Valuation aspects in Foreign Direct Investment and India Competitiveness

July 10, 2015

Growing Cos.

Turnover/Profits: Increasing still Low Proven Track Record: Limited Valuation Methodology: Substantially on Business Model Cost of Capital: Quite High

High Growth Cos.

Turnover/Profits : Good Proven Track Record: Available Valuation Methodology: Business Model with Asset

Base Cost of Capital: Reasonable

Mature Cos.

Turnover/Profits: Saturated Proven Track Record: Widely Available Method of Valuation: More from Existing Assets Cost of Capital: May be High

Declining Cos.

`

Turnover/Profits: Drops Proven Track Record: Substantial

Operating History Method of Valuation: Entirely

from Existing Assets Cost of Capital: N.A.

Turnover/Profits: Negligible Proven Track Record: None Valuation Methodology: Entirely on Business Model Cost of Capital: Very High

Start Up Cos.

Turn

over

/ P

rofit

s

Time

Valuation across business cycle follow the law of economics

Income Based Method

Market Based Method

Asset Based Method Other Methods

Multiple Valuation approaches for varied Context and Purpose

RBI Valuation Guidelines, Now give flexibilityParticulars Valuation before

April 21, 2010 Valuation before

April 1, 2014

Valuation after 8th July 2014

Guidelines in Force CCI Guidelines In case of FDI Transactions:Listed Company: Market Value as per SEBI Preferential Allotment GuidelinesUnlisted Company: DFCF

In case of ODI Transactions:No method has been prescribed

In case of FDI Transactions:Listed Company: Market Value as per SEBI Guidelines as applicableUnlisted Company: Any international accepted pricing methodology for valuation of shares on arm's length basis

In case of ODI Transactions:No method has been prescribed

Methods Prescribed

Net Assets Value (NAV)

Profit Earning Capacity

Value(PECV)

Market Value (in case of Listed

Company)

Discount 15% Discount has been prescribed on account of Lack of Marketability

No such Discount has been prescribed

No such Discount has been prescribed

Historical / Futuristic

It is based on Historical Values It is based on Future Projections Depends upon method being used

Possibility of variation in Value Conclusion

As valuation is more Formulae based, final values came standardized

As valuation is more dependent on Assumptions and choice of factors like Growth Rate, Cost of Capital etc, value conclusion may vary significantly.

There is flexibility to choose valuation methods as per the facts of the case

Specimen Valuation multiples (Public markets) in India across Industries

Source:-Damodaran Online Dated: Jan, 2015 (Adjusted)

Industry Beta EV/EBITDA Trailing PE Forward PE

Aerospace/Defense 1.08 23.39 24.41 20.12Air Transport 0.32 22.53 abnormal 22.44Apparel 0.66 7.85 abnormal 26.59Auto & Truck 1.92 8.13 24.42 20.23Auto Parts 1.11 11.57 35.42 19.76Chemical (Specialty) 1.08 11.45 21.62 15.10Coal & Related Energy 0.94 9.78 9.85 8.77Drugs 0.95 11.48 23.75 19.22Education 1.19 12.00 abnormal 22.09Engineering 1.09 15.15 26.00 20.73Entertainment 0.93 13.95 abnormal 25.20Hospitals/Healthcare Facilities 0.57 16.55 25.00 16.56Hotel/Gaming 0.78 12.08 abnormal 30.44Metals & Mining 1.12 6.32 17.98 11.05Oil/Gas Distribution 0.83 8.89 32.28 16.83Packaging & Container 0.70 6.56 abnormal 19.34Power 1.31 8.16 abnormal 16.20Publishing & Newspapers 0.84 11.02 20.66 13.69Real Estate (Development) 0.98 10.64 abnormal 17.63Retail (FMCG) 0.90 9.50 22.00 17.00Software (IT) 0.97 11.24 20.00 16.00Steel 0.82 5.64 22.37 11.27Telecom 1.08 9.33 16.11 14.51

Difference in valuation of Developed and Developing countriesIndia projected to grow at fastest rate

Source:- For PE Research Affiliates, LLC dated 31.03.2015;For GDP Growth world bank June-2015

Developed Countries

Developing Countries

GDP Growth Rate Country PE 2014 2015F 2016F 2017F

United States 26.90 2.40 2.70 2.80 2.40 United Kingdom 12.70 2.80 2.60 2.60 2.20 Japan 26.80 - 1.10 1.70 1.20

Average 22.13 2.60 2.13 2.37 1.93

GDP Growth Rate

Country PE 2014 2015F 2016F 2017F

India 20.50 7.30 7.50 7.90 8.00 China 14.60 7.40 7.10 7.00 6.90 Indonesia 21.50 5.00 4.70 5.50 5.50 Mexico 21.50 2.10 2.60 3.20 3.50 Russia 4.90 0.60 (2.70) 0.70 2.50 Brazil 8.90 0.10 (1.30) 1.10 2.00

Average 15.32 3.75 2.98 4.23 4.73

Start up and Digital retail Valuation matrixStart up valuation is more about understanding

Promoters and Management, future potential of

business, People, Technology, Competitive

landscape, Traction and the chances of success and

failure attached.

Indian digital retail and e-commerce companies

and their valuations are being closely linked to

the soaring valuation of US tech start-ups and

investors are under the fear of missing out.

The online retail companies rely on a different

metric of valuations – “GMV” which is defined to

indicate total sales value for merchandise sold

through a marketplace over a period.

However, GMV is not reflected on their

financial statements and their actual

revenues are just a fraction of GMV.

The GMV or sales (as per

financial statement) is

then multiplied by a

Multiple (x times) to get

the Valuation of the entity

Some popular valuation methods for Start up

Venture Capitalist MethodThe VC must own 12.44% of company to realize a

20% annual return on the investment in 5 years.

Investment $1.0 millionRequired IRR 20%Term 5 yearsRevenues $ 1 millionYear 5 Net Income $2 millionYear 5 P/E Ratio – Exit Multiple 10x

In multi stage DCF model discount rate is applied depending upon the stage of operations and inherent risk

of the model at that stage. (Like Pre development and post development of a product)

First Chicago Method

Adjusted (Multi-stage) Discounted Cash Flow Method

Particulars Success Survival FailureBase Year Revenue $ 1 mn $ 1 mn $ 1 mnRevenue Growth Rate 100% 50% 5%Revenue Level after 5 year 32.00 7.59 1.28After Tax Profit Margin 20% 10% NegativeNet Income at Liquidity 6.40 0.76 0.00Value of company at a PE Multiple of 10 64.00 7.59 1.00 (Projected Liquidation Value)

PV of company using discount rate 20% 25.72 3.05 0.40Probability 33.33% 33.33% 33.33%Expected PV under each scenario 8.57 1.02 0.13Overall Expected PV 9.72% Ownership in order to invest $1.0 Mn 10.28%

Thanking YouChander SawhneyPartner & Head – Valuation & DealsCorporate Professionals Capital Private LimitedMob. +91 9810557353E-Mail: chander@indiacp.comWebsite: www.corporateprofessionals.com