corporate finance dabur

8/8/2019 Corporate Finance Dabur

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COURSEWORK FOR ASSESSMENT CORPORATE FINANCE June 23, 2009

Bradford University School of Management

Full Time MBA 2008 09

Evaluation of Shareholder Value and Market Evaluation of Equity for

UB No: 08014043

Module Name: Corporate Finance

Module Leader: Patrick Barber

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I certify the word count does not exceed more than the n umber of word smentioned: 3492(Excluding References, Appendix, tables, name of graphs/figures/tables)

Contents1. Executive Summary.............................................................................................6

2. Introduction to the company................................................................................6

3. Financial Highlights of the Company....................................................................7

4. Comparable Firms................................................................................................8

5. Share Holder Value..............................................................................................9

5.1 Total Shareholder Value (TSR).......................................................................9

5.2 Market Value Added (MVA)..........................................................................10

5.3 Economic Value Added (EVA).......................................................................10

5.4 Dividend policy............................................................................................11

5.4.1 Dividend Payout ratio................................................................................11

5.4.2 Dividend Yield...........................................................................................12

6 Share Price Movement Last 12 months...........................................................13

7 Equity Valuation.................................................................................................14

7.3 Net Asset Value (NAV).................................................................................14

7.4 P/E Ratio Valuation.......................................................................................15

8 Discounted Cash Flow:.......................................................................................16

8.1 Expected Revenue growth...........................................................................16

8.1.1 Past growth performance......................................................................16

8.1.2 Industry Growth Rate.............................................................................17

8.1.3 Competitive Advantage and other factors.................................................17

8.2 Operating Margin.........................................................................................18

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8.3 Depreciation................................................................................................19

8.4 Taxation and interest...................................................................................208.5 Capital Expenditure.....................................................................................20

8.6 Working Capital...............................................................................................22

8.7 Cost of Equity..................................................................................................23

8.8 Weighted Average Cost of Capital...................................................................23

8.9 Free Cash Flow (FCF) and Net Present Value (NPV).........................................23

8.10 Terminal Value..............................................................................................24

8.11 Sensitivity Analysis........................................................................................24

9 Conclusion..........................................................................................................2510 Appendix.........................................................................................................26

10.1 Financial Highlights of Marico group.............................................................26

10.2 Total Shareholder Value Comparison...........................................................27

10.3 EVA calculation............................................................................................27

10.4 Net Asset Value............................................................................................28

10.5 Assumptions for NAV of Marico....................................................................28

10.6 P/E Ratio Calculation....................................................................................29

10.7 Forecast for Sales Revenue...........................................................................29

10.8 Bases for growth rate....................................................................................30

10.9 Operating profit margin...............................................................................31

10.10 Capital Expenditure Past 5 years (% of sale).........................................31

10.11 Working Capital Past 5 years.................................................................32

10.12 Cost of Equity Calculation.........................................................................32

10.12.1 Gordon Growth Model (GGM)................................................................32

10.12.2 Capital Asset Pricing Model (CAPM).......................................................33

10.13 Weighted Average Cost of Capital............................................................33

10.14 Terminal Value..........................................................................................34

10.15 Sensitivity Analysis...................................................................................35

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10.15.1 Long term growth..................................................................................35

10.15.2 Discount factor......................................................................................3610.15.3 Sales Revenue.......................................................................................38

11. References.........................................................................................................41

11. References

List of tables

Table 1 - Financial Highlights of Marico Ltd ................................................................8 Table 2 - MVA calculations for Marico .......................................................................10 Table 3 -Dividend Payout Comparison ......................................................................12 Table 4 - P/E Ratio Calculation for Marico .................................................................15 Table 5- Revenue growth rates ................................................................................17 Table 6 - Projected revenue growth pattern .............................................................18 Table 7 - Operating margin growth rate ...................................................................19 Table 8 - Historic Depreciation calculations ..............................................................19 Table 9 - Tax paid calculations for Marico ................................................................20 Table 10 - Projected Capital expenditure (As a % of sale) ........................................21 Table 11 - Earnings after investment .......................................................................21 Table 12 - Projected Working Capital .......................................................................22

Table 13 - Free cash flow for Marico .........................................................................24 Table 14 - Valuation of Marico ..................................................................................25 Table 14 - Valuation of Marico

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Tables of Figures

Figure 1 - Shareholding Pattern of Marico ..................................................................6Figure 2 - Financial performance of Marico ................................................................7Figure 3 - Total Shareholder Value comparison ..........................................................9Figure 4 - EVA comparison for the past 5 years .......................................................11Figure 5 - Marico Stock Vs BSE and BSE FMCG index ...............................................13Figure 6 - Net Asset Value Comparison ....................................................................14Figure 7 - P/E ratio comparison .................................................................................16Figure 7 - P/E ratio comparison

Abbreviations

AR Annual Report

CAPM Capital Asset Pricing Model

DCF Discounted Cash flow

EPS Earnings per share

FCF Free cash flow

GGM Gordon Growth Model

HUL - Hindustan Unilever Limited

MVA Market Value Added

NAV Net Asset Value

NOPAT Net Operating profit after tax

NPV Net present value

P/E Ratio Price/Earnings ratio

ROCE Return on Capital employed

TSR Total Shareholder Return

WACC Weighted Average Cost of Capital

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Y-o-Y Year on Year

1. Executive Summary

The key objective of the report is to determine whether the market has valuedMarico correctly or not. In the report we consider Marico last five years performanceto determine the rate of return to the share holders. The report also exhibits theapplication of three basic valuation methods namely the Net Asset Value, PriceEarnings Multiples and discounted cash flow to determine the future value of thecompany in the perspective of shareholders and potential investors.

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In the report, the price of the Marico equity is analyzed for the previous 12 months.In conclusion, the final value of the equity arrived through different valuationtechniques are recommended to the share holder.

2. Introduction to the company

Marico Ltd is based in India and established in 1988, the company principalactivities are to manufacture and market fast moving consumer goods (FMCG). Thecompany continues to be a family-owned company with promoters and familyowning 63.45% of the total shares of the company.

Figure 1 - Shareholding Pattern of Marico

(Source: Annual report, 2007-08)

The company deals in two segments, the consumer products and services. Theconsumer products include hair care products, soaps, baby care products, coconutoil, hair oil and other edible oils. The service segment includes skin care andayurvedics treatment. Some of Marico brands are part of everyday life in India.

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3. Financial Highlights of the Company

The company has shown a consistent year on year growth in terms of sales and netprofit for the last five years as indicated in the Figure 2 and in Table 1. Thecalculations are shown in Appendix 5. 1

(Source: Marico Ltd Annual Report 2007-08)

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Figure 2 - Financial performance of Marico

Table 1 - Financial Highlights of Marico Ltd

(Formula used for calculations is in Appendix 10.1 )

As the figure 1 mentions the net profit and sales of the company are growing y-o-y. The company had a zero debt till 2003-04 and then has started borrowing money. The company is on expansion mode, the company is increasing its internationalpresence and at the same time capitalizing on the skin care market by trying to

open skin care clinics. To support the expansion, the company is borrowing funds.

4. Comparable Firms

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The FMCG sector is the fourth largest sector in the economy with a total size of US $18 billion as on 2007 and is expected to scale up to US$ 33 billion in 2015 (INBICS2007). There are number of players in the FMCG sector, however Dabur and HULhave been taken as competitors as they have similar products. Other FMCGcompanies have diversified business such as tobacco and hotels. In respect to HUL,the accounting period ends on 31 st December of the year. Thus, this periodis compared to the accounting period of Marico and Dabur which is on 31 st

of March.

5. Share Holder Value

The following consists of the methods used to evaluate the true value of Marico andto ensure that the company is been delivering value to its shareholders in the past5 years.

5.1Total Shareholder Value (TSR)

The company has been delivering shareholder value consistently. However, in thelast two years there is a drop in the TSR. This trend seems to be followed by boththe competitors Dabur India and HUL for the same period. The major reason for thedrop in shareholder value was due to the increase in input prices in 2007. The costof palm oil, crude and packing charges had gone up during the period (EquityMaster 2008).

Figure 3 - Total Shareholder Value comparison

In spite of the tough economic condition, the company has been consistently payinga dividend year on year. The dividend has increased from 43% in 2003-04 to 66% in

2007. The calculations are in Appendix 10.2

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5.2Market Value Added (MVA)

MVA compares the current value with the amount the owners have paid for. TheMVA is the market value of Invested capital minus the book value of Investedcapital. According to Stern Stewart, this method helps managers not only focus onthe traditional accounting method but also concentrate on the rewards for shareholders (Gallagher and Andrew 2000).

A higher MVA indicates that the company has created wealth for its shareholders.By referring the table 2 below , it can be noticed that Marico is been creatingwealth y-o-y and there is increase of 4485% in the last five years.

(Source: Annual Reports 2003/04 2007/08)

Table 2 - MVA calculations for Marico

5.3 Economic Value Added (EVA)

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The EVA relies on the concept of the cost of capital and is used to assess the valueor wealth created by a firm (Pike and Neale 2009). In other words EVA measuresthe difference between the company capital and the cost of capital.

A positive EVA denotes that the company is creating share value for its shareholders and the negative EVA means that the company is destroying shareholdervalue.

Figure 4 - EVA comparison for the past 5 years

(Source: Annual report 2007-08)

From Figure 4 it can be noted that Marico has been creating enormous value to itsshareholders by increasing its EVA from Rs 38 crores in 2003-04 to 132 crores in2007-2008. Refer Appendix 10.3

5.4 Dividend policy

5.4.1 Dividend Payout ratio

The dividend payout ratio (DPR) calculates the percentage of the profit of thecompany given to the shareholders through cash dividends. A low DPR may indicatethat the company is using the profits to reinvest in the business. Similarly, a highDPR may indicate that the company is in the phase of maturity and may have lessgrowth opportunities (Pike and Neale 2009).

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Table 3 -Dividend Payout Comparison

The DPR of Mario has been coming down for the last five years and is also less thanits competitors as mentioned in Table 3. The company regularly has beendistributing the profits to its shareholders. However, the company is on a growthmode and finds the need to conserve and re-invest the money back into thebusiness. The company has made seven acquisitions world over in the last 3 years(Marico Annual report 2007-08).

5.4.2 Dividend Yield

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The dividend yield ( Table 3 ) of 1.04% is less than the industry average of 1.74(Reuters 2009). This is attributed due to the company policy of re-investing moneyinto the business (Mario Annual Report 2007-08).

6 Share Price Movement Last 12 monthsMarico trades in the Bombay stock exchange which is one of the oldest stockexchanges and is in business for the past 133 years. The BSE can be considered asSemi strong market. Pike and Neale (2009) mention that in a semi strong market,the stocks react rationally to both past performances and publicly announcedinformation.

Marico Vs BSE Sensex Marico Vs BSE FMCGsector

Figure 5 - Marico Stock Vs BSE and BSE FMCGindex

(Source: Moneycontrol 2009)

In spite of the current economic condition, Marico has outperformed both the BSEand BSE FMCG index ( Refer Figure 5 ). Marico has stood its grounds in spite of theFMCG index going down by -16.53% (Moneycontrol 2009).

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In the last 12 months the price of the input materials has been very volatile. FMCGcompanies including Marico require crude oil for manufacturing some of theirproduces. Crude oil has skyrocketed during the year, touching $140.13 a barrel andgoing as low of $34.49(OPEC 2009). This has been reflected in the share price, inthe month of June the price of oil had started climbing and as a result the prices of the stock has been falling. Similarly as the price of crude oil reduced during themonth of January 2009, the prices have started moving northwards.

At end of January 2009, the Indian stock market rebounded along with the worldmarkets. This reason along with reduction input cost during the end of 2008 helpedMarico share price to climb in a systematic manner. The share price of the companyincreased by 6.75% on April 22 nd , 2009 due to better than expected results of 9%increase in the quarterly net profit to Rs 44.41 crores (Reuters 2009). On 18 th May2009, the Indian election results were declared and the government chosen haveindicated their willingness to push forward economic reforms. The market rose by17.01% on a single day pushing the regulators to shut down operations for the day.Surrounded by positive news, the price of Marico shares is expected to continue itsupward journey.

7 Equity Valuation

The three basic valuation methods used are

Net Asset Value ( NAV ) Price Earnings (P/E) Ratio Discounted Cash Flow

5.3 Net Asset Value (NAV)

NAV is the total value of the company assets less the liabilities. To value, net assetvalue is divided by the number of the shares (Money Term 2009). The NAV based onbalance sheet figures indicate the NAV for Marico is Rs 394.91 crores, ReferAppendix 10.4 .However, the NAV has its disadvantage, most book values arebased on historical prices and not market prices in the case of fixed assets, Refer

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Appendix 10.5 Thus, the NAV method of valuation does not taken into account theearning capacity of the fixed assets. The true value depends on how close the netassets are to the market value (Chandra 2008). However from 2011, India willmove to the IFRS , thus the concepts of fair value accounting will be done fromthat period onwards which will allow the value the company fairly (Moneycontrol2009).

Figure 6 - Net Asset Value Comparison

(Source: Respective Annual Accounts 2007-08)

The implied value of the Marico share through the NAV is Rs 6.07 which is less

compared to the yearend (31st

March 2008) price of Rs 67.25 and thus the valuationthrough NAV is undervalued.

5.4 P/E Ratio Valuation

The P/E ratio informs about how much an investor would pay for each unit of earnings. A high P/E ratio suggests that investors are expecting earnings growth inthe future. If this ratio is too high, it means either that investors are expecting

higher earnings for shareholders or higher earnings growth rate for the company. To determine whether a particular P/E is high low, we need to consider thecompanys growth rate along with the competitors P/E ratio. The P/E ratio of Maricois in Table 4

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Price Earnings Ratio for Marico (2007-08)

Profit after Tax (in crores) = Rs 169.1 CroresNo of Ordinary Shares = 60.90 croresEarnings per Share = 169.1/60.90 = Rs 2.78

Share price as on 31.03.2008 = Rs 67.25PE Ratio = Current Market Price / Earnings per sharePE Ratio = 67.25/2.78 =24.20

Value of Equity = P/E Ratio * Profit after TaxValue of Equity based on P/E Ratio = 24.20 *169.1 =Rs 4092.22 Crores


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Table 5- Revenue growth rates

(Source: Annual report 2007-08)

8.1.2 Industry Growth Rate

In a study performed by Federation of Indian chambers of commerce and Industry(FICCI), they have revealed that the sector is been growing at 16% in the period2007-08. This is lower compared to Maricos growth.

8.1.3 Competitive Advantage and other factors

In the past three years the company has achieved a top line CAGR of 29% makingthe company the fastest growing FMCG Company in India (Annual Report 2007-08).The major reason why FMCG industry is expected to grown faster in the years tocome is because of rural India spending and the FMCG sector cannot be affectedmuch by the crisis, as the demand for the essential products will continue in spite of recession (Financial Express 2009).

Thus, with several factors ( Appendix 10.7 ) and the global economy rising fromthe ashes, the growth rate can be expected from 22.47% to about 25% in the nextyear. Several chiefs of FMCG companies have mentioned that expected the FMCGsector is to grow at 25% and over the next few years at a 10% -20% growths forcompanies (Financial Express 2009).

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The following table calculates the future revenue growth fixed percentage year onyear.

Table 6 - Projected revenue growth pattern

Refer Appendix 10.8 for the reasons of the growth rate.

8.2 Operating Margin

The operating cost margin for Marico is 89.30%, however it is still higher to itscompetitors ( Appendix 10.9 ) .The operating costs have been reducing for the last5 years. The company was able to bring down the operating cost in spite of theinput materials sky rocketing during the corresponding period.

In Figure 2 shows the revenue mix, the majority of the revenue (32%) comes fromcoconut oil. Copra, the main ingredient for coconut oil forms nearly 40% of the rawmaterial cost has seen a decrease in its prices from Rs 3750/quintal in late 2006and to about Rs 3350/quintal in the start of 2008 (Kotak Securities 2008). Similarly,the packing cost of Marico constitutes to 8% of consolidated revenue, the bulk of packing cost is plastic and this price is also on a downward trend. Similarly themajor expense for FMCG companies is advertisement, it is learnt that due torecession, the prices have come down by 15-20% (Morgan Stanley 2009).

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The immediate effects of the price drop can be seen in 2009 and parts of 2010. Asthe world economy is picking up and prices of oil are on an upward trend, the costsmay go up. For the years to come, the operating margin will follow the trend of theprevious 5 years. Therefore, the forecasted operating cost is in table 7

Table 7 - Operating margin growth rate

8.3 Depreciation

Depreciation and Amortization for the last 5 years is 15.33% ( Refer table 8 ). Thisrate may be considered high, but it should be noted that Marico has purchasedother brands/companies in the market (Annual report 2007-08), thus along with thiscomes trademarks and copyrights which needs to be amortized over a period of time.

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Table 8 - Historic Depreciation calculations

Thus, the depreciation rate can be assumed at 11.95% (base rate) for the next 3years and gradually the depreciation will decrease to an average of 10% when thecompany stops its acquisition mode.

8.4 Taxation and interest

The tax rate in India remains around 30% for a domestic company (International Tax Review 2008). However the Indian government is in the favour of reducing thetaxes. The reason behind the reduction is due to the increased compliance in directtax collections, also India is one of the countries with highest tax rates in the world.

To keep India competitive, the tax rates may be reduced in the future (Economictimes 2008).

Marico was a debt free company till 2004. Then to support its major expansionplans (8 acquisitions), the company has been borrowing heavily in the following

years. The debt equity is nearly 1:1.2 which indicates the risk level is high .This debtneeds to be paid off during the coming years. Thus, the interest payments for theyears to come will increase as the debt has increased significantly. (This is includedin the operating costs).

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Table 9 - Tax paid calculations for Marico

8.5 Capital Expenditure

The capital expenditure for Marico in the last year was 4.70% compared to a fiveyear average of 16.77%. Out of 991 crores spent in the last five years, Rs 580.7crores have spent in the period 2005-07, the reason for the low capital expenditurein the current year could be attributed to recession. However the companycontinues to be aggressive on the investment phase with opening up of SeveralKaya Skin care clinics and the expansion into the international markets going totake place in the years to come (Annual Report 2007-08). There is a link betweensales and capital expenditure. Thus with the opening of more stores by 2010 end, arise in capital expenditure is forecasted ( Refer table 10 ) and there will be adecrease in the years to come, this can attributed the business cycle ( Begg andWard 2008).

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Table 10 - Projected Capital expenditure (As a % of sale)

Refer table for projected earnings after investment cost

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Table 11 - Earnings after investment

8.6 Working Capital

The working capital refers to amount of funds required to run day to day operations.Maricos working capital in the past has increased in correspondence to the sales(Refer Appendix 10.11 ). It can be assumed for the future too, the working capitalwill increase or decrease in correspondence with the sales. The working capital inthe current year is high due to the increase in cash balance. The company hasmentioned in the AR 2007-08, that in the years to come it will use the workingcapital in an efficient manner. Thus, it is predicted that the company will use theworking capital in a more efficient manner.

For Assumption purpose, 2 months of Operating costs are taken as the workingcapital, the reasons are below

Credit period for purchase of goods and services 1 month (+1)

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Conversion of Raw Material WIP Finished good and shipping to the stockdealers One month (-2)

Credit period for Sales (Debtors) one month (-1) Total = 2 months working capital is required (+1-2+1 =2)

Table 12 - Projected Working Capital

8.7 Cost of Equity

The cost of equity refers to the return that a company or shareholders seek on theirinvestments (Pike and Neale 2009). There are two methods to calculate cost of equity, they are GGM and the other method is CAPM. (Refer Appendix 10.12 )

The GGM method is used as indicator of future dividend growth based on the pastdividends (Puxty et al 1988).This method is suitable for companies who are paying a

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stable dividend, however for companies like Marico where the company is holdingon to its reserves for future investment, this method may not be the best method tocalculate the returns expected.

The CAPM method has its advantages over the GGM model, the GGM is based onpast rate of growth and accepting the validity of the market valuation of the equity.Sometimes, the past rates may not be suitable for future. The CAPM defers withGGM and does not require growth projections, nor does it depend on theinstantaneously efficiency of the market (Pike and Neale 2009).

In this case, the CAPM method is considered due to the fact that CAPM includes theMarket Risk factor in the calculations and is not based on the past performance of the company, which GGM relies on. Thus the Cost of equity from the CAPM model is13.71%.

8.8 Weighted Average Cost of CapitalRefer appendix 10.13

8.9 Free Cash Flow (FCF) and Net Present Value (NPV)

Free cash flow can be defined as the amount of cash generated from inflow lessoutflow (Pike and Neale 2009). For forecasting purpose the Discount factor isassumed at 13 % (this is attained through WACC). Table 13 below shows the FCFand NPV of Marico. The NPV of the company is Rs 2675.23

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Table 13 - Free cash flow for Marico

8.10 Terminal Value

The company is growing y-o-y and is having aggressive plans for the future andfrom a manufacturing company; they are venturing into services such as Kayaskincare clinics. The company is also increasing its international presence (AnnualReport 2007-08).Though the country grew at nearly 9%, India Braved the global

recessionary trend and managed a 6.7% growth in 2008-09(Business Standard2009).IMF mentioned that India will be able to achieve 7% growth in theforthcoming years (Financial Express, 2009).The economy is picking up, however itis safe to be assumed that India growth would be 5% beyond 2018.The terminal

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value for the firm is Rs 15429.02 crores and the enterprise value is Rs 18,104.24crores. Refer Appendix 10.14

8.11 Sensitivity Analysis

Pike and Neale (2009) mention that the sensitivity analysis is used to isolate andassess the potential impact of risk on a firms value.

There are different factors which may affect the valuation of the company. Thedifferent factors are as follows:-

Long term growth rate

Discount factor Sales Revenue

The analysis helps monitor the different type of outcomes to possible changes inthe above factor. The above are 3 factors are considered for sensitivity analysis inAppendix 10.15

8 Conclusion

The valuation based on different methods has given different values for thecompany. The values are given below in table

Valuation Method Used Equity Value in Rupees

Net Asset Value Rs 394.91 CroresPrice/Earnings (P/E) Ratio Rs 4092.22 CroresDiscount Cash Flow (DCF) Rs 18,104.24 Crores

Table 14 - Valuation of Marico

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The value of Rs 394.91 crores obtained through the NAV method is based on thehistorical prices used in the balance sheet. There is less information in the marketabout the current value of the asset. The NAV also does not take into account thepotential earnings of the company. However, the amount of Rs 394.91 crores act asthe minimum amount that the company can expect in case the company is beingdissolved.

Through the P/E method , the company is valued at Rs 4092.22 crores. The P/Eratio of the company is 24.20 and is less than its competitors .This method; similarto the NAV does not take into account the future earnings. The P/E method relies alot on EMH, which can be unpredictable and some news about the stock canincrease or decrease the valuation of the company. Thus, this method of valuing thefirm may not be very useful.

The DCF method is based on various estimates about the companys growthaspects in the future along with its earning potential. The DCF method helps topredict the future cash flows and it discounts the risk factors involved and measuresthe fundamental value of the asset.

The DCF value estimates the company value at Rs 18,104.24 crores whichtranslates to Rs 297.27 per share. However, the share price as on 18 th June 2009 isRs 72.40, thus the current market price does not reflect the true earning potentialof the company. The company is very aggressive and aims to increase its revenuethrough acquisitions and entering new markets world over (Annual Report 2007-08);along with the Indian economy growing, the stock will be a good investment.

9 Appendix

10.1 Financial Highlights of Marico group.

Formulas used

Profit Margin

Profit Margin = (Profit before Tax in thousands / Turnover in thousands)*100

Liquidity Ratio (Current)

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Liquidity Ratio = Current Assets / Current Liabilities

Liquidity Ratio (Acid test)

Liquidity (Acid Test) Ratio = (Current Assets - Excluding Inventories)/Current

Liabilities)

Gearing Ratio

Gearing Ratio = (Long term Liabilities / (Share Capital + Reserves + Long termLiabilities))*100

ROCEROCE = (Earnings before Interest and Tax/ (Share Capital + Reserves + Long termLiabilities))*100

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10.2 Total Shareholder Value Comparison

Note : The opening value is taken as 1 st April and the closing value is taken on 31 st

march for the 5 years respectively

10.3 EVA calculation

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(Source: Annual Reports 2007-08)

10.4 Net Asset ValueFormula for NAV

NAV = Fixed Assets + Current Assets Current Liabilities Long term Debts

Marico

NAV = 257.31 + 528.10 255.96 134.54 = 394.91 CroresNo of ordinary Share = 60.90 CroresValue per share =394.91/60.90 = Rs 6.48

Dabur India

NAV = 465 + 774 458 11 = 771 CroresNo of ordinary shares = 86.40 CroresValue per share = 771 /86.40 = Rs 9

HUL

NAV = 1522.50 + 3277.41 - 3837.09 - 25.52 = 937.30 CroresNo of ordinary shares = 217.75 CroresValue per Share =937.30/217.75 = Rs 4.30

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10.5 Assumptions for NAV of Marico The market value of the company differs from the book value, for the followingreasons

The book value of the asset is based on the historical cost less depreciation,however the value does not take into account inflation, which influences themarket value

Assets become obsolete even more they are fully depreciated

Assumptions for adjusting book value to reflect replacement cost

(Source: Chandra 2008)

10.2 P/E Ratio Calculation

PE Ratio of Marico is calculated in Section 7.4 P/E valuation

P/ E Ratio = Market price as on 31 st March 2008 / Earnings per shareValue of Equity Derived = P/E Ratio * No of shares Outstanding

Dabur India

P/E Ratio = 109.9/ 3.85 = 28.54Value of Equity Derived = 28.54 * 333 = Rs 9505.36 Crores

HUL

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Reduction in raw materials prices during the year. However prices of theproducts have not been reduced, thus the margins are increasing.

The company also provides skin care through its Kaya clinics. The company isa high margin and the company has about 48 clinics in December 2007 andhopes to establish 93 clinics by FY10.

(Source: Kotak Securities 2008)

10.8 Bases for growth rate

Based on Marico past performance (Refer Table 5) and future plans of expansionin the world market and launch of several new products, we can be assured that

the company will continue to grow. Based on industry views, it is expected theindustry will grown at 25%, the company is already by 22.47 in the current year,thus for the next year 25% is taken as the growth rate and FMCG chiefs havementioned that the companies would grow at 10% y-o-y(Financial express2009).

However, to take a more cautious approach, for the next year the company isexpected to grow at 25% and continues to grow for 3 years. Then the companyreaches the maturity stage and the growth rate stabilizes and then its growthrates starts getting lower due to competition. This method is similar to thebusiness cycle.

It is predicted that at the end of the 10 year, the growth will be at 12.51%. FMCGsector does not get affected by the recession as most of the products arerequired for daily life. The growth rate for the 10th year is justified as Maricocompetitor HUL has been in the business for 75 years and continues to grow at13.83 (Refer table below).However the market may get saturated due to thenumber of players and in the 10 years there may be no new set of people thecompany can target (Example: Rural India).

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10.9 Operating profit margin

Comparison of the Operating Margin for the company and its competitors

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Where b is,Beta for 2008 = .60 (Source : Business Standard 2008)

Where ERP is,Equity risk premium=11% (Source: Damodaran 2009)

Ke= 7.11+. (60*11) = 13.71%

10.13Weighted Average Cost of Capital

WACC = Cost of equity * Equity/ (debt + Equity) + Cost of Debt (1-tax) (Debt / debt +equity)

The cost of equity obtained through the CAPM model is preferred over the Gordongrowth model, the reason why the CAPM model is considered is because the modeltakes into account the market risk. The GG M model takes dividends of past yearsand neglects the risk analysis. Hence the cost of equity (CAPM model is 13.71%

For 2007-08,

No of ordinary Share =609,000,000

Market value of equity = No of shares * Share price609,000,000* 67.25 = Rs 40,955,250,000

Net debt = (Secured Loan and Unsecured loan Cash Current investment)(134.54+223.40 75.28 -0.1)Net Debt = 282.65 Crores

Total Debt/ (Equity + debt) = 53%Equity/ (Equity + Debt) = 47%

Tax rate for Marico = 30% (International Tax Review 2008),

Interest rates have gone up during the years, however due to recession, the rateshave dropped. But with the economy picking up, it is expected to go higher; this is

evident through the prime lending rates.

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Cost of Debt (On a Tax free basis) (Kid) = [(I) (1- tax rate)] / [Market value

Interest]

The effective rate paid by Marico in the last five years would correspond to the costof debt. By looking at the table below, it is estimated that t

Rs in crores2003-04

2004-05

2005-06

2006-07

2007-08

Interest Paid 2.56 3.34 6.37 23.87 30.52

Net Debt Paid -22.97 20.61198.3

3207.9

5282.6

5 Tax Rates (%paid on taxableincome 9% 6% 11% 25% 18%Interest % -11% 18% 3% 10% 10%AverageInterest onDebt 6%Note: The Industry had availed several tax benefits by setting upthe factory in areas which had a tax holiday (Business Line2006). The company has set up factories in Goa and Pondicherrywhere the government is giving it tax benefits and that is thereason the company is paying lower taxes. However the taxesare increasing in the years due to inorganic and organic growthin manufacturing facilities which have no tax allowances

WACC

= (282.65/4095.53+282.6)*6(1-30) + [13.71(4095.53/4095.53+282.65)=.064*1.8+13.71*.935WACC = 12.94% => 13%

10.14Terminal Value

The terminal value depends on the long term of the cash flow for the company afterthe 10 year period (2017-2018). Braving the global recessionary trend, Indiamanaged a 6.7% growth in 2008-09(Business Standard 2009).IMF mentioned thatIndia will be able to achieve 7% growth in the forthcoming years (Financial Express,2009).The economy is picking up, however it is safe to be assumed that Indiagrowth would be 5% beyond 2018.

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10.15Sensitivity Analysis

The table below indicate the enterprise value of the company

Enterprise Value

FactorWorst CaseScenario

Best CaseScenario

Rs in Crores Rs in Crores

Growth Rate 6143.07 8454.97Discount Rate 4703.5 6745.83Sales Revenue 2512.96 6452.83

UB No: 08014043 41 of 43

Terminal Value

Terminal Value = Final Year cash flow *(1+ Long term cash flow growth rate)/

(Discount factor Long term cash flow growth rate

Terminal Value = 1175.54 * (1+0.05)/ (0.13-0.05)Terminal Value = Rs 15429.02 crores

Enterprise Value: Net Present Value + Terminal ValueEnterprise Value: 2675.23 +15429.02 = Rs 18,104.24 crores


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The workings are given below in the appendix 10.15.1- 10.15.3

10.15.1 Long term growth

The growth for India predicted beyond 2018 is 5%. A change in the growth ratescould cause a major change in the enterprise value of the firm. Prior to therecession, India was growing at 9% per annum. However, in spite of recession Indiagrew at 6.25% and was one of the few countries which were least affected by the

recession.After 2018, Indias growth rate is predicted at 3% in the worst economic conditionsand 7% at the most favourable economic condition

UB No: 08014043 42 of 43

Worst Case Scenario

Present Value = Cash Flow /(r-g) [Source: Money terms 2009]Where cash flow = Rs 1175.54 croresr = Discount Rate =13%g = Growth rate after final year (in the worst case scenario) = 3%Present Value in the 10 th year = 1175.54 / (.13-.03) = Rs 11,755.4 Crores

Terminal Value = Rs 11755.4.42*.295 = Rs 3467.84 Crores

Enterprise Value = NPV + Terminal Value = 2675. 23+ 3467.84 = Rs6143.07 Crores


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10.15.2 Discount factor

Worst Case Scenario

The discount factor is the most important factor which can affect the NPV. Thecompany has a debt of 53%, the company to increase its international presence andopen of more skin care clinics may need to have more debts. Thus the rate can betaken @ 16%.

UB No: 08014043 43 of 43

Best Case Scenario

Present Value = Cash Flow /(r-g) [Source: Money terms 2009]Where cash flow = Rs 1175.54 croresr = Discount Rate =13%g = Growth rate after final year (in the Best case scenario) = 7%Present Value in the 10 th year = 1175.54 / (.13-.07) = 19,592.33

Terminal Value = Rs 19592.33*.295 = Rs 5779.73 Crores

Enterprise Value = NPV + Terminal Value = 2675. 23+ 5779.73 = Rs


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Best Case Scenario

In case the company stops its acquisition mode and pay back the debts in the year. The discount factor will reduce. It can be assumed the discount factor to be @ 7%

UB No: 08014043 44 of 43

Worst Case Scenario

Present Value = Cash Flow /(r-g) [Source: Money terms 2009]Where cash flow = Rs 1175.54 croresr = Discount Rate =16%g = Growth rate after final year = 5%Present Value in the 10 th year = 1175.54 / (.16-.05) = Rs 10,686.72 Crores

Terminal Value = Rs 10,686.72*.226 = Rs 2415.52 Crores

Enterprise Value = NPV + Terminal Value =2288.29+2415.52 = Rs


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10.15.3 Sales Revenue

Another factor which can influence a company valuation to be overvalued or underestimated is the sales growth figure.

The worst growth rate the company can have during the end of the 10 year is 9%.

Thus, the % of increase is kept at 9% constantly. The cash flow for 9% at the end of the 10 th year is below

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Best Case Scenario

Present Value = Cash Flow /(r-g) [Source: Money terms 2009]Where cash flow = Rs 1175.54 croresr = Discount Rate =7%g = Growth rate after final year (economy) = 5%Present Value in the 10 th year = 1175.54 / (.07-.05) = Rs 5877.7 crores

Terminal Value = Rs 5877.7*.508 = Rs 29,859.71 Crores

Enterprise Value = NPV + Terminal Value = 3759.96 + 2985.87 = Rs


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Best case Scenario

UB No: 08014043 46 of 43

Worst Case Scenario

Present Value = Cash Flow /(r-g) [Source: Money terms 2009]Where cash flow = Rs 384.47 croresr = Discount Rate =13%g = Growth rate after final year (of the economy) = 5%Present Value in the 10 th year = 384.57/ (.13-0.05) = Rs 4807.125

Terminal Value = Rs 4,807.125*.295 = Rs 1418.10

Enterprise Value = NPV + Terminal Value =1094.86+1418 = Rs 2512.96Crores


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According to a research done by the Associated Chambers of Commerce andIndustry in India, rural areas are propelling the demand for FMCG goods. The studyalso mentions 10,000 villages out of 600,000 villages in India presently have accessto the goods of FMCG companies (RNCOS 2009). Thus a growth of 20 % at end of the 10 th year can be assumed

UB No: 08014043 47 of 43

Best case Scenario

Present Value = Cash Flow /(r-g) [Source: Money terms 2009]Where cash flow at = Rs 1147.79 croresr = Discount Rate =13%g = Growth rate after final year =5Present Value in the 10 th year = 1147.79/(.13-.05) = Rs 14347.37

Terminal Value = 14347.37*.295 = Rs 4232.47

Enterprise Value = NPV + Terminal Value =2220.36+4232.47 = Rs


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\

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