so we were doing the chapter uh corporate valuation which is equity evaluation we did the quite a few Concepts that is earning capitalization dividend valuation uh multiple evaluation multiples like AV tablet P multiples sales ratio like that now let us talk about one important effectual method only uh validation using FCF validation using FCF FCF stands for free cash flow people also call it as DCF method in Practical life DCF discounted cash flow method DCF method so what is this validation using free cash flow the same concept what you discussed in dividends we are going to apply here but dividend was from the point of view of shareholder what he receives dividend what he receives but you'll also have something is undistributed results right like on retained earnings so rather than thinking from a dividend the perspective why don't you think from the whole entity perspective and that's what is free cash flow method so basic meaning uh free cash flow that means uh meaning of free cash flow uh cash flow available after all obligations cash flow available after all capital expenditure and obligations after all capital expenditure and obligations please write it parallely along with me cash flow available after all capital expenditure and obligations so we are focusing on cash flow my dear friends not on profits so if they are given profit after tax we have to adjust what is the first thing that comes to your mind when you have to uh convert from profit after tax into cash flow what is the first thing that comes to your mind depreciation exactly so from the profit of the tax when we talk about we have to calculate depreciation I mean we have to adjust depreciation and other things like capital expenditure uh do you remember in cash flow statement we have three kinds of activities cash flow from operating activities cash flow from investing activities cash flow from financing activities now in cash flow from operating activities only we start with profit after tax and we add depreciation there is one more important a group of adjustments will come do you remember in cash flow from operating activities from profit after tax to reach cash flow from operating activities we take depreciation but we also take one more important adjustment one more group I would say one more set I would say any idea remember what is that important set of adjustments that we do it is working capital adjustment right increase in working capital right adjustment for working capital like increasing debtors decrease in stock things like that increase in craters hope you remember it so after considering all those things what cash flow you get this free cash flow formula will come to it I hope you are trying to get the feel of it what I'm trying to tell why I'm calling it as free cash flow because not because available free cash flow means after all obligations let's say let's think about a salary map you get one lakh salary out of one lakh salary you spend for households let's say whatever this month that much you spend uh then you keep aside for Emi you repay then you keep some savings because you're planning to buy some car so you you invest that or you transfer to some sip systematic investment plan keep the money in mutual funds so after all everything you purchase some uh Furniture let's say you purchase some new sound system what cash flow is available on your hand that is what is free cash flow so free cash flow means available to The Entity without any restrictions no repayment obligations no future investment thing everything we have set aside purely what is cash flow available typically uh practically initially for companies free cash flow might be zero or very very less you know why because initially you have to purchase lot of things Furniture you have to purchase building you have to purchase Machinery Auto purchase a software's auto by Amazon subscription I mean Amazon means for AWS I mean the online because the cloud software you have to purchase Google Drive Google Drive space you have to purchase maybe website hosting to be done so a lot of costs will be there initially so free cash flow will be less only after a particular point in time you will get free cash I hope you got the overall view of it what is free cash flow okay then let's tell you the valuation or let's say types of free cash flow types of free cash flow okay one is called as fcff free cash flow to form and the other is called as fcfe free cash flow to equity fcff free cash flow to form free cash flow to equity attention only free cash flow I'm here to come to the valuation piece anyway no problem uh so meaning of free cash flow types of free cash flow done uh types of free cash flow free cash flow to Four free cash flow to equity first of all I hope you know the meaning of form or meaning of Equity Firm means from the business point of view Equity means from the owner point of view that is Forum means from business point of view from business point of view and Equity means from owner point of view from owner point of foreign with me because otherwise you may not be able to understand my great handwriting so if you write along with me as and when I speak you'll be able to hear and write it so from firm point of view and from owner point of view this is one separate distinction you have to understand very clearly uh what is written in the brackets on the top uh DCF method discounted cash flow method in examination we don't use that name but practically people use that name DCF method discounted cash flow method so because we will be using cash flow and we are doing present value of it so popularly people call it as DCF method but in exam we just call it as a valuation using FCF fcff or FCF free cash flow to four or three cash flow to equity so fcff from the point of view of business whereas fcfe fcfe free cash flow to equity from the point of view of owner from owner pointers I'd like to explain now hope your return till here foreign okay now let me give one small example I am giving the same example I will give you the same example let's say you take an example of house property house a host value you have purchased for let's say 50 lakhs and you have taken a loan or let's say I'll say eight percent low of 20 lakhs let's say how the balance sheet will look like okay somebody wants the previous slide I'll show it to you please write it down then I'll go forward okay very good so if I prepare one uh balance sheet for this how do I prepare simple balance sheets I will say asset value house property you say 50 lakh right right 50 lakh here on the liability side you write debt eight percent rate 20 lakh and uh what will happen to the balance what do you call how did you get the balance money 50 lakh minus 20 lakh 30 lakh comes from out of your own resources out of your own resources means that is equity right that is own funds internal funds shareholders funds net worth what are you call it all are same that is 30 lakh in simple words I will say equity equity this is balance sheet point of view so when I say 50 lakh that's what I mean by value of firm so when I say 50 lakh I say value of 4. this is Book value of course present 12 will be different and when I combine these two that's what I get value of the form both are same Equity plus debt or value of business value of entity that is value of firm Equity plus debt you can see but what is 30 lakhs alone and that is called as value of equity again these are all elementary levels I mean this you should know in the intermediate level you have a chapter of capital structure theories you would have learned earlier form value of equity net income approach net operating approach anyway so if you remember you can recollect but I am trying to tell you very Basics hope you don't have to worry about anything in the past okay so value of equity means that 30 lakh equity uh directly you can take share Capital plus results Equity or you can also calculate asset minus debts that is uh 50 lakh minus 30 lakh also will give you same number right 20 lakh so Equity value you can compute directly or you can also do value of the firm minus debt also will give you value of equity value if the firm is 50 lakh in this example debt is 20 lakh 50 lakh minus 20 lakh 30 lakh and that is value of equity please write down till here and let me know if I have to sorry 50 lakh minus 20 lakh 20 lakh is low so 30 lakh is value of equity so 30 lakh directly you can say value of equity or value of the firm you can take that is house property value value of the firm minus debt also will give you value of equity don't worry about the formulas I'll give you in a separate slide first try to get the concept right write it till here any doubts let me know yep so value of 4 is the value of host properties the value of business If I subtract that I get equity some people call this value of the form as Enterprise Value also we are discussing earlier let's simply call value for foreign is it completed questions is it fine shall I go further yes okay thank you so now I'll try to talk about the income statement I'll try to talk about the income statement now you please tell me from the host property rental income you get let's say foreign and interest expense is how much 20 lakh into eight percent uh one lakh 60 000. so you get net profit assume no no tax assume no tax so net profit what you get is 3 lakh Forty thousands okay income statement or as you know depreciation so this is this it will become cash flow also for our discussion purpose uh of course we'll have to adjust many things for the time being assume this is cash flow also important Point listen to me carefully simple point but somehow many people get confused here they keep passing me this doubt listen to me and try to answer it from the house property point of view which profit is relevant phyluck is relevant or 3 lakh 40 is relevant from the point of view of the house property if somebody wants to purchase house property will they look at 5 lakh in mind or will they look at three lakh forty thousand in mind 5 lakh I'm I hope everybody is absolutely clear about it no confusion right I'm happy everybody is giving the right answer absolutely right no confusion but why do you get confused in solving problems which means when you think from The Firm point of view the relevant is profit before interest or cash flow without considering interest whereas from the equity point of view from the owner point of view owner has taken loan so owner interest has to be paid for the owner net income from host property maybe you have to subtract interest but from the property point of view from the business point of view from The Firm point of view interest income should not come so when we are valuing the firm The Profit what we take is before considering interest okay so uh okay there's no nothing to write here let's come back so from business point of view what relevant profit you are calculating relevant profit relevant to profit from business point of view is going to be ebit [Music] earnings before interest and tax I should not consider interest and I subtract tax means what 1 minus TL multiply ebit into 1 minus t so without considering interest element I just multiplied by after tax 1 minus t basically what is my net profit assuming there is no interest and that is called as net operating profit after tax net operating profit after tax evat into 1 minus t is notepad net operating profit after tax owner point of view relevant profit is straightforward very simple profit after tax profit after tax what is this point basically means interest is not considered in fcff interest should be ignored interest should be not subtracted whatever you can say we only take ebit into 1 minus t we get notepad net operating profit after tax whereas for if CFE fcfe Equity point of view straight away we get back foreign how do you calculate fcfe uh I'll go to the next slide I hope you are clear till your relevant cash flow I'll write in the next slide you can write if you have space below you can write it or you can also write it in the separately 11 cash flow uh I'll write uh cash flow computation I'll write separately so hope I'll go to next slide relevant cash flow I'll write it now okay so relevant cash flow so let me write first relevant cash flow computation how do I calculate for fcff how do I calculate for FC f e okay now for fcff what will be your starting a point our starting point will be net operating profit after tax I just told you now right net operating profit after tax I just told you we will not consider interest plus depreciation we must do it because uh depreciation is non-cash so I will do plus depreciation plus depreciation then uh what else will come as an obligations Plus uh sorry minus capital expenditure minus capital expenditure popularly we call it as capex capital expenditure capex minus increase in working capital increase in WC working capital not World Cup so we'll start with no path net operating profit after tax we add depreciation because non-cash capital expenditure we have to purchase Furnitures Machinery so our cash flow will reduce subtract and I'll have to subtract increase in working capital last is increase in WC working capital why working capital uh when the business grows uh we will having more debtors more stock need to be purchased and most stock means we need to have more Capital working capital so our whatever money we are generating will go towards future growth perspectives increase in working capital just okay now tell me go going back to the same basics this one when I calculate cash flow I mean when I have loan I will have repayments also now you please tell me will this repayment will this repayment has any impact on uh rental income parts will your rental income be affected because you have to pay repayment that is uh if you're thinking I want to purchase that house does it matter the value of the property depends on loan repayment you do I mean you might consider I have to repent but value of the property is no way affected rental income is now affected by repayments because repayments is from owner's point of view rental income is from a state to point of view firm point of view I hope these two points are very clear in your minds from the asset point of view from the owner point of view asset and the owner are not same typical differentiating factor is loan and interest so this repayments will not have any impact on free cash flow to form but will have an impact on owner will have an impact on Equity how it will have an impact I'll show it to you okay you can also write like this some people also write like this no pacts minus they write like this minus capital expenditure plus increase minus depreciation uh plus increase in working capital some people also write the amounts like this nothing but mathematics minus I'm taking common when I take minus common I get capital expenditure as it is depreciation plus is there because I take minus common it becomes minus increase working capital minus I take minus common so what remains is Plus and minus have been taken in Brackets why you have to explain like this because sometimes in the exam problem they'll give you net capex capital expenditure minus depreciation they will give you the net amount so for that purpose you just keep this also in mind this is called as net capex net capex net capex net capital expenditure net capitals okay now fcfe we have to consider from owner point of view owner point of view means after subtracting interest so I will say bad understand the difference for fcff we started with notepad interest was not subtracted fat interest should be considered that is from owner's point of view that is owner of those property will have the impact of interest expense for his net profit for his net cash flow so plus depreciation minus capital expenditure minus increase in working capital okay now you write it one more adjustment you have to do so I'll explain that I'll come back to this uh don't worry I'll give time to write let's come back to same example once more house property now here you think and tell me you have purchased the property with 50 lakh loan you have taken 20 lakh so your own money is 30 lakh in this case can you tell me what is debt to equity ratio in this situation if you have to compute the ratio debt to equity ratio what would be the number host property 50 lakh debt 20 lakh Equity 30 lakh so what is debt to equity ratio will be in this case foreign debt to equity okay now let's say you are going for host property Improvement you are spending additional 10 lakhs or let's say you're spending additional one lakh for Simplicity sake you are spending additional 1 lakh and you will be maintaining you will be maintaining same day equity ratio one lakh you will be maintaining same equity ratio same that equity ratio so in that case how much will be coming from loan because if you spend entire one lakh from your pocket then Equity value will increase when Equity 30 becomes 31 3 is to 2 ratio will not be maintained so what you should do then entire money you should not bring from your pocket you have to bring a you have to bring in some sort of loan to maintain same ratio so how much you have to maintain if you have to bring in then two is to 3 should be maintained means this one lakh what do you spend has to come in two is to 3 ratio it has to come into it two is to 3 ratio that means can I say forty thousands and sixty thousands that is forty thousand one lakh into two by three and one lakh into uh three by uh two two by five and three by five so sixty thousand is the Forty thousand is that sixty thousand is equity so how much goes from uh your own pockets from equal to Children's point of view how much goes from your own pocket is sixty thousand so out of water money you are going to take you have to uh give up from your pocket from owner's point of view only Equity portion equity ratio out of two is to three only three by five three by two plus three that's what goes from Equity shareholders pocket because rest I take loan so how can I write this so uh Pat plus depreciation minus capital expenditure minus increase in working capital I will say plus loan taken foreign taken one is loan repayments minus load repents so where is equity ratio coming in indirectly it is coming in how it is indirectly coming in in this example what is capital expenditure capital expenditure your spending is one lakh and how much loan you're taking loan you're taking 40 000 so if I do minus one lakh minus capital expenditure plus loan taken plus forty thousand minus one lakh plus forty thousand effectively that means uh that is what is uh going out from your own pocket minus one like capital expenditure 40 000 loan you are taking simply one lakh going out forty thousand coming in in the form of loan effectively sixty thousand is going out from my pocket that's what I told you one lakh into uh for a sixty by hundred I mean I have one lakh into three by five so I've done three by five one lakh into three by five I get forty thousand that is same as minus 1 lakh plus 60 000 effectively same number loan taken loan is forty thousand one lakh and uh forty thousand effectively sixty thousand one lakh into three by five also sixty thousand are you getting my dear friends K minus capital expenditure plus loan taken is same as on capital expenditure taking it proportionately loan repayment also because as a house owner I have to pay Emi I have to pay some loan repayment that will also go out from my free cash flow rental income it has to be only principle because the interest rate is subtracted in Pat when it took part in terms of subtracted but principal portion a repay that goes from out of my pocket from owner point of view so principal portion to be subtracted in loan repayment but that is very rare very rare it comes uh in a problem it might come as I show it to you anymore hope you got this point okay one more formula is there sometime people write like that also so packed they'll I'll take uh minus common you know what will happen when I take minus common it will be capital expenditure minus becomes plus so capital expenditure minus depreciation plus depreciation becomes minus depreciation that you know I showed you already what will happen same calculation plus increase in working capital increase in working capital this whole portion I'll multiplied by Equity by Equity plus debts what is equity by Equity plus debt 2 is to 3 ratio 3 was Equity right so three by two plus three two a three by five one lakh into three by five I get sixty thousand same thing Equity by Equity plus debt then close the brackets then if you have any loan repayment you do it separately loan repayment uh this portion this Equity by Equity plus debt is also called as equity ratio equity ratio if they tell you equity ratio directly then you directly take the equation 40 by 100 equal ratio twenty percent twenty per hundred sometimes in the exam the ratio word is missing they'll tell you equity ratio 30 percentage they will not tell understood implied equity ratio means percentage and be very careful that equity ratio is different from debt ratio we discussed in the basics debt equity ratio means debt for every Equity debt ratio means debt divided by total but we need the equity ratio so if they tell you tax ratio is 30 percent equity ratio will be 70 percent if they tell you debt equal to is 2 is to 3 then equity ratio will be three by five second number is equity so three by five hope you have written until here any doubts very important free cash flow computation again repeat in notepad interest should not be subtracted I told you but I still want more interest should not be subtracted in fcff shouldn't be subtracted in other words the capital structure should not influence fcff whether you take more debt or less debt will you pay interest you don't pay interest fcff remains same because fcff is irrespective of capital structure this is free cash flow available to form and fcfe free cash flow available to equity shareholders just one question you tell me should I subtract dividend from fcfe or fcff what do you think if company pays dividend should I subtract it this has no way come in CA examination question but conceptually I'm speaking interesting concept that's why when you pay dividend should it be subtracted from fcff and fcfe or it should not be subtracted what do you think answer is it should not be subtracted why dividend as I told you earlier is like a with a drawing right you are drawing some money like in the same example host property value what is available to owner is three lakh forty thousand from his bank he withdraw forty thousand but free cash will still remain three lakh 40 only 40 000 is what you're paying as dividends to yourself so what is available to you remember fcff or fcfe is always free cash flow available that point you have to keep it in mind free cash flow available to firm free cash flow available to equity shareholders so dividend is an appropriation should not be subtracted that is one of the reason why interest is not subtract from fcfe because this free cash flow is available to the value of the firm from that interest should not be subtracted because for the firm interest will become there uh appropriation so dividend or any appropriation should not be subtracted shouldn't be subtracted because fcff fcfe is a amount available not the netam amount available to owners aren't available to uh firm so dividend should not be subtracted because dividend is an appropriation in a way from The Forum point of view interest is also appropriate form has got equity and debt what is paid to debt Equity is called as dividend what is paid to debt is called as interest so I don't consider dividend I don't consider the interest so from The Firm point of view in a way interest is like an appropriation that's why that should not be subtracted and dividend anyway should not be subtracted okay hope you have taken till here any questions okay I'll go further next let's come to ultimately valuation part valuation part of it okay let's say valuation of 4. valuation of 4 or value of let's say value form present value when I say value of 4 it is present value that is calculated as if it is Perpetual growth then what do we do f c f f 0 into 1 plus G divided by k e minus G oh it's not k k o f c f f 0 that is today is 0 into 1 plus G divided by K minus G this is Perpetual growth and what is k o k o is overall cost of capital or sometimes you also call it as wacc weighted average cost of capital again this is your Elementary level previous level still I'll tell you how do you calculate wscc overall cost of capital is calculated by wacc is calculated by I'll show you the calculation cost of equity into equity ratio equity ratio will be Equity by Equity plus debts Plus cost of debt into that by Equity plus debt basically cost of equity multiplied by its weights cost of debt multiplied by its weight Equity by Equity plus debt that gives you its way a debt by Equity plus that gives you the debt ratio that equal debt weight and K is cost of equity KD is cost of debt overall cost of capital also called as wscc with average cost of capital K you can do it using capm model we'll discuss cap model in detail in uh portfolio management and the capm formula is what RF Plus RM minus RF multiplied by Beta RF risk-free rate plus RN minus RF market rate minus the square rate into beta B beta cost of debt is rate of interest after tax so cost of debt is rate of interest after tax so 1 to 1 minus t into 1 minus t okay then if this is a Perpetual growth uh if the constant growth happen after a particular time then what we have to calculate remember like for example the growth happens for first three years separately after fourth year growth become constant then what we should do remember what we have to calculate when a growth rate become constant we have discussed in multi-stage dividend discount model like if I use a fourth year cash flow what I will get the value at the end of third year what is it called as a terminal value P3 yeah now we will not call it as P3 we'll call it as terminal value 3 t v three so uh in that case we are going to calculate value of the firm as fcff one first year cash flow divided by 1 plus G second year cash flow fcff two divided by 1 plus k o sorry overall cost of capital divided by 1 plus k o whole Square Plus fcff3 I'm writing in the equation format but you know while solving problems we're doing a tabular format FC ff3 divided by 1 plus k o whole Cube nothing but discounting Factor one discount incredible discounting factor three plus fourth year onwards means we get TV3 and that should be uh brought down okay let me write the formula for TV3 also fcff four divided by or FCX 3 into 1 plus G both are same okay let me write that only f c f 3 into 1 plus G divided by K O minus G this will give you terminal value this you multiplied by discounting Factor third year one by 1 plus k o whole to the power of 3. and this part is what the whatever in in the brackets is what I mean as terminal value TV3 when I use the fourth year cash flow I get third year terminal value one term less and multiply by discounting Factor so 1 by 1 plus k o whole to the power of 3. this is if it is uh growth become constant after particular period multi stage discount model anyway while solving the problems you don't worry about these formulas you will write in a tabular format but conceptually be aware of this equation format foreign foreign foreign okay now value of equities in one easy formula we'll say that is value of the firm minus value of debt this is one formula simplest and which is what used mostly practically also value of the form minus value of the date or the state big formula detailed calculation formula that is FC f e 0 into 1 plus G or FC fe1 FCF z f c f e into one plus G divided by K minus G remember it's not k o its cost of equity only why because when you value The Firm we need overall cost that also Equity also mixed but when you say Equity you need only cost of equity only from the equity shoulders point of view so be careful about the cost of equity this is Perpetual growth or if it is uh growth becoming after a particular year same formula like what we discussed here this terminal concept same thing applies you don't have to repeat it every time this much is sufficient now both of these term mathematically answer will be different conceptually say mathematically it will be different so in the exam uh you'd write mostly it's prefer mostly it's preferred this in a full flesh problem we follow this value of the firm value of debt is usually applied for full flesh problem is applied for full flesh problem practically also if you follow this is applied for full Flex problem but sometimes they'll tell you compute value per share and they give you this information directly like capital expenditure depreciation per share State away they give in the in those cases you can use the second formula but be aware of both uh why k for cost of capital that's again your intermediate level question maybe because you had a separate chapter called as cost of capital it's because of its pronouncement uh K so instead of C we use the term k and also because of the influence of other uh language the Latin has got impact because in Latin again cost is influenced with K more than C that's why K is used because pronunciation is cost though we write C pronunciation is cost okay uh not relevant for my subject but let me ask you one basic question since you're all becoming child accountants you should know absolute everything about the accounts let's see if you can think about this answer uh you know we use the form for debit credit what is the short form we use for debit credit we use the form Dr crcr right debit Dr credit CR but where does r come from debit I understand D credit I understand are Urban C but where is R come from don't tell me data are greater no that's not the reason for debit credit debit we have the credit we have C but where does the r come from any idea anybody asks this question why are we writing debit where does r come from chumma you add any alphabet you want okay I will not answer that question you try to figure it out there is a answer very close to the answer what I've just given why uh ke stands for costs or k stands for cost seems good only we can use anything no y r only at least credit we understand because we are great okay but debit where are coming from okay anyway uh you try to figure it out or okay I think some of you are very keen I'll just give a quick answer simple answer it's because of its history in Latin debit they call it as Debi Ray in credit they call it as credit rate Latin Devi Ray became debit credit became credit my pronunciation may be wrong but that's how it's approximately so Debby Ray R comes from there debit crate so this uh impact of Latin is there much on our English anyway so let's go further my dear friends so what I was trying to tell you uh value of equity is value of the firm minus value of debt that approach we mostly use but you can also use the approach fcft 0 into 1 plus G by K minus G some straightforward problems where they'll give you everything per share directly in that case you can use the second method but mostly you'll follow the first method okay now let us go to the format that we need to keep it in mind for full flesh problems income statement because practically people do follow this so they will give you income statement and ask us to estimate so I would like to spend time on that format what you need to keep it in mind income statement or valuation using projections valuation using projections of income statement I'll give you the format and if possible if I get it I'll try to show you the Practical example as well okay so they will give you year zero okay year 0 you always take it as base data don't consider it for present value calculation this is base year this we should not use it I mean this is used for ratios but that should not be used in present value calculation okay so let's say Year One we will have er2 we will have year 3 and year 4 onwards for example purpose here four onwards where growth become constant practically what we do you know for for two three years maybe five years we can do lot of calculations and try to do some projections but after a particular point we cannot do lot of calculation we assume a constant rate means we get a terminal value at that point so what and all we'll have it we will have sales they will give you sales of year 0. but based on year 0 we calculate the growth and to be specific I'll say 1 plus G sales they will give you or whatever let's say year 0 sales then you multiply with 1 plus G growth rate they will tell you sales is likely to grow by 20 percent you get sales of year one again you multiplied by 1 plus G you get next second year sales and so on of course fourth year onwards sales growth might get stabilized uh then you will have expenses cost of goods sold I'll say you'll have depreciation at all uh you get ebit whatever I think I will write x x x cost of goods sold X means some amount okay not cross ebit less interest should I do or not less interest should you do or not it should not be done for valuation of form if you are Computing value of equity net profit then we do it but typically when we discuss we only discuss from uh FCF free cash flow to for firm point of view then I subtract it so typical problem I don't subtract interest but if you are calculating fcfe method then you subtract but usually I don't do it so just subtract tax so what I get is net operating profit no packs then I'll add depreciation minus capex capital expenditure uh minus increase in working capital so no path I get depreciation you add capex you subtracts increase in working capital increase in WC increase in working capital you subtract then what you get is FC f this is FC ff1 this is fcff two this is f c f 3. this is fcff 4. now fcff 4 I should not stop what should I do I have to calculate tv4 so TV3 sorry TV3 that is fcff four divided by k e minus G I'm not sure you are able to see this f c f 4 so yeah 4 divided by k e no k o minus G then you multiplied by discounting factor of year one you multiplied by discounting factor of year two you multiplied by discounting factor of year three this also you multiplied by discounting factor of er3 then what are the total present value you get PV is value of the form so fcff multiplied by discounting Factor last year terminal value then you get value of the form the terminal value part I'll read in case you are not able to read correctly so FCF fcf1 fcf2 fcf3 fcf4 where the growth becomes stabilized and fcf4 divided by K O minus d f c f 4 by K O minus G you get TV3 TV3 so then you multiply for this df1 d f 2 df3 and for last one also df3 only last two cash flows will have same discounting factor we have discussed this in multi-stage dividend Discord model then PV value of the form total of all this is valid therefore let me see if I have any okay just give one minute let me see if I can get you foreign something practical where I can just want to show the formats all right okay foreign foreign can you please confirm if any Excel sheet is visible yes right okay so this is how uh practically like lot of equity research firms brokerage houses when they give you buy call cell call they use this format for example this is one of the company's thing you see uh for the last few years March 2013 14 15 16 17 18 19 20 they are having the actual data and from 21 20 to 23 24 20 26 they are doing some estimation data so from the actual data they compute the ratios using the ratios they're trying to project Revenue other income total sales and for Revenue also they do separate calculation in your uh annual report so many data points will be there like revenue from North America Europe how much was percentage applying the same percentage because uh geographically growth rate might be different segment wise Revenue even product wise segment they will do it Revenue by delivery centers okay uh cost also they will project employee costs separately uh professionals cost separately interest expense separately uh then they prepare the asset schedule to know the capital expenditure uh they try to do all these estimations of balance sheet estimation they will do cash flow estimation they will do you know cash flow format then they will do the DCF calculations discount cash flow uh you know uh cost of capital and all how I told you the risk-free rate growth rate RM beta you they use all those ratios they compute the cost of equity wscc we cost a weight of equity rate of debt then uh so I told you EB 18 to 1 minus t notepad depreciation purchase of fixed assets this is a practically done my dear friends this is a practical example how exactly the evaluations are done then they do a calculation fcff then they calculated Enterprise Value value of the four then that they subtracted the net debt they subtracted so minus debt plus Cash Net debt they got the value per share that is what they are telling I mean they divide by number of shares that will give you the value per share then they compare with the market price and they give the decisions like cell hold by Etc and whenever a result comes quarterly results Comes This valuation change drastically because you know these uh estimations what is there that will become actual to an extent so because of the change in estimates change in values the value price value per share will change and this is what uh typically we call it as fundamental value or fundamental analysis uh looking at the fundamental value of the stock so as per this calculation if the value of stock comes to thousand rupees but in the market if it's available at 800 rupees we know it will come 2000 rupees one time or the another it's a good to buy or if it is uh higher price we say don't buy it or if you have it please sell it or if you are already holding it please give a call like hold call so various kind of this analysis comes from these calculations so so much data point will be doing it uh in the Practical life so much calculations will be involved it's not like simple one PPT one slide we got the answer one table we got the answer it is not like that we will be doing estimating P and L account separately balanced separately and balance sheet should get tallied and cash flow statement we prepare and revenue estimations will have all the segment Revenue that's why what you did in India SAS annual report information becomes so much relevant uh director support guidance becomes so much relevant we use these data points plug in these Excel models will arrive at the numbers and the same Excel model cannot be used for all the companies because the different companies will have different Revenue structure will have different cost structure so we can't use one Excel model for all but conceptually is what I wanted to show it to you how these detailed practical calculations are done it's not a simple one table thing people spend months together to understand to do data crunching and come up with the value and of course once the company one Excel sheet is there then every time annual report comes we just have to update you know Excel formula Works change in Assumption you want the value of the set will be obtained automatically okay so let's go back I want to discuss one more point before we go to problems okay so I hope uh PPT is back it's PPT visible yes okay very good thank you so what we discussed this so much one point to be kept in mind uh sales growth I told you how do we calculate this ebit how do we calculate tax and all okay that is fine but how do we get these numbers futuristically how do we estimate is what I wanted to tell you uh for practical understanding kindly shape the Excel sheet sorry that will not be able to do uh uh you can search in Google you'll find it because that what I showed you one of the Practical ones so that is uh confidential once I would say I cannot share it as it is because lot of effort has gone behind it so that will not be proper on my side to share it I can show it to you you create it you can search in Google I'm sure you'll find it or if I'll try something if any demo is available I'll search in my file section if it's available that I'll share it with okay um okay what I was telling is how do we use the estimations estimations are done exam purpose I'm telling practically lot more things goes in examination point of view estimation comes from the base date information they will give you sales growth that is the primary information they'll give you okay so I'll just tell you for that purpose as well how do we do it so sales growth information will be given in the problem sales growth this will be given in the problem practically lot of calculations goes in segment Revenue currency revenue and so on so exam point of view sales growth will be given in the question okay then comes to this uh cost of goods sold percentage or ebit percentage we can directly go to ebit actually from example interview ebit percentage uh calculated from base year information calculated from base year that is given by ebit divided by sales into hundreds base here we take it year 0 base year means year zero that information will give the problem here zero information they'll get the problem uh so sales growth is done ebat then a tax rate enabled will give me the problem so notepad we will calculate come to depreciation uh capex working capital how do we calculate this part that is very very essential what is common in the exam I'm discussing with you capex again calculated based on base year calculated based on base here that is we use turnover ratio asset turnover ratio assumed to be same that is we will use turnover ratio turnover ratio and if you remember turnover ratio okay let me give an example suppose a fixed asset is uh let's say uh forty thousands and sales is 2 lakh sales is 2 lakh so if I typically compute the fixer has done no ratio how much it will be fixed assets turnover ratio how much it will be how do you calculate sales by fixed asset remember turnover always will come in the numerator fatr fixture system over ratio that is sales is 2 lakh divided by fixes is 40 thousands equal to 5 times how do you understand by these five times my dear friends if one sales by fixed assets if one rupee is fixed assets five rupee will be sales by fixed assets denominator one so if fixtures is one Rupee sale will be 5 rupees so if I know the fixed assets I'll be able to compute the sales if I know the fixed assets I will be able to compute the sales but will that be there in this question we will have sales typically right sales growth see if the first line sales growth we will have so we will know future year sales so if from the states if I have to come to fixed assets I should divide by this ratio I should take a reciprocal of this because from the sales I am trying to compute the fixed assets so rather than this we can do this is technically but for solving problems in exam even Institute has done it we don't follow this approach we will follow percentage approach that is fixed assets as a percentage of sales means what forty thousands is the fixed asset sales is too lag so in 200 so we get 20 percent what do you mean by 20 whatever the sales if I apply 20 I get fixed assets closing balance so right correct right uh fixed assets as a percentage of sales I get the closing balance so I know the sales I multiplied by this percentage from the base here I'll be able to calculate the fixed assets so rather than turnover ratio method we follow percentage of sales method for easy convenient calculations from example okay but this is closing balance this fixture sets what we get is closing balance but we want is increase in capital expenditure how much because it's purchased during the year for that one more information will there let's say depreciation depreciation uh sometimes they will give you uh directly in the problem sometimes so I'll write like that only sometimes they will give it to you right like uh capex depreciation growing at certain rate sometimes capex or net capex they'll say sometimes they say net capex growth will be given in the problem given in the problem if they have given no problem you use it as it is capex net capex means what capex minus depreciation you calculate for the base here growth they will give you it goes by 20 keep adding 20 every year depreciation you will come to know about it but sometimes we have to calculate sometimes we have to calculate and you know how much will be the calculation depreciation will be calculated as previous year or opening fixed assets previously closing balance or opening fixed assets means previously closing balance into rate of depreciation opening fixed assets into rate of difference each okay then we need to calculate the capex increase I will would like to take one quick simple example uh please make sure you write in till here then I'll give a quick numerical example because we need to estimate capex we need to estimate uh depreciation and we need to estimate increase of working capital with that basic discussion before we can go for problems I do that until here foreign suppose sales in year zero is I'll take same example let's say or 2 lakh fixed assets is forty thousands and sales growth let's say 20 percent a rate of depreciation let's say 10 percent so how do you calculate here let us do for one or two years year One what will be sales 2 lakh growing at two percent two lakh into one plus point two that is uh two lakh forty thousand rights year 2 2 lakh forty thousand into one plus point two one point two you're multiplying one plus point two growing uh like I do for uh one more year maybe how much you get to 88 thousands one more year you tell me year three same growth rate 3 or 45 600. okay fixed assets how much will be fixed as a percentage of sales as I told you forty thousands divided by 2 lakh in hundreds twenty percent okay easy to calculate okay results happen to be twenty percent no problem so fixed assets will be how much 2 lakh forty thousand into twenty percent two lakh forty thousand sales into twenty percent forty eight thousands fixed assets then the next year two lakh eighty eight thousand into twenty percent because the fixed assets is forty at forty percent of sales so twenty percent of sales 5700 year three uh three lakh 45 600 into 20 percent 69 120. okay now can you tell me what will be the depreciation for first year rate of depreciation I told you 10 percent please calculate and tell me how much will be depreciation for first year how much will be depressed in first year it is not 4 800. why this is closing balance fixed assets closing balance my dear friends I want depreciation for the year that's why I clearly told you well calculating it is opening a fixed asset into rate of depreciation so what is the opening value fixed assets year zero value fixed assets was forty thousands on that you apply rate of depreciation ten percent that becomes four thousands are you getting it now can you tell me for next year how much it will be for year two on four thousand eight hundred ten percent that is 4848 000 ten percent four thousand eight hundred previous year closing balance current year opening balance then similarly fifty Seven six hundred into ten percent and that is five seven six zero I hope you got the clarity here depreciation what common people mistake people do we should take the previous year amount okay what is more important is how much is purchase of extra set this is the capital expenditure can you tell me how much is the particular fixed assets that means what I'm asking you is opening balance of fixes was forty thousands closing balance is forty eight thousand so in first year opening balance 40 000 closing balance became 48 000 so what should have been the purchase 40 becoming 48 you tell eight thousands but there is also depreciation element to be considered that is what I wanted to discuss with you now you tell me depreciation you add you subtract or you ignore depreciation is added subtracted or ignored okay I'll do one thing I will prepare one simple fixed assets okay first here I'll prepare lecture fixed assets opening balance you know two balance brought down opening balance is forty thousands closing balance by balance carried down balance at the end of the year is forty eight thousands depreciation for the era can you tell me where do I write by depreciation or to depreciation in fixed assets account I Hope You Know This Much Accounts at least where do I write depreciation in the correct side or debit Side by depreciation right credit side so depreciation I write on the credit Side by depreciation and that is four thousands now balancing figure is my purchase correct how much is balancing figure my purchase 48 plus 4 minus 40 that is twelve thousand that is my purchase now you tell me if I am doing the calculation 48 000 minus 40 000 if I am doing the calculation closing balance minus opening balance will I add depreciation or will I subtract depreciation 48 minus 40 that is 8 000 you know the answer should be 12 000 so obviously we have to add four thousands so the formula if you want to write purchase a fixed as it says closing balance minus opening balance plus depreciation that will give you 48 000 disclosing balance minus 40 000 is opening balance plus depreciation for the year four thousand and that's our first year you get purchase of fixed assets twelve thousands similarly second year will be uh closing balance 57 600 minus opening balance 48 000 plus secondary depreciation four thousand eight hundred uh can you tell me how much will be secondary value will be you can tell me uh closing balance is a 57 600. minus the previous year opening balance previously closing balance is 48 000 plus depreciation four thousand eight hundred fifty Seven six hundred minus forty eight thousand plus four thousand eight hundred thirteen thousand four hundred right second year fourteen thousand four hundred okay here also I would like to tell two beautiful points you can do similarly for third year why should I depreciation to be added logically I understood accounting wise and mathematically logically I'll tell you closing balance of 48 000 is after charging depreciation because closing balance means after charging current year depreciation charging means water after subtracting that is what opening balance 40 closing balance 48 000 there is an increase of 8 000 after subtracting four thousand because closing balance is after charge and depreciation so there is an increase in spite of decrease of four thousand that means how much you should have purchased 12 000 should have purchased because four thousand went for depreciation net increase eight thousand did you get the logical aspect there is an increase in fixed asset by eight thousand in spite of depreciation having negative impact so how much you should have purchased 12 000 then four thousand men for depreciation so eight thousand is the net effect on the closing balance are you understanding why I'm adding because it was already subtracted hope you got the things conceptually right okay now one beautiful point I would like to tell if you follow this approach remember this approach plus depreciation minus capex how much is plus depreciation first year we calculated four thousand uh capex twelve thousands okay so depreciation four thousand I will be adding capex twelve thousand I'll be subtracting what is the net impact can you tell me net impacts I'll subtract 8 000 right I will subtract eight thousands okay second year what is the case second year uh depreciation four thousand eight hundred purchase 14 400 tell me the net amounts four thousand eight hundred I will add uh fourteen thousand four hundred I will subtract tell me the net amounts nine thousand six hundred okay nine thousand six hundred thank you now this net amount is nothing but change in fixture sets right what is fixture sets for 40 becoming 48. 40 becoming 48 8 000 is the net impact 48 becoming 57 600 9 times 600 is an 18 pack because fixed asset from opening balance to closing balance is the because of two reasons one is the purchase other is depreciation and everybody assume no sales so instead of taking depreciation separately and purchase separately I can take the net amount right net capex difference between opening balance closing balance gives you the same answer and that is why uh in some problems if you remember I told you while calculating free cash flow we understood this concept of net capex remember we have discussed this net capex capex minus depreciation this was the reason behind it anyway in the problems you will be able to understand better or let me just give you one last point after that we can go for problems okay so capex we understood how to calculate purchase of cap extenders to depreciation we calculated only thing is working capital this is also a percentage of sales calculate based on base year calculated from base year that is uh we can also do turnover method we don't follow turnover method we follow percentage method so working capital divided by sales into hundred working capital as a percentage of sales quarter percentage we get working capital as a percentage of sales so this percentage if I apply it on sales okay talking Capital this year next year sales into this percentage I get next year sales next year sales into percentage I get next year working capital so once I get every working capital the difference between two years will be my increase in working capital so that is not a problem uh difference between a working capital between two years you'll give me the percentage so this is the overall approach of hcfs fcfe calculation I'll give you one minute let me know if you have any doubt because after this we'll take a break and then will go for problems foreign foreign okay so come to this problem come to this problem calculate the value of Avenger limited from the following information Equity capital of the company 1200 crores profit of the company 300 crores par value of share 40 each ratio of the company 25 percent long run growth rate of the company eight percent beta 0.1 risk-free rate 8.7 Market return 10.3 change in working capital per share rupees 4 if Precision per share rupees 40. per share rupees 48. so what we have to calculate is value of Share value of share means value of equity we have to calculate uh we don't have to prepare income statement and all here because we don't have many years calculation so one year fcfp we calculate and fcfe by K minus G we can calculate okay let's calculate that okay first we'll calculate fcfp here f c f e write the formula first uh profit after tax minus if you take common we will we will have to take common in capex minus depreciation plus increase in working capital multiplied by Equity by Equity plus debt okay now here look at the information everything is per share basis working capital per share base is depreciation per share basis capital expenditure per share basis but profit is not given per share basis let's calculate One Note on that uh profit of the company 300 crores divided by number of shares or number of shares not given no problem Equity Capital given thousand two hundred crores value per share given 40 we can calculate number of shares please calculate thousand two hundred divided by 40 that will give you number of shares so 1200 by 40 I think you get 30. pro shares 30 crochet then what is profit per share nothing but eps profit per share uh profit of the company 300 crores divided by number of shares 30 get 10 Rupees per share basis 10 Rupees per share basis 10 Rupees so profit after tax everything per share basis 10 rupee minus capex per share given 48 depreciation per share given 40 working capital per share given uh four rupees into Equity by Q D plus Z we require equity ratio but what they have given that ratio 25 percent 0.25 debt ratio 0.25 we need equity ratio so I'll do 1 minus 0.25 because we need equity ratio equity ratio is 1 minus that ratio close the brackets so you get 10 minus 40 minus 48 8 plus 4 is 12. well into 1 minus 0.25 0.75 so 10 minus 9 this is equal to 1. okay fcfp uh we require fcfe by K minus D growth rate is given but we don't have information on cost of equity cost of equity not given so we'll calculate using capm cost of equity using eapm now as I told you only formula given you earlier I'll repeat the formula now also once more but details of logic and the interpretations we discuss in the portfolio chapter so RF Plus R A minus RF into beta so RF is risk-free rate given 8.7 plus RM minus RF Market return given 10.3 minus 8.7 multiplied by Beta 0.1 how much it comes to when you simplify then point three minus 8.7 0.1 plus 8.7 8.86 8.8 okay so we'll have to compute the value of uh per share I'll do it here the blanket blocking here value of share V 0 equals FC f e that's what we have used here fcfe is for the latest year to FCF is 0 into 1 plus G by a e minus G so FCF is 0 that is 1 into 1 plus G the growth rate eight percent point zero eight divided by a minus G that is uh 8.86 so 0.886.08 6 minus point zero so you get 125.58 uh why the debt ratio is 0.1 minus 0.5 no debt ratio is not 1 minus 0.5 date ratio is 0.25 we need equity ratio equity ratio is 1 minus debt ratio so 1 minus 0.25 we get 0.75 that ratio is not 1 minus 0.25 right ratio is 0.25 only we needed equity ratio how to interpret the value per share is it intensive value yes it is the it is intrinsic value intrinsic value the value per share according to this mod market price is always available and based on market price we can decide okay let's go further thank you okay hope you got this question a very nice problem the valuation of Hansel Limited has been done by investment analyst based on expected free cash flow of 54 lakhs for the following year and an expected growth rate of nine percent the analyst has estimated the hands are limited value to be thousand five thousand eight hundred like very nice they have given the value themselves free cash flow 54 lakhs growth rate nine percent estimated value of the form of The Entity what was on the 800 lakhs given what else we have to do then however he committed a mistake of using the book quality of debt and equity so he was supposed to use Market valued and Equity you know the ratio we have to use while Computing uh wscc weight average cost of capital preferably we go for market value if not available then we come to Book value between equity and debt for wage calculation but he has used book value book value of Weights employed by the analyst are not known but he has used it this can happen only in exam you don't know the book value weights but you have used it how is it possible it can happen in exam but you know that Hansel limited has a cost of equity 20 and post tax cost of debt 10 percent KD already given value of equity is Thrice the book value whereas market value of debt is nine tenth of its Book value what is the correct value of and sell Limited so this is a reverse calculation that we have to do okay so what is given let's write down free cash flow fcff this is value of entity value of the firm so fcff 54 lakhs everything in lakhs so I will not write separately then the growth rate nine percent and value of the firm 1800 value of firm thousand eight hundred now existing wscc not given but what is used weights weights are given as Book value all right but what is required required is weights we should not use Book value we have to use market value and value of the firm what they have given we need the correct value we need the revised value they have used the book value of the weights they've used the cash flow and they have computed the value of the firm but we require if I change the weights what will be my new wacc WCC will change new wscc based on market value rates new and what is the value revised value based on that hope you understood the basic structure this is a reverse calculation problem from the given data compute the wscc which is based on the value of the firm now the book value then you revise it and you compute the revised value hope you're getting the point so let me use the formula once I'll write it so what is the value of the form I'll just write at the top once for your reference value of the firm I'll say B is free cash flow fcff one by KO wscc minus G both are same k o or wses foreign seconds foreign so let's calculate Now using that formula value of the form is given to be 1800s equals uh fcff 54 divided by k e minus J Co cost of capital minus growth rate 0.09 cross multiply uh k o minus 0.09 equals 54 divided by 1800 then 0.09 goes to right side k o equals 54 divided by 1800 Plus 0.09 so what is this 54 by 1800 plus 0.09 so 0.12 you get I think this is existing based on Book value I repeat this is wscc based on Book value weights based on Book value weights now we are going to calculate what is that book value weight we got 12 percent we got 1800 they have given but what is the book value weight let's calculate how do you calculate that's right the formula I'm sure you know it wacc or a KO both are same weight average cost of capital oral cost of capital is given by cost of equity into weight of equity Plus cost of debt into weight of data now KO is 12.12 so I'll take it as 12 percent cost of equity they have given how much cost of equity cost of equity is given as 20 percent so cost of equity 20 percent and cost of debts is given as uh 10 post tax cost of debt so directly given we can take directly a stem we don't require any into one minus t because they only set post tax so weight of equity I'll write w e please tell me weight of debt can I write it as 1 minus w e are you able to understand because wait total should add up to 100 if you express in percentage proportion we only have two things if weight is let's say 60 percent of equity debt has to be 40 so 1 minus I did hope you are able to follow it we have to simplify and see what is weight of equity weight of date otherwise you have to solve simultaneous equation at all this is sufficient so 12 equals 20 w e plus 10 into open the brackets 10 into 1 that is 10. minus 10 into w e that is 10 w e so 10 comes left side 12 minus 10 a 20 w e minus 10 w e that becomes 10 w e I think so that is 10 w e equals 2 so w e is 2 by 10 that is 0.2 or 20 percent please check the calculation so the numbers are fine thank you foreign foreign hope you got it things are fine so weight of equity is 0.2 so weight of debt is 1 minus of this 1 minus 0.2 which is 0.8 okay hope you got it this is the book value what we got now is Book value now we are going to change this weight into market value we get the revised debates and based on the revised weights we are going to do the revised value of the firm shall I go to next slide please confirm okay I'll go to next slide so revise the weights now revised weights equity and that Equity we got 20 percent point to twenty percent you can say and that we had got 0.8 which means eighty percent you can see and what is the market value they're telling value of equities thrives its Book value so it will be into three value of Market will be Equity will be threats 3 times 60 and that is nine tenths Book value so debt equals nine tenth nine by Tenth that is the 72 I think so that will be the new ratio new weights so the new weights are 60 by 60 plus 72 and here 72 by 60 plus 70. that will be the new weights considering the market value so device the wscc or cost of capital equals cost of equities uh 20 percent cost the weight of that 60 by 132 plus debt is 10 percent into 72 by 132. simplify and see how much you get 20 into 60 by 132 10 into 72 by 132. is it 14.55 something 14.545 round it of 14.55 14.55 so value of the firm revised value revise the value of form again same Formula fcff One by K O minus G f c f 1 that is same as previous 54. Kevo revised one fourteen point five five means point one four five five uh growth rate nine percent minus point zero nine 54 by 0.1455 minus point zero nine point zero five five five five points zero five five two point nine seven uh 0.1455 minus point zero nine point zero five five nine seven two point nine seven I think these are all blacks so ultimately you can present the answer in Blacks so this is one rectification problem it has not been asked in the exam many times but it's part of RTP MTP many times are you able to see the PPT something wrong with the system here is it fine PPT visible yes look very good uh any doubts any questions okay so hope you got this one good oops did you get the question next one following are the details available for X Limited sales cross merging accounting Administration distribution expenses profit before tax tax profit half attacks balance sheet information fixed assets current assets equity Centric craters total liabilities the companies contemplating for new sales strategy as follows sales to grow a 30 per year for next to four years asset turnover ratio net profit ratio tax rate will remain same depreciation will be 15 of the value of the Netflix assets at the beginning of the year required rate of return of the company is 15 evaluate the viability of the new strategy first of all I hope you got the question okay uh now first of all we have to calculate fcff or fcft that you have to keep it in mind of course format will be same if it is FeFe at the end we subtract the debt apart from that format will be same okay they are asking evaluate the new strategy now you tell me are we thinking from the business point of view or the owner point of view new strategy now does it matter whether you take debt or Equity the strategy is not capital structure strategy means maybe marketing strategy maybe uh some uh say advertising strategy so this is from the point of view of business should you accept a strategy or not whether you fund this strategy by debtor Equity that becomes your capital structure decision that is from owner point of view so when they tell you strategy it is fcff business point of view asset point of view firm point of view so we have to calculate FCF so we have to calculate year one year to year three uh for next four years so how do we follow it 10 seconds so tell me what will be our columns from when the cash flow getting stabilized from when the growth rate will get stabilized sales will grow at 30 percent for next four years what about 50 year olds no growth so you will have cash flow for four years growing at sales four percent fifth year onwards cash flow will stabilize I mean cash flow will become constant so you will have how many columns year one year to year three year four because four years growth will happen at 30 percent year five onwards growth rate will stabilize so we can apply from year 5 onwards okay so we will have year one year two year year four then year five call sales will be given margin and all is there that's it ratio remains same we can estimate easily but we need a working note working node for three things fixed assets working out for depreciation working not for working capital so let's do that working uh notes first and then we can go for the calculations just one second thank you just give me one seconds okay so one small point with respect to our observation you see fixed assets ten thousand current assets six thousand Equity fifteen thousands is your balance okay and uh okay great does one thousand okay fine now it is tallied 15 plus 116 10 plus is 16 okay the company does not have any debt so in a way that is good everything is equity only so we should look at the these calculations in fact what institute has done they have prepared the balance sheet for full five years they prepared how much fixed errors current assets as a percentage they have taken but we need not worry about it we need only three things depreciation fixed assets and uh increase in working capital so let's focus only on that so let's do some working notes and then we'll go for the the words cash flow projection okay so let's work on working nodes okay so first will be sales you can do base here base here is only for information not for calculation then we will do year one year two year three year four year five onwards oops okay so base here sales how much is basic sales uh forty thousands and this will grow by 30 so into 1.3 I came to into one plus point three thirty percent so forty thousand into 1.3 fifty two thousands into 1.3 every year same thing 67 600 87 880 1 lakh 14 244. uh last year there is no change in growth sales it will be online 14 to 44 only uh sales we have done let's use fixed assets so what is the fixed assets base here they said fixed assets ten thousands so what is the percentage of sales if I take it 66 percentage of sales or ten thousand by forty thousands in 200 if you want expressing percentage twenty five percent so apply the 25 percent on every amount 52 000 into 25 percent thirteen thousands sixty seven six hundred into twenty five percent sixty nine hundred eighty seven eight eighty into twenty five percent twenty one nine seventy one lakh fourteen two forty four into twenty five percent Twenty Eight Five Sixty one please confirm if these numbers are fine foreign at the rate of what is depreciation rate 15 at the beginning of the year so thirteen thousand not ten thirty thousand ten thousand on the previously closing balance currently opening balance so I think ten thousand into ten percent thousand five hundred thirteen thousand into fifteen percent thousand nine fifty sixty nine hundred into fifteen percent two five three five 25 61 21 970 into 15 percent three two nine five let's say three two nine six and next year also three two nine six purchase of fixed assets capex hope you know this calculation closing minus opening plus depreciation closing minus opening plus depreciation so for the first year I may be assuming the calculation closing fixed assets 13 000 opening fixed assets ten thousand plus depreciation 1500. 30 000 minus ten thousand plus thousand five hundred four thousand five hundred sixty nine hundred minus thirteen thousand plus one nine five zero five eight five zero 21 970 minus uh 2170 minus 6900 plus 2535 7605 28 561 plus three two nine six minus twenty one nine seventy nine eight eight seven Twenty Eight Five Sixty one plus three two nine six minus Twenty Eight Five Sixty one three two twenty six uh growth of fixed assets will be thirty percent or twenty five percent we are not calculating growth of fixed assets we are calculating fixed assets as a percentage of sales 50 40 000 fixed assets ten thousand so we got the number as ten thousand by forty thousand twenty five percent and twenty five percent means if I sales is hundred fixtures is 25 I'm not calculating the growth of fixed assets sales 52 000 25 percent of that becomes my closing balance of fixed assets my sales is citizen 500 25 of that becomes 16 900. did you get the point we are not calculating the growth of fixed assets we are calculating the fixed assets at a point in time based on sale sales is the primary factor everything else is computed based on that only sales growth we are calculating no other growth only sales growth okay so these are the numbers please confirm if you are getting it right depreciation thousand five hundred thousand nine fifty two three five five three two nine six or last year depreciation different is it sorry on Twenty Eight Five Sixty one Twenty Eight Five Sixty one into fifteen percent or four two eight four you get sorry differentiation you get four to eight four then this also is four two eight four sorry lastly depreciation I did wrongly is corrected foreign okay so what we wanted depreciation that we got it uh what we wanted capex that is purchase of fixed assets also we got it one more thing we require and that is uh working capital so let's Calculate working capital current assets minus current liabilities first base here how much is working capital base here Uh current asset minus current liabilities are current assets we got 6000 current liability is great as we got one thousands so six thousand minus one thousand that is five thousands working capital this also we follow same process turnover ratio method percentage of sales plugging Capital five thousand sales forty thousand so five thousand by forty thousand percentage terms I think you get twelve point five percent and if you closely observe and it will calculate then I'll tell you how you can do mathematically faster so what will be the working capital year one sales multiplied by 12.5 percent sales is fifty two thousands into twelve point five percent six thousand five hundred sixty seven six hundred into twelve point five percent eight four five zero similarly ten thousand nine eighty five similarly fourteen thousand two eighty one fourteen thousand two India one small observation if you do you can check it out uh fixed assets percentage of sales was 25 percent working capital sales as a percentage is 12 and a half percent so basically half 25 half so you can do direct calculation thirteen thousand half six thousand five hundred six three sixty nine hundred of eight four five zero twenty one nine seventy half ten thousand nine eighty five like that the fixed assets divided by two you can do working capital anyway that's only a mathematical portion but what you're calculating is this sales multiplied by this percentage you get fixed assets similarly sales multiplied by this percentage you get uh working capital but we need increase in working capital so let me find out the difference increase in working capital difference closing minus opening 6500 minus 5000 like that 1500 then difference eight four five zero minus six thousand five hundred one nine five zero ten thousand nine eighty five minus eight four five zero two five three five 14 to 81 minus 10 985 3296 last year zero one four two eight one okay okay shall we go for it next so you go for evaluation please confirm it's okay let's go for that oh for first four years depreciation and increase in working capitals are same uh okay that is only because of mathematical reasons there is no specific thing so when you calculate mathematically uh 25 percent of 15 I mean I think mathematically come to that number maybe when you calculate let me see mathematically will work out uh 25 of fixed assets 0.15 3.75 okay that is because of the percentage so if you mathematically if you see uh fixed us is 25 percent depreciation 15 so 25 percent if you take 15 mathematically 25 into 15 you get 3.75 and working capital is growing at 30 percent and it is 12.5 if we calculate 12.5 into 30.3 you get 3.75 so percentage rate it comes so mathematical reason uh you don't have to apply anything beyond that okay okay I'll go further let's go for uh evaluation of strategy foreign let's do valuation first I don't have to do base here I can directly start from year one year to year three year four year five onwards let's start with income statement first sales we already calculated so I can make use of that fifty two thousand sixty seven six hundreds 87 880 1 lakh 14 to 44. come on Force okay okay so sales we have done less expenses let me go back so expenses so should I calculate depreciation separately should I subtract the person separately you can see the statement they're not subtracted the depression separately so we assume this in gross margin or in accounting Administration cost uh everything is already accounted so let me directly take uh profit before tax six thousand of forty thousand so what is the percentage coming to or you can even take profit after tax because tax rate also remaining same okay so let me say profit before tax uh six thousand out of forty thousand I can do profit before tax or after tax also directly I can do because percent is same so six thousand uh is profit before tax out of forty thousand or profit after tax also I came to six thousand two hundred out of forty thousand uh which one shall we do do you want to do profit before tax and then come to profit after tax or directly we'll go for uh profit after tax because the tax rate remaining same so we can do directly but anyway I think let me do either way it works let's directly do profit after tax because they said net profit ratio and tax rate will remain same so let's go for direct ratio then uh in working notes please add that also so that it will be useful now so net profit ratio 4200 is the net profit divided by sales forty thousands how much you get 10.5 percent okay uh if you want you can do one more line before tax you write one line if that's one more line you can do that is one minus t if you multiply you get after tax same ratio so I can do directly the exam also you can do it no problem so sales we have so I'll go for profit after tax I'll leave one like if you want you people you can write it you can also write cost of expenses admin expenses detailed statement you can write but anyway ratio remaining same from example point of view we can do directly practically the ratio will not remain same the amount will change I mean different components will have different ratios anyway so let's take 10.5 percent 52 000 into 10.5 percent five four six zero 67 600 into 10.5 so 098 87 880 into 10.5 9227 is also 11996 so 52 000 into 10.5 percent you get five four six zero sixty seven six hundred into ten point five percent you get seven zero nine eight eighty seven eight eight to ten five percent nine two two seven one lakh 14 244 into 10.5 percent eleven thousand nine Ninety Six foreign so we don't stop it profit after tax we have to do three adjustments actually it's notepad to be specific but in this problem no interest so both are same so then we'll write uh add depreciation then less purchase a fixed asset that is capex then we have increase in working capital we have done the working note already so we can make use of that depreciation 1500 1950 2535-3296 4284 capex thank you 4500 5850 7605-987 -4284 increase working capital 1500 1950 now last year zero is it 1500 2535 okay so depreciation to be added uh capex and all to be subtracted increase working capital also to be subtracted foreign so what we get is now fcfx or fcfe both are same in this problem because we don't have any uh uh interest no data so five four six zero plus thousand five hundred minus 4500 minus 1500 960. 7098 plus 1950 minus five eight five zero minus one nine five zero 0.248 9227 plus 2535 minus sign six zero five minus two five three five one six two two eleven nine ninety six plus three two nine six minus nine eight eight seven minus three two nine six two one zero nine eleven thousand nine ninety six plus four two eight four minus four two eight four that's okay eleven nine Ninety Six so nine sixty one two four eight one six two two two two one zero nine eleven thousand nine Ninety Six okay one small observation my dear friends in last year depreciation and capex both are same can you understand logically what could be the reason you write down till you're think for two minutes and see if you can answer that foreign no capital expenditure there is capital expenditure now 4284 is capital expenditure why Capital explanation deposition both are same correct sales has not increased but fix it as the ratio should be same try to understand we have sales okay and we have fixed assets now sales has not increased sales is constant but we want to make sure the asset ratio remains same asset ratio means between sales and assets between sales and assets the ratio we want to keep it safe so fixes also should be remaining same but fixtures it will not remain same when it will not remain same fixes keep reducing every year because of depreciation but fixed assets should remain same but it will reduce how do we set it right how much our depreciation how much our fixtures comes down because of depreciation we have to increase so that fixed asset remains same if fixture sets remains same sales will remain same if fixtures and sales remain same the reason I mean the impact is whatever decrease in fixed assets due to depreciation you have to increase it by purchasing it so when the sales is constants fixed assets also to remain constant if you want to make this happen then amount of your depreciation should be compensated by amount of capital expenditure it's a very important thing I'll use it in the later part of the problem I'll tell you I'm using it okay so let's go further so free cash node to form your got we have to discount it before discounting I should do one more calculation can you think what could be that before discounting year 5 onwards remember one two three four is correct but here if I onwards is not one year cash flow we have to bring all the cash flows into one place so what I'm going to do we are going to calculate terminal value so this is cash flow of year five cash flow of year five eleven nine ninety six divided by K minus G what is cost of capital required rate of return so 0.15 minus no growth rate so point zero zero no growth rate zero so this is which terminal value we get this is cf5 divided by ke minus G there'll always be one term less cash of here for means this will become TV Force this will become tv4 CFI K minus g t b four okay now we can apply discounting factors at the rate of 15 percent uh have they given the discounting rate or should we calculate foreign let's take let's take four decimals that's what we do actually Institute mostly take three decimals I don't know why but anyway I will take four decimals question does not specify uh we can take any number of decides okay so 1 by 1.15 0.8696 0.7561 .6576 .5717 8 also we can do y717518 and last year what do we do again 0.5718 because plus two cash flows will have same discounting factor terminal value at the end of year four so discounting Factor we are for applicable so DCF discount cash flow basically present value 916 to 0.8696 834.82 left I'll take two decimals uh one two four eight into point seven five six one 943 points six two one six two two into point six five seven six one zero six six point six three two one zero nine into point five seven one eight one two zero five point nine three uh one one nine nine six into point five seven one eight six eight five nine point three one so value of the form if strategy is followed total you can do total percent one keep thirty four point eight two nine four three point six two one zero six six point six three one two zero five point nine three six eight five nine point three one something wrong what is the wrong thing 11 996 by 0.15 oh seventy nine seven nine seventy three sorry for that I wrote wrongly sorry that's not six three four nine I wrote wrongly by mistake uh so when you calculate 11 996 by I think I wrote 1916 11986 by 0.15 terminal value is wrong in my case 79 973 please change it terminal value is oh that are not calculated the terminal value not 1196 I have not captured that number 79973 that you multiplied by 0.5718 45 728.56 45 728.56 I think 49 something you get 49 779 780 electron date of forty nine seven eight 49 78 . okay now should we the decision making ultimately should the strategy be followed or not followed you should not give judgment only on this because this is if the value if the strategy is followed you get 49 780 as the rupees but what if strategy not followed that also we should keep it in mind if strategy is not followed then also you get some income right you can't say you don't get you don't get any income then also we need to calculate if strategy is not followed if strategy not followed no growth so straight away I can use a Perpetual growth formula CF by K minus G let me do that value of if strategy is not fault if value of the strategy not followed so what do you think will be the cash flow we need cash flow by data what do you think will be the cash flow if there is strategy not followed what do you think will be the cash flow of the firm if strategy not followed can I say observe carefully my dear friends can I say if the strategy is not followed your net profit will be always 4200 because sales is not growing ratio of expense remains same tax rate remains same sales is not growing so profit also will not grow profit will be fixed at 4200 profit will be fixed at 4200. can I say cash flow also four thousand two hundred or should I add depreciation for this what do you think if strategy is not followed net profit will remain same no doubt about it so should I take this net profit itself as cash flow or should I add depreciation for this to convert from profit after tax into cash flow what is your opinion we are talking about cash flow should I add depreciation that is my question this is profit after tax should I add depreciation to get the cash flow okay even if you add depreciation I will subtract one more thing what is that capex one point I just told you my dearly friends I know you blame first in first out I just told you when the sale stops when the sales growth stops the sales and fixed assets ratio to be maintained but fixtures will come down because of depreciation so we have to purchase fixed asset to maintain fixed assets so when there is no growth decrease that is depreciation and capex will be equal so when there is no new sales strategy which means uh there is no growth in sales so capex addition depreciation depreciation addition and capital subtraction will compensate each other will offset by each other so no need to calculate we can simply take directly net profit itself as cash flow so 4200 no growth rate so 0.15 minus point zero no growth rate zero that itself is the value of the firm if the strategy is not followed no need to add depreciation because you add depreciation you subtract capex which will be equal so Darkly you can take profit of tax by 0.15 you get 28 thousands so value of the firm is more when the strategy is there so we can also say incremental value if strategy is followed sometimes the exam they can ask you incremental value difference 49 780 minus 28 000. additional benefit you get 21 780 so you can say it is recommended to follow or to adopt the new strategy it is recommended to adopt the new strategy foreign shall I go further good evening is it completed this was a cash flow by K minus D no growth so I've taken 0 K minus G Cash Flow by K minus G okay hope it is done good moving on with respect to the valiation a broad validation we have done various kinds of valuation even dividend based valuation minute concepts are there which can still be asked in examination because I told you valuation has got different faces so value added few methods are there one is called as economic value added which is the most important one then we have market value added then we have shareholders value added will understand one by one first we'll go for economic value addeds what is this economic value added e v a it is like difference between uh accounting profit and economic profit what is the difference between accounting profit and economic profit imputed cost that is the opportunity cost accounting profit does not take opportunity cost into consideration whereas the economic profit will take that also into consideration to give you a simple example suppose you do a business let's say you in a restaurant business you're an international business and you make a profit of ten thousands you make a profit of ten thousand and you yourself uh in a restaurant business you make a profit of 10 000 and you work yourself as a cashier come manager so that you don't pay to anybody else you work as cashier your cash manager and your hotel makes a profit of ten thousands you sell this business to somebody somebody acquires your restaurant business but somebody is a multinational company so they appoint a cashier because you no longer will be there and they appoint manager because you no longer will be there but somebody should do those work so in this case can you tell me will the 10 000 amount of profit remain same or not remaining same other things are equal no other changes are there all the operations are assumed to be same do you think the profit of 10 000 will still be earned or profit or ten thousand will come down what do you think it will definitely come down right because this profit is before considering cashier salary before considering manager salary so now this 10 000 profit you compute from investor point of view personal point of view but had you compute from The Entity point of view even the cashier of Personality cost somebody else would have been worked you would have considered that as cost manager somebody else would have been worked that would have been considered as cost so economic profit will consider this imputed cost of opportunity cost also into consideration one more example I'll give you if you invest in fixed deposit let's say you had one lakh you invest in pixel deposit let's say you invest in the 50 one lakh you would have got interest of let's say five thousands instead you invested in let's say mutual funds now minimum 5000 you have to receive let's say you received six thousands so what is the extra profit you got what is the profit which is attributable to mutual funds alone which is one thousand hope you're able to get the point what you are trying to do here yes that is what is economic value added anyway I'll explain you I just gave you the concept of opportunity cost is also relevant not for the accounting purpose but for the pure investor purpose for the business purpose for the entity purpose okay I'll give you simple examples you go to office at n30 do you think it is late or it is early anyway no need to answer some people say late some people say early it all depends on how you [Music] manage the expectation what do you mean by that every day you go at 10 o'clock one day you go at 9 30 your boss will ask you hey 10 30 why 8. every day you go at 11 o'clock one day you go 10 30 same boss will ask you 10 30 why so early so it's all about managing somebody else's expectation if somebody asks you what is the definition of Happiness what is the uh equation of happiness I know the definition of Happiness of CA students is the balance sheet getting tally but uh real uh meaning or if I have to put a mathematical equation to a happiness for me it is the difference between what you get and what you expect a person a student who scores 70 marks may be happier if he was expecting 60 marks may not be happier he was expecting 80 marks it's all about the difference between what you expect and what you get so either work on getting more or expect less you'll always be uh I don't think it's a philosophy and all but it's my job to tell you one or two sentences want to take it otherwise you leave it so life is not about comparisons at all the more you compare the more expectations you build and you will feel more unhappy always focus on yourself some person was very unhappy because he was not having shoes to play maybe to play football and some other person was not happy because he was not having the leg tall so different people will have different benchmarks don't compare your life with other life it's not going to be worth it at all anyway so simple definition of happiness is difference between what you expect and what do you get maybe in a standard costing uh costing analogy we can also say standard costing difference between standard cost and actual cost that is your variant anyway let's come down to the main formula here the difference between actual profit and expected profit now as an investor shareholder or an investor would have or any person would have started the business taking some amount of risk I want so much of return or I think so much of risk for this risk I need to get that return if I am able to get more than that return that is what is economic value added is all about I just give you one more simple example I forgot to give earlier I'll just give it to you how the expectation works and how the disappointment also works uh as you know I'm a rank holder and all the three levels in one of the functions my relatives asked me uh you got uh all India uh rank which rank you got I told I got 39th rank in Final you got 39th rank in final okay very good it's all India yeah it's all India only so how much percentage you got I told 59 percent they'll be like a second class ah so you understand right people's expectations are different so you don't try to meet everybody's expectations you can't do that you always focus on what you need to do you can't explain how CA how 50 marks and not people reaching hundreds and show their bats in crickets here after reaching 40 only we want to show our face to entire world I mean our life is different so don't really bother about what relative says what friend says you are in a difficult situation I completely understand at this stage of your life especially CA file students doing articleship where you don't know whether your employee or you are a uh student your uh non-commer students friends your engineering students who are with you uh in the schools colleges and all I mean uh with the or your uh cousins relatives they would have got settled you're still struggling difficult life uh they were in a relationship you are doing CA they broke up you're doing CA they completed their studies you are doing CA they found one other person you are doing say they got married you are doing CA it happens everybody's life is like that don't think that only your life is like that in CA so as I told you if you want to become something different you should do something different by doing uh by doing what everybody does you can't expect what everybody is not getting you want to be special do something special okay anyway so enough of extra again let's come back to this uh so difference between a businessman an investor what he expects and what he gets that is what economic value added in a way you can remember it like a happiness how do you get actual profit no patch notepad we have discussed earlier net operating profit after tax how do we get net operating profit after tax that is ebit into 1 minus t that is if interest was not there if the debt was not considered as a outsider's funds that is also a part of the entity Equity also part of the entity meaning the interest part is not considered as expense instead interest and dividend are considered as appropriation that is as if if debt is not there or other way of understanding if debt is converted into equity what would be the value of the business value of the entity value of the firm and expected profit how do we calculate on the amount of capital employed how much the cost the risk is involved that is called as the wacc weighted average cost of capital wacc weighted average cost of capital on the amount of capital employed amount invested in the business how much uh return you expect considering the risk involved and various types of uh once you have borrowed like cost of equity cost of debt cost of preference share cost of banking loan Etc so the on the amount invested how much return you expect is expected profit calculated by Capital employed into wses notepad is calculated by ebit into one minus t it can also be calculated as Pat plus interest into 1 minus t what is this logic we are calculating the profit purely operating profit we don't want Financial expenses that's why from operating profit only we multiplied by 1 minus t that is one method another method okay we computed profit after tax which means interest is already subtracted now I will add back not only I'll add back just the interest for computing the coverage ratios and all I just started the interest but here I will do into 1 minus t also because when I computed path as subtracted interest even I have considered the tax benefit on interest now if the interest no longer there then you will not have that tax benefit also you have to remove it I'll explain you other way around you will understand better I'm sure currently you are having interest expense suppose if loan becomes equity debt is no longer there will you pay interest will you have that expense obviously no so when you don't have interest your profit will increase you save interest expense so you add interest but when profit increases will the government keep quiet they say please pay tax please pay tax so your profit increases by interest and on that you pay tax to that extent your profit will in simple words how do we calculate income to income after tax we multiply it by 1 minus t profit before tax into one minus t is profit after tax to interest to that extent your profit will increase then we multiplied by 1 minus t both way you get the same answer but sometimes sometimes Institute does not do this 1 minus t sometimes they do uh that is alternative points of view so when you do 1 minus t uh you are not taking away the tax element so you're not interpreting the debt is not there you are just interpreting what is my profit before interest but tax benefit I will take but I want the profit before interest like the way you do in cash flow statement what you do in cash flow statement profit after tax a profit uh as per p and the account add interest then minus interest you do it in investing activities or financing activities I'm sorry so when you take cash flow into consideration you add only interest you don't do one minus t so when you do cash flow from operating activities cash flow impact you add back interest because it's a non uh operating expense it's a financial cost in financing activities you subtract but we are considering operating profit so there is a difference of opinion here some people believe plus interest into one minus t should be done because that is purely considering that debt is not there you do into one minus t some people believe cash flow approach if you follow cash flow approach one minus t will not come you can write that note somewhere if cash flow approach is followed cash flow approach is followed then 1 minus t does not apply if cash flow approach is followed one minus does not apply which method you follow is left to you I mostly follow this one only what I gave you but sometimes suppose you see Institute Solutions you should not get confused so I've given this for your clarification but majority we follow this formula only path plus interest into one minus okay now what is capital employed Equity plus debt Equity means share Capital plus results and surplus that is all your long term debt Long Term Loan will take into consideration debentures bonds Etc uh wacc means it is a combination of cost of debt and cost of equity cost of equity we do it using capm method cost of debt is the rate of interest into 1 minus t because rate of interest would be before tax we need after tax so we multiplied by 1 minus t so wscc will be calculated by cost of debt into weight of debt Plus cost of equity into bit of equity and the cost and the weight elements or if they give you data amount you separately Equity amount separately we can calculate but suppose if they give you in the ratio format they equity ratio you know how to do it debt by debt plus Equity Equity by Equity plus debts or if they give you debt ratio you can use directly for weight of debt equity ratio directly for weight of equity difference between debt ratio debt equity ratio I hope you are clear we have already discussed it earlier okay so I hope you are clear on this economic value added any doubts my dear friends in this regard any doubts when we go further on this so please confirm will you go further any doubts okay thanks thank you okay uh economic value added we have done two more things are there one is called as uh market value added and the other is shareholders value added uh very rarely asked but still can be asked for four months or something let's do it was more of a financial reporting than the old syllabus now they have pushing to the new syllabus in the sfm market value added MBA this is the difference between market value of the firm at The Entity minus Book value of The Firm so for means one and all we take into consideration market value of equity plus market value of debts plus I mean market value of debentures if a bank loan and all is there Book value only will come market value of reference shares references minus their Book value that is Book value of Equity equality of equity means what we get equity share Capital plus preferential Capital plus reserves and surplus because Book value of equity means equity share Capital will come reserves and surplus will come plus any book value of debt we have like debenture bank loan Etc market value of the firm minus Book value of the firm shareholders value added means as the name suggests shareholders value and here we only talk about Equity shareholders so when we say shareholders so it is market value of equity minus Book value of equity so market value of equity how do we calculate is like market cap they call it as market cap anyway so market price per share into number of yes uh debt is included why that is included is part of the book value of the firm when I say firm Capital employed it's part of the Forum firm is debt plus Equity long-term investors uh debt is include in books yes debt well Book value debentures bank loan Book value is all part of the books so market value of equity is market price per share it to number of shares minus Book value of equity means we get equity share Capital plus results and surplus anyway just the difference between basically what you are showing in your books and what you are showing uh what what is the market value of it the difference the excess is what is called as the shareholders value addits okay these are the basics let's take up some problems based on this just one second just give me one minute system is uh taking some time just give me one minutes okay foreign a problem on Eva economic value added herbal's world is a small but profitable producer of beauty cosmetics using plant aloe vera story and all they'll give you though this is not a high-tech business yet herbal's earnings are averaged around 18.5 lakhs after tax mainly on the strength of its patent patented beauty cream to remove the pimples so it's not a technology business a high-tech business but they have some patents because of which they could achieve 18.5 lakhs profit after tax the patent has nine years to run and the herbal has been offered 50 lakhs for the patent rights herbal's assets include 50 lakhs of the property planned equipment and 25 laks of working capital however patent is not shown in the books of herbal World assuming herbal's cost of capital is 14 calculate economic value add its oops so much thing they have given only point of Distinction this problem is when you say Capital employed right what does Capital employed if I do liability method Equity plus state if I do assets method fixed assets plus current assets minus current liabilities both are same no basics balance sheets or we have share Capital reservation Surplus put together we call it as equity then we have long term debts which we call it as debt normally then we have current liability so Equity plus debt is what we call it as Capital employee or from the asset side fixed assets plus current assets minus current liabilities so fixed assets plus current assets minus current liabilities also will give me Capital employed or what is current assets minus current liabilities working capital so Capital right can be calculated as Equity plus debt one method or Capital employed can also be calculated as fixed assets plus current assets minus current liability nothing but working capital so asset method also you can calculate liability method also you can calculate in this problem we have assets information but one question is the patents they are not showing in the books of accounts you know accounting reasons Accounting Standards stipulations the patents are not shown in the books of accounts but it has got some market value that is the people are ready to pay 50 lakhs for the patent rights white is not shown in the books let's not worry about it don't ask me accounting standard questions they just told horrible however patent is not shown in the books of that's it but patents are the driving factor to generate profits the question is this should it be part of capital employed the answer is yes because when I say Capital employed we are not worried about what is shown in the books or not what is actually employed in the business and on that how much return we are supposed to generate if we generate more that means there is value addition so patents also should be part of capital employed so let's take fixed assets let's take current as a working capital and let's take patents fixed assets they said uh property and Equipment 50 lakhs okay let's say PP fixed assets rupees less working capital uh 25 lakhs and the patents 50 lakhs so Capital employed 125. so what is economic value added no but minus Capital employed into wses nopat is given 18.5 lakhs after tax revenue and profit after tax no other information it's no part only Capital employed 125 into 14 percent so much you get the 18.5 minus 17.5 so 18.5 we are getting uh 17.5 is what we are expecting from the capital employed so we are getting extra one lakh that extra one lakh is what is called as economic value added more than our expectation so if it is negative don't think it's a loss it just means our expectation is not met Eva positive means or expectation is exceeded EV are negative means expectation is not met foreign foreign you can come to the next problem you can come to the next problem ABC limited as divisions ABC this is an external problem next problem right okay ABC limited has division ABC the division C has recently reported on annual operating profit of 20 crores 20 lakhs recently annual operating profit we also want operating profit only this figure is arrived after charging three crores full cost of advertisement expenditure for launching a new product the benefits of this expenditure is expected to be lasted for three years now you know again as per Accounting Standards you would have taken to p l account Accounting Standards because advertisement expenditure are not any intangible assets but purely from benefit point of view from the accounting point of not from the economics point of view this has got a longer benefit cost of capital of the division C is 11 and cost of debt is eight percent net assets of divisions of C as per balance sheet is 60 crores but replacement cost of these asset is estimated to be 84 crores a replacement cost means market value you are required to compute Eva of division C very simple problem small small mistakes that people can do here okay first point should I take uh 60 crores or 84 crores as capital employed when I say Capital employed it's the value of money invested in the business so we take market value replacement cost so 84 crores now we are having some advertisement expenditure three crores and the benefit of this is three crores will be for lasted for a period of three years which means I know accounting wise you have taken full amount but if you purely want to take economic value of it how much is attributable to current year three crores is about three years that means currently should be only one crore so from economic angle two crore extra have been charged so I will add back to get the net operating profit again Eva is a judgmental stand a judgmental value we don't have any standards to calculate Eva so applying the logic we have to apply we have to calculate so three crores spread across three years one cross supposed to be the amount but three cross charged so extra two crores I will add back that will give me the profit for the year and one more Point cost of capital they said 11 so will I choose 11 percent to compute DBA or will I choose eight percent or will I take an average of these two What will what do you think I will do will I take 11 percent will I take eight percent or will I take average of these two what do we require for Eva we require wacc weighted average cost of capital so what should I do should I take 11 should I take a or should do average of 11 and 8. read the question carefully this is cost of capital eleven percent cost of capital they have not put the cost of equity they have not told the cost of debt they say cost of capital eleven percent cost of capital means wacc only overall cost of capital means we would average cost of capital so eleven percent given directly but you know in examination mindset what can happen cost of you read this is cost of equity because in earlier problems we have done like that cost of equity cost of debt and we mix both and we calculate Weight average cost of capital we have been used to that calculation so in the same mindset you go for examination Hall you don't read this ah cost of equity 11 cost debt eight now let's take a weight average of that I mean first of all weights is also given not given some people take simple average and do it but cost of capital itself means overall cost of capital wacc no need to do any further calculations so let's calculate this easy one so no pads is actually even though they have given uh 20.2 crores will add back to cruise that is uh three crores expense minus one crore that should be correctly amortized so extra two crores we are adding it back rupees crores foreign okay minus Capital employed into wacc Capital employed replacement cost we take 84 crores wsec 11 cost of capital given directly so 84 into 11 9.24 crores so difference is Evie that's all nothing else in the problem 12.96 foreign uh I hope this is the question you have calculate the economic value added with the help of the following information of hypothetical Limited financial leverage capital structure reserves and surplus debenture cost of equity income tax rate okay so what and all we required first of all we require no path eb80 into 1 minus t we don't have that information what information available we have financial leverage remember what's the formula for financial leverage ebit divided by EBT we don't have information on ebit we don't have information on EBT then how do we proceed can you think of something financial leverage formula e b a t by EBT that's why Basics are important but we don't have ebit information in the problem we don't have EBT information in the problem what do we do then EBT how do we calculate EBT is ebit minus interest we can Calculate 10 percent debentures on 400 lakhs so using the interest I'll be able to calculate ebit how look at this how financial leverage is ebit divided by e b i t b t and what is EBT will be calculated as ebit is nothing but uh ebit minus interest ebat foreign Financial average given 1.4 ebit we don't know for simplicity's sake I'll take it as X every time ebat repeating becomes confusing so ebat has X minus interest is 400 lakhs 10 percent that is 40 lakhs so let's cross multiply 1.4 into X 1.4 X 1.4 into 40 56 this x remains as it is X I'll bring it to left side so 1.4 x minus X equals minus 56 goes to right side becomes Plus 56. so 1.4 minus 1 means point four x is 56 so X is 56 divided by 0.4 0. and what is X we have taken eb8 ebat is one font foreign you can also calculate in one more manner uh that is cross multiplication method but that is possible only when you are very confident in Concepts let me explain what is financial leverage of 1.4 would mean if I take eb80 as 1.4 EBT is 1. then can you tell me what is the point for represents are you understanding ebit and we have EBT the ratio 1.4 means if eb80 is 1.4 for 1 rupee EBT what does the difference would represent obviously interests which is in ratio terms 0.4 and how much is the interest amounts 40 right so how much is the apat cross multiply 40 lakhs into 1.4 divided by 0.4 40 into 1.4 divided by 0.4 you get 140 directly you have got no need to do circus like this of course it requires your conceptual Clarity what does that ratio means and that's why I always say Don't just calculate the formula once you get the answer try to interpret anyway so let's calculate the formula Eva uh notepad we can calculate or we require cost of equity given we need couple of more things okay I think I'll have to go to next slide Maybe notepad means EBA to require that is fine Capital employed or debt plus Equity we can do I need cost of uh capital so cost of equity given to be 17.5 cost of debt not given rate of interest into 1 minus t rate of interest 10 percent into 1 minus t 1 minus 0.3 so that will give you 7. then what is the equity amount and what is the debt amount Equity amount Capital plus results and surplus 170 Plus 170. which is uh 300 and that amount is 400 I think 400. so what is cost of capital wscc or overall cost of capital weighted average so cost of equity is 17.5 multiplied by its weight which is 300 by Equity by Equity plus debt that is 300 plus 400 you can say Capital Empire at 700. plus debt 7 into 400 by 300 plus 400 that value is 400 so Capital employed 700. so what do you get 17.5 into 3 by 7 7 into 4 by 7. 11.5 okay so WS is 11.5 Capital employed anyway we know Equity plus debts that is 300 plus 400 700. just write down till here then I'll go to the next slide and calculate economic value added it's okay last line not visible not too right at the last I'll try my best but when I go further uh I'll have to write right I just Capital employed 300 plus 400 700 that's all what have written foreign okay so I'll go to the Eva calculation so Eva is notepad or notepad I have not calculated minus Capital employed into wses okay let me just calculate the notepad once no part is ebatv calculated uh 140 into 1 minus tax rate 0.3 98 so Eva is no part is 98 Capital employed 700 WCC 11.5 percent so 98 minus 80.5 so minus 98 17.5 this is also lacks across something relax okay so this means more than our expected a profit of 80.5 we got more we got extra 17.5 X the extra profit more than our expectation is represented in Eva foreign foreign foreign I'll go further foreign there are 10 000 shares outstanding the firm is planning to raise 20 lakhs to finance new project first of all I hope you got this question okay required what are the X right price of the shares and value of the right if the firm offers uh one right for every two share sale The Firm offers one right for every four share side how does shareholders wealth change from one to two how does right issue increase shareholders wealth okay uh we have to get an extra right price first we have to understand how many right Shares are offered the firm is trying to reach 20 lakhs uh what is the right issue price all right issue price not given okay uh the they're having uh okay they have two okay fine fine well let's calculate foreign offers writes one share for every two share cell so right the ratio can I say one is to two one is to 2. correct one is to two so number of shares issued underwrites issued as rights will be 1 is to 2 1 by 2 multiplied by 10 lakhs 1 by 2 multiplied by 10 lakhs so you are going to Issue 5 lakh shares but what is the issue price that they have not given we have to calculate so what is the amount required issue price issue price will be amount required divided by number of ships number of shares amount required is 20 lakhs divided by number of shares is 5 lakh I think 40 rupees per share so issue price 40 rupees issue price 40 rupees 40 or sorry four rupees sorry four rupees right sorry four rupees uh 20 lakh by five four rupees issue price you know the formula so let me do directly X right price uh directly I can go I don't or I should do you want total number of shares okay let me to total number of shares 10 lakh shares multiplied by 13 rupees plus 5 lakh shares multiplied by each issue price 4 rupees divided by total uh and letters five lakh or you can do ratio also ratios one is two two not two is two if you have two shares you get one share that is also fine so that is 130 plus 20 divided by 15. 10 Rupees X right price there was only extra price no value of the right end of okay X right price that's all this is ratio one is to 2. second if one is to 4 same method same process ratio 1 is to 4. number of shares foreign foreign fifty thousands which is 8 percent logically so you issue one is to two you issue more number of shares value per share will be less if you issue less number of shares you have to collect more money so you're raising file actions you're collecting four rupees now it is only 25000 shares you're collecting with less number of shares so value per share should be more the only same amount you can collect anyway that is mathematical part you leave it let's go for X right price that is uh 10 lakh into 13 that will remain same existing number of shares into a fair value before right then issued a 2.5 lakh shares multiplied by 8 rupees divided by 10 lakh plus 2.5 lakh shares so 130 plus 20 divided by 12.5 12 rupee per share so earlier we got 10 now we got 12. you show less number of shares so value per share is more thank you a dental here just please confirm shall I go further third part of the question okay uh how does shareholders wealth change from one to two and I mean how does uh right issue increase the shield as well they are not tasked under which scenario whether the person subscribes or does not subscribe or sell the rights we don't have to give all situations we can give under one situation obviously you know if you remains silent he will lose for sure so let's give it under one assumption impact on shareholders wealth assuming he subscribes to the rights assuming he subscribes three scenarios possible he subscribes selling the rights and the remains silent and that too we have two ratio so if it's three scenario two ratio totally six inertial will be there too much so in in the marks does not justify you don't have to write so much you can say one scenario and solve that assuming he subscribes and the how many shares they have not given uh for let's say 100 shares assuming he subscribes for present 100 shares present hundred shares so I'll just do in a columnar format the right issue 1 is to 2 right issue one is to 4. present Holdings uh he has hundred shares my assumption and issue price I mean before the shaper is 13 rupees so 1300 and here also 100 into 13 300. he subscribes two rights and how many rights he gets one by two so hundred shares into one by two means uh 50 shares multiplied by right issue price what is the right issue price uh four per share two hundred and in right tissue one is to four one by four hundred into one by four into one by four means 25 and what is the issue price I think eight rupees 200. so total he paid 1300 earlier he paid 200. 1500. okay so Holdings after the value of Holdings after right value of foldings after right is he will have how many shares 100 shares he had already he got uh 20 50 shares multiplied by X right price 10 Rupees so 1500 so impact zero and here uh you had 100 shares you got 25 shares and it is 12 rupees I think that is also 1500 125 into 12. yes so impact zero so any subscribes or when he sell his rights no impact anyway we've not shown all the situation uh one assumption is sufficient to describe if time permits you can also go for other scenarios I think we have some time so let me also show you other scenarios from exam point of view this one scenario is sufficient he subscribes to rights or anyway I think you can do it yourself uh you know how to do it uh one scenario is sufficient rest I leave it with you hope you are understood enough to try on your own okay hope you got about the right dish okay so hope you got this question uh let us read into it eager limited has a market capitalization of 1500 crores and the current market price of the share is rupees thousand five hundred it made a profit after tax of 200 crores and the board is considering proposal to buy back 20 percent of the shares at a premium of 10 percent to the current market price it plans to fund this through 16 of bank loan you're required to calculate the post buyback earnings per share and the company's corporate tax rate is 30 percent uh in some problems uh they will ask you how many she has to be brought back to maintain certain conditions but in this problem the data is clearly given uh profit after tax is there uh number of shares we can calculate foreign price per share so post back what will be the earnings per share just read the problem once more foreign so let's do one thing let's have one column for before buy back then we'll have one column for after buyback okay so we will write number of shares how many shares were there before buyback specifically they have not given but we can calculate market capitalization of 1500 crores and the current market price is rupees thousand five hundred so you can know number of shares because market cap is what number of shares into market price per share only so 1500 crores divided by 1500 means number of shares is one crops there is a number of shares we had got before bike and they have bought back how much percentage 20 percent of the shares so 20 percent of one crore that is 0.2 crores and 0.2 cross yes 20 lakhs so one crore minus 0.2 crores so after buyback I can tell number of shares is 0.8 crores 80 Mexicans that is number of shares situation now similarly what else we require for us to compute EPS EPS is profit after tax divided by number of shares the view and profit after tax of 200 crores but uh we have some adjustments what adjustments will the profit change yes sir profit will change what is the reason because you have taken a loan to do the buyback you have taken a loan for which you are going to pay interest now when there is interest you will have a impact on profit after tax so for that we need to know the amount of loan taken for that we know for which we need to know amount of buyback so what is the amount of buyback that is equal to the amount of loan obtains foreign shares that is what is 0.2 crores you know number of shares and at the premium of 10 so 10500 is the share price at a premium of 10 percent so it is going to be 0.2 crochets number of shares into 1500 plus 10 percent I think 1650 I believe uh thousand five ten percent means 150 so 0.2 crores into 2650 330 crores okay this is the amount of buyback but what is the impact the impact is interest so if I say okay interest let me calculate or let me just say profit after tax what is profit after tax before buyback it was 200 crores now because of buyback you will have a interest payment so how much is going to be the interest payments on 330 crores multiplied by rate of interest 16 percent but one thing I would like to tell interest always comes before tax right so what we should do here if we want to know the impact on profits we should take after tax so multiplied by 1 minus tax rate 1 minus 0.3 this is going to be the interest expense after considering the impact of tax so 330 into 0.16 into 0.7 36.96 36.96 of course cross so if you subtract from 200 you get 163.04 there is one more way also you can ascertain what you can do uh profit after tax is there we have tax rate uh make a test profit before tax how do you make it profit before tax you divide this number by 1 minus t to make it into after tax we multiplied by 1 minus t to make it into before tax we will divide by 1 minus t then you subtract interest then again you multiplied by after tax that is you multiplied by 1 minus t or you subtract tax 30 percent on that effectively you will get the same profit after tax so from profit after tax make it to before tax at just interest expense then come back to profit after tax you'll get the same exact number you can try it out okay what is EPS is what they asked uh they asked only after buyback let me calculate before buyback also just for reference so we have a profit of 200 crores number of shares as one crores so 200 crores divided by one crore which is 200 per share and after buyback uh profit after tax of 163.04 number of shares of 0.8 crores so 163 .04 by 0.8 203.8 2 0 3.8 okay sometimes they can ask one more question they can also ask estimate market price per share after buyback so what will be the process then we follow based on p ratio approach so before buyback what is the PE ratio before buyback the p ratio is MPS by EPS that is uh market price per share is thousand five hundreds and EPS is 200. so 1500 by 200 which is 7.5 and assuming the p ratio remaining same if you assume ratio remaining same assume p remaining same ratio if I apply I know the EPS 2 0 3.8 so what will be the market price per share 203.8 multiplied by 7.5 so one five two eight point five so basically when uh buyback happened earnings per share increased this is one of the reasons why even in Practical life whenever there is an announcement buyback it's a good time to buy the shares of course only for short-term periods anyway so this part they are not asking the problem but I'm just telling you in case in some problem if they ask we have to follow the process like this okay so please write it down and let me know if you have any doubts foreign is done I'll go further hope you got this question an exam question interlimited promoted by transnational company is listed on stock exchange the value of the floating stock is 45 crores the market price per share is 150 capitalization rate 20 capitalization rate means cost of capital the promoter holding is to be restricted to 75 percent as per the Norms of listing requirement the board of directors have decided to fall in line to restrict the promoters holding to 75 percent by issuing bonus shares to minority shareholders while maintaining the same p e ratio you require to calculate bonus shares market price per share after issue of bonus shares three fruit market capitalization after the issue of bonus shares so what is the requirement of this uh status or this law let me tell you quickly the promoters holding should not be more than 25 percent in a listed company that means at least 25 percent at least 25 percent should be held by uh public that what is held by public is called as you can say floating stock or you can say the free float because what is held by promoter is not traded what is held by non-promoters held by public that is only available for everyday trading purpose therefore the Savior requirements is promoters holding should be restricted to 75 percent but what is the current holding uh the value of floating stock is 45 crores the market price per share is 150 crores uh they're not specified if the existing the foreign value of the floating stock is 45 crores Market capitalized market price per share 150 crores okay now the question I think question is are not specified I think right I think questions are not specified where is it given in 80 percent okay okay I think in in this question I think I've not included okay fine I think here in this question I have not specified uh foreign huh it is no no so it is missed in the question so you have to add it so actually it's missed in the exam question also but because without existing percentage we cannot solve the problem we should know how we should know existing percentage to reduce it to a certain percentage so let's do one thing for the question let's make that change uh promote the tax company let's just say holding eighty percent so you can just add this uh number holding 80 percent because even in the I think exam solution they assume something you can assume uh 90 also in the exam if they're not specified but without assuming something uh we cannot solve the problem and that in my opinion it's a clear uh mess of information in the problem that is a mistake I would say but that's what happens in exam you can't say that uh it's a mistake in a problem so it cannot be solved you you will not get any Grace marks in exam no Grace in CA exams so if there is a mistake in the problem if there's a conflicting information in the problem if there's a missing information in the problem you have to make a appropriate assumption and you have to solve it I'm sure this initial sentences would have made it very clear in the question paper they would have told you you are required to make appropriate assumptions wherever necessary but you can write that in your answer paper while writing answer paper at the end you write while valuing my paper make appropriate assumptions wherever necessary I mean they can do but you can't do it that is the unfair system but can't help so we'll make this assumption for our convenience we have made the change the question itself so that everybody can follow the same answer in the exam if there is a missing information like this you can have a alternate assumption it is definitely valid okay so existing 80 you would like to restrict to 75 percent there is one way of doing it which is what normally people do you have 80 you want to reduce it to 75 percent okay five percent of the share you sell it to public you sell it to five percent eighty percent becomes 75 percent but there is one more way which is uh very intelligent way creative way applied in this problem but of course that's not very popular in Practical life but very popular in exams so what do you do you issue bonus shares not to yourself or only for public so you see currently you have 80 20. let's say 80 she has 20 shares now you start giving bonus shares 20 let's say you give 20 more shares don't give yourself anything so what will happen to the total shares now you will have 80 they will have 40 so if you come to the percentage 80 divided by 120 right 80 plus 40 uh that is almost comes to 75 percent I think 8 or 66 80 by 120. 66 percentage see you are able to reduce the holding without increasing or selling your shares just by issuing bonus shares only for the public that's what they are trying to do so we have to issue certain number of bonus shares only to public such a way that their uh holding will become 25 percent promoters holding will become 75 percent that is what we are trying to approach here foreign ER formats okay so this I'll say uh before bonus then bonus issue afterwards okay what and all I require first of all I require number of shares do we have number official information directly we don't have we have the value of floating stock 45 crores so let's write it as this floating stock always gives a free float free float market cap they have given us 45 crores and market price per share so divide by market price per share 150 you will get free float number of shares 45 crores by 150. 0.3 crores or I'll say 30 lakhs and what about holding uh free float percentage and promoters holding percentage since uh promoters holding is given as 80 percent we have assumed 80 percent free float becomes uh one minus eighty percent that is 20 percent totally you know hundred percent and therefore you'll be able to compute the uh promoters number of shares promoters folding number of shares because this 30 lakhs represents 20 percent how much for 80 percent so 30 represents 20 how much for 80 so 30 by 20 into 80 which is 120 lakhs and therefore total number of shares you can also say uh 30 lakhs plus 20 lakhs 30 lakhs plus 120 lakhs total number of shares 1 50 lakhs okay now what is the requirements even after the bonus our bonus should not be given to promoters holding promoters holding number of shares should be zero no bonus should be given so after a bonus also they will have same number of shares which is 120 Lex and this should represent what percentage this should represent 75 percent so can we calculate how much would be the total or we can also calculate how much should be the free float number of shares in the sense uh 120 lakhs represents 75 percent how much for 25 percent so 120 lakh represents 75 percent how much for 25 percent which is 40. Lex so how much they were having earlier free flow public 30 lakhs and now they have to get 40 lakhs means they should be given bonus of 10 lakhs and therefore total bonus will become 10 lakhs and total number of shares will become 160 lakhs and you can also calculate a 40 by 160 that is 25 percent 75 by I mean 120 by 160 75 percent so what they're asking is the bonus ratio first part of the question so bonus ratio you should give 10 lakhs for 30 lakhs 10 lakh for 30 lakh so ratio is 1 is to three one for every three share sell only for public only for free float non-promoters foreign so this first part of the question second part of the question is what is market price after issue of bonus shares if you remember in the earlier thing how do you calculate uh before some event or before right or before a buyback after buyback uh before bonus after bonus we will assume one ratio remaining same what is that ratio that is p e ratio that's our basic assumption if nothing else is available in the problem of course market price after bonus issue means we would like to assume whatever is the p ratio before bonus is same even after bonus okay so we will assume the earnings per share we have market price per share uh capitalization rate is given and one more thing I don't know whether you remember we are discussing some different problem Maybe when nothing is specified in the problem if we want earnings and no information is our link is available or even the problem they said while maintaining the same p ratio so they only have given the question as well uh when nothing is specified in the problem regarding earnings we don't have any other information the capitalization rate will take it as reciprocal of p ratio one by p ratio is capitalization rate or one by capitalization rate is taken as p ratio so let's make use of that foreign before bonus and on bonus issue afterwards so what we have is market price per share before bonus it is 40 150 rupees uh we'll we don't we need to know EPS for us to find out the ratio so for that we'll find out as using a p ratio uh p e ratio that is I'll take it as 1 by ke that is 1 divided by capitalization the 20.2 that is 5 times p ratio 5. so EPS will be MPS divided by B ratio 150 divided by 5 that is equal to 30. so what is our earnings now or profit after tax let's say EPS is 30 rupees multiplied by number of shares how many shares we had we had 150 lakh shares so 30 into 150 4500 lakh shares now this 4500 lakh share profit after tax does not change you're not taking any loan uh there is no expense being uh different so 45 crores that uh pack will remain same even after bonus this remains same 4500 lakhs uh what will happen to number of shares a number of shares there is a change we have calculated number of shares 160 lakhs so what will be the EPS 4500 lakhs is the profit after tax divide by number of shares 160 lakhs 28.125 20 8.125 then p ratio is same which is 5 assuming p ratio same so market price after bonus issue uh market price per share that is EPS 28.125 multiplied by p ratio into five 140.625 or you can say 140.62 so basically you are following this route you're doing everything for bonus issue then you are going after bonus and then you are going up to the top this is the roots which you are calculating so this one assumption you should know when nothing is nothing else information available we don't have profit after tax they have not given EPS so this is the only assumption valued from example foreign foreign okay so the next question no need to search Sandy limited has a book value per share of 140 its return on Equity is 16 and follows a policy of retaining 60 percent of its annual earning what is the price of the share now if the opportunity cost of capital is 18 percent [Music] okay uh what is this Perpetual growth model Gordon growth model OKAY some people also call this Perpetual growth why it is called as Perpetual growth because constant growth we assume forever that's what is also called as Perpetual growth constant growth model Perpetual growth model dividend discount model God and model all are same what is the formula if you remember P0 is given by if you have d0 then we do d0 into 1 plus G divided by k e minus G if that is not available or if D1 different expected is directly available then we'll do D1 by K minus G depending on we have the last dividend or we have the expected dividend d0 means last dividend when you do 1 plus G you get the dividend expected if they give you directly during expected that is D1 you can make use of it directly K cost of equity opportunity cost cost of capital given growth rate not given dividend not given so how do you calculate different per share then dividend per share will be calculated by earnings per share multiplied by payout ratio payout ratio we know payout ratio but EP is not given okay how do you calculate eps EPS is calculated by total earnings available to equal to shareholders divided by number of shares but that is not available to shareholder is not available then what is the ratio available let's see we can think around that point simple approach keep this in mind first check what you want understanding this approach you can do it in this problem anywhere in your life also first search what you want is it there what do you want if not available then what is available two simple thing you have to check for it okay book what is available or what is required profit earnings available to shareholder okay earnings available to shareholder not available then what is available book value per share is available return on Equity Roe is available oh then try to recollect what is Roe formula Roe is given by numerator profit nothing but earnings available to equity shareholders divided by net worth right divided by net worth that is the share Capital plus resource and surplus of course in 200. so what we need here now earnings available to shareholders so how can I make use of this formula net worth multiplied by Roe a net worth here they have given book value per share so per share only we want so we can calculate EPS as book value per share nothing but net worth per share nothing but net worth you can say share Capital plus resource and surplus multiplied by Roe return Equity joint by a company that is 140 into 16 percent foreign two point four then what is given per share 22.4 is the EPS that just we got it payout ratio retaining ratio or retaining ratio 60 so what is the symbol we write for retained retention ratio we write it as B right B for retention ratio we write so I will do 1 minus B one minus retention ratio 1 minus 60 because 60 percent if I retain it implies 40 percent I'm paying out so 1 minus 0.6 so that is 8.96 so D1 okay now here is one important question okay one more thing we require growth rate also not given growth rate is B into r B is a retention ratio we know 0.6 what is return on assets that is written on investment generated by the company pharmaceutical is a completion rating that is Roe only how much companies generating that is 16 percent 0.16 at actually it may not be exactly this but we don't have any other alternative so whatever company is generating from its assets that is we take Roe only so 0.16 means we get point zero nine six okay now one question comes this dividend per share 8.96 should I take it as d0 or should I take it as D1 it is d0 if you interpret dividend just paid it is D1 if you interpret dividend expected to be paid the question does not specify when the question does not specify you can interpret either ways but Institute mostly take it as D1 Institute mostly take it does not mean you have to take it because question is not very clear so you can interpret either ways give a note in the exam so this we are assuming as D1 this is assumed as D1 one of the Assumption possible you can also assume otherwise because question is silent But whichever way use you write a note in the exam so D1 is 8.96 divided by K minus G cost of capital 0.18 minus growth rate 0.096 0.18.096 0.084 8.96 by 0.084 106.67 just foreign okay I'll go further uh this problem I hope you got it herbal box uh this is a very similar problem that you would have seen earlier but still I would like to solve it quickly exam question uh don't want to spend much time I would like to talk quickly herbal box is a small but profitable producer of beauty cosmetics using the plant aloe vera though it's not a high-tech business yet herbal's earnings have averaged around 18.5 lakhs after tax mainly through strength of the patents on beauty cream to remove pimples the patent has nine years to run her good box has been offered 50 lakhs for the patent rights her birds are setting to 50 lakhs property and Equipment 25 laks of working capital however the patent is not shown in the books of herbal box assuming herbal's cost of capital is 14 calculate economic value addeds let me solve quickly this is very small one very similar one as well to the earlier ones this has been asking exam few times Eva so I'd like to do it quickly so Eva is what is difference between your expectation and your actual number so we say notepad that is your actual profit net operating profit after tax minus expected profit that is what is capital employees multiplied by wscc that is what is your cost expectation uh notepad for that there's given average profit uh averaged around 18.5 lakhs minus Capital employed that is not only shown in the books even uh market value which is not shown in the books which includes uh patent value uh so 50 lakhs of property man equipment 25 as a working capital plus 50 lakhs of patents multiplied by 14 cost of capital is 18.5 minus this is 125 into 14 percent 17.5 I think you get one one lakhs economic value habits yes thirdly took two minutes but I just want to cover this before I go further foreign foreign problem we'll just do it foreign okay uh let's go further okay so hope you got this question this is in uh July 2021 question which for many students turned out to be a disaster because most of the questions in this question paper were reverse working problem old syllabus new syllabus people are happy but old syllabus for people were very very unsatisfied I released a video also saying this was not a difficult paper it was a tricky paper uh just the reverse working is the word they asked and I got very very abusive comments as well anyway so let's try to solve this one I'll tell you how it's a straightforward problem asked in a slightly different manner hope you got this question July 2021 old syllabus question NM Limited is aspiring to enter into Capital Market in three years time the boat wants to attain a Target price of 70 for the shares at the end of three years the present value of the share is 52.03 dividend is expected to grow at the rate of 15 percent for the next three years nml uses the dividend growth model for the projections required rate of return 15 you're required to calculate the amount of dividend to be declared by the board in the base year so as to achieve the Target price so usually what we used to do they used to give the dividend they used to give the uh growth and we used to calculate the present value and in this problem they have given the present value and we have to calculate the dividend let me explain once more so what we used to do uh the dividend will grow at the rate of 15 percent for the next three years and after that there is no growth so you know what we used to do today then Year One year two year three year four onwards remember what we used to do and here we will calculate D1 here we will calculate D2 here we calculate D3 and D4 onwards can you remember what we used to calculate D for onwards we will use to convert this into a terminal value or a price what is that called as or which year that number will be uh D4 onwards using D4 we get TV3 right one term less that is D4 onwards means we used to get this as I mean D4 onwards means this we will use to Discount and this we will get it as uh TV three one term less then what we do this TV3 will bring you to the today value D1 will bring it D2 will bring it D3 also will bring it and together we call this as P0 this was our process now observe what is given in the problem wants to attain Target price of 70 after three years at the end of three years so this TV3 or P3 giveness 70 rupees we don't have to calculate that 70 rupees they have given the present value of the share is 52.03 P0 this is also given 52.03 and growth rate it is growing at 15 so growing at 15 percent annum for every year so how do we use to calculate dividend we say d 0 into 1 plus G that division is what I have to calculate now so if I write in tablet format how does it look like here cash flow discounting Factor discounted cash flow so here we will write year 1 year 2 year 3 year 4 onwards and for year one I'm going to use D1 for year two we will do D2 for year three we will do D3 year four onwards TV3 or P3 now Year One how much is cash flow I don't know so that is d0 into 1.15 1 plus 0.15 D2 is D1 into this or directly can I say d0 into 1.15 square and D3 is d0 into 1.15 Cube and P3 is given as 70. discounting factors 0.8696 0.7561 0.6575 and this also will be same thing 0.6575 and this present value they have given as 52.03 we just have to simplify that so this If I multiply 1.15 into 0.8696 one only you get I think that is uh D 0 only you get D 0 into 1 0.7561 into 1.15 Square this also one only so this also you get d0 1.15 2.6575 to 1.15 into 1.15 this also you get d0 only one only why it is happening why why is that situation because your required rate of return is 15 the growth is 15 compounding by 15 discounting by 15 ultimately nullified anyway mathematically you will get that number and 17 to 0.6575 46.025 so you add all d0 d0 to 0 that is three times D 0 plus 46.025 that is equal to 52.03 take it to right side 3D 0 is 52.03 minus 46.025 or you can say 0 3 you can round off this actually anyway 52.03 minus 46.025 6.005 you can just say six rupees so 3D 0 D 0 6 rupee by 3 rupees so D 0 is 2 rupees so the company should declare in the base year just dividend that is 2 rupees so it's not a different question I have seen many exam question papers where it was given out of syllabus in the sense many difficult questions are asked where the formula was not in regular classes and those formulas were directly as an exams that was difficult the students could not have been expected but this is regular problem instead of asking you the present value they have asked that dividend anyway so people are frustrated so I have to receive the I was in the recipient anyway foreign foreign okay so hope this is fine I'll go further thank you okay still writing no problem foreign again from the same examination July 2021 question SM limited as a market capitalization of 3000 crores current earnings per share of 200 crore with a price earning ratio of 15. the board of directors is considering the proposal to buy back 20 percent of the share at a premium which can be supported by financials of the company the board expects post buyback market price per share of 3057. the post buyback per means a price earning ratio will remain same the company proposes whom to fund the buyback by availing eight percent bank loan since uh available resources are committed for expansion plans assume tax rate 30 percent you're required to calculate interest amount which can be paid for availing bank loan the low number the loan amount to be raised thank you premium per share and the percentage of Premium paid over current EPS again a reverse problem normally in what used to happen in buyback problems they used to give number of shares they used to give the buyback price as well and we used to calculate after buyback what is EPS assuming p ratio same after buyback what is market price per share we used to calculate in a normal manner but in this problem it's reverse calculation they have given the market price per share after buyback directly so we have to calculate little bit reverse working so if your uh thorough with the concepts the formats the columnar format which I usually recommend this will not be much complicated one but anyway read the problem once more then we'll do it in a column that matter okay so let's do it in the columnar format what column we used to follow we simply say before buyback buyback and after buyback what information we have Market Capital ration of 3000 crores and current earnings per share is 200 current p ratio is 15 so eps 200 p e ratio 15 when we know EPs and p ratio what we can calculate we can calculate market price per share so PE uh EPS into p ratio that is 200 into 15 EPS into p ratio three thousand digits before buyback market price per share is three thousands so after buyback pay ratio that's remaining same so it will be 15 only market price per share they only have given post buyback market price per share 3057 so what is the best part I can even calculate eps that is uh MPS by p ratio so 3057 divided by 15 . two zero three point eight thank you okay we just look at number of shares if any information is available or number of shares no information available we have market capitalization when we know market capitalization I can compute number of ships market cap 3000 crores so number of shares three thousand crores divided by three thousands that is one crore shares okay now uh how many sets that is bought back they specifically told 20 percent of the shares I bought back so 20 percent one crore into 20 percent means 0.2 crores or 23 lakhs minus 0.2 crores which is 0.8 crores okay now can you think we know eps we know number of shares when I know ups and I know number of shares what we can calculate If I multiply EPS with number of shares I'll get profit after tax nothing but earnings right I'll get profits after tax that is EPS multiplied by number of shares 200 EPS multiplied by one crore which is 200 crore and here also 203.8 multiplied by 0.8 crores 163.04 now what is the difference why there is a difference between the two profit after tax that is purely because of interest but interest after tax but anyway so what is this interest differential 200 crore into 163.04 uh one two so 200 minus 163.04 36.96 foreign but remember one thing this is interest after tax you remember you would have discussed in the earlier problems it is interest we don't directly subtract interest what do we do interest I multiply it by 1 minus t right to make it into after tax interest into 1 minus t that is what is this difference or you can follow one more method convert this into before tax dividing by 1 minus t we have after buyback profit after tax converted into before tax dividing by 1 minus t now both are before tax the difference you find out that is interest what you can do so interest amount before tax is 36.96 divided by 1 minus t tax rate 30 percent 1 minus 0.3 that is 0.7 so interest is 52.8 what and all they've asked interest amount can be paid for availing the loan that is 52.8 first part of the question interest amounts 52.8 crores second part of the question loan amount to be raised okay now the question comes uh how much is the loan amounts we have got the interest amount but how much is the loan amounts for that you know what is the rate of interest they said company proposes to buy by availing eight percent bank loan you can compute the loan amount 52.8 8 so how much is total so you can divide by that percentage loan amounts equals 52.8 crores divided by rate of interest divided by 8 percent 660 crores so you have raised 660 crores on that you are paying interest at eight percent means 52.8 crores third part of the question what is the premium per share and percentage premium paid over current APS okay this loan 663 crores is used towards buy back of how many shares you see number of shares we had one core and the 0.2 crore is what we have bought back and how much we have paid 660 crores so what is a buyback price buy back price 660 crores is the amount paid 4.2 crores so what will be the per share basis 660 by 0.2 3300 and what is the current price current price is 3000 but how much you paid by back 3 300 so what is the premium three thousand three hundred minus three thousand three hundred three thousand three hundred minus three thousand is three hundred so what is the premium percentage same 300 but out of three thousand that is you can say point one or ten percent you see it's nothing complicated as such if we just solve it in a systematic manner just have to go with the flow what we have what format we follow what we want to achieve the same thing applies any problem in front of you my dear friends that's one of the biggest uh philosophical thought maybe when I see the mathematics books because many people say maths is full of problems so we don't like it but if you see it in another way yes it is full of problems but every problem has got a solution as well it's just that we don't know the solution we have to learn to arrive at the solution and what process we can adopt to arrive the solution whether in exams or for any subject or for that matter any problem in life what is the problem on hand what data we have and what I can do to achieve it in this problem our data or requirement was to find out the interest amount so what format format we followed same thing before buy back buy back after by back so whatever data we knew we start filling in EPS number of shares MPS p ratio so you want to start filling it you easily get one after the other like a solving a puzzle this is like if you want to travel from let's say Bangalore to Chennai you will not see the road here itself standing here you can't see all the roads but as you move further you start seeing the roads right you can see the uh let's say you're traveling in night your car will it give the light vision till the Chennai no till the destination As you move further you start finding the next step that is what you have to apply even in exams or in any problems okay I've told you so much I know extra again in the morning session may not work out but the summary part I'm trying to tell you is this when you see the problem in exams first start where you can start where you can simple move forwards you don't know what to do it's fine it's not able to understand the problem it's fine just read see what you can do when you don't know what to do do what you can in this problem I don't know where to start no problem what information available market cap write down market cap then what information available epsp ratio so before even forget about the targets we have EPS VIP ratio I can compute market price I have market price I have market cap I can Comfort number of shares you understand my point when you make a beginning in my opinion 50 of the problem is solved there itself everything is in the minds so any complicated question you see sfmfr costing during the attacks that is anything first read the problem calmly and try to say what I can do here because the moment you're thinking of the repercussion so what will happen the results of what relatives will tell or next attempt also have to write rather than thinking all those things just stick to the problem and say what I can do that's what I would say rather than problem focused approach you can have a solution focused approach what we can do same thing I mean I might be extending but still my request if you see any problem anywhere on the road some problem traffic jam some problem anywhere don't keep on blaming rather try to think what I can do here okay there is a traffic jam can you do something can you go and control traffic is it possible if possible please do it if somebody is blocking the road you just park the vehicle go there take five minutes initiative and do it if you cannot do it it's rain everywhere blocked everywhere just hold it you can't do anything just uh pause yourself so random thing one problem think something else okay what I can do if I reach two hours late what I can do there what will happen there uh who and I would have come uh if because of this delay uh what will be the impact how can I solve the impact when can I work extra to cover that you're thinking right I'm not telling think positively think always optimistically no I don't say be optimistic I don't say be pessimistic I'll just say be realistic solution oriented approach so when you see a problem in exam if you don't know the concept what to do when you see a problem in life you don't know what to do do one simple thing think what I can do if you start solving the problem 50 of the solution lies there once you make one step things will start unraveling automatically in most of the cases anyway so uh too much of extra again uh may not work in the morning session so please write down if you have any doubts let me know else will move further foreign