Strategic Corporate Finance Essay
The concept of the time value of money is one of the core ideas in investment analysis. The value of the same amount of money today and the value of the same amount of money in future are not equal because cash flows and risk factors are uncertain, and because the values of different cash flows depend not only on the amount, but on the time when this case flow appears. Thus, investment decisions have to take into account the time value of money. Moreover, investment decisions are also affected by such factors as personal risks, market risks, inflation, interest rates and the company’s vulnerability to market volatility.
The purpose of this paper is to consider present value of a bond of a given company (Google) which is expected to yield $2,000 in a year. In order to evaluate the effectiveness of the investment, the discount rate should also be calculated. Relative effectiveness of this potential investment will also be evaluated in comparison with more or less successful market competitors.
1. Company profile
For analyzing the relative effectiveness of bond investments, I have chosen Google Inc.’s bonds. This company operates in the sphere of technology, in the sector of internet information providers. Main customers of Google are users, advertisers, businesses and virtually all people using Internet both for work and leisure purposes. Governmental sectors, education and healthcare are also using products and services of this company. Google, Inc. maintains indexing systems for web sites and has become the most popular search engine long ago. Google has created a variety of products starting from mobile applications, Android operating system, online video service – YouTube to cloud computing suite called Google Apps, and business solutions like Google Checkout. It is difficult to find a company more popular than Google in the technology sphere.
Profit margin of Google is 26.82%, and operating margin is 34.35%. Current ratio of Google is 4.64, and its beta is 0.92 (Business Finance, 2011). Overall, prices of Google’s stocks have started to grow in 2009, after a major downfall in 2008 (Business Finance, 2011). Computer industry is one of the most rapidly developing, and this is the reason why I have chosen this company. Google’s main competitors are Yahoo, privately held MSN and AOL, Inc. (Business Finance, 2011).
2. Personal valuation of the bond
My personal perception of the current value of a Google’s bond worth $2,000 in one year is based on four key risk factors: current interest rates, expected level of inflation for the next year, risk rate associated with the company’s market position and personal risk rate (affordability of risky assets). Interest rates currently are 2.97% for a 1-year treasury ARM. Inflation rate is expected to fall in the range between 1.41% and 3% (Business Finance, 2011).
Personal risk is associated with personal financial position and investment portfolio diversification. Supposed that my financial position will remain stable during 1 year and that no major financial downturns are expected, a minimal risk rate of 2% can be accepted. Regarding the risks associated with the company’s market position, it is possible to evaluate this risk using the value of beta coefficient. Since this coefficient is 0.92 for Google, the company is more stable to fluctuations than the market, which reduces the risks. Overall, anticipated personal interest rate for this bond is about 5.5%. I would pay $1,900 for Google’s bond which is expected to yield $2,000 in a year.
3. Discount rate
While present value is calculated as the ratio of earned revenue to the initial sum (in the beginning of the period), discount rate is the ratio of the earned revenue to the sum in the end of the period (Brigham & Ehrhardt, 2010).
4. Analysis of competitors
Google has grown to such dimensions that other companies operating in the same industry can hardly be considered as serious competitors. There are no bonds with potentially higher value in the sector of internet information providers. In the technology sphere, I would like to consider such company Apple Inc. For a bond of Apple Inc. which would yield $2,000 in a year I would pay more than for a bond of Google. I would pay approximately $1,950 for a bond of Apple, Inc. because, despite its higher beta (1.11), since this company is a well-known innovator and its products are becoming more and more popular. Apple is shaping the market and its stocks are expected to generate a high profit for a continuous period of time.
A weaker Google’s competitor is Yahoo, Inc. Although its beta is only 0.86, which means that this company is even less vulnerable to market fluctuations than Google, profit and operating margins of Yahoo are lower, and its market share as well as diversification are lower compared to Google, Inc. For a similar bond of Yahoo, Inc. I will pay less than for Google’s bond (approximately $1,800).
Conclusion
Analysis of investments with taking into account the time value of money, personal and market risk options as well as inflation and interest rates has shown that present value of a bond of Google, Inc. which would yield $2,000 in a year is currently worth $1,850, with potential interest rate (minimal accepted return rate) around 5.5% and the discount rate of 5%. Analysis of competitors of Google Inc. showed that in Google’s sector it is hard to find a competitor with higher potential value of the bond, but Apple Inc. bond’s from technology sector can be more valuable. An example of a Google’s competitor with lower present value of the bond is Yahoo, Inc.
