VCE Summer Internship Program 2021

Smart Task Submission Format

[ Download This Format in .DOCX format and then Edit it and SUBMIT ]
Intern’s Details
Name TUSHAR GUPTA

Email-ID indiantushargupta@gmail.com

Smart Task No. 1

Project Topic EQUITY RESEARCH

Smart Task (Solution)

Task Q1 : What is fundamental analysis? Why is fundamental analysis is relevant for

investing? How to use PE/PB charts to identify fundamental opportunities?

Task Q1 Solution : Fundamental analysis is a holistic approach to study a business. When

an investor wishes to invest in a business for long term it becomes extremely important to
understand business from various perspectives. It is important for an investor to separate
daily short term noise in stock prices and concentrate on the underlying business
performance. Over the long run, the stock prices of a fundamentally strong businesses tend
to appreciate, thereby, would create wealth for an investor.

Warren buffet is the sixth richest man in the world. His net worth is a whopping US100.6
billion. Majority of his net worth is from stock markets. We would think he has a magic stone
in a bottle. But no. The secret to his wealth is a simple two letter word- value investing.
Value investing is buying a undervalued stock and holding them for a long time. Price to
book value is a type of valuation ratio which calculates a stock intrinsic value. It helps us to
understand if a stock is undervalued, overvalued and fairly priced. Price to book ratio is also
known as P/B ratio. Why is finding undervalued stocks important? Because historically,
undervalued stocks have outperformed stocks with high PB ratio. Investing legend have
made their fortune by investing in undervalued stocks. And most important everybody loves
a good bargain. PB ratio is a tool to figure out which stocks are trading at a discount.

The P/E ratio helps investors determine the market value of a stock as compared to the
company’s earnings. A higher P/E ratio shows that investor are willing to pay a higher share
price today because of growth expectation in the future.

500 Words (Max.)

Task Q2 : How to do Financial statement analysis on stocks?

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Task Q3 Solution :
1 Annual Report – The annual report is a yearly publication by the company and is sent to
the shareholders and other interested parties. Potential investors and the present
shareholders are the primary audience for the annual report. Annual reports should provide
the most pertinent information to an investor and should also communicate the company’s
primary messages. To give you a perspective, AR contains the auditor’s certificates(signed,
dated and sealed) certifying the sanctity of the financial data included in the annual report.
The AR contains three financial statements – Profit & Loss statement, Balance sheet and
Cash flow statement.

2 Balance sheet Analysis –

a) Current ratio: Current assets includes cash, petty cash, temporary investment and
inventory, while current liabilities include short term loans, wages payable and trade
creditors. The current ratio is defined as current asset divided by current liabilities.
The ideal value for the current ratio is in between 1.5 to 2.
b) Quick ratio – This defines a company’s ability to meet its short term obligations while
making the best out of its liquid assets. The quick ratio is equal to the sum of cash,
cash equivalent, short term investment and current receivables divided by current
liabilities. A quick ratio equal to 1 is considered normal.
c) Assets turnover ratio – The asset turnover ratio tells you about efficiency with which a
business utilizes its assets.
d) Inventory turnover ratio – This ratio indicates the number of times a company sells
and replaces its stock during a given period of time. High inventory turnover indicates
that the company is selling its products with ease and those product are still in
demand.
e) Debt to equity ratio – This ratio is equal to the company’s total liabilities divided by
the owner’s equity. The debt to equity ratio helps investor or bankers to decide if they
want to lend money to the company.
3 Cash flow statement analysis –
a) Operating cash flow/ Net sales: This ratio, which is expressed as a percentage of a
company’s net operating cash flow to its net sales or revenue, tells us how many
dollars of cash are generated for every dollar of sales.
b) Free cash flow: FCF is often defined as the net operating cash flow minus capital
expenditures. It shows how efficient a company is at generating cash.
3 Profit & loss statement analysis:
a) Net sales – The net sales is the total revenue of a business after selling goods.
b) Cost of Goods sold – Cost of goods sold is the cost incurred by your business to sell
the product during a period of time. For a retailer, the cost of goods sold is the cost
paid to the vendor plus the cost of storage until the sale was made. For a
manufacturer, the cost of sales consists of the total cost of manufacturing the goods
sold such as labor costs, raw materials, and other components. The cost of goods
sold must be computed correctly because its accuracy will ensure the precision of
other calculations in the income statement.
c) Gross margin – The Gross margin is also called the Gross profit percentage. Gross

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profit is calculated by calculating the net sales and subtracting it from the cost of sales.
When the gross profit is higher than the SG&A and non-operating expenses combined, the
business is said to be profitable. To compute gross profit percentage or gross margin,
simply divide gross profit by net sales. Many businesses prefer to compute gross margin
so they can easily compare it to other businesses operating in the same industry. Another
use of the gross margin is to see whether the business was able to maintain its level of
profits over time. 
d) Selling, general and administrative expenses :The selling, general and administrative
expenses or SG&A are expenses that are incurred due to the seller’s primary
activities and these are a part of the income statement. For instance, SG&A expenses
include advertisements, utilities, salaries, insurance, and rent for retailers. You can
say that the selling, general and administrative expenses are those which are incurred
during the production phase and sale of the products for both manufacturers and
retailers. For the manufacturer, the selling, general, and administrative expenses and
cost of sales are grouped under the operating expenses. As for secondary activities
such as interest expense and so on, they are not included in the SG&A.
e) Operating income : The operating income is computed by subtracting the operating
expenses from the operating revenues. In this formula, the operating revenue refers
to how much is earned from the core activities such as the net sales. This applies to
both the retailers and manufacturers. For a service business, the operating revenues
are those which are associated with activities used to provide its services. The
operating expenses are those which are incurred when operations are being
maintained. For service businesses, the cost of providing the services along with
SG&A expenses are included in operating expenses. For manufacturers and retailers,
the SG&A expenses along with the cost of sales make up the operating expenses.
f) Net income : The net income is also called net earnings. This is the amount that you
get after subtracting the income tax expense. The income tax expense on your
income statement isn’t exactly what you pay as income tax that year. The income tax
expense is a part of the profit and loss statement and it is connected to what is
included in the statement. The actual income tax that your business pays will be
reflected in the statement of cash flows. Net income is also the same as the bottom
line as it signifies how well your business has done over a course of time.

500 Words (Max.)

Task Q3 : Understanding following approach and suggest some stock which follows the
approach

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A Benjamin Graham and Buffet approach

B Peter lynch approach

Task Q3 Solution :
A Buffett follows the Benjamin Graham school of value investing, which looks for securities
whose prices are unjustifiably low based on their intrinsic worth. Rather than focus on
supply and demand intricacies of the stock market, Buffett looks at companies as a whole .
Benjamin Graham’s method of value investing stresses that there are two types of
investors: long-term and short-term investors. Short term investors are speculators who
bet on fluctuations in the price of an asset, while long-term, value investors should think of
themselves as the owner of a company. If you are the owner of a company, you shouldn’t
care what the market thinks about its worth, as long as you have solid evidence that the
business is or will be sufficiently profitable. The 10 stocks that qualify under the Graham-
Buffett formula are Zensar Technologies, Coal India Ltd, NMDC Ltd, Cairn India Ltd, V.S.T.
Tillers Tractors Ltd, Tech Mahindra, Hexaware, Indraprastha Gas Ltd, Infosys Ltd

B Peter Lynch’s approach is strictly bottom-up, with selection from among companies with
which the investor is familiar, and then through fundamental analysis that emphasizes a
thorough understanding of the company, its prospects, its competitive environment, and
whether the stock can be purchased at a reasonable price.

500 Words (Max.)

Task Q4 : Understanding following types of stocks and suggest some stocks of each type

Task Q4 Solution :
Multibagger stocks : Stocks that give returns that are several times their costs are called
multibaggers. These are essentially stocks that are undervalued and have strong fundamentals, thus
presenting themselves as great investment options. Multibagger stock companies are strong on
corporate governance and have businesses that are scalable within a short span of time. Stocks-
Centum Electronics Limited, Tiger Logistics

Wide moat stocks : Wide moat stocks typically have significant competitive advantages
that allow them to fight off competition and maintain high profitability and returns on
capital. A moat can come in several forms

Value stocks : A value stock is a security trading at a lower price than what the company’s
performance may otherwise indicate. Investors in value stocks attempt to capitalize on
inefficiencies in the market, since the price of the underlying equity may not match the
company’s performance.

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Low P/E and high EPS stocks :

PE ratio is directly proportional to share price and inversely proportional to EPS, which means that a
higher share price will lead to higher PE ratio or vice-versa and a higher EPS will lead to lower PE
ratio or vice-versa.

Magic formula stocks : The magic formula is an investing strategy created by Joel Greenblatt
that focuses on finding the best price to buy certain companies in order to maximize returns
There are two ratios in the magic formula. The first is the earnings yield: EBIT/EV
The second ratio is return on capital, which is EBIT/(Net Fixed Assets + Working Capital)

Defensive stocks : A defensive stock is a stock that provides consistent dividends and stable
earnings regardless of the state of the overall stock market.
Well-established companies, such as Procter & Gamble, Johnson & Johnson, Philip Morris
International, and Coca-Cola, are considered defensive stocks.

Momentum stocks : Momentum is the speed or velocity of price changes in a stock,

security, or tradable instrument. Momentum shows the rate of change in price movement
over a period of time to help investors determine the strength of a trend. Stocks that tend to
move with the strength of momentum are called momentum stocks.

Bear cartel stocks : Short selling means that traders sell the shares of a particular company
without owning them. They can do this by borrowing shares from other shareholders or by
going short in the futures market. To create maximum impact on the share prices, the
traders create a group termed as a bear cartel.

Bull cartel stocks :

A bull is a stock market speculator who buys a holding in a stock in the expectation that in
the very short-term it will rise in value whereupon they will sell the stock to make a quick
profit on the transaction

500 Words (Max.)

Task Q5 : Understand and explain following discounting methdology

Task Q5 Solution :
CAGR : Compound Annual Growth Rate (CAGR) is the annual growth of your investments
over a specific period of time. In other words, it is a measure of how much you have earned
on your investments every year during a given interval. This is one of the most accurate
methods of calculating the rise or fall of your investment returns over time. Generally,

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people tend to look at returns in absolute terms. Imagine you have invested ₹1000 in a
particular mutual fund for a period of three years. At the end of the third year, the value of
your investment grew to ₹1,850. In absolute terms, your fund has generated a return of 85%
over the three years. You could say that your money has nearly doubled during this period.
However, this can be a bit misleading. It does not tell you how much your investment has
actually grown over each year. This is where CAGR becomes very useful.

Here, let's calculate the CAGR to understand its benefits.

CAGR = [(1850/1000)^(1/3)] - 1

OR

CAGR = 23%

In other words, your investment in the fund has given you an average return of 23% every
year over the last three years.

Essentially, CAGR lets you know the compounded returns you earn on an annual basis
irrespective of the individual yearly performances of the fund.

This is because your investments do not grow at the same rate every year. Some years, you
may have high returns while during other years, your returns may be lower. In fact, it is
possible to earn negative returns too.

CAGR provides you with the information of the average returns earned by a fund every year
in a certain time period. This is not a true rate of return. Rather, it is a representational figure
of how much your investment growth provided they grew at the same rate every year.

CAPM : The Capital Asset Pricing Model (CAPM) is a model that describes the relationship
between the expected return and risk of investing in a security. It shows that the expected
return on a security is equal to the risk-free return plus a risk premium, which is based on
the beta of that security. The CAPM formula is widely used in the finance industry. It is vital
in calculating the weighted average cost of capital (WACC), as CAPM computes the cost of
equity.

WACC is used extensively in financial modeling. It can be used to find the net present value
(NPV) of the future cash flows of an investment and to further calculate its enterprise value
and finally its equity value.

CRP : Country Risk Premium (CRP) is defined as the additional returns expected by the
investor to assume the risk of investing in foreign markets compared to the domestic
country.

Investing in foreign countries has become more common now than it was before. For

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example, United States investors might like to invest in the securities of Asian markets, e.g.,
China or India. That is as much alluring as risky it is. However, the geopolitical scenario is
not the same in different world regions. There are risks associated with every economy, and
a country’s risk premium measures this risk. Since the certainty of investment returns in
foreign markets is generally less than in domestic markets, It becomes vital here.
WACC : A firm’s Weighted Average Cost of Capital (WACC) represents its blended cost of
capital across all sources, including common shares, preferred shares, and debt. The cost
of each type of capital is weighted by its percentage of total capital and they are added
together. The Weighted Average Cost of Capital serves as the discount rate for calculating
the Net Present Value (NPV) of a business. It is also used to evaluate investment
opportunities, as it is considered to represent the firm’s opportunity cost. Thus, it is used as
a hurdle rate by companies.

A company will commonly use its WACC as a hurdle rate for evaluating mergers and
acquisitions (M&A), as well as for financial modeling of internal investments. If an
investment opportunity has a lower Internal Rate of Return (IRR) than its WACC, it should
buy back its own shares or pay out a dividend instead of investing in the project.

Buffet and Munger discounting approach:

Munger : Warren often talks about these discounted cash flows, but I've never seen him do
one. If it isn't perfectly obvious that it's going to work out well if you do the calculation, then
he tends to go on to the next idea.

Buffet : It's true. If [the value of a company] doesn't just scream out at you, it's too close.

Using the risk- free rate : In Buffett’s view, it is foolish to account for risk by fiddling with the
discount rate. For one, it only makes sense to “deal with things about which we are quite
certain.” Buffett is only interested in opportunities where the probability of actually getting
those future cash flows is as close to 100 percent as possible. In that case, it is appropriate
to discount the cash flow using a risk-free rate.

In order to calculate intrinsic value, you take those cash flows that you expect to be
generated and you discount them back to their present value – in our case, at the long-term
Treasury rate. And that discount rate doesn’t pay you as high a rate as it needs to. But you
can use the resulting present value figure that you get by discounting your cash flows back
at the long-term Treasury rate as a common yardstick just to have a standard of
measurement across all businesses.

500 Words (Max.)

Please add / delete blocks if needed.

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