INSTITUTE OF MANAGEMENT TECHNOLOGY

PGDM, PDGM (Finance) & PDGM (Marketing)

Term - I, AY 2022-2023
Course Handout

Course Code. : FIA 402

Course Title : Security Analysis
No. of Sessions : 20
Duration of session : 90 Min
Instructor(s) : Nikhil Rastogi
Consultation time : Anytime (with prior appointment)

1. Course Description

The course introduces the students to the concepts related to Investments for both equity and fixed-
income instruments. It would also expose the students to the markets where these instruments are
issued and traded. On the equity front, the concepts undertaken would be related to business analysis,
valuation. On the fixed income front, the concepts would be related to valuation and risk.

2. Course Outcomes

The objective of the course is to provide the conceptual foundation to undertake Investment
analysis for securities, both equity and debt.

CO1: Understand the role and structure of financial markets in an economy.

CO2: Analyze fixed-income securities in terms of their characteristics, pricing, yield and yield curve.
CO3: Analyze risk in fixed-income securities.
CO4: Understand concepts related to economic, industry, and company analysis.
CO5: Apply discounted cash flow method to value companies.
CO6: Apply the relative valuation method to value companies.

Mapping with Program Outcomes

(1- low level alignment, 2 – mid level alignment, 3 – high level alignment, blank- no alignment)

CO1 CO2 CO3 CO4 CO5 CO6

PO1: Functional Proficiency and Integration 3 3 3 2 3 3
PO 2: Analytical and critical thinking ability 3 3 2 3 3
PO 3: Leadership and interpersonal skills
PO 4: Communication Skills
PO 5: Ethical Responsibility
PO 6: Creativity and innovation skills

3. Text Book

Investments by Bodie, Kane, Marcus and Mohanty,8edition(BKMM), Mcgraw Hill, 10th Edition

4. Reference Books:
• Investment Valuation(AD) by Aswath Damodaran, 3rd edition, Wiley
• Business Analysis and Valuation using financial statements by Palepu, Healy and Bernard (PHB),
3rd edition, Cengage Learning.
• Chapters of book: Corporate Finance by Ross, Westerfield, Jaffe and Kakani, 8th Edition, Tata
Mcgraw Hill
• Bharti Pathak, “Indian Financial System”, 2010, 3/E. Pearson Education.

5. Pedagogy
The course will be delivered using lectures, cases, practitioners’ sessions and group presentations by
students. Course will be tracked using ERP for attendance and evaluation. Course hand-out, study
material / cases, preparation instructions etc. will be shared with students using ERP / emails /
classroom instructions.
6. Course Content and Session Plan
Course Module
Introduction to Investment
Environment
• CO1: Understand the role
and structure of financial
markets in an economy
Pricing of fixed-income
securities
• CO2: Analyze fixed-
income securities in terms • Compute forward rates from the term structure
of their characteristics,
pricing, yield and yield
curve
•
Bond Risk and its management
• CO3: Analyze risk in
fixed-income securities.
Economic, Industry and
Company Analysis
CO4: Understand concepts
related to economic, industry,
and company analysis.
Topic Level Outcomes Source Material Sessions
• Understand the Indian Investment environment Chapter 1 (BKMM) 2
• Understand the emerging trends in financial 1 – Investment Environment
markets 2 – Financial Markets
• Explain the various modes of raising capital in
financial markets.
• Describe different secondary market mechanism in
financial markets
• Describe characteristics of bonds Chapter 14 and 15 4
• Compute the price and yield of a bond (BKMM) 1 –Bond characteristics and Bond
• Compute realized and holding period return pricing concepts
• Understand term structure 2 – Yield to maturity, yield to call,
realized return, holding period return
3 – Class exercise
4-Term structure of Interest rates
• Understand and measure interest rate risk Chapter 16 (BKMM) 2
• Compute duration and convexity for a bond 1 – Bond Duration and Convexity
• Understand bond Immunization 2 – Bond Immunization
• Understand economic and Industry Analysis Chapter 17, 19 2
• Understand company analysis (BKMM) 1 – Economic Analysis and Industry
Case (Ashiana Housing Analysis
Ltd) 2 – Company Analysis
MID TERM EXAM
Discounted Cash flow valuation
CO5: Apply discounted cash
flow method to value
companies.
Relative Valuation
CO6: Apply the relative valuation
method to value companies.
• Compute equity value using DDM and H-model Chapter 18 (BKMM) 7
• Estimate beta, risk-premium, cost of capital and Chapter 1,2 (AD) 1 – Introduction to Valuation
cost of equity Chapter 7,8 (AD) 2 –Estimating risk parameters
• Compute stable earnings and Cash flows Chapter 9,10 (AD) 3 – Measuring earnings and
• Compute firm and equity value Cashflows
Chapter 16 (AD) 4-Measuring equity value
Ashiana Housing Ltd 5-Case Analysis
6-Practitioner Session
7-Student project presentation
• Estimate value multiples Chapter 18 (BKMM) 3
• Estimate earnings multiples Chapter 18 (AD) 1- Value multiples
2 – Equity Multiples
3 – Student project presentation
7. Assessment Scheme:

Component Weightage COs

Attainment
Class Participation 20
Group Project 20
Mid Term 20 CO1, CO2,
CO3
End Term Exam 40 CO1, CO2,
CO3, CO4,
CO5, CO6

Details about the assessment components and guidelines

i. Class Participation
The following rubrics will be used while assessing the students. The students are expected to
read the assigned reading material and the case (if any) thoroughly.

A B C D
Preparation (20%) Is well prepared for Is usually prepared for Is rarely prepared for Is almost never
class with assigned class with assigned the class prepared for the class
reading material reading material
Quality of Input in Voluntarily & frequently Offers consistently Occasionally offers Offers limited or no
Discussion (30%) offers creative or appropriate responses responses, nothing responses, or single
original responses/ and occasionally that really challenges word responses;
interpretations/ creative or original the class to think Is unable to connect
observations; responses; beyond the obvious; theory to the case; Is
Is consistently able to Is frequently able to Is weakly able to unable to relate
connect theory to the connect theory to the connect theory to theconcepts across cases
case; case; case; & to other related
Is consistently able to Is occasionally able to Is unable to relate disciplines
relate concepts across relate concepts across concepts across
cases & to other cases & to other cases & to other
related disciplines related disciplines related disciplines

Level of Involves others in class Responds to others’ Rarely raises any Never raises any
Engagement in discussions by asking questions but does not questions; questions;
Class (30%) questions and seeking raise any pertinent Is neither able to Shows no interest in
others’ responses; questions; build on others’ ideas class discussion and
Offers follow up Offers matter of fact nor able to appears distracted
responses, builds on responses and seldom comprehend or
other ideas; builds on others’ ideas;consolidate content
Enhances class learning Merely paraphrases discussed thus far
by consolidating ideas ideas already
expressed at different expressed
points of time during
the discussion
Behavior (20%) Demonstrates Can assist the leader in Is a mere spectator toGoes back to an issue
leadership by being able streamlining the class a wayward point and after it is already been
to bring the class back discussion once keeps away from discussed and settled;
on track during initiated by the leader conflict situations Raises unrelated
wayward discussions; and also assists the points and disrupts
Possesses the ability to leader in diffusing the flow of the class;
diffuse conflicting conflicts Does not give enough
situations opportunity to assess
class participation

ii. Group Project

Groups consisting of 5 to 6 students are formed at the beginning of the course. Evaluation
would be based on completing the project in accordance with the guidelines. Project
guidelines are provided in the Annexure.

iii. Interim & Comprehensive Exam (at the end of the trimester)

Mid-term exam will be conducted at the middle of the course and an end term exam covering
the entire syllabus will be for 2 hrs. The exam pattern may be objective (MCQs) or subjective
and / or analytical including problems and cases.

8. Class rules / Expectations from students

Copying of the language, structure, ideas, or thoughts of another and representing the same
as one's own original work amounts to plagiarism. Examples of plagiarism include: failing to
use quotation marks when directly quoting from a source; failing to document distinctive
ideas from a source; fabricating or inventing sources; and copying information from books and
the internet.
Students found guilty of plagiarism will not be evaluated. Instructor shall decide to give
warning or grade cut or refer such students to the disciplinary committee for further action.

9. AOL Evaluation (if any) NA

Project Guidelines
Your group has been given a task to complete Industry Analysis, Company Analysis and
valuation for any one company of your choice. Use the below mentioned points to write your
assessment of the industry and company in a word document for easy reading. This can be
supported by analysis in excel which can be referred to in the word document. If you really
have to put tables in the word document then place them as annexure at the end and not
anywhere else.
Content that is to be included in the word document

• About the industry, market size, key drivers, changes in the last few years, characteristic
(defensive, cyclical [high/ medium/low], structural), position in industry life cycle,
competitive intensity through porter’s model, etc.
• Business model of the company
• Return Analysis and its sustainability (in last 5 years): Profitability, efficiency, CFO
generation, common size analysis, Trend Analysis, Does the company enjoy any
competitive advantage (moat)?, Does it require high rate of re-investment, Is it
scalable?, Customer dependence? Vendor dependence? Product dependence?, Low
volume high margin or high volume low margin.
• Risk Analysis andcash flow analysis (in last 5 years) : Liquidity, leverage, coverage,
Where are the investments made?: Cash from Investments, What are the sources of
funds?: Cash from Financing in last 5 years
• How would you rate the business?:Worse, bad, good, excellent
• A word about promoters and their track record
• Valuation of the company (Kindly look at annexure to understand the process and carry
the valuation exercise in the same manner)
o Valuation band using different methods
o Major assumptions and the reasons for the same
o Sensitivity of valuation
• Recommendation to buy or not
o Where do you see the company in the next 5 years?
o What are the possible things that the company could do to improve its value
o Risks associated with your recommendation
Content that is to be included in the excel document
• All three Financial statements, ratio analysis, and assumptions.
• Valuation models (as per the attached project format). Steps to complete are indicated below.

Submission details (What you need to submit and by when?)

One word document not exceeding 5 pages (12 Font Times New Roman) and one excel file
which can include worksheets.
Each group would be required to present the report after submission. The date and time of
presentation will be intimated post the submission.

Last date of submission: ……(Date to be indicated), latest by 5:00pm. Each 30-min delay
would lead to reduction of 1 mark from the total so awarded.

Use below mentioned information and the excel template (titled Project_format) to
complete the excel part of the project.
The valuation should be done using the following methods:
1. Book Value, Dividend model,
2. Discounted Cash Flows (Starting with FCFF): Details given below
3. Relative Valuation: Details given below

Sources
Use capitaline for accessing the financial statements of the companies unless you are
working with unlisted companies. In case you are using annual reports then use them for
all years of data. All three financial Statements should be a part of the excel template that
needs to be submitted.

Valuation Using Book Value and Dividend Discount methods

• For dividend discounting use Gordon method. Also compute the present value of growth opportunities.

Valuation using DCF

The steps
Operating Income
• Use consolidated financial statements, if available.
• Compute the operating income of the company i.e EBIT by eliminating taxes, finance
charges, extraordinary income or loss, non-operating income, minority interest, etc
for last five years from Income before taxes. Also eliminate the R&D expense for the
year (if any) and amortize it over a period of 5 years and compute its average.
• Compute the product of operating income and marginal tax rate for the latest year to
arrive at post tax operating income also termed as Net Operating Income after taxes
(NOPAT).
• In case of operating earnings being negative, take the average of earnings for last 5
years and use this as operating income. Take a product of this and marginal tax rate to
compute the NOPAT.
• Estimate Net Re-investment each year for last 5 years. Net Re-
investment=Acquisitions +Capital Expenditure+ Additional non-cash working capital
required each year-Dep-Amortization.
• Estimate the Re-investment rate=Net Re-investment/Average NOPAT for last 5 years.
In case this number is above 90%, assume the re-investment to be 70% for next 5
years and 30% for the perpetuity.
• Compute the ROCE of the company for last 5 years and compute the average.
ROCE=NOPAT/(Debt+Equity)
 • Compute the growth=Re-investment rate*ROCE.
• Use a two-stage model in which you project cash flows for 5-years and in the second
stage you compute the terminal value.
• Use marginal tax rate to forecast 5-year cash-flows and marginal tax rate to determine
the terminal value.
• Use the growth rate to project the NOPAT for next 5 years. Assume the growth to be
5% from 6 year onwards.
• Compute the Re-investment required every year=NOPAT for that year*Re-
investment rate.
• Deduct the Re-investment from the NOPAT each year to get the FCFF for next 5
years.
• For the 6th year find the re-investment rate=growth rate(given as 5%)/Average ROCE.
• Compute the terminal value by using a growth rate of 5% and WACC on FCFF for
the 6th year.
• Compute the Present value of the flows to get the Value of the firm.

Arriving at Equity Value from firm Value

• Add back the cash to the firm value.
• In the current assets add back the financial assets shown in the balance sheet
(essentially you need to add the short term Investments made by the firm) a
• In the Non-Current assets add back the financial assets which are non-operating in
nature, investment in subsidiaries, joint ventures, etc
• Reduce the short-term and long term borrowings of the company and any other non-
operating liability you think is significant.
• Reduce the minority interest/non-controlling interest.
• This provides you the equity value of the company.
• Divide this by no. of shares to get the value per share
• Compare this with the market price as well as book value per share

Estimating WACC
• India has a sovereign rating of BAA3 so consider it’s default spread as 2.58%. Take the
10-year G-sec yield as 6.0%.
• Equity Risk Premium = Premium in developed markets + Country risk premium
• Assume the Premium in mature market as 5.23%, while take Country risk premium for
India=2.58%. Thus assume ERP=8.46%.
• For beta for a stock you can use the statistical beta as computed by using monthly
market and stock returns for last 5 years for 10companies in your industry and do a
weighted average with respect to sales. Un-lever this beta using the average D/E for the
10 stocks and re-lever it using the specific companies D/E. Assume the tax rate to be
the marginal tax rate=35%.
 • Use marginal tax rates to compute WACC for 5-years flows and marginal tax rate for
WACC from 6th year onwards.
• Cost of debt has to be determined either from the notes to accounts or if not given then
finding the yield for comparable companies.

Relative Valuation
• Compute the following ratio’s for last five years:
o P/B
o P/E
o EV/EBDITA
o Price/Sales
o Industry specific multiple (if any)
• Estimate the trailing P/E =Price/Total EPS for the latest 4 quarters
• Estimate the forward P/E=Price/Estimated EPS next year.