Investment Analysis and Portfolio Management Report: a2 Milk Company

This report offers an in-depth investment analysis of the a2 Milk Company Limited, employing financial models to determine its investment potential. It begins by estimating the company's beta using a simple linear regression model, comparing historical returns to the ASX 200 index and Morningstar data, concluding that the company is defensive. The analysis proceeds to estimate the risk-free rate of return using Australian government treasury bonds yield data. The Capital Asset Pricing Model (CAPM) is then applied to calculate the required rate of return. The report further analyzes the future dividend growth using the sustainable growth formula, followed by a two-stage dividend discount model to compute the intrinsic value of the a2 Milk Company Limited shares. The final recommendation is to buy the shares at the current market price, as the intrinsic value exceeds the market price, based on market efficiency theory, supported by references to academic literature and financial data sources.

Running head: INVESTMENT ANALYSIS AND PORTFOLIO MANAGEMENT
Investment Analysis and Portfolio Management
Name of the Student:
Name of the University:
Author’s Note:

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INVESTMENT ANALYSIS AND PORTFOLIO MANAGEMENT
Table of Contents
Performance value...........................................................................................................................2
Valuation of shares..........................................................................................................................3
References........................................................................................................................................8

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INVESTMENT ANALYSIS AND PORTFOLIO MANAGEMENT
Performance value
3/31/2015
5/26/2015
7/21/2015
9/15/2015
11/10/2015
1/5/2016
3/1/2016
4/26/2016
6/21/2016
8/16/2016
10/11/2016
12/6/2016
1/31/2017
3/28/2017
5/23/2017
7/18/2017
9/12/2017
11/7/2017
1/2/2018
2/27/2018
4/24/2018
6/19/2018
8/14/2018
10/9/2018
12/4/2018
1/29/2019
3/26/2019
5/21/2019
7/16/2019
9/10/2019
11/5/2019
12/31/2019
0
2
4
6
8
10
12
14
16
18
The a2 Milk Company Limited (A2M.AX) 5 years
price history as at 15 January 2020

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INVESTMENT ANALYSIS AND PORTFOLIO MANAGEMENT
Valuation of shares
Beta estimates
The simple linear regression model has been used for estimation of the company beta of
the a2 Milk Company Limited. The regression model has been conducted comparing the
historical return of the Aristocrat Leisure Limited and the ASX 200 index. Using the excel
“Slope” function this has been completed.
The Morningstar beta estimate for the a2 Milk Company Limited as on the 16th January
2020 is 0.56, while the calculated beta is 0.953. The company is defensive in nature in their
business operations as the beta estimate or the risk coefficient of the company is less than 1.
Investment in shares of the a2 Milk Company Limited is less risker than the market.
Estimation of the risk free rate of return:
To estimate the risk free rate of return the daily yield of the 10 Australian government
treasury bonds have been analyzed and for the past 5 years.

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INVESTMENT ANALYSIS AND PORTFOLIO MANAGEMENT
Average yield for the month of December 2019 1.20
Start 20 May 2013 3.22
End 16 January 2020 1.21
High 4.38
Low 0.86
Average yield for the past 5 years 2.70
Median yield for the past 5 years 2.68
5 Year data Summary
It can be observed from the above analysis that, the lowest yield is 0.86 percent while the
highest yield is 4.38 percent. Hence, there is a huge spread between the high and low yields of
the bond. Therefore, the past 5 years average yield of 2.70% has been used as the risk free rate of
return (Kevin, 2015).
Required rate of return using Capital Assets Pricing Model (CAPM):

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INVESTMENT ANALYSIS AND PORTFOLIO MANAGEMENT
The required rate of return is important for the valuation of the shares of a2 Milk
Company Limited. Capital assets pricing model has been used for the computation of the
required rate of return as follows.
E(Ri) = Rf+Bi(E(Rm)-Rf)
For estimation of the market rate of return, 6% market risk premium has been assumed.
Applying the capital assets pricing model, the estimated required rate of return comes to 8.41%.
Future dividend growth:
The dividend growth rate for the terminal year has been computed as follows using the
sustainable growth formula as follows. The dividend payout ratio of the company is 0%. Hence,
the return on equity becomes the dividend growth rate.
g = b X ROE

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INVESTMENT ANALYSIS AND PORTFOLIO MANAGEMENT
2 stage dividend discount model:
V 0=∑
t =1
n D0 (1+ gS)t
(1+r ) + V n
(1+r)n
V 0= Dn+ 1
r −gL
Dn +1= D0 ( 1+gS ) n (1+gS )

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INVESTMENT ANALYSIS AND PORTFOLIO MANAGEMENT
To calculate the intrinsic value of share of a2 Milk Company Limited, the expected
dividends have been discounted by the required rate of return. The terminal value have also been
calculated based on the constant growth rate of equal to the risk free rate of 2.70%. The terminal
value has been discounted to the present value by the required rate of return and the sum of
present value of the terminal value and the expected dividend is considered as the intrinsic value
of share.
Recommendation:
The current market price of the shares of a2 Milk Company Limited is $14.68 while the
intrinsic value of each share is $41.59. As per the market efficiency theory, the market price of
shares always tends towards the intrinsic value. Hence the market price of the share will be rising
in future. Hence, it can be recommended for an investor to buy the shares of the a2 Milk
Company Limited at the present market price (Chandra, 2017).

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INVESTMENT ANALYSIS AND PORTFOLIO MANAGEMENT

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INVESTMENT ANALYSIS AND PORTFOLIO MANAGEMENT
References
Chandra, P. (2017). Investment analysis and portfolio management. McGraw-Hill Education.
Kevin, S. (2015). Security analysis and portfolio management. PHI Learning Pvt. Ltd..
Ltd, T. (2020). The a2 Milk Co Ltd (A2M) Quote | Morningstar. Morningstar.com. Retrieved 18
January 2020, from https://www.morningstar.com/stocks/xasx/a2m/quote
Yahoo is now a part of Verizon Media. (2020). In.finance.yahoo.com. Retrieved 16 January
2020, from https://in.finance.yahoo.com/quote/ALL.AX?p=ALL.AX