THEORETICAL BACKGROUND

FUNDAMENTAL ANALYSIS:Fundamental analysis is the examination of the underlying forces that affect the well being of the economy, industry groups, and companies. As with most analysis, the goal is to derive a forecast and profit from future price movements. At the company level, fundamental analysis may involve examination of financial data, management, business concept and competition. At the industry level, there might be an examination of supply and demand forces for the products offered. For the national economy, fundamental analysis might focus on economic data to assess the present and future growth of the economy. To forecast future stock prices, fundamental analysis combines economic, industry, and company analysis to derive a stock's current fair value and forecast future value. If fair value is not equal to the current stock price, fundamental analysts believe that the stock is either over or under valued and the market price will ultimately gravitate towards fair value. Fundamentalists do not heed the advice of the random walkers and believe that markets are weak form efficient. By believing that prices do not accurately reflect all available information, fundamental analysts look to capitalize on perceived price discrepancies.

STRENGTHS AND WEAKNESS OF FUNDAMENTAL ANALYSIS

Long-term Trends:

Fundamental analysis is good for long-term investments based on long-term trends, very long-term. The ability to identify and predict long-term economic, demographic, technological or consumer trends can benefit patient investors who pick the right industry groups or companies.

Value Spotting:

Sound fundamental analysis will help identify companies that represent good value. Some of the most legendary investors think long-term and value. Graham and Dodd, Warren Buffett and John Neff are seen as the champions of value investing. Fundamental analysis can help uncover companies with valuable assets, a strong balance sheet, stable earnings and staying power.

Business Acumen:

One of the most obvious, but less tangible, rewards of fundamental analysis is the development of a thorough understanding of the business. After such painstaking research and analysis, an investor will be familiar with the key revenue and profit drivers behind a company. Earnings and earnings expectations can be potent drivers of equity prices. Even some technicians will agree to that. A good understanding can help investors avoid companies that are prone to shortfalls and identify those that continue to deliver. In addition to understanding the business, fundamental analysis allows investors to develop an understanding of the key value drivers and companies within an industry. Its industry group heavily influences a stocks price. By studying these groups, investors can better position themselves to identify opportunities that are high-risk (tech), low-risk (utilities), growth oriented (computer), value driven (oil), non-cyclical (consumer staples), cyclical (transportation) or income oriented (high yield).

Knowing Who's Who:

Stocks move as a group. By understanding a company's business, investors can better position themselves to categorize stocks within their relevant industry group. Business can change rapidly and with it the revenue mix of a company. This happened to many of the pure internet retailers, which were not really internet companies, but plain retailers. Knowing a company's business and being able to place it in a group can make a huge difference in relative valuations. WEAKNESS

Time Constraints:

Fundamental analysis may offer excellent insights, but it can be extraordinarily time consuming. Time-consuming models often produce valuations that are contradictory to the current price.

Industry/Company Specific: Valuation techniques vary depending on the industry group and specifics of each company. For this reason, a different technique and model is required for different industries and different companies. This can get quite time consuming and limit the amount of research that can be performed.

Subjectivity:

Fair value is based on assumptions. Any changes to growth or multiplier assumptions can greatly alter the ultimate valuation. Fundamental analysts are generally aware of this and use sensitivity analysis to present a base-case valuation, a best-case valuation and a worst-case valuation. However, even on a worst case, most models are almost always bullish, the only question is how much so.

Analyst Bias:

The majority of the information that goes into the analysis comes from the company itself. Companies employ investor relations managers specifically to handle the analyst community and release information.Introduction to Investment Valuation

Every asset, financial as well as real, has value. The key to successfully investing in and managing these assets lies in understanding not only what the value is, but the sources of the value. Any asset can be valued, but some assets are easier to value than others, and the details of valuation will vary from case to case. Thus, the valuation of a share of a real estate property will require different information and follow a different format from the valuation of a publicly traded stock. What is surprising; however, is not the difference in valuation techniques across assets, but the degree of similarity in basic principles. There is undeniably uncertainty associated with valuation. Often that uncertainty comes from the asset being valued, although the valuation model may add to that uncertainty.

A PHILOSOPHICAL BASIS FOR VALUATION

A surprising number of investors subscribe to the bigger fool theory of investing, which argues that the value of an asset is irrelevant as long as there is a bigger fool around who is willing to buy the asset from them. While this may provide a basis for some profits, it is a dangerous game to play, since there is no guarantee that such an investor will still be around when the time to sell comes.

A postulate of sound investing is that an investor does not pay more for an asset than its worth. This statement may seem logic and obvious, but it is forgotten and rediscovered at some time in every generation and in every market. There are those who are disingenuous enough to argue that value is in the eyes of the beholder, and that any price can be justified if there are other investors willing to pay that price. That is patently absurd. Perceptions may be all that matter when the asset is a painting or a sculpture, but investors do not (and should not) buy most assets for aesthetic or emotional reasons; financial assets are acquired for the cash flows expected from owning them. Consequently, perceptions of value have to be backed up by reality, which implies that the price that is paid for any asset should reflect the cash flows it is expected to generate. The models of valuation described in this book attempt to relate value to the level and expected growth of these cash flows.

There are many areas in valuation where there is room for disagreement, including how to estimate true value and how long it will take for prices to adjust to true value. But there is one point on which there can be no disagreement. Asset prices cannot be justified merely by using the argument that there will be other investors around willing to pay a higher price in the future.

THE ROLE OF VALUATION

Valuation is useful in a wide range of tasks. The role it plays, however, is different in different arenas. The following section lays out the relevance in portfolio management, in acquisition analysis, and in corporate finance.

Valuation and Portfolio Management The role that valuation plays in portfolio management is determined in large part by the investment philosophy of the investor. Valuation plays a minimal role in portfolio management for a passive investor, whereas it plays a larger role for an active investor. Even among active investors, the nature and role of valuation are different for different types of active investors can be categorized as either market timers, who trust in their abilities to foresee the direction of the overall stock or bond markets, on security selection who believe that their skills lie in funding under or over valued securities. Market timers use valuation much less than do investors who pick stocks, and the focus is on market valuation rather than on firm specific valuation. Among security selectors, valuation plays a central role in portfolio management for fundamental analysts and a peripheral role for technical analysis.

The following subsections describe, in broad terms. Different philosophies and the role played by valuation in each.

Fundamental Analysts The underlying theme in fundamental analysis is that the true value of the firm can be related to its financial characteristics- its growth prospects, prospects, risk profile, and cash flows. Any deviation from this true value is a sign that a stock is under or overvalued. It is a long-term investment strategy and the assumptions underlying it are that:

(a) The relationship between value and the underlying financial factors can be measured.

(b) The relationship is stable over time.

( c ) Deviations from the relationship are corrected in a reasonable time period.

Valuation is the central focus in fundamental analysis. Some analysts use discounted cash flow models to value firms, while others use multiples such as price/earnings and price/book value ratios. Since investors using this approach hold a large number of "undervalued' stocks in their portfolios, their hope is that, on average, these portfolios will do better than the market.

Franchise Buyers

The philosophy of a franchise buyer is best expressed by an investor who has been very successful at it -Warren Buffet. We try to stick to businesses we believe we. Understand, Mr.Buffett writes. That means they must be relatively simple and stable in character. If a business is complex and subject to constant change, we're not smart enough to predict future cash flows. Franchise buyers concentrate on a few businesses they understand well and attempt to acquire undervalued firms. Often, as in the case of Mr. Buffet, franchise buyers wield influence on the management of these firms and can change financial and investment policy. As a long-term strategy, the underselling assumptions are that:

(a) Investors who understand a business well are in a better position to value it correctly.

(b) These undervalued businesses can be acquired without driving the price above the true value.

Valuation plays a key role in this philosophy, since franchise buyers arc attracted to a particular business because they believe it is undervalued. They are also interested in how much additional value they can create by restructuring the business and running it right.

Chartists

Chartists believe that prices are driven as much by investor psychology as by any underlying financial variables. The information available from trading - price movements, trading volume, short sales, and so forth - gives an indication of investor psychology and future price movements. The assumptions here are that prices move in predictable patterns, that there are not enough marginal investors taking advantage of these patterns to eliminate them, and that the average investor in the market is driven more by emotion than by rational analysis.

While valuation does not play much of a role in charting, there are ways in which an enterprising chartist can incorporate it into analysis. For instance valuation can be used to determine support and resistance lines4 on price chart.

Information TradersPrices move on information about the firm. Information traders attempt to trade in advance of new information or shortly after it is revealed to financial markets, buying on good news and selling on bad. The underlying assumption is that these traders can anticipate information announcements and gauge the market reaction to them better than the average investor in the market.

For information trader the focus is on the relationship between information and changes in value, rather than on value per se. Thus an information trader may buy an overvalued firm if he or she believes that the next information announcement is going to cause the price to go up because it contains better-than-expected news. If there is a relationship between how undervalue or overvalued a company is and how its stock price reacts to new information then valuation could play a role in investing for an information trader.

Market Timers

Market timers note, with some legitimacy, that the payoff to calling turns in markets is much greater than the returns from stock picking. They argue that it is easier to predict market movements than to select stocks and that these predictions can be based upon factors that are observable.

While valuation of individual stocks may not be of any use to a market timer, market timing strategies can use valuation in at least two ways:

(a) The overall market itself can be valued and compared to the current level.

(b) A valuation model can be used to value all stocks, and the results from the cross-section can be used to determine whether the market is over or undervalued. For example, as the numbers of stocks that are overvalued using the dividend discount model increases relative to the numbers that are undervalued, there may be reason to believe that the market is overvalued.

Efficient Marketer

Efficient marketers believe that the market price at any point in time represents the best estimate of the true value of the firm and that any attempt to exploit perceived market efficiencies will cost more than it will make in excess profits. They assume that markets aggregate information quickly and accurately, that marginal investors promptly exploit any inefficiencies, and that any inefficiencies in the market are caused by friction, such as transaction costs, and cannot be arbitraged away.

For efficient marketers, valuation is a useful exercise to determine why, stock sells for the price it does. Since the underlying assumption is that the market price is the best estimate of the true value of the company, the objective becomes determining what assumptions about growth and risk are implied in this market price, rather than on finding under- or overvalued firms.

Valuation in Acquisition Analysis

Valuation should play a central part in acquisition analysis. The bidding firm or individual has to decide on a fair value for the target firm before making a bid, and the target firm has to determine a reasonable value for itself before deciding to accept or reject the offer.

There are also special factors to consider in takeover valuation. First, the effects of synergy on the combined value of the two firms (target plus bidding firm) have to be considered before a decision is made on the bid. Those who suggest that synergy is impossible to value and should not be considered impossible to value should not be considered in quantitative terms are wrong. Second, the effects on value of changing management and restructuring the target firm will have to be taken into account in deciding on a fair price. This is of particular concern in hostile takeovers.

Finally, there is a significant problem with bias in takeover valuations. Target firms may be overly optimistic in estimating value, especially when the takeover is hostile and they are trying to convince their stockholders that the offer price is too low. Similarly, if the bidding firm has decided, for strategic reasons, to do an acquisition, there may be strong pressure on the analyst to come up with an estimate of value that backs up the acquisition decision.

Valuation in Corporate Finance

The objective in corporate finance is the maximization of firm value, and then the relationship between financial decisions, corporate strategy, and firm value has to be delineated. In recent years, management-consulting firms have started offering companies advice on how to increase value. Their suggestions have often provided the basis for the restructuring of these firms.

The value of a firm can be directly related to decisions that it makes-on that projects it takes, on how it finances them, and on its dividend policy. Understanding this relationship is key to making value-increasing decisions and to sensible financial restructuring.

Equity represents a residual cash flow rather than a promised cash flow.

You can value equity in one of two ways:

By discounting cash flows to equity at the cost of equity to arrive at the value of equity directly.

By discounting cash flows to the firm at the cost of capital to arrive at the value of the business. Subtracting out the firms outstanding debt should yield the value of equity.Two Measures of Cash Flows

Cash flows to Equity: These are the cash flows generated by the asset after all expenses and taxes, and also after payments due on the debt. This cash flow, which is after debt payments, operating expenses and taxes, is called the cash flow to equity investors.

Cash flow to Firm: There is also a broader definition of cash flow that we can use, where we look at not just the equity investor in the asset, but at the total cash flows generated by the asset for both the equity investor and the lender. This cash flow, which is before debt payments but after operating expenses and taxes, is called the cash flow to the firm.Two Measures of Discount Rates

Cost of Equity: This is the rate of return required by equity investors on an investment. It will incorporate a premium for equity risk the greater the risk, the greater the premium.

Cost of capital: This is a composite cost of all of the capital invested in an asset or business. It will be a weighted average of the cost of equity and the after-tax cost of borrowing.

FREE CASH FLOWS TO THE FIRM

The best things in life are free, and the same holds true for cash flow. Smart investors love companies that produce plenty of free cash flow (FCF). It signals a company's ability to pay debt, pay dividends, buy back stock and facilitate the growth of business - all important undertakings from an investor's perspective. However, while free cash flow is a great gauge of corporate health, it does have its limits and is not immune to accounting trickery.

What Is Free Cash Flow? By establishing how much cash a company has after paying its bills for ongoing activities and growth, FCF is a measure that aims to cut through the arbitrariness and "guesstimations" involved in reported earnings. Regardless of whether a cash outlay is counted as an expense in the calculation of income or turned into an asset on the balance sheet, free cash flow tracks the money.

To calculate FCF, make a beeline for the company's cash flow statement and balance sheet. There you will find the item cash flow from operations (also referred to as "operating cash"). From this number subtract estimated capital expenditure required for current operations:

- Cash Flow from Operations (Operating Cash)

- Capital Expenditure

To do it another way, grab the income statement and balance sheet. Start with net income and add back charges for depreciation and amortization. Make an additional adjustment for changes in working capital, which is done by subtracting current liabilities from current assets. Then subtract capital expenditure, or spending on plants and equipment:

- Net income

+ Depreciation/Amortization

- Change in Working Capital

- Capital Expenditure

It might seem odd to add back depreciation/amortization since it accounts for capital spending. The reasoning behind the adjustment, however, is that free cash flow is meant to measure money being spent right now, not transactions that happened in the past. This makes FCF a useful instrument for identifying growing companies with high up-front costs, which may eat into earnings now but have the potential to pay off later.

What Does Free Cash Flow Indicate?

Growing free cash flows are frequently a prelude to increased earnings. Companies that experience surging FCF - due to revenue growth, efficiency improvements, cost reductions, share buy backs, dividend distributions or debt elimination - can reward investors tomorrow. That is why many in the investment community cherish FCF as a measure of value. When a firm's share price is low and free cash flow is on the rise, the odds are good that earnings and share value will soon be on the up.

By contrast, shrinking FCF signals trouble ahead. In the absence of decent free cash flow, companies are unable to sustain earnings growth. An insufficient FCF for earnings growth can force a company to boost its debt levels. Even worse, a company without enough FCF may not have the liquidity to stay in business.

RESEARCH DESIGN OF THE STUDYINTRODUCTION:

Every stock available in the markets has a value called market price, which is the indicator of the companys performance. According to fundamental analysis we will try to find the intrinsic value of a particular stock, which is the true value of the stock, based on which investment arguments take place.STATEMENT OF PROBLEM:

Every asset, financial as well as real, has value. The key to successfully investing in and managing these assets lies in understanding not only what the value is, but the sources of the value. Any asset at can be valued but some assets are easier to value than others, and the details of the valuation will vary from case to case. Thus, the valuation of a share of a real estate property will require different information and follow a different format from the valuation of a publicly traded stock. What is surprising; however, is not the difference in valuation techniques across assets, but the degree of similarity in basic principles. There is undeniably uncertainty associated with valuation. Often the uncertainty comes from the asset being valued, although the valuation model may add to that ascertained.

A postulate of sound investing is that an investor does not pay more for asset than its worth. This statement may seem logical and obvious as financial assets are acquired for the cash flows expected from owning them, which implies that the price that is paid for any asset should reflect the cash flows it is expected to generate.

The problem in valuation is not that there are not enough models to value an asset; it is that there are too many. Choosing the right model to use in valuation is as critical to arriving at a reasonable value as understanding how to use the model. Analysts use a wide variety of models from simple to the sophisticated. These models often make different assumptions about pricing, but they do share some common characteristics so in the study we tried to use price-earning multiples and discounted cash flow models of valuation.

OBJECTIVES OF THE STUDY:

To understand the macroeconomic variables those will an impact on the company progress. To study the various trends, opportunities, challenges of the industry in which the company operates.

To understand the various policies of the company those have impact on the financial performance of the company.

To understand the various investment valuation models that can be used.

To select the appropriate model that suits the stock.

Find the intrinsic value of the stock and compare with market value of the study.

To recommend whether to buy, hold or sell the stock based on the analysis.

SCOPE OF THE STUDY:

The study basically tries to identify the intrinsic value of the company by using the published financial details of the company. The study is restricted to one particular company in the sector. The study also includes testing the intrinsic value of the company.

RESEARCH METHODOLOGY:

Type of research:

Research design is the conceptual structure within which research is conducted. It constitutes the blue print for the collection, measurement, and analysis of data. The type of research adopted for the study is descriptive research as the research does not require any manipulation of variables and does not establish causal relationship between events; it just simply describes the variables. Sources of data:

Primary data

Those are the data that are obtained by a study specially designed to fulfill the data needs of the problem. Meeting the company professionals personally collected the information necessary for the study.

Secondary data

Data, which are not originally collected but rather obtained from published or unpublished sources, are known as secondary data. In this research secondary data was collected through sources like Internet, research reports, magazines, and company journals.

Sampling plan:

Type of sampling: Non-probabilistic judgment sampling.

Sample size

: One company from automobile sector.

RESEARCH INSTRUMENTS:

Financial calculations: - This was done to find the various valuation ratios and necessary calculations to find the intrinsic value of the company.

Z Test: - This test was used to test the hypothesis.

PLAN OF ANALYSIS:

After having collected the financial data related to the entities i.e., the sample selected from the selected sector. Calculate the various valuation ratios and other financial calculations that will help in the company valuation. This helps in finding out the intrinsic value of the companys share. Then hypothesis was tested whether the company is under or over valued.

LIMITATIONS OF THE STUDY:

The study was confined only to one particular sector.

The study was more confined with secondary data.

The study assumes no changes in the tax rates in the country.

The study was done for a short period of time, which might not hold true over a long period of time.

As the scope is defined by the researcher it restricts the number of variables which

Influence the industry.

OPERATIONAL DEFINITIONS OF THE CONCEPTS:1) BETA:

A measure of a security's or portfolio's volatility, or systematic risk,in comparison to the market as a whole. It is also known as "beta coefficient."

2) CAPEX:

Funds used by a company to acquire or upgrade physical assets such as property, industrial buildings, or equipment.

3) CAGR:

The year over year growth rate of an investment over a specified period of time.

Calculated by taking the nth root of the total percentage growth rate where n is the number of years in the period being considered.

This can be written as:

4) COST OF EQUITY:

The return that stockholders require for a company for the capital invested. The traditional formula is the dividend capitalization model:

5) DEBT/EQUITY RATIO:

A measure of a company's financial leverage calculated by dividing long-term debt by shareholders equity. It indicates what proportion of equity and debt the company is using to finance its assets.

Note: Sometimes investors only use interest bearing long-term debt instead of total liabilities.

6) DEPRECIATION: An expense recorded to reduce the value of a long-term tangible asset. Since it is a non-cash expense, it increases free cash flow while decreasing reported earnings.7) DIVIDEND PAYOUT RATIO:

The percentage of earnings paid to shareholders in dividends.

9) DUPONT ANALYSIS:

A method of performance measurement that was started by the DuPont Corporation in the 1920s, and has been used by them ever since. With this method, assets are measured at their gross book value rather than at net book value in order to produce a higher ROI.

10) EPS:

The portion of a company's profit allocated to each outstanding share of common stock. Calculated as:

11) EFFECTIVE TAX RATE:

The portion of a company's profit allocated to each outstanding share of common stock. Calculated as:

12) EQUITY MULTIPLIER:

A measure of financial leverage calculated as:

Total Assets divided by TotalStockholders' Equity.

Like all debt management ratios, the equity multiplier is a way of examining how a company uses debt to finance its assets. It is also known as the financial leverage ratio or leverage ratio.

13) ASSET TURN OVER RATIO:

The amount of sales generated for every dollar's worth of assets. It is calculated by dividing sales in rupees by assets in rupees.

Formula:

14) FUNDMENTAL ANALYSIS:

The amount of sales generated for every dollar's worth of assets. It is calculated by dividing sales in rupees by assets in rupees.

Formula:

15) MARKET CAPITALISATION:

It is the total value of all outstanding shares of particular company, which is represented in the market. It's calculated by multiplying the number of shares times the current market price. This term is often referred to as market cap.

16) PE (PRICE EARNING MULTIPLES):

A valuation ratio of a company's current share price compared to its per-share earnings. A valuation ratio of a company's current share price compared to its per-share earnings.Calculated as:

17) PEG (PRICE EARNING TO GROWTH):

A valuation ratio of a company's current share price compared to its per-share earnings.

18) ROE:

A measure of a corporation's profitability, calculated as:

19) WACC: A calculation of a firm's cost of capital that weight each category of capital proportionately. Included in the WACC calculations are all capital sources, including common stock, preferred stock, bonds, and any other long-term debt.

WACC is calculated by multiplying the cost of each capital component by its proportional weighting and then summing: