Stock Valuation and Investment Analysis of Intel

Corporation and Texas Instruments: A Comparative

Assessment

Prepared by Melih Komuscu

Approved by

Dr. John Stowe

Department of Economics Ohio University

July 28, 2015

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TABLE OF CONTENTS

Introduction ………………………………………………………………………….. 2

Literature Review …………………………………………………………………… 2

Financial Aspects …………………………………………………………………… 4

Associated Business Risks ………………………………………………………. 17

Business Valuation Approaches and Models …………………………………. 19

Judgment of the Valuation Results ……………………………………………… 37

Future Outlook and Recommendations ………………………………………… 39

References …………………………………………………………………………… 42

Appendix ……………………………………………………………………………… 44

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1. INTRODUCTION

Providing an independent, professional business valuation is a critical step in wealth management

and succession planning for companies. Enterprise value and equity value are two common ways

that a business may be evaluated. The purpose of this research paper is to provide stock (equity)

valuation of the two main technology firms that are global suppliers of semiconductors, namely Intel

Inc (INTC) and Texas Instruments (TI), and offer investors buy or sell recommendation by using

absolute and relative valuation models. Intel is the world's leading semiconductor producer and has

been leading the industry since the inception of the personal computer. TI is the third largest

manufacturer of semiconductors worldwide after Intel and Samsung and the largest producer of

digital signal processors and analog semiconductors. Both companies are considered to be industry

peers dominating in the semiconductor and related device manufacturing. As any other company

investing in technological products, the both companies face certain business risks since they

operate in highly competitive industries. The cyclical industry in which Intel and Texas Instruments

operate may cause their profitability to fluctuate regardless of how successful they are in tailoring

their processors to new markets.

A comparative assessment of equity valuation of Intel Corporation and Texas Instruments

companies was performed in this research paper by employing both absolute and relative stock

valuation models. The paper starts with introduction of the both companies and provides an

overview of their business risks. Next, a brief literature is presented to discuss recent work on the

business valuation of the two companies. Then, financial conditions of the both companies are

discussed in a comparative manner. In the methodology part of the paper, I discussed in detail,

models which I built to estimate the stock price of the both companies. These stock price valuation

models include Discounted Dividend Valuation, Free Cash Flow model, Residual Income Model,

and valuation based on market multiples model. Since valuation involves one than one company,

both absolute and relative valuation methods are employed in the study. The final part of the paper

will discuss judgment for the valuation and make a buy or sell recommendation for the investors

who have shares of stocks of the both companies or for people going to invest in them.

2. LITERATURE REVIEW

A business valuation is a detailed financial analysis that gives an estimated range of what a

company is worth (Trugman, 2012). A business valuation might include an analysis of the

company's management, its capital structure, and its future earnings prospects, as well as the

market value of its assets. Business valuation is used to set the fair market value of the shares of a

business. It helps to know how much the business is worth. The business valuation analysis is

especially useful in various situations, such as a transaction (purchase or sale of a business), tax

reorganization, and integration of a new shareholder or in the context of litigation.

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Business valuation of a company can be performed by using different approaches (Zwilling, 2009).

One main approach is asset valuation. It focuses on a company's net asset value, or the fair-market

value of its total assets minus its total liabilities. Another way to look at valuation is market

approach, which is based on estimating a company’s earning potential based on theoretical

demand in the market. Another method is income valuation. The method, used extensively by

financial analysts, involves projecting a company’s future cash flows and discounting them, at some

rate, to arrive at their value in present dollars. Of all valuation approaches, the asset approach is the

most tangible. Overall, business valuation is a very challenging task for many reasons. Analysts

must cope with uncertainties related to model appropriateness and the correct value of inputs

(Trugman, 2012). An analyst’s final decision depends not only on the comparison of the estimated

value and the market price but also on the analyst’s confidence in the estimated value.

In financial markets, stock valuation is the method of calculating theoretical values of companies

and their stocks (Investopedia, 2015). The main use of these methods is to predict future market

prices, or more generally, potential market prices, and thus to profit from price movement. Stock

valuation aims to give an estimate of the intrinsic value of a stock, based on predictions of the future

cash flows and profitability of the business. Depending on whether stocks are judged as

undervalued or overvalued, buy or sale recommendations are advised to investors. In this regard,

valuation is the first step toward intelligent investing.

There are many different ways to value stocks. The key is to take each approach into account while

formulating an overall opinion of the stock. If the valuation of a company is lower or higher than

other similar stocks, then the next step would be to determine the reasons. The fundamental

valuation is the valuation that people use to justify stock prices (Investopedia, 2015). Most common

valuation methods are absolute and relative valuation (Pratt, 2008). Absolute valuation models

attempt to find the intrinsic or "true" value of an investment based only on fundamentals. Looking at

fundamentals simply means one would only focus on such things as dividends, cash flow and

growth rate for a single company. Valuation models that fall into this category include the dividend

discount model, discounted cash flow model, residual income models and asset-based models. In

contrast to absolute valuation models, relative valuation models operate by comparing the company

in question to other similar companies. These methods generally involve calculating multiples or

ratios, such as the price-to-earnings multiple, and comparing them to the multiples of other

comparable firms. For instance, if the P/E of the firm you are trying to value is lower than the P/E

multiple of a comparable firm, that company may be said to be relatively undervalued. Generally,

this type of valuation is a lot easier and quicker to do than the absolute valuation methods, which is

why many investors and analysts start their analysis with this method.

Both Intel Corporation and Texas Instrument companies was subject of many business valuation

studies in past, and also many finance web sources such as Morningstar, Yahoo Finance, and

NASDAQ provide current data for business valuation of the both companies. Morningstar lists only

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publicly traded Advanced Micro Devices (AMD) as a competitor for Intel. On the other hand, Yahoo!

Finance considers publicly traded Texas Instruments (TXN) and privately held Samsung Electronics

as competitors.

Intel currently derives approximately 50% of its valuation from the PC market (Forbes, 2015). The

company has been the dominant leader in the notebook and desktop processor and chipset market

for years, and currently accounts for more than 80% of the market. It is forecasted that Intel’s PC

market share may decline marginally over the next few years due to the entry of ARM based

players to intensify competition in the market. However, even if Intel’s market share in PCs declines

drastically, it is not expected to have a significant (>5-10%) impact on valuation for the company.

Intel Corporation is priced very attractively with a total value of $137.44 billion, only 6.76 times

higher than its latest quarterly net income plus depreciation (www.marketgrader.com).

Investment analysts recommend investors to have the TXN shares in portfolio for a number of

reasons, mainly high annual dividend ($0.1.24 in 2014) and growth history of the dividend payments

(http://www.stocktradersdaily.com). The company has paid higher dividends every year since it

started increasing its dividends in 2004 (Texas Instruments, 2015). Although that rate of increase

isn't likely sustainable, it shows company's commitment to its dividend in spite of the looming

investment tax law changes. Moreover, with a payout ratio of 52.1% in 2014, the company retains

more than half of its income to reinvest for future growth. By a discounted cash flow analysis, the

company looks to be worth around $55.9 billion, making its recent market price of $52.6 billion look

reasonable.

3. FINANCIAL ASPECTS

3.1. Intel Corporation

Intel Corporation (ticker symbol: INTC) was founded in 1968 and is based in Santa Clara, California.

The Intel Corporation designs, manufactures, and sells advanced integrated digital technology,

primarily integrated circuits and semiconductors, for industries such as computing and

communications. In 1971, Intel introduced the first microprocessor after several years of producing

semiconductor-based memory storage products, revolutionizing the shape of the global computing

industry. The company's most important products remain its microchips, which power a huge

number of the personal computers, tablets and smartphones around the world (Nasdaq, 2015).

However, it also manufactures a wide variety of different chipsets, memory solutions, mobile phone

components, software and services.

Currently Intel is the world's leading semiconductor producer and has been leading the industry

since the inception of the personal computer. The company also offers a wide range of

technological products for data processing, data storage and wired network connectivity products. It

develops and manufactures mobile communications components and offers software products for

endpoint security, network and content security, risk and compliance, and consumer and mobile

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security. The company sells its products primarily to original equipment manufacturers, original

design manufacturers, and industrial and communications equipment manufacturers in the

computing and communications industries. The Intel also invests significantly in research and

development (R&D), and the high R&D funding has allowed Intel to maintain its leadership position

in the semiconductor industry.

Although Intel's principal executives offices remain in California and the technology company is

incorporated in Delaware, its manufacturing and research facilities sprawl across the United States

and, indeed, the globe, with major operations in New Mexico, Arizona, Massachusetts, Ireland, and

China.

Intel Corporation is the world's largest semiconductor chip maker, based on revenue. In accordance

with recently published financial statements, Intel Corporation has Current Valuation of $146.33

billion (www.intc.com). The total revenue of the company in 2014 was $55.8 billion, a 6 percent

increase over the 2013 earnings. Total revenue of the company for the last quarter of 2014 was

reported as $14.7 billion, a % 1.3 percent decline compared to the Q3 earnings of 2014. Net income

of the company in 2014 was $11.7 Billion, nearly a 22 percent increase over the 2013 income

figures. On March 12, 2015, Intel lowered its 1Q15 revenue forecast due to “softer-than-expected

demand for business desktop PCs.” Lower-than-estimated inventory levels across the PC supply

chain also contributed to the lower revenue outlook. As a result of lower revenue expectations,

Intel’s share declined by 4% during early part of March 2015. In 1Q15, Intel’s (INTC) CCG (Client

Computing Group) segment reported revenue of $7.42 billion - a decline of 8% on a year-over-year

basis. Reduction in the global PC shipments, partially due to slow refreshment of Microsoft (MSFT)

Windows XP, was kept responsible for this segment’s negative growth. Macroeconomic and

currency fluctuations, especially in Europe (EZU), contributed to the decline as well. Financial

statements of the company for 2014 fiscal year indicate a 10.61% return on assets while the return

on equity resulted in 20.51% (Morningstar, 2015a). Earnings per share in Q4 of 2104 was $2.31, a

22 percent increase over the Q3 of 2013’s earning figure. Intel’s success has been reflected in its

stock price.

Intel makes every effort to use its manufacturing leadership to transform the company by

developing leadership products across a broad range of end-markets (Forbes, 2015). Majority of the

revenue is generated by the PC Client Group (PCCG) operating segment (% 62), followed by the

Data Center Group (DCG) operating segment (26 %), the Internet of Things Group (IOTG)

operating segment, the Mobile and Communications Group (MCG) operating segment, and the

aggregated software and services (SSG) operating segments (US Securities and Exchange

Commission, 2014).

Risk factors facing the company can be described as downturn in general business conditions or

the technology industry in particular, currency and commodity price fluctuation, disruption of the

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global supply chain and major shifts in business and consumer and behavior for tech products

(Morningstar, 2015a).

Following charts present some figures for the financial status of the Intel Corporation’s. The

company’s revenues are growing in recent years despite fluctuations. The net income of the

company peaked in 2011, declined slightly in the following 2 years but then picked again in 2014.

Source: Morningstar Investment Report for INTC (10 June 2015)

Source: Morningstar Investment Report for INTC (10 June 2015)

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Revenue (in billions) 38,826 35,382 38,334 37,586 35,127 43,623 53,999 53,341 52,708 55,780

0

10,000

20,000

30,000

40,000

50,000

60,000

Revenue (in billions)

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Net Income (in billions) 8.66 5.04 6.97 5.29 4.36 11.46 12.94 11 9.62 11.7

0

2

4

6

8

10

12

14

Net Income (in billions)

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Source: Morningstar Investment Report for INTC (10 June 2015)

Source: Morningstar Investment Report for INTC (10 June 2015)

Source: Morningstar Investment Report for INTC (10 June 2015)

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Earning Per Share (in dollars) 1.42 0.87 1.2 0.93 0.79 2.06 2.46 2.2 1.94 2.39

0

0.5

1

1.5

2

2.5

3

Earning Per Share (in dollars)

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

EBITDA (in billions) 17.22 12 13.97 12.31 10.75 20.68 23.88 22.48 20.88 23.89

0

5

10

15

20

25

30

EBITDA (in billions)

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Free Cash Flow (in billions) 9 4.84 7.62 5.72 6.65 11.48 10.19 7.85 10.02 10.22

0

2

4

6

8

10

12

14

Free Cash Flow (in billions)

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As reflection of the net income, the earnings per share were highest in 2011, and then increased

again after two years of slight drops. A similar trend was observed with the EBITDA figures. On the

other hand, free cash flow figures of the company were more stable during 2013 and 2104 after a

sharp decline in 2012.

Source: http://finance.yahoo.com (historical prices for the INTC shares)

As seen in the above figure, share prices of the company were stable between 2005 and 2010, with

an exception of s sharp decline in 2009. The prices have been in rising trend since that drop and

are standing around $32 currently.

3.2. TEXAS INSTRUMENTS (TI)

Texas Instruments Incorporated (Ticker Symbol:TXN) is one of the largest global semiconductor

manufacturers and electronics designers. The company generates more than 95% of its revenue

from semiconductors and the remainder from its well-known calculators. TI is the world's largest

maker of analog chips, which are used to process real-world signals such as sound and power. TI

also has a leading market share position in digital signal processors, used in wireless

communications, and microcontrollers used in a wide variety of electronics applications.

Over the past few years, TI has undergone a strategic transformation and as a result, today is a

company focused on Analog and Embedded Processing (Texas Instruments, 2015). These

continue to be some of the best opportunities inside of the semiconductor market, offering

compelling financial characteristics, growth, diversity and stability. TI has a leading market share

position in several chip segments, such as analog and digital signal processors. A key element of

0

10

20

30

40

50

60

Intel Corporation (INTC) Adj Close Shares between Jan 2010- June 2015

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TI's success has come from its massive global sales staff, which allows the firm to cross-sell its

extensive semiconductor product portfolio to existing customers.

TI’s business model is also carefully constructed around several advantages that are unique to it

(Texas Instruments, 2015). The company has the industry’s broadest portfolio of differentiated

analog and embedded processing semiconductors. It has s strong foundation of manufacturing

technology and low-cost production and industry’s largest market channels. Diversity and longevity

in their products and in the markets they serve put them in an advantageous position over its

competitors. These advantages have resulted in consistent share gains and free cash flow growth,

and they put us in a unique class of companies with the ability to grow, generate cash, and return

that cash to shareholders.

Revenue of the company in 2014 was $13.05 billion, up $840 million, or 7 percent, from 2013 due to

higher revenue from Analog and Embedded Processing (Morningstar, 2015b). Gross profit was

$7.43 billion, an increase of $1.06 billion, or 17 percent, from 2013 primarily due to higher revenue

and, to a lesser extent, a more favorable mix of products shipped. Gross profit margin was 56.9

percent of revenue compared with 52.1 percent in 2013. Operating expenses were $1.36 billion for

R&D and $1.84 billion for SG&A. R&D expense decreased $164 million, or 11 percent, from 2013

primarily due to savings from ongoing efforts across the company to align costs with growth

opportunities, including the previously announced wind-down of its legacy wireless products and

restructuring actions in Embedded Processing and Japan. R&D expense as a percent of revenue

was 10.4 percent compared with 12.5 percent in 2013. TI’s revenue in the June 2015 quarter was

$3.23 billion, up 3% sequentially but down 2% from the year-ago quarter and just below the

midpoint of the firm’s revenue forecast of $3.12 billion-$3.38 billion.

Following charts present trends in certain financial indicators of the Texas Instruments in recent

years. The company’s revenues are growing in recent years despite some irregularities. Net income

in 2014 was $2.82 billion, an increase of $659 million, or 30 percent, from 2013. EPS was $2.57

compared with $1.91 in 2013. EPS benefited $0.07 from 2013 due to a lower number of average

shares outstanding as a result of its stock repurchase program.

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Source: Morningstar Investment Report for TXN (10 June 2015)

Source: Morningstar Investment Report for TXN (10 June 2015)

Source: Morningstar Investment Report for TXN (10 June 2015)

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Revenues (in millions) 13,392 14,255 13,835 12,501 10,427 13,966 13,735 12,825 12,205 13,045

0

2,000

4,000

6,000

8,000

10,000

12,000

14,000

16,000

Revenues (in millions)

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Net Income (in billions) 2,324 4,341 2,657 1,920 1,470 3,228 2,236 1,759 2,162 2,821

0

500

1,000

1,500

2,000

2,500

3,000

3,500

4,000

4,500

5,000

Net Income (in billions)

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Earning Per Share (in dollars) 1.42 2.84 1.88 1.47 1.16 2.66 1.91 1.53 1.94 2.61

0

0.5

1

1.5

2

2.5

3 Earning Per Share (in dollars)

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Source: Morningstar Investment Report for TXN (10 June 2015)

Source: Morningstar Investment Report for TXN (10 June 2015)

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

EBITDA (in billions) TXN 4,555 4,853 4,763 3,540 2,916 5,427 4,012 3,319 4,146 5,198

0

1,000

2,000

3,000

4,000

5,000

6,000 EBITDA (in billions) TXN

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Free Cash Flow (in billions) 2,442 1,188 3,720 2,567 1,890 2,621 2,440 2,919 2,972 3,507

0

500

1,000

1,500

2,000

2,500

3,000

3,500

4,000 Free Cash Flow (in billions)

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Source: http://finance.yahoo.com (historical prices for the TXN shares)

3.3. Comparison of the Financial Data

In this part of the paper, the financial figures of the both data were compared. As noticed, the Intel’s

revenues have been significantly above those of the Texas Instruments over the last decade. One

interesting feature of the revenue figures is that while the Intel revenues are at upward trend since

2009, the revenues of TI indicated more stable growth.

Source: Morningstar Investment Reports for INTC and TXN (10 June 2015)

0

10

20

30

40

50

60

70

80

Texas Instruments Shares Adj Close

Adj Close TXI

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Intel 38,826 35,382 38,334 37,586 35,127 43,623 53,999 53,341 52,708 55,780

TXN 13,392 14,255 13,835 12,501 10,427 13,966 13,735 12,825 12,205 13,045

0

10,000

20,000

30,000

40,000

50,000

60,000

Revenues (in millions)

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Net income of the both companies also differs significantly. The net income fluctuates for the both

companies during the last 10 years. On the other hand, the net income of the Intel has been on rise

steadily since 2012 while the net income of the TI has been on downward trend during the same

period.

Source: Morningstar Investment Reports for INTC and TXN (10 June 2015)

With exception of 2011 and 2012, the earning per share (EPS) of the TI is significantly higher than

that of the Intel during the last 10 years.

Source: Morningstar Investment Reports for INTC and TXN (10 June 2015)

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Intel 866 504 697 529 436 1146 1294 1100 962 117

TXN 2324 4341 2657 1920 1470 3228 2236 1759 2162 2821

0

500

1000

1500

2000

2500

3000

3500

4000

4500

5000

Net Income (in millions)

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Intel 1.42 0.87 1.2 0.93 0.79 2.06 2.46 2.2 1.94 2.39

TXN 1.42 2.84 1.88 1.47 1.16 2.66 1.91 1.53 1.94 2.61

0

0.5

1

1.5

2

2.5

3

Earning per share (in dollars)

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Similarly, EBITDA figures significantly differ between the two firms. The EBITDA figures of the Intel

predominate during the last decade over those of the Intel.

Source: Morningstar Investment Reports for INTC and TXN (10 June 2015)

When the closing shares of the both firms are compared in the last 15 years, it noticeable that they

exhibit similar temporal trends. Despite some fluctuations, the closing shares of the both companies

are steadily rising since 2009. The upward trend with the Intel shares is especially remarkable since

2013.

Source: http://finance.yahoo.com (historical prices for INTC and TXN shares)

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Intel 1722 1200 1397 1231 1075 2068 2388 2248 2088 2389

TXN 4,555 4,853 4,763 3,540 2,916 5,427 4,012 3,319 4,146 5,198

0

1000

2000

3000

4000

5000

6000

EBITDA (in millions)

0

10

20

30

40

50

60

70

80

Sh

are

pri

ce i

n d

oll

ars

Trends in the Closing Shares of Intel and TXN

Adj Close TXN Adj Close Intel

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3.4. Position of the INTC and TXN in the Technology Industry and Sector

It is important to judge relative position of the both companies in their industry and sector. As stated

earlier, the both companies are leading semiconductor producers in the world. First financial

parameter to look at is dividend related figures as they stand currently. The dividend yield of the

both firms is higher than those of the industry and sector with the current figures and 5-year

average dividend. The growth rate of the dividends is also promising as compared to those of the

sector and industry. The payout ratio of the both companies is well-above those of the sector and

industry as well (Source:http://www.stocktradersdaily.com/stock-quotes).

(Source: www.investing.com)

With regard to the management effectiveness parameters, returns on equity and assets are

significantly above the sector and industry figures. In this regard, the TXN is leading over the INTC

as well.

TXN industry sector INTC

Dividend Yield 2.76 0.8 1.46 3.26

Dividend Yield - 5 Year Avg 2.15 1.04 1.38 3.18

Dividend 5 Year Growth Rate 22.47 8.7 20.21 9.95

Payout Ratio(TTM) 45.99 10.35 20.14 38.9

0

5

10

15

20

25

30

35

40

45

50 Dividend

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(Source: www.investing.com)

The sales of the both firms outweigh the figures given for the industry and sector. The EPS growth

rate is remarkable in the last 5 years along with the sales.

(Source: www.investing.com)

Return on Assets (TTM)

Return on Assets - 5 Yr.

Avg.

Return on Investment

(TTM)

Return on Investment - 5

Yr. Avg.

Return on Equity (TTM)

Return on Equity - 5 Yr.

Avg.

TXN 16.48 13.91 18.97 16.5 28.05 22.58

industry 1.83 -2.37 1.24 -4.09 -51.47 -14.32

sector 7.63 10.48 10.51 14.4 7.87 13.73

INTC 12.97 14.79 15.39 17.52 20.83 22.37

-60

-50

-40

-30

-20

-10

0

10

20

30

40

Management Effectiveness

Sales (MRQ) vs Qtr. 1 Yr.

Ago

Sales (TTM) vs TTM 1 Yr.

Ago

Sales - 5 Yr. Growth Rate

EPS (MRQ) vs Qtr. 1 Yr.

Ago

EPS (TTM) vs TTM 1 Yr.

Ago

EPS - 5 Yr. Growth Rate

Capital Spending - 5 Yr. Growth

Rate

TXN 5.6 7.4 4.58 38.64 35.5 17.51 -12.56

industry -6.11 9.69 -1.93 -44.87 0 11.14 -10.12

sector -0.17 1.27 9.85 4.1 0 14.97 13.91

INTC 0.13 5.66 9.73 8.7 26.47 24.5 17.7

-50

-40

-30

-20

-10

0

10

20

30

40

50

Growth Rates

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Finally, the profitability ratios of the both companies perform well as compared to those of the

industry and sector.

(Source: www.investing.com)

4. ASSOCIATED BUSINESS RISKS

As any other company investing in technological products, both Intel Corporation and Texas

Instruments companies face certain business risks since they operate in highly competitive

industries (Morningstar, 2015a and 2015b). Some of those risks are common to the both companies

while the each company has its own peculiar risks. The both companies operate in semiconductor

industry, which has deeply cyclical trends. Demand in up cycles is so high that chip manufacturers

have trouble keeping up. Similarly, if electronic sales, particularly PC sales, are slow, demand for

chips can plunge. The fact that the semiconductor industry is more impacted by the notion of

consumer demand more than corporate demand, also adds to the overall volatility.

4.1. Intel Corporation (Intel)

As stated in previous section, any decline in PC shipment will impact the revenues adversely. The

cyclical industry in which Intel operates will cause its profitability to fluctuate regardless of how

successful it is in tailoring its processors to new markets. Failure to anticipate and respond to

technological and market developments could damage its ability to compete. At the same time,

demand for its products is highly variable. In recent years, the company experienced declining

orders in the traditional PC market segment, which has been negatively impacted by the growth in

ultra-mobile devices such as tablets and smartphones. In other words, increasing demand for

tablets and smartphones had adverse impact for the PC market, resulting in less demand for

computer chips. In fact, Intel preannounced some rather disappointing news for the March quarter

of 2015. On point, revenues were likely $12.8 billion, plus or minus $300 million, compared to prior

Gross Margin (TTM)

Gross Margin - 5 Yr. Avg.

EBITD Margin (TTM)

EBITD - 5 Yr. Avg

Operating

Margin (TTM)

Operating

Margin - 5 Yr. Avg.

Pre-Tax

Margin (TTM)

Pre-Tax

Margin - 5 Yr. Avg.

Net Profit

Margin (TTM)

Net Profit

Margin - 5 Yr. Avg.

Effective Tax Rate

(TTM)

Effective Tax Rate - 5 Yr. Avg.

TXN 57.8 52.33 40.8 33.95 31.9 24.72 31.36 24.43 22.63 18.56 27.83 24.04

industry 7.23 8.36 0 13.85 -11.54 -14.97 -11.02 -16.3 -13.06 -18.73 16.1 19.48

sector 39.93 40.55 0 20.18 10.41 12.27 11.7 13.05 8.07 9.08 27.24 30.23

INTC 63.93 62.62 43.58 42.72 27.39 28.83 28.28 29.71 21.05 21.86 25.55 26.42

-30 -20 -10

0 10 20 30 40 50 60 70

Profitability Ratios

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guidance of $13.7 billion (Valueline, 2015). The main variable behind the reduction is weaker-than-

anticipated demand for personal computers on the corporate side, along with lower inventories

across the aggregate PC supply chain. Also, currency factors in Europe exacerbated the pressure.

The analysts think that any bad strategy by Intel will lead to AMD capturing market share in the PC

market. Any prolonged delay in process technology by Intel would allow other semiconductor

manufacturers to overwhelm Intel’s lead and or even surpass it. In general terms, the risk factors

that the Intel Corporation can face can be summarized as follow (Morningstar, 2015a). Changes in

product demand may harm financial results and are hard to predict

Failure to anticipate and respond to technological and market developments could harm its

ability to compete

Changes in the mix of products sold may harm financial results

Global operations subject us to risks that may harm results of operations and financial

conditions

Failure to meet production targets, resulting in undersupply or oversupply of products, may

harm its business and results of its operations

Having difficulties obtaining the resources or products it needs for manufacturing,

assembling and testing its products, or operating other aspects of our business, which could harm

its ability to meet demand and increase its costs

Changes in product demand, and changes in customers’ product needs, could negatively affect

competitive position of the company and may reduce its revenue, increase its costs, lower its gross

margin percentage, or may even require to write down its assets. In order to be competitive with its

rivals, the Intel Corporation maintains a successful R&D effort, develop new products and

production processes, and improve its existing products and processes ahead of competitors.

Although the R&D efforts are critical to success of the company, the R&D investments may not

generate significant operating income or contribute to its future operating results for several years

and such contributions may not meet its expectations or even cover the costs of such investments.

The company may be unable to develop and market new products successfully, and the products it

invests in and develop may not be well received by customers.

The risks described above are all business-related risks. Surely, there are other risks associated

with macro-economic conditions and political situation. Among the macro-economic risks, inflation,

reductions in economic growth, or recession, can be counted while the political risks may involve

restrictions on access to markets, confiscatory taxation, and expropriation of assets.

4.2. Texas Instruments (TI)

TI's biggest risk is exposure to the cyclical chip industry as any other semiconductor manufacturer

(Morningstar, 2015). Furthermore, relative to some peers like Linear Tech or Analog Devices, TI

has relatively greater exposure to more volatile end markets like PCs and smartphones. The firm

acquired National Semiconductor to expand its manufacturing capacity even further, but some risk

19 | P a g e

still exist that TI will be unable to generate enough analog chip growth, and cyclical downturns in the

industry may provide low business from time to time. Meanwhile, the analog chip market is

fragmented and based on proprietary designs, so market share shifts tend to be quite gradual.

When trends in the industry are taken into account, it can be argued that PC sales strength and

public cloud data center purchases may aid global semiconductor sales in 2015, offset by

weakening handset and tablet shipments and prices. On the other hand, growth in emerging

markets may further damp prices and margins, while regional regulatory issues may add to the

sales challenges. Memory markets probably will continue to benefit from a balanced supply-demand

environment.

Like other companies, TI is susceptible to macroeconomic downturns in the United States or abroad

that may affect the general economic climate and its performance and the performance of its

customers. Similarly, the price of its securities is subject to volatility due to fluctuations in general

market conditions (Texas Instruments, 2015). In general, business risk factors of Texas Instruments

Company can be summarized as follow:

Cyclicality in the semiconductor

Profit margins may be adversely affected in the future by a number of factors, including

decreases in shipment volume, reductions in, or obsolescence of inventory and shifts in

product mix.

Rapid technological change that requires developing new technologies and products.

Substantial competition that requires to respond rapidly to product development and pricing

pressures.

Intellectual property rights, and development and licensing new intellectual property.

A decline in demand in certain markets or sectors

Risks associated with international political, economic or other conditions.

Loss of or significant curtailment of purchases by its customers

Incorrect forecasts of customer demand

Availability and cost of raw materials, utilities, critical manufacturing equipment,

manufacturing processes and third-party manufacturing services.

Inability to timely implement new manufacturing technologies or install manufacturing

equipment

Changes in the financial markets.

5. BUSINESS VALUATION APPROACHES AND METHODS

In this research paper, since the valuation involves one than one company, both absolute and

relative valuation method are employed (Investopedia, 2015). In the relative valuation method, the

selected firms are valued by comparing standardized valuation metrics with those of similar

companies, and it is generally the starting point in peer comparison analysis. The peer group is

often made up of other firms in the same industry, but peers can also be chosen based on other

20 | P a g e

circumstances of the firm. Once the "peer group" is established and their business valuation is

performed, they are compared with the industry averages. This included certain financial metrics

and equity valuation metrics, including price-to-earnings, price-to-sales, price-to-book, price-to-free

cash flow and EV/EBIDTA among others. Aim here is to compare the company's multiples with

those of its peers to assess whether the firm is over or undervalued and determine where the target

firm falls in relation to the its peer firm to make an estimate of the value of an equity position in the

target firm and their relative position in the industry.

For the absolute valuation models, I attempted to find the intrinsic or "true" value of an investment

based only on fundamentals. Looking at fundamentals simply means I focused only focus on such

things as dividends, cash flow and growth rate for a single company. As part of the absolute

valuation models that fall into this category, I used dividend discount model, discounted cash flow

model, residual income models and asset-based models

In summary, the valuation part consists of following sections;

Explanation/justification of assumptions (discount rates, growth rates, CF’s)

DDMs, a single-stage one and a two-stage one

FCFF valuation and FCFE valuation

Residual Income valuation

Valuation based on market multiples

All the valuation computations were performed in Excel environment (Jackson and Staunton, 2001).

5.1. Intel Corporation

The procedures employed in the valuation section include actual data for the Intel Corporation from

Morningstar Investment Analysis reports dated 10 June 2015. The input data and assumptions also

vary based on the valuation method and will be explained where necessary.

5.1.1. Discounted Dividend Model (DDM) Valuation

The simplest model for valuing equity is the dividend discount model, namely a method to estimate

the value of a share of stock by discounting all expected future dividend payments. It is simple

procedure for valuing the price of a stock by using predicted dividends and discounting them back

to present value (Investopedia, 2015). The idea is that if the value obtained from the DDM is higher

than what the shares are currently trading at, then the stock is undervalued. The greatest

disadvantage of the DDM is that it is inapplicable to companies which do not pay dividends. The

basic DDM equation is;

TT

3

3

2

210

k1

D

k1

D

k1

D

k1

DP

21 | P a g e

In the DDM equation:

P0 = the present value of all future dividends

Dt = the dividend to be paid t years from now

k = the appropriate risk-adjusted discount rate

5.1.2. DDM Value with a Single Holding Period

Consider a one-year holding period, in this time frame, an investor will receive a dividend and the

price of the common stock at the end of the one year, both discounted back by the rate of return on

the common equity.

V0 = D1/ (1+r) + P1/ (1+r)

Where,

D1 is the expected dividend after 1 year P1 is the expected price after 1 year of holding period r is the required rate of return (discounting rate)

If an investor wishes to buy a share of stock of Intel and hold it for one year, the value of that share

of stock today would be V0 = $30.57. The expected share price of $34.87 is nearly %10 higher than

this figure.

5.1.3. Gordon Growth Model

The Gordon Growth Model (GGM), also known as the dividend discount model (DDM), is a method

for calculating the intrinsic value of a stock, exclusive of current market conditions. The model

equates this value to the present value of a stock's future dividends. One main disadvantage of the

Gordon Growth Model is that it assumes a constant dividend growth rate. In other words, it’s a

constant growth model, and that may be an acceptable estimate for a fairly high-yielding mature

company, but for stocks with lower dividend yields and higher dividend growth, this may not be

appropriate. There are two basic forms of the model: the stable model and the multistage growth

model.

0 10

D (1 g) DV

r g r g

22 | P a g e

Where;

V0 = Stock Value

D0 = Current dividend

g= dividend growth rate

r= required rate of return

D1 = expected dividend per share one year from now

The market price of $32.46, or approximately 8 percent, more than the Gordon growth model

intrinsic value estimate of $30.11. The Intel Corporation appears to be slightly overvalued, based on

the Gordon growth model estimate.

5.1.4. DDM Two-Stage Model

The DDM Two-stage model can offset the deficiencies of the GGM. It allows to estimate that the

dividend will grow at a certain rate for a number of years, and then slow down to another growth

rate after that. The two-stage DDM is useful because many scenarios exist in which the company

can achieve supernormal growth rate for few years, after which time the growth rate falls to a more

sustainable level. A possible limitation of the model is that the transition between initial abnormal

growth period and mature stage is abrupt.

The model assumes that the first n dividends grow at an extraordinary short-term rate of gs; after

time n, the annual dividend growth rate will change to normal long-term growth rate of gL. Using the

general expression of stock valuation and Gordon growth model, the value at time 0 of this model

is:

t nn0 S 0 S L

0 t nt 1 L

D 1 g D 1 g 1 gV

1 r 1 r r g

23 | P a g e

The INTC appears to have a dividend policy of recognizing sustainable increases in the level of

earnings with increases in dividends, keeping the dividend payout ratio within a range of 40 percent.

Considering the different growth rates, the Two-Stage DDM model seems a better choice for the

valuation process. It is forecasted that current dividend of $0.90 will grow by 10 percent

approximately per year during the next 4 years. Thereafter, the growth rate will decline to 9 percent

and remain at that level indefinitely. At the end of the year 5, the stock price is expected to rise to

$60.56 per share, which is significantly above the intrinsic value.

5.1.5. FCFF and FCFE valuations

Free cash flow (FCFF) to the firm is defined s the cash flow available to the company’s suppliers of

capital after all operating expenses (including taxes) have been paid and necessary investments in

working capital (e.g., inventory) and fixed capital (e.g., equipment) have been made (Pinto et. al

2010). In simple terms, FCFF is the cash flow from operations minus capital expenditures. A

company’s suppliers of capital include common stockholders, bondholders, and sometimes,

preferred stockholders. Free cash flow to equity (FCFE), on the other hand, is the cash flow

available to the company’s holders of common equity after all operating expenses, interest, and

principal payments have been paid and necessary investments in working and fixed capital have

been made. FCFE is the cash flow from operations minus capital expenditures minus payments to

(and plus receipts from) debt holders.

The FCFF or FCFE method is useful when certain conditions are met. One or more of the following

conditions should be satisfied in order to use the either valuation method (Pinto et. al, 2010).

The company does not pay dividends.

The company pays dividends but the dividends paid differ significantly from the company’s

capacity to pay dividends.

Free cash flows align with profitability within a reasonable forecast period with which the

24 | P a g e

analyst is comfortable.

The investor takes a control perspective. With control comes discretion over the uses of

free cash flow. If an investor can take control of the company (or expects another investor

to do so), dividends may be changed substantially; for example, they may be set at a level

approximating the company’s capacity to pay dividends.

FCFF can be determined either by Net Income Approach or EBIT and EBITDA approaches. In this

paper, I used the EBIT Approach.

Where;

EBIT= Earnings before interest

FCInv= Investment in fixed capital

WCInv=Investment in working capital

Dep= Deprecation

In this paper, I used FCF two-stage model. In this model, the first stage of rapid growth for n years

abruptly transitions to a second stage of constant growth that exists in perpetuity.

Free cash flow to equity (FCFE) is the cash flow available to the firm’s common stockholders once

operating expenses (including taxes), expenditures needed to sustain the firm’s productive capacity,

and payments to (and receipts from) debt-holders are accounted for.. Once we have the FCFF, we

can easily calculate the FCFE. Recall that the FCFF is the cash flow available to all firm capital

providers, whereas the FCFE is the cash flow available to only the common equity-holders.

Therefore, in the first formula, we subtract interest payments from FCFF because they are not

available to common equity-holders. We add net borrowing to FCFF because it is the cash flow

available to common equity-holders. (If the firm has preferred shareholders, then preferred issuance

amounts would also be added to get FCFE.)

Recognizing the relationship between FCFF and FCFE in the top formula, we can then calculate

FCFE by using the formulas that calculated FCFF from net income and CFO. Substitution into the

FCFF formulas results in formulas for the FCFE. We could also do this for the formulas for EBIT

and EBITDA if we wished.

For the valuation, following inputs from the Morningstar Investment Report for the Intel Corporation

(Morningstar, 2015a) were used, and some assumptions were made when necessary.

FCFE FCFF – Int 1– Tax rate Net borrowing

FCFF EBIT 1 – Tax rate Dep – FCInv – WCInv

FCFF EBITDA 1 – Tax rate Dep Tax rate – FCInv – WCInv

25 | P a g e

• Sales are $55,870 million

• Sales will grow at 6% annually for five years, and then at 4% annually thereafter

• EBIT is 14,900 million and is %26.6 of the sales

• Interest expense is $192 million and will increase proportionately with sales

• Depreciation expense is $8,641 million and will increase proportionately with sales

• Gross investment in plant and equip will be 40% of the increase in sales

• New investment in working capital will be 11,711 million and will increase 5 percent each year

• Net borrowing will be 20% of the new investment each year.

• The corporate income tax rate is 25.9%

• The before - tax cost of long-term debt is 5.0%

• The equity beta is 0.96, risk-free rate is 2.0%, and equity risk premium is 6%

• There are 4,736 million outstanding shares

26 | P a g e

Given the results above, Intel Corporation can use free cash flows to manage its capital structure to

finance its new investments and borrowings. The FCFF seems adequate to cover capital

expenditures. The FCFF, in part, can be used to make dividend payments to the company’s

shareholders. Moreover, since the company has high investments in fixed capital and working

capital, it will have a low FCFE and pay high dividends.

As noticed, the company’s profitability is increasing and generating high returns, and under such a

case the company would increase its net new investment in operating assets to compete in the

sector. The debt financing accompanying the new investments may also increase. While the

terminal value will stand as $45.59 at the year 6, the estimated equity value will be $42.1 with a

return rate of %13.79. Since the intrinsic value of the shares ($30.29) is slightly lower than the

current share price ($31.81), the Intel shares are slightly overvalued. An estimated equity value of

$42.1 also supports this argument

5.1.6. Residual Income Valuation

In the Residual Income Model (RIM) of valuation, the intrinsic value of the firm has two components:

- The current book value of equity, plus

- The present value of future residual income This can be expressed algebraically as;

27 | P a g e

Where;

B0 is the current book value of equity,

Bt is the book value of equity at time t,

RIt is the residual income in future periods,

r is the required rate of return on equity,

Et = net income during period t,

RIt = Et – rBt-1.

The formula simply says the value of common stock is equal to the book value of equity plus the

discounted stream of future residual income, where the discount rate is the required return on

common equity.

0 0

1

10 0

1

RI

(1 )

(1 )

t

tt

t t

tt

V Br

E rBV B

r

28 | P a g e

Book value per share is initially $ 2.74. Based on an ROE forecast of 12.36 percent, the ending

book value would be $ 9.18 at the end of the 5 year since the dividends are paid. The dividend

growth rate is derived from www.stocks-on-net.analysis.com for the INTC shares. The intrinsic

value of the share price would be $38.57 in year 5, which correspond to a 20 percent increase. We

can argue that INTC shares are undervalued because its ROE exceeds its cost of equity, which is

9.9%. The results indicate that the Intel earned enough to cover the cost of equity capital. As a

result, it has positive residual income and it is profitable both in accounting and economic sense.

The cost of equity here is calculated as;

Cost of Equity = (dividends per share/current market value of the stock)/growth rate of dividends

5.1.7. Multiple Market Ratios

A valuation multiple is simply an expression of market value relative to a key statistic that is

assumed to relate to that value. To be useful, that statistic – whether earnings, cash flow or some

other measure – must bear a logical relationship to the market value observed; to be seen, in fact,

as the driver of that market value. There are two basic types of multiple – enterprise value and

equity. The most common equity valuation approach involves examining ratios between an equity's

market price and an element of the underlying company's performance, whether that be earnings,

sales, book value, or something similar (UBS Warburg, 2001). In this study, I used equity multiple

market ratios.

Market multiplies can be robust tools that provide useful information about relative value (UBS

Warburg, 2001). They are simple to use, and easy use of the multiplies and their wide availability

make them an appealing method for assessing value. On the other hand, they have several

disadvantages. They do not allow to disaggregate the effect of different value drivers and do not

fully capture the dynamic nature of business and competition. They are also difficult to compare as

they differ for many reasons, not all relating to true differences in value.

The valuation is performed using the Market Multiplies as based on 10 June 2015 actual market

data appeared in the Morningstar for the Intel Company (INTC).

Forward P/E based on the current fiscal year P/E= Stock Price/Earnings per Share (EPS) P/E= 31.81/2.43 P/E= 13.09 Price to Sales (P/S) P/S= Share Price/Sales per Share P/S=31.81/15.90 P/S=2.8 Price to Book Value (P/BV) P/BV= Price/Book Value per Share (PVPS) P/BV= 31.81/11.58 P/BV= 2.74

29 | P a g e

Price to Operating Profit (P/OP) Given: Share: 4,736 million Operating Income=15,347 million Then, Operating Profit per share= 3.24 Share Price=31.81 P/OP= Share Price/Operating Share per Share P/OP=31.81/3.24 P/OP= 9.81 Price to FCFE (P/FCFE) Number of Shares= 4,376 million FCFE= 10,456 FCFE/Share= 2.21 Current Share (P)= 31.81 P/FCFE= 31.81/2.21 P/FCFE= 14.39 Price to Dividends (D/P) D/P= Annual Dividend/Stock Price per Share D/P= 0.90/31.81 D/P= % 2.82 Other EV Multiples EV/EBITDA Given Data in Actual Figures from the Intel Reports: Short-term debt: 1,604 Long-term debt: 12,107 Short-term Investment: 11,493 Cash & Cash Equivalency: 2,561 Trading Assets: 4,446 Total Equity= Stock price X Number of shares Total Equity: 31.81 x 4,736,000 Total Equity: 150,652,000 EV= 144,347 EBITDA= 23,896 EV/EBITDA= 6.04 EV/FCFF Given the actual data; EV= 144,347 FCFF=10,221 Then, EV/FCFF= 14.12

Comments about the Results of the Multiple Market Ratios

- The calculated P/E ratio is 13.09. This is 75.28% lower than that of the Technology sector,

and 82.99% lower than that of Semiconductor - Broad Line industry.

- Based on our analysis, the price to book indicator of Intel Corporation is roughly 2.91 times.

This low P/BV ratio generally implies that the firm is undervalued; it is often a good indicator

that the company may be in financial or managerial distress.

30 | P a g e

- Price to Sales ratio (P/S) FOR Intel is 2.8. This ratio is typically used for valuing equity

relative to its own past performance as well as to performance of other companies or

market indexes. In most cases, the lower the ratio the better it is for investors. Therefore,

the low P/S ratio puts the Intel in a very good position in terms of value of its equity.

- The company’s forward P/E based on the 2014 fiscal year is 12.90. It is slightly higher than

the higher than its trailing P/E but lower than the S&P 500's forward P/E of 15.20. Investors

therefore see more value in the company's future earnings but not as much as they see in

the market in general.

- EV/EBITDA is 6.04, which is lower than its benchmarks (for example Technology has 10.19

value). Therefore, the company is relatively undervalued.

5.2. Texas Instruments (TXN)

Both absolute and relative stock valuation models are also applied to the TXN shares. The resulting

tables and explanations are presented below.

5.2.1. DDM Value with a Single Holding Period

If an investor wishes to buy a share of stock of Texas Instrument (TXN) and hold it for one year, the

value of that share of stock today would be V0 = $49.64. The expected share price of $56.39 is

nearly %12 higher than this figure. A 12 percent profit during one year period can be considered a

wise investment. It is possible to argue that the TXN stock seems attractively priced today given the

forecast of next year’s price

31 | P a g e

5.2.2. Two-Stage DDM Valuation

In this case, we assume that the TXN shares experience 11 percent growth rates for a short period

of time before settling in on a lower but stable perpetual growth rate. At the end of the 5-year, the

TXN stock price is expected to be nearly $65, almost $8 above the intrinsic value.

The market price of the TXN shares is $51.80 as of June 10, 2015. In other words, the market price

of the company’s share is lower than the calculated value using the model; this means the stock

price is undervalued which could mean that our estimates of the growth of the company is higher

than what market perceives. It can also be interpreted that the TI needs to revise the growth

estimates of its shares in order to align the model value closer to the market price of the stock; this

is called the implied growth rate. Since the market stock price is marginally lower than the model

price, one could assume the stock price trading cheaper and can be a good investment to make.

It however should be noted that this type of model has its usage and applicability limited to

companies which have higher growth rates during 1st phase which is known and having stable

growth rates thereafter. Also the growth rates in 1st phase should be closer to growth rates in stage

two, so essentially if there is not much difference between the two stages; is when the model will

yield appropriate results.

32 | P a g e

5.2.3. Gordon Growth Model (GGM)

The current market price of $51.80, or approximately 8 percent, more than the GGM’s intrinsic value

estimate of $55.43. TXN shares appear to be slightly overvalued, based on the Gordon growth

model estimate. Moreover, as the estimated value is a bit higher than the market price, the

expected growth rate may be too high for a stable firm like Texas Instruments. The valuation here

also should be interpreted with caution as biggest drawback to the Gordon Growth Model is that it

assumes a constant dividend growth rate. On the other hand, considering the market value of

$49.03 on July 27, 2015, the TXN shares seem to be overvalued based on the GGM.

5.2.4. FCFF and FCFE Models

For the valuation, following inputs from the Morningstar Investment Report for the Texas

Instruments were used, and some assumptions were made when necessary.

• Sales are $13,045 million

• Sales will grow at 12% annually for five years, and then at 5% annually thereafter

• EBIT is 3,874 million and is %29.6 of the sales

• Interest expense is $192 million and will increase proportionately with sales

• Depreciation expense is $850 million and will increase proportionately with sales

• Gross investment in plant and equip will be 40% of the increase in sales

• New investment in working capital will be 2,342 million and will increase 5 percent each year

• The corporate income tax rate is 27.18%

• The before - tax cost of long-term debt is 5.0%

• The equity beta is 1.22, risk-free rate is 2.0%, and equity risk premium is 6%

• There are 1,040 million outstanding shares

33 | P a g e

34 | P a g e

Given the results above, Texas Instruments can use free cash flows to manage its capital structure

to finance its new investments and borrowings. The FCFF seems adequate to cover capital

expenditures. The FCFF, in part, can be used to make dividend payments to the company’s

shareholders. Moreover, since the company has high investments in fixed capital and working

capital, it will have a low FCFE and pay high dividends.

As noticed, the company’s profitability is increasing and generating high returns, and under such a

case the company would increase its net new investment in operating assets to compete in the

sector. The debt financing accompanying the new investments may also increase. While the

terminal value will stand as $63.37 at the year 6, the estimated equity value will be $59.03 with a

return rate of %16.23. Since the intrinsic value of the shares ($52.50) is slightly higher than the

current share price ($49.03), the Intel shares are slightly undervalued. An estimated equity value of

$59.03 also supports this argument. In other words, if Intel could lower their cost of equity the share

price would rise closer to the current market value.

5.2.5. Residual Income Model (RIM)

35 | P a g e

Book value per share is initially $ 5.43. Based on an ROE forecast of 16.29 percent, the ending

book value would be $ 11.91 at the end of the 5 year since the dividends are paid. The dividend

growth rate is derived from (www.stocks-on-net.analysis.com) for the TXN shares. The intrinsic

value of the share price would be $60.65 in year 5, which correspond to a 17 percent increase. We

can argue that the company was undervalued because its ROE exceeds its cost of equity (14.22%).

The results indicate that the Intel earned enough to cover the cost of equity capital. As a result, it

has positive residual income and it is profitable both in accounting and economic sense.

5.2.6. Multiple Market Ratios

The valuation is performed using the Market Multiplies as based on 10 June 2015 actual market

data appeared in the Morningstar for Texas Instruments (TXN) shares.

Forward P/E based on the current fiscal year P/E= Stock Price/Earnings per Share (EPS) P/E= 54.08/2.57 P/E= 21.04 Price to Sales (P/S) P/S= Share Price/Sales per Share P/S=54.08/12.57 P/S= 4.3 Price to Book Value (P/BV) P/BV= Price/Book Value per Share (PVPS) P/BV= 54.08/10.2 P/BV= 5.3 Price to Operating Profit (P/OP) Given: Share: 1,040 million Operating Income= 3,947 million Then, Operating Profit per share= 3.79 Share Price=54.08 P/OP= Share Price/Operating Share per Share P/OP=54.08/3.79 P/OP= 14.26 Price to FCFE (P/FCFE) Number of Shares= 1,040 million FCFE= 3,581 FCFE/Share= 3.44 Current Share (P) = 54.08 P/FCFE= 54.08/3.44 P/FCFE= 15.72 Price to Dividends (D/P) D/P= Annual Dividend/Stock Price per Share D/P= 1.24/54.08 D/P= % 2.3

36 | P a g e

Other EV Multiples EV/EBITDA EV= (Total Equity + Debt) – (Cash and Cash Equivalents) – (Short term investments) EV= 55,994 – 1,199 -2,342 EV= 52,453 EBITDA= 5,198 EV/EBITDA= 52,453 /5,198 EV/EBITDA= 10.09 EV/FCFF Given the actual data; EV= 52,453 FCFF= 3,581 Then, EV/FCFF= 14.64

Summary Table of the Market Multiplies and relevance to the Industry

Market Multipliers Intel (INTC) Texas Instruments (TXN) Industry Average

P/E 13.09 21.04 21.1

P/S 2.80 4.30 3.20

P/BV 2.74 5.30 4.27

P/OP 9.81 14.26 15.20

P/FCFE 14.39 15.72 13.95

D/P (%) 2.82 2.30 -

EV/EBITDA 6.04 10.39 10.56

EV/FCFF 14.12 14.64 15.39

- The calculated P/E ratio is 21.04. This figure almost approximates the P/E ratio of the

industrial average.

- Based on our analysis, the price to book indicator of Intel Corporation is roughly 5.3 times.

This figure is higher than that of the industrial average. The high P/BV ratio generally

implies that the firm is overvalued, but it does not indicate that the company is in financial or

managerial distress.

- Price to Sales ratio (P/S) for the TXN is 4.3. This ratio is typically used for valuing equity

relative to its own past performance as well as to performance of other companies or

market indexes. In most cases, the lower the ratio the better it is for investors, but the P/S

ratio of the TXN is higher than both those of the INTC and the industrial average. Therefore,

the relatively high P/S ratio puts the TXN in a questionable position in terms of value of its

equity.

- The company’s forward P/E based on the 2014 fiscal year is 17.69. This figure is slightly

higher than its trailing P/E (17.43) and the S&P 500's forward P/E of 15.20. Investors

37 | P a g e

therefore see less value in the company's future earnings but not as much as they see in

the market in general.

- EV/EBITDA is 10.39, which nearly approximate its benchmarks (for example the Industry

has 10.56 value). Therefore, the company is relatively overvalued.

6. JUDGEMENT OF THE VALUATION RESULTS

6.1. INTEL CORPORATIONS SHARES (INTC)

In this report, a number of methods were used for the valuation of the Intel Corporation’s based on

its current and historical financial statements.

As a general comment based on the company’s financial statements, we can state that Intel

Corp.'s net revenue, operation income, income before taxes, and net income declined from

2012 to 2013 but then increased from 2013 to 2014.

With the current data, return for equity of Intel is 20.51%. For most industries Return on

Equity between 10% and 30% are considered desirable to provide dividends to owners and

have funds for future growth of the company.

Intel’s return on asset is currently 12.70% (as of December 2014). A low ROA typically

means that a company is asset-intensive and therefore will needs more money to continue

generating revenue in the future.

The calculated P/E ratio is 13.09. This is almost 75% lower than that of the Technology

sector, and 82% lower than that of Semiconductor - Broad Line industry.

Based on our analysis, the price to book indicator of Intel Corporation is roughly 2.74 times.

This low P/BV ratio generally implies that the firm is undervalued. A ratio of 2.91 (bigger

than 1.0) indicates that the firm is creating value for its stockholders.

Price to Sales ratio (P/S) for Intel is 2.91. This ratio is typically used for valuing equity

relative to its own past performance as well as to performance of other companies or

market indexes. In most cases, the lower the ratio the better it is for investors. Therefore,

the low P/S ratio puts the Intel in a very good position in terms of value of its equity. But on

the other hand, the low P/S ratio indicates a sluggish sales growth. This price is small

because Intel has a significantly higher amount of shares outstanding than its competitors,

while increasing the Price/Sales ratio.

The company’s forward P/E (based on the December 2014) is %12.90. It is slightly higher

than its trailing P/E but lower than the S&P 500's forward P/E of 15.20. Current P/E ratio

stands as %11.88. Investors therefore can see more value in the company's future earnings

but not as much as they see in the market in general.

From a value perspective, we look at how much bigger the company's market capitalization

is than its latest operating profits after subtracting taxes. By this measure Intel Corporation

is priced very attractively with a total value of $156.38 billion, only 7.72 times higher than its

latest quarterly net income plus depreciation.

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Intel’s EBITDA is around 23.9 billion, which puts the company in a top position among

related companies in the sector.

The market price of $32.46, or approximately 8 percent, more than the Gordon growth

model intrinsic value estimate of $30.11. The Intel Corporation appears to be overvalued,

based on the Gordon growth model estimate, but this figure should be interpreted with

caution due to inherent assumptions in the GGM.

The FCFF seems adequate to cover capital expenditures. The FCFF, in part, can be used

to make dividend payments to the company’s shareholders. Moreover, since the company

has high investments in fixed capital and working capital, it will have a low FCFE and pay

high dividends. While the terminal value will stand as $34.94 at the year 6, the estimated

equity value will be $42.1 with a return rate of 2.55%. Since the intrinsic value of the shares

($34.83) is slightly higher than the current share price ($32.47), the Intel shares are slightly

undervalued. On the other hand, using the $42.1 estimated equity value. Intel (INTC)

shares are overvalued. In other words, if the Intel could lower their cost of equity the share

price would rise closer to the current market value.

4.2. TEXAS INSTRUMENTS SHARES (TXN)

As a general comment based on the company’s financial statements, we can argue that

financial figures are indicating a healthy growth of the company in recent years. Net

revenue, operation income, income before taxes, and net income have been on rise since

2013.

As indicated in Morningstar report data published in June 10, 2015, return for equity (ROE)

of the TXN shares is 26.62%. For most industries Return on Equity between 10% and 30%

are considered desirable to provide dividends to owners and have funds for future growth of

the company. The industry ROE was 10.2% (as of June 10, 2015), much below the TXN

figure.

TXN’s return on asset is currently 15.39% (Morningstar Report of June 10 2015). It is not a

quite high figure but still above that of the INTC. The company is not very asset-intensive

but still needs more money to continue generating revenue in the future.

The calculated P/E ratio is 21.04. This figure almost approximates the industry average and

is well above that of the INTC.

Based on our analysis, the price to book indicator of Intel Corporation is roughly 5.3 times.

This high P/BV ratio generally implies that the firm is overvalued. A ratio of 2.91 (bigger

than 1.0) indicates that the firm is creating value for its stockholders.

Price to Sales ratio (P/S) for the TXN is 4.3. This ratio is typically used for valuing equity

relative to its own past performance as well as to performance of other companies or

market indexes. In most cases, the lower the ratio the better it is for investors. Even though

the high P/S ratio does not put the Intel in a very good position in terms of value of its

equity, it indicates a rapid sales growth. This price is relatively higher because the TXN has

a relatively lower amount of shares outstanding than its competitors.

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The company’s forward P/E based on the 2014 fiscal year is 17.69. It is higher than both its

trailing P/E and the S&P 500's forward P/E of 15.20. Investors therefore see more value in

the company's future earnings but not as much as they see in the market in general.

Intel Corporation's stock is inexpensive relative to "optimum" P/E ratio of 15.27, the level

that could be justified by the company's EPS growth rate.

Texas Instrument’s EBITDA is around 5.2 billion, which puts the company in a top position

among related companies in the sector after the Intel and Taiwan Semiconductor

Manufacturing Companies.

The current market price of $49.03 (24 July 2015), or approximately 10 percent, less than

the Gordon growth model intrinsic value estimate of $55.43. The Intel Corporation appears

to be undervalued, based on the Gordon growth model estimate.

The FCFF seems adequate to cover capital expenditures. The FCFF, in part, can be used

to make dividend payments to the company’s shareholders. Moreover, since the company

has high investments in fixed capital and working capital, it will have a low FCFE and pay

high dividends. While the terminal value will stand as $63.37 at the year 6, the estimated

equity value will be $59.03 with a return rate of %13.79. Since the intrinsic value of the

shares ($52.50) is slightly higher than the current share price ($49.03 – July 24, 2015), the

TXN shares are slightly overvalued. This conclusion is also supported by the estimated

equity value of $59.03. In other words, if Texas Instruments could lower their cost of equity

the share price would rise closer to the current market value.

7. FUTURE OUTLOOK & RECOMENDATIONS

Semiconductor manufacturing is inherently capital-intensive sector, and therefore it requires

methodical planning and implementation to keep the production cost at a reasonable level to be

cost effective and competitive. Intel accomplished cost-effective chip manufacturing through

investments in the latest process equipment technologies. Intel’s lead in process technology

benefits from considerable R&D expenses (20% of revenue on average) and this rate must continue

to uphold its advantage. The analysts argue that there needs to be strong demand via diversified

products that can be sold at high margins. Intel achieved high revenue with its massive research

and development budget that averaged $10.7 billion annually from 2012 to 2014.

I feel that despite the fact that Intel shares have fluctuating trends in recent months, it still keeps a

buy position. Although investors worry about the mixed growth record based on the Company's

recent reports, Intel Corporation still has strengths in several areas, such as its revenue growth,

largely solid financial position with reasonable debt levels by most measures, notable return on

equity, reasonable valuation levels and solid stock price performance. Stock analysis reports

indicate that Intel shares are now ranked to be market performers in the year ahead (Alan, 2015).

Intel stock has lost substantial value over the past three months since April 2015. While downward

pressure may persist in the PC industry, if they decide to buy, investors may be rewarded with

above-average total returns out to 2018-2020, with solid dividend advantages.

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Meanwhile, Intel management is taking right moves to allow Intel to maintain its dominant position in

computer processors in recent years. It has made considerable effort to break into smartphone and

tablet processors, which has traditionally been the stronghold of ARM, and even paid $1.4 billion to

acquire Infineon's wireless connectivity chip business in 2011 to support the endeavor. In addition,

Intel acquired antivirus and security software maker McAfee for $6.7 billion in 2011, with the vision

of adding security features to its chips and hardware. Just recently, Intel Corp. agreed to buy Altera

Corp. for $16.7 billion to defend its presence in data centers, forging a deal that will add to a record

year for industry consolidation (Bloomberg, 2015). Intel said in the statement. “The combination is

expected to enable new classes of products that meet customer needs in the data center and

Internet of Things market segments” (Bloomberg, 2015).

Since the start of 2008, Intel's annual revenue has increased by 59% while adjusted earnings nearly

tripled. During the same period, fellow sector Texas Instruments (TI) doubled its earnings on 25%

higher sales, trailing far behind Intel on both counts. Intel's only serious head-to-head rival in the PC

chip market, Advanced Micro Devices (NASDAQ:AMD), saw sales fall 5% while its earnings stayed

firmly in the red (source: www.fool.com). The analysts think that Intel is poised to start building a

higher current ratio again. The company has been investing heavily in new manufacturing facilities

in recent years, sacrificing dividend growth and strong cash balances for a toehold in the mobile

chip market. INTC's debt-to-equity ratio is very low at 0.24 and is currently below that of the industry

average, implying that there has been very successful management of debt levels

(ww.thestreet.com). Compared to other companies in the Semiconductors & Semiconductor

Equipment industry and the overall market, INTEL CORP's return on equity exceeds that of both the

industry average and the S&P 500.

Some analysts think that price target for the INTC should be lowered from $36 to $30 and

recommend the current shares to hold (www.seekingalpha.com). They think that the stock might

recover following the investor meeting in Q4 of 2015. Actually there are a number of issues that

worry the analysts regarding the INTC. Recent acquisitions that weren't popular among the

shareholder ranks, contraction in the PC market in 2015, slow growth in the enterprise segment and

mobile were among them. They also think that the EPS figures of the INTC could perform slightly

better if in the event Intel is able to close the Altera deal prior to year-end, and is able to combine

Altera earnings with Intel earnings. The analyst forecast EPS range to be $2.32 to $2.41 and price

target range as $29.95 to $31.10 for the next year.

On the other hand, a report appeared in Investopedia in May 2015 warns investors about the Intel

stocks, arguing that the stocks may fall due to several reasons. First is the weak PC market. Intel

managed to grow its PC chip unit volume by 6% year over year during the first quarter, the average

selling price of its PC chips declined by 13%. Secondly a refocused AMD could increase its market

share as it AMD plans to launch products based on a completely new core called Zen. Lastly,

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competition in servers may force Intel to cut its prices to fend off this competition with IBM, and its

stock price may decline as a result.

Despite all those facts, it is my view that Intel (INTC) is a great stock to buy due to the recovering

PC market. Even though the mobile growth is still a worry, Intel is still poised to be a portfolio and is

also attractively priced.

With respect to the Texas Instruments, both economic and financial indicators are promising a

bright outlook. The reports indicate that considering the strong earnings growth of 45.45% and other

important driving factors, TXN shares have surged by 36.15% over the past year, outperforming the

rise in the S&P 500 Index during the same period (TheStreet, 2015). The net income growth

(36.6%) from the same quarter one year ago has significantly exceeded that of the S&P 500 and

the Semiconductors & Semiconductor Equipment industry. When compared to other companies in

the Semiconductors & Semiconductor Equipment industry and the overall market, TI’s return on

equity exceeds that of both the industry average and the S&P 500. Despite currently having a low

debt-to-equity ratio of 0.52, it is higher than that of the industry average. Despite the fact that TXN's

debt-to-equity ratio is mixed in its results, the company's quick ratio of 1.67 is high and

demonstrates strong liquidity. Texas Instruments has improved earnings per share by 45.5% in the

most recent quarter compared to the same quarter a year ago. Although the company has reported

somewhat volatile earnings recently, it is poised for EPS growth in the coming year. During the past

fiscal year, TI reported lower earnings of $1.50 versus $1.87 in the prior year. This year, the market

expects an improvement in earnings ($1.72 versus $1.50).

As of July 27, 2015, the TXN shares stand at $49.03. I think it is a good time for the investors to

move forward and buy since the TXN shares have come to reasonable levels. Those who have

already invested in the TXN shares should hold their shares, and it is certainly not a good time to

sell their shares. In other words, the TXN stock seems attractively priced today given the forecast of

next year’s price. Actually, these types of recommendations based on the valuation are a bit

subjective and time-variant. For example, considering the TXN share prices in June 10, 2015 when

the Morningstar Investment Report is published, the shares were not attractive to buy based on the

valuation reports which indicated overvaluation. The analysts also raised their value estimate for the

TXN to $54 per share from $52, based solely on an adjustment to their cost of equity assumptions.

Yahoo Finance expects $55.0 per share by the next year. Also 1% revenue decline for TI shares in

2015 is expected. In the longer-term, average annual revenue growth of 4% per year from 2016 to

2019 is expected. Even though the analog chip growth is expected at 5% per year over the next five

years, it is expected that the firm's other segment will decline in the long term and lessen the TI’s

total revenue growth. Many analysts, however, are positive on TXN shares given the firm is building

competitive advantages with its leading analog market share, 300 mm manufacturing strategy,

counter-cyclical capacity investments, unmatched manufacturing and product development scale,

large sales force and portfolio cross-selling capabilities (http://www.cheatsheet.com/stocks/7-

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important-stock-recommendations-of-big-banking-analysts). They feel these strengths outweigh the

fact that the company shows weak operating cash flow.

I think that TI can be a solid choice for value investors looking for good dividend payouts over the

next few years. However, investors should pay attention R&D spending and innovations of the

company as a future challenges that may affect their portfolio.

REFERENCES

Hitchner J.R (2003). Financial Valuation, Applications and Models 3rd

Edition, Wiley Finance

House, A.G. (2015). Intel NDQ-INTC Research Report, Value Line Publishing LLC.

Investopedia (2015). Relative Valuation Models. Retrieved from

http://www.investopedia.com/terms/r/relative-valuation-model.asp

Jackson, M. and Staunton, M.(2001). Advanced Modeling in Finance using Excel and VBA. John

Wiley & Sons, Ltd, Chichester, West Sussex PO19 1UD, England

Jordan, B.,Miller, T., and Dolvin, D. (2011). Fundamentals of Investments with Stock-Trak Card 6th

edition, McGraw-Hill Higher Education, ISBN: 0077457641

Morningstar (2015a) INTC Morningstar Investment Details Report - 10 June 2015. Retrieved from

http://www.morningstar.com/stocks/XNAS/INTC/

Morningstar (2015b).TXN Morningstar Investment Details Report (10 June 2015). Retrieved from

http://www.morningstar.com/stocks/XNAS/TXN/

Pinto, J.E., Henry, E., Robinson, T.R, and Stowe, J.D. (2010).Equity Asset Valuation, John Wiley &

Sons, Inc., 2nd

Edition, ISBN-13 9780471571439

Pratt, S.P (2008). Valuing a Business, 5th Edition: The Analysis and Appraisal of Closely Held

Companies (McGraw-Hill Library of Investment and Finance) 5th Edition

Texas Instruments (2015). 2014 Annual Report. Notice of 2015 Annual Meeting & Proxy Statement.

Texas Instruments Incorporated, Dallas, TX

TheStreet(2015). The Street Quant Rating Report for the TXN Shares, Wall Street, New York, USA

Trugman, G.R (2012). Understanding Business Valuation: A Practical Guide to Valuing Small to

Medium Sized Businesses, Fourth Edition, 2012

UBS Warburg (2001). Valuation Multiples: A Primer, Global Equity Research, London, UK.

Zwilling, Martin (2009). How to value a young company, Forbes

Web Sources:

http://www.bloomberg.com/news/articles/2015-06-01/intel-buys-altera-for-16-7-billion-as-chip-deals-

accelerate

http://cfatutor.me/2013/07/08/dividend-discount-model-ddm/

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http://www.cfainstitute.org/learning/products/publications/inv/Pages/investments_lecture_kit.aspx

http://www.cheatsheet.com/stocks/7-important-stock-recommendations-of-big-banking-analysts

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valuation-by-more-than-10/

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http://www.stocktradersdaily.com/stock-quotes/intel-INTC.html

http://www.stocktradersdaily.com/stock-quotes/texas-instruments-TXN.html

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9b8bc41462481e651ee6b5

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https://www.stock-analysis-on.net/NASDAQ/Company/Texas-Instruments-Inc

http://ycharts.com/companies/INTC

http://ycharts.com/companies/TXN

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APPENDIX

This Appendix has ten years of financial statements and other financial information for Intel

Corporation and Texas Instruments. The data are derived mainly from Morningstar, NASDAQ

Company Reports, and Yahoo Finance. Additional financial ratios, closing stock prices

(adjusted for dividends) are also included from January 2000 to June 2015. The adjusted

stock prices are obtained from Yahoo Finance.

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