follow the business cycle, growth will eventually increase with the economy.
Consumer spending is another important factor that drives the economy. As a stated earlier and we have seen, consumer spending has been crucial during this recession. I think that the future increase in the interest rate will again increase consumer confidence resulting in an increase in consumer spending. Although this is true there may be other factors that might affect the growth of the chemical industry as a whole. As Value Line stated, growth potential for the rest of this year may be altered by the rising prices of raw materials. This is being caused by the increase in oil and natural gas because of political concerns in the Middle East.
Dividends
Historically chemical companies are known to pay high dividends to their stockholders. From 18 to 2001 the chemical industry has paid an average of 5% of all dividends to net profit. Also the average annual dividend yields has been around 0.8%.
Paying high dividends does not always mean that the company will be beneficial. The dividend yield and the payout ratio can help to relate dividends with stock price and earnings per share. This will in turn help to see how companies are doing. In an effort to cut cost some companies decide to cut dividends. This is what has been taking place in the chemical industry. As a defensive measure these stocks do offer high dividends, however if the economy, for some odd reason, deteriorate in 2000 then some of these companies will be forced to cut dividends. Also in order to keep money within the firms to account for higher raw material costs, firms are cutting dividends paid out from earnings. This in turn lowers the payout ratio.
In conclusion, the chemical industry is known for high dividend payout during the past. Now in order to account for the recession these companies are cutting dividends in order for growth into the future because of more retained funds.
The Chemical Industry in Review
The chemical industry is very competitive because of the many regulations and foreign involvement. The US has to compete with foreign companies because of the large demand. Since many of the raw material cost are uncontrollable, chemical companies seem to have many price fluctuations. New regulations also affect the chemical industry because this results in more expenses. High dividends were being paid out despite performance. Now many of these companies are cutting dividends to meet growth potential and account for the recession. Furthermore I believe that some companies will have trouble because of high raw material costs because of Middle East problems, but others will adjust well. In conclusion, I believe growth within this industry is very likely in years to come because of above average return for many of the companies within the industry.
Company Analysis
DuPont
DuPont is a chemical and science company, delivering science-based solutions in markets such as food and nutrition, health care, apparel, home and construction, electronics and transportation. Two hundred years ago, DuPont was primarily an explosives company. One hundred years ago, our focus turned to global chemicals, materials and energy. Today, entering our third century, we deliver science-based solutions that make real differences in real lives. Look closely at the things around your home and, chances are, youll find a DuPont imprint. (DuPont)
Regression Analysis
Using the information from Contemporary Investments and the regression analysis from Appendix #1, I calculated the regression equation as
Y=8188.4-6.8551(X), whereas X=GDP
Y=a + b(x)
Y=Dependent variable or sales
A=interception
B=slope
X=independent variable or GDP
Assume
Probability distribution is normal
Mean distribution
The standard deviation of the distribution of possible Y values is constant regardless of the value of X
Independent variables are non-random
The error terms are statistically independent of each other
Hypothesis
H b=0
H b=0
Test Statistic
T= -6.
p-value = .1 X 10
Decision Rule
Reject H if p-value =0.05
Conclusion
We reject H since the p-value=.1x100.01
We have sufficient evidence to conclude that there is a relationship between GDP and sales.
The R-square measures the proportion of the variation in Y that is caused by the variation in X. R-square also tells us that 54% of the variation in the sales is explained by the variation in the changes of GDP. The remaining 56% is unexplainable.
The regression analysis is a good indication for estimation sales for the future. However, even though I have showed that there exists a relationship between GDP and sales, I believe that it is misleading. For DuPont, when sales increases GDP decreases. This is very unusual for a company like this because it is cyclical in which it reacts to the changes of the business cycle.
The regression analysis is not always the best methods of estimation future sales because of many other present factors. Especially when you deal with a company that is dealing with obtaining raw material from other countries. You also have to account for the foreign business in which is done with this company. Particularly sales cannot by forecasted accurately because of exchange rates. Looking at exchange rates you can see that the dollar was much stronger in 18 and 1 than most foreign currencies so the sales in US dollars on the income statement may have been much larger. On the other hand the dollar has lost value in recent years causing an underestimation. Because of such an inconsistency with the regression analysis, I will investigate what the company and analysts project sales to be into the future.
Revenues
Based on the economic conditions and the rise in the prices on raw materials DuPont expects a decrease in revenues from 4.7 billion dollars to .8 billion dollars. This decline is a result of lower priced products to compete with the market and an increase in raw material cost. Better revenues in to the future will prevail because of higher volumes and significant cost reductions.
Analysts of Value Line expect the company to sustain growth throughout the rest of the year but may have to absorb capacity before industry pricing improves. Also the revenues will benefit once problems in the Middle East are solved and raw material prices return to normal. Furthermore I believe that the costs of goods sold and selling and administration costs will reflect with sales. I also expect depreciation for the company to be reflected by fixed assets so I calculated it as a percentage of those. Value analysts believe taxes of 100 to be 0% on earnings before taxes, and dividends of the company to remain at 0.5 cents per share.
DuPont states that its revenues for 2000 will be 2 billion dollars and Value Line believe that the revenues for the company will be 4.1 billion. Many of times these numbers differ because of many factors. One major factor is the tendency to alter numbers in order for companies to make competitors think they are not doing as well as numbers indicate. In order to stick with the Value Line analysts, I will use the Value Line’s sales estimation for 2000. (In millions)
Income Statement
Sales 4,10
COGS 15,786
Gross Operating Profit 8,404
Selling, General, Admin. Expenses 4,18
EBITDA ,40
Depreciation 1,48
Income before Tax 6,167
Income Tax ,467
Net Income ,700
After forecasting the sales and finding the earnings for 2000, we now must find the earnings multiplier. The earnings multiplier is the price to earnings ratio, which will be the company’s earnings per share multiplied by the price to earnings ratio. This will then show the value of the stock. To find the P/E ratio we need to estimate the growth and expected return of the company. There are several ways to find the growth of a company and one way is to find out what the company retains from earnings. The more the company retains the more growth it will have and the higher the expected return to stockholders. To find this I calculated the return on earnings ratio (ROE) from 17 to 2001 and the average payout ratio from 17 10 2001.
ROE Payout Ratio
17 6. 4
18 0. 5
1 .1 5
000 1.7 51
001 8.6 11
00 17 44
Average 1.1 5
By using these numbers and these formulas I estimated the possible growth and expected return of my company.
1) Growth= (1- payout ratio) X ROE
2) Retention Ration= 1- payout ratio
3) P/E = 1+G (1- retention ratio)/K-G
I found the possible growth of this company to be 8.651 percent and the expected return to be 1.1 percent. Also I found the P/E ratio for Dupont to be 1.60. Then I found the earnings per share by net income over the outstanding shares of 1 billion. So I calculated the earnings per share for1 00 to be 4.. Then I multiplied the earnings multiplier with the earnings per share and found the future stock price to be 54.5 dollars.
Adjustment of the P/E Ratio
The correct multiplier for a company reflect the company’s product growth, future level of interest rates, and stages in the economic cycle. In addition, currency risk market share and anything that is related to the Economic-Industry-Company analysis also affects the earnings multiplier.
Growth
This information is taken from Value Line.
Dupont changed its earnings outlook for the third quarter of 2000. After warning in late July of a possible slow-down in its chemical businesses, the company recently preannounced that third-quarter share-net will tally a better-than-expected $0.5-$0.7. In addition to economic fundamentals, the gain is likely the result of a favorable tax rate. We are trimming our fourth-quarter share-net estimate by $0.06, due to both higher feedstock costs and the likelihood of a slowdown in the growth rate of the global economy. The company will likely deliver long-term earnings growth of at least 10%, starting in 00. The top line should be-gin growing at a more rapid clip then thanks in large part to new product introductions. Indeed, R&D efforts have proven successful of late, as products introduced over the past five years accounted for 4% of Dupont’s 2001 sales, up from % in 2000 (and should reach % by two purchases the company made earlier this year - Liquibox ($10 million) and Cleanfirst ($408 million).
Dupont’s board has authorized a $ 2 billion share repurchase program. Nevertheless, we believe the company will hold back from aggressively purchasing shares this year until the economy shows more certainty.
Economic Conditions Affecting the Company
This information is taken from Dupont’s company sales forecast.
DuPont expects economic growth to continue in the fourth quarter, but at a pace moderately below third quarter growth rates. The company expects U.S. automotive and housing markets to remain strong and consumer spending to hold up reasonably well. On the negative side, energy-related raw material costs are trending up at a time when selling price increases remain difficult to achieve.
Taking all these factors into account, including the revised full-year income tax rate estimate, the companys earlier fourth quarter earnings outlook remains unchanged. That is, the company expects underlying fourth quarter earnings per share to be about triple those of the prior year, which would result in full-year underlying earnings of approximately $3.00 per share. It should be noted, however, that continued volatility in the equities markets, slower pace of economic growth, and the potential for political conflict add risk to achieving this outlook.
While we cannot control the economy, we can control how we execute our business plans in the face of economic challenges and uncertainty, said Holliday. As we look ahead, we are focused and committed to superior execution, maintaining our competitiveness and continuously adding value for our shareholders. (DuPont)
Risk Factors
In addition to the market conditions and the slow economy, DuPont and the chemical industry are feeling affects from the war on terrorism and tension in the Middle East. As mentioned before this is causing prices of raw materials to rise, although DuPont has adjusted well and seems to be taking the industry by surprise with it untouchable growth rates.
Conclusion
In my overall Economic, Industry and Company analysis I believe that my company is projected for large growth into the future. Over the past 6 months the earnings multiplier calculated from Value Line was very high. Despite this high multiplier my analysis over the past 4 years and into the future set my multiplier at a solid 1%. This indicates substantial growth for DuPont. As far as industry totals, DuPont tended to set the pace. Share earnings for DuPont should advance by over 60% because of higher volumes and significant price reductions. I believe that this stock should be bought to expect large returns into the future.
Works Cited
www.Valueline.com (Total Website)
MSN Money, http//moneycentral.msn.com
DuPont Company page, www.dupont.com
Monthly Market Focus, www.johnbeggs.com
No New Economy Under the Sun, www.idiscover.com
Consumer Price Index and Inflation, www.ded.state.mo.us
Investor Center, www.corporate-ir.net
Dull Is Good Preferred Stock, www.forbes.com
Federal Press Release, November 6, 00, www.federalreserve.gov
Changes to The Fed Funds And Discount Rates, www.the-privateer.com
Hearth, Douglas and Janis K. Zaima, Contemporary Investments Security and
Portfolio Analysis, Third Edition, Harcourt College Publishers, 2001
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