Valuation: Measuring & Managing the Value of Companies

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41

Thanks Abhishek and Donald for the clarification.

42

Hi,

Some more thoughts on the Economic Profit exercise:

1). On ITC, no analysis is meaningful without going into segment-wise analysis. Tobaco is a monster which hidesinefficiencies of all other segments.

2). For a pure play to see what tobaco alone can do toROIC and EPnumbers, I guessa lean business likeVST Industries should blow out the winds.

3). After economic profit, Market Value Added (MVA) should be looked at to assess how well it has done in terms of adding mcap over the invested capital.

4). On the flip side, having contributedxyz amount of positiveMVA, further comfort for a value investor is limited in that company.

Rgds

43

Thanks Arindam for some good pointers.

I looked at Marico over last 5 years, and it has done one better than ITC!

Marico 2011 2010 2009 2008 2007
Revenues 2346.87 2001.5 1921.85 1575.99 1373.27
EBIDT 432.09 343.62 222.1 211.95 191.95
Depreciation 27.63 25.21 17.03 18.93 35.19
EBIT 404.46 318.41 205.07 193.02 156.76
EBIT Margin 17.23% 15.91% 10.67% 12.25% 11.42%
Working Capital 687.27 499.54 402.11 333.21 165.8
Net Fixed Assets 222.46 129.97 115.91 96.99 95.06
Net Other Assets




Invested Capital 909.73 629.51 518.02 430.20 260.86
Capital Turnover 2.58 3.18 3.71 3.66 5.26
EBIT/Invested Capital 44.46% 50.58% 39.59% 44.87% 60.09%
ROIC 29.79% 33.89% 26.52% 30.06% 40.26%
Economic Profit 161.82 137.79 75.23 77.70 73.73
Cumulative EP 526.27 364.45 226.66 151.43 73.73
5 yr EP/Invested Cap 201.75%









44

And here's a look at VST Industries!!!

VST Industries 2011 2010 2009 2008 2007
Revenues 558.58 470.54 371.06 338.9 332.83
EBIDT 158.31 100.17 102.3 99.91 96.33
Depreciation 24.42 17.87 15.82 13.72 11.48
EBIT 133.89 82.30 86.48 86.19 84.85
EBIT Margin 23.97% 17.49% 23.31% 25.43% 25.49%
Working Capital -65.87 -82.32 -84.37 -113.12 -74.15
Net Fixed Assets 152.42 132.59 125.44 118.85 94.83
Net Other Assets




Invested Capital 86.55 50.27 41.07 5.73 20.68
Capital Turnover 6.45 9.36 9.03 59.14 16.09
EBIT/Invested Capital 154.70% 163.72% 210.57% 1504.19% 410.30%
ROIC 103.65% 109.69% 141.08% 1007.81% 274.90%
Economic Profit 79.32 49.11 53.01 57.06 54.37
Cumulative EP 292.87 213.55 164.44 111.43 54.37
5 yr EP/Invested Cap 1416.20%



45

http://www.moneycontrol.com/stock-charts/vstindustries/charts/VST#VST

VST 2007 -380

VST 2012 -1975

5yr Price CAGR = 39.05 %

46

Hi Arindam,

This is getting real interesting! Just to get a broader perspective on why some of these businesses have given such excellent returns, I computed 5 yr Sales, EBIT and Price CAGR with the Economic Profits generated!

5Yr Sales CAGR EBIT CAGR Price CAGR 5Yr EP/ Invested Capital
ITC 14.44% 16.77% 25.39% 200.65%
Marico 14.34% 26.74% 35.10% 201.75%
VST 13.82% 12.08% 39.05% 1416.20%


Does this data tell us something?? Please help interpret.

47

I think the problem with VST is that it is reliant on government subsidies, farm credit etc which creates a bit more uncertainty with respect to demand. Overall Iā€™d still consider it a very good stock with decent valuations. But considering the perennial headwinds involved it is never going to trade at a PE multiple of 30+ like Marico or ITC. The market believes that Marico and ITC have stronger, sustainable competitive advantages relative to VST.

Hope it adds value. I think such numbers must be juxtaposed with a reasoning of the drivers behind the numbers.

48

Hi Subbu,

This was referring to VST Industries - the cigarette maker, not VST Tillers. The makers of the original Charminar brand!

Rgds

49

Thanks TCX. Upon briefly going through VST Industries, I have no doubt it is a company with good fundamentals. But if you want to compare VST ind with Marico or ITC one has to look at managementā€™s plans, diversity of the business i.e. number of strong brands for the future and dividend payout ratio as well.

The problem with such large strong companies like ITC and for that instance even Microsoft is that they have one super product which generates strong margins. Now management has the task of investing the profits generated from these super products into other business lines which may or may not be successful. Microsoft ventured into video games like XBOX etc which may or may not be as profitable as Windows.

Apple, meanwhile has managed to deliver a string of blockbusters from ipod to iphone to ipad.

The valuations of such stocks therefore depend on how management plan to use cashflows and what your opinion of the strength of the other business lines are.

50

For the calculation of ROIC, Invested capital, should we leave out investements? If yes can you explain why?

51

Hi Shruti,

This was addressed in an earlier post.

We should specifically exclude excess cash and marketable securities. These generally represent temporary imbalances in the companyā€™s cash flow. For example, in Balkrishna Industries Q2 BS, there was some excess 650 Crs+ held in Cash Investments if I remember correctly. The money had just been drawn from ECB for deploying for capex in Q3 and Q4. Usual cash balance for the company is normally 5-10 Crs.

Excess Cash and marketable securities are the short-term cash and investments a company holds over and above its target cash balances to support operations. Target cash balances are usually less than 3% of Sales, depending on the industry.

**You can identify excess cash balance and investments **)- by comparing these in the BS for a few years. Calculating as a percentage of Sales will help highlight big differences.

52

WACC for ITC could be different from Mayur and is dynamic,it would be changing from year to year based on capital structure

WACC=Ke(E/E+D)+Kd(1-T)(D/E+D)

ITC has zero debt,the second part vanishes and always the cost of equity is higher than cost of debt.

so we have only the first term,ke

ke=risk free rate+beta(excess market returns)

=9+0.33*8=11.64,the WACC would be higher for a company having higher beta

53

Hiā€¦I am not able to open this excelā€¦can u please resend to me pleaseā€¦i am new to investing and trying to learnā€¦this excel will be really helpful

55

Hi @Donald

Iā€™m new to this forum & reading old posts. Iā€™m comparing above numbers with Screener numbers. Can you please reveal me how you calculate working Capital here in above sheet.

As WC=Current Assets (Other Assets on Screener) - Current Liability( Other Liabilty on Screener)

iā€™m doing this calculation for screener values of 2011 but it differs with your numbers? Why?