Avenue Supermart: a compounding machine?

[dineshssairam]

@biju_john

Dinesh,

Keep those numbers coming, we are here to learn new things. Remember using the capm model while doing the MBA, based on the risk free rate, D/E ration and long term expected returns from equity of 15%. Remember the valuation exercise used to be an exercise in tweaking excel so that the share price reaches close to market value.The terminal value forms a large part of the share price which is difficult to predict.

Yes, all of those things still remain the same, except the long-term return on the indices is about 13% now. The terminal value still forms a large part of the total Value, but the Terminal Value depends a lot on the assumptions you make for the High Growth period, so it’s not as bad as you think. Prof. Damodaran wrote a very informative post addressing this question:

Myth 5.5: The Terminal Value ate my DCF!

@biju_john

The other option is what Pabrai suggests, consider as if you are holding the business for 10 years and then sell the business for x times the cash flow of 10th year. Don’t remember the x now,but was there in the book(Dhando investor).

Yes, even Prof. Bakshi uses this kind of a Valuation model, made popular by none other than Mr. Charlie Munger, in his famous 1966 talk Practical Thought on Practical Thought (He values Coco-Cola):

http://csinvesting.org/wp-content/uploads/2014/07/Mungers-analysis-to-build-a-Trillion-Dollar-Business-from-Scratch.pdf

Prof. Bakshi himself did it for Relaxo:

The Final Relaxo Lecture

However, nobody I know has explained the ‘exit multiple’ using fundamentals (So it appears to be a random number picked out of nowhere, when in fact it is not). Prof. Bakshi touches upon this in his Relaxo Lecture:

So, this is what I have tried to explained here:

Avenue Supermart: a compounding machine?

The way I look at “exit multiples” is fundamentally. In the long term, no company can grow faster than the economy itself. Doing so would eventually make the company bigger than the country, which is an absurd picture. A tiny company can grow at 75%-90% of the economy. A medium-sized company at 50%-75%. A large one at lesser than 50%. In turn, the economy itself cannot grow more than the Risk free Rate (In fact, a little lesser than that), because of the way interest rates work. Currently,…

@biju_john

You did a valuation for KRBL, but one single incident made the valuation go all awry. Looks like it is a dynamic exercise or you could view KRBL as undervalued.

You can follow my thread Numbers and Narratives to know what changes I made to the original Valuation of KRBL (In short, someone pointed out a few silly mistakes I had made and I changed them). I have not updated the excel otherwise. You can view it here, which would show that KRBL is slightly overvalued. I don’t think the illegal trading row has any bearing on the fundamentals of KRBL in the long term, but of course, the trust of the promoters has gone for a toss (Which is obviously a very tricky thing to assess, so much so that even investors like Pabrai weren’t able to do it properly).

A note on my Valuations is that, since my public Valuations tend to be viewed by many people, it would be illogical to impose my risk-aversion on the model. Personally, I always use a 15% Discounting Rate and a 30% Mos (Whereas in the KRBL exercise, I used a 9.41% CAPM-based Discounting Rate and a 5% MoS).

You can understand how this would affect my public Valuations Vs my Valuations for personal use. However, I never fail to post a ‘range of Values’, to allow people to decided the Value for themselves personally. I do this based on a Monte-Carlo simulation. I recently Valued HDFC AMC at Rs. 1011. But my ‘range of Values’ showed this:

I hope this explanation helped.