Jack in the Box Valuation and Analysis - Texas Tech …mmoore.ba.ttu.edu/ValuationReports/Fall2007/JackInTheBox.pdf · Jack in the Box Valuation and Analysis Developed by: ... Wendy’s

Jack in the Box Valuation and Analysis

Developed by:

Grant Berg Ash-Leah Chandler

Corey Donaway Zachary Hall Jordan Jones

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TABLE OF CONTENTS Executive Summary ............................................................................... 1

Business & Industry Analysis ................................................................... 7

COMPANY OVERVIEW ............................................................................... 7

INDUSTRY OVERVIEW............................................................................... 9

Five Forces Model.................................................................................... 11

THREAT OF NEW ENTRANTS ........................................................... 11

THREAT OF SUBSTITUTES .............................................................. 14

BARGAINING POWER OF BUYERS ..................................................... 15

BARGAINING POWER OF SUPPLIERS .................................................. 16

RIVALRY AMONG EXISTING FIRMS ................................................... 17

FIVE FORCES CONCLUSION ............................................................ 22

KEY SUCCESS FACTORS .......................................................................... 24

FIRM COMPETITIVE ADVANTAGE ANALYSIS ................................................... 26

Accounting Analysis ................................................................................ 31

Key Accounting Policies .......................................................................... 33

LEASE ACCOUNTING .............................................................................. 33

FRANCHISE ACCOUNTING ........................................................................ 35

SEGMENT DISCLOSURE ........................................................................... 36

Potential Accounting Flexibility.............................................................. 37

OPERATING VERSUS CAPITAL LEASES ......................................................... 37

INTANGIBLE ASSETS .............................................................................. 37

Actual Accounting Strategy .................................................................... 39

DISCLOSURE ....................................................................................... 39

ACCOUNTING POLICY STRATEGY ............................................................... 39

Qualitative Analysis of Disclosure .......................................................... 41

Quantitative Analysis of Disclosure........................................................ 42

ACCOUNTING DIAGNOSTIC RATIOS ........................................................... 42

SUMMARY OF ACCOUNTING DIAGNOSTIC RATIOS ................................. 43

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REVENUE DIAGNOSTIC RATIOS ................................................................ 44

NET SALES/CASH FROM SALES ....................................................... 44

NET SALES/NET ACCOUNTS RECEIVABLE ........................................... 45

NET SALES/INVENTORY ............................................................... 46

EXPENSE DIAGNOSTIC RATIOS.................................................................. 48

ASSET TURNOVER ...................................................................... 48

CFFO/OI ................................................................................ 49

Identify Potential Red Flags ................................................................... 51

Undo Accounting Distortions .................................................................. 52

RESTATING FINANCIALS ......................................................................... 52

Financial Analysis.................................................................................... 54

Liquidity Ratios ....................................................................................... 55

CURRENT RATIO................................................................................... 55

QUICK ASSET RATIO.............................................................................. 56

INVENTORY TURNOVER........................................................................... 57

DAYS’ SUPPLY OF INVENTORY................................................................... 58

RECEIVABLES TURNOVER......................................................................... 59

DAYS’ SALES OUTSTANDING .................................................................... 60

WORKING CAPITAL TURNOVER ................................................................. 61

CASH-TO-CASH CYCLE ........................................................................... 62

Profitability Ratios .................................................................................. 64

GROSS PROFIT MARGIN ......................................................................... 64

OPERATING EXPENSE RATIO .................................................................... 65

NET PROFIT MARGIN ............................................................................. 66

ASSET TURNOVER ................................................................................. 67

RETURN ON ASSETS............................................................................... 68

RETURN ON EQUITY .............................................................................. 69

Capital Structure Ratios.......................................................................... 72

DEBT TO EQUITY RATIO ........................................................................ 72

TIMES INTEREST EARNED ....................................................................... 73

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DEBT SERVICE MARGIN .......................................................................... 74

IGR/SGR Analysis ................................................................................... 77

INTERNAL GROWTH RATE........................................................................ 77

SUSTAINABLE GROWTH RATE ................................................................... 78

Forecasting ............................................................................................ 79

YEAR 1 INCOME STATEMENT FORECAST ...................................................... 79

INCOME STATEMENT ............................................................................. 80

BALANCE SHEET ................................................................................... 81

RESTATED BALANCE SHEET...................................................................... 81

STATEMENT OF CASH FLOWS.................................................................... 82

FINANCIAL STATEMENTS ......................................................................... 84

Cost of Financing..................................................................................... 92

COST OF EQUITY ................................................................................. 92

ESTIMATING BETA................................................................................. 92

BETA RESULTS .................................................................................... 93

OTHER FINDINGS FROM REGRESSION ANALYSIS ............................................ 93

COST OF DEBT .................................................................................... 95

WEIGHTED COST OF CAPITAL - WACC ...................................................... 97

Valuation Analysis................................................................................... 98

VALUATION: METHOD OF COMPARABLES ............................................................... 99

TRAILING PRICE/EARNINGS RATIO............................................................100

FORWARD PRICE/EARNINGS RATIO ..........................................................100

PRICE/BOOK RATIO..............................................................................101

DIVIDEND YIELD .................................................................................102

PEG RATIO .......................................................................................102

PRICE/EBITDA ....................................................................................102

PRICE/FREE CASH FLOW .......................................................................103

ENTERPRISE VALUE/EBITDA....................................................................104

VALUATION: INTRINSIC VALUE .........................................................................106

DIVIDEND DISCOUNT MODEL ..................................................................106

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FREE CASH FLOW MODEL.......................................................................107

RESIDUAL INCOME MODEL......................................................................110

LONG RUN RESIDUAL INCOME PERPETUITY MODEL .......................................113

ABNORMAL EARNINGS GROWTH MODEL ....................................................116

CREDIT ANALYSIS .........................................................................................120

ANALYST RECOMMENDATION ............................................................................121

APPENDIX ...........................................................................................122

INCOME STATEMENT .............................................................................122

BALANCE SHEET ..................................................................................123

RESTATED BALANCE SHEET ....................................................................124

CASH FLOW STATEMENT ........................................................................125

COMMON SIZE INCOME STATEMENT ..........................................................126

COMMON SIZE BALANCE SHEET ...............................................................127

COMMON SIZE CASH FLOW ....................................................................128

INCOME STATEMENT QUARTERLY DATA .....................................................129

LIQUIDITY RATIOS ...............................................................................130

PROFITABILITY RATIOS .........................................................................131

CAPITAL STRUCTURE RATIOS ..................................................................132

VALUATION MODELS ............................................................................133

BETA ANALYSIS ...................................................................................135

COST OF DEBT ...................................................................................136

LEASE ADJUSTMENTS ...........................................................................137

References ...........................................................................................142

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Executive Summary Investment Recommendation: SELL (11/1/2007)

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Executive Summary

Industry Analysis

Jack in the Box is a member of the fast food hamburger restaurant (FFHR)

industry. Jack in the Box, Inc. was founded in 1951 by Robert O. Peterson in

San Diego, California. The firm also owns and operates Qdoba Mexican Grill

restaurants and Quick Stuff convenience stores. Since 1951, Jack in the Box has

grown to more than 2,100 restaurants in 17 states. There are more than 370

Qdoba Mexican Grill restaurants in 39 states. In addition, the Quick Stuff

convenience stores have grown nation-wide with over 50 locations

(www.jackinthebox.com).

Jack in the Box’s direct competitors includes Sonic, Burger King, Wendy’s,

and McDonalds. In the FFHR industry, firms compete primarily on price, brand

image, and restaurant location. In the past five years, the stock performance

has been mixed for firms within this industry. Firms such as Jack in the Box,

Sonic, and McDonald’s have seen price appreciation over 100%, well above the

S&P 500’s return of 68%. However, Wendy’s and Burger King have been below

this benchmark.

From Porter’s Five Forces Model, we determined that the FFHR industry

has a high level of competitive pressures which should lead to heightened

pressures on firms to compete on the basis of price. The main determinants of

high competitive pressures for the FFHR industry are the 1) moderately high

threat of new entrants, 2) high bargaining power of buyers, 3) high threat of

substitute products, and, most importantly, 4) intense rivalry among existing

firms.

The key success factors for the FFHR industry are cost control,

convenience, brand image, and a diversified product portfolio. In order for a

firm to perform well within its industry, it must compete based on its key success

factors. Jack in the Box is striving to become a leader in the industry; however,

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the company needs to be compared against the industry’s key success factors to

determine its position within the industry.

Accounting Analysis

When analyzing the financial condition of a firm, it is important to conduct

an accounting analysis to uncover potential distortions in the financial

statements. The reason for distortions is the flexibility offered to managers by

GAAP. Firms have been given a level of flexibility so that they can better reflect

the nature of their business. However, since managers face pressure to meet

financial expectations, managers may utilize accounting flexibility to withhold or

manipulate information that is necessary to determine a firm’s financial position.

For the fast food hamburger restaurant industry, key accounting policies

include lease accounting, franchise accounting, and segment disclosure. Jack in

the Box, along with its competitors, reports most of its leases as operating leases

rather than capital leases. By reporting operating leases, firms are able to shift

these assets and obligations off their balance sheet. This practice is within the

guidelines of GAAP; however, this method may alter the true financial position of

the firm. With regards to franchise accounting, Jack in the Box is currently 29%

franchised (JBX 10-K 2006, 11). Franchising gives firms in the fast food

hamburger restaurant industry an opportunity to enter new markets while

decreasing investment risks and operating costs (JBX 10-K 2006, 11). Finally,

there are a few items that Jack in the Box discloses that may be valuable to the

user. These disclosure items include the number of franchised versus company

owned stores, sales of subsidiaries, and a detailed breakdown of revenues.

A firm may appear to be more or less attractive due to the flexibility in the

reporting of particular items within the firm’s financial statements. However,

Jack in the Box, utilizing a fairly aggressive accounting policy, does an average

job at disclosing its financial position. The two main accounting aspects that

Jack in the Box has flexibility in accounting are the recognition of leases and

intangible assets.

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In computing the diagnostic ratios, we concluded there are no ratios that

present a real “red flag”. The only item that may present a “red flag” is the

extensive use of operating leases instead of capital leases. For Jack in the Box, a

capital lease would be more appropriate than an operating lease because the

firm does not expect to leave the location once the lease term is up.

Financial Analysis, Forecast Financials, and Cost of Capital Estimation

The most common way of performing financial analysis is through the use

of ratios. The most commonly used can be broken down into three categories:

liquidity, profitability, and capital structure ratios. By using these ratios, we are

able to easily compare a firm’s performance with its competitors over time. In

order to value a firm, future performance must be forecasted. Beta is calculated

using a regression model. Once a Beta is found, we were then able to calculate

cost of equity. Then, using the cost of debt and equity the cost of capital can be

determined.

Jack in the Box improved its liquidity in recent years by accumulating cash

and cash equivalents. However, Jack in the Box’s competitor, McDonalds, leads

the fast food hamburger restaurant industry in regards to liquidity. Overall, Jack

in the Box is in keeping with the industry average in regards to liquidity. In

regards to the profitability ratios, Jack in the Box is performing below average

compared to its competitors in the industry. Jack in the Box appears to be

inefficient in controlling expenses as shown with operating expense margin and

net profit margin. However, it is performing fairly well with its asset efficiency,

return on assets, and return on equity. Finally, the capital structure ratios

indicate that the firms in the fast food hamburger restaurant industry are very

different in how they structure their debt and equity. The debt to equity ratio is

the only ratio that shows a trend for the industry.

Using the financial ratios and average growth rates, we were able to

forecast Jack in the Box’s financial statements for the next ten years. These

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forecasts show smooth, even growth over the next ten years, with net income

and assets doubling over this time period.

To find the cost of capital, we determined the cost of debt as well as the

cost of equity. To find the cost of equity, we first needed to determine beta for

Jack in the Box. Beta was found using multiple regression models over various

time horizons. This method allows us to determine stability of beta over time as

well as the investment time horizon. For Jack in the Box, we found a beta of

1.789 with an R2 of 20.3% based on a 10 year investment horizon. This beta

was very close to the Yahoo!’s published beta for JBX of 1.78. Using this beta,

we calculated a cost of equity of 16.9%. This cost of equity, combined with

JBX’s before and after tax cost of debt of 5.81% and 7.62% respectively, results

in a WACCBT of 11.25% and a WACCAT of 10.19%.

Valuations

The purpose of an equity valuation is to value the firm and determine if

the stock is over, under, or fairly valued. There are two primary methods of

valuing a firm: financial valuations and intrinsic valuations. Financial valuations

utilize the method of comparables where an analyst uses ratio averages from an

industry to estimate the share price for a specific firm. This can be done by

computing and averaging several different industry ratios individually and then

setting those averages and working backwards to find the target firm’s price per

share.

Of the seven applicable comparables, four comparables resulted in

showing that Jack in the Box is significantly undervalued with intrinsic values

ranging from $42.84 to $102.73 compared to JBX’s observed price of 29.83.

Lack of consistency is one of the main problems with the method of

comparables. These estimated prices do not show us anything because there is

no theory backing them up. They are merely numbers, some which are more

applicable to some firms than others.

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Intrinsic valuations are theory based models that produce an intrinsic

price for the firm. The free cash flow model was the only model that had JBX

priced under or even close to properly valued. In our opinion, this model should

be underweighted in our analysis since the free cash flows of JBX appear to be

difficult to forecast and the other models typically provide a more reliable

valuation. Therefore, we feel that more weight should be put on the residual

income, long run ROE residual income perpetuity, and the abnormal earnings

growth. All three of these models showed that JBX is consistently earning a ROE

significantly less than their KE, and thus JBX is forecasted to destroy value year-

after-year. This deterioration of value leads to the intrinsic value of JBX to be

significantly less than the observed price on November 1st, 2007 of $29.83.

Therefore, since these intrinsic valuations are less than the observed price, we

conclude that Jack in the Box is overvalued as of November 1st, 2007.

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Business & Industry Analysis

Company Overview

Jack in the Box, Inc. (JBX) is known as one of the nation’s top leaders in

the fast food hamburger restaurant industry (FFHR). The firm not only operates

and franchises Jack in the Box restaurants, but it also owns and operates Qdoba

Mexican Grill restaurants and Quick Stuff convenience stores. Jack in the Box,

Inc. was founded in 1951 by Robert O. Peterson in San Diego, California.

However, it was originally named San Diego Commissary Co. and then it was

renamed to Foodmaker Co. in 1960. During this time, Peterson expanded into

Phoenix, Arizona, and then to the Houston and Dallas-Ft. Worth areas of Texas.

Needing an advertising campaign, Foodmaker came up with an innovative way to

attract customers by introducing Jack. Jack was featured in 1995 as the

company’s fictional founder, CEO, and ad pitchman. Since then, Jack has become

known all over the United States. “Acknowledging the strength and growth of the

Jack in the Box brand, the company changed its name to Jack in the Box Inc. in

1999.” (www.jackinthebox.com) Now, there are more than 2,100 Jack in the

Box restaurants in 17 states; in addition, there are more than 370 Qdoba

Mexican Grill restaurants in 39 states and over 50 Quick Stuff convenience stores

nation wide (www.jackinthebox.com).

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*Jack in the Box Coverage Area (www.jackinthebox.com)

Jack in the Box was the “first major fast-food chain that started as a

drive-thru, and it was also the first to introduce menu items that are now staples

on most fast-food menu boards, including a breakfast sandwich and portable

salad. Today, Jack in the Box offers a broad selection of distinctive, innovative

products targeted at the adult fast-food consumer, including hamburgers,

specialty sandwiches, salads and real ice cream shakes”

(www.jackinthebox.com). Despite a broad selection of food options, Jack in the

Box menu focuses primarily on hamburgers.

There are many restaurants in the fast food industry; however, Jack in the

Box’s major competitors includes Sonic (SONC), Burger King (BCK), Wendy’s

(WEN), and McDonalds (MCD). Since September of 2002, firms in the FFHR

industry have seen an appreciation in their stock valuations ranging from

+41.35% to +381.68%. Over this time period, JBX has outperformed most of its

main competitors with a stock price appreciation of about 170%. SONC’s stock

performance has greatly outperformed the industry; where as, MCD surprisingly

is the laggard of the industry. The chart below illustrates the stock performance

of JBX and its competitors over the past five years.

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Industry Overview

The limited service restaurant industry can be broken down into several

sections: carryout, pizzerias, delis, fast food, and sandwich shops (U.S. Census

Bureau 2002). Jack in the Box is classified in fast food, a business model that

relies on limited menu items, quick preparation, and self-service. Fast food

restaurants, also known as quick service restaurants, “includes about 200,000

restaurants with combined annual revenue of about $120 billion” (Hoovers). Jack

in the Box’s main competitors in this industry are the national and regional

hamburger fast food chains of Sonic, Burger King, Wendy’s, and McDonald’s.

The fast food industry is constantly competing for growth and market

share. Firms must compete amongst themselves as well as “full service

restaurants, supermarkets, delis, convenience stores, snack shops, and

cafeterias. The industry is highly fragmented: the top 50 companies hold about

25 percent of industry sales” (Hoovers). Firms within the industry compete

primarily on price, as well as quality of food, brand, and location. An example of

price competition among fast food restaurants is the implementation of a “value

menu” to attract price conscious consumers.

The fast food industry can be further broken down into the type of entrée

served, such as “hamburgers, sandwiches, chicken, pizza/pasta, Mexican food,

Asian food, or snacks. Among the major fast food chains, hamburger

restaurants are 50 percent of the market; sandwich, pizza, chicken, and snack

shops are each 10 percent; and Mexican food is about 5 percent” (Hoovers). Fast

food companies are leaders of the overall restaurant industry.

Major Industry Trends

Recent industry trends of the fast food hamburger industry should be

noted in order to understand the competitive dynamics of the industry and the

direction the industry is going. Two major trends include firms focusing more

toward franchising restaurants and investing in advertising to develop their

respective brand.

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Franchising

Firms within the fast food hamburger industry have utilized franchised

restaurants in the past. However, the major recent trend is for firms to franchise

currently company owned stores or to grow into new markets through

franchises. One reason for this shift is stated best by Burger King in their 2006

10-k, “[w]e believe that our franchise restaurants will generate a consistent,

profitable royalty stream to us, with minimal associated capital expenditures or

incremental expense to us” (Burger King 10-k, pg 4). Shifting to the use of

franchising is a way in which firms can ensure themselves a guaranteed stream

of income with royalties of about $50,000 per restaurant and a percentage of the

sales while reducing the risk and exposure of the parent firm (JBX 10-k, pg 5).

Brand Development

A main strategy for almost all of the firms of the fast food hamburger

industry deals with brand development or redefining the company’s brand image.

In this highly competitive industry, firms are utilizing advertisement and

promotion in order to develop a distinct brand image in the minds of their

consumer. Firms hope that customers will dine at their restaurants for the

overall eating experience instead of viewing their food as a commodity.

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Five Forces Model

The Five Forces Model is a business unit strategy tool that can be utilized

to analyze an industry’s structure, degree of competitiveness, and profit

potential. The industry’s structure and degree of competitiveness are the main

determinants of the overall profit potential of an industry. Using the Five Forces

Model, we will be able to understand how the industry is structured and how to

be profitable inside the industry.

The Five Forces Model first examines the “[d]egree of actual and potential

competition” by analyzing three sources of competition (Palepu & Healy). These

three sources of competition are rivalry among existing firms, threat of new

entrants, and threat of substitute products. The Five Forces Model then analyzes

the “[b]argaining power in input and output markets” (Palepu & Healy). The

model also examines two sources that exist for bargaining power. The first is the

bargaining power of buyers or customers and the second is the bargaining power

of suppliers. In all, the Five Forces Model looks to discover the industry’s

potential profitability that exists based on assessing the competitive pressures

with in that industry.

Five Forces Summary Threat of New

Entrants Threat of

Substitute Products

Bargaining Power of Buyers

Bargaining Power of Suppliers

Rivalry Among Existing Firms

Rating 7 9 9 3 10

Level of Competition Moderate High High Low High

Threat of New Entrants

As previously mentioned, the fast food industry has low concentration of

firms and is highly fragmented with over 200,000 restaurants with few firms

holding a large percentage of the market share (Hoovers). The five largest firms

in the FFHR industry operate only 26,109 of these 200,000+ restaurants (FFHR

10-ks). The market is diverse in that there are national chains, regional chains,

and even local firms. Although national and regional chains are able to capitalize

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on economies of scale and scope, there is room for local firms to attack niche

markets or steal market share in their respective markets.

Economies of Scale

Economies of scale allow the larger firms in this industry to reduce their

average cost per unit; thus, they are able to spread out their costs which should

in turn increase margins. Therefore, these economies of scale do give larger

chains a cost advantage over local firms. This advantage has not been strong

enough to keep out local fast food restaurants from opening up, however.

These local firms may use various marketing tools to differentiate their

restaurant from the national fast food chains in order to offset their cost

structure disadvantage. As seen in the following table, the average asset size for

the top five firms in the FFHR industry is about $7 to $7.5 billion. If McDonald’s

is excluded, the average asset size is about $2 billion. This large asset size will

allow these firms to spread out their costs which should lead to a cost advantage

over smaller firms. This is important in the FFHR industry since margins are

typically small; therefore, we expect firms with a cost advantage to be more

successful.

Total Asset Size 2003 2004 2005 2006 Burger King Holdings Inc** $2,665 $2,723 $2,552 Jack in the Box, Inc. $1,176 $1,285 $1,338 $1,520 McDonald's Corp $25,525 $27,838 $29,989 $29,024 Sonic Corp. $486 $519 $563 $638 Wendy's International, Inc. $3,164 $3,198 $3,440 $2,060 Average $7,587 $7,101 $7,610 $7,158

* in millions **Information for Burger King was not available for 2003 Information was attained from each firms 10-k

First Mover Advantage

A first mover advantage is an advantage gained by a firm when it is the

first firm to move into a market or develop a product. If first mover advantages

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exist in an industry, a firm who achieves it may be able to restrict entrants into

the market and thus reduce competitive pressures. First mover advantages in

the fast food industry are relatively minute. Product offerings are fairly

standardized and product and menu innovations can be mimicked quickly. Since

there is a small incentive to be the first mover, competitive pressures are again

increased.

Capital Requirements

Capital requirements are the amount of capital needed to begin and

maintain operations within an industry. Barriers to entry into an industry are

increased as the amount of capital required increases. The capital required to

start up an individual fast food location is inexpensive with the major capital

outlays being the lease agreement, equipment, and labor costs. However, the

capital requirement to develop a chain is far more expensive requiring large

investments in distribution, advertising, and land. Jack in the Box reported that

it costs $1.5 to $2 million dollars to open up each individual location in addition

to the increased costs in developing a distribution system, national advertising,

and purchasing locations (JBX 10-k 2006). This high capital outlay to develop

and maintain a regional or national chain serves as a barrier to entry into the

FFHR industry. As mentioned, it is relatively inexpensive to start a single store;

however, to compete on the scale of the major regional and national firms within

the FFHR industry requires a large amount of capital.

Conclusion

The threat of new entrants into the fast food industry is moderate to high.

Factors that reduce the threat of new entrants are the economies of scale that

the larger chains possess and the large capital requirements for a large scale

operation. Alternatively, factors that increase the threat of new entrants are the

lack of a first mover advantage, the low capital requirement for a local

restaurant, the opportunity for niche restaurants, and very low barriers to exit.

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Overall, the threat of new entrants is moderately high and should lead to a

moderate increase in competitive pressures.

Threat of Substitute Products

Within the fast food industry there is a large threat of substitute products.

Consumers’ main motivation for eating at a fast food restaurant is a quick meal

at a low price. However, this low price is matched with low service, a factor

which drives away several potential customers. There are several potential

substitutes for fast food, such as full service restaurants, grocery stores, or

eating at home.

Relative Price and Performance

Relative price and performance refers to how well a substitute compares

to what the industry has to offer. Full service restaurants offer better food

quality and service, but at a higher price. Grocery stores now offer ready-to-eat

meals that can be enjoyed at home. These meals are usually in the same price

range as fast food meals, and are viewed as a healthier option. Eating at home

is also as expensive as eating fast food, but many consumers do not want to

take the time to cook and clean up. Though there are not exact matches in

relative price and performance in the industry, substitutes to fast food are very

common.

Buyer’s Willingness to Switch

Consumers’ willingness to switch is based on whether they perceive value

in staying where they are now. In the fast food industry, factors that influence a

buyer’s willingness to switch include age, income, and health consciousness.

The age of the consumer is very important to their willingness to switch. The

fast food industry has aggressively marketed to children, making them loyal to

the industry. Children do not want to go to a place they perceive as “boring,”

whereas mom and dad may prefer to dine at a full service restaurant.

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Additionally, higher income consumers are much more willing to switch than low

income consumers. Higher income consumers have more choices in where to

eat than low income consumers. Finally, health consciousness affects the

buyer’s willingness to switch. Even though the industry has attempted to add

more healthy entrées, many consumers still consider fast food too unhealthy. As

society becomes more health conscious, buyers will become more willing to

switch to other alternatives.

Conclusion

The threat of substitute products is high in the fast food industry due to

moderate relative price and performance and high willingness to switch. The fast

food industry is in constant competition with the restaurant industry for sales and

market share. In order for the industry to keep customers, the industry focuses

on a low price and quick, quality food.


Business strategies are often determined by how much bargaining power

exists between the firm and its customers. A large part of a firm’s profits are

driven by the industry’s overall bargaining power with its customers. When

buyers have high bargaining power the firm is forced to compete on price. Since

the firm will have to focus on price, they will have to become efficient and focus

on their cost structure (ex. somewhere down the production line) in order to be

profitable. Factors that determine the bargain power of buyers are price

sensitivity and relative bargaining power.

Price Sensitivity

Price sensitivity measures the effect on demand for products given a

change in price. If customers are price sensitive, a marginal increase in price will

have a larger decrease in quantity demanded. Customers have a higher degree

of price sensitivity in the FFHR industry since products are undifferentiated and

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the buyer has low switching costs. Additionally, products from this industry

represent a small percentage of the customer’s income. Since customers are

sensitive to price, firms within the FFHR industry will have increased competitive

pressures and have to focus on cost leadership.

Relative Bargaining Power

Relative bargaining power depends on the cost that customers’ and the

firms’ face if they decided not to do business together (Palepu & Healy). The

higher the relative bargain power, the more influence that party has on price.

Customers of the FFHR industry appear to have bargaining power over the firms.

Factors that contribute to this high bargain power are low switching cost for

customers, the number of customers in the fast food industry significantly

outnumber the number of restaurants, and the number of substitute products

that customers can choose from are numerous. Since customers have bargain

power over the firms within this industry, firms face an increased pressure to

compete to compete on price.

Conclusion

As explained, there are several factors that contribute to the high

bargaining power that customers have over firms in the FFHR industry.

Customers are very sensitive to price and have relative bargain power over the

firms. Therefore firms in the FFHR will experience heighten competitive

pressures.


Bargaining power of suppliers is the pricing power that suppliers possess

over the firms in the FFHR industry. Whichever firm has this power, the firm or

the supplier, will have the ability to influence the price. Factors that determine

the bargaining power of supplier are price sensitivity and relative bargaining

power.

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Price Sensitivity

Price is the main component when this industry is making the decision on

suppliers. Since the inputs for the FFHR industry are largely undifferentiated and

are commodities, fast food firms are able to shop around for the lowest price.

This is important especially for firms that compete with each other on price to

gain customers. Firms must find a inputs at a low cost in order to maintain

margins.

Relative Bargaining Power

Again, bargaining power depends on the cost that customers’ and the

firms’ face if they decided not to do business together (Palepu & Healy). Firms

in the FFHR industry are able to set prices and create strict delivery schedules.

Firms are able to do this because they have low switching costs and are able to

switch to another supplier at a low cost. This low switching cost is an indicator of

low bargaining power for the suppliers.

Conclusion

In the fast food hamburger industry, suppliers have little bargaining

power. One of the reasons this industry holds the power in the relationship is

that most of the supplies bought in this industry are commodities, like meat,

bread, and vegetables. This, combined with a low switching cost, creates a very

little influence for the suppliers of fast food restaurants. Since the suppliers have

low power firms in the FFHR industry face less competitive pressures.


Rivalry among existing firms is not only one of the most powerful

determinants of the dynamics in an industry but also the level of profitability of

the industry. An industry with high levels of rivalry will have firms that

aggressively seek market share, resulting in heightened pressures to lower price,

and therefore result in thin profit margins. Factors in the fast food industry that

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will determine the level of rivalry within the industry are industry growth,

concentration, differentiation and switching costs, scale/learning economies, and

exit barriers.

Industry Growth

One measure for industry growth is growth in sales by firms. Industries

that are having stagnant growth will have heightened competitive pressures

because the only means to increase revenues is to take it away from

competitors. The table below shows that sales growth for the fast food

hamburger restaurant industry has been moderate with an annualized growth

rate of 7.13%. However, if you adjust for inflation of 2.62% over the same

period of time, sales for the FFHR industry only grew 4.51% per year

(inflationdata.com). Additionally, it appears that the sales growth over the past

two years lags behind the growth that was experienced in 2003 and 2004. This

lack of rapid growth should lead to higher competitive pressures since firms must

try to steal market share from competitors to increase sales.

US Estimated Sales 2002 2003 2004 2005 2006

Jack in the Box 2,252,318 2,337,127 2,618,206 2,732,089 2,961,278

McDonald's 21,396,726 24,046,581 26,089,341 26,825,582 28,870,409

Burger King 6,218,702 6,986,668 7,625,868 8,440,419 8,843,699

Wendy's 7,555,840 7,929,632 8,334,761 8,223,970 8,250,596

Sonic 2,368,355 2,513,874 2,835,955 3,157,521 3,481,296

Industry 39,791,941 43,813,882 47,504,131 49,379,582 52,407,278

Growth Rate 10.11% 8.42% 3.95% 6.13%

Annualized Growth Rate 7.13%

Information was attained from each firm’s 10-k report. *Sales for Burger King in 2003 and 2002 are estimates **Sales are in Thousands (000)

Concentration

Concentration of an industry measures the relative size of firms within the

industry. A high concentration of firms occurs when there are few firms who

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dominate market share within an industry such as an oligopoly or monopoly.

Alternatively, an industry with low concentration of firms has many firms with

low relative market share. In the case for an industry with low concentration,

competitive pressure is heightened and pressure to compete on price is elevated.

Currently, the fast food industry has over 200,000 restaurants with hamburger

restaurants accounting for 50 percent of the market share. Hoovers describes

the fast food industry as “highly fragmented [low concentration]: the top 50

companies hold about 25 percent of industry sales” (Hoovers).

The overall fast food industry may be highly fragmented; however, the

fast food hamburger industry appears to be dominated by McDonald’s which has

over 50% of the market share compared to competitors. The rest of the

competitors in the fast food hamburger restaurant industry may have to fight

over the remaining market share since it appears that McDonald’s has been able

to maintain its dominance. This could lead to higher competitive pressures for all

firms except for McDonald’s.

Market Share 2002 2003 2004 2005 2006

Jack in the Box

5.7% 5.3% 5.5% 5.5% 5.7%

McDonald's 53.8% 54.9% 54.9% 54.3% 55.1% Burger King 15.6% 15.9% 16.1% 17.1% 16.9% Wendy's 19.0% 18.1% 17.5% 16.7% 15.7% Sonic 6.0% 5.7% 6.0% 6.4% 6.6%

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*Market share is based on estimated U.S. sales. Information was attained from each firm’s 10-k report.

Differentiation and Switching Costs

Product differentiation is the extent to which products are dissimilar from

competitor to competitor. The more differentiated product offerings there are

the less price pressure a firm faces. However, the more that the industry’s

products are similar, the more that firms must compete primarily on price.

Products and service in the fast food hamburger industry are relatively similar in

price and quality. Firms within this industry typically offer the same core items

(hamburgers, fries, sodas, and etc.) and the same restaurant design of kitchen,

dining area, parking lot, and drive through (Hoovers).

Also, as products within an industry become more similar, customers face

lower switching costs. Switching costs are the monetary and opportunity costs

that customers face when/if they choose to use another product. When

switching costs are low, customers are more able to switch from one

competitor’s product to another competitor at little to no cost. Therefore, low

(high) switching costs results in a greater (lesser) pressure on firms to compete

on price. Firms within the FFHR industry are aggressively using advertising to

develop a brand image and to inform customers about products and promotions

in order to steal customers from competitors.

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Scale/Learning Economies

In order to become a profitable national fast food chain in the United

States, economies of scale become increasingly important. Economies of scale is

the notion that as a firm increases its size, it is able reduce its average cost per

unit. Since the fast food industry competes primarily on similar products and its

customers face low switching costs, economies of scale can be very important to

the profitability of a firm. As seen in the table of total assets, the asset size

range the main competitors focusing on hamburgers within the fast food industry

is $638 million to $29 billion. McDonalds’s is almost 12 times the size of Burger

King and 20 times the size of Jack in the Box.

Total Asset Size 2003 2004 2005 2006 Burger King Holdings Inc** $2,665 $2,723 $2,552 Jack in the Box, Inc. $1,176 $1,285 $1,338 $1,520 McDonald's Corp $25,525 $27,838 $29,989 $29,024 Sonic Corp. $486 $519 $563 $638 Wendy's International, Inc. $3,164 $3,198 $3,440 $2,060 Average $7,587 $7,101 $7,610 $7,158

* in millions **Information for Burger King was not available for 2003 Information was attained from each firms 10-k

Another component of economies of scale is that of learning economies.

Learning economies of scale occur when steep learning curves exist. Low

learning economies of scale increase competitive pressures since the learning

curve for employees is relatively flat. The fast food industry is a very labor

intensive, low knowledge-based industry in regards to employees. Learning how

to run a cash register, manage a grill, or make french fries requires very little

technical expertise and thus, less of a learning curve. Therefore, firms must

compete for lower wage workers, typically ages 18 to 24, and deal with high

turnover rates.

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Exit Barriers

Exit barriers are the cost to a firm to exit its current industry. With higher

exit barriers, competitive pressures are increased since a firm cannot freely exit

the industry. Unlike some industries, the fast food industry does not face very

many exit barriers.

Conclusion

The rivalry among existing firms is very high for the fast food hamburger

restaurant industry. Factors that aid to an increase in rivalry are that the

industry are highly fragmented, products are undifferentiated, learning

economies do not exist, and customers have low switching costs. These factors

lead to high levels of competition and an increased pressure to compete on

price.

Five Forces Conclusion

Based on the Five Forces analysis, the fast food hamburger restaurant

industry is mixed in regard to competitive pressure. Although the industry is a

mixed industry with aspects of both high and low competitive pressures, the

industry as a whole is very competitive. Factors such as rivalry among existing

firms, threat of substitute products, and power of buyers contributes to this

industry being highly competitive. The following chart sums up our findings.

Five Forces Summary Threat of New

Entrants Threat of

Substitute Products




Rating 7 9 9 3 10

Level of Competition Moderate High High Low High

We have rated the industry on each of the five forces based on a 1-10

scale with 10 illustrating that the factor contributes to high competitive

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pressures. Overall, we rate the industry as 7.6, which we conclude illustrates

high competitive pressures. We expect this high amount of competitive pressures

to lead to more price pressures amongst competitors in the FFHR industry. This

could ultimately lead to smaller profit margins. The successful firms in the FFHR

industry will be those that are able to control their costs.

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Key Success Factors Overview: FFHR Industry

Key success factors are those attributes in which firms must possess in

order to be successful in their respective industry. Based on the high

competitive pressures in the FFHR industry, firms should be following many

strategies for creating a competitive advantage for cost leadership as outline by

Porter. Based on Porters suggested strategies and analyses of the industry, the

following key success factors have been identified: cost control, convenience,

brand image, and a diversified product portfolio.

Cost Control

An industry with high competitive pressures must compete on price in

order to be successful. Therefore, to be profitable a firm must be able to

minimize its costs in order to increase its profit margins and have the flexibility to

lower its prices. There are two main factors in the FFHR industry that firms can

utilize to low costs: economies of scale/scope and a tight cost control system.

Firms who are able to leverage these to factors will be able to lower their

average cost per unit and thus increase their margins. However, firms who are

inefficient and cannot control costs will have a difficult time surviving in this

industry.

Convenience

As seen in the five forces analysis, buyers have the power over firms in

the FFHR industry. Therefore, firms that do not meet the demands and needs of

the buyers/customers, will fail in the industry. Customers of the FFHR industry

demand convenience in the form of locations, speed, hours, and value

(Hoovers). Firms will have a competitive advantage if they are able to have the

best locations, be able to prepare the food quickly, have a wide range of hours,

and at the lowest price.

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Brand Image

Brand image becomes more and more important since products in the

FFHR industry are undifferentiated. To differentiate their offerings, successful

firms are creating distinct brand images. Firms that are successful to leverage

their brand are able to differentiate their firm in an industry that sell the same

product and therefore create loyal customers.

Diversify Product Portfolio

A diversified product portfolio is when a firm owns a collection of

subsidiaries that are in other markets or using franchises to reduce business risk

of the firm. Since the FFHR industry is highly competitive, it is necessary for

firms to finds ways to reduce their exposure to pressures of this industry. Also,

as previously explained, the FFHR industry has experienced stagnant growth

which forces firms to steal market share from other competitors. In order to

increase margins and reduce dependence on the FFHR industry, firms can move

into growing market segments such as Mexican or sandwich shops. Additionally,

firms can franchise new stores to reduce risk since franchises bring in a steady

stream of fee and royalty revenue. Both of these approaches allow firms to

leverage their other competitive advantages while reducing their dependence on

the highly competitive FFHR market.

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Firm Competitive Advantage Analysis

The competitive advantage analysis is a tool to analyze how well the firm

is implementing key success factors of the industry. Jack in the Box is striving to

become a leader in the industry; however, the company needs to be compared

against the industry’s key success factors to determine its position within the

industry. These key success factors are cost control, convenience, brand image,

and diversification.

Cost Control

Jack in the Box is trying to achieve cost control through the use of

economies of scale, lower input costs, and a tight cost control system.

Economies of scale are important to the industry in order to reduce cost

through size. Jack in the Box is campaigning to open 120-135 new restaurants in

2007. Of these, 40-45 would be new Jack in the Box stores and 80-90 would be

Qdoba restaurants. This growth strategy “includes expansion into new

contiguous markets” (JBX 10-K 2006). As Jack in the Box’s growth increases,

they hope to be able to lower costs through economies of scale. However Jack

in Box admits that, “Some of our competitors have substantially greater financial,

marketing, operating and other resources than we have, which may give them a

competitive advantage” (JBX 10-K 2006).

Lower input costs are achieved through the reduction of cost of supplies

and reducing non-value added activities. Tight cost control is necessary to turn a

profit in the highly competitive fast food hamburger restaurant industry.

Operating margin is one measure of management’s ability to lower input costs

and have tight cost control. A firm that has a higher operating margin than the

industry average tends to have lower average costs and a better gross margin.

The chart below shows operating margin for Jack in the Box, its major

competitors, and the industry average. As seen, Jack in the Box is well below

industry average, showing that it probably needs to improve in is cost control.

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As seen in the net profit margin graph, the two firms that had the highest

operating profit margin, MCD and SONC, had the highest net profit margin. As

the graph above illustrates, JBX’s net profit margin was less that 4%. This is not

a surprise since JBX’s operating margin was only 7%. This indicates that JBX is

fairly inefficient in their cost controls. We feel that this inefficiency may by one

of the driving reasons that JBX is moving to more franchised restaurants that

company operating stores. Since cost control is a major competitive advantage

in the industry, we feel that JBX is going to have to play catch up with the

industry leaders for at least the next 3 to 5 years.

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Convenience

Another industry key success factor is the convenience associated with

fast food hamburger restaurants. Location, speed, hours, and value all create

the convenience consumers expect when visiting a fast food hamburger

restaurant.

Location is a very important aspect of a new restaurant to JBX. Selection

of a new location is based off of several factors, including “population density,

traffic, competition, restaurant visibility and access, available parking,

surrounding businesses and opportunities for market penetration” (JBX 10-K

2006). All of these are determining factors in the future success of a restaurant.

Speed of service, hours, and value are other factors that create

convenience for the customer. In order to implement speed of service, JBX

utilizes order confirmation screens in the drive-thru windows. This allows the

customer to verify their order and proceed without having to sort through their

items and make sure everything is correct. JBX also operates their stores 18-24

hours a day to meet the demand of customers. Value for the customer is the

right amount of food at the right price. Jack in the Box has a value menu, which

allows customers to buy an item at a very low price. JBX also has value meals,

which are full meals at one price.

Convenience is an important key success factor to the industry. Jack in

the Box appears to meet, but does not exceed, the industry in location, speed of

service, hours, or value. We consider Jack in the Box to be placed firmly in the

middle with respect to this industry key success factor.

Brand Image

Jack in the Box believes that its brand offers a superior dining experience

compared to its competitors. Jack in the Box is in the process of reinventing their

brand through menu innovation, improved service, and re-imaging their

restaurants.

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Jack in the Box’s menu innovation is a “focus on higher quality products”

in order to “attract a broader consumer audience” (JBX 10-K 2006). Jack in the

Box has added to their line of burgers, enhanced their dessert line, and

partnered with brand name vendors. Jack in the Box is also continuously testing

and developing new products to add to menu and differentiate themselves from

their competition.

During 2006, Jack in the Box team members attended a three day

conference to “engage them in a service vision and provide tools for improving

guest service” (JBX 10-K 2006). This conference was to support the company’s

goal of brand reinvention. The company feels that improving service gives the

customer a good feeling about the restaurant and leave them wanting to return.

To measure progress, JBX has implemented a Voice of the Customer program,

which is a program that measures performance through online or telephone

surveys.

Finally, Jack in the Box is upgrading their facilities. 150 restaurants were

redesigned in 2006, and JBX’s goal is to update all facilities in four or five years.

The redesigning process includes “ceramic tiled floors, a mix of seating styles

from booths to high-top round tables, decorative pendant lighting, and graphics

and wall collages” (JBX 10-K 2006). JBX wants to create a “destination dining

experience” that will meet and exceed customer expectations (JBX 10-K 2006).

Jack in the Box’s strategic goal of brand reinvention is directly in line with

the industry’s key success factor of brand image. However, JBX’s focus on

improved quality, product innovation, and improved service may not be

consistent with successful strategies for a industry focused on cost leadership.

Diversify Product Portfolio

A final industry key success factor is diversification of the business

through franchising and multiple operations.

Franchising is an industry standard that JBX is working on increasing.

Currently, Jack in the Box is only 29% franchised. However, Jack in the Box has

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a goal of being 35% franchised by 2008 and a long term goal of increasing

franchise ownership by 5% per year after that. Increasing franchising allows JBX

to “penetrate new markets with local operators while also mitigating increases in

operating costs and investment risks” (JBX 10-K 2006).

Restaurant Breakdown 2002 2003 2004 2005 2006 Franchised 355 394 448 515 604 Company Owned 1507 1553 1558 1534 1475 Total 1862 1947 2006 2049 2079

This chart shows how Jack in the Box has been continually increasing the

number of its franchised restaurants while reducing the number of company

owned restaurants for the past five years.

Jack in the Box expanded into the fast-casual restaurant segment when it

acquired Qdoba Mexican Grill in January of 2003. JBX also owns and operates 55

Quick Stuff convenience stores and fuel stations. Both of these are examples of

how JBX is an industry leader of expansion into multiple operations. These stores

diversify JBX and reduce some of the risk associated with running a fast food

hamburger restaurant.

Jack in the Box has made diversifying its holdings and building up

franchises a strategic goal of the company. Therefore, we feel that JBX is in line

to achieving this success factor of diversification.

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Accounting Analysis

When analyzing the financial condition of a firm, it is important to conduct

an accounting analysis to uncover potential distortions in the financial

statements. The reason for distortions is the flexibility offered to managers by

Generally Accepted Accounting Principles (GAAP). Firms have been given a level

of flexibility so that they can better reflect the nature of their business.

However, since managers face pressure to meet financial expectations,

managers may utilize accounting flexibility to withhold or manipulate information

that is necessary to determine a firm’s financial position.

It is a financial analyst’s job to assess the quality of the firm’s financial

statements by using this six step process to filter out what numbers and

information the firm may be distorting. The first step in this process is to identify

the firm’s key accounting policies which relate to the firm’s key success factors.

Since these factors could materially affect the firm’s financial position, accounting

policies need to be reviewed and analyzed.

The next step is assessing the amount of flexibility a firm has in

accounting for these important items. Even though GAAP does allow for some

accounting flexibility, there are some portions of accounting that are unyielding.

For example, research and development is an important factor to some firms,

but have no discretion when it comes to accounting (Palepu and Healy, 3-8).

The third step is evaluating a firm’s actual accounting strategy. This will

allow an analyst to understand if a firm’s accounting strategy is aggressive or

conservative. An aggressive accounting strategy will overstate net income

whereas a conservative strategy will tend to understate net income.

The fourth step of accounting analysis is to evaluate the actual quality of

the firm’s disclosure. This step is broken down in to two categories: qualitative

and quantitative. Qualitative analysis deal with how much extended disclosure is

in the footnotes, segment disclosure, and how the company addresses bad news.

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(Palepu and Healy 3-10). Quantitative analysis uses ratios to show potential

manipulations in sales and expenses.

These ratios lead the analysis to the fifth step of identifying the potential

“red flags” of a firm. Ratios that show abnormal changes in numbers are

deemed as “red flags” and could point to mistakes or intentional

misrepresentation of numbers.

The final step in this procedure is to undo any distortions made by the

firm. Undoing these distortions shall lead to more accurate information in the

financial statements and thus a better understanding of the value of a firm.

By conducting this six-step accounting analysis, an analyst should have a

better understanding of the true financial position of the firm. This will allow the

analyst to conduct a financial and prospective analysis with figures that better

reflect the financial reality of the firm.

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Key Accounting Policies

Key accounting policies are accounting items that are related to key

success factors that create value for the firm. Key accounting policies can also

be material asset or liability items that affect the user’s view of the firm. Firms

who use aggressive or conservative accounting techniques could alter the

accounting perspective of the firm and thus make it more difficult to assess the

true financial standing of a firm. For the fast food hamburger restaurant

industry, key accounting policies include lease accounting, franchise accounting,

and segment disclosure.

Lease Accounting

A lease is a contract between two parties concerning the use of an asset.

The owner of the asset (the lessor) accepts monthly payments from the user of

the asset (the lessee). In exchange, the lessee gains full use of the asset for the

term of the lease contract. The Federal Accounting Standards Board (FASB) FASB

divides the accounting treatment of leases into two categories: leases where the

lessee is effectively purchasing the asset (capital), and leases where payments

are simply rentals (operating).

Capital leases are used when the lessee is effectively financing the

purchase of an asset. A capital lease records an asset and a liability at the

present value of future minimum lease payments. Payments are structured like a

loan with payment of interest and a reduction of principal. As the lessee makes

payments, the liability is reduced by the amount of payment less interest. The

asset is depreciated over the life of the lease, increasing the firm’s depreciation

expense. Capital leases are generally viewed as unfavorable by firms because

they increase liabilities on the balance sheet, and initially increase expenses and

lower net income during the first few years of inception.

Operating leases treat lease payments as rent, and should only be used

when the lease is short compared to the life of the asset. Operating leases do

not show up on the balance sheet as rent; rather, they are expensed at a fixed

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amount every year. Since the consequences of utilizing operating leases are

considered more favorable compared to capital leases (due to GAAP weakness),

many companies legally manipulate lease contracts to allow them to classify their

lease as operating.

The use of an operating lease when a capital lease is appropriate

materially affects the firm’s balance sheet and income statement. Financial

statements that have been manipulated can potentially mislead investors. For

example, an investor that is uninformed may only look at the numbers that have

been stated for assets and liabilities. The investor, therefore, will be mislead

because the assets and liabilities are understated on the balance sheet. As

shown in the graph below, the fast food hamburger restaurant industry uses a

small percentage of capital leases compared to total lease obligations.

* Information drawn from companies’ respective 10-K’s. Total minimum payments under capital lease obligations are used for this calculation.

Capital Leases Operating Leases Total Jack in the Box $32,102 $1,664,976 $1,697,078 McDonald's - 11,119,800 11,119,800 Burger King 134,000 1,391,000 1,525,000 Wendy's 31,776 965,239 997,015 Sonic 54,437 168,707 223,144

*Values in thousands

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We feel that the fast food hamburger restaurant industry should be using

capital leases because most restaurant locations intend to use the building for

the majority of the asset’s life. If the company does end a lease, the building

cannot be used for another purpose without costly renovations. Therefore, the

firm is essentially financing the purchase of the building where it operates its

business. As the previous table illustrated, these firms possibly have understated

their assets and liabilities ranging from $224 million for Sonic to $11.1 billion for

McDonald’s. These amounts are definitely material and would change the

balance sheet of the firm. If firms within the industry capitalized these leases,

we could get a better understanding of their true financial position.

Franchise Accounting

Franchising is the “right or license granted by a company to an individual

or group to market its products or services in a specific territory”

(www.dictionary.com). The parent company (franchisor) allows the individual

(franchisee) to operate a store in return for an initial franchise fee, rents, and

royalties based on sales. The FASB regulates how franchisors recognize revenue

from franchising activities. The FASB states that revenue from a franchise be

recognized when “all material services or conditions relating to the sale have

been substantially performed or satisfied by the franchisor” (www.fasb.org). The

FASB also has regulations concerning the definition of substantial performance.

Franchise accounting is important to the fast food hamburger restaurant

industry because a significant part of their business comes from franchised

locations. For example, Jack in the Box is currently 29% franchised, with goals

of increasing franchises by 5% a year (JBX 10-K 2006, 11). Franchising gives

firms in the FFHR industry an opportunity to enter new markets while decreasing

investment risks and operating costs (JBX 10-K 2006, 11).

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Segment Disclosure

Segment disclosure can be defined as how much information managers

release in regards to various parts of operation. In the fast food hamburger

restaurant industry, a key success factor is diversification of segments and

business holdings. If a firm has diversified holdings but does not disclose

information about the various segments, users of financial statements will not be

able to get a fair and clear picture of the firm. Segment disclosure aids users in

gauging the full performance of every aspect of the firm. In the FFHR industry, a

few disclosure items that are useful to the user include number of franchised

versus company owned stores, sales of subsidiaries, and a detailed breakdown of

revenues.

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Potential Accounting Flexibility

There are many ways a firm is legally able to disclose information to the

public, specifically to its investors. One of the main tools for facilitating

information is by providing financial statements. These financial statements

purpose is to credibly portray the financial status of the firm. However, because

GAAP allows for flexibility in the reporting of particular items within these

statements, a firm may appear to be more or less attractive than in reality

Therefore, it is necessary to analyze the financial statements to detect these

intentional or unintentional distortions in order to make educated investment

decisions. Two of the main line items that firms in the FFHR industry have

flexibility in reporting are leases and intangible assets.

Operating versus Capital Leases

One way a firm may mislead investors is through the reporting of leases.

A firm can record them as operating leases or capital leases. In an operating

lease, the owner transfers the right to use property to the lease holder. When

the lease or contract becomes expired, the holder returns the property to the

owner. Through this process, the lease holder assumes no risk because he/she

does not own the property. Therefore, the lease expense is treated as an

operating expense and is only recorded on the income statement. In capital

leases, however, the lease holder assumes some or all of the risks of ownership.

Capital leases are recorded on the balance sheet as liabilities and assets. In

conclusion, the expenses recorded from capital leases are recognized before

operating leases. This makes the company seem less profitable and appealing to

investors; therefore, most companies, including Jack in the Box, record the

majority of their leases as operating leases.

Intangible Assets

Another way a company may mislead investors is through the reporting of

intangible assets. Intangible assets are assets that are not physically in the

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firm’s possession. Examples of intangible assets include goodwill, patents,

copyrights, and brand recognition. The FASB requires that certain intangible

assets are amortized, while others can be amortized at the firm’s discretion.

Jack in the Box records both amortized and unamortized assets. Lease

acquisition costs and acquired franchise contracts are the amortized intangible

assets, whereas, goodwill and trademarks are the unamortized intangible assets.

Jack in the Box “evaluates goodwill and intangible assets not subject to

amortization annually or more frequently if indicators of impairment are present.

If the determined fair values of these assets are less than the related carrying

amounts, an impairment loss is recognized” (JBX 2006 10-K). As shown in Jack

in the Box’s annual reports, JBX has recorded $93 million in goodwill since 2003.

This goodwill is attributable to the purchase of Qdoba. Jack in the Box utilizes

future cash flow assumptions in order to estimate the fair value of intangible

assets. These assumptions may differ from the actual cash flows, due to

numerous conditions. For example if too high a discount rate is used, the fair

value will be understated. In conclusion, because fair value is just an estimate,

the numbers that are recorded on financial statements may not correctly reflect

the true market value.

Conclusion

The purpose of flexibility is to allow managers, including those at Jack in

the Box, to accurately report the financial condition of their firm. However, this

flexibility potentially allows managers to distort economic reality for their own

gain or to achieve certain objectives. As stated above, Jack in the Box chooses

to record the majority of their leases as operating leases. Also, Jack in the Box

records certain intangibles assets as amortized or unamortized. Along with JBX,

the fast food hamburger restaurant industry has flexibility in how it reports

operating leases and intangible assets.

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Actual Accounting Strategy

As alluded to previously, the accounting strategy of a firm has the

potential to distort the true financial position of the firm. It is important to

analyze a firm’s actual accounting strategy in order to undo any potential

distortions. Assessing the accounting strategy of a firm is broken into two parts:

the overall disclosure of the firm and the degree of the use conservative or

aggressive accounting policies

Disclosure

The majority of disclosure, as outlined by GAAP, is voluntary and not

required by the reporting firm. However, the more information that is disclosed,

the easier it is for an investor to assess the financial performance of a firm.

Jack in the Box’s overall disclosure is fair. Jack in the Box does give

adequate disclosure in regards to breakdown of franchises versus company

owned stores, company strategy, and leasing strategy. However, this disclosure

seems to be an industry norm. Overall, JBX does not provide much information

that other members of the industry do not provide. Also, better disclosure in

regards to sales and expense by franchise versus company owned stores would

give a better understanding of restaurant performance. Another important

disclosure would have been a breakdown of expenses. JBX does not give much

additional information on expenses other than the main categories of cost of

sales, operating costs, costs of distribution, and franchised restaurant costs.

More disclosure on the expense structure would allow for a better understanding

of JBX’s efficiency.

Accounting Policy Strategy

As with disclosure, firms are able to choose accounting policies that fit

within the guidelines of GAAP but may distort the usefulness of the financial

statements. As mentioned, the two main accounting aspects that JBX has

flexibility in accounting are the recognition of leases and intangible assets.

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Intangible assets such as goodwill only account for only $133 million or 7.4% of

JBX’s total assets. It is important to note that this percentage is even less when

the financial statements are restated to capitalize leases. This percentage has

been steady over the past 5 years. Since these assets have not been written

down, JBX might be aggressive accounting since writing these assets would

increase expenses. Despite this, a write-off in these assets would not have much

material change in the view of the firm.

Alternatively, JBX’s accounting strategy for its $1.05 billion in operating

leases could have a material affect on the view of JBX’s financials. In regards to

lease accounting, JBX is very aggressive. Only 1.89% of JBX’s leases are

reported as capital leases. Despite this, it is in our view that the majority of the

operating leases should be considered a liability of the firm; thus, the operating

leases should be capitalized. By reporting the leases as operating leases, JBX is

able to reduce its assets and liabilities on the balance sheet and reduce expenses

in the short term.

Conclusion

JBX is utilizing a fairly aggressive accounting policy. This primarily comes

from how JBX accounts for leases. By reporting lease obligations as operating

leases, JBX is able to reduce the size of its balance sheet and reduce expenses in

the early years of the lease agreement. Both of these aspects reduce the

credibility of the financial statements of JBX.

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Qualitative Analysis of Disclosure

Footnotes and other discussions in a firm’s 10-K report help supplement

financial statements that may not be clear when users view the financial

statements. Through footnotes a firm can explain a dramatic decrease in sales or

a sharp rise in property assets. The quality of these disclosures is dependent on

their transparency, or how much information the firm reveals about certain

economic transactions. The level of transparency can usually be directly

correlated to financial performance. Jack in the Box generally does a adequate

job of using footnotes to tell more about their financial position. Most of the

significant sections of the financial statements are detailed and show what those

sections encompass. An example would be the section titled “Other Assets” in

the balance sheet which “primarily include[s] lease acquisition costs, acquired

franchise contract costs, deferred finance costs and COLI policies” (JBX 2006

10K). Explanations are given about the type of accounting policies used for

sections such as inventory, impairment of long-lived assets, and revenue

recognition. Jack in the Box also discloses variations in numbers. For example,

they explain that the $26 million increase in restaurant cost of sales from 2004 to

2005 was due to beef cost increase of 11% when the U.S. border closed to

Canadian meat (JBX 2006 10-K). One problem with Jack in the Box’s

transparency was the fact that there is no separation of franchises sales from

company operated sales. This could be helpful in revealing the percentage

impact franchises have on Jack in the Box’s revenues. Overall the company gives

a fair look into the activities of their financial statements. This gives the

shareholders confidence, because they see the firm is not holding back

information that could hurt the firm’s reputation.

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Quantitative Analysis of Disclosure

As explained previously, managers have some flexibility in the accounting

of various aspects within their financial statements. This flexibility is given to

managers since they have a better understanding of the dynamics of their firm

and industry. However, flexibility in accounting may allow managers to manage

their earnings by manipulating aspects such as expenses and/or revenues.

These manipulations could distort the true financial reality of the firm. A

quantitative analysis of disclosure through the use of accounting diagnostic ratios

should uncover any attempts of manipulation by management.

Accounting Diagnostic Ratios

The purpose of accounting diagnostic is to uncover any potential

manipulations in accounting policies. If there are any deviations in the ratio from

the norm, there may be an accounting problem that should be addressed. As

the summary on the next page displays, it is important to compare Jack in the

Box’s ratios to that of the industry in order to indentify and understand any

differences in accounting policies.

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Summary of Accounting Diagnostic Ratios Jack in the Box 2002 2003 2004 2005 2006

Net Sales/Cash from sales 1.002 1.003 0.994 1.001 1.004 Net Sales/Net Accounts Receivable 75.009 65.173 126.732 117.942 89.579 Net Sales/Inventory 66.402 64.932 68.163 62.578 67.124 Asset Turnover (sales/assets) 1.849 1.802 1.805 1.871 1.819 CFFO/OI 1.056 1.099 1.195 1.041 1.133 CFFO/NOA 0.179 0.176 0.198 0.180 0.225 Total Accruals/Change in Sales 1.265 1.899 0.816 1.155 0.917

Sonic


McDonalds


Wendy's*

Net Sales/Cash from sales 1.001 N/A N/A 0.974 1.009 Net Sales/Net Accounts Receivable 31.594 N/A 19.678 39.483 28.751 Net Sales/Inventory 57.560 44.673 82.402 80.632 Asset Turnover (sales/assets) 1.024 N/A 0.783 0.714 1.184 CFFO/OI 1.165 1.028 2.328 2.714 6.732 CFFO/NOA 0.240 N/A 0.214 0.354 0.221 Total Accruals/Change in Sales 0.652 N/A -0.465 -4.024 -11.339

Burger King**

Net Sales/Cash from sales N/A N/A N/A N/A 1.000 Net Sales/Net Accounts Receivable N/A N/A N/A 17.636 18.789 Net Sales/Inventory N/A N/A N/A N/A N/A Asset Turnover (sales/assets) N/A N/A N/A 0.712 0.803 CFFO/OI N/A N/A 2.726 1.444 0.435 CFFO/NOA N/A N/A N/A 0.242 0.084 Total Accruals/Change in Sales N/A N/A N/A 1.651 3.583

*Wendy’s did not have a balance sheet for 2003. **Burger King went public in 2004; therefore, financial statements for previous years are not available. ***Information attained from each firm’s 10-k

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Revenue Diagnostic Ratios

Looking at the revenue diagnostic ratios allows analysts to examine trends

that exist in JBX’s reported revenue figures in order to identify any potential

discrepancies. We are then able to compare the firm’s reported figures to their

closest competitors. This allows us to be able to determine if the firm’s revenue

numbers are following industry trends or if the discrepancies are firm specific.

The following section contains the revenue diagnostic ratios that will help show

where Jack in the Box’s revenues are coming from and help explain the overall

FFHR industry trends in revenue.

Net Sales/Cash from Sales

Net sales/cash from sales is a diagnostic tool that indicates whether or not

a firm’s cash flows are able to support the reported revenues. The ratio should

be close to 1.0 since firms should be receiving the same amount of cash as they

report as sales. However, because of timing issues with accounts receivable, the

cash may be received in a different period. Also, a consistent ratio of less than

1.0 could indicate that the firm has more account receivables that went into

default.

The fast food hamburger restaurant industry should not have much

deviation from a 1:1 ratio since most sales in this industry are in the form of cash

and not accounts receivable. Therefore, once a firm makes a sale they receive

cash, check, or credit. All of these forms of payment are basically considered

cash; therefore, very little, if any, accounts receivable.

As seen in the table below, Jack in the Box, Sonic, and McDonalds have a

net sales/cash from sales ratio of 1.0 as expected. However, since Wendy’s and

Burger King have lack of data, their results are not meaningful. Therefore, we

conclude that revenues of the FFHR industry are supported by cash flow.

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Net Sales/Net Accounts Receivable

As mentioned, account receivables for the FFHR industry are relatively

low; therefore, the net sales/net accounts receivable ratio may not be that

meaningful for this industry. However, in general, a higher net sales/net

accounts receivable is desired since there is less time between the date of the

sale and receiving payment for the sale.

As seen in the graph below, the industry appears to have a net sales/net

accounts receivable around 20 to 40. However, Jack in the Box ratio varies from

65 to 126. Although this appears to be significant, the problem with this ratio is

that Jack in the Box has a small amount of accounts receivable. Therefore, any

small change in accounts receivable will result in large deviations in this ratio.

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Net Sales/Inventory

Net sales/inventory is an indication of how well a firm turns inventory into

revenues. However, for accounting diagnostics, the sales/inventory ratio

indicates if the firm’s sales are supported by inventroy. Large deviations in net

sales/inventory may indicate that their may be manipulations in sales since it

would be expected that as a firm increases sales, their inventory would probably

increase proportionately.

As seen in the graph below, all firms in the industry appear to have a

constant net sales/inventory ratio. Sonic had a slight decrease from 2002 to

2004. However, overall, it appears that firms in the FFHR industry are consistent

in their reporting of net sales and inventory. This indicates that sales for each

firm in the industry are supported by their inventory. Therefore, it does not

appear that firms are manipulating their sales.

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Revenue Diagnostic Conclusion

The Net Sales/Cash from Sales ratio seems to be following the industry

wide average of 1.00 which is to be expected. The Net Sales/Net Accounts

Receivable ratio for Jack in the Box tends to be higher than the industry average

because JBX has smaller amounts of accounts receivable than comparison firms.

The Net Sales/Inventory has been very steady for Jack in the Box for the past

several years, but remains lower than the industry average. This can be

explained by the fact that Jack in the Box is a smaller firm when compared to its

competitors. Overall, it appears that revenue is supported by sales for Jack in

the Box, and there are no real “red flags” presented in this information.

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Expense Diagnostic Ratios

Examining expense diagnostic ratios for a firm allows us to determine if

the JBX is trying to hide additional expenses for the purpose of increasing profit

margins. We are able to compare the firm’s expense numbers against previous

years as well as competitors. The following section contains the expense

diagnostic ratios for JBX as well as competitors in the FFHR industry.

Asset Turnover

Asset turnover is a firm’s net sales/total assets. This ratio should be fairly

constant over time since as sales increase (decrease), total assets should

increase (decrease). Major deviations in this ratio could indicate a manipulation

in assets such as under/over stating assets or possibly a large writeoff in assets.

Also, a declining asset turnover could be an indication of either a lack of

efficiency or a possibility that the firm has been forced write down assets on

their balance sheet.

As the following graph indicates, the asset turnover for firms in the FFHR

industry are relatively stable and slightly upward sloping. This indicates that

firms in this industry are probably not manipulating their expenses by delaying

writing off their assets. Also, this stable trend should be expected since firms

should not be able to change their asset efficiency in a short period of time. Jack

in the Box has the highest turnover at slightly over 1.8 for the past 5 years. This

illistrates that JBX has the highest asset utilization efficiency in the industry.

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CFFO/OI

CFFO/OI is a firm’s cash flows from operating activities divided by its

operating income. This ratio shows how much operating income is supported by

cash operations. Since the FFHR industry is mainly a cash business, this number

should be fairly close to one. However, this number is not always close to one

when depreciation and working capital changes are calculated in the equation. A

decrease in this ratio indicates that the firm is gaining income through increases

in accounts receivable. The probability of increases in accounts receivable in the

FFHR industry is extremely small, since it is primarily a cash business.

As shown in the graph below, Jack in the Box, Sonic, and McDonald’s all

have ratios very close to one. It is difficult to determine the reason for the large

deviation in Wendy’s and Burger King’s ratios.

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Expense Diagnostic Ratios Conclusion

The asset turnover ratio for Jack in the Box has remained steady for the

past several years with an average around 2. Compared to the industry, Jack in

the Box’s asset turnover ratio is higher than its competitors. This can be

explained by that Jack in the Box uses it assets more efficiently and effectively

than its competitors in the FFHR industry. The CFFO/OI ratio for Jack in the Box

is consistent with the industry average of 1. This can be explained by that the

FFHR industry is primarily a cash business. Overall, we feel that there are no

potential “red flags” presented when analyzing the expense diagnostic ratios.

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Identify Potential Red Flags

In the analysis of Jack in the Box, no ratios present a red flag. The only

item that presents a “red flag” is the extensive use of operating leases instead of

capital leases. As discussed in the key accounting policies section, the use of

operating leases when a capital lease is appropriate affects assets, liabilities, and

expenses. For Jack in the Box, a capital lease would be more appropriate than an

operating lease because the firm does not expect to leave the location once the

lease term is up. According to JBX, the firm generally is able to “renew our

restaurant leases as they expire at then-current market rates” (JBX 2006 10-K,

15). This statement can be viewed as an intention of the firm to continue leasing

at that location for extended periods of time, where significant portions of the

leased asset would be consumed by Jack in the Box. Therefore, using capital

leases would be more appropriate for Jack in the Box.

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Undo Accounting Distortions

The purpose of financial statements is to accurately portray the economic

consequences of business activities. As explained in the red flag section, Jack in

the Box expenses their operating leases rather than capitalizing the leases. This

accounting practice changes the structure of the firm’s balance sheet and

expenses. Because of this, a restated financial statement showing operating

leases as capital leases for Jack in the Box is needed in order to give users a true

and fair picture of their firm.

The full analysis and restated balance sheets for fiscal years 2002-2006

for Jack in the Box can be found in the Restatements Appendix. In order to

undo this distortion, some assumptions were made. According to Jack in the

Box, the average lease term is 5-20 years (JBX 10-K 2002-2006). It is assumed

that the lease term is 12 years, which is the average of 5-20 years. For fiscal

years 2004-2006, JBX disclosed the average interest rate for their capital leases.

Minor adjustments were necessary to make the calculated present value match

the present value stated in the 10-K. For fiscal years 2002 and 2003, the

interest rate is assumed to be the rate which makes the calculated present value

match the present value stated in the 10-K.

Restating Financials

Restating JBX’s financial statements to reflect operating leases as capital

leases has major effects on the balance sheet as seen in the following table and

graphs. For example, fiscal year 2006 assets and liabilities should be increased

by about $1.05 billion from $1.5 billion to $2.5 billion or an increase of 69.11% in

assets and liabilities. Also, the restated assets will reduce the asset turnover

from about 1.8 to 1. However, the asset ratio is consistent over the past five

years. This restatement makes Jack in the Box less attractive to potential

investors due to a significant increase in liabilities.

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Restated Financials 2003 2004 2005 2006 2007

Total Assets Before 1,063,483 1,142,481 1,285,342 1,337,986 1,520,461 After 1,877,621 2,063,943 2,339,408 2,407,971 2,571,319

76.55% 80.65% 82.01% 79.97% 69.11% Asset Turnover

Before 1.848981 1.801597 1.805329 1.871132 1.818954 After 1.047261 0.997261 0.991903 1.039692 1.075576

Conclusion

This restatement of capitalizing leases as assets and liabilities of Jack in

the Box clearly changes our financial perspective of the firm. From this

restatement, Jack in the Box has understated its leasing obligations and its

assets. More detail of the affects of capital leasing will be seen in the financial

analysis. Now that this accounting distortion has been corrected, the analysis of

JBX can give a truer and fairer picture of the firm and its activities.

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Financial Analysis

Financial analysis is a method of determining the financial health of a firm.

The main objective of financial analysis is to “evaluate the current and past

performance of a firm and to assess its sustainability” (Palepu & Healy, 1-9).

The most common way of performing financial analysis is through the use of

ratios. There are dozens of ratios, but the most commonly used can be broken

into three categories: liquidity, profitability, and capital structure ratios. The

ratios of one firm can be compared to the ratios of competitive firms and the

industry to determine how well the firm is performing. Additionally, it is

important to monitor changes in a firm’s financial ratios in order to identify any

changes or trends in the structure of the firm. In this section, Jack in the Box

will be compared to its competitors through the use of ratio analysis.

Furthermore, some of the ratio analysis includes “Jack in the Box - RS”. This

represents the restated financials of Jack in the Box after capitalizing their

operating leases. Note, this measure was only included in those ratios where the

original and restated financials differed.

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Liquidity Ratios

Liquidity can be defined as the “ability to convert an asset to cash quickly”

(www.investopedia.com). A firm often has the need to acquire cash quickly in

order to pay off short term debt. Liquidity ratios are primarily used to determine

a firm’s ability to pay off any short term liability obligations. The larger a liquidity

ratio is, the better the firm’s ability to meet any of these obligations. Liquidity

ratios that are used to analyze Jack in the Box include current ratio, quick asset

ratio, inventory turnover, receivables turnover, and working capital turnover.

Current Ratio

The current ratio is current assets divided by current liabilities. This ratio

says that for every dollar in current liabilities, there is x amount in current assets

to cover the debt. A larger ratio means that the firm has a lower likelihood of

defaulting on any debt.

From 2001 to 2003 Jack in the Box had a low current ratio with an

average of about $.5 of current assets covering every dollar of current liabilities.

Jack in the Box does seem to be improving, averaging about a 1:1 current asset

ratio from 2004 to the present. The industry on average has always had a ratio

slightly above Jack in the Box in most years. The reason for this is that Jack in

the Box doest not carry as much cash or have the amount of receivables the

other companies do on average.

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2001 2002 2003 2004 2005 2006

Jack in the Box 0.55 0.34 0.63 0.87 1.03 1.19 McDonalds 0.81 0.71 0.69 0.70 1.51 1.21 Burger King 1.61 0.92 Sonic 0.82 0.70 0.93 0.70 0.54 0.54 Wendy's 0.90 0.92 0.88 0.67 1.30 1.66

There appears to be some volatility in the FFHR industry in regards to the

current ratio. Most firms have a ratio of greater than 1; however, Sonic has

been consistently below this value. Jack in the Box has been increasing its

current ratio, primarily through cash and cash equivalents. As of 2005, JBX has

enough in current assets to cover its current liabilities. Overall, there appears to

be a trend in the industry to improve the current ratio to a range from 1 to 1.5.

Quick Asset Ratio

The quick asset ratio is an even more stringent test of a firm’s ability to

pay short term debt. It is cash or cash-like assets divided by current liabilities.

Cash or cash-like assets are assets that could be converted to cash within 24-36

hours. Accounts receivable and marketable securities can be included, whereas

items such as inventory or prepaid expenses cannot. A ratio greater than or

equal to one is desirable. A ratio of less than one means that the firm must sell

more illiquid assets in order to pay short term obligations.

Where Jack in the Box’s current assets were below similar companies in

their industry, their quick asset ratios are about average with other competitors

in the industry. Since 2001, where the quick asset ratio reached dangerously low

levels, there has been an upward trend in the ratio for Jack in the Box and has

almost reached a 1:1 ratio.

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2001 2002 2003 2004 2005 2006

Jack in the Box 0.12 0.10 0.23 0.54 0.45 0.78 McDonalds 0.58 0.49 0.45 0.60 1.23 1.01 Burger King 1.38 0.75 Sonic 0.67 0.53 0.75 0.53 0.39 0.40 Wendy's 0.43 0.52 0.37 0.30 0.44 1.23

Similar to the results of the current ratio, it appears that there is a trend

in the FFHR industry to improve liquidity through the quick asset ratio. In each

of the past 4 years, Jack in the Box has improved this ratio closer to the desired

1:1 ratio.

Inventory Turnover

Inventory turnover is a unit-less measure of how many times a year a firm

must ‘restock the shelves’ with inventory. Inventory turnover is cost of goods

sold divided by inventory. A very large ratio can indicate poor inventory

management or obsolescence, while a very small ratio may indicate high sales or

a just in time strategy. Industry averages are a good indicator of how a firm is

performing relative to the industry.

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*Burger King did not report inventory in their financial statements. Thus, Burger King was excluded.

Jack in the Box holds a steady trend in inventory turnover at an average

of about 65 times a year. Aside from Wendy’s, the firms have remained at a

fairly constant level. Although Jack in the Box has remained at this level, it is

lagging behind the industry leaders.

Days’ Supply of Inventory

Days’ supply of inventory is how many days of inventory is held by the

firm. It is found by dividing the number of days in a year by inventory turnover.

This number is the first half of the cash-to-cash cycle, which is how long it takes

for a firm to convert an investment in inventory into cash.

Again, in a similar fashion to inventory turnover, most companies in this

industry tend to have a very steady day’s supply of inventory. Jack in the Box’s

average is a little under six days of being able to turn inventory into cash. The

reason the firms in this industry have such a low number of day’s supply of

inventory is because of the amount of food that makes up their inventory and

also because of food spoilage. Jack in the Box is lagging behind the industry

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leaders with Sonic and McDonalds having half the number of days of inventory

that Jack in the Box holds.

*Burger King did not report inventory in their financial statements. Thus, Burger King was excluded.

Receivables Turnover

Receivables turnover is a unit-less measure of how many times a year a

firm collects its receivables. Receivables turnover is determined by sales to

accounts receivable. The smaller this ratio is, the less efficiently a firm is

collecting its receivables. Whereas, a higher ratio indicates strong cash sales

(www.investopedia.com).

Jack in the Box has only recently closed the gap with the leader Sonic in

part because of a $13 million dollar reduction in accounts receivable in 2004.

Although, since 2004, Jack in the Box’s receivables turnover has been on the

decline again. In comparison with their main competitors, Jack in the Box finds

its self as one of the leaders in the test of liquidity due to the high amount of

receivables owned by other companies in the industry.

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It is important to note that A/R turnover may not be a meaningful

measure in this industry, specifically for JBX. The FFHR industry is primarily a

cash industry with little use or need of accounts receivable. Also, accounts

receivable is very small for JBX; therefore, any changes in accounts receivable

will have large changes in this ratio. This may not be a great measure of

liquidity for forms in this industry.

Days’ Sales Outstanding

Days’ sales outstanding is how many days it takes for a firm to collect

receivables. This number is the second half of the cash-to-cash cycle. A

significant change is days’ sales outstanding can be explained by changes in

credit policies, which is not normally disclosed on the 10-K.

The industry number of accounts receivable days has remained relatively

constant for most companies. Despite being in the top two in the least number of

days, Jack in the Box has seen an increasing trend due to the increasing amount

of receivables being taken on. This being said, Jack in the Box’s average of five

days is very impressive.

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Working Capital Turnover

Working capital turnover is the ratio of sales to working capital. This ratio

means that for every dollar of net investment in the business, there is x amount

of sales. A larger ratio is preferred because the “company is generating a lot of

sales compared to the money it uses to fund the sales” (www.investopedia.com).

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2001 2002 2003 2004 2005 2006

Jack in the Box -17.94 -8.90 -23.10 -65.33 288.43 43.07 McDonalds -34.66 -21.79 -19.86 -28.06 9.39 34.97 Burger King 8.08 -52.51 Sonic -66.05 -30.92 -155.35 -36.90 -20.70 -19.48 Wendy's -78.83 -93.32 -48.44 -10.90 14.18 9.31

Jack in the Box and most of its main competitors have a negative working

capital because their current liabilities are more than their current assets. The

reason for the large jump in 2005 in working capital turnover is because Jack in

the Box added almost $44 million dollars in current assets while everything else

stayed constant. Aside from the large jump, Jack in the Box sits mostly in the

middle of its competitors in this liquidity ratio.

Cash-to-Cash Cycle

By combining the inventory days and the accounts receivable days, the

analyst is able to calculate the amount of time from the initial sale to the day the

cash is received. This measure may not be as applicable for the FFHR industry as

it would be for other industries since the FFHR industry is primarily a cash

industry that does not depend primarily on accounts receivable. Despite this, the

industry appears to have a cash to cash cycle of about twenty days with JBX

leading the group with a cycle of about ten days.

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Conclusion

Overall, it appears that McDonalds leads the industry in regards to

liquidity. Jack in the Box has improved their liquidity in recent years by

accumulating cash and cash equivalents. Much of this accumulation was

required by covenants of their long-term debt. This may be an indication that

lenders previously saw Jack in the Box’s liquidity as an issue of concern. As of

2005, Jack in the Box appears to have strong liquidity based on all of the

measures discussed above.

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Profitability Ratios

Profitability ratios can be defined as “a class of financial metrics that are

used to assess a business's ability to generate earnings as compared to its

expenses and other relevant costs incurred during a specific period of time”

(www.investopedia.com). Having a high profitability ratio is favorable for both

stakeholders and shareholders. Comparing ratios from the firm’s previous years

or even the firm’s competitors is a good way to assess how well the firm is

doing. Some of the ratios that may help with this comparison includes: return on

equity, return on assets, and gross profit margin.

Gross Profit Margin

Gross profit margin is another measurement that is used to assess a firm’s

financial well-being. This ratio “reveals the proportion of money left over from

revenues after accounting for the cost of goods sold” (www.investopedia.com).

Gross profit margin is computed by dividing the firm’s gross profit (Sales –

COGS) by sales.

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2001 2002 2003 2004 2005 2006 Jack in the Box 19.44% 19.19% 17.62% 17.55% 16.99% 17.45% McDonalds 31.04% 30.24% 30.32% 31.75% 31.45% 32.36% Burger King 40.04% 38.32% 38.03% 38.40% 36.72% Sonic 40.92% 35.76% 34.68% 33.10% 32.29% 32.40% Wendy's 48.59% 49.32% 48.62% 45.27% 44.51% 44.56%

It appears that the industry's gross profit margin has been decreasing

slightly over the past few years. This could indicate that firm’s COGS is

increasing or that firms are having to lower their prices. The above graph and

shows that Jack in the Box’s gross profit margin is almost at a constant rate of

about twenty percent; however, there are slight variations within the years. It is

clear there was a slight decrease from 2002 to 2003. Then, from 2003 to 2006,

the ratio remained at a constant rate. It appears that the trend in the industry's

gross profit margin is relatively flat. However, we estimate that this margin will

increase slightly as firms continue to move to franchising locations.

Operating Expense Ratio

Operating expense ratio is a profitability ratio that measures the firm’s

selling, general, and administration costs in proportion to sales. Therefore, this

equation is computed by taking the operating expenses and dividing it by the

firm’s sales. The lower the ratio, the more efficient the firm is.

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As the graph indicates, the majority of the FFHR industry has an operating

expense ratio between 7 and 15 percent. All firms seem to have a very

consistent expense ratio. Jack in the Box appears to have a high expense ratio

compared to most of the industry, excluding Burger King. This will affect Jack in

the Box’s profitability since a larger proportion of its sales are tied up in SG&A

expense. However, as mentioned previously, we expect JBX’s expenses to

decrease as they move to franchising more locations. Therefore, we expect this

expense ratio to continue its slight decline.

Net Profit Margin

Net profit margin is one of the most important measures of profitability of

a firm. Net profit margin is computed as net income over total sales. This ratio

illustrates the amount from each sale that will be recorded as profit for the firm.

Therefore, the higher the percentage, the more the firm is able to retain from

each sale as profit.

The following graph and table illustrates that JBX is performing poorly in

regards to net profit margin. JBX’s net profit margin is only 4% compared to

over 10% for McDonald’s and Sonic. JBX’s low net profit margin indicates that

JBX is fairly inefficient compared to the industry leaders. Also, to increase net

income at the same pace as competitors, JBX would have to significantly

increase their sales since they are only able to retain 4% of sales as net income.

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2001 2002 2003 2004 2005 2006 Jack in the Box 4.48% 4.08% 3.40% 3.22% 3.66% 3.91% McDonalds 11.01% 5.80% 8.58% 12.25% 13.12% 16.42% Burger King NM NM 0.29% 2.42% 1.32% Sonic 11.78% 11.92% 11.70% 10.82% 11.31% 11.35% Wendy's 8.10% 8.01% 7.49% 2.08% 9.13% 3.87%

NM – Not meaningful

Asset Turnover

Asset turnover is a profitability measure that quantifies a firm’s utilization

of their assets. The ratio is computed by dividing the current period’s total sales

by last period’s total assets. A higher ratio indicates that a firm is more efficient

by producing more sales from their assets.

From looking at the following graph and table, JBX is the most efficient in

generating sales from their asset base with an asset turnover of about 2:1.

However, when we restated JBX’s financial statements, JBX fell to the lower half

of the industry with an asset turnover of 1.15. By accounting for JBX’s capital

lease obligations, an analyst may have a very different outlook on JBX’s asset

turnover and efficiency.

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2002 2003 2004 2005 2006 Jack in the Box 1.91 1.94 2.03 1.95 2.07 McDonalds 0.68 0.72 0.72 0.71 0.72 Burger King 0.71 0.80 Sonic 1.12 1.10 1.10 1.20 1.23 Wendy's 1.31 1.51 0.80 0.78 0.71 Jack in the Box -

RS 1.10 1.12 1.07 1.15

Return on Assets

Return on assets (ROA) measures how well a firm is able to generate

profits through the use of its assets. This equation is a product of net income

over sales multiplied by sales over assets. This equation can be broken down

into net income divided by assets. In this calculation, one must utilize the

previous year’s assets for the denominator.

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2002 2003 2004 2005 2006 Jack in the Box 7.79% 6.59% 6.54% 7.12% 8.07% McDonalds 3.97% 6.14% 8.82% 9.35% 11.82% Burger King 1.73% 1.06% Sonic 10.88% 11.77% 10.75% 11.19% 12.51% Wendy's 10.5% 8.8% 1.7% 7.0% 2.7% Jack in the Box -

RS 3.73% 3.62% 3.91% 4.49%

Shown from the graph above, Jack in the Box has had a stable ROA over

the past five years. Despite this, Jack in the Box is well below competitors

McDonalds and Sonic. Interestingly, taking into account the restated financial

statements, JBX has an ROA of only 4.49%, well below the industry average.

We feel that ROA would also be significantly lower for all firms if leases were

capitalized.

Return on Equity

Return on equity (ROE) measures a firm’s performance through its

capability to generate returns by using the funds that have been invested by its

shareholders from the previous year. This ratio is found by multiplying net

income over assets to the assets over shareholder’s equity. Broken down, this

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equation is read as net income divided by shareholder’s equity. Below is a graph

of Jack in the Box and its competitors’ ROE.

2002 2003 2004 2005 2006 Jack in the Box 19.40% 15.10% 16.58% 16.54% 19.11% McDonalds 9.42% 14.31% 19.02% 18.32% 23.40% Burger King 9.85% 4.76% Sonic 23.76% 22.66% 21.87% 21.04% 20.29% Wendy's 21.25% 16.29% 2.96% 13.06% 4.58%

The above graph indicates that Jack in the Box has a relatively strong ROE

ranging from 15 to 19 percent. Jack in the Box’s ROE has been stable during this

period unlike Wendy’s and McDonalds. This ROE is comparable to the rest of the

industry. Overall, it appears that JBX and the industry appear to have a strong

ROE around 20%.

Conclusion

Overall, it appears that Jack in the Box is performing below average in

regards to profitability compared to the FFHR industry. JBX appears to be

inefficient in regards to controlling expenses as shown with operating expense

margin and net profit margin. Alternatively, JBX is performing fairly well in terms

of asset efficiency even when capitalizing their leases. Also, JBX is performing

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fair in regards to ROA and ROE; however, JBX is lagging behind MCD and SNC in

both measures. Therefore, in regards to profitability, MCD and SNC appear to be

leading the industry with JBX coming in third.

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Capital Structure Ratios

Capital structure ratios answer the question of how a firm finances new

and existing assets. After examining the different rations, the analyst will be able

to see if the firm financed it assets through debt or equity. Capital structure is

what makes up a firms liability and owner’s equity. A firm’s overall valuation can

be greatly affected by how the firm is financed. Most often these ratios are used

to determine the credit worthiness of the firm, financial leverage, ability to cover

interest charges, ability to pay off liabilities and likelihood of bankruptcy. There

are two primary reasons for analyzing capital structure ratios. First, look at the

amount of debt in relation to owner’s equity. Secondly, examine a firm’s ability to

pay the principal and interest requirements due on its debt. One must compare

a firm’s capital structure ratios against the industry in which it operates. The

three ratios that will be examined for Jack in the Box include the debt to equity

ratio, times interest earned, and the debt service margin.

Debt to Equity Ratio

The debt to equity ratio is calculated by taking the total liabilities and

dividing them into total owner’s equity. This ratio measures the financial leverage

of the firm and it is often used to measure the credit risk. The lower the ratio,

the more the capital structure is financed with equity. Alternatively, a large debt

to equity ratio indicates that the firm is leveraged through debt financing.

Jack in the Box, with an average debt to equity ratio of 1.29 over the last

six years, indicates that Jack in the Box has $1.29 of liabilities for every dollar of

owner’s equity. This debt to equity ratio is well above industry average. More

importantly, looking at JBX’s restated debt to equity ratio, which takes into

account the capitalization of operating leases, illustrates that the firm is very

highly leveraged. By capitalizing the operating leases, JBX has a debt to equity

ratio around 3:1.

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2001 2002 2003 2004 2005 2006

Jack in the Box 1.45 1.24 1.49 1.25 1.26 1.04 McDonalds 0.90 0.94 0.78 0.59 0.59 0.54 Burger King NA NA NA NA 4.71 3.50 Sonic 0.78 0.76 0.83 0.55 0.45 0.63 Wendy's 0.44 0.47 0.39 0.35 0.26 0.55 Jack in the Box - RS 2.99 3.53 3.15 3.15 2.52

As the debt/equity graph illustrates, JBX has a slightly higher proportion of

debt in their capital structure than their competitors. Additionally, capitalizing

JBX’s operating leases truly affects the financial position of the firm as JBX’s

restated debt/equity ratio is three times the industry average. In terms of the

overall fast food industry, most competitors have maintained steady debt to

equity ratios.

Times Interest Earned

The times interest earned ratio is determined by taking operating income

and dividing them into interest expense. This ratio determines how many times a

firm can cover its interest charges on short term debt and other obligations on a

before tax basis. A higher value for this ratio is a good indicator that the firm has

sufficient income from operations to cover their interest on debt.

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Jack in the Box’s times interest earned ratio average of 8.33 over the last

six years indicates that Jack in the Box is able to cover one dollar of interest

charges 8.33 times over. Interestingly, by capitalizing JBX’s leases, JBX has a

times interest earned coverage of 1.59 to 2.04 times. This is significantly less

than their originally stated financial statements. Also, we expect all times

interest earned ratios for the industry to be significantly less if the firms

operating leases were restated as capital leases. Overall, there does not appear

to be a clear trend in the times interest earned ratio within the FFHR industry.

2001 2002 2003 2004 2005 2006

Jack in the Box 6.33 6.28 5.41 5.62 11.31 15.05 McDonalds 5.96 5.96 5.65 5.65 7.30 7.30 Burger King NA 1.16 (9.94) 1.14 2.07 2.36 Sonic 10.20 11.12 11.99 12.96 18.30 14.87 Wendy's 10.87 9.20 (9.14) (5.14) (4.08) (1.13) Jack in the Box - RS 1.6 1.59 1.69 1.66 2.04

Debt Service Margin

The debt service margin ratio is determined by taking cash flow from

operations and dividing them into installments due on long term debt

(CFFO1/ILTDo). This ratio determines how many times a firm can cover its

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current debt obligations on a before tax basis. A number less than one would

also indicate that the firm is currently unable to cover its annual debt payments

with is operating income. Jack in the Box’s average debt service margin of 25.67

over the last six years indicates that $25.57 of cash provided by operations was

generated to service each dollar of long term debt. With Jack in the Box having a

large debt service margin, the firm does not have to worry about servicing its

long term debt with operating cash flows.

2002 2003 2004 2005 2006

Jack in the Box 67.41 1.39 13.85 19.25 26.43 McDonalds 15.63 NA NA NA 7.98 Burger King NA NA NA 54.50 14.80 Sonic 77.08 84.15 65.60 21.26 19.53 Wendy's 105.52 90.13 NA 3.67 108.68

Jack in the Box seems to have refinanced their debt after their fiscal year

of 2003. It is after 2003 that Jack in the Box has seen steady increases in their

debt service margin. With Jack in the Box having an increasing debt service

margin, the firm is better able to service its debt obligations and interest

charges. In terms of the overall fast food industry, they seem to not follow any

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trends. This can be attributed to the fact that these companies have structured

their debt in different ways and have each taken on different debt obligations.

Conclusion

In conclusion, capital structure ratios measure the debt and equity

financing of a firm. The only ratio that shows a trend for the FFHR industry is

the debt to equity ratio. Analyzing the capital structure of a firm allows the

analyst to determine trends and evaluate the firm’s performance. Overall, firms

in the FFHR industry appear to be very different in the way they structure debt

and equity.

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IGR/SGR Analysis

Internal growth rate (IGR) and sustainable growth rate (SGR) analysis

provides a limit to the amount a firm can grow. Therefore, this measure serves

as a limit to our forecasts of Jack in the Box. This analysis shows how much a

firm can grow through internal financing only and the maximum sustainable

growth that a firm can experience.

Internal growth rate

A firm’s internal growth rate (IGR) is equal to the return on assets

multiplied by one minus the dividend payout ratio. IGR measures how much the

firm can grow without increasing its debt. The formula shows that internal

growth can only be equal to the rate of return on assets less any income paid

out as dividends. A low IGR results in a firm not having much room for growth

without being obligated to acquire additional debt in the future. If a firm is

forced to take on more debt, it in turn creates a less profitable firm. The

opposite happens when a firm has a high IGR. Less debt that has to be paid

means the more money a firm can retain. Jack in the Box has been in line with

the industry with its internal growth rate. Since JBX and SONC do not pay

dividends, they tend to have a higher IGR than the rest of the industry. The

graph below shows the IGR for JBX and industry average IGR.

*BKC was not included in industry average

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Sustainable growth rate

Sustainable growth rate (SGR) is calculated by taking IGR and multiplying

by one plus the debt to equity ratio. Where IGR measures how much a firm can

grow without more debt, SGR measures how much a firm can grow by matching

the amount of internal growth with outside financing. By growing at a rate equal

to SGR, the firm does not allow the capital structure of the firm to change. The

sustainable growth rate of the firm can be grown by increasing return on assets,

reducing dividends, or changing the capital structure of the firm. In the fast food

hamburger restaurant industry, Jack in the Box and Sonic have the highest SGR.

This could again be explained by the fact that these firms do not pay dividends.

As shown in the graph below, JBX has historically been well above the industry

average for SGR.

*BKC is not included in the industry average

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Forecasting

Forecasting the financial statements is the fourth step in the valuation

process. To value a firm, one must discount all future cash flows. Since future

cash flows of a firm are uncertain, it is the job of the analyst to make reasonable

assumptions and forecast the firm’s future cash flows based on those

assumptions. Forecasting assumptions are made by looking at common sized

financial statements and industry trends, which provide an estimate of the firm’s

future activity. The following section breaks down all assumptions that were

made to forecast Jack in the Box’s financials for ten years. First, quarterly

statements were used to forecast the income statement for 2007. Next, the

income statement was forecasted for the following nine years. Finally, the

balance sheet, restated balance sheet, and statement of cash flows were

forecasted for ten years. These financial statements can be found at the end of

this section and in the appendix.

Year 1 Income Statement Forecast

Jack in the Box’s fiscal year ends on October 1 of every year. The most

recent 10-K filing is October 1, 2006; therefore, there currently are three

quarters of reported financial data. To forecast 2007 for JBX, it was only

necessary to forecast one quarter of data, since the other three quarters are

already provided. Only the 2007 income statement was forecasted in this

manner because quarterly balance sheet and cash flow data was not accurate

and might create a forecast error. It is important to have accurate first year

forecasts because errors in year one have a greater effect on valuation than

errors in later years.

Income statement forecasts for the first year were found based on the

following process. First, historical 40 week totals were found for major income

statement items and subtracted from 10-K reported annual totals. Next, the

geometric growth rate for the difference was found. Finally, this growth rate

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was applied to the 2007 third quarter data to discover the fourth quarter and

annual totals. The geometric growth rates for major line items are as follows:

Net revenue – 9.7%, Cost of Goods Sold – 9.5%, and SG&A expenses – 2.75%.

Net income for 2007 was not computed in this manner because quarterly

information for net income was very erratic and did not provide a logical growth

rate. Net income for 2007 was computed using the method described in the

income statement section.

Also, it was found during the investigation of quarterly data that Jack in

the Box does experience some seasonality. Historically, JBX has seen higher first

and fourth quarter numbers, which suggests that the firm brings more business

during the late summer and early fall.

Income Statement

The first step in forecasting is the income statement. To forecast the

income statement for Jack in the Box, common sized statements and growth

rates were obtained for both the firm and the industry. Based on this

information, logical growth rates were determined for major line items. Net

revenue was forecasted at 8.6% growth rate, which is the firm’s five year growth

rate. This growth rate is deemed to sustainable due to the analysis of SGR and

IGR for Jack in the Box. Forecasted cost of goods sold was computed as 82% of

net revenue, which is the five year historical average and in line with the industry

average. Selling, general, and administrative expense was forecasted using a

rate of 10.5%. The historical average is 11.23%; however, the percent of SG&A

expenses to sales has been steadily declining. It appears that the percent of

SG&A expense to sales will decline to a steady rate of 10.5%, which is indicative

of Jack in the Box’s attempt to attain cost control in its business. Forecasted net

income was computed using the historical average net profit margin percentage

of 3.77%. There is no real industry or firm trend, but the historical rate of

3.77% is comparable to net income as a percentage of operating income. The

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forecasted income statement shows major line items doubling over the next ten

years, with smooth, even growth.

Balance sheet

Forecasting the balance sheet is the second step of forecasting financial

statements. The balance sheet is more difficult to forecast, but the use of

financial ratios creates links between the income statement and the balance

sheet. Asset turnover is one of the ratios that create a link between these two

statements. For Jack in the Box, the historical asset turnover ratio has been

hovering around two. Since asset turnover is sales divided by assets in the

previous period, forecasted assets can be determined by taking sales and

dividing by asset turnover. Therefore, Jack in the Box’s forecasted total assets

are forecasted sales divided by two. The next item that was forecasted was the

current and long term portions of assets. The percentage of current assets to

total assets has been growing steadily over the past six years. In 2006, current

assets were 26% of total assets. It appears that this percent will grow to 28% in

2007 and level at 30% for 2008 and beyond. The long term portion of assets

was computed as forecasted total assets less forecasted current assets.

The next step of forecasting the balance sheet deals with is forecasting

liabilities and owner’s equity. Since Jack in the Box does not pay dividends,

owner’s equity was forecasted as the previous year’s equity plus net income.

This method of forecasting equity puts limitations on the usefulness of forecasted

liabilities. A more useful tool for forecasting liabilities would be the debt to

equity ratio. However, the goal is to obtain an equity valuation of the firm which

means that it is important to gain the most accurate forecast of owner’s equity.

The accuracy of owner’s equity creates inaccuracies for liabilities.

Restated Balance Sheet

Capitalizing Jack in the Box’s operating leases affects the forecasted

balance sheet because it increases long term assets and long term liabilities.

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The process for forecasting the restated balance sheet is the same as the

reported balance sheet. Total assets are forecasted using the restated asset

turnover ratio. This ratio has historically been about 1.1, which is much lower

than the reported ratio of 2. This lower ratio means higher forecasted assets,

due to the capitalized leases. Current assets as a percentage of total assets has

been growing over the past few years, but capital leases as a percentage of total

assets has been stable at about 45%. It is expected that the restated balance

sheet will have growth in current assets from 16% to 20% over the next two

years. This is due to Jack in the Box increasing the amount of current assets,

not decreasing the amount of capital leases. It is expected that the percent of

capital leases to total assets will remain the same over the forecast period.

Since capitalizing leases does not affect owner’s equity, this forecast

remains the same for both balance sheets. Liabilities will be higher in the

restated balance sheet due the capital leases. As with the reported balance

sheet, forecasted liabilities have inherent errors.

Statement of Cash Flows

Forecasting the statement of cash flows is the final step in the forecasting

process. The statement of cash flows is the most difficult to forecast because

cash flows can be very erratic for a firm. Since forecasting the statement of cash

flows is so difficult, the only two line items that are forecasted include cash flows

from operating and investing activities. These line items are needed in order to

determine free cash flows to the firm for valuation purposes.

When forecasting the cash flows from operating activities, the analyst

utilizes three of the expense diagnostic ratios and determines which ratio has the

best explanatory power for cash flows. Those three ratios are CFFO/OI,

CFFO/Net Sales, and CFFO/NI. For Jack in the Box, all three of these ratios show

variability, and it was necessary to evaluate the usefulness of each ratio. After

this evaluation, it was determined that CFFO/OI had the most explanatory power

for forecasting cash flows from operating activities. The average ratio was 1.11

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and the standard deviation was .06. CFFO/OI was clearly the best choice for

forecasting cash flows from operating activities.

Forecasting the cash flows from investing activities is done by using the

growth rate in non-current assets. Jack in the Box has a negative growth rate in

non-current assets because it is selling many of its firm owned restaurants to

franchisees. This trend supports the firm’s long term goal of increasing

franchised ownership. It is expected that the decline in long term assets will

average 5% per year. For the forecasts, the initial 5% decline was taken from

the historical average cash flow from investing activities.

Conclusion

Forecasting the financial statements is a best guess estimate of the future

of the firm. To forecast the financial statements of Jack in the Box, some

reasonable assumptions based on historical individual and industry averages

were made. Those forecasts show smooth, even growth over the next ten years,

with net income and assets doubling over this time period. The forecasts for

Jack in the Box will be utilized when valuing the firm. No one knows what is

truly in the future for Jack in the Box, but, by making forecasts, the current

valuation of the firm can be obtained.

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Common Size Balance Sheet

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Cost of Financing (KE, KD & WACC)

Cost of Equity (KE)

The cost of equity or KE is the minimum or required rate of return

demanded by shareholders given the risk of the firm. The model used to

approximate JBX’s KE is the CAPM, Capital Asset Pricing Model. CAPM estimates

KE by adding the risk-free rate to beta times the market risk premium. Beta is

the measure of systematic risk of a firm and the market risk premium is added

compensation above the risk-free rate that is required by investors (market risk

premium = market return – risk-free rate).

Estimating Beta

It is important to calculate an estimate beta for JBX rather than relying on

Yahoo! Finance or other firm since these firms do not disclose their methodology

for their beta estimates. By computing JBX’s beta manually, we are able to

understand and control the assumptions of beta and the model.

We calculated the estimate for the beta of JBX by regressing JBX’s

monthly return (y-variable) to the market-risk premium (x-variable). In our

analysis, we ran 30 regressions using the 3-month, 1-year, 2-year, 5-year, 7-

year, and 10-year Treasury rates1 as proxies for the risk-free rate over periods of

the most recent 72, 60, 48, 36, and 24 months. The reason for the multiple risk-

free proxies and time periods is to determine the most appropriate measure for

beta which is determined by which regression had the highest adjusted R2. As

seen in the beta results, beta for JBX is not stable when changing the number of

periods. Therefore, it is important to use model that provides the highest

explanatory power. The CAPM states that KE = RFR + β (Market Risk Premium).

However, CAPM does indicate what the appropriate RFR or MRP. By running

these 30 iterations, we were able to select the most appropriate beta coefficient

for JBX.

1 Treasury rates were attained from the St. Louis Federal Reserve website.

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Beta Results

The following table illustrates the results of the 30 regressions. The

model with the most explanatory is that using the 10-year note as the risk free

rate and using the 36 months of returns. This indicates that investors in JBX

have a 3 year (36 month) investment horizon. Also, as seen below, the

regression models for the 36 and 24 months provide the best explanatory power.

This illustrates that investors have a short-term time horizon for JBX.

This model yielded a beta for JBX of 1.789 which is only slightly different

from Yahoo! Finance’s beta for JBX of 1.78. Interestingly, this model’s adjusted

R2 was only .001 to .003 higher than using the other risk free proxies. Despite

this, we will use the current 10-year rate, 4.52%, as the appropriate risk free

rate, a beta of 1.789, and a market risk premium of 6.8%2. Imputing these

figures into the CAPM yields a KE of 16.90%

3-Month 1-Year 2-Year

# of Months Beta Adj. R2 KE Beta Adj. R2 KE Beta Adj. R2 KE

72 0.922 0.136 10.26% 0.919 0.135 10.39% 0.917 0.135 10.24%

60 1.112 0.106 11.88% 1.109 0.106 12.01% 1.110 0.106 11.86%

48 1.352 0.114 14.15% 1.350 0.114 14.14% 1.345 0.114 13.97%

36 1.782 0.200 16.86% 1.781 0.201 17.07% 1.782 0.201 17.09%

24 1.780 0.181 16.98% 1.775 0.180 16.98% 1.768 0.180 16.79%

5-Year 7-Year 10-Year


72 0.917 0.135 10.99% 0.918 0.136 10.99% 0.919 0.136 11.01%

60 1.114 0.106 12.10% 1.116 0.107 12.13% 1.117 0.107 12.16%

48 1.333 0.111 13.65% 1.329 0.110 13.62% 1.326 0.110 13.61%

36 1.785 0.202 16.83% 1.787 0.202 16.84% 1.789 0.203 16.90%

24 1.771 0.180 16.71% 1.772 0.180 16.73% 1.773 0.181 16.78%

Other Interesting Findings from the Regression Analysis

The regression analysis yielded some other findings that should be noted.

As seen in the graphs on the next page, the estimated beta for each time period

is relatively constant across all points on the yield curve. However, the actual

2 We assumed a market risk premium of 6.8%. This is the average market risk premium from 1926 to 2005(Palepu & Healy, 8-2 to 8-4).

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estimate for beta ranges greatly from .922 to 1.789. This illustrates the

limitations of CAPM since beta is not constant for a firm. Using different betas

from .922 to 1.789 would yield significantly different KE for JBX. As seen in the

table above, using the .922 as the beta, JBX would have a KE of 10.26%. This KE

is 664 basis points less than that for a beta of 1.789.

The variability of beta for JBX and thus the estimate of KE is shown in the

second graph below. Depending on how many data points used in the

regression analysis yields significantly different estimates of the cost of equity for

beta. This illustrates that investors have a different required rate of return based

on their investment horizon. It appears that the shorter the investment horizon,

the higher the required rate of return for equity.

# of Data

Points

# of Data

Points

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Cost of Debt (KD)

The cost of debt is the interest rate that the firm must pay on the funds

that they borrow. The interest rate used for accounts payable and accrued

liabilities is the current interest rate for commercial paper for nonfinancial firms.

The other interest rates in the following tables were disclosed by JBX in their 10-

k report. In the 10-k, JBX disclosed the appropriate interest rates for their

liabilities are LIBOR+1.5% for long-term liabilities and 8.9% for lease obligations.

Using these rates and the weight of each particular component of JBX’s

liabilities, we were able to calculate JBX’s appropriate cost of debt. Notice in the

tables below, that JBX has two costs of debt: KD based on JBX’s original financial

statements and KD after we restated their financials to account for JBX’s lease

obligations. JBX’s original pretax cost of debt is 5.81% and 7.62% when

capitalizing leases. It is important to note that JBX’s cost of debt is higher when

capitalizing its operating lease since these leases are a high proportion of their

debt and carry a higher interest rate. The after-tax cost of debt for the original

and restated using a 35.7% tax rate are 3.74% and 4.9% respectively.

Cost of Debt (KD) – Original Financials

Amount Weight Rate Value

Weighted Rate

Current maturities of long-term debt 37,539 5.08% 6.41% 0.33%

Accounts payable 61,059 8.27% 4.94% 0.41%

Accrued liabilities 240,320 32.53% 4.94% 1.61%

Total current liabilities

338,918 45.88%

Long-term debt, net of current maturities

254,231 34.41% 6.41% 2.21%

Other long-term liabilities 145,587 19.71% 6.41% 1.26%

Capital Lease Obligations 0 0.00% 8.90% 0.00%

Total Liabilities 738,736 100.00% Before Tax KD = 5.81%

After Tax* KD = 3.74%

*Tax rate: 35.7%

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Cost of Debt (Kd) – Restated Financials

Amount Weight Rate

Value Weighted

Rate Current maturities of long-term debt 37,539 2.10% 6.41% 0.13%



Total current liabilities 338,918 18.94%


254,231 14.21% 6.4100% 0.91%


Capital Lease Obligations 1,050,858 58.72% 8.90% 5.23%

Total Liabilities 1,789,594 100.00% Before Tax KD = 7.62%

After Tax KD = 4.90%

*Tax rate: 35.7%

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Weighted Cost of Capital – WACC

The weighted cost of capital, WACC, is the overall cost of capital when

taking both the cost of debt and cost of equity into consideration.

WACC = KE (L/ (E +L)) + KE (E / (E+L)). The following table shows the results

of the WACC calculations.

Original Financial Statements

Restated Financial Statements

KDBT 5.81% KDBT 7.62% KDAT 3.74% KDAT 4.90% KE 16.90% KE 16.90% L/(E+L) 0.51 L/(E+L) 0.72 E/(E+L) 0.49 E/(E+L) 0.28 WACCBT 11.25% WACCBT 12.17% WACCAT 10.19% WACCAT 10.78%

*Tax rate: 35.7%

It is important to notice the difference in both the WACCBT and WACCAT

between the original and restated financial statements. As seen in the restated

figures, JBX has a larger portion of the financing consisting of debt from 51% to

72%. The reason for the increase in this proportion is because of the

capitalization of operating leases, which hold an interest rate of 8.9%. This

increased the cost of debt which then slightly increased the WACCBT and

WACCAT.

For the purpose of valuing JBX, the appropriate WACCBT and WACCAT will

be 12.17% and 10.78% respectively. These WACC values are based on the

restated financial statements which capitalize JBX’s operating leases. We feel

that these leases are financial obligations of JBX. As seen in the table above,

restating JBX’s financial statements results in an increase of 92 and 59 basis

points in JBX’s WACCBT and WACCAT. This increase in the cost of capital will

decrease the valuation of JBX in some of the valuation models. This decrease in

the current valuation of JBX will be explained in the following section.

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Valuation Analysis

The purpose of this entire report is to construct a value for Jack in the Box

as of November 1, 2007 so that we can develop an investment recommendation.

Utilizing the analysis and data that were gathered in the previous sections, we

will present our valuation analysis. In this section, we will use two main

approaches to value JBX. The first approach will utilize comparable industry

ratios to compute JBX’s value. The method of comparables, P/E, PEG, P/B, and

etc, is widely used for its ease of use. However, as we will explain, we feel that

the method of comparables is not that great at determining a value for the firm.

The second approach will use more financial data of JBX to uncover an intrinsic

value for the firm. We feel that this intrinsic approach, which uses more theory,

provides a more reliable valuation than the method of comparables. The intrinsic

valuation approach dissects the financials of JBX in order to assign a value to

JBX.

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Valuation: Method of Comparables

In the method of comparables approach, the averages from various

industry ratios are used to estimate the share price for a specific firm. This can

be done by computing and averaging several different industry ratios individually

and then working backwards to find the target firm’s price per share. For

example, we assume that P/EJBX = P/EFFHR Industry. We have estimated JBX’s

earnings in the previous sections and we have computed the average P/E for the

FFHR industry. With these values, we can solve for the unknown price.

The firms used for the industry average are the same ones that have been

used throughout this valuation report: Burger King, McDonalds, Wendy’s, and

Sonic. JBX’s numbers are from their 10-K report, while the other companies’

numbers are from finance.yahoo.com.

Summary of Comparables P/E P/E

Forward P/B D/P PEG P/EBITDA P/FCF EV/EBITDA

Jack in the Box

McDonalds 30.57 18.12 4.66 3.119 9.01 22.68 11.04

Burger King 22.89 16.79 4.69 1.477 62.74 106.94 10.00

Sonic 25.88 18.12 -13.48 1.442 108.03 55.05 10.09

Wendy’s 41.05 21.01 3.64 2.084 100.45 24.21 9.40

Industry Average 30.10 18.51 4.33 2.03 70.06 52.22 10.13

JBX Value 90.60 57.17 85.67 52.56 54.03 205.46 203.47

JBX Value Adjusted* 45.30 28.59 42.84 26.28 27.01 102.73 101.74

JBX Observed Price 29.83 Under/Fairly /Over Valued U F U N/A F-O F-O U U

F – Fairly Valued, O – Overvalued, U - Undervalued *adjustment for a 2-1 stock split on Oct. 16th 2007

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Trailing Price to Earnings ratio

The trailing price to earnings ratio is computed by taking the current share

price and dividing it by last year’s earnings per share. After getting this ratio for

each comparable firm, the average came out to be $30.10. In order to come up

with a value per share for Jack in the Box, the industry average is multiplied by

Jack in the Box’s last earnings per share. After the adjustment for the October

16th 2-1 stock split, Jack in the Box’s estimated price per share came out to be

$45.30. This makes the company undervalued compared to the per share price

of $29.83 as of November 1st.

Trailing P/E McDonalds 30.57 Burger King 22.89 Sonic 25.88 Wendy’s 41.05 Industry Average 30.10 Jack in the Box (EPS) 3.01 Jack in the Box Value 90.60 Jack in the Box Adj Value* 45.30 Jack in the Box Observed Price

29.83

Conclusion Undervalued *adjustment for a 2-1 stock split on Oct. 16th 2007

Forward Price to Earnings Ratio

When using the forward price to earnings ratio as a comparable, the same

method as the trailing price to earnings ratios is used except that instead of the

earnings per share from last year, forecasted earnings per share is used in its

place. This results in the industry averages to fall to $18.51 and turns Jack in the

Box’s estimated share price to $28.59. This shows that the firms current share

price is fairly valued being that it is only a little more than a dollar over of the

estimated value.

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Forward P/E McDonalds 18.12 Burger King 16.79 Sonic 18.12 Wendy’s 21.01 Industry 18.51 Jack in the Box (EPS) 3.09 Jack in the Box Value 57.17 Jack in the Box Adj Value* 28.59 Jack in the Box Observed Price

29.83

Conclusion Fairly Valued *adjustment for a 2-1 stock split on Oct. 16th 2007

Price to Book Value Ratio

The P/B ratio is calculated by dividing the current price per share by the

book value of equity per share. The industry average, which was calculated

without Sonic because of their negative book value per share, came out to be

4.33. This resulted in an estimated share price of $42.84 for Jack in the Box.

When compared to Jack in the Box’s current share price, this comparable shows

JBX as an undervalued firm.

Price/Book Ratio McDonalds 4.66 Burger King 4.69 Sonic -13.48 Wendy’s 3.64 Industry Average 4.33 Jack in the Box (BVS) 19.79 Jack in the Box Value 85.67 Jack in the Box Adj Value 42.84 Jack in the Box Observed Price

29.83

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Dividend Yield

Another commonly used comparable is the dividend yield. Since Jack in

the Box does not issue dividends this was not applicable.

PEG Ratio

The PEG. ratio is a firm’s P/E ratio divided by their estimated growth rate.

The industry average PEG. ratio was 2.03. Multiplying that average by Jack in

the Box’s 8.6% growth rate then by their earnings per share results in a per

share price of $26.28. This shows that JBX is a fairly valued firm to slightly

overvalued.

PEG Ratio McDonalds 3.12 Burger King 1.48 Sonic 1.44 Wendy’s 2.08 Industry Average 2.03 Jack in the Box Value 52.56 Jack in the Box Adj Value 26.28 Jack in the Box Observed Price

29.83

Conclusion Fairly - Overvalued

*adjustment for a 2-1 stock split on Oct. 16th 2007

Price to EBITDA Ratio

The price to earnings before interest, taxes, depreciation, and

amortization (EBITDA) ratio is computed by dividing the per share price of a firm

by their EBITDA, which is in billions. The calculated industry average came out

to be 70.06. Multiplying this by Jack in the Box’s EBITDA of 0.771, gives the

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estimated value of $27.01 per share. Again this is shows the firm is fairly value

to slightly overvalued compared with the November 1st price.

P/EBITDA McDonalds 9.01 Burger King 62.74 Sonic 108.03 Wendy’s 100.45 Industry Average 70.06 Jack in the Box Value 54.03 Jack in the Box Adj Value 27.01 Jack in the Box Observed Price

29.83

Conclusion Fairly - Overvalued

*adjustment for a 2-1 stock split on Oct. 16th 2007

Price to Free Cash Flows Ratio

The price to free cash flows ratio is similar to the previous ratio, except

free cash flows is used in the place of EBITDA. Free cash flows is calculated by

adding up a firm's cash flows from operations and cash flows from investing.

The industry average comes out to be 52.22. When multiplied by Jack in the

Box’s free cash flows, the estimated price of $102.73 makes the firm extremely

undervalued.

P/FCF McDonalds 22.68 Burger King 106.94 Sonic 55.05 Wendy’s 24.21 Industry 52.22 Jack in the Box Value

205.46

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Jack in the Box Adj Value 102.73

Jack in the Box Observed Price

29.83


Enterprise Value to EBITDA ratio

The final ratio is the enterprise value to EBITDA ratio and is calculated by

taking a firm’s enterprise value, which is the market value of equity plus the

book value of liabilities subtracted by short term investments, and dividing it by

their EBITDA. As with EBITDA, the enterprise value is calculated in billions for

conformity. The ratio average for the industry was 10.13. Since there the price

per share is part of the enterprise value, different calculations had to be made in

order to find the estimated price per share. The industry average is first

multiplied by Jack in the Box’s EBITDA, then JBX’s short term investments is

added in, after this the book value of liabilities is subtracted, and ultimately

everything is divided by the number of shares outstanding. According to this

comparable JBX’s estimated price per share is $101.74, again making the firm

extremely undervalued.

EV/EBITDA McDonalds 11.04 Burger King 10.00 Sonic 10.09 Wendy’s 9.40 Industry Average 10.13 Jack in the Box Value 203.47 Jack in the Box Adj Value 101.74 Jack in the Box Observed Price

29.83


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Conclusion

For the most part, Jack in the Box is fairly valued to undervalued using the

method of comparables. Of the seven applicable comparables, four

comparables resulted in showing that Jack in the Box is significantly undervalued

with intrinsic values ranging from $42.84 to $102.73 compared to JBX’s observed

price of 29.83. The other three comparables show that the firm is fairly valued

to slightly overvalued. Lack of consistency is one of the main problems with

comparables. Another problem is the differences in firms used for comparison.

McDonalds creates problem because of the size of their operations. It is unfair to

create any sort of average within in an industry with a firm that dwarfs the

others as McDonald does. Finally, these estimated prices do not show us

anything because there is no theory backing them up. These ratios are merely

numbers, some which are more applicable for some firms than others. Despite

these drawbacks, we conclude through the use of comparables that JBX is

undervalued.

Summary of Comparables P/E P/E

Forward P/B D/P PEG P/EBITDA P/FCF EV/EBITDA

Jack in the Box

McDonalds 30.57 18.12 4.66 3.119 9.01 22.68 11.04

Burger King 22.89 16.79 4.69 1.477 62.74 106.94 10.00

Sonic 25.88 18.12 -13.48 1.442 108.03 55.05 10.09

Wendy’s 41.05 21.01 3.64 2.084 100.45 24.21 9.40

Industry Average 30.10 18.51 4.33 2.03 70.06 52.22 10.13

JBX Value 90.60 57.17 85.67 52.56 54.03 205.46 203.47

JBX Value Adjusted* 45.30 28.59 42.84 26.28 27.01 102.73 101.74

JBX Observed Price 29.83 Under/Fairly /Over Valued U F U N/A F-O F-O U U

F – Fairly Valued, O – Overvalued, U - Undervalued *adjustment for a 2-1 stock split on Oct. 16th 2007

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Valuation: Intrinsic Valuation Models

As mentioned, we feel that the intrinsic valuation approach should provide

a more reliable and realistic value for JBX. The primary reason for this belief is

that the intrinsic valuation models look at and dissect the financials of the firm in

order to determine a value for its equity. Alternatively, the comparables method

merely assumes that the firm being valued should resemble the industry or

group of competitors that it is being compared to. The methods that we utilized

for the intrinsic valuation of JBX are the dividend discount model, free cash flow

model, residual income model, the long run ROE residual income model, and the

abnormal growth earnings (AEG) model.

Intrinsic Valuation Summary Conclusion Dividend Discount (DDM) N/A Free Cash Flow (FCF) Slightly

undervalued Residual Income Overvalued Long Run ROE Residual Income Overvalued Abnormal Earnings Growth (AEG) Overvalued

Dividend Discount Model

The dividend discount model is a valuation that discounts future

dividends. In theory, the summation of the present value of dividends should be

the value of a the firm. However, the dividend discount model is not applicable

for Jack in the Box since JBX does not pay dividends and there is no indication

that they will being to pay dividend in the near future.

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Free Cash Flow Model

Similar to the dividend discount model, the free cash flow model discounts

future cash flows to the present in order to create an intrinsic value for JBX.

However, the cash flow that is discounted in the FCF method is the free cash

flows to the firm (cash flow from operations minus cash flows from investments).

FCFs are cash flows available to both debt and equity parties and is already

computed on an after-tax basis; therefore, the proper discount factor will be

JBX’s WACCBT. Since FCFs are cash flows available to equity and debt parties,

JBX’s value of debt must be subtracted from the value calculated in order to

attain an intrinsic value of JBX’s equity.

Free Cash Flow Methodology

As mentioned above, the major inputs in the free cash flow model are the

cash flows from operations, the cash flows from investing activities, WACCBT,

book value of debt, and a growth rate for the FCF perpetuity.

As seen in the model below, the first step is to compute the free cash

flows for JBX. Then, these FCFs are discounted using JBX’s WACCBT to time 0

(October 1st, 2006). The present value of these FCFs are now summed together

to compute the total present value of annual FCFs of $1.48 billion. The next step

involves estimating the value of the perpetuity of FCFs from 2017 to infinity. We

assumed a low growth rate in this perpetuity since our forecasts of FCFs indicate

a 15% growth over the next 10 years. We feel that this growth cannot continue

at this pace; therefore, a growth rate of 0 to 5% will probably more appropriate.

Once the perpetuity value is computed, we discounted it back to October 1st,

2006 and attained a value of $1.39 billion. By adding the present value of the

annual FCFs with the present value of the perpetuity, we are able to come up

with an intrinsic value of the entire firm of $2.87 billion. Lastly we must

subtract the book value of liabilities ($.73 billion) from this value to come up with

JBX’s value of equity of $2.135 billion or $29.73 per share on October 1, 2006.

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The estimated price per share as of November 1, 2007 is $33.37 per share. This

is 12% above the observed price of $29.83; therefore, based on these inputs to

the model, JBX appears to be slightly undervalued. Alternatively, once we used

the WACCBT of 12.17% from the restated financials, JBX is properly valued with

an intrinsic value of $29.34.

Despite appearing slightly undervalued based on the assumptions of a

growth rate of 0% and a WACCBT of 11.25%, a better picture of JBX can be

attained by conducting a sensitivity analysis. In this sensitivity analysis, we are

able to see the effect on the value of JBX by adjusting the WACCBT and the

growth rate of the perpetuity. Below is the sensitivity analysis for the FCF

model.

Growth Rate in Perpetuity

0% 1.00% 2.00% 3.00% 4.00% 5.00% 8.25% 52.99 58.21 65.10 74.61 88.60 111.20 WACC(BT) 9.25% 45.00 48.76 53.57 59.92 68.68 81.57 10.25% 38.60 41.39 44.87 49.30 55.15 63.23 11.25% 33.38 35.49 38.09 41.27 45.39 50.76 12.25% 29.02 30.66 32.61 35.00 37.96 41.73 13.25% 25.34 26.63 28.14 29.95 32.15 34.89 14.25% 22.20 23.22 24.41 25.81 25.36 29.52

Overvalued if less than 25.36

Fairly Valued within 15%

Undervalued if more than 34.30

In the table above, we have color coded the intrinsic values that are +/-

15% from JBX’s observed price. We feel that JBX is undervalued (overvalued) if

the intrinsic value is 15% more (less) than the observed price.

From the sensitivity analysis, it appears that JBX is undervalued as long as

their WACCBT is below 12.25%. However, as mentioned before, we computed a

restated WACCBT of 12.17%. This places the intrinsic value of JBX right on the

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cusp of being undervalued. Therefore, based on the sensitivity analysis of the

FCF model, JBX appears to be slightly undervalued. However, the

perpetuity portion of the model accounts for 48% of the value of the firm. Since

the perpetuity is based on numerous assumptions and is forecasting FCFs from

year 11 to infinity, this value will contain a large forecasting error. Therefore, we

feel that this intrinsic value for JBX may not be reliable. Thus, although the

model indicates that JBX is slightly undervalued, we feel that less weight should

be put on this conclusion since the perpetuity accounts for a large proportion of

the intrinsic value.

*Cash flows are in $thousands (000) **JBX had a 2:1 stock split Oct. 16th 2007; thus, we had to adjust the intrinsic value to reflect this split.

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Residual Income Model

The residual income model also discounts cash flows to compute an

intrinsic value. The cash flow for this model is residual income. Residual income

is the amount of actual or forecasted earnings that JBX earns minus the “normal”

benchmark earnings that it should earn given its Ke3. As with the FCF model, the

present value of these residual earnings should provide an intrinsic value of JBX.

The residual income model is said to be the most accurate of the intrinsic

valuation models by providing the largest adjusted R2 (explain variability)

compared to the other models.

Residual Income Methodology

The major inputs into the residual income model are the book value of

equity, Ke, forecasted earnings, forecasted dividends, and a perpetuity growth

rate. The forecasted earnings for the residual income model are those earnings

that we forecasted for JBX’s financial statements. We previously computed a Ke

of 16.9% and JBX does not pay dividends.

To compute the residual income for each period, we would subtract the

benchmark forecasted earnings from the actual forecasted earnings. The

benchmark earnings are the earnings (net income) that JBX should have earned

on their previous year’s equity4 for that time period given their KE. Therefore, for

2007, JBX should have earned benchmark earnings of $120 million on their 2006

equity of $710 million ($710 million X 16.9% = $120 million). As seen in the

model, JBX’s benchmark earnings for 2007 are $9.2 million more than forecasted

earnings. This illustrates that JBX is destroying value based on our forecasts of

earnings and Ke. Actually, using our estimated Ke of 16.9%, JBX appears to have

negative residual income for the 10 years that we have forecasted. This

3 Ke is used instead of WACC since the residual income model looks at whether or not the firm is able to earn more than the shareholder’s required rate of return.

4 Book value of equity for period 1 = BVE0 + (Earnings1 – Dividends1)

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illustrates our belief that JBX will continue to earn less than their benchmark

earnings. After computing the residual income for each period, we discounted

each residual income by the Ke of 16.9%. Summing up each of these residual

incomes, the present value of the annual residual income was -$214 million.

This illustrates that we expect JBX to destroy $214 million in value in the next 10

years based on residual income. The next step involved is estimating the value

of the perpetuity of residual income from 2017 to infinity. For the perpetuity, we

used a baseline growth of 0% and a Ke of 16.9%. Once the perpetuity value is

computed, we discounted it back to October 1st, 2006 and attained a present

value of -$157 million. The last step in the residual income model is to add the

present value of annual residual income plus the present value of the perpetuity

plus the initial book value of equity. By adding these three values, we computed

a total value of JBX’s equity of $338 million or $4.84 per share as of October 1st,

2006. The estimated price per share as of November 1st, 2007 is $5.73. This

intrinsic value of $5.73 is significantly less than the observed price of $29.83

signifying that JBX is significantly overvalued.

This is an interesting find since this value is significantly less than the

observed price. We thought that our net income or revenue forecasts may be

off or overly conservative. However, net income would have to improve from

3.7% of revenue to 20% for JBX to be fairly valued. Or, revenue would have to

grow at an annual rate of over 30% compared to our forecast of 8.6%. Both of

these scenarios are highly unlikely; therefore, JBX is overvalued.

Again, we conducted a sensitivity analysis of the residual income model to

see how manipulating the various variables of the model would affect the

intrinsic value of JBX. Growth rates for the residual income model are negative

due to the long term economic goal of reaching equilibrium. In the long run, the

firm will eventually earn its benchmark earnings, and residual income will equal

zero.

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Growth Rate -30.00% -20.00% -10.00% 0.00% 5% 10.00% 6.00% 22.61 23.57 25.72 35.05 109.70 N/A 8.00% 18.22 18.65 19.54 22.67 32.07 N/A 10.00% 14.77 14.87 15.08 15.69 16.91 N/A Ke 12.00% 12.04 11.95 11.78 11.33 10.63 6.42 14.00% 9.86 9.66 9.31 8.45 7.29 3.26 16.90% 7.44 7.18 6.53 5.73 4.61 1.86 18.00% 6.71 6.44 5.98 5.00 3.95 1.58




As shown in the sensitivity analysis, it appears that JBX is overvalued with

almost all values for KE and the growth rate of the perpetuity. It seems that only

with a KE less than 8%, which is highly unlikely, that JBX would be properly or

undervalued. Therefore, we conclude that, based on the residual income model,

JBX is significantly overvalued.


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Long Run Residual Income Perpetuity Model

The long run residual income perpetuity model is based on the same

assumptions of the residual income model. It assumes that the market value of

equity should be a function of a firm’s ability to earn a return on equity greater

than the required rate of return that is demanded by investors. The long run

residual income perpetuity model creates a theoretically justified price to book

ratio. The market value of equity for the long run residual income perpetuity

model is derived from the following equation.

Long Run Residual Income Perpetuity Methodology

The major inputs into the long run residual income perpetuity model are

the book value of equity, KE, long run return of equity (ROE), and the long run

growth in equity. The book value of equity in 2006 was $710 million. We

previously computed a KE of 16.9%. The long run return on equity (ROE) was

computed by taking the 10 year average of forecasted ROE (forecasted NIt

divided by our forecasted BVEt-1). The long run return on equity for Jack in the

Box was computed at 12.78%. The growth rate in the forecasted ROE was -

3.9%.

Book Value of Equity $ 710,885 Long Run Return on Equity 12.78% Long Run Growth Rate in Equity -3.90% Cost of Equity 16.90% Shares Outstanding 34,944 Estimated Price per Share (Oct 2006)

16.31

Estimated Price per Share (Nov 2007)

19.32

Adjusted Price 9.66 Observed Share Price 29.83

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As the chart above shows, the time and split adjusted share price for November

1, 2007 is $9.66. This is significantly less than the observed share price of

$29.83.

The following tables are the results from the sensitivity analysis of the

long run residual income perpetuity model.

ROE 12.78% Long Run Growth Rate in Equity -3.90% 0.00% 1.50% 3.00% 4.50% 6.00% 6.00% 18.25 23.08 27.16 35.52 59.81 N/A 8.00% 15.50 17.66 19.19 21.63 26.16 37.48 10.00% 13.53 14.41 14.97 15.76 16.98 19.12 Ke 12.00% 12.06 12.25 12.35 12.50 12.70 13.00 14.00% 10.92 10.70 10.58 10.42 10.22 9.94 16.90% 9.66 9.11 8.82 8.48 8.04 7.49 Long Run Growth Rate in Equity -3.90% ROE 12.78% 14.00% 16.00% 18.00% 20.00% 22.00% 6.00% 18.25 19.59 21.87 23.97 26.16 28.34 8.00% 15.50 16.63 18.49 20.35 22.21 24.06 Ke 10.00% 13.53 14.52 16.15 17.77 19.39 21.01 12.00% 12.06 12.95 14.39 15.84 17.29 18.73 14.00% 10.92 11.72 13.03 14.34 15.65 16.96 16.90% 9.66 10.37 11.53 12.68 13.84 15.00

Ke 16.9% Long Run Growth Rate in Equity -3.90% 0.00% 1.50% 3.00% 4.50% 6.00% 12.78% 9.66 9.11 8.82 8.48 8.04 7.49 14.00% 10.37 9.98 9.78 9.53 9.23 8.84 ROE 16.00% 11.53 11.41 11.34 11.27 11.17 11.05 18.00% 12.68 12.83 12.91 13.00 13.12 13.26 20.00% 13.84 14.26 14.47 14.73 15.06 15.47 22.00% 15.00 15.68 16.04 16.47 17.00 17.68



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Since the long run residual income perpetuity model utilizes three input

variables, it is necessary to perform three separate sensitivity analyses. As

shown above, the only situation where JBX would be fairly or undervalued is with

a KE of less than 8%5, which is unreasonable, and a growth in equity of more

than 3%. This is consistent with the findings of the residual income model and

shows that JBX is significantly overvalued.

5 We computed JBX’s KE as 7.22% based on the backdoor approach by inputting JBX’s observed price, forecasted earnings, ROE, and forecasted growth in ROE. This figure is in line with this model and the residual income model showing that JBX would need a significantly lower KE in order to be adding value.

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Abnormal Earnings Growth (AEG) Model

Where the residual income models in theory created the P/B, the

abnormal earnings growth model produces a theoretical forward P/E ratio. The

AEG model produces an intrinsic price by adding earnings per share and

discounted abnormal earnings and dividing by the cost of equity. Abnormal

earnings, similar to residual income, are the future forecasted earnings and

dividend reinvestment income (DRIP) minus normal benchmark earnings. This

process is very similar to that of the residual income model except that 1)

dividends are assumed to be reinvested at the rate of KE (DRIP) and 2) the

annual AEG and perpetuity are discounted back to time 1 rather than time 0.

Abnormal Growth Earnings Model Methodology

The major inputs into the AEG model are forecasted earnings, dividends,

the growth in the AEG perpetuity and KE. As in previous models, the forecasted

earnings are those earnings that we forecasted for JBX’s financial statements.

We previously computed a Ke of 16.9% and JBX does not pay dividends. We

used a growth rate of 0% as the baseline for the model.

The first step in the AEG model is to calculate the DRIP earnings.

However, JBX does not pay dividends; therefore, they will not have any dividend

reinvestment income. Therefore, the result from this model should be somewhat

similar to that of the residual income model. Next, we computed the normal

benchmark earnings (previous periods NI X KE) that JBX should be earning on

their equity. By subtracting the normal benchmark earnings from the forecasted

earnings plus DRIP, we computed the abnormal earnings. These abnormal

earnings are discounted back to 2007 or t=1. The sum of the PV of AEG was

-$53 million for JBX. Next, similar to the other intrinsic models, we estimated a

value for the perpetuity for AEG from 2017 to infinity. The present value of this

perpetuity assuming a KE of 16.9% and a growth in AEG of 0% is -$27 million.

The total PV of the AEG flows in 2007 are -$81.6 million. This, combined with

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the core forecasted earnings of $110.9 million, results in total earnings of $29.4

million in 2007. By dividing those earnings by the shares outstanding of 34,944,

we are left with the forecasted earnings per share for 2007 of $.699. By dividing

this amount by the KE of 16.9%, we are able to come up with an intrinsic value

of $2.48 as of October 1, 2006 and thus, an intrinsic value of $2.94 on

November 1st, 2007. This value is about 90% less than the observed price of

$29.83 illustrating that JBX is overvalued.

The following tables are the results from the sensitivity analysis of the

AEG model.

Growth Rate -30.00% -20.00% -10.00% 0.00% 2.50% 5.00% 6.00% 37.57 38.54 40.72 50.17 60.96 125.72 8.00% 23.03 23.16 23.43 24.37 29.83 27.20 10.00% 15.14 14.96 14.60 13.51 12.78 11.33

KE 12.00% 10.42 10.14 9.60 8.15 7.31 5.87 14.00% 7.42 7.11 6.56 5.21 4.51 3.41 16.90% 4.73 4.45 3.98 2.94 2.45 1.76




As with the other models, JBX has to have a KE less than 8 percent in

order to be considered fairly to undervalued. We feel that this is highly unlikely

to occur; therefore, based on the findings of the AEG model, JBX is

significantly overvalued.

Residual Income and AEG Check Figure

There is a link between the residual income model and the AEG model

that provides a check measure to ensure that the inputs are correct. For this

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check measure, the AEG value year-to-year should equal the change in residual

income. The following table illustrates this check figure assuming a 0% growth

in the perpetuity and a KE of 16.9%. As the table illustrates the two figures are

equal.

Residual & AEG Check (0% growth, 16.9 KE) 2008 2009 2010 2011 2012 2013 2014 2015 2016

AEG (9,205) (9,996) (10,856) (11,790) (12,805) (13,906) (15,102) (16,402) (17,813)

∆ RI (9,205) (9,996) (10,856) (11,790) (12,805) (13,906) (15,102) (16,402) (17,813)

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Intrinsic Valuation Conclusion

The valuation models discussed above did not lead to a consensus

conclusion. The free cash flow model was the only model that had JBX priced

under- or even close to properly valued. In our opinion, this model should be

underweighted in our analysis since the free cash flows of JBX appear to be

difficult to forecast and the other models typically provide a more reliable

valuation. Therefore, we feel that more weight should be put on the residual

income, long run ROE residual income perpetuity, and the abnormal earnings

growth. All three of these models showed that JBX is consistently earning a ROE

significantly less than their KE, and thus JBX is forecasted to destroy value year-

after-year. This deterioration of value leads the intrinsic value of JBX to be

significantly less than the observed price on November 1st, 2007 of $29.83.

Therefore, since these intrinsic valuations are less than the observed price, we

conclude that based on intrinsic valuations that Jack in the Box is overvalued as

of November 1st, 2007 and set our recommendation to sell.

Intrinsic Valuation Summary Conclusion Dividend Discount (DDM) N/A Free Cash Flow (FCF) Slightly

undervalued Residual Income Overvalued Long Run ROE Residual Income Overvalued Abnormal Earnings Growth (AEG) Overvalued

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Credit Analysis

Credit analysis is a method of determining the financial health of a firm. A

firm that faces financial distress may not be able to repay its loans and fall into

bankruptcy. Jack in the Box’s credit was analyzed utilizing the Altman Z-score,

which “weights five variables to compute a bankruptcy score” (Palepu & Healy,

10-15). The higher the Z-score, the risk for bankruptcy lowers. Scores above 3

are considered low risk, scores between 1.81 and 3 are considered borderline,

and scores below 1.81 are considered high risk. The Altman Z-Score is

computed as follows:

⎥⎦⎤

⎢⎣⎡+⎥⎦

⎤⎢⎣⎡+⎥⎦

⎤⎢⎣⎡+⎥⎦

⎤⎢⎣⎡+⎥⎦

⎤⎢⎣⎡=

sTotalAssetSales

iabilitiesBookValueLeEquityMarketValu

sTotalAssetEBIT

sTotalAssetingstainedEarn

sTotalAssetitalWorkingCap

Z 6.03.3Re

4.12.1

These ratios, respectively, are measures of liquidity, cumulative profitability,

return on assets, market leverage, and sales generating potential of assets. The

model puts a greater emphasis on return on assets, and the least emphasis on

market leverage. The Z-Score results for Jack in the Box are below.

2001 2002 2003 2004 2005 2006

Altman's Z-Score 3.458 3.289 2.962 3.512 3.577 4.313 WC/TA (0.099) (0.208) (0.078) (0.028) 0.006 0.042

RE/TA 0.301 0.301 0.246 0.277 0.334 0.365

EBIT/TA 0.127 0.114 0.096 0.091 0.103 0.112

MV of Equity/BV of L 1.596 1.487 0.989 1.752 1.482 2.607

Sales/TA 1.780 1.849 1.802 1.805 1.871 1.819

As shown above, Jack in the Box has been above the safe level of 3 every

year except 2003. However, the 2003 score is close enough to still be

considered in the ‘safe zone.’ In the past couple years, JBX has seen significant

improvement, moving from 3.58 to 4.31 from 2005 to 2006. Therefore, it has

been determined that Jack in the Box is not a bankruptcy risk at this time.

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Analyst Recommendation

After accounting for all of the data and analysis from industry analysis,

firm competitive advantage analysis, accounting analysis, financial statement

analysis, forecasted financial statements, cost of capital, equity valuation and

credit analysis, we conclude that JBX is overvalued and we set our

recommendation to sell the security.

To determine our recommendation, we utilized past financial data for Jack

in the Box, as well as financial data for competitors McDonald’s, Wendy’s, Sonic,

and Burger King. The fast food hamburger restaurant industry is a cost

leadership industry with key success factors of cost control, convenience, brand

image, and a diversified product portfolio.

While performing the accounting analysis, we determined that the

revenue/expense diagnostic ratios presented no real “red flags” for Jack in the

Box. However, JBX’s extensive use of operating leases where capital leases are

more appropriate creates a distortion in the financial statements. By capitalizing

these operating leases, we were able to get a more true and fair picture of JBX’s

financial activities.

Using the financial ratios and average growth rates, we were able to

forecast Jack in the Box’s financial statements for the next ten years. These

forecasts show smooth, even growth over the next ten years, with net income

and assets doubling over this time period.

We conducted a valuation of Jack in the Box through two methods:

comparables and intrinsic. We determined that JBX is undervalued by the

method of comparables and overvalued through the intrinsic valuations. As

previously discussed, the method of comparables should not hold as much

weight since there is no theory behind this method. Therefore, our

recommendation is primarily based on the results of the intrinsic valuations.

In conclusion, we feel that Jack in the Box is overvalued on November 1,

2007 and place a sell rating on this security.

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Common Size Balance Sheet

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Liquidity Ratios Current Ratio Inventory

Turnover

2001 2002 2003 2004 2005 2006 2001 2002 2003 2004 2005 2006

Jack in the Box 0.55 0.34 0.63 0.87 1.03 1.19 Jack in the Box 63.24 66.40 64.93 68.16 62.58 67.12

McDonalds 0.81 0.71 0.69 0.70 1.51 1.21 McDonalds 140.95 137.92 132.46 126.06 137.44 144.88

Burger King 1.61 0.92 Burger King

Sonic 0.82 0.70 0.93 0.70 0.54 0.54 Sonic 96.23 113.04 107.54 101.06 112.21 111.58

Wendy's 0.90 0.92 0.88 0.67 1.30 1.66 Wendy's 27.12 29.17 49.03 24.45 45.73 44.70

Jack in the Box RS

0.55 0.34 0.63 0.87 1.03 1.19 Jack in the Box RS

63.24 66.40 64.93 68.16 62.58 67.12

Quick Asset Ratio

Inventory Days

2001 2002 2003 2004 2005 2006 2001 2002 2003 2004 2005 2006



Burger King 1.38 0.75 Burger King

Sonic 0.67 0.53 0.75 0.53 0.39 0.40 Sonic 3.79 3.23 3.39 3.61 3.25 3.27

Wendy's 0.43 0.52 0.37 0.30 0.44 1.23 Wendy's 13.46 12.51 7.44 14.93 7.98 8.17

Jack in the Box RS

0.12 0.10 0.23 0.54 0.45 0.78 Jack in the Box RS

5.77 5.50 5.62 5.35 5.83 5.44

A/R Turnover WC Turnover

2001 2002 2003 2004 2005 2006 2001 2002 2003 2004 2005 2006

Jack in the Box 67.71 60.62 53.69 104.49 97.90 73.95 Jack in the Box -17.94 -8.90 -23.10 -65.33 288.43 43.07

McDonalds 16.86 18.01 23.34 24.94 24.98 23.87 McDonalds -34.66 -21.79 -19.86 -28.06 9.39 34.97

Burger King 17.64 18.79 Burger King 8.08 -52.51

Sonic 27.23 29.09 26.29 29.66 33.14 32.59 Sonic -66.05 -30.92 -155.35 -36.90 -20.70 -19.48

Wendy's 28.60 31.59 25.39 19.68 39.48 28.75 Wendy's -78.83 -93.32 -48.44 -10.90 14.18 9.31

Jack in the Box RS

67.71 60.62 53.69 104.49 97.90 73.95 Jack in the Box RS

-17.94 -8.90 -23.10 -65.33 288.43 43.07

A/R Days Cash-to-Cash Cycle

2001 2002 2003 2004 2005 2006 2001 2002 2003 2004 2005 2006



Burger King 20.70 19.43 Burger King 20.70 19.43

Sonic 13.40 12.55 13.88 12.31 11.01 11.20 Sonic 17.20 15.78 17.28 15.92 14.27 14.47

Wendy's 12.76 11.55 14.37 18.55 9.24 12.70 Wendy's 26.22 24.07 21.82 33.48 17.23 20.86

Jack in the Box RS

5.39 6.02 6.80 3.49 3.73 4.94

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Profitability Ratios Gross Profit Margin Asset Turnover

2001 2002 2003 2004 2005 2006 2002 2003 2004 2005 2006

Jack in the Box 19.44% 19.19% 17.62% 17.55% 16.99% 17.45% Jack in the Box 1.91 1.94 2.03 1.95 2.07

McDonalds 31.04% 30.24% 30.32% 31.75% 31.45% 32.36% McDonalds 0.68 0.72 0.72 0.71 0.72

Burger King 40.04% 38.32% 38.03% 38.40% 36.72% Burger King 0.71 0.80

Sonic 40.92% 35.76% 34.68% 33.10% 32.29% 32.40% Sonic 1.12 1.10 1.10 1.20 1.23

Wendy's 48.59% 49.32% 48.62% 45.27% 44.51% 44.56% Wendy's 1.31 1.51 0.80 0.78 0.71

Jack in the Box - RS 19.44% 19.19% 17.62% 17.55% 16.99% 17.45% Jack in the Box - RS 1.91 1.10 1.12 1.07 1.15

Operating Expense Ratio Return on Assets

2001 2002 2003 2004 2005 2006 2002 2003 2004 2005 2006

Jack in the Box 13.65% 14.68% 13.45% 13.81% 13.18% 13.18% Jack in the Box 7.79% 6.59% 6.54% 7.12% 8.07%

McDonalds 11.17% 11.12% 10.69% 10.43% 10.93% 10.83% McDonalds 3.97% 6.14% 8.82% 9.35% 11.82%

Burger King 25.64% 28.49% 27.02% 25.10% 23.83% Burger King 1.73% 1.06%

Sonic 9.26% 8.36% 7.93% 8.34% 7.62% 7.51% Sonic 10.88% 11.77% 10.75% 11.19% 12.51%

Wendy's 9.04% 8.84% 8.29% 8.40% 9.00% 9.74% Wendy's 10.5% 8.8% 1.7% 7.0% 2.7%

Jack in the Box - RS 10.99% 11.87% 11.08% 11.39% 10.94% 10.88% Jack in the Box - RS 7.79% 3.73% 3.62% 3.91% 4.49%

Net Profit Margin Return on Equity

2001 2002 2003 2004 2005 2006 2002 2003 2004 2005 2006

Jack in the Box 4.48% 4.08% 3.40% 3.22% 3.66% 3.91% Jack in the Box 19.40% 15.10% 16.58% 16.54% 19.11%

McDonalds 11.01% 5.80% 8.58% 12.25% 13.12% 16.42% McDonalds 9.42% 14.31% 19.02% 18.32% 23.40%

Burger King 0.29% 2.42% 1.32% Burger King 9.85% 4.76%

Sonic 11.78% 11.92% 11.70% 10.82% 11.31% 11.35% Sonic 23.76% 22.66% 21.87% 21.04% 20.29%

Wendy's 8.10% 8.01% 7.49% 2.08% 9.13% 3.87% Wendy's 21.25% 16.29% 2.96% 13.06% 4.58%

Jack in the Box - RS 4.48% 4.08% 3.40% 3.22% 3.66% 3.91% Jack in the Box - RS 19.40% 15.10% 16.58% 16.54% 19.11%

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Capital Structure Ratios

Debt to equity ratio Debt service margin

2001 2002 2003 2004 2005 2006 2002 2003 2004 2005 2006

Jack in the Box 1.45 1.24 1.49 1.25 1.26 1.04 Jack in the Box 67.41 1.39 13.85 19.25 26.43

McDonalds 0.90 0.94 0.78 0.59 0.59 0.54 McDonalds 15.63 7.98

Burger King 4.71 3.50 Burger King NA NA NA 54.50 14.80

Sonic 0.78 0.76 0.83 0.55 0.45 0.63 Sonic 77.08 84.15 65.60 21.26 19.53

Wendy's 0.44 0.47 0.39 0.35 0.26 0.55 Wendy's 105.52 90.13 3.67 108.68

Jack in the Box - RS 1.45 2.99 3.53 3.15 3.15 2.52 Jack in the Box - RS 67.41 1.39 13.85 19.25 26.43

Times interest earned

2001 2002 2003 2004 2005 2006

Jack in the Box 6.33 6.28 5.41 5.62 11.31 15.05

McDonalds 5.96 5.96 5.65 5.65 7.30 7.30

Burger King NA 1.16 -9.94 1.14 2.07 2.36

Sonic 10.20 11.12 11.99 12.96 18.30 14.87

Wendy's 10.87 9.20 -9.14 -5.14 -4.08 -1.13

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Valuation Models


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Beta Analysis 3-Month 1-Year 2-Year


72 0.922 0.136 10.26% 0.919 0.135 10.39% 0.917 0.135 10.24%

60 1.112 0.106 11.88% 1.109 0.106 12.01% 1.110 0.106 11.86%

48 1.352 0.114 14.15% 1.350 0.114 14.14% 1.345 0.114 13.97%

36 1.782 0.200 16.86% 1.781 0.201 17.07% 1.782 0.201 17.09%

24 1.780 0.181 16.98% 1.775 0.180 16.98% 1.768 0.180 16.79%

5-Year 7-Year 10-Year


72 0.917 0.135 10.99% 0.918 0.136 10.99% 0.919 0.136 11.01%

60 1.114 0.106 12.10% 1.116 0.107 12.13% 1.117 0.107 12.16%

48 1.333 0.111 13.65% 1.329 0.110 13.62% 1.326 0.110 13.61%

36 1.785 0.202 16.83% 1.787 0.202 16.84% 1.789 0.203 16.90%

24 1.771 0.180 16.71% 1.772 0.180 16.73% 1.773 0.181 16.78%

# of Data

Points

# of Data

Points

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Cost of Debt (KD) – Original Financials

Amount Weight Rate Value

Weighted Rate

Current maturities of long-term debt 37,539 5.08% 6.41% 0.33%



Total current liabilities

338,918 45.88%


254,231 34.41% 6.41% 2.21%


Capital Lease Obligations 0 0.00% 8.90% 0.00%

Total Liabilities 738,736 100.00% Before Tax KD = 5.81%

After Tax* KD = 3.74%

*Tax rate: 35.7% Cost of Debt (Kd) – Restated Financials

Amount Weight Rate

Value Weighted

Rate Current maturities of long-term debt 37,539 2.10% 6.41% 0.13%



Total current liabilities 338,918 18.94%


254,231 14.21% 6.4100% 0.91%


Capital Lease Obligations 1,050,858 58.72% 8.90% 5.23%

Total Liabilities 1,789,594 100.00% Before Tax KD = 7.62%

After Tax KD = 4.90%

*Tax rate: 35.7%

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Lease Adjustments

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References

Burger King 10-k, 2001-2006

Google Finance

Hoover’s – hoovers.com

Investopedia.com

Jack in the Box Information – jackinthebox.com

Jack in the Box 10-k, 2001-2006

McDonalds 10-k, 2001-2006

Mergent Online

Palepu and Healy, Business Analysis and Valuation (Ohio: Thomson-

Southwestern, 4th Edition, 2008).

Sonic 10-k, 2001-2006

St. Louis Federal Reserve website

Wendy’s 10-k, 2001-2006

Yahoo! Finance

Documents

Jack in the Box Valuation and Analysis - Texas Tech …mmoore.ba.ttu.edu/ValuationReports/Fall2007/JackInTheBox.pdf · Jack in the Box Valuation and Analysis Developed by: ... Wendy’s