Fundamental Approach in Equity Investment


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Fundamental approach in equity investment is really very important for investors who want to invest in Share Market. Quantitative and Qualitative analysis of company's overall financial health can be done using this approach. This Project is done by Ms. Sheetal Bhilare under my Guidance

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Fundamental Approach in Equity Investment

  1. 1. Fundamental approach Welingkar Institute “Fundamental approach In Equity Investments”Name: Ms. Sheetal Surendra BhilareAdmission no. : DPGD/OC10/0477Specialization : Finance Prin. L.N.Welingkar Institute of Management Development & Research Submission year: Aug 2012 1
  2. 2. Fundamental approach Welingkar Institute ACKNOWLEDGEMENT Apart from the efforts of me, the success of any project depends largely on theencouragement and guidelines of many others. I take this opportunity to express my gratitude tothe people who have been instrumental in the successful completion of this project. I would like to show my greatest appreciation to Mr. Deepak Doddamani (FinancialConsultant) who guided me throughout the project.I would also like to thank Mr. Rahul Mahadik(Analyst) & Mr. Jitesh Bhilare (Manager) who gave their crucial inputs on the subject. I can’tsay thank you enough for their tremendous support and help. Without encouragement andguidance of them, this project would not have materialized.My thanks and appreciations also go to my colleague in developing the project and people whohave willingly helped me out with their abilities. Guidance and support received from all themembers who contributed and who are contributing to this project, was vital for the success ofthe project. I am grateful for their constant support and help.I would like to express my gratitude towards my parents & my friends for their kind co-operationand encouragement which help me in completion of this project.Above all I would like to thank my faculties at Welingkar Institute and our Director Shri. Mandalfor giving me a chance to work on the project of my interest and guiding me throughout thejourney. Ms. Sheetal Surendra Bhilare 2
  3. 3. Fundamental approach Welingkar Institute CERTIFICATE FROM THE GUIDEThis is to certify that the project work titled “Fundamental approach” in Equity InvestmentIs a bonafide work carried out by Ms. Sheetal Surendra Bhilare (Admission No.) DPGD/OC10/0477A candidate for the/Post Graduate Diploma examination of the Welingkar Institute ofManagementUnder my guidance and direction.SIGNATURE OF GUIDE: NAME: Deepak Doddamani DESIGNATION: Founder & CEO, Ashwamedh Financial Services ADDRESS: B-401, Sindhu Garden, Y.K.Nagar, Virar (W) STAMP/SEAL OF THE ORGANIZATION:DATE: 10.08.2012PLACE: Thane 3
  6. 6. Fundamental approach Welingkar InstituteINTRODUCTION 6
  7. 7. Fundamental approach Welingkar InstituteINTRODUCTION 1) INTRODUCTIONIndia is a developing country. Nowadays many people are interested to invest in financialmarkets especially on equities to get high returns, and to save tax in honest way. Equities areplaying a major role in contribution of capital to the business from the beginning.Since the introduction of shares concept, large numbers of investors are showing interest toinvest in stock market. Investment in Capital Markets is quite confusing. It is very important tounderstand that without gaining basic knowledge about ‘Share Market’ investors should not takerisk of investments in highly unpredictable and volatile market. Which stocks to buy? Which tohold? And which stocks to sell? The decision making process of investor is based on some solidfacts, some historical data, some predictions, some gut feelings and some tips from experts. Every one of us have some ‘financial goals’ and understanding of ‘necessity ofinvestments’. In an industry plagued with skepticism and a stock market increasingly difficult topredict and contend with, if one looks hard enough there may still be a genuine aid forthe Day Trader and Short Term Investor. The price of a security represents a consensus. It is theprice at which one person agrees to buy and another agrees to sell. Time plays crucial role ininvestment decisions. At what price to enter and at what price to exit from any company, stock isas important decision as which stocks to buy. Long position should be taken when we expectshare price to go high and in bear situation we short the equity. Human have some inherenttendencies like greed, fear, restlessness which also affect our BUY-SELL decisions.Diversification of portfolio is important to reduce risk. Hence sector wise understanding ofmarket is also crucial aspect of selecting stocks. Analysis of stocks can be classified asfundamental analysis and technical analysis. In this project fundamental study has be studied indetail.1.1) OBJECTIVES OF STUDY1.1.1) PRIMARY OBJECTIVESTo study the concept of Fundamental approach in equity investment1.1.2) SECONDARY OBJECTIVESTo study the concept of fundamental analysis and the steps involved in same.To do the fundamental analysis of some of the public sector banking stocks. 7
  8. 8. Fundamental approach Welingkar Institute1.2) NEED FOR STUDYValuation of equities is generally not understood properly by investors. Most of the investorshave herd mentality and rely completely on TV channels, Expert Tips for their investmentrelated decisions. They enter or exit from particular stock at wrong value and incur huge losses.To avoid such situations we need to understand the fundamentals of the companies of interest.This is valuable a company with good fundamentals performs better in long run.1.3) SCOPE OF THE STUDYThe analysis is made by taking into consideration three companies under banking sectors.The scope of the study is limited for a period of financial year 2011 -2012.The scope is limited to only the fundamental analysis of the chosen stocks.1.4) REASEARCH METHODOLOGYResearch is an art of systematic investigation. The primary purpose of research is discovering,interpretation and development of method.1.4.1) TYPE OF RESEARCHDescriptive research methodology is used for this study. Theoretical study followed byObservation and analysis is done on the selected stocks. Random sampling is used to select thestocks from public sector banking space.1.4.2) SOURCE OF DATANo primary source of data collection is used. Only Secondary source of data is used. TraderTerminal, Broker websites, Equity Research related websites, articles, books etc. used for theData collection.1.4.3) TOOLS FOR ANALYSISFundamental Analysis tools like:Ratio AnalysisTrend AnalysisValuation Methods used 8
  9. 9. Fundamental approach Welingkar InstituteBACKGROUND 9
  10. 10. Fundamental approach Welingkar InstituteBACKGROUND2) BACKGROUND2.1) MACRO ECONOMIC FACTORS IN INDIA2.1.1) MONETARY POLICY The RBI has raised the key policy rates for 13 times since March, 2010. The policy stance ofthe Reserve Bank of India was focused towards maintaining an interest rate environment tomoderate inflation and anchor inflation expectations during May-October 2011 and thereaftershifted towards responding to increasing downside risks to growth during the year. In line with the policy stance, Repo rate was hiked by a cumulative 175 bps during April-October 2011 to 8.5% and thereafter repo rate was kept unchanged till March 2012. As onMarch, 2012 under the Liquidity Adjustment Facility the Repo, Reverse Repo and MarginalStanding Facility rates were 8.5 %, 7.5 % and 9.5 %, respectively.The RBI also undertook certain proactive measures to address liquidity deficit situation such asOpen Market Operation (OMO) and reduction in CRR. RBI has reduced the CRR from 6% to4.75% in the year 2011-12 in two installments of 50 bps (Dec., 2011) and 75 bps (Jan., 2012).RBI slashed the Cash Reserve Ratio (CRR) by a cumulative 125 bps during January-March2012 in two steps to address tight liquidity conditions and spur credit growth.2.1.2) GDP GROWTH RATE Gross Domestic Product (GDP) growth rate provides an aggregated measure of changes invalue of the goods and services produced by an economy. Indias annual economic growth slumped in the January-March quarter to a nine-year low of5.3 %.This is the slowest GDP growth in last 9 years and much lower than 9.2% GDP growthrate in the same quarter last year. With this poor quarterly growth rate, GDP growth for FY2011-12 dropped to just 6.5% compared to 8.4% in the previous financial year of 2010-11.The main reason behind this dismal number was the dismal growth in manufacturing andagricultural sectors. 10
  11. 11. Fundamental approach Welingkar Institute1) In the fourth quarter, growth in manufacturing sector dropped to just -0.3% compared to0.6% in third quarter and 7.3% in the same quarter last year2) Growth in in agricultural sector dropped to just 1.7% compared to 2.8% in third quarter and7.5% in the same quarter last year.3) Mining sector growth stood at 4.3% in the fourth quarter compared to -2.8% growth in thethird quarter and 0.6% in the same quarter last year.4) Also the service sector stood at 10% in the fourth quarter as well, unchanged from the thirdquarter growth rate. With high inflation and steep depreciation of the domestic currency Indian economy is certainlyunder pressure.2.1.3) INFLATION Inflation rate refers to a general rise in prices measured against a standard level of purchasingpower. High inflation generally signifies that too much money is chasing too few goods,essentially implying that the demand for goods and services is much higher than the supply,resulting in a surge in the prices of goods and services. The average inflation of India in year 2012 till now is 8.38.The WPI based inflation rate inIndia was recorded at 7.55 percent in May of 2012.Among the major developing nations of theworld, India is right on top in the inflation charts, with an average inflation of close to 7 per centestimated during the seven years from 2005-12.Inflation continues to stay above the comfort zone despite the fact that the Reserve Bank of India(RBI) has been the most aggressive Asian central bank. But inflation in India has been a persistent problem, clearly the result of an overheatingeconomy. Massive investments to ease the supply side problem are needed to sort out theproblem of inflation2.1.4) BALANCE OF PAYMENTBalance of Payment: A record of all transactions made between one particular country and allother countries during a specified period of time. 11
  12. 12. Fundamental approach Welingkar InstituteBOP compares the dollar difference of the amount of exports and imports, including all financialexports and imports. A negative balance of payments means that more money is flowing out ofthe country than coming in, and vice versa.Indias BoP experienced a significant stress as trade deficit widened and capital inflows fell farshort of financing requirement resulting in significant drawdown of foreign exchange reserves.There is a possibility that we may not attract sufficient inflows to take care of current accountdeficit, which is likely to keep the BoP under pressure.The RBI notes in its press release of June 29 on developments in India’s balance of payment: “In2011-12, the CAD rose to US$ 78.2 billion (alarming 4.2 %of GDP) from US$ 46.0 billion (2.7per cent of GDP) in 2010-11, largely reflecting higher trade deficit on account of subduedexternal demand and relatively inelastic imports of POL and gold & silver.” India will remainexposed to slowdown in capital inflows — which triggers problems on the BoP front — unlessthe government initiates major policy action to cut its spending.The balance of payments could be in better shape in the current year if the current account deficitnarrows and net capital inflows remain robust, but one can never tell given the state of the globaleconomy.2.1.5) FINANCIAL MARKETA. Liquidity Conditions: During the year 2011-12, liquidity was throughout in deficit mode.Average net injection of liquidity under LAF increased from around 0.5 trillion during April-September 2011 to around 1.6 trillion during March 2012. The tight liquidity conditions were caused partly due to foreign exchange intervention of RBIto arrest sharp depreciation of rupee between end-July and mid-December of 2011 andincreasing divergence between deposits & credit growth and large build up of Government cashbalances with the Reserve Bank of India. To address tight liquidity conditions, RBI conducted Open Market Operations (OMOs) ofaround 1.3 trillion during November 2011 and March 2012 and lowered cash reserve ratio by125 bps during January-March 2012, injecting primary liquidity of around 0.8 trillion.B. Debt Market: The gross market borrowing programme of the Government was revised frominitially estimated 4.17 trillion (net 3.43 trillion) to 5.1 trillion (net 4.36 trillion) for 2011-12, onaccount of shortfall in other sources of financing fiscal deficit, particularly small savings andhigher levels of expenditure outgo of the Government. The benchmark 10 year G-Sec yields hardened during April-May 2011 on account of risingcommodity prices including crude oil, and aggravated inflation concerns and hike of interest rateby RBI. Thereafter, G-Sec yield moderated and remained range bound till September 2011 on 12
  13. 13. Fundamental approach Welingkar Instituteaccount of moderation in crude oil prices and flight to safety due to increased uncertainty aboutthe resolution of sovereign debt crisis in the Euro Zone. G-Sec yields hardened between end-September to November 2011 and reached to the high of 8.97% on account of increasedgovernment borrowing program for the second half of the year, policy rate hikes and persistentliquidity tightness. The G-Sec yields moderated during December 2011 to mid-February on account ofmoderation in inflation, OMOs conducted by RBI and on expectation of easing of policy rates byRBI. However, G-Sec yield hardened to 8.63% by end-March 2012 following Union Budgetannouncement of a higher than anticipated market borrowing program of the Government andconsequent issuance of auction calendar for dated securities.C. Forex Market: The currency market was under pressure during the period April-December2011 due to slowdown in capital inflows reflecting global uncertainty. Indian rupee depreciatedby 14.1% to 50.87/USD as at end-March 2012 over the closing of previous financial year, onaccount of trade imbalances and rising current account deficit. The Indian rupee depreciatedsharply by around 19% between end-July 2011 and mid-December 2011. To prevent sharp depreciation of Indian rupee, Reserve Bank of India took steep measuresincluding withdrawal of facility of rebooking of cancelled forward contracts, reducing netovernight open position limit of authorized dealers and curbing speculative activities in the forexmarket. In December 2011, RBI also decided to deregulate interest rates on Non-Resident(External) Rupee (NRE) Deposits and Ordinary Non-Resident (NRO) Deposit Accounts.D. Equity Market: Equity markets in India continued to slide and remained volatile during FY2011-12. BSE Sensex fell by 10.5% as at end-March 2012 over the closing of previous financialyear on account of various factors including high levels of inflation, interest rates, rising fiscaldeficit, rating downgrades of sovereign debts & financial institutions, flight to safety and fall inglobal indices.2.1.6) SERVICE SECTOR ANALYSISThe growth of service industry in India was hampered until 1990 by factors like excessivecontrol on interest rates, money rates etc. further there were controls on share prices by controllerof capital issues. There were no credit rating and research agencies. There was strict control onforeign exchange and restrictions on foreign investment. This has undergone a sea change aftereconomic liberalization in 1990. Service Industry in India has grown by more than 44% from 1991 to 2012. In the diagram belowSales growth of different sectors (compared to previous) has been plotted. Please note that the2012-2013 values used for plotting have been estimated in CMIE data. 13
  14. 14. Fundamental approach Welingkar InstituteToday the importance of financial service sector is gaining momentum all over the world. Inthese days of complex finance, people expect a financial service company to play a very dynamicrole not only as a provider of finance but also as a departmental store of finance. With theinjection of economic liberation policy into the economy and the opening of the economy tomultinationals, the free market concept has assumed much significance. As a result, the clients –both corporate and individuals are exposed to the phenomena of volatility and uncertainty andhence they expect the financial service company to innovate new services so as to meet theirvaried requirements. However, the financial service sector has to face many challenges in its attempt to fulfillthe ever growing financial demands of the economy. The economic liberalization has brought ina complete transformation in the Indian financial services industry. The present scenario is characterized by financial innovation and financial creativity. 14
  15. 15. Fundamental approach Welingkar Institute2.2) BANKING SECTOR IN INDIA Indian banking system has shown tremendous growth in past few decades. Right from theadaptation of plastic money to the era of internet banking the evolution of banks has been veryrapid and customer centric. The banks have tried to improve service in each and every aspect ofbanking from phone banking to net banking. Also various other investment related products etc.has been introduced by banks. The post-independence history of Indian banking system isglorious. In 1948, the Reserve Bank of India, Indias central banking authority, was nationalized,and it became an institution owned by the Government of India. In 1949, the BankingRegulation Act was enacted which empowered the Reserve Bank of India (RBI) "to regulate,control, and inspect the banks in India." The Banking Regulation Act also provided that no newbank or branch of an existing bank may be opened without a license from the RBI, and no twobanks could have common directors.In the early 1990s the then Narsimha Rao government embarked on a policy of liberalization andgave licenses to a small number of private banks, which came to be known as New Generationtech-savvy banks, which included banks such as Global Trust Bank (the first of such newgeneration banks to be set up) which later amalgamated with Oriental Bank of Commerce, UTIBank (now re-named as Axis Bank), ICICI Bank and HDFC Bank.The growing competition and the race to provide best services helped Indian Banking system tobe one of the best in the world. Even the recession of 2008 could not hit Indian Banks adversely.In 2012, when European Economies are facing crisis; Indian banks are alert enough to playdefensive mode. The fundamentally strong banks and very effective central bank of country hashelped Indian Economy to weather all the storms.2.2.1) EVOLUTION OF BANKING SECTOR IN INDIAThe Indian banking industry has its foundations in the 18th century, and has had a variedevolutionary experience since then. The initial banks in India were primarily traders’ banksengaged only in financing activities. Banking industry in the pre-independence era developedwith the Presidency Banks, which were transformed into the Imperial Bank of India andsubsequently into the State Bank of India. The initial days of the industry saw a majority privateownership and a highly volatile work environment. Major strides towards public ownership andaccountability were made with nationalization in 1969 and 1980 which transformed the face ofbanking in India. The industry in recent times has recognized the importance of private andforeign players in a competitive scenario and has moved towards greater liberalization. 15
  16. 16. Fundamental approach Welingkar InstituteThe entire evolution can be classified into four distinct phases:  Phase I- Pre-Nationalization Phase (prior to 1955)  Phase II- Era of Nationalization and Consolidation (1955-1990)  Phase III- Introduction of Indian Financial & Banking Sector Reforms and Partial Liberalization (1990-2004)  Phase IV- Period of Increased Liberalization (2004 onwards) 16
  17. 17. Fundamental approach Welingkar Institute2.2.2) STRUCTURE OF BANKING SECTOR IN INDIA Currently the Indian banking industry has a diverse structure. The present structure of theIndian banking industry has been analyzed on the basis of its organized status, business as wellas product segmentationThe Indian banking can be broadly categorized into nationalized (government owned),private banks and specialized banking institutions. The Reserve Bank of India acts ascentralized body monitoring any discrepancies and shortcoming in the system.The banking institutions in the organized sector, commercial banks are the oldest institutions,some of them having their genesis in the nineteenth century. Initially they were set up in largenumbers, mostly as corporate bodies with shareholding with private individuals. Banks operatingin India fall under different sub categories on the basis of their ownership and control overmanagement; 17
  18. 18. Fundamental approach Welingkar Institute I. Public Sector BanksPublic Sector Banks emerged in India in three stages. First the conversion of the then existingImperial Bank of India into State Bank of India in 1955, followed by the taking over of the sevenassociated banks as its subsidiary. Second the nationalization of 14 major commercial banks in1969 and last the nationalization of 6 more commercial Bank in 1980. Thus 27 banks constitutethe Public Sector Banks. II. New Private Sector Banks After the nationalization of the major banks in the private sector in 1969 and 1980, no new bankcould be setup in India for about two decades, though there was no legal bar to that effect. TheNarasimham Committee on financial sector reforms recommended the establishment of newbanks of India. RBI thereafter issued guidelines for setting up of new private sector banks inIndia in January 1993. These guidelines aim at ensuring that new banks are financially viableand technologically up to date from the start. They have to work in a professional manner, so asto improve the image of commercial banking system and to win the confidence of the public.Eight private sector banks have been established including banks sector by financiallyinstitutions like IDBI, ICICI, and UTI etc. III. Local Area BanksSuch Banks can be established as public limited companies in the private sector and can bepromoted by individuals, companies, trusts and societies. The minimum paid up capital of suchbanks would be 5 crores with promoters contribution at least Rs. 2 crores. They are to be set upin district towns and the area of their operations would be limited to a maximum of 3 districts.IV. Foreign Banks Foreign commercial banks are the branches in India of the joint stock banks incorporatedabroad. Many foreign banks like ABN AMRO, HSBC have really good business set up in India.Mostly services like NRE, NRO accounts, Forign Exchange etc. are provided by these banks.The commercial banking structure in India consists of: V. Scheduled Commercial Banks in India Non-scheduled and Scheduled Banks in India constitute those banks which have been includedin the Second Schedule of Reserve Bank of India (RBI) Act, 1934. RBI in turn includes onlythose banks in this schedule which satisfy the criteria laid down vide section42 (6) a) of the Act."Scheduled banks in India" means the State Bank of India constituted under the State Bank ofIndia Act, 1955 (23 of 1955), a subsidiary bank as defined in the State Bank of India (SubsidiaryBanks) Act, 1959 (38 of 1959), a corresponding new bank constituted under section 3 of theBanking Companies (Acquisition and Transfer of Undertakings) Act, 1970 (5 of 1970), or under 18
  19. 19. Fundamental approach Welingkar Institutesection 3 of the Banking Companies (Acquisition and Transfer of Undertakings) Act, 1980 (40of 1980), or any other bank being a bank included in the Second Schedule to the Reserve Bankof India Act, 1934 (2 of 1934), but does not include a co-operative bank"."Non-scheduled bank in India" means a banking company as defined in clause (c) of section 5 ofthe Banking Regulation Act, 1949 (10 of 1949), which is not a scheduled bank".VI. Cooperative Banks Besides the commercial banks, there exists in India another set of banking institutions calledcooperative credit institutions. These have been made in existence in India since long. Theyundertake the business of banking both in urban and rural areas on the principle of cooperation.They have served a useful role in spreading the banking habit throughout the country. Yet, therefinancial position is not sound and a majority of cooperative banks has yet to achieve financialviability on a sustainable basis. The cooperative banks have been set up under various Cooperative Societies Acts enacted byState Governments. Hence the State Governments regulate these banks. In 1966, need was felt toregulate their activities to ensure their soundness and to protect the interests of depositorsAccording to the RBI in March 2009, number of all Scheduled Commercial Banks (SCBs) was171 of which, 86 were Regional Rural Banks and the number of Non-Scheduled CommercialBanks including Local Area Banks stood at 5. Taking into account all banks in India, there areoverall 56,640 branches or offices, 893,356 employees and 27,088 ATMs. Public sector banksmade up a large chunk of the infrastructure, with 87.7 per cent of all offices, 82 per cent of staffand 60.3 per cent of all automated teller machines (ATMs).2.2.3) SWOT ANALYSIS OF BANKING SECTORSTRENGTH  Indian banks have compared favorably on growth, asset quality and profitability with other regional banks over the last few years.  Policy makers have made some notable changes in policy and regulation to help strengthen the sector. These changes include strengthening prudential norms, enhancing the payments system and integrating regulations between commercial and co-operative banks.  Bank lending has been a significant driver of GDP growth and employment. Extensive reach: the vast networking & growing number of branches & ATMs. Indian banking system has reached even to the remote corners of the country. 19
  20. 20. Fundamental approach Welingkar Institute  In terms of quality of assets and capital adequacy, Indian banks are considered to have clean, strong and transparent balance sheets relative to other banks in comparable economies in its region.WEAKNESS  Public Sector Banks need to fundamentally strengthen institutional skill levels especially in sales and marketing, service operations, risk management and the overall organizational performance ethic & strengthen human capital.  Old private sector banks also have the need to fundamentally strengthen skill levels.  The cost of intermediation remains high and bank penetration is limited to only a few customer segments and geographies.  Structural weaknesses such as a fragmented industry structure, restrictions on capital availability and deployment, lack of institutional support infrastructure, restrictive labour laws, weak corporate governance and ineffective regulations beyond Scheduled Commercial Banks (SCBs), unless industry utilities and service bureaus.  Refusal to dilute stake in PSU banks:  The government has refused to dilute its stake in PSU banks below 51% thus choking the headroom available to these banks for raining equity capital.  Impediments in sect oral reforms: Opposition from Left and resultant cautious approach from the North Block in terms of approving merger of PSU banks may hamper their growth prospects in the medium term.OPPORTUNITY  The market is seeing discontinuous growth driven by new products and services that include opportunities in credit cards, consumer finance and wealth management on the retail side, and in fee-based income and investment banking on the wholesale banking side. These require new skills in sales & marketing, credit and operations.  With increased interest in India, competition from foreign banks will only intensify.  Given the demographic shifts resulting from changes in age profile and household income, consumers will increasingly demand enhanced institutional capabilities and service levels from banks.  New private banks could reach the next level of their growth in the Indian banking sector by continuing to innovate and develop differentiated business models to profitably serve segments like the rural/low income and affluent/HNI segments; actively adopting acquisitions as a means to grow and reaching the next level of performance in their service platforms. Attracting, developing and retaining more leadership capacity 20
  21. 21. Fundamental approach Welingkar Institute  Foreign banks committed to making a play in India will need to adopt alternative approaches to win the “race for the customer” and build a value-creating customer franchise in advance of regulations potentially opening up post 2009.  Reach in rural India for the private sector and foreign banks.  Liberalization of ECB norms:  The government also liberalized the ECB norms to permit financial sector entities engaged in infrastructure funding to raise ECBs. This enabled banks and financial institutions, which were earlier not permitted to raise such funds, explore this route for raising cheaper funds in the overseas markets.  Hybrid capital:  In an attempt to relieve banks of their capital crunch, the RBI has allowed them to raise perpetual bonds and other hybrid capital securities to shore up their capital. If the new instruments find takers, it would help PSU banks, left with little headroom for raising equity. THREATS  Threat of stability of the system: failure of some weak banks has often threatened the stability of the system.  Rise in inflation figures which would lead to increase in interest rates.  Increase in the number of foreign players would pose a threat to the Public Sector Bank as well as the private players.2.2.4) VISION OF BANKING SECTOR IN INDIAThe banking scenario in India has already gained all the momentum, with the domestic andinternational banks gathering pace. The focus of all banks in India has shifted their approach tobecome cost-effective. To survive in the long run, it is essential to focus on cost saving. Tomaximize profits.2.2.5) RISK INVOLVED IN BANKING SECTOR IN INDIAThere are lots of different types of risks in banking. These include a credit risk, market risk,liquidity risk, operational risk, reputational risk, volatility risk, settlement risk, profit risk andsystemic risk. Each of these types has other risk types included in their category.Firstly we have a credit risk, which is the risk of an investor, who has lent money to theborrower, who does not make the return payments as originally agreed. There are a number ofcircumstances where a credit risk may arise such as a consumer or a business missing payments 21
  22. 22. Fundamental approach Welingkar Instituteon a mortgage or any other type of loan, a business or consumer who does not pay an invoicewhen it is due, a business who does pay an employees wages when they are due and manyothers.Secondly we have a market risk, which is the risk that an investment or trading portfolio willdecrease in value due to change in the market. This risk can also be related to a volatility riskwhich is the risk of a portfolio price change due to changes in the volatility of any risk factor.Thirdly, a liquidity risk is the risk that an asset or security cannot be traded quickly enough afterreceiving it so that the value drops.The two types of liquidity risk include asset liquidity and funding liquidity.An operational risk is the risk that comes from the execution of a companys business functions.This category can also include fraud risks, physical risks, legal risks and environmental risks.A reputation risk is, as suggested by the name, a risk which endangers the reputation of a wellrespected company.2.2.6) PERFORMANCE OF BANKING SECTOR IN INDIAThe banking industry in India seems to be unaffected from the global financial crises in Eurozone. India seems to be on the strong fundamental base and seems to be well insulated from thefinancial turbulence emerging from the western economies. The strong economic growth in thepast, low defaulter ratio, absence of complex financial products, regular intervention by centralbank, proactive adjustment of monetary policy and so called close banking culture has favoredthe banking industry in India in recent global financial turmoil.Money Supply: The growth in money supply which was 17% at the beginning of the financialyear 2011-12 moderated during the course of the year to about 13% by end-March 2012.Theslower growth in money supply was primarily on account of tightness in primary liquidity, lowercredit demand during most part of the year, slackening pace of economic activity anddeceleration in inflation from December 2011.Credit Growth: The Reserve bank of India scaled down the projection for non-food creditgrowth for the year 2011-12 from 18.0% to 16.0% in January 2012. The overall slowdown incredit growth was on account of rising interest rate environment, deteriorating asset quality ofpublic sector banks and risk aversion of banks as corporate profitability was adversely affected in2011-12.Interest rate & NPA: Interest rate on Savings Deposits was initially raised from 3.50% to 4.0%and later it was deregulated. One of the important developments for banks during FY2011-12 22
  23. 23. Fundamental approach Welingkar Institutewas the introduction of system-driven identification of NPAs resulting in increase in banks’NPAs and consequent provisioning, which impacted the profitability significantly. The increase in Savings Deposits rate and deregulation of Savings Deposits rate coupled withincrease in Term Deposits rate by banks as a result of rise in policy rates by RBI added to thecost pressure affecting NIM. Profitability of banks was severely impacted on account of lowerNIM and higher NPA provisioning. In spite of capital infusion by the Government, most of thePublic Sector Banks faced challenges on capital front during FY2011-12. Although there will no impact on the Indian banking system similar to that in west but thebanks in India will adopt for more of defensive approach in credit disbursal in coming period. Inorder to safe guard their interest; banks will follow stringent norms for credit disbursal. Therewill be more focus on analyzing borrower financial health rather than capability.2.3) COMPANY ANALYSIS2.3.1) UCO BANKIntroductionUCO Bank, formerly United Commercial Bank, established in 1943 in Kolkata is one of theoldest and major commercial bank of India.OverviewIt has 2206 service units spread across IndiaIt also operates in Hong Kong and SingaporeOperate Foreign Exchange dealings in more than 50 cities of India.HistoryGhanshyam Das Birla; one of the eminent Industrialist during Quit India Movement 1942,had conceived the Idea of Organizing a commercial bank with Indian Capital & Managementand The United Commercial Bank Limited was incorporated to give shape to that Idea.ManagementChairman & Managing Director: Shri. Arun KaulExecutive Director: Shri. N. R. Badrinarayanan, Shri. S. Chandrashekharan 23
  24. 24. Fundamental approach Welingkar InstituteVision StatementTo emerge as the most trusted, admired and sought after world class financial institution and tobe the most preferred destination for every customer and investor and a place of pride for itsemployees.Mission StatementTo be a top class bank to achieve sustained growth of business and profitability, fulfilling socio-economic obligations, excellence in customer service, through up gradation of skills of staff andtheir effective participation making use of state-of art technology.BrandingTagline: Honors your trustUSP: Commitment to CustomersSTPSegment: Individual and Industrial BankingTarget group: Urban SectorPositioning: Complete banking solutionsSWOT AnalysisStrength : 1) Foreign Exchange Operations 2) Diverse Asset Portfolio 3) High proportion of long term liabilities 4) Countrywide Presence 5) Overseas presence & profitable areas of Operations 6) Strong Capital Base 7) A large diversified client baseWeakness: 1) Retail Banking is lesser as compared to other banks 2) Weak Internet banking when compared to large banks of country 3) High non-performing assetsOpportunities: 1) Small enterprise banking 2) More penetration through rural banking 24
  25. 25. Fundamental approach Welingkar InstituteThreats: 1) Economic breakdown 2) Highly competitive environment 3) Stringent banking norms.Main Competitors 1) Indian Bank 2) Union Bank of India 3) Dena Bank2.3.2) UNION BANK OF INDIAIntroductionUnion Bank of India was established on 11th November 1919 with its headquarters in the city ofBombay now known as Mumbai.The Head Office building of the Bank in Mumbai was inaugurated by Mahatma Gandhi, theFather of the nation in the year 1921OverviewIt has 2800 branches spread across India.It has representative offices in Abu Dhabi, United Arab Emirates, and Shanghai, PeoplesRepublic of China, and a branch in Hong Kong.HistoryAt the time of Indias Independence in 1947, UBI still only had four branches - three in Mumbaiand one in Saurashtra, all concentrated in key trade centers. After Independence UBI acceleratedits growth and by the time the government nationalized it in 1969, it had grown to 240 branchesin 28 states. Shortly after nationalization, UBI merged in Belgaum Bank, a private sector bankestablished in 1930 that had itself merged in a bank in 1964, the Shri. Jadeya Shankarling Bank.Then in 1985 UBI merged in Miraj State Bank, which had been established in 1929. In 1999the Reserve Bank of India requested that UBI acquire Sikkim Bank in a rescue after extensiveirregularities had been discovered at the non-scheduled bank. Sikkim Bank had eight brancheslocated in the North-east, which was attractive to UBI. 25
  26. 26. Fundamental approach Welingkar InstituteManagementChairman & Managing Director: Shri. Debabrata SarkarExecutive Director: Shri. S.S. Mundra & Shri. Shirish Kumar JainVision StatementTo become the bank of first choice in our chosen areas by building beneficial and lastingrelationships with customers through a process of continuous improvementMission StatementTo be a customer centric organization known for its differentiated customer serviceTo offer a comprehensive range of products to meet all financial needs of customersTo be a top creator of shareholder wealth through focus on profitable growthTo be a young organization leveraging on technology & an experienced workforceTo be the most trusted brand, admired by all stakeholdersTo be a leader in the area of Financial InclusionBrandingTagline: Good people to bank withUSP: Innovative banking for social welfareSTPSegment: Individual and Industry bankingTarget: Individuals and corporatePositioning: Complete Banking solutionsSWOT AnalysisStrength: 1. financial products for agricultural sector 2. Products aligned to Government schemes 3. Emphasis on Customer Satisfaction 4. Online Telebanking facility is available to all It’s Core Banking Customers individual as well as corporate 26
  27. 27. Fundamental approach Welingkar InstituteWeakness: 1. Nominal International presence as compared to leading players 2. Advertising is lesser which leads to lower brand presenceOpportunities: 1. Small scale business banking 2. More global penetration through International banking 3. Acquisition of smaller local banksThreats: 1. Economic crisis 2. Highly competitive environment 3. Stringent Banking NormsMain Competitors 1. Indian bank 2. Corporation Bank 3. Dena bank2.3.3) BANK OF INDIAIntroductionBank of India is a state-owned commercial bank with headquarters in Mumbai. Government-owned since nationalization in 1969, It is Indias 4th largest PSU bank, after State Bank ofIndia, Punjab National Bank and Bank of Baroda.BoI is a founder member of SWIFT (Society for Worldwide Inter Bank FinancialTelecommunications), which facilitates provision of cost-effective financial processing andcommunication services. The Bank completed its first one hundred years of operations on 7September 2006OverviewIt has 4157 branches as on 21/04/2012, including 29 branches outside India, and about 1679ATMs.The branches in India are spread over all states/ union territories including specialized branches.These branches are controlled through 50 Zonal Offices. 27
  28. 28. Fundamental approach Welingkar InstituteThere are 29 branches/ offices (including five representative offices) and 3 Subsidiaries and 1joint venture abroad.HistoryBank of India was founded on 7th September, 1906 by a group of eminent businessmen fromMumbai. The Bank was under private ownership and control till July 1969 when it wasnationalized along with 13 other banks.Beginning with one office in Mumbai, with a paid-up capital of Rs.50 lakh and 50 employees,the Bank has made a rapid growth over the years and blossomed into a mighty institution with astrong national presence and sizable international operations.In business volume, the Bank occupies a premier position among the nationalized banks.ManagementChairman: Shri. Alok Kumar MishraExecutive Director: Shri. N. SheshadriVision Statement"To become the bank of choice for corporates, medium businesses and upmarket retail customersand to provide cost effective developmental banking for small business, mass market and ruralmarkets"Mission Statement"To provide superior, proactive banking services to niche markets globally, while providing cost-effective, responsive services to others in our role as a development bank, and in so doing, meetthe requirements of our stakeholders".BrandingTagline: Relationships beyond BankingUSP: A bank that gives something extra to its customersSTPSegment: For people who wish to invest their money in banksTarget group: Families, CorporatePositioning: Bank that delivers with a human touch 28
  29. 29. Fundamental approach Welingkar InstituteSWOT AnalysisStrength: 1. A public sector undertaking. Thus, has government backing 2. Increasing profits over the years 3. Pan India presence 4. Founder of SWIFT (Society for Worldwide Inter Bank Financial Telecommunications) 5. Large employee baseWeakness: 1.Brand valued not as big as SBI or BoB 2. The branches are not modernized in many cities as compared to leading banksOpportunities: 1.Venturing into rural areas 2. Installation of more ATMs 3. Use of mobile banking, internet banking on a large scaleThreats: 1. New banking licenses 2. Foreign players 3. DisinvestmentsMain Competitors 1. Bank of Maharashtra 2. Bank of Baroda 3. Central Bank 4. State Bank of India 5. ICICI Bank 29
  30. 30. Fundamental approach Welingkar InstituteMETHODOLOGY 30
  31. 31. Fundamental approach Welingkar InstituteMETHODOLOGY3) METHODOLOGY3.1) LITERATURE REVIEW3.1.1) INVESTMENTIn finance, investment is the commitment of funds by buying securities or other monetary orpaper (financial) assets in the money markets or capital markets, or in fairly liquid real assets,such as gold or collectibles. Valuation is the method for assessing whether a potential investmentis worth its price. Returns on investments will follow the risk-return spectrum.Types of financial investments include shares, other equity investment, and bonds (includingbonds denominated in foreign currencies). These financial assets are then expected to provideincome or positive future cash flows, and may increase or decrease in value giving the investorcapital gains or losses.Trades in contingent claims or derivative securities do not necessarily have future positiveexpected cash flows, and so are not considered assets, or strictly speaking, securities orinvestments. Nevertheless, since their cash flows are closely related to (or derived from) those ofspecific securities, they are often studied as or treated as investments.Investments are often made indirectly through intermediaries, such as banks, mutual funds,pension funds, insurance companies, collective investment schemes, and investment clubs.Though their legal and procedural details differ, an intermediary generally makes an investmentusing money from many individuals, each of whom receives a claim on the intermediary.Within personal finance, money used to purchase shares, put in a collective investment schemeor used to buy any asset where there is an element of capital risk is deemed an investment.Saving within personal finance refers to money put aside, normally on a regular basis. Thisdistinction is important, as investment risk can cause a capital loss when an investment isrealized, unlike saving(s) where the more limited risk is cash devaluing due to inflation. 31
  32. 32. Fundamental approach Welingkar Institute3.1.2) ANALYSIS OF STOCKSMany investors lose their lots of hard-earned money in share market due to lack of knowledgeabout the companies in which they invest. Its very important to pick proper stocks to avoid hugelosses in share market.Rather than completely depending on stock tips by experts; an investor should himself do somebasic research about the companies in which he/she wants to invest. Therefore its mandatory tohave a basic knowledge about the major methods of analysis of stocks; so as to pick up the rightstocks of the right sector at right price.The Two Basic Methodologies Are:A) Fundamental AnalysisB) Technical AnalysisA) Fundamental AnalysisFundamental analysis considers financial and economic data that may influence the viability of acompany. The basic of fundamental analysis lies in understanding the business of the companyproperly and the industry in which it operates.The fundamentals of a firm can be analyzed quantitatively as well as qualitatively. Fundamentalanalysis helps to decide investors whether to buy or sell a particular stock depending upon itscurrent market price and the intrinsic value.It is useful for investors in long run as they can buy shares when they are undervalued and sellthem when they are overpriced depending on the market movements.B) Technical AnalysisTechnical analysis involves a study of past market generated data like prices and volumes todetermine the future direction of price movement. As technical analysis focuses on price andvolume data it is extremely useful for traders and speculators who seek to predict short termprice movements.A basic concept of technical analysis involves study of trends, relationship between volume andtrend and determination of support and resistance levels.Investors can use single approach or can use combination of both depending up on his/her riskappetite, duration of financial goals and investment period. 32
  33. 33. Fundamental approach Welingkar Institute3.1.3) INTRODUCTION TO FUNDAMENTAL ANALYSIS Fundamental Analysis involves examining the economic, financial and other qualitative andquantitative factors related to a security in order to determine its intrinsic value. It attempts tostudy everything that can affect the securitys value, including macro economic factors (like theoverall economy and industry conditions) and individually specific factors (like the financialcondition and management of companies).Fundamental analysis, which is also known as quantitative analysis, involves delving into acompany’s financial statements (such as profit and loss account and balance sheet) in order tostudy various financial indicators (such as revenues, earnings, liabilities, expenses and assets).Such analysis is usually carried out by analysts, brokers and savvy investors.Many analysts and investors focus on a single number--net income (or earnings)--to evaluateperformance. When investors attempt to forecast the market value of a firm, they frequently relyon earnings. Many institutional investors, analysts and regulators believe earnings are not asrelevant as they once were.Due to nonrecurring events, disparities in measuring risk and managements ability to disguisefundamental earnings problems, other measures beyond net income can assist in predictingfuture firm earnings.3.1.4) TWO APPROACHES OF FUNDAMENTAL ANALYSISWhile carrying out fundamental analysis, investors can use either of the following: 1. Top-down approach: In this approach, an analyst investigates both international and national economic indicators, such as GDP growth rates, energy prices, inflation and interest rates. The search for the best security then trickles down to the analysis of total sales, price levels and foreign competition in a sector in order to identify the best business in the sector. 2. Bottom-up approach: In this approach, an analyst starts the search with specific businesses, irrespective of their industry/region. 33
  34. 34. Fundamental approach Welingkar Institute3.1.5) STEPS INVOLVED IN FUNDAMENTAL ANALYSISFundamental analysis is carried out with the aim of predicting the future performance of acompany. It is based on the theory that the market price of a security tends to move towards itsreal value or intrinsic value. Thus, the intrinsic value of a security being higher than thesecurity’s market value represents a time to buy. If the value of the security is lower than itsmarket price, investors should sell it.The steps involved in fundamental analysis are: Fundamental analysis uses E-I-A Analysisapproach (Economic ----->Industry ------>Company)Economic Analysis  Growth rate of GDP  Balance of trade  Foreign reserves and exchanges rates  Government Budget and Deficit  Price level and Inflation  Interest rates  Savings and investments  Agriculture and Industrial growth parameters  Infrastructure facilities and arrangements  SentimentsIndustry Analysis  Industry life cycle Analysis  Profit potential of industriesCompany Analysis  Ratio Analysis  Valuation of firm  Non financial analysis  Situational analysis  Financial analysis3.1.6) QUALITATIVE & QUANTITATIVE METHODS OF FUNDAMENTAL ANALYSIS:Qualitative methods concentrates on other aspects of a company, such as the level of integrityof the board of directors and the management, brand name recognition, patents, and competition.Quantitative methods are conducted through numerical and statistical equations taken from acompanys financial statement, including profits, revenues, assets and liabilities & also analysisof lots of ratios to examine a company’s financial condition. 34
  35. 35. Fundamental approach Welingkar Institute3.1.7) QUALITATIVE FACTORS OF THE INDUSTRYEach industry has differences in terms of its customer base, market share among firms, industry-wide growth, competition, regulation and business cyclesCustomersSome companies serve only a handful of customers, while others serve millions. In general, its ared flag (a negative) if a business relies on a small number of customers for a large portion of itssales because the loss of each customer could dramatically affect revenuesMarket ShareUnderstanding a companys present market share can tell volumes about the companys business.Market share is important because of economies of scale. When the firm is bigger than the rest ofits rivals, it is in a better position to absorb the high fixed costs of a capital-intensive industry.Industry GrowthOne way of examining a companys growth potential is to first examine whether the amount ofcustomers in the overall market will grow. This is crucial because without new customers, acompany has to steal market share in order to grow.CompetitionIndustries that have limited barriers to entry and a large number of competing firms create adifficult operating environment for firms. One of the biggest risks within a highly competitiveindustry is pricing power. This refers to the ability of a supplier to increase prices and pass thosecosts on to customers. Companies operating in industries with few alternatives have the ability topass on costs to their customers. Analysis of competition is important.RegulationCertain industries are heavily regulated due to the importance or severity of the industrysproducts and/or services. As important as some of these regulations are to the public, they candrastically affect the attractiveness of a company for investment purposes. In other industries,regulation can play a less direct role in affecting industry pricing. 35
  36. 36. Fundamental approach Welingkar Institute3.1.8) QUALITATIVE FACTORS OF THE COMPANY Qualitative factors may include effect on employee morale, schedules and other internalelements, relationships with and commitments to suppliers, effect on present and futurecustomers and long-term future effect on profitability.Business ModelEven before an investor looks at a companys financial statements or does any research, one ofthe most important questions that should be asked is: What exactly does the company do? This isreferred to as a companys business model – its how a company makes money.Competitive AdvantageAnother business consideration for investors is competitive advantage. A companys long-termsuccess is driven largely by its ability to maintain a competitive advantage - and keep it.ManagementA company relies upon management to steer it towards financial success. Some believe thatmanagement is the most important aspect for investing in a company.Corporate governanceGood corporate governance is a situation in which a company complies with all of itsgovernance policies and applicable government regulations in order to look out for the interestsof the companys investors and other stakeholders.TransparencyThis aspect of governance relates to the quality and timeliness of a companys financialdisclosures and operational happenings.Structure of the board of directorsThe combination of inside and outside directors attempts to provide an independent assessmentof managements performance, making sure that the interests of shareholders are represented. 36
  37. 37. Fundamental approach Welingkar Institute3.1.9) QUANTITATIVE ANALYSIS OF THE COMPANYFinancial statements are the medium by which a company discloses information concerning itsfinancial performance. Followers of fundamental analysis use the quantitative informationgleaned from financial statements to make investment decisions. It includes the three mostimportant financial statements - income statements, balance sheets and cash flow statements –Following is the brief introduction of each financial statements specific function, along withwhere they can be found. A) Income StatementThe income statement measures the performance of the company for specific period. The incomestatement represents the revenue, profit/loss, expenses of the company due to its businessoperations for certain time frame (quarterly or annually). When it comes to analyzingfundamentals, the income statement lets investors know how well the company’s business isperforming - or, basically, whether or not the company is making money. Generally speaking,companies ought to be able to bring in more money than they spend or they don’t stay inbusiness for long. Those companies with low expenses relative to revenue - or high profitsrelative to revenue - signal strong fundamentals to investors.RevenueRevenue, also commonly known as sales, is generally the most straight forward part of theincome statement. The revenue generated by company is the is the best parameter to measure itsprofitability. Company should increase it’s Sales to stay in profit.ProfitsProfit, most simply put, is equal to total revenue minus total expenses. However, there areseveral commonly used profit subcategories that tell investors how the company is performing.Gross profit is calculated as revenue minus cost of sales. Operating profit is equal to revenuesminus the cost of sales and SG & A. Net income generally represents the companys profit afterall expenses, including financial expenses, have been paid. B) The Balance SheetThe balance sheet highlights the financial condition of a company and is an integral part of thefinancial statements. The balance sheet, also known as the statement of financial condition,offers a snapshot of a companys health. It tells you how much a company owns (its assets), andhow much it owes (its liabilities). 37
  38. 38. Fundamental approach Welingkar InstituteAssets, liability and equity are the three main components of the balance sheet. Carefullyanalyzed, they can tell investors a lot about a companys fundamentals. Assets = Liabilities + Shareholder’s EquityAssets represent the resources that the business owns or controls at a given point in time. Thisincludes items such as cash, inventory, machinery and buildings. The other side of the equationrepresents the total value of the financing the company has used to acquire those assets.Financing comes as a result of liabilities or equity.Liabilities represent debt (which of course must be paid back), while equity represents the totalvalue of money that the owners have contributed to the business - including retained earnings,which is the profit made in previous years. C) Cash flow statementThe statement of cash flows represents a record of a business cash inflows and outflows over aperiod of time. Typically, a statement of cash flows focuses on the following cash-relatedactivities:  Operating Cash Flow (OCF): Cash generated from day-to-day business operations  Cash from investing (CFI): Cash used for investing in assets, as well as the proceeds from the sale of other businesses, equipment or long-term assets  Cash from financing (CFF): Cash paid or received from the issuing and borrowing of fundsThe cash flow statement is important because its very difficult for a business to manipulate itscash situation. Cash flow statement is a conservative measure of a companys performance.Cash Flow Statement Consideration:Savvy investors are attracted to companies that produce plenty of free cash flow (FCF). Freecash flow signals a companys ability to pay debt, pay dividends, buy back stock and facilitatethe growth of business. Free cash flow, which is essentially the excess cash produced by thecompany, can be returned to shareholders or invested in new growth opportunities withouthurting the existing operations. The most common method of calculating free cash flow is:Free Cash Flow = Net Income + Amortization/Depreciation – Changes in Working Capital – Capital Expenditures 38
  39. 39. Fundamental approach Welingkar InstituteRatio analysisFinancial ratios are tools for interpreting financial statements to provide a basis for valuingsecurities and appraising financial and management performance. A good financial analyst willbuild in financial ratio calculations extensively in a financial modeling exercise to enable robustanalysis financial ratios allow a financial analyst to: 1. Standardize information from financial statements across multiple financial years to allow comparison of a firm’s performance over time in a financial model. 2. Standardize information from financial statements from different companies to allow apples to apples comparison between firms of differing size in a financial model. 3. Measure key relationships by relating inputs (costs) with outputs (benefits) and facilitates comparison of these relationships over time and across firms in a financial model.In general, there are 4 kinds of financial ratios that a financial analyst will use most frequently,these are:Performance ratios  What return is the company making on its capital investment?  What are its profit margins?Working capital ratios  How quickly are debts paid?  How many times is inventory turned?Liquidity ratios  Can the company continue to pay its liabilities and debts?Solvency ratios (Longer term)  What is the level of debt in relation to other assets and to equity?  Is the level of interest payable out of profitsThe calculations produced by the valuation ratios are used to gain some understanding of thecompanys value. The ratios are compared on an absolute basis, in which there are thresholdvalues. 39
  40. 40. Fundamental approach Welingkar InstituteValuationA valuation method used to estimate the attractiveness of an investment opportunity. Discountedcash flow (DCF) analysis uses future free cash flow projections and discounts them (most oftenusing the weighted average cost of capital) to arrive at a present value, which is used to evaluatethe potential for investment. If the value arrived at through DCF analysis is higher than thecurrent cost of the investment, the opportunity may be a good one. DCF is a valuable tool usedby both analysts and everyday investors to estimate a companys value. Calculated as:DCF Analysis:There are many variations when it comes to what you can use for your cash flows and discountrate in a DCF analysis. Discounted cash flow tries to work out the value of a company today,based on projections of how much money its going to make in the future. DCF analysis says thata company is worth all of the cash that it could make available to investors in the future. It isdescribed as “discounted" cash flow because cash in the future is worth less than cash todayThere are several tried and true approaches to discounted cash flow analysis, including thedividend discount model (DDM) approach and the cash flow to firm approach. In this tutorial,we will use the free cash flow to equity approach commonly used by Wall Street analysts todetermine the "fair value" of companies.Using the DCF MethodThe forecast period is the time period for which the individual yearly cash flows are input to theDCF formula. Cash flows after the forecast period can only be represented by a fixed numbersuch as annual growth rates. There are no fixed rules for determining the duration of the forecastperiod.Cash flow is the difference between the amount of cash flowing in and out a company. Makesure to consistently include the different types of cash flows. 40
  41. 41. Fundamental approach Welingkar Institute3.1.10) USES OF FUNDAMENTAL ANALYSIS:Long-term TrendsFundamental 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 orconsumer trends can benefit patient investors who pick the right industry groups or companies.Value SpottingSound fundamental analysis will help identify companies that represent a good value. Some ofthe most legendary investors think long-term and value. Graham and Dodd, Warren Buffett andJohn Neff are seen as the champions of value investing. Fundamental analysis can help uncovercompanies with valuable assets, a strong balance sheet, stable earnings, and staying power.Business insightsOne of the most obvious, but less tangible, rewards of fundamental analysis is the developmentof a thorough understanding of the business. After such pains taking research and analysis, aninvestor will be familiar with the key revenue and profit drivers behind a company. Earnings andearnings expectations can be potent drivers of equity prices. Even some technicians will agree tothat. A good understanding can help investors avoid companies that are prone to shortfalls andidentify those that continue to deliver. In addition to understanding the business, fundamentalanalysis allows investors to develop an understanding of the key value drivers and companieswithin an industry. A stocks price is heavily influenced by its industry group.Knowing Whos Who Stocks move as a group. By understanding a companys business, investors can better positionthemselves to categorize stocks within their relevant industry group. Business can change rapidlyand with it the revenue mix of a company. This has happened with many of the pure internet 41
  42. 42. Fundamental approach Welingkar Instituteretailers, which were not really internet companies, but plain retailers. Knowing a companysbusiness and being able to place it in a group can make a huge difference in relative valuations3.1.11) CRITICISMS OF FUNDAMENTAL ANALYSIS The biggest criticisms of fundamental analysis come primarily from two groups:proponents of analysis and believers of the efficient market hypothesis.Technical analysis is the other major form of security analysis. We’re not going to get into toomuch detail on the subject. Put simply, technical analysts base their investments (or, moreprecisely, their trades) solely on the price and volume movements of securities.Using charts and a number of other tools, they trade on momentum, not caring about thefundamentals. While it is possible to use both techniques in combination, one of the basic tenetsof technical analysis is that the market discounts everything.Accordingly, all news about a company already is priced into a stock, and therefore a stock’sprice movements give more insight than the underlying fundamental factors of the businessitself.Followers of the efficient market hypothesis, however, are usually in disagreement with bothfundamental and technical analysts. The efficient market hypothesis contends that it is essentiallyimpossible to produce market-beating returns in the long run, through either fundamental ortechnical analysis.The rationale for this argument is that, since the market efficiently prices all stocks on anongoing basis, any opportunities for excess returns derived from fundamental(or technical)analysis would be almost immediately whittled away by the market’s many participants, makingit impossible for anyone to meaningfully outperform the market over the long term. Economists such as Burton Malkiel suggest that neither fundamental analysis nor technicalanalysis is useful in outperforming the market.Too many economic indicators and extensive macroeconomic data can confuse novice investors.The same set of information on macroeconomic indicators can have varied effects on the samecurrencies at different times. It is beneficial only for long-term investments. 42
  43. 43. Fundamental approach Welingkar Institute3.2) DATA & OBSERVATIONSPARAMETERS CONSIDERATIONCAR Capital adequacy ratio (Tier 1 and tier 2 capital/ Risk weighted assets) - RBI stipulates this at > 9%. Indian banks do have 12-14% mostlyFINANCIAL 12 times is the average in the financial institutionsLEVERAGENPA Nonperforming assets - Low NPA is good (Say gross <1.5% and net < 0.5%)PROVISIONAL Provisional expense/Gross NPA – greater the better (say greater than 100%)COVERAGE RATIONIM Net Interest Margin - 3% or more is considered good. 4% is excellent. At least 2% is needed for reasonable profitabilityREVENUE GROWTH Just like any other sector, banks also need good revenue growthROE 15 to 20% return on equity is considered good. It is easy to boost returns by leveraging up the balance sheet or under provisioning. So, ROE should be seen in context of RoA. RoE is based on the levers – net margins, Asset turnover and financial leverage.ROA Greater than 1.2% return on assets is considered good. RoA is based on the levers – net margins, Asset turnover and financial leverage.EFFICIENCY This is the Cost to income ratio – operating expenses (non-interestRATIO expenses) as a percentage of income. 43
  44. 44. Fundamental approach Welingkar InstituteP/B Price to book ratio is appropriate as book values are marked to market every quarter (acceptable value). Big banks trade at 2 to 4 times book value.The above table shows How to analyze Bank Stocks - Fundamental Analysis of BanksNotes: 1. In this research, though banks are not in close competition with one another, rather than doing individual analysis, we are doing relative analysis based on percentage performance metrics to make investment decision 2. Analysis of selected banks in this research is done in terms of qualitative factors & quantitative factors to make Buy or Sell decision. 3. In this analysis, we are not covering valuation part of it as it takes exhaustive exercise followed by very good understanding & experience required in the banking sector to make near to correct future assumptions. Simply, we will try to use PE multiple for relative analysis. 4. Analysis of financial statement is done to the basic level considering Profit and Loss account statements and Balance sheets of Banks from the Annual report of 2012. 5. However wherever comparison was required on YoY basis. Data from Annual report of 2011 is also used.3.2.1) QUALITATIVE ANALYSIS:We have already compared some of Qualitative factors about the banks under consideration inthe theory part of Background where we introduced banks under study. Apart from those some ofthe other Qualitative factors have been tabulated below. 44
  45. 45. Fundamental approach Welingkar Institute A) Share holding pattern: UCO BANK HOLDER’S NAME % Promoters 65.19 Financial Institutions 14.59 Foreign Institutions 3.57 General Public 12.98 Other Companies 2.82 NB Banks/Mutual funds 0.29 Foreign NRI’S 0.32 Central Government 0.00 Others 0.24 45
  46. 46. Fundamental approach Welingkar Institute Union Bank of India HOLDER’S NAME % Promoters 54.35 Financial Institutions 13.30 Foreign Institutions 9.47 General Public 8.76 Other Companies 7.77 NB Banks/Mutual funds 6.30 Foreign NRI’S 0.05 Central Government 0.00 Others 0.00 46
  47. 47. Fundamental approach Welingkar Institute Bank of India HOLDER’S NAME % Promoters 62.72 Financial Institutions 15.75 Foreign Institutions 14.98 General Public 5.29 Other Companies 0.54 NB Banks/Mutual funds 0.32 Foreign NRI’S 0.38 Central Government 0.00 Others 0.03 47
  48. 48. Fundamental approach Welingkar Institute B) MANAGEMENTMANAGEMENTDESINGNATION UCO BANK UNION BANK BANK OF INDIAChief Executive Officer Arun Kaul D Sarkar Alok K MishraCEO Arun Kaul D Sarkar Alok K MishraChairman and Managing Arun Kaul D Sarkar Alok K MishradirectorDirector Manoj Kumar Atual Agarwal Harvinder Singh GuptaCompany Secretary N Purna Chandra Monika Kalia Rajeev Bhatia Rao N Purna Chandra Monika Kalia Rajeev BhatiaSecretary RaoExecutive Director NR S S Mundra B P Sharma Badrinarayanan 48
  49. 49. Fundamental approach Welingkar InstituteDeputy General Manager P G Joshi A B Dhavale A K HandaDirector Ram Avatar M S Sriram Pramod Bhasin SharmaGM (Finance) & Chief R Prabaharam A K Thakur B B JoshiFinancial OfficerDirector Pravin Raval B M Sharma K K NairExecutive Director S Chandrasekharan Suresh Kumar Jain M S Raghavan SebastainLuckose B M Sharma Neeraj BhatiaDirector MorrisDirector Uma Shankar ChandanSinha P K Panda3.2.2) Quantitative AnalysisA) Profit & loss A/C UCO UNION BANK BANK OF INDIA BANKINCOMESales Turnover 14,974.98 22,383.89 30,352.92Excise Duty 0.00 0.00 0.00NET SALES 14,974.98 22,383.89 30,352.92Other income 0.00 0.00 0.00TOTAL INCOME 15,381.72 23,422.28 31,364.23EXPENDITUREManufacturing 0.00 0.00 0.00ExpensesMaterial Consumed 0.00 0.00 0.00Personal expenses 1,383.06 2,479.83 3,053.42 49
  50. 50. Fundamental approach Welingkar InstituteSelling expenses 24.01 67.40 64.00Expenses capitalised 0.00 0.00 0.00Provision made 394.15 975.24 654.41TOTAL 1,801.22 3,522.47 3,771.83EXPENDITUREOperating Profit 1,507.15 2,796.71 3,386.70EBITDA 1,913.88 3,835.10 4,398.01Depreciation 78.12 146.45 166.83Other Write Offs 0.00 0.00 0.00EBIT 1,835.76 3,688.65 4,231.18 UCO UNION BANK BANK OF INDIAPROFIT & LOSS BANKA/CInterest 10,730.27 14,235.39 20,167.23EBT 1,441.61 2,713.42 3,576.76Taxes 333.85 925.62 900.00Profit & loss for the 1,107.76 1,787.80 2,676.76yearNon Recurring items 0.91 -0.6 0.75Other Non cash 0.00 0.78 0.00adjustmentsOther Adjustments 0.00 -0.7 0.00REPORTED PAT 1,108.67 1,787.14 2,677.52KEY ITEMSPreference dividend 0.00 10.54 0.00 50
  51. 51. Fundamental approach Welingkar InstituteEquity Dividend 342.19 440.44 465.98Equity dividend (%) 51.47 80.00 81.10Share in Issue(lakhs) 6,647.12 5,505.49 5,737.80EPS – Annualize Rs. 16.68 32.46 46.66C) Balance sheetBALANE SHEET31Mar, 2012PARTICULARS UCO BANK UNION BANK OF BANK INDIALIABILITIESShare Capital 2,487.71 661.55 574.12Reserves & Surplus 5,631.60 12,437.68 19,151.38Net Worth 8,613.43 14,633.06 20,961.78Secured Loans 12,901.42 17,909.49 32,114.22Unsecured Loans 154,003.49 222,868.95 318,216.03TOTAL LIABILITIES 175,518.34 255,411.49 371,292.04ASSETS 51
  52. 52. Fundamental approach Welingkar InstituteGross Block 1,670.24 3,720.39 4,628.22(-) Acc. Depreciation 868.69 1,388.20 1,905.26Net Block 307.43 798.36 1,487.06Capital Work in Progress 0.00 3.61 48.64Investments. 45,771.50 62,363.56 86,753.59Inventories 0.00 0.00 0.00Sundry Debtors 0.00 0.00 0.00Cash And Bank 13,603.68 15,675.14 34,711.25Loans And Advances 120,321.67 181,836.94 260,299.04Total Current Assets 133,925.35 197,512.08 295,010.29BALANCE SHEET 31MARCH, 2012Current Liabilities 4,477.32 6,799.95 13,243.43Provisions 502.73 0.00 0.00Total Current Liabilities 4,980.05 6,799.95 13,243.43NET CURRENT ASSETS 128,945.30 190,712.14 281,766.86Misc. Expenses 0.00 0.00 0.00TOTAL ASSETS 175,518.34 255,411.49 371,292.04(A+B+C+D+E)D) Key FinancialsKEY FINANCIALS UCO UNION BANK OF(31 Mar, 2012) BANK BANK INDIANet Interest 2.77 3.21 2.52Margin(NIM)CASA Ratio 26.3 31.28 32.8 52
  53. 53. Fundamental approach Welingkar InstituteCredit to Deposit 76.30 72.56 74.85RatioCapital Adequacy 12.35 11.85 11.95RatioCost Income Ratio 42.24 43.15 48.49ROE 17.60 13.67 13.57ROA 0.69 0.79 0.72EPS Ratio 15.02 34.07 48.98Gross NPA’S 3.48 2.23 2.34Net NPA’S 1.96 0.91 1.473.2.3) RATIO ANALYSISRATIO ANALYSIS (31 Mar, 2012)(Rs. In Cr.) UCO BANK UNION BANK BANK OF OF INDIA INDIAPER SHARE RATIOSAdjusted E P S (Rs.) 16.67 32.28 46.65Adjusted Cash EPS (Rs.) 17.84 34.94 49.56Reported EPS (Rs.) 16.68 32.27 46.66Reported Cash EPS (Rs.) 17.85 34.93 49.57Dividend Per Share 3.00 8.00 7.00Operating Profit Per Share (Rs.) 22.67 50.80 59.02Book Value (Excl Rev Res) Per Share 94.72 235.91 343.79(Rs.)Book Value (Incl Rev Res) Per Share 102.16 263.77 365.33(Rs.) 53
  54. 54. Fundamental approach Welingkar InstituteNet Operating Income Per Share (Rs.) 225.29 406.57 529.00Free Reserves Per Share (Rs.) 55.40 97.35 193.48PROFITABILITY RATIOSOperating Margin (%) 10.06 12.49 11.15Adjusted Cash Margin (%) 7.70 8.25 9.06Adjusted Return On Net Worth (%) 17.59 13.68 13.56Reported Return On Net Worth (%) 17.60 13.67 13.57Return On long Term Funds (%) 149.91 129.38 120.36LEVERAGE RATIOSLong Term Debt / Equity 0.29 0.01 0.00Owners fund as % of total Source 3.88 5.50 5.83Fixed Assets Turnover Ratio 8.97 6.06 6.56LIQUIDITY RATIOSCurrent Ratio 0.96 0.58 0.87Current Ratio (Inc. ST Loans) 0.03 0.02 0.03Quick Ratio 25.73 28.45 20.79Fixed Assets Turnover Ratio 8.97 6.06 6.56PAYOUT RATIOSDividend payout Ratio (Net Profit) 35.87 28.90 17.40Dividend payout Ratio (Cash Profit) 33.51 26.70 16.38Earning Retention Ratio 64.10 71.11 82.60 54
  55. 55. Fundamental approach Welingkar InstituteCash Earnings Retention Ratio 66.47 73.31 83.62COVERAGE RATIOSAdjusted Cash Flow Time Total Debt 129.86 115.22 111.91Financial Charges Coverage Ratio 0.18 0.27 0.22Fin. Charges Cov.Ratio (Post Tax) 1.11 1.14 1.14COMPONENT RATIOSSelling Cost Component 0.16 0.30 0.21Exports as percent of Total Sales 0.00 0.00 0.00Long term assets / Total Assets 0.91 0.94 0.883.3) ANALYSIS AND INTERPRETATIONS3.3.1) ANALYSIS AND INTERPRETATION OF RATIO ANALYSISA) NPA (Non Performing Asset Ratio) The net non-performing asset to loans (advances) ratio is used as a Major of the overall qualityof the bank’s loan book. Net NPA’s are calculated by reducing cumulative valance of provisions outstanding at a period end form gross NPA’s. 55
  56. 56. Fundamental approach Welingkar InstituteB) ROE (Return on Equity Ratio) The return on equity measures the profitability of equity funds invested in the Firm. It is regarded as a very important measure it reflects the productivity of the Ownership (or risk) capital employed in the firm. 56
  57. 57. Fundamental approach Welingkar InstituteC) PER (Price Earnings Ratio) P/E Ratio indicates the price currently being paid in the market for each rupee Of EPS. It measures the expectation of the investors. A high P/E Ratio may indicate The possibility of increase in EPS. A low P/E Ratio may indicate that there is no possibility of any increase in EPS and the investors will be reluctant to invest in such Shares. 57
  58. 58. Fundamental approach Welingkar InstitutePEER COMPARISION 58
  59. 59. Fundamental approach Welingkar Institute3.3.2) ANALYSIS AND INTERPRETATION OF KEY FINANCIALS 59
  60. 60. Fundamental approach Welingkar InstituteUCO BANK  Increase in bank’s deposits by 10.6% in year ending March 2012 period  Increase in bank’s net interest income by 1.48% in the same period  Per branch business has increased by 1.93% to 113 crore in the same period  Per employee business increased by 9.77% to rs. 12.47 crore.  Book value per share increased by 15.91% to rs.94.72  Net NPA ratio is 1.96%  PE ratio is 3.97 and PB ratio is 74  Bank is focused on inclusive growth & realizes potential of small towns like Tier V & Tier VI centers and that can be seen from its expanding branches in such areas during fiscal year 2011-2012  A move towards being tech savvy bank has begun with basic facilities like E banking, mobile banking  Company’s NII (net interest income) margin decreased to 2.77% in 2011-12 from 3.07% in 2010-11 on account of increased interest outflowDETAILS FOR QE JUNE 2012 –  Bank reported QE June 2012 results with 24% jump in net profit over QE June 2011  Net interest income increased by 29% over QE June 2011  Net interest margin stood at 2.60% & aims to achieve 3% by this fiscal end  Net NPA increased to 2.33% over 2.15% in QE June 2011. This was mainly because of legacy issues the bank faces.UNION BANK 60