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A big part of the PE expansion that you're seeing today has got nothing to do with accelerated earnings expectation but with the fact that the WACC is going to go down significantly not just globally but also in India. Next time you try to reverse engineer on a DCF, here's a
Woah! That's a lot of complicated jargon. Allow me to break it down for you.
How does price move?
Earnings Expectation (EPS Growth) & PE Ratio.
While the former is a function of the company operates, the latter has a lot to do with market perception.
How does price move?
Earnings Expectation (EPS Growth) & PE Ratio.
While the former is a function of the company operates, the latter has a lot to do with market perception.
When you approach valuation for any of the 'high PE' stocks, a label that is often regarded as 'overvalued' or 'toxic' in the average retailer's mindset, doing a traditional DCF model to arrive at an intrinsic value.
What is DCF?
For starters, Discounted Cash Flow.
What is DCF?
For starters, Discounted Cash Flow.
DCF is a great tool to arrive at the intrinsic value of a company.
It uses three things in tandem - discount rate, free cash flows and future growth rates.
While one can tinker around with free cash flows and future growth rates, typically discount rates are stable.
It uses three things in tandem - discount rate, free cash flows and future growth rates.
While one can tinker around with free cash flows and future growth rates, typically discount rates are stable.
Discount Rate?
It's the Cost of Capital. WACC stands for Weighted Average Cost of Capital - varies from firm to firm and depends on the capital structure.
In layman's terms - "punji ka kharcha". If you have debt, it shows up on your PnL.
It's the Cost of Capital. WACC stands for Weighted Average Cost of Capital - varies from firm to firm and depends on the capital structure.
In layman's terms - "punji ka kharcha". If you have debt, it shows up on your PnL.
A lot of businesses that are equity heavy on their capital structure - not just corporates but SMEs too don't really look at Cost of Capital and account for it.
Coming back to DCF - traditionally WACC has been in the range of 11-13% in Corporate India.
Coming back to DCF - traditionally WACC has been in the range of 11-13% in Corporate India.
With the surge of liquidity in global markets and interest rates flirting with negative levels, we might see the interest rates keep diving down keeping WACC lower.
The counter argument to this is that this will be compensated with higher 'risk premium' and keep WACC high.
The counter argument to this is that this will be compensated with higher 'risk premium' and keep WACC high.
Either way, WACC plays a pivotal role in PE expansion and today it is too hard to ignore the fact that WACC is plummeting lower & lower (Titan raised a CP of 500 cr. at 3.3% annualized rates in November) keeping the buoyancy on the higher side.
Fin.
Thoughts?
Fin.
Thoughts?
