Birla Institute of Technology & Science, Pilani, Hyderabad Campus

I Semester 2021-22
Comprehensive Examination (Make Up)
Course No.: ECON F355 Marks: 35 Date: 13.01.2022
Course Title: Business Analysis and Valuation Duration:3Hrs Time: 9:00AM-12:00 PM
Part –B (Open Book-Marks: 25)

(Time: 09: 30 AM-12:00 PM)

Q:1/ ABC Corporation is a large Indian manufacturing company. In the year of 2019, ABC Corporation paid
out dividends of Rs.750 million on net income Rs.1000 million. The company has earned interest
income of Rs.300 million from cash and has generated revenue of Rs. 2000 million. The non-cash
working capital is estimated as 10% of revenues. Additionally, the company made depreciation of Rs.
20 million and its capital expenditure amounted to Rs. 60 million. Further, the new debt issues
exceeded debt repayments by Rs. 30 million. The T-bill rate in India is 4.5%, market risk premium is
5% and the beta of ABC is 2.6. Assume that the cost of equity remains same forever and there is no
cash in hand at the time of valuation. Also the equity reinvestment rate remains at 16% for the next 4
years. All the cash flows except new debt issued is expected to grow in line with the net income for
the next 4 years. Thereafter the firm will be at its stable growth, with a growth rate of 5% and return
on equity of 20%. Assume that for the next 4 years, the net debt cash flow will grow at 10% per year
and non-cash working capital will remain at its existing proportion of revenues. In 2018, non- cash
book value of equity of ABC Corporation was Rs. 5000 million.

A. Find out the terminal value of the equity through FCFE and DDM models respectively. Are these
values equal? If not, justify why? [1.5+1.5+1=4]
B. Find out the value of the equity through FCFE and DDM models respectively. Are these values
equal? If not, justify why? [2+2+1=5]
C. If the number of shares outstanding is 100 then what is the value of equity per share (for both
models)? [1]
D. In 2020, if the company is traded at Rs. 60 per share, comment on the valuation of the company.
[1]

Q :2/ In 2020, an American bank paid dividend of $4.00 per share on reported earnings per share of
$50.00. The bank is expected to grow constantly for next 3 years. During this period, the bank has
achieved its return on equity of 21.50%. Given the beta for the bank stock is 1.5, US risk-free rate is
1.50% and market risk premium is 5.50%. After 3 years, the bank is expected to grow with its stable
growth rate of 4%. At stable period, beta is expected to decline to 1 and market risk premium to 5%.
The competition in the banking industry is expected to push the return on equity down to the cost of
equity in the stable growth period.
 A. What is the value of the American bank stock? [3]
B. Comment on the valuation status of the bank if it trades at $1000 per share in 2021. [0.5]
C. Find out Price -to -Earnings ratio, PEG ratio and Price–to-Book ratio of the bank. [1.5]
D. What will be the change in the valuation of the stock if the growth rate declines linearly to 4% over
the first 3 years instead of remaining constant, with pay-out ratio and cost of equity constant
forever (as of initial phase)? [2]
E. Based on scenario mentioned in part D of the question, comment on the valuation status of the bank
if it trades at $1000 per share in 2021. [1]

Q.3/ Pentair plc intends to introduce a new Reverse Osmosis (RO) machine in the North America (NA)
region. The marketing team has provided an estimate of selling 80,000 units per year if successful
and 30,000 units if unsuccessful till perpetuity at an average value of $200 net cash flow per unit. An
initial investment of an initial investment of $30 million is required for the company set-up. The
probability of success is 40% and the probability of failure is 60%. The finance team has estimated
that discount rate will be 35%. If the optimistic forecast turns out to be correct, then the company
would like to expand its business to 10 locations of same profile. If the pessimistic forecast turns out
to be true, then the company would abandon the project after one year with tax salvage value of $15
million.

A. What is the base case expected NPV of the project? Based on the base case NPV, what should be the
decision of the company? Should the company decide the future of the project based on the base
case NPV? [1.5+0.5+1=3]
B. What is the revised NPV of the project including real options? Based on the revised NPV, what will
be the decision of the investor? [1.5+1.5=3]