Now lets take ITC's example, one of Dalal Street's favourite company

Since ITC is a relatively mature business, you can rely on the past data to make the future forecasts
Below is a detailed analysis of the business, with the strengths and weakness analysis of ITC's businesses.
As an Investment Banker, you'd be expected to form a holistic perspective on the business and you would factor tha
Below, you can see we have considered varying growth rates for revenue, increasing margins, and the resultant cas
As an example, the rationale behind the growing revenue could be drawn from the fact that the company has been f
We have stated a bunch of facts about ITC's business below for your reference. You could even try re-building the fo
Once you have the foreacasts and the resultant cashflows (free cashflow for equityshareholders / free cashflow to e

Particulars FY15 FY16 FY17 FY18 FY19

Revenue 53,161 55,061 58,732 47,689 49,862
% growth 3.6% 6.7% -18.8% 4.6% qoq

Gross Margin 24,063 25,624 26,754 27,593 30,932

% margin 45.3% 46.5% 45.6% 57.9% 62.0%

Operating Margin 9,847 14,913 16,051 17,499 19,195

% margin 18.5% 27.1% 27.3% 36.7% 38.5%

Net Margin 9,663 9,501 10,477 11,493 12,836

% growth -1.7% 10.3% 9.7% 11.7% qoq
% margin 18.2% 17.3% 17.8% 24.1% 25.7%

FCFE 6,475 7,505 7,530 10,201 9,369

% growth 15.9% 0.3% 35.5% -8.2%
% margin 12.2% 13.6% 12.8% 21.4% 18.8%

CFO 9,843 9,799 10,627 13,169 12,583

% margin 18.5% 17.8% 18.1% 27.6% 25.2%
CFI -5,275 -3,921 -3,251 -7,114 -5,546
of which capex -3,300 -2,348 -3,122 -2,878 -3,169
% capex intensity -6.2% -4.3% -5.3% -6.0% -6.4%
CFF -4,661 -5,613 -7,301 -6,221 -6,869
of which dividends -5,688 -6,125 -8,333 -7,088 -7,733
% div payout 58.9% 64.5% 79.5% 61.7% 60.2%

Cash, Bank & Invest 14,250 17,810 19,994 24,952 29,196

Inventory 8,507 9,062 8,671 7,495 7,860
Receivables 1,978 1,917 2,474 2,682 4,035
Payables 1,977 2,339 2,659 3,496 3,510
Debt 225 71 38 29 10
Total Assets 46,547 51,692 55,943 64,289 71,798
Total Liabilities 7,987 8,751 9,236 11,444 12,314
PP&E as % of Assets 35.39% 32.86% 33.87% 33.23% 31.69%
Goodwill as % of Assets 0.45% 0.39% 0.36% 0.32% 0.28%

Qualitative Assessment
Market leader in cigarettes in India with ~85% share in legal cigarettes; Strong cash cow
25 mother brands reaching 124 million households across India; Most brands in #1/#2 position; Multiple 1000cr+ brands
Strong cash position and consistent dividend payout track record backed by stread cigarette business free cash flows
Strong positions in stationery and packaged foods segment; Brand positioning inappropriate in the personal care segment; Margins under
Degrowth in cigarette volumes driven by lower smoking and cheaper substitutes, reasonable pricing power
Stong competition from Britannia, Parle (biscuits); Nestle (noodles) in the FMCG segment; Indian Hotels in the hotel segment
Regulatory overhang - Government propensity to increase sin tax during time of weak macro economic conditions high

Stable Footing
Market leader in cigarettes in India - 85% market share in legal cigarettes
Brand Portfolio: Portfolio of multiple 1000cr+ brands across categories; #1/#2 in most categories
Board of Directors: 71% board independence, Audit 50%, Nomination 60%
Cash position: Strong and growing cash and investments position: 40% of Assets
Dividend payout: Consistent ~60%+ dividend payout supported by strong free cash flow

Steady Growth
Smoker degrowth:Overall smoker and daily smoker % both have been reducing in India driven by tax, warnings, and media
Substitute share: Bidis, illegal cigarettes, and other non tobacco products are gaining share driven by the taxation differential
Cigarette pricing: Addictive nature combined with market position allows for significant pricing power
Margin: Higher due to revenue reporting net of excise, relative stability in margin profile of business
Packaged Food: Flour underpenetrated; Gaining share in Biscuits & Noodles, Branching out into chocolates & dairy
Personal Care: Strong brand and reach in mass market deos; Brand positioning inappropriate in hand & floor sanitization space
Education & Stationery: Market leader in 6Kcr+ market, growing student population supports growth; Premiumization via environment foc
Other segments: Sluggish demand in matches, Premiumization theme in the agarbatti segment
Margin:FMCG margin under pressure driven by significant marketing spend; Expected to continue given competitive environment
Hotels: Short term negative driven by covid; DTC, loyalty, operated hotels to aid margins long term
Paperboard and Packaging: Value added paperboard growth driven by e-commerce; Traditional paper shrinking due to digital
Agri: Weak unmanufactured tobacco export growth offset by growing demand from domestic FMCG; 37% revenue intersegment

Sturdy Positioning
Brands: 25 mother brands reaching 124 million households across India; Most brands in #1/#2 position
Pan India Manufacturing network: 29 plants, 30 hotels located across India
Vertical Integration: Agri & Paper products businesses provide materials for FMCG business
Scale: Marketing leading positions in most segments it operates in; 85% share in cigs, 20%+ in most FMCG
Godfrey Philips India: 2500cr+ topline, Strong brand porfolio: Marlboro, Four Square
VST Industries: 1000cr+ topline, Low to mid price segment player; Brands: Charms, Charminar
Brittania: Competes in mid-premium biscuits, has stronger distribution reach, wider brand portfolio
Nestle: Strong market leader in 4000cr category via Maggi, but ITC gaining share
Navneet: 6% market share; Classmate (ITC) is 3x larger - enjoys vertical integration in paper
Indian Hotels - Taj brand, Tata group owned, 4500cr topline, 200+ hotels
Regulatory headwind to core business- Pictoral warnings, loose sale bans, and continuous tax spikes
Weak Macro - Government will always utilize sin taxes to make up for revenue shortfall in weak macro environment

100%
Income Statement 2016 2017 2018 2019
FMCG-Cigarettes 34,063 35,878 24,848 22,913
90%
% growth 5.33% -30.74% -7.79%
% of total 61.86% 61.09% 52.10% 45.95% 80%
FMCG-Non Cigatettes 9,739 10,524 11,339 12,517
8.06% 7.74% 10.39% 70%
% growth
% of total 17.69% 17.92% 23.78% 25.10%
60%
Hotel 1,343 1,400 1,480 1,728
% growth 4.24% 5.71% 16.76% 50%
% of total 2.44% 2.38% 3.10% 3.47%
Paper 3,758 3,733 3,695 4,230 40%
% growth -0.67% -1.02% 14.48%
6.83% 6.36% 7.75% 8.48% 30%
% of total
Agri & Others 4,363 5,314 4,474 6,075
20%
% growth 21.80% -15.81% 35.78%
% of total 7.92% 9.05% 9.38% 12.18% 10%
Others 1,796 1,883 1,852 2,398
% growth 4.84% -1.65% 29.48% 0%
2016
% of total 3.26% 3.21% 3.88% 4.81%
Total 55,061 58,732 47,689 49,862

% growth 6.67% -18.80% 4.56%

he future forecasts
lysis of ITC's businesses.
business and you would factor that into your foreacasts
sing margins, and the resultant cashflows
e fact that the company has been foraying into FMCG (Non-Cig) and Agri products space, which are high growth in nature.
ou could even try re-building the forecasts considering that information.
yshareholders / free cashflow to equity- FCFE), you just repeat the process of discounting them, and arrive at a final value. Tak

Financial Year (FY20) Amounts in cr.

Q1 Q2 Q3 Q4 FY20 FY21P
Revenue 12,658 12,867 13,308 12,561 51,394 48,824
% growth 1.7% 3.4% -5.6% 3.1%

Gross Margin 8,473 8,430 8,215 7,746 32,864 31,248

% margin 66.9% 65.5% 61.7% 61.7% 63.9% 64.0%

Operating Margin 5,206 5,056 5,061 4,758 20,081 19,530

% margin 41.1% 39.3% 38.0% 37.9% 39.1% 40.0%

Net Margin 3,437 4,174 4,048 3,926 15,585 14,647

% growth 21.4% -3.0% -3.0% 21.4%
% margin 27.2% 32.4% 30.4% 31.3% 30.3% 30.0%

8,788

18.0%
Multiple 1000cr+ brands
ess free cash flows
e personal care segment; Margins under pressure given brand building spend

Hotels in the hotel segment

nomic conditions high

tax, warnings, and media

by the taxation differential

hocolates & dairy

and & floor sanitization space
wth; Premiumization via environment focus

given competitive environment

aper shrinking due to digital

CG; 37% revenue intersegment
macro environment

100%

90%

80%

70%

60%

50%

40%

30%

20%

10%

0%
2016 2017 2018 2019
high growth in nature.

d arrive at a final value. Take a look at the tab "ITC Valuation" for details.

FY22P FY23P FY24P FY25P Terminal Growth

58,589 67,378 76,137 83,750
20.0% 15.0% 13.0% 10.0%

38,083 44,469 50,250 56,950

65.0% 66.0% 66.0% 68.0%

24,022 28,299 31,977 35,175

41.0% 42.0% 42.0% 42.0%

17,577 20,213 22,841 25,125

20.0% 15.0% 13.0% 10.0%
30.0% 30.0% 30.0% 30.0%

11,132 13,476 15,227 16,750 452,251

26.7% 21.1% 13.0% 10.0% 10.0%
19.0% 20.0% 20.0% 20.0%
Perpetual Growth 8%
Rate of Discount 12%
CF (t-1) 16,750
Terminal Value 452,251

Discountin
Year Year No. CF Cash Flows Growth Rat CF0
g Factor
31-Mar-21 1 CF1 8,788.4 0.870 7,642.1
31-Mar-22 2 CF2 11,131.9 26.7% 0.756 8,417.3
31-Mar-23 3 CF3 13,475.5 21.1% 0.658 8,860.4
31-Mar-24 4 CF4 15,227.3 13.0% 0.572 8,706.3
31-Mar-25 5 CF5 16,750.1 10.0% 0.497 8,327.7
31-Mar-26 6 Temrinal Value 452,251.5 0.432 195,520.8
237,475

Today, ITC operates at a market ca

Rate of return (Cost of equity) 15% It is a good stock to buy and hold. It
day, ITC operates at a market cap of 250,000. Hence, the company may be slightly overvalued.
s a good stock to buy and hold. It will keep delivering a consistent growth, as we can see in the first tab.
Discounted Cash Flow Model
XYZ Ltd.

Year CF Cash Flows Growth Rate

31-Mar-21 CF1 1000
31-Mar-22 CF2 2000 100.0%
31-Mar-23 CF3 3600 80.0%
31-Mar-24 CF4 5400 50.0%
31-Mar-25 CF5 6750 25.0%
31-Mar-26 CF6 7425 10.0%
31-Mar-27 CF7 7796 5.0%
31-Mar-28 CF8 8186 5.0%
31-Mar-29 CF9 8595 5.0%
and so on…
Discounted Cash Flow Model
Flipkart India

Computation of Terminal Value

India is expected to grow at 8% from the year 2027. Accordingly, we have forecasted a 5% growth for
XYZ Ltd assuming that XYZ will not be able to fully capture this growth due to compeition.

Year CF Cash Flows Growth Rate

31-Mar-21 CF1 1000
31-Mar-22 CF2 2000 100.0%
31-Mar-23 CF3 3600 80.0%
31-Mar-24 CF4 5400 50.0%
31-Mar-25 CF5 6750 25.0%
31-Mar-26 CF6 7425 10.0%
31-Mar-27 CF7 7796 5.0%
31-Mar-28 CF8 8186 5.0%
31-Mar-29 CF9 8595 5.0%
and so on…

We need to compute the terminal value as at 31-Mar-2027, since that is the base year when the earnings stabilize with a constant growth rate.
This will typically be the phase when e-commerce matures in India, and it cannot grow beyond what the economy is growing at.

Accordingly, the terminal value at CF7 can be computed as under:

Perpetual Growth 5%
CF7 7796
Terminal Value 8,206.0
Discounted Cash Flow Model
XYZ Ltd

Final Valuation

We have the main inputs now. All we need to determine now, is the r.
r can be determined as the rate of return expected by the investor on this investment.
In our examples, we considered 5% as the discounting rate for the sake of simplicity.
However, a company like ABC, when acquiring a company like XYZ expects a very high rate of return. That could hover around 15%.
The specifics of determing r is something we will cover in the future modules.

For the time being, lets complete our DCF valuation.

Discounting
Year Year No. CF Cash Flows Growth Rate Factor CF0

31-Mar-21 1 CF1 1,000.0 0.870 869.6

31-Mar-22 2 CF2 2,000.0 100.0% 0.756 1,512.3
31-Mar-23 3 CF3 3,600.0 80.0% 0.658 2,367.1
31-Mar-24 4 CF4 5,400.0 50.0% 0.572 3,087.5
31-Mar-25 5 CF5 6,750.0 25.0% 0.497 3,355.9
31-Mar-26 6 CF6 7,425.0 10.0% 0.432 3,210.0
31-Mar-27 7 CF7 7,796.0 5.0% 0.376 2,930.8
31-Mar-27 7 Terminal Value 8,206.0 5.0% 0.376
16,463.6

Rate of return (Cost of equity) 15%

Discounting Factor for any particular year n = 1 / (1 + r)^n

CF1 x 1/(1 + r)^1 = CF0 CF1 x Discounting Factor for Year 1 = CF0
CF2 x 1/(1 + r)^2 = CF0 CF2 x Discounting Factor for Year 2 = CF0
CF3 x 1/(1 + r)^3 = CF0 CF3 x Discounting Factor for Year 3 = CF0
CF4 x 1/(1 + r)^4 = CF0 CF4 x Discounting Factor for Year 4 = CF0
CF5 x 1/(1 + r)^5 = CF0 CF5 x Discounting Factor for Year 5 = CF0
CF6 x 1/(1 + r)^6 = CF0 CF6 x Discounting Factor for Year 6 = CF0
CF7 x 1/(1 + r)^7 = CF0 CF7 x Discounting Factor for Year 7 = CF0
Discounted Cash Flow Model
XYZ Ltd

Findings
Thus, we have determined the value of XYZ to be at Rs. 17,333 Cr. As bankers, our suggestion
to ABC would be to negotiate the deal with a ceiling of Rs. 17,333 Cr after accounting for the
growth potential in the first 6 years, and then the stable growth it can expect to experience in
the Indian market once the e-commerce market achieves maturity.