An In-Depth Analysis of the Comprehensive Valuation of Coles Group Limited

The Comprehensive Valuation of Coles Group Limited

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Executive Summary

The purpose of the paper was to evaluate Coles Group’s share value using several methods. Australia’s largest retailer, Coles Group Ltd., is valued here using three different approaches: the Capital Asset Pricing Model (CAPM), the Gordon Growth Model (GGM), and the Relative Valuation Model. For Coles Group, the CAPM was used to examine the connection between anticipated earnings and risk, obtaining an annualized projected return of 4.31% and an annualized standard deviation of 0.036. Secondly, Coles Group’s shares were assessed using the GGM, which yielded a share price of $22.02, suggesting that the firm is undervalued. Finally, the Relative Valuation Model was used to evaluate Coles Group’s value by comparing it to other firms in the same industry, indicating that the company trades at a discount to its peers. Overall, the study indicates that Coles Group is an excellent investment option for those seeking long-term development in the retail market.

1.0 Introduction

Coles Group Ltd. owns and operates supermarkets and retail businesses. Coles stores, Coles Online, Cole’s Liquor, Coles Express, Flybuys, Coles financial services, and Spirit Hotels are among its operations. The firm was established in 1914 and is based in Melbourne, Australia (Coles Group, 2022). Besides, Coles Group has a market capitalization of $17.14 billion as of April 2023 and becoming the world’s 970th most valuable business by market capitalization.

Its revenues in 2022 were $27.08 billion, a reduction from the previous year’s revenue of $29.25 billion (Coles Group, 2023). Therefore, the goal of this research was to use a range of approaches to assess the valuation of Coles Group. The paper begins with a CAPM analysis of predicted risk and earnings. Further, the Gordon growth model estimates equity fair market value based on dividend growth in the report’s second section. Lastly, the report discusses the relative valuation model, which compares a company’s value to others in its industry.

 

 

2.0 CAPM

The Capital Asset Pricing Model (CAPM) assesses the connection between expected earnings and security risk. This model is used to assess and price securities based on the projected rate of returns and cost of capital (Baldridge, 2023). Using data from March 2022 through March 2023 estimate the annualized projected return and standard deviation using index data from the Coles Group and the All-Ordinary Index.

Table 1: Annual Return and Standard Deviation

Annualized Expected Return (COL.AX)	6.30%
Annualized Standard Deviation (COL.AX)	0.037
Annualized Expected Return (^AORD)	1.48%
Annualized standard deviation (^AORD)	0.033
Beta	0.34

The volatility (or risk) of the asset COL.AX over the period is measured by its annualized Standard Deviation and Beta. The standard deviation quantifies the extent to which asset returns deviate from their mean value. Here, it’s at 0.037 each year that the standard deviation is at its highest which shows that the data points are spread out evenly around the mean value.

Annualized Expected Return (^AORD) shows the market’s anticipated return over the same period. In simple terms, if you make investments in a portfolio that follows the whole Australian stock market (^AORD), you may expect to receive a 1.48% annual return. The standard deviation in the above instance is around 0.033 each year. It indicates that the data points are within a reasonable range of the mean value throughout the years. There is not much significant variation across years in the values.

The Beta is a measure of a stock’s volatility about the market as a whole. Beta denotes the variations in the stock due to a change in market circumstances (Sharma, 2019). With a beta of 0.34, COL.AX is a low-volatility asset compared to the market overall. You may determine the expected return of COL.AX is by considering its risk and the risk-free rate using these numbers and the CAPM formula:

Expected return =

=1.825%

Based on its beta compared to the market, an investor in Coles Group may anticipate a return of 1.825% above the risk-free rate.

 

3.0 Coles Valuation

The Gordon growth model can be useful for estimating potential shifts in Coles Group’s share price. The Gordon Growth Model calculates a stock’s price by adding up the present value of its projected dividend payments over the next several years. This dividend discount model (DDM) version is common and easily understood (Lee, Tzeng, Guan, Chien, & Huang, 2009).

The Coles Group’s historical dividends, as stated in the question, were 0.115 cents per share in 2019, 0.557 cents per share in 2020, and 0.61 cents per share in 2021. Coles Group’s dividend growth for 2020 is 3.84%. Dividends per share increased to 0.61 cents in 2021 with a growth rate of 0.095%. It’s worth noting that between 2020 and 2021, there was a substantial swing in the dividend growth rate for Coles Group. The corporation issued a special dividend after selling its liquor business in 2020, which contributed to the rapid growth of the business. Comparatively, the dividend growth rate in 2021 was just 0.095%, reflecting the company’s fundamental dividend growth rate.

According to the results of research that looked at the viability of utilizing past growth rates to forecast stock prices, this method works well for certain businesses and industries but not for others. According to the research, this strategy is more effective for established businesses with regular revenue growth than for startups in dynamic fields (Cohen, Polk, & Vuolteenaho, 2005). The historical dividend data that Coles Group has steadily increased its dividend payouts throughout the years. However, the growth trend is not consistent, since the dividend payout increases significantly from 2019 to 2020, followed by a gradual rise from 2020 to 2021.

Given that the current dividend is $0.61 and the Coles group’s expected return is 1.825%, which is higher than the growth rate. Dividends will increase at a consistent rate of 0.095%. The formula of the Gordon Growth Model,

Share price =

= $ 35.25

The share price of $35.25 as calculated by the dividend discount model indicates that, based on the market’s projections for future cash flows and the required rate of return, investors believe that Coles Group’s future dividends are worth $35.25 per share today. If the current price of a share of Coles Group’s stock is lower than this theoretical price, the firm will be undervalued and a smart investment. If the market value is larger than this theoretical share price, however, investors may want to tread carefully because the firm is likely overpriced.

 

 

4.0 Relative Valuation

A relative valuation approach uses industry peers to determine a company’s value. Relative valuation, commonly known as comparative valuation, is a strong asset valuation approach (Tuovila, 2019). Stock prices are compared to industry averages and other businesses. This method is fast and effective for mass-producing identical things.

This ratio helps investors compare a company’s pricing to competitors. Comparing financial firms is easy. The most common relative valuation multiples are P/E, E/V, and P/S. The P/E ratio is used in the report for relative stock value here. Price-to-earnings is a popular valuation multiple. A stock’s earnings multiple is its price times its EPS (Gordon, 2022). A greater P/E ratio suggests a higher valuation relative to similar firms. Low price-to-earnings ratios indicate undervaluation.

Table : P/E Ratio

	EPS	P/E ratio
Treasury Wine Estate Ltd	0.34	33.72
Woolworths	1.68	22.58
Metcash	0.23	15.03
Bega Cheese	0.23	24.68
Blackmores Limited	1.73	42.32
Coles Group	0.75	22.68
Average P/E = 26.83
Share Price of Coles Group = = $20.22

Coles Group has a P/E ratio of 22.68 which is lower than the market average of 26.83. Compared to the other firms in the group, this indicates that investors are not ready to pay as much for Coles Group’s present earnings.

Based on the group’s average P/E ratio, this calculation provides a rough estimate of the Coles Group share price. Based on the data, you may infer that the share price of Coles Group is around $20.22. This indicates that the present stock price of Coles Group is undervalued when compared to the average P/E ratio of the group. Before investing based on the P/E ratio, it’s crucial to analyze the company’s financial health, growth forecasts, and competitive environment. Investors also should consider their objectives, tolerance for risks, and diversified portfolios.

 

 

5.0 Coles Group overvalued or undervalued

Using the stock price data from Part 1(a), the expected return is 6.30%. However, in Part 1(b), Using a capital asset pricing model to determine an expected return of 1.825%. The difference between these two the return on investment is significant. Compared to the expected return computed using the capital asset pricing model, the expected return derived using stock price data is significantly lower. According to the capital asset pricing model, this indicates that Coles’ stock might be undervalued. It is crucial to evaluate other aspects and do more study before making investment decisions.

The dividend discount model predicts a share price of $35.25 for Coles, however, the stock only traded for $17.09 at the end of 2021. This data suggests that Coles is undervalued since the estimated share price is more than the current share price. Although the undervaluation of Coles stock predicted by the dividend discount model presents a great investment opportunity, further research and consideration of other relevant factors are warranted before making any choices regarding investments.

The relative valuation model estimates a share price of $20.22 for Coles whereas its real share price at the end of 2021 was $17.09. The computed share price is greater than the actual share price, it looks like Coles is undervalued based on this data. The DDM predicts a greater share price of $35.25, whereas the Relative Valuation Model predicts a lower price of $20.22. Differences in outcome can be seen between the two models. Using a stock’s estimated future dividends and the expected rate of return, the DDM determines the stock’s intrinsic value. Assumptions regarding future dividends and interest rates are crucial to the model’s accurate outcome.

The Relative Valuation Model, on the other hand, calculates an assessment of a stock’s worth by comparing its current market price to its earnings or other financial measures with other companies’ stocks in the same industry. However, the model has also certain limitations, such as the fact that it uses industry averages and assumes that the companies being compared are identical in terms of financial indicators and growth potential.

 

6.0 Conclusion

The purpose of this paper was to evaluate the valuation of Coles Group, an Australian supermarket chain, utilizing a variety of methodologies. Using the Capital Asset Pricing Model (CAPM) to calculate the expected return and standard deviation of Coles Group’s share. Found an annualized expected return of 6.30% and a standard deviation of 0.037, Coles Group is an asset with low volatility. In addition, Using the Gordon Growth Model to calculate the fair market value of Coles Group’s stock. Based on the company’s dividend, expected return, and dividend growth rate, calculated that Coles Group’s shares have an intrinsic value of $ 35.25. Finally, utilize the relative valuation approach, which employs the (P/E) ratio, for comparing Coles Group’s stock price to that of other firms in the same industry. Coles Group’s P/E ratio was 22.68, which was lower than its competitor’s P/E ratios, meaning that Coles Group’s stock was undervalued in comparison.

 

 

References

Baldridge, R. (2023). The Capital Asset Pricing Model (CAPM). Retrieved from Forbes: https://www.forbes.com/advisor/investing/capm-capital-asset-pricing-model/

Cohen, R., Polk, C., & Vuolteenaho, T. (2005). Money Illusion in the Stock Market: The Modigliani-Cohn Hypothesis. NBER Working Paper No. w11018. Retrieved from https://ssrn.com/abstract=647384

Coles Group. (2022). Retrieved from Forbes: https://www.forbes.com/companies/coles-group/?sh=5541409e3d6c

Coles Group. (2023). Retrieved from https://companiesmarketcap.com/coles-group/revenue/

Gordon, J. ( 2022). Relative Valuation Model – Explained. Retrieved from The business professor: https://thebusinessprofessor.com/en_US/business-personal-finance-valuation/relative-valuation-model-definition

Lee, W.-S., Tzeng, G.-H., Guan, J.-L., Chien, K.-T., & Huang, J.-M. (2009). Combined MCDM techniques for exploring stock selection based on the Gordon model. Expert Systems with Applications, 36(3), 6421-6430. doi:https://doi.org/10.1016/j.eswa.2008.07.084

Sharma, A. (2019). Capital Asset Pricing Model (CAPM). Retrieved from https://www.wallstreetmojo.com/capital-asset-pricing-model-capm/

Tuovila, A. (2019). Relative Valuation Model: Definition, Steps, and Types of Models. Retrieved from Investopedia: https://www.investopedia.com/terms/r/relative-valuation-model.asp

 

 

Appendix

Relative Valuation

	Earnings	Number of shares outstanding	Share price end of 2021	EPS	P/E
Treasury Wine Estate Ltd	250	721.8	11.68	0.34	33.72
Woolworths	2139	1267	38.13	1.68	22.58
Metcash	241.4	1022.3	3.55	0.23	15.03
Bega Cheese	72.2	302.6	5.89	0.23	24.68
Blackmores Limited	33.5	19.3	73.47	1.735	42.32
Coles Group	1005	1334	17.09	0.75	22.68

Average P/E = 26.83

The share price of Coles group = $ 20.22

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