I would like to get ideas on how to do the valuation of two different companies, currently being viewed very differently by the stock market. I would like to get feedback on how to look at the valuation (in terms of the method), and consequently, which of the two stocks represents good value at the moment, and therefore is the better buy.
I am deliberately not giving the names of the two stocks, so as not to colour anyone’s mind with the names. I would just like a pure valuation exercise. Rest assured, both are real companies, and the figures I am giving are all real, if not accurate to the last decimal. And of course, experienced stock pickers can probably guess which companies I am talking about.
Company A is a consumer product company, subsidiary of a MNC. Its brand is one of the best in the business, worldwide. Its annual sales are more than 3000 Crores, and its Market Cap is in excess of 15000 Crores. It hardly does any manufacturing itself, preferring to outsource all the manufacturing. It spends a huge amount of its turnover on advertising and marketing. As a result, it is almost synonymous with its product category. It goes steadily from year to year, with its turnover having increased 3 times in the last 10 years, and its PAT having increased 5 times in the last 10 years, a CAGR in profit growth of nearly 19%. The company has been in the country since several decades, and its parent is more than 100 years old.
Because it does not need much money for investment, it is debt free, and it also distributes nearly 80% of its profits as dividend and dividend tax every year. The balance is added to equity. Here is the kicker- the company has managed to maintain 100% ROE or thereabouts for all of the last 10 years.
The company is, like all consumer facing FMCG/Pharma companies in the current market, valued at around 30 PE. Its price to book ratio is 35.
The second company, say company B, is also the subsidiary of a large MNC. Its turnover is also similar, with annual sales in excess of 4000 Crores, and market cap which exceeds 10000 Crores. It is not consumer facing, but is squarely in the industrial sector. Within the industrial sector however, it has a very high reputation for reliability, and has also a technological edge in its products, given the very strong parentage. The Indian arm is also used by the parent as a manufacturing base of some lower cost items for its worldwide distribution. The company has been in India since several decades, and its parent is a very old, very reputed MNC.
The company has seen excellent growth in the last 10 years, though growth has been relatively muted in the last year or two, given the industrial situation. The company has grown sales by 4 times in the last 10 years, and the profits by nearly 7 times in the last 10 years, a CAGR growth in excess of 23 percent. This profit growth has been relatively smooth over the years, though the growth has tapered off to around 16% in the last 3 years, given that the industrial economy has worsened.
The company has invested a lot in Capex over the years. Still, it distributes 40-50% of its profit as dividend every year (including taxes). It is also debt free. Its ROE is 30-35% since the last 10 years.
The company is currently available at around 15 PE, and around 4 times Price to Book.
The question is, if you were Rip Van Winkle, and if you were to wake up after 10 years, so you are not really bothered about what happens in between, which stock would you rather buy today before you go to sleep?
This is a real exercise for me, not just an academic one. And I appreciate the efforts of anyone reading through this, and better still, replying to it. If you need more information, just ask.