Appendix A. Instructions
After reading these instructions you will be directed to an Excel spread sheet with financial profiles of actual unidentified firms from the drug and chemical industries. Please save the spread sheet to your desk top or other convenient location before responding to this instrument. You will be asked to provide share price forecasts for these firms, after which you will be asked some background questions. Once you have completed all items, please return the saved and completed Excel spread sheet as an email attachment. Use the email address contained in the email from which you received these instructions.
Before clicking on the Excel spread sheet it is important that you thoroughly read the instructions contained in the remainder of this Word file. Throughout this exercise you will be given information for YEARS ONE and TWO and be asked to make percentage price change forecasts for the one year period from the end of YEAR TWO to the end of YEAR THREE for each of the chemical and drug firms profiled in the spread sheet. Your forecasts and other responses are strictly confidential. This information will be available only to the researchers. Please do not discuss your responses with others. In making your forecasts use only the information contained in the attachments. These instructions are in 3 parts, [A], [B], and [C].
Part [A] provides a brief summary of the general economic conditions for the drug and chemical industries as reported in the financial press around the middle of YEAR THREE. You will also be given median financial ratios for the 32 firms selected from the drug industry and the 32 firms selected from the chemical industry. For each industry, 16 firms will have values for these ratios greater than the medians, and 16 will have values less than the medians. Firm specific values of these ratios will be in the form of financial profiles in the Excel spread sheet. Your observation of these profiles in conjunction with the other information provided in this exercise should form the basis of your one-year percentage price change forecast for each firm. Part [B] has instructions for entering your forecasts on the spread sheet.
Part [C] is a glossary defining the informational items that you will encounter in part [A] of these instructions. Most of these items are included in the financial profiles of the chemical and drug firms. If you are familiar with all of the information provided in Part [A], you may skip Part [C] and go directly to the Excel spread sheet. When working through the Excel spread sheet it is very important that you follow the instructions in Part [B]. At anytime you may refer to any part of the instructions in this Word document. You may use Columns E through L of the spread sheet to make calculations. Do not alter any of the data given in the cells of the spread sheet. If you choose to make calculations in Columns E through L, please include them in the saved spread sheet that you will return as an email attachment.
PART [A]: ECONOMIC CONDITIONS AND MEDIAN RATIOS
The information in this section is abstracted from The Conference Board, the Standard and Poor’s (S&P) Stock Reporter, and Wilshire Associates and pertains to the middle of YEAR THREE.
Industrial production fell steeply during this period, while employment continued to decline. Real GDP growth slowed to a 1.8 percent average annual rate in the first half of YEAR THREE, down from an annual rate of 2.3 percent in the second half of YEAR TWO. Taken together, the behavior of the composite indexes suggests that the economy is unlikely to improve in the near term.
The Wilshire 5000 Total Market Index (full-cap) is a performance measure of the U.S. stock market. This index increased by approximately 4 percent from the end of YEAR ONE to the end of YEAR TWO. However, this index declined by approximately 39 percent from the end of YEAR TWO to the end of YEAR THREE.
Housing and automobile market slowdowns will continue to hinder demand for chemicals into YEAR FOUR. The annual production by the chemical industry, as measured by the Federal Reserve’s production index for chemicals and related products, is expected to continue to rise sluggishly in YEAR THREE. Chemical industry output in YEAR TWO was unchanged from YEAR ONE. The producer Price Index for chemicals and related products in August of YEAR THREE was at a near record high, up 23% from a year earlier. In short, input costs are expected to be expensive, volatile, and driven by swings in energy prices.
Although drug firms had fairly strong sales and earnings for the third quarter of YEAR THREE, subsequent performance is expected to be weaker based on less favorable foreign exchange, poor new product flow and the soft economy. Additionally, drug firms will face tougher environments on the regulatory and political fronts. Key concerns include R&D productivity, and clinical trial risks. Leading drug firms have been affected by negative clinical outcomes on existing and pipeline products. Despite near-term uncertainties over pricing and patent expirations, long-term prospects should be enhanced by demographic growth in the elderly.
Median Ratios for the 32 Drug and 32 Chemical Firms:
The median Beta and average number of shares outstanding across the two years for the 32 Chemical Firms are 1.22 and 71.2 million, respectively. These figures for the 32 Drug Firms are 0.90 and 93.0 million, respectively. Of the 64 firms that you will observe, over 50 had decreases in their share prices from the end of YEAR TWO to the end of YEAR THREE. The median price change was −40 percent. No firm had an increase as large as 40 percent, and no firm had a price change as low as −90 percent.
The financial profiles that you will observe may not necessarily contain all of the above informational items. However, each item is covered in the glossary and addressed in the debriefing questionnaire that contains the background questions at the end of the Excel spread sheet.
PART [B]: SPECIFIC INSTRUCTIONS FOR COMPLETING THE EXCEL SPREAD SHEET
After clicking on the link to access the Excel spread sheet, save it to your desk top or other convenient location. Next, open the Excel spread sheet and you will see a financial profile of a firm from the chemical or the drug industry. After observing this information make sure your cursor is on cell [C23] where you will enter your first percentage price change forecast. Your forecasts will always be entered in column ‘C,’ and in the empty cell to the left of the cell with the word PERCENT. (The format of your forecasts is covered in the next sub-section.) Next, hit the ‘Page Down’ key on your keyboard to take you to the next screen.
The excel spread sheet was prepared on a Dell desk top computer. The view setting is zoom custom 150%. This setting allows the user of a similar computer to view 23 rows and 12 columns, or one profile per screen. This setting also allows one to arrive at the cell in which to enter the next forecast by just hitting the ‘page down’ key. The spread sheet may not be viewable in this manner on certain other computers such as laptops. In such cases it may be necessary to scroll down a few rows to locate the cell to enter the next forecast. Alternatively, you can adjust the custom zoom setting to show 23 rows per screen. For example, 110% may be the appropriate setting for certain laptops.
The firms are clustered by industry. You will make a total of 64 forecasts. Please make sure that none are skipped. The last forecast is made in cell [C1472]. After your last forecast is entered, please follow the instructions for answering the background questions in the debriefing questionnaire portion of the spread sheet. After these questions are answered, please return the saved and completed Excel spread as an email attachment. Additionally, save a copy of your completed spread sheet for about two weeks.
Forecast Format. Please enter your forecasts in the empty cell to the left of the cell with the word PERCENT. All forecasts must be entered as whole numbers. For example, if you forecast the one year percentage price change for a given firm to be twelve percent, your entry should be 12. DO NOT enter 12%, DO NOT enter 0.12. Additionally, do not make entries such as 12.6, enter only whole numbers (i.e., round 12.6 to 13 and enter 13). If you think the price will decline by twelve percent, enter −12; DO NOT use any of the following formats: −12%, −0.12, (−12), −(12)%, (0.12), (12%), etc. Again please use only whole numbers, no fractions, words, decimals, etc. In Sheet 2 of the spread sheet is a sample profile for a fictitious firm to show how your forecasts must be entered.
The next section is Part [C], the glossary. Please refer to it as needed. If it is not necessary for you to use the glossary, please click on the Excel spread sheet that you saved and start making your forecasts. You may return to the glossary or any other part of the instructions in this Word document at anytime during this exercise.
PART [C]: GLOSSARY
Firm No. This is a nondescript code number to enable the researchers to identify the firm.
Beta. This statistic indicates the volatility of a stock’s price. A Beta greater than 1 indicates higher price volatility than that of the stock market in general; lower than 1 indicates relative price stability. A negative Beta indicates price movement in a direction opposite of the market.
Average No. of shares. The number of shares of common stock held by investors (i.e., shares outstanding) at the end of YEAR ONE plus this number at the end of YEAR TWO, divided by two.
The following items are computed on a per share basis. For example, earnings per share are net income divided by the average number of shares.
Price. The last quoted price of a share of common stock as of the end of the year.
Earnings. This performance measure is income for the year divided by the average number of shares of common stock outstanding (i.e., earnings per share).
Cash Flow. This measure is net income minus preferred dividends and plus non-cash charges (e.g., depreciation) divided by the average number of shares of common stock outstanding (i.e., cash-flow per share). Cash flow is similar to the difference between cash received and cash spent from operating a firm’s business.
Dividends. This figure represents the amount of cash a firm has distributed to common shareholders during the year on a per share basis.
The following items are dollar amounts taken from the year-end balance sheets and are also presented on a per share basis; i.e., the amounts reported by the firm on the balance sheet are divided by the average number of common shares outstanding.
Cash. The year-end amounts of currency and other items that are acceptable for deposit at face value; serves as a medium of exchange and provides a basis of measurement for accounting.
Current Assets. These amounts are cash and resources that are reasonably expected to be converted into cash during the normal operating cycle of a business or within one year, whichever period is longer. In addition to cash, common examples of current assets include receivables (amounts owed to a firm by customers), inventories (materials and merchandise that are intended to be sold to customers), and prepaid items (e.g., advanced payment of insurance premiums).
Total Assets. The total resources of a firm measure by the amounts paid by a firm for these resources, examples include current assets, real estate, machines, furniture, vehicles, patents, investments in other firms, etc. Total assets are presented on a per share basis, to obtain a measurement of the size of a firm in millions of dollars, multiple the total assets figure by the average number of common shares outstanding.
Current Liabilities. These are debt obligations that are reasonably expected to be paid using current assets or by creating other current liabilities within one year or one operating cycle, examples include operating liabilities such as accounts payable (e.g., amounts owed to suppliers) and accrued liabilities (e.g., the amount of interest on debt that has accumulated but not paid).
Long Term Debt. These amounts are obligations that are not expected to be paid in cash or other current assets within one year or the normal operating cycle. Examples include the non-current portion of bonds payable and mortgages. In short, these are debts that must be paid in the future.