Embed Size (px)
DESCRIPTION
Finance project
Citation preview
Inter Connected StockExchange of India
Khalsa College18 th April 2007By Anil Harolikar
Structure
Interpretation of Financial Statements Ratio Analysis Fundamental Analysis
Valuation Ratios Price Target and Projections Summary
Balance sheet
Structure of Balance SheetFinancial StatementsRatio Analysis
Structure of a Balance Sheet
Balance Sheet as at 31 st March 2006
Profit and Loss Account for the Year / Period ended 31 st March 2006
Schedules Cash Flow Ratios
Notice of AGM Chairman’s Statement Directors Report Management
Discussion and Analysis Corporate Governance Auditor’s Report Notes on Accounts
Definition
Ratio is relationship between two amounts
Proportion that one amount bears to another
Different forms
Pure Ratio – DER
Related to Time period- Working capital turnover
Percentage – NP / Sales
IMPORTANCE
Helps analyse relationships Helps prepare budgets and formulate
policy Trend analysis Inter company comparison Liquidity position
For whom
Analysts Portfolio Managers Creditors / Lenders Suppliers Government Management Investors / Shareholders Public at large
Different classes of Ratios
Based on Balance Sheet ( or Financial)
Based on Revenue Statement ( or Operational)
Based on Combination of both statements
Working capital cycle Current Assets = Cash / Bank > Raw materials > Work in process > Finished Goods stock > Receivables (if sold on credit) > Cash / Bank.
Current Liabilities Unpaid Expenses like salaries / wages, power bills, telephone bills, Materials purchased on credit, Interest due on Working Capital and
Term loans.
Financial RatiosI. Liquidity / Solvency ratios
II. Gear ratio III. Asset cover ratios
a. Current a.Debentures
b. Liquid b.Creditors
c. Absolute liquidity
c. Pref. shareholders
d. Proprietary d.Equity
e. Fixed asset e. Security cover
f. Debt Equity
Financial Ratios
LIQUIDITY Ratios Current Ratio = Current Assets /
Current Liabilities
Acid Test or Quick Ratio = CA minus Inventories / short
term Liabilities
LEVERAGE
RATIOS
Total DER = Total Debt / NW
LT DER = LT Loans / NW
COVERAGE Ratios
Security Cover = Assets to TL
Operational Ratios
REVENUE STATEMENT RATIOS
Operational RatiosI. Expense ratios
II. Earnings ratios
III. Profit cover ratios
a. Fixed cost / Total cost
a.GP ratio orTurnover ratio
a. Dividend cover
b. RM / sales b. NP ratio b. Interest cover
c. Wages / sales
c. Operating profit ratio
c. Total coverage ratio
d. Office & admin.exp /sales
e. Selling & distrib. / sales
REVENUE STATEMENT RATIOS
EXPENSE RATIOS
EARNINGS RATIOS
PROFIT COVER
EXPENSE RATIOS
FC to Total Cost = Power + Employee + Others + Depreciation +
Interest charges
/ Total Cost
Wages / Sales
Concept of Breakeven Contribution = Sale consideration − Variable cost. The higher the contribution, better. Breakeven point = the level of
activity at which revenues and costs are equal.
The lower the fixed cost, the earlier will the company reach breakeven.
EARNINGS RATIOS
GP Margin = Gross Profit / Sales
OP Margin = Operating Profit / Sales
NP Margin = Net Profit / Sales
Gross Profit Gross profit = Net Sales minus cost of Goods
sold Cost of goods sold = costs incurred
for manufacturing the goods sold. Includes Direct material cost, Direct
labour cost and factory overheads.
Operating profit Operating profit = Gross profit minus Operating
Expenses. Operating Expenses = General
Administrative expenses + Selling and Distribution expenses + Depreciation.
EBITA margin Profit before Interest and taxes =
EBITA = Operating profit + Non – operating surplus / deficit.
Measure of profit not influenced by Financial leverage and Tax factor.
Considered More Suitable for inter-company comparison.
Net Profit Net profit = OP (+/– non-OP) -
financial expenses ( interest on borrowed funds).
PBT = NP PAT = PBT- tax Retained earnings = PAT -
dividends
PROFIT COVER Dividend Cover Ratio
= NP / Dividend amount Dividend pay out ratio What is the reasonable ratioGrowing companyMature companyCash strapped companyCash rich company
PROFIT COVER Interest Cover
= NP+ Interest added back / Interest
Manufacturing company Banking / Finance company
Combined Ratios
I. Turnover ratios Inventory turnover Debtors turnover Creditors turnover Turnover to assets
and liabilities
II. Profitability ratio ROCE/RONW/ROE NP to Fixed
assets /NP to Total assets
EPS / PE ratio / Div Yield ratio / DPS / Div payout ratio
Combined Ratios
TURNOVER or VELOCITY RATIOS Inventory Turnover = Sales / Inventory Debtors Turnover = Credit Sales /
Debtors Turnover to Assets = Sales / Total
Assets
PROFITABILITY RATIOS
ROCE = NP / Total Capital
RONW = NP / NW
EPS = NP / No. of Shares
DPS = Dividend amount / No. of shares
OTHER RATIOS
SPS = Sales / No. of Shares Book Value = NW (less revaluation
reserves) per share
Limitations
Basis of valuation of stock Depreciation methods Authenticity of data More meaningful if trend analysis Past results may not help predict
future Varies for Industry / Company /
Season
Fundamental Analysis
What we mean by FA
Definition
Fundamental analysis is the examination of the underlying forces that affect the well being of the Economy, Industry groups and Companies
Fundamental Analysis determines the worth of a business by its future expected earning potential which in turn depends on quality of company’s management, business outlook for the company, outlook for the industry in which the company operates and the overall economic backdrop.
How does it differ from Technical analysis
Technical “Future price is based on past price trend and
current price” Efficient market Price discounts every thing. Fundamental Future price can not be determined using past /
current price Current price does not reflect fair value It is only reflection of the past Weak form of market efficiency
What is the Goal or Objective
Derive a forecast for the future Profit from future price movements
How do we achieve this
Value
What is value
The intrinsic value of a company depends on the underlying business strength of the company
Price
What is price
General Steps
“TOP DOWN” Approach Economy Industry groups Specific Company
INDICATORS
GDP growth rateIndex of Industrial Production ( IIP )Inflation indices –WPI / CPI.Growth rate of Money supply Growth rate of PopulationGrowth rate of Agriculture
Indicators -- contd
Growth rate of per capita income Growth rate of Imports and Exports Interest rates. Stock Market Indices Foreign Exchange Reserves
The Political Equation
The political stability of the country is of paramount importance. No industry or company can grow and prosper in the midst of political turmoil.
Contribution of different Sectors to Economy
Last Year Expected in Future
Agriculture 54 ?
Industry 24 ?
Services 22 ?
Total 100 100
INDUSTRY
Overall growth rate
Market size
Importance to economy
Industry AnalysisIndustry Life Cycle
Product Demand
Profitability
Embryonic phase Low- Educating Buyers
Low-High Fixed cost, Low capacity
Growth phase Approaching Saturation level
Good, decreasing
Shake out phase Approaching Saturation level
Good, decreasing
Maturity phase Stagnant, Replacement
Low, steady
Decline phase Declining Declining, Rivalry
Steps
1. Demand Supply Analysis2. Profitability Analysis3. Level of Competition
Michael Porter’s Analysis
Threat of New Entrants
Bargaining Powerof Suppliers
Rivalry amongExisting Competitors
Bargaining Powerof Buyers
Threat of Substitute Products or Services
Right Industry or Right Company
Stocks move in groups More important to be in right industry
than in right stock
Company selection
Leader Innovator Edge – Market / Technology /
Market share / Product positioning / Innovations
Barriers to entry
Company Analysis
Sensible business plan
Solid Management – track record, talent, team
Financial analysis
Valuation modelswhich one to adopt
Discounting Models Relative Valuation Models
“Discounted cash flow “ valuation model
Dividend discount model Free cash flow to company model Free cash flow to equity model
DIVIDEND DISCOUNT MODEL
• John Burr Williams
The present worth of a share is the present value of future
dividends ( rather than the Earnings).
“ Relative” Valuation Models
Assumption Company will sell at a specific multiple of
earnings, revenue or growth.
PRICE EARNING RATIO
P/ E = MP * EPS What is the right PE ? – Industry - Expectations -- Future earning potential Commodity stock EPS rises faster
when market is recovering and drops faster during decline
PE ratio-continued
TISCO-1994 to 2004 CAGR 17% 2001 to 2004 CAGR 193% FY 2002 EPS P / E = 20.5 FY 2005 EPS P / E = 5
PE ratio-continued Siemens India – FY 06Net profit (consolidated) – Rs.39169 Lacs.No. of equity shares - 1685.8 LacsCurrent market price – Rs.1150EPS = 39169/1685.8 = 23.23PE Multiple = 1150/23.23 = 49.5Earnings yield = 1*100/49.5 = 2.02%
Relatively simple to calculate and use
Industry composite P/E=8.5
Name EPS Price P/E ratio
Essar 4.7 38.5 8.3
JSW 55.1 338 6.1
SAIL 9.7 87.4 9.0
Tata steel 60.4 506 8.4
PRICE EARNINGS GROWTH RATIO P / E = G The P/E ratio of any Company that is
fairly priced will equal the Growth rate. P/E is past and does not include effect
of Brand, Human capital, Expectations,
Barriers to entry- factors which affect growth rate
PEG RatioName Price EPS P/E Growth
%YoY %
Blue star info
107 5.5 19.7 11.81
Geometric 118 2.9 40.8 107.82
HCL 19.7 611 31.0 101.65
Iflex 1576 29.7 53.0 109.76
Infosys 43.5 2071 47.6 52.44
Mastek 338 17.5 19.4 42.16
Satyam 422 18.9 22.3 49.40
TCS 1059 27.8 38.2 44.10
WIPRO 532 14.1 37.7 49.70
PRICE TO SALES per SHARE RATIO Earnings-complicated, some times
reflect non-recurring amounts PSR = Share Price / Annual sale per
share Simple But carries no information about
Debt or Profitability
PRICE / BOOK VALUE Book value = Net worth / Number of
shares Sectoral view-Old Economy- Good
Indicator Services sector-Low tangible assets Services, Software, FMCG-High Auto, Engineering, Steel-Low
P / BV Ratio
Bank Price BV P/BV
Allahabad 89 54 1.65
Andhra 95 54 1.76
Canara 290 171 1.70
SBI 1109 525 2.11
Syndicate 79 39 2.03
Centurion 26 2 13.0
Federal 219 86 2.55
ICICI 998 149 6.70
HDFC 768 142 5.41
IDBI 80 88 0.91
Market capitalisation
Market cap = MP * Number of shares Capacity Commodity companies Barrier to entry
Price Target and Projection The value of a share ( Say
Allahabad Bank) by looking at the pricing of a comparable company ( say Andhra Bank)
Relative to a common variable Earnings, Book value, Sales (say
BV) Two stage process
Components of forecasting
1. Determine the length of the extraordinary growth period,
2. Select appropriate variable,3. Estimate earnings ( or whatever
variable) during this high growth period,4. Stable growth period5. Estimate earnings (variable) during this
period
Components of forecasting
1. Projected value of variable after desired period say 3 years
2. Select an appropriate company for comparison
3. BV of Allahabad Bank as on 31-03-20104. Projected target price of Allahabad
bank=BV* Multiple5. Say 1.65 to 1.76----
WARREN BUFFET VALUE FORMULA Intrinsic value = Estimated future
earnings * Confidence Margin Confidence margin –Zero to 100 % 100 = risk free return – Yield on
Government securities
Summary Strengths Weaknesses
STRENGTHS Good for understanding long
term trends Value spotting – Warren Buffet Thorough understanding of the
business
Weaknesses Time constraint Industry and Company specific Subscription based - ISP Refining margin – Oil Company Subjective Bias Definition of Fair value
Winston Churchill
No two on earth in all things can agree.
All things have some darling singularity.
Behavioral Finance Overconfidence Overreaction Loss aversion Risk tolerance Attachment
George Bernard Shaw
The Reasonable Man adapts himself to the world.
The Unreasonable One persists in trying to adapt the World to himself.
Therefore all progress depends on the unreasonable man.
