Investment Valuation in India

Despite efficient markets which provide normal returns in the long run, active fund managers and capital market participants such as investors and traders often seek abnormal returns. Given the large pool of securities, market often 'misprices' some securities which provide opportunities to these fund managers to generate abnormal returns. This abnormal return is known as Alpha Return. The amount by which the investment is mispriced by the market becomes part of the total return expected by the manager over the holding period of investment.  We call it ex-ante Alpha and is given by: ex-Ante Alpha = Expected Return - Required Return Note that we use various models to calculate the Required return such as Capital Asset Pricing Model (CAPM) ans represents a fair return expected on similar assets with similar risks. Example: Now Let's see how can we calculate the Expected Return. For example, if an Analyst believes that a security which is currently p...

There are various constraints that we come across while making investment decisions. Some of them are: Liquidity:  Liquidity constraints refer to the need of the investor to convert quickly into cash at a price that is closer to the fair market value of the investment. Usually, if an investor purchases a long term asset such as real estate, these are termed as illiquid assets as it usually takes longer to sell such assets and get cash. In case of immediate need for cash, one may have to sell such illiquid assets at an unfavourable price. On the other hand, marketable securities such as Money Market Funds are termed as liquid assets which can be sold and converted into cash almost any time. Investment Horizon: Investment Horizon (also known as Time Horizon) refers to the planned time between making an investment and redeeming such investments. A person (e.g. at the age of 25) would usually have a longer investment horizon if he plans to investment for retirement, daughter's...

Here are some valuation updates that have been reported in the global media. Stripe Payments services startup Stripe, founded by brothers Patrick and John Collison has taken another round of funding from Visa. The companies enables the apps and online stores to take payments from anybody, anywhere. It works with online companies that accepts payments through Credit cards while being totally invisible to end users. Visa has bought a stake in Stripe that values the company at $5 Billion and will leverage on Stripe's technical expertise to work on new kinds of digital payments. This is at a time when Visa is facing competition from organisations which are more mobile friendly when it comes to digital payments. On the other hand, Stripe will leverage on Visa's security systems to protect the users' financial information.   

One of the various methods of valuing businesses, is the Income Capitalisation Method. Income Capitalisation Method assumes that the business will continue in operation even after it is sold. It projects the future income of the business based on historical performance adjusting for estimated changes. Historical financial statements and estimates are used for projecting the future financial statements. Capitalisation rate - The capitalisation rate is the rate of return required to take on operating the business – higher risk leads to higher capitalisation rate. Capitalisation rates are determined based in on the riskiness of the business as well as based on capitalisation rates of comparable companies. Comparable Capitalisation Rate can be calculated as Net income / Market Value. This would give us the capitalisation rate for comparable companies. Net Income / Earnings – The Net Income or the Earnings are used for calculating the Market Value of the company. It is ...

The Discount Rate is a general term referring to any rate that is used in finding the present value of a future cash flow. it reflects the return or compensation required by an investor for a) delaying consumption (represented by the risk free rate) and b) assuming risk of cash flow Different discount rates may be used for different expected future cash flows. This is possible due to varying rates of inflation and other factors that may affect the future cash flows. However, for simplicity, generally a single discount rate (required rate of return) is used in most cases to discount future cash flows to appear at the present value of future cash flows.

One of the methods of valuing a company based on Discounted Cash Flow Method is as follows: Value of the Company = Free Cash Flow for the Firm (FCFF) for next year / (Cost of Capital - Growth Rate) where: FCFF = EBIT next year x (1 - Tax Rate) x (1 - Reinvestment Rate) Cost of Capital is the Weighted Average Cost of Capital (WACC) i.e. Weight of Debt (Wd) x Cost of Debt (Kd) + Weight of Equity (We) x Cost of Equity (Ke) Reinvestment Rate represents the amount required to be invested in the company every year to keep the company looking good and working well, even if the company does not grow in size. Reinvestment Rate is calculated as Expected Growth rate (g) / Cost of Capital (Kc) Note this is a simplistic method of calculation and is just one of the many ways of calculating value of a company. The method assumes that the company is growing at a constant growth rate which may not be a fair assumption to make, especially in case of start-ups or companies underg...

Every night has a day lying ahead. Similarly, every financial crisis leads to the huge investment opportunities. Sometimes it is done by the development of new financial instruments. Side pockets is one such form of investment that has, of late, been used by the Hedge Funds and large financial institutions. Let’s say a hedge fund had some investments that were not yielding good returns, courtesy the financial crisis. The company that were otherwise fundamentally sound, but had become victims of the financial crisis had almost become dead investments. As a risk averse investor, you were not interested in such investments and thus found no incentive to invest in the hedge fund. On the other hand, the hedge fund manager knew that the investment was good, but was only a matter of time and didn’t want to sell off the investment to book huge losses. How does the hedge fund attract investors then? Assuming it has enough cash (or liquidity) to invest in new investments it would set aside...

Imagine this, if you start investing Rs 2,000 per month at the age of 20, you could accumulate a massive Rs 1.08 crore (assuming 9.5% interest p.a.) when you retire at the age of 60. On the other hand, if you started investing the same amount at the age of 30, you would accumulate only Rs 40.66 lakhs. The investment decisions you make in the first 5-6 years of your career have the potential to transform your  financial future. The longer you stay invested, and the greater is the power of compounding. Life Insurance: Insurance is the first thing you should start investing into. The earlier you buy life insurance, the lower is the premium. If you wanted to buy a 20 year Term Policy for Rs 1 crore at the age of 35, the amount of premium you’d be required to pay is Rs 34,000, whereas if the same policy is taken at the age of 20, the amount of annual premium you’d have to pay is Rs 19,700 [the premium for 35 years term i.e. till you reach the age of 60 would still be lower at Rs 2...

One of the most important aspect of starting your own firm is to have enough funds to finance the business. You may not always have the capital to start a business, but fortunately there are other alternatives to finance the business. Loans from Banks / NBFCs Most banks and non banking finance companies (NBFCs) provide loans to small and medium enterprises (SMEs). The tenure ranges from 6 months to 5 years while the interest rates range between 10% and 15%. In most cases, banks and NBFCs expect you to show continuity of the business for a couple of years before funding it. Venture Debt Venture Debts are medium term loans offered by venture capital firms and do not require collateral. A start up is evaluated based on its ability to grow, fundamental enterprise value. The venture capital firms peg the value of the firm to its future cash flows and the ability to repay the loans. Leverage is not a great way to start a business so this option is better avoided or should be consid...

Hi, Check out this link on Accountants' Adda where in I explain about the Lock in period for Tax Saving SIPs in India. Accountants' Adda | Lock In Period for Tax Saving SIP

It is nearly impossible to document all ideas, issues, terms and techniques that an investment analysis professional encompasses during his or her work. Analysts often use one or more of the strategies while analysing a potential investment opportunity. Personally I believe that no literature can be complete and authoritative on this subject, though many authors, including myself, have attempted to cover as much as possible. This article only aims at stimulating and imaginative and holistic approach to dealing with investment matters and what questions one should be asking while analysing a company. What is the size of the firm (large, small)? What stage is the company and industry in (new, mature, declining)? Who are the customers of the company (individuals, industry, institutions)? Is the company project oriented (drugs, mining, oil & gas producers, construction)? How is the company socially responsible (is it a source of pollution, land contamination)...

Imagine a situation where you grow old and have managed to buy a house. However, you could not save enough for your retirement. You certainly need money to manage your day to day finances since you are retired and have no fixed source of income or your income is not enough to meet your finances. Reverse Mortgage is the answer for you. Reverse Mortgage is a type of mortgage available to senior citizens in which a home-owner can borrow money against the value of his/her home. No repayment of the mortgage (principal or interest) is required until the borrower dies or the home is sold. After accounting for the initial mortgage amount, the rate at which interest accrues, the length of the loan and rate of home price appreciation, the transaction is structured so that the loan amount will not exceed the value of the home over the life of the loan. [1] How does it work? Reverse Mortgage in India Realising the potential benefits of Reverse Mortgage, the Union Budget 2007-...

DERIVATIVES Overview - Session 1 WHAT IS A DERIVATIVE?   A derivative is an instrument whose value is "derived" from the price of some underlying instrument, reference amount or index. It generally represents a contractual relationship between two parties. Cash flows are exchanged between parties based on price/index movements. The terms of the agreements may be customized or they may be standardized to facilitate exchange clearance. Customized agreements are usually referred to as Over The Counter Transactions. (OTC) Generally doesn’t require physical delivery of the reference asset. WHAT ARE DERIVATIVES USED FOR? Trading -  Speculation (e.g., bet on movements in an underlying security, index, interest rate, commodity, currency or other financial instruments).  -  Arbitrage (utilized by many fund managers to take advantage of expected market movements or arbitrage opportunities, hoping to decrease financing costs or increase yields on exis...

Foreign Direct Investment (FDI) has been one of the factors that has driven the India growth story. Foreign Direct Investment refers to the investment of multinationals who invest in the equities (generally 10% or more)of other companies that are established in other countries. The investing company benefits from the growth and expansion of other countries while the country that has received the investment is benefitted by the large inflow of foreign equity that is used for the country's development. FDI generally entails long term investment with participation in the management, technology transfer and expertise. The net flow (inflow - outflow) of foreign exchange calculated as sum of equity capital, reinvestment of earnings, long-term capital, and short-term capital is shown in the Balance of payments. India has allowed FDI in various sectors through automatic route and has fixed ceilings for FDI. Investment beyond the ceiling through automatic route requires Government appr...

1. Where can you open your NPS account? You can open a NPS account at any of the designated banks, post offices or brokerage houses. 2. Is there an initial fees? A one time fee of Rs 40 is charged 3. What are the documentation requirements? Carry your PAN card, Address proof, bank details and 3 photographs 4. What happens after opening an account number? You will be alloted a Permanent Retirement Account Number (PRAN). This is a unique identification number given to your NPS Account. You have to pay a one time registration fee of Rs 50 followed by Annual Maintenance Fees of Rs 350. 5. What are the types of Accounts? There are 2 types of Accounts Tier I and Tier II. 6. Tier I Account Tier I account is a pension account and you cannot withdraw money from this account before you turn 60. After 60, you have to stop contributing and start withdrawing from it. 7. How do you withdraw the money from your Tier I Account? You can withdraw 60% of the corpus as a lump sum or in ...

India is in a rising interest rate environment. We have already seen the RBI raising interest rates five times since March 2010. Last week, in its policy review, the central bank left rates unchanged, merely reducing the SLR to 24% from 25%. However, this is certainly not the end of the story. With the inflation showing no signs of easing in the medium term, raising interest rates is one of the most important tools in the hands of the government/central bank. Rising interest rates are generally not taken well by the investors at large. Firstly because it directly hurts the pockets of the individuals. The interest rates are increased to suck money out of the system and to curb the inflation. As rates increase, banks pass on the increase in rates to its customers and consequently home loans become more expensive. People having loans have less disposable income as their monthly payments increase. Let's see how this impacts the businesses. Companies need funds to operate and ...

With just 10 working days for the year 2010 to complete, here is a small analysis of the sectors that have consistently outperformed the Sensex over the last 6 years. Average Yearly Return of the Sensex over from 2005 - 2010 = 29.0% [Max return in Yr 2009 - 77.3%] Sectors that have outperformed the Sensex in terms of Average Yearly Returns: Realty ........................ 98.6%  [Max return in Yr 2006 - 469.0%] (Realty Index introduced in 2006) Consumer Goods ..... 51.5%  [Max return in Yr 2007 - 114.8%] Metals ........................ 50.9%  [Max return in Yr 2009 - 220.4%] Consumer Durables .49.1%  [Max return in Yr 2005 - 110.6%] Auto ........................... 42.7%  [Max return in Yr 2009 - 200.5%] Power ........................ 35.8%  [Max return in Yr 2007 - 125.0%] Oil & Gas ................... 35.0%  [Max return in Yr 2007 - 112.8%] Banks ......................... 32.5%  [Max return in Yr 2009 - 81.0%] On a ...

Vulture Funds are financial organizations/private equity firms that seek to invest in debt issued by a company (or in case of a sovereign debt, a country) that is weak and dying. They are also called “Distressed Debt funds”. They buy up sovereign debts of poor nations that are assumed default or near bankrupt when at time the debt is just about to be written off and eventually sue the debtor for the full value of the debt plus interest in the future. The full value is usually 10 times the original paid up debt. Alternatively, they hold on to these investments (if the issuer doesn’t default) and sells them when the prices skyrocket. So these vultures prey upon the debt cancellation measures received by the poor companies/nations by purchasing their debt at a discount (sometimes as low as 20%) and redeeming it at a premium (including interest). They provide a useful alternative for investors who are unable to follow up upon their defaulted debt and in turn are certain to face financial r...

New Pension Scheme FAQs What is the New Pension Scheme (NPS)? New Pension scheme is a retirement planning instrument and a system of fund management like the Employees Provided Fund (EPF), Public Provided Fund (PPF). It is based on defined contributions It is voluntary for private sector employees but mandatory for new recruits to the Central Government Service (Except armed forces). Who is it for? It is applicable for salaried employee (both public sector and private sector) within the age group of 18 to 55. you need to compulsorily withdraw from the system on or before the attainment the age of 70. Who is the regulator for this scheme? The Pension Fund Regulatory and Development Authority(PFRDA) has been assigned the work of protecting the interest of the people participating in the NPS. It’s a Government regulatory body of India What is PRAN? Permanent Retirement Account Number (PRAN) is like an account number which will help you check your funds online or at the point of presence (...

4 things to look for in an investment New investors are often interested in purchasing a company's stock but are not sure where to begin. These four characteristics should serve as helpful guidelines in your search for a good investment. 1. What is the price of the entire company? When doing research, it is important that you look at more than just the current share price - you need to look at the price of the entire company. The "cost" of acquiring the entire corporation is called market capitalization (or market cap for short) and is frequently referred to by financial professionals. In short, the market cap is the price of all outstanding shares of common stock multiplied by the quoted price per share at any given moment in time. A business with one million shares outstanding and a stock price of $50 per share would have a market cap of $50 million. This market capitalization test can help keep you from overpaying for a stock. Consider the case of eBay and General Mo...