ASSIGNMENT SUBMISSION FORM

Course Name: Assignment Title: Submitted by: Group Member Name Shivdatta G. Ambe Anurag Verma Vamsi Duraibabu Prakash Aryal Karthik Kuchimanchi PG ID 61210400 61210048 61210194 61210573 61210633
Value Investing Liz Claiborne

Introduction:
Liz Claiborne, Inc. (NYSE: LIZ) is a fashion company founded in 1976 in New York City that designs and markets a wide range of women's and men's apparel, accessories and fragrance products under its own Liz Claiborne brand and under other owned and licensed brands. As part of the multi-brand portfolio strategy, LIZ has made several acquisitions over the past years. By 2005, its portfolio consists of 38 brands including Liz Claiborne New York, Mexx, Juicy Couture, Lucky Brand Jeans, Monet and Segrets. Most of these brands were acquired using a similar structure - initial upfront cash payment coupled with future contingent payments based on future earnings.

Asset Valuation Replacement Value Method

Current Assets Under the replacement value method, no discount is applied to the cash and marketable securities. Similarly, no discount is applied to the accounts receivable after adjusting for bad debt allowance. The deferred income tax is discounted to the present value using a rate of 9.68% (see Table 1 - WACC calculation)

As required by GAAP for the fashion/apparel industry, Inventory is reported at lower of cost or market value and the industry uses the FIFO accounting method. Although, LIFO accounting method is acceptable, firms are not allowed to combine LIFO accounting method with lower of cost or market valuation for tax purposes. Since, LIZ historical estimated of inventory value appear to be quite accurate, no discount is applied to the Inventory while estimating the replacement value As for the other current assets, a discount of 50% is applied to arrive at a conservative estimate of the replacement value. The replacement value of current assets is as shown in Table 2

Table 1: WACC Calculation

Asset Beta Levered Beta MRP R-Free Cost of Equity Debt Equity WACC 0.97 1.08 4.00% 6.00% 10.32% 10% 90% 9.68%

(Assuming tax rate = 35%) Table 2: Replacement value of Current Assets

Current Assets Cash and marketable securities Accounts Receivable Inventory Deferred Income taxes Other current assets Total Current Assets Discount Factor 1.0 1.0 1.0 0.91 (= 1/9.68%) 0.5 Replacement Value ($Mn) 393.4 432.1 541.1 46.59 45.7 $ 1458.89 Mn

Property, Plant and Equipment (PPE) To estimate the replacement value of PPE, a discount factor of 0.9 is used to calculate the
value for land and buildings whereas for Machinery& Equipment, Furniture& Fixtures and Leasehold improvements a discount factor of 0.85 is used to calculate the respective replacement values. The discount factors are applied the gross values of PPE

Table 3: Replacement value of PPE

Property & Equipment Land and Buildings Machinery and equipment Furniture and fixtures Leasehold improvements Accumulated Depreciation & Amortization Total Property and Equipment Discount Factor 0.9 0.85 0.85 0.85 0.0 Replacement Value ($Mn) 126.00 293.42 163.29 303.62 0 $ 886.325 Mn

Intangibles As of 2005, the book value of tangible assets is valued at $281 Mn. In the recent
acquisitions of Juicy couture and Enyce Holding LLC, the values of intangibles transactions were estimated to be $27.3 Mn and $27.0Mn respectively.

Value of Intangibles from SG&A: Cost of replication method Using this approach, the
value of Intangibles is estimated from the SG&A expenses from the last 5 years Year SG&A Sales SG&A/Sales 2004 1630.1 4632.8 0.35 2003 1419.7 4241.1 0.33 2002 1222.6 3717.5 0.33 2001 1080.5 3448.5 0.31 2000 909.1 3104.1 0.29

Average SG&A/Sales Ratio = 0.32

(Ave. SG&A/Sales) * Current Sales = $1502.58 Mn Assuming that half of this value creates intangibles, the value of intangible = $751.3 Mn If value of intangibles is calculated assuming 50% SGA and depreciating in a straight line over 4 years, the value of intangibles is calculated as follows
Year 50% of SG&A Dep. Value of SG&A 2004
815.05 815.05

2003
709.85 532.39

2002
611.3 305.65

2001
540.25 135.06

Value of Intangible = $1788.15 Mn

Calculation of Share price using AV method

Assets Current assets PPE Goodwill Intangibles Other assets Total assets Liabilities Current liabilities LT Debt Other non-current liabilities Deferred taxes Equity Value Shares Outstanding Share price 1458.89 886.325 755.7 1788.15 9.4 4898.47

637.6 476.6 40.8 45.13 1200.13 3698.33 108.7 34.02

Earnings Power Value (EPV) Method

Restructuring charges/sales ratio

2004 Restructuring charges 9.7 Sales 4632.8 Restructuring charges/Sales 0.21% Average restructuring charges/sales 0.21% 2003 -0.7 4241.1 -0.02% 2002 7.1 3717.5 0.19% 2001 15.1 3448.5 0.44%

SG&A Sales SG&A/Sales

2004 1630.1 4632.8 35.19%

2003 1419.7 4241.1 33.47%

2002 1222.6 3717.5 32.89%

2001 1080.5 3448.5 31.33%

2000 909.1 3104.1 29.29%

Average SG&A/Sales (from 2001 to 2004) = 33.22% We see that SG&A/Sales has been increasing steadily from 29.29% in 2000 to 35.19% in 2004. We believe that Liz will not be able to reduce its SG&A without affecting sales margins because Liz is using it to fuel its growth & buildup of intangibles such as brand value.

Income adjustment for business cycle

2004 10.85% 2003 11.10% 2002 10.49% 2001 9.62% 2000 10.46%

EBIT/Sales

EBIT/Sales was 9.62% in 2001 which saw the most of recession, hence as a conservative estimate We can adjust EBIT to be 9% of sales figure for calculating the adjusted income. (This EBIT/Sales computation has been done without considering Other income as it is fluctuating from year to year and is a small value) Operating income EBIT as reported without other income EBIT at 9% of sales Restructuring charges adjustment (using average restructuring charges/Sales ratio = 0.21%*4632.8) Growth SG&A = (average SG&A/Sales ratio)*(Increase in sales from 2003 to 2004 less increase due to exchange rate fluctuations, $95.4 million) EBIT adjusted 502.7 502.7 416.952

9.52

98.43162 524.90

Interest income(expense) Net income Adjusted net income, after tax of 35% EPV Debt EPV-Debt No of shares outstanding Share price

-32.20 492.70 320.26 4171.081 476.6 3694.481 108.7 33.99

EPV of Liz Claiborne comes out to be 4171.081 (Assuming inflation = 2%, real WACC = 7.68%) For computation of EPV we have not considered Other income as explained as it is a small value and fluctuating from year to year. Liz Claiborne doesnt appear to be a good investment opportunity based on both AV and EPV method.