IIM INDORE

FINANCE PROJECT
MAHINDRA & MAHINDRA LTD.
GROUP 9 SECTION D
3/28/2010

ROHIT RAJ| JASPREET SINGH | UBAINTHARAN| V ARUN KUMAR | SANTOSH KUMAR

GUPTA
 TABLE OF CONTENTS

TABLE OF CONTENTS...........................................................................................2

....................................................................................3

CORPORATE GOVERNANCE ANALYSIS.................................................................4

STOCKHOLDER ANALYSIS....................................................................................7

Calculation of top down beta............................................................................8

Calculation of cost of debt..............................................................................11

WACC.............................................................................................................12

MEASURING INVESTMENT RETURNS..................................................................12

CAPITAL STRUCUTURE CHOICES........................................................................15

BENEFIT OF DEBT...........................................................................................15

COST OF DEBT ...............................................................................................16

OPTIMAL CAPITAL STRUCTURE..........................................................................19

OPTIMAL CAPITAL STRUCTRUE.......................................................................19

OPTIMAL CAPITAL STRUCTURE AT CONSTRAINED CREDIT RATING.................22

OPTIMAL CAPITAL STRUCTURE AT NORMALISED OPERATING INCOME...........22

RELATIVE ANALYSIS.......................................................................................23

MECHNANICS OF MOVING TO THE OPTIMAL.....................................................24

THE IMMEDIACY QUESTION............................................................................24

AFTER FINANCING MIX OR TAKE PROJECTS....................................................24

TAXATION ON DIVIDEND AND CAPITAL GAINS................................................25

COMPANY CASH FLOW ..................................................................................25

CHOICE OF MECHANICS OF MOVING TO THE OPTIMALS.................................25

2
 REGRESSION OF MARKET VALUE OF FIRM WITH MACROECONOMIC FACTORS
....................................................................................................................... 26

REGRESSION OF OPERATING INCOME OF THE FIRM WITH MACROECONOMIC

VARIABLES......................................................................................................26

DIVIDEND POLICY.............................................................................................27

Dividend declared in the past years...............................................................27

FRAMEWORK FOR ANALYZING DIVIDENDS........................................................31

.......................................................................................................................... 33

VALUATION....................................................................................................... 33

3
CORPORATE GOVERNANCE ANALYSIS
Is this a company where there is a separation between management and ownership? If so how
responsive management is to ownership?

No there is not separation between ownership and management of the company. The
control of the firm is in the hands of Mahindra family. Keshabh Mahindra the current chairman of
the company has been the Chairman since 1963. The company itself was founded by his Father K.C.
Mahindra in 1945. K.C Mahindra grandson, Anand Mahindra has also joined Mahindra group after
management education at Harvard Business School. He is presently managing director of Mahindra
and Mahindra ltd and also the vice chairman of the company. The company board of director
consists of the following people.

N
ame
1 K
es
habMahi
ndra
2 M
r.Ana
ndG.M ah
i
ndra
3 D
eepa
kSh
anti
lalP
ar
ek
Fig 1: Board of Directors 1

4 N
adir
Bu
4
r
j
orj
iG od
rej
5 M.
M .Mu
rugappa
n
 Although the ownership of the company is in the hands of family, clearly they have
strong/impartial board of Directors in place. Out of the 13 board of Directors many are from
different industries and many people have their independent reputation which lends credibility to the
board. For example Deepak Parekh has been chairman of HDFC pvt. Ltd. He has also been member
of various committee set up by government of India. Nadir B Godrej has been director of several
Godrej companies since 1977. A.S Ganguly has been Chairman of Hindustan Unilever Ltd. from
1980 to 1990.

How committed management can also be seen from compensation given to Board of
Directors. Mahindra and Mahindra has separate remuneration committee. The committee considers
the performance of the company, the current trends in the industry, the qualification of the
appointee, their experience, past performance and other relevant factors while deciding the
remuneration of the directors. It also keeps track of market trends in terms of compensation level
and practices in relevant industries through participation in structured surveys.

How firm interact with financial markets? How do markets get information on the firm?

The firm is listed in BSE 30 index of Bombay stock exchange. So there is lot of financial analysts
following the firm.

MeansofCommunication
• The half‐yearly/quarterly results are published in the newspapers (Mumbai edition) and
arebeingsenttoeachhouseholdofshareholders.
•Theresultsareusuallypublishedinthefollowingnewspapers:
i. The Economic Times
ii. Navbharat Times
iii. The Financial Express
iv. Business Standard
v. The Hindu Business Line
vi. Mint
• The annual/half‐yearly/quarterly results, other official news releases and presentations
aredisplayedonthewebsiteoftheCompany‐www.mahindra.com
•TheManagementDiscussionandAnalysisReportformspartoftheDirectors’Report.

How does the firm view it social obligations and manage its impact in society?

Mahindra and Mahindra ltd is one of the oldest companies of India. It was founded in 1945
before the partition. The firm enjoys a particularly good reputation as a corporate citizen. It has
acquired its reputation over the years by several initiatives that it takes in the following areas :

1 Health, Safety and Environmental Concern: Company has demonstrated strong commitment
and responsibility towards safety, occupational health and environment of the company which stems
from the vision of the company to sustain business growth with deep commitment towards safety,
occupational health and environment. The company has well established safety, health &

5
Environmental Policy (SH&E) which is revised under EMS & OHSMS Standard for all the
locations of the Automotive Sector. The SH&E Policy inter alia ensures safety of public,
employees, plant, equipment and business associates, ensuring compliance with all statutory rules
and regulations on a monthly basis, imparting training to its employees and business associates as
per the Training Calendar. All Plants of the
automotive sector have been certified with the amended standard for Environmental Management
System ISO 14001: 2004. Keeping Safety as a key factor, the Central Safety Committee of the
Mahindra Group was formed by the Mahindra Group Management Board. Mahindra Manufacturing
Excellence Award for Safety, Health & Environmental activities for the year 2008-09 has been
assessed by an external agency to confirm the rating of each Plant and the Company’s best safety
practices and systems are shared and implemented for horizontal deployment.

2) Corporate Social Responsibility: Keeping with the Company’s core value of Good Corporate
Citizenship, the Mahindra Group continues to display its social responsibility by directing 1% of
its profit after tax (“PAT”) to Corporate Social Responsibility (“CSR”) initiatives which would
benefit the socially and economically disadvantaged sections of society. Following are some of
major of corporate social responsibility initiatives of the company.

a) Mahindra Pride School: The Mahindra Pride School at Chinchwad near Pune, within plant
premises provides livelihood and skills training to youth from socially disadvantaged communities
(comprising mainly of Scheduled Caste/Scheduled Tribe youth). Since its establishment on 23rd
March, 2007, 1,202 students have been imparted with “employable” skills through a training course
of 3 months duration. The School provides training in four faculties i.e. Hospitality Craft, Customer
Relationship urban, rural and tribal parts of India by providing academic Management, Hardware
and Networking and Call Centre Training.

b) Mid Day Meal Kitchen: Company has established Mid Day Meal Kitchen at Govindgarh Block,
Jaipur District, and Rajasthan under a unique tripartite agreement between the Company,
Government of Rajasthan and Naandi Foundation with the prime objective being “to fight hunger in
Schools”. This centralised Mid Day Meal Kitchen ensures that high quality, hygienically prepared
Mid Day Meals containing a minimum of 450 calories are served to the children. The Company has
spent Rs.1 crore, for setting lower up of this central kitchen, which today feeds over 25,000 school
children from Class 1 to 5, covering 314 schools in two blocks of Chomu and Govindgarh, thereby
schooling and learning a complete experience.

c) Mahindra All India Talent Scholarships (MAITS): During the year 510 students all over India
were awarded were awarded the MAITS which enabled them to pursue job oriented diplomas at a
recognized government polytechnic in India. The scholarship is awarded for 3 year period. Till date
4260 students have been awarded the MAITS with majority of them belonging to very poor families
where average income of the families ranges from Rs 1500 to Rs 2000 per month.

3) Sustainability initiatives: In Oct 2008 first Mahindra group sustainability report was released
setting out its triple bottom line performance i.e performance towards the environmental, social as
well as economic aspects towards creating sustainable value towards all its stakeholders. This was

6
in accordance with latest guidelines of internationally accepted global reporting initiatives. The
report was essentially the first step which will take the company on a sustainability journey and
enabling it to make conscious plans, to reduce GHG emissions and waste as well as conserve water,
biodiversity and natural resources, as a part of its growth strategy.

STOCKHOLDER ANALYSIS
Shareholding Pattern of Mahindra and Mahindra

Share holding pattern as on : 31/12/2009

Face value 10

No. Of Shares % Holding

Promoter's holding
Indian Promoters 69063784 24.68
Foreign Promoters 7127304 2.55
Sub total 76191088 27.23

Non promoter's holding

Institutional investors
Banks Fin. Inst. and Insurance 59592156 21.3
FII's 64064714 22.89
Sub total 139908653 50

Other investors
Private Corporate Bodies 21273737 7.6
NRI's/OCB's/Foreign Others 1645395 0.59
Govt 221416 0.08
Others 16060852 5.74
Sub total 39201200 14.01

General public 24520124 8.76

Grand total 279821065 100
STOCKHOLDER PATTERN 1

Majority of the stock is held by institutional investors i.e Banks Fin Inst and Foreign Institutional
Investors. So Institutional investors are the marginal investors of the firm, they are also the average
investor of the Firm.

RISK AND RETURN

7
Calculation of top down beta
We have done regression of daily return of Mahindra stock price against daily return of BSE index.
Then we have determined the slope and coefficient of regression coefficient. The slope of the
regression line gives the beta of the stock. We have also determined arithmetic mean of daily
returns of Mahindra stock and stock of Mahindra counterparts.

Then using the formula given below we have determined r square of the regression. R-square of the
regression tells us how much variation of dependent variable can be explained by variation of
independent variables. In our case since independent variable is BSE 100 index return while
dependent variable is stock return of Mahindra, r square gives the portion of systematic risk in the
stock compared to total risk of the stock, while the rest is unsystematic risk of the stock. We have
used the following formulas for calculations

y = β0 + β1 x

Where β1 = beta of the stock

R-square = 1 – SSE/SSyy

Proceeding in this way we have found systematic risk and unsystematic risk of Mahindra and its
peers.

M&M Tata Motors Force Motors Eicher Motors Swaraj BSE 100
Mazda
Return (Average) 2.14% 1.93% 1.30% 1.83% 0.43% 1.95%
Risk (SD) 14.04% 15.84% 17.43% 13.92% 14.29% 9.44%
Sharpe Ratio 0.15237072 0.121964303 0.074396613 0.13142186 0.02989 0.20624
(Avg / SD)
Beta 0.93612631 1.337041402 1.036020498 0.873926498 0.53220 1

8
Rsquare 39.57% 63.48% 31.48% 35.11% 12.36% 100.00%
Systematic Risk 5.56% 10.05% 5.49% 4.89% 1.77% 9.44%
Unsystematic 8.49% 5.78% 11.94% 9.03% 12.52% 0.00%
Risk
Annual Returns 28.93% 25.81% 16.72% 24.30% 5.25% 26.03%
TOP DOWN BETA CALCULATION 1

RELATIVE COMPARISON OF TOP DOWN BETA 1

CALCULATION OF BOTTOM UP BETA

9
Bottom up beta is found by taking weighted average of beta of firms sectors. Whereas top down
beta is found by regressing firm’s stock return against market index. Hence bottom up beta is better
measure of the risk of the firm as it takes into account difference in risks in different business of the
firm.

After calculating top down beta and systematic and unsystematic risk for Mahindra we have found
bottom up beta for Mahindra and Mahindra and Mahindra. For calculating bottom up beta we have
identified the sectors in which Mahindra and Mahindra operates. Then we have identified the firms
in those sectors. Regression of their stock return was done against market return to find top down
beta for the stocks. Then using Debt to equity ratio of these stocks we have found unlevered beta for
the firms. Then using revenues of these firms we have found weighted unlevered beta for both the
sectors.

Equity Beta D/E Revenue Unlevered Weigted Unlevered

Beta Beta
Utility Vehicles:
Force Motors 1.0360205 0.88138 1237.88 0.654999146 0.011157197
3
Tata Motors 1.3370414 0.99041 71433.6 0.808528325 0.794755926
4 3
Sector Beta 0.805913123
Light Commercial
Vehicles:
Tata Motors 1.3370414 0.99041 71433.6 0.808528325 0.768482145
4 3
Eicher Motors 0.8739265 0.15005 1919.51 0.795177099 0.020309071
1
Force Motors 1.0360205 0.88138 1237.88 0.654999146 0.010788352
3
Swaraj Mazda 0.5322031 2.28232 565.07 0.212343222 0.001596528
3 5
Sector Beta 0.801176096

Tax Rate (M&M) 26%

M&M Debt 4,052.76
M&M Equity 30,975.1
0
D/E 0.130839
Financial Leverage 1.096821

Unlevered Beta Levered Beta Sales Weight

10
Utility Vehicles: 0.805913123 0.883942496 7,646.72 0.63827

Light Commercial 0.801176096 0.878746824 4,333.56 0.36172

Vehicles:

Weigted Unleverd Beta 0.8042

Weighted Levered Beta: 0.88206
Bottom Up Beta
BOTTOM UP BETA 1

After getting weighted unlevered beta for both the sectors of Mahindra and Mahindra we found
bottom up beta for Mahindra using its sales in both the sectors as weights. So finally we found
bottom up beta of Mahindra as 0.86.158. We used bottom up beta in our later calculations instead of
using bottom up beta because it is deemed to be more correct.

Calculation of cost of debt

Interst Coverage
>12.5
9.5 to 12.5
Yield on 20 year government bonds
Credit rating of the firm
Default spread
Calculating cost of debt
8.27%
AA
1%

7.5 to 9.5
Pre tax cost of debt for the firm 9.27%
Marginal tax rate 26%

11
Post tax cost of debt 6.9%
COST OF DEBT

We used credit rating given by Crisil for Mahindra as credit rating of Mahindra. CRISIL has
recently rated Mahindra as AA. Then we used the above table given by Ashwath Damodaran for
determining debt spread for this rating. Then for risk free rate we have taken yield on 20 year Indian
government bonds. This gives cost of debt of Mahindra as 9.27%.

WACC
Value %
M&M Debt 4,052.76 11.6%
M&M Equity (Market Value) 30,975.10 88.4%
Preferrence Capital 0 0%

Bottom Up Beta Top Down Beta

Long Term Short Term Long Short
Term Term
`
Cost of debt 9.3% 9.3% 9.3% 9.3%
Marginal Tax Rate 26% 26% 26% 26%

Rf 8.27% 5.12% 8.27% 5.12%

Rm 26.03% 26.03% 26.03% 26.03%
Rm-Rf 17.76% 20.91% 17.76% 20.91%
Beta 0.86 0.86 0.93 0.93612

Preferrence Capital 0% 0% 0% 0%
After-tax cost of debt 6.9% 6.9% 6.9% 6.9%
Cost of equity 23.6% 23.1% 24.9% 24.7%
Weighted average cost of capital 21.64% 21.3% 22.81% 22.6%
WACC

We have determined here cost of capital both for short term using both bottom up beta. For long
term we have taken yield on 20 year government bonds as risk free rate. And for short term we have
taken average yield on 364 days treasury bills

MEASURING INVESTMENT RETURNS

12
 NOPAT
  Total Shareholders Fu
Firm’s current return on capital employed is well below cost of capital employed for the firm. And

Equity EVA
its current return on equity is also well below the cost of equity. As a result firm has negative
economic value added presently.

Do you think accounting return is a fair measure of returns that a firm is making on existing
projects? If not how would you modify the return to make it a fairer measure?

Equity EVA as %of Equi

Though ROIC is not perfect. It is subject to the vagaries of asset values shown on the
balance sheet. These depend on depreciation policies and the age of a company's assets. ROIC does
nonetheless give investors a useful way of assessing how well a company has been run, besides that
market value of equity is considerably different from book value of equity, so real return for
shareholders can be considerably different from ROE. To get better idea of company’s return we

Capital Invested
can use market value of debt and equity.

EVA
EVA as %of Capital
ROE 13
We have plotted bar graph of ROC and ROE of the firm over 7 years. On the basis of that we have
predicted Return on capital employed for future years. The trend line for return on capital is

Y = -0.025x + 0.301

This shows that return on capital of the firm is decreasing with time
The trend line for return on equity is Y = -0.026x + 0.337
This shows that return on equity is decreasing with time.

14
Then we have also drawn the bar graph for equity EVA as % of equity and EVA as % of capital
versus timeline. We can see that firm equity EVA was positive 2 years back consistently for 5
years but now it has turned negative, whereas firm EVA as % of capital has been consistently
negative over the years. The trend line for equity EVA as % of equity is

Y = -0.025x + 0.085

The trend line for EVA as % of capital is

Y = 0.018x +0.013

Firm EVA as % of capital is improving over time, but firm equity EVA as % of equity is worsening
over time. This is happening because ratio of book value of equity to book value of debt has
changed in this period.

Why might a comparison based upon economic value added lead you to different conclusions
than one based upon the return differences in the earlier section?

Economic value added also takes into account cost of capital employed. For equity EVA we use
cost of equity and for EVA for capital we use cost of capital. Both cost of equity and cost of capital
are very different from each other. So comparison of ROC and ROE with EVA can yield contrasting
results.

CAPITAL STRUCUTURE CHOICES

BENEFIT OF DEBT
CURRENT FINANCING MIX :

Mahindra and Mahindra has 3 times more unsecured loans compared to secured loans.

BENEFITS OF DEBT: Firms faces following tax advantages

1) Firm has depreciation by book value ratio of 0.06 which means there is less depreciation to
reduce tax bite.

2) Firms has made investments in tax free US 64 bonds

3) Provision for current tax, fringe benefit tax and deferred tax for the current year as
percentage of profit before tax has been lower due to higher tax free income

4) Increased profit in new plant eligible for deduction under section 80ic of Income Tax Act,
1961

15
MARGINAL TAX STRUCTURE

Company Marginal tax

Mahindra 0.26
Maruti 0.02
Force 0.29
Swaraz 0.34
Eicher 0.13
tata motors 0.15

Mahindra and Mahindra faces marginal tax rate of 26 % which is high compared to other firms in
the industry so it gets more tax advantage from debt

COST OF DEBT
Market Value of Equity 30975.10
MarginalTax Rate 0.26
Book Value of Firm 5245.84
Debt/Equity Ratio 0.13
CurrentDepreciation 292.00
CurrentDepreciation/BVofFirm 0.06
EBITDA 1383.00
MarketValueof Debt 4026.00
MarketValueofFirm 35001.10
EBITDA/MVofFirm 0.04
FreeCashFlow 940.41
ICR 9.76

Ratio of EBITDA to Market Value of firm is also very low which reduces the capability of the firm
to handle debt

Free Cash Flow

Here we calculate using the firm value and EBITDA.

Year Mar Mar Mar Mar Mar

09(12) 08(12) 07(12) 06(12) 05(12)
EBIT 1,462.10 1,733.61 1,667.40 1,326.75 928.61
EBIT(1-T) 1081.954 1282.8714 1233.876 981.795 687.1714
Net block 2567.6 1,710.96 1,541.45 1,348.98 1,340.95
Cap exp 856.64 169.51 192.47 8.03 7.22

16
NWC 347.64 1062.74 550.67 375.83 -7.55
Change in -715.1 512.07 174.84 383.38 -349.14
NWC
FCFF 940.414 601.2914 866.566 590.385 1029.0914
FCFF

FCFF Diagram

17
Fig: Free Cash Flow Diagram

Average FCFF 805.54956

STD FCFF 199.93721
Firm has very stable positive cash flows over the last 5 years which increases its ability to take debt

INTANGIBLE ASSET

Company has following intangible assets in its books

1) Technical knowhow: The expenditure incurred is amortised over the estimated period of
benefit, not exceeding six years commencing with the year of purchase of the technology.

2) Development expenditure: The expenditure incurred on technical services and other

project/product related expenses are amortised over the estimated period of benefit, not
exceeding five years.

3) Software expenditure: The expenditure incurred is amortised over three financial years
equally commencing from the year in which the expenditure is incurred.

So the company has much less proportion of intangible assets as compared to tangible assets in its
books. As Mahindra owns most of its expertise in process rather than huge technical niche,
bondholders can easily observe what equity investors are doing.

OPERATING INCOME

OPERATING INCOME FOR LAST 5 YEARS (in crores)

Mean 1423.69
Standard Deviation 320.71

Firms operating income have been very volatile in last 5 years. This increases the cost of debt for
the firm.

BANKRUPTCY RISK AGENCY COST FUTURE

FLEXIBILITY

Mahindra and Mahindra Mahindra and Mahindra Mahindra group is Mahindra and Mahindra
is part of very large owned by family. So ltd. is the flagship
conglomerate Mahindra increase in debt will company of Mahindra
group which has ensure that firm is not group. It is presently in
operations in large making negative NPV automotive industry is
number of businesses. decisions. cut throat. Lot of foreign
Hence bankruptcy risk companies are
is small introducing new models
in new future. So M

18
 &M ltd. needs
flexibility to make
future investments.

OPTIMAL CAPITAL STRUCTURE

CURRENTT CAPITAL STRUCTURE OF THE FIRM

Risk Premium 17.76% Cost of Equity 0.23569 D/D+E 0.11570

Risk Free Rate 8.27% Cost of Debt 0.0927 E/D+E 0.88429
Beta 0.86 EBITDA 1383.00
Market Value of 30,975.1 Depreciation 292.00
Equity EBIT 1091.00
Market Value of 4,052.76 WACC 21.64%
firm
Debt
Total Market Value 35,027.8

OPTIMAL CAPITAL STRUCTRUE

Debt Ke Interest credit Kd wacc MV-firm
coverage rating
ratio
0.0000 0.119693 - 0 0.119693 34224.7
0.0500 0.121056 25.24873 AAA 0.0902 0.118341 34615.85
0.1000 0.12257 12.62437 AAA 0.0902 0.116988 35016.05
0.1500 0.124263 8.416244 A+ 0.0977 0.116468 35172.38
0.2000 0.126167 6.312183 A 0.1007 0.115837 35363.98
0.2500 0.128325 5.049746 A- 0.1027 0.115243 35546.25
0.3000 0.130791 4.208122 BBB 0.1052 0.114908 35649.88
0.3500 0.133637 3.606962 BBB 0.1052 0.114111 35877.03
0.4000 0.136957 3.156091 BB 0.1177 0.117013 35008.56
0.4500 0.14088 2.805415 B+ 0.1302 0.120841 33899.7
0.5000 0.145588 2.524873 B+ 0.1302 0.120968 33863.97
0.5500 0.151343 2.295339 B 0.1477 0.128218 31949.16
0.6000 0.158536 2.104061 B 0.1477 0.128993 31757.2
0.6500 0.167784 1.94221 B- 0.1627 0.136983 29904.86
0.7000 0.180115 1.803481 B- 0.1627 0.138313 29617.3
0.7500 0.197379 1.683249 B- 0.1627 0.139643 29335.21
0.8000 0.223274 1.578046 B- 0.1627 0.140973 29058.45
0.8500 0.266433 1.485219 CCC 0.1827 0.154883 26448.72

19
 0.9000 0.35275 1.402707 CCC 0.1827 0.156953 26099.9
0.9500 0.611703 1.328881 CCC 0.1827 0.159023 25760.16

We have plotted WACC, Ke and Kd against debt ratio. Both cost of debt and cost of equity
increases with debt ratio. While WACC initially decreases with increase in debt to equity ratio then
it starts decreasing. Lowest WACC is attained at D/E ratio of 0.5385 or debt to value ratio of 0.35.
Optimal WACC is 11.41%.

WACC VS D/V

20
Then we have found what will happen to firm value when firm moves to the optimal with the help
of following formula
New Value of firm = Old value of firm *( 1 + ( Old WACC- New WACC)/Old WACC)

Then we have plotted the firm value against debt to value ratio. Optimal firm value comes out to be
35877.03 crores.

MARKET VALUE OF FIRM VS D/V

So we get the following final results

At Optimal D/E ratio 0.5385

D/V 0.35
WACC 11.41%
Market Value of firm 35877.89135
Market Value of debt 12557.26197

21
 Market Value of equity 23320.62938
No. of Shares 279,821,265.00
Share price 833.4116201

OPTIMAL CAPITAL STRUCTURE AT CONSTRAINED CREDIT

RATING
The company credit rating at optimal debt to equity ratio is BBB. If we constrain the credit rating of
the firm at AAA, then optimal debt to equity ratio of the firm is 0.1111.

Constrained Credit rating A

Optimal D/E ratio 0.25
Market Value of firm 35360
Market Value of debt 7072
Market Value of equity 28288
No. of Shares 279,821,265.0
Share price 1010.93

OPTIMAL CAPITAL STRUCTURE AT NORMALISED OPERATING

INCOME
If we normalize the operating income of the firm we get the following

2002.0 2003.0 2004.0 2005.0 2006.0 2007.0 2008.0 2009.0

Operating Income 344.9 483.2 692.4 928.6 1326.8 1667.4 1733.6 1462.1
Net Sales 3934.5 4498.3 5887.1 7649.5 9273.1 11232. 12894. 14713.0
0 9
Sales as % of This yr 26.7 30.6 40.0 52.0 63.0 76.3 87.6 100.0
Sales
Standardized 1289.6 1580.6 1730.4 1786.1 2105.1 2184.2 1978.0 1462.1
Operating Income
Normalized Income 1764.5

Using this normalized operating income for the firm we get the following result for the capital
structure of the firm

At Optimal D/V ratio 40%

D/E 0.6667
WACC 11.33%
Market Value of firm 36151.68956
Market Value of debt 14460.67582
Market Value of equity 21691.01374

22
Nor of shares 279,821,265.0
0
Share Price 775.1738859

RELATIVE ANALYSIS
We have found debt and equity of firms in the same sector as Mahindra and Mahindra and find the
values of factors affecting debt capacity of the firm for them and Mahindra and Mahindra and
Mahindra

Company debt/mv effective tax rate Average OI Std (OI) EBITDA/mv

Mahindra 0.12 0.29 1423.69 320.71 0.05
Maruti 0.02 0.02 2446.18 516.24 0.06
Force 0.47 0.29 43.72 91.82 0.27
Swaraz 0.70 0.34 39.83 9.61 0.09
Eicher 0.13 0.13 179.70 70.67 0.20
tata motors 0.50 0.15 3516.94 988.19 0.04

Then we have done regression with ratio of debt to market value of firm as dependent variable. And
we have taken effective tax rate of the firms, their mean operating income, standard deviation of
their operating income and ebitda to market value of the firm as independent variables.

SUMMARY OUTPUT
Regression Statistics
Multiple R 0.86484
R Square 0.74794
Adjusted R -0.2603
Square
Standard Error 0.29007
Observations 6

ANOVA
df SS MS F Significance
F
Regression 4.000 0.250 0.062 0.742 0.690
Residual 1.000 0.084 0.084
Total 5.000 0.334

Coefficients Standard t Stat P- Lower 95% Upper Lower Upper

Error value 95% 95.0% 95.0%
Intercept -0.26 1.02 -0.25 0.84 -13.25 12.73 -13.25 12.73
effective tax 2.83 2.31 1.23 0.44 -26.53 32.20 -26.53 32.20
rate
Average OI 0.00 0.00 0.55 0.68 -0.01 0.01 -0.01 0.01

23
Std (OI) 0.00 0.00 -0.62 0.65 -0.03 0.03 -0.03 0.03
EBITDA/MV -0.01 3.22 0.00 1.00 -40.95 40.93 -40.95 40.93

Predicted Value of Debt/Market Value of Mahindra and Mahindra by this regression is 0.34
whereas present debt to market value ratio of company is 0.11. Hence Mahindra and Mahindra is
underleveraged compared to industry.

MECHNANICS OF MOVING TO THE OPTIMAL

THE IMMEDIACY QUESTION
Name Market Value ROCE P/E per share Percentage of
(crores) insider holdings

Mahindra 35027.86 14.83% 15.52 24.68%

Force Motors 631.16 -18.88% 3.78 51%

Swaraj Mazda 550.5 8.38% 21.24 53.425%

Eicher Motors 1671.7 6.03% 44.52 55.90%

Tata Motors 55895.4 6.88% 19.08 38.07%

In Mahindra and Mahindra ltd. insider holdings is quite small which makes it a take over target.
And its price to earnings ratio at 15.52 is not large compared to its peer group. But its market value
of 35027 crores act as deterrent against hostile takeover.

AFTER FINANCING MIX OR TAKE PROJECTS

Year Dividend Dividend(%) Div Yield(%)
End
200903 278.83 100 2.61
200803 282.61 115 1.65
200703 282.23 115 1.47
200603 243.97 100 1.59
200503 150.81 130 5.23
200403 104.41 90 3.87
200303 63.81 55 11.06
200203 56.21 50 8.8

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Mahindra has been paying dividend regularly over the last 10 years. So its shareholders consist of
clientele of investors who have come to expect dividends.

TAXATION ON DIVIDEND AND CAPITAL GAINS

As of 2008, equities are considered long term capital if the holding period is one year or
more. Long term capital gains from equities are not taxed if shares are sold through recognised
stock exchange and STT is paid on the sale. However short term capital gain from equities held for
less than one year, is taxed at 10% (As on Budget 2009-10) (plus surcharge and education cess).
This is applicable only for transactions that attract Securities Transaction Tax (STT)

At present the dividend distribution tax is 15%, according to the Union Budget 2007,
India.As per existing tax provisions, income from dividends is tax free in the hands of the investor.
However, this is not to say that there is no tax levied at all. On the contrary, there is a levy of 15%
of the dividend declared as distribution tax. This tax is paid out of the profits/reserves of the
company declaring the dividend.

COMPANY CASH FLOW

Mar 09 Mar 08 Mar 07 Mar 06 Mar 05
Cash Flow Summary
Cash and Cash Equivalents at Beginning of the year 923.88 1361.79 725.16 630.69 233.33
Net Cash from Operating Activities 1631.3 825.83 1168.95 686.9 414.04
Net Cash Used in Investing Activities - - -950.4 -502.66 -209.13
1690.26 2075.08
Net Cash Used in Financing Activities 696.91 811.34 418.08 -89.78 192.45
Net Inc/(Dec) in Cash and Cash Equivalent 637.95 -437.91 636.63 94.46 397.36
Cash and Cash Equivalents at End of the year 1561.83 923.88 1361.79 725.15 630.69

CHOICE OF MECHANICS OF MOVING TO THE OPTIMALS

Firm is not in danger of hostile takeover bid. So it does not need to move fast to its optimal
capital structure but it can move gradually towards its optimal capital structure. Firm can do this in 2
ways either it can increase dividends or it can take up projects which slowly moves its capital
structure towards optimal. Mahindra and Mahindra has last year decreased its payout ratio of
dividends by 15%. And there is no sign in long run profitability of the firm. World economy is still
not completely out of recession yet. In such a situation it is not advisable to increase dividends,
moreover in India long term capital gains tax rate is zero for shareholder who had paid their
securities transaction tax. But Dividend is taxed at 15% in India.

But is there is a choice between paying dividends or stock buybacks to return cash to share
holders. Then we will prefer dividends, because Mahindra cash flows have been stable but its not

25
cash balance is not large enough to return enough cash that is required to move towards optimal
capital structure.

REGRESSION OF MARKET VALUE OF FIRM WITH

MACROECONOMIC FACTORS
SUMMARY OUTPUT

Regression Statistics
Multiple R 0.760050532
R Square 0.552525268
Adjusted R Square 0.594345288
Standard Error 8603.22811
Observations 60

ANOVA
df SS MS F Significance
F
Regression 4 271507330 6787683 3.9170 0.890647222
3 6
Residual 55 4070854366 7401553
4
Total 59 4342361696

Coefficients Standard t Stat P-value Lower 95% Upper 95%

Error
Market Value 22280.74104 1135.88206 19.61536 1.7E-26 20004.38253 24557.0995
4
Change in forex -4142.065561 2544.82756 -1.62764 0.1093 -9242.013915 957.882792
2 3
change in bond yield 1007.17965 805.203988 1.501005 0.0618 -3026.982452 5041.34175
8 2
change in gdp 6.686614371 1.54210354 2.168017 0.0832 -6.054457755 12.5303532
8 5
change in inflation 43.66474906 5.23108871 2.22591 0.0580 37.86176348 50.2286971
1 4

REGRESSION OF OPERATING INCOME OF THE FIRM WITH

MACROECONOMIC VARIABLES

SUMMARY

26
OUTPUT

Regression Statistics
Multiple R 0.86
R Square 0.67
Adjusted R Square 0.79
Standard Error 8603.23
Observations 60.00

ANOVA
df SS MS F Significance F
Regression 4.00 271507330.25 67876832.5 4.92 0.94
6
Residual 55.00 4070854365.5 74015533.9
1 2
Total 59.00 4342361695.7
6

Coefficients Standard t Stat P-value Lower 95%

Error
15914.82 1135.88 29.62 0.00 18186.58
Change in forex -3313.65 2035.86 -0.63 0.12 758.07
change in bond 1119.09 838.75 1.65 0.04 2796.60
yield
change in gdp 6.69 1.40 2.56 0.07 9.49
change in inflation 39.70 4.62 2.62 0.06 48.93

After doing multiple regression of firm’s market value and operating income against
macroeconomic variables. We find that variation in operating income of the firm is explained by
macro economic variables. Its multiple r square is 0.86 which shows that 86 % of variation is
explained. Predictability of market value of firm by macroeconomic variables is also good.
Multiple r square of the model is 0.76 which means 76 % of variation in market value of firm is
explained by the model.

DIVIDEND POLICY

Dividend declared in the past years

Year End Dividend Dividend(%) Div Yield(%)

2009-03 278.83 100 2.61

2008-03 282.61 115 1.65
2007-03 282.23 115 1.47

27
2006-03 243.97 100 1.59
2005-03 150.81 130 5.23
2004-03 104.41 90 3.87
2003-03 63.81 55 11.06
2002-03 56.21 50 8.8
2001-03 60.77 55 9.15
2000-03 60.77 55 3.42

Firm has been consistently paying dividends since several years. Firm reduced its dividend in last
year.

Dividend yield of Mahindra and Mahindra reached its peak in 2003. Then it started falling. But in
last year it improved it a little bit.

Year Dividend Dividend(%) Div Stock Net Cash to EPS Payout Reported
End Yield(%) Buyback Shareholders (annualised) (%) Net Profit
(Unit Curr)

2009-03 278.83 100 2.61 0 278.83 30.6 33.42 867.51

2008-03 282.61 115 1.65 0 282.61 44.54 26.54 1,103.37

2007-03 282.23 115 1.47 0 282.23 43.1 27.51 1,068.39

2006-03 243.97 100 1.59 0 243.97 35.26 29.65 857.1

28
2005-03 150.81 130 5.23 0 150.81 44.02 30.68 512.67

2004-03 104.41 90 3.87 0 104.41 28.89 31.15 348.54

2003-03 63.81 55 11.06 0 63.81 11.84 46.45 145.54

2002-03 56.21 50 8.8 0 56.21 8.85 54.74 102.69

2001-03 60.77 55 9.15 0 60.77 10.35 53.14 120.56

2000-03 60.77 55 3.42 0 60.77 23.24 23.66 263.48

Average 4.885

Dividend Payout is near 30% from last 5 years.Net increase in dividend from last 5 years (2005) is
Rs. 138 Cr which is increase of 92% from last 5 years. Mahindra and Mahindra net profit decreased
last year.

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Year 2009 Dividen Dividen Dividend
d(Rs in d% Yield(%)
Crores)
M&M 278.83 100 2.61
Tata Motors 311.61 60 3.33
Force Motors 0 0 0
Eicher Motors 0 0 0
Swaraj Mazda 1.57 15 1.37
1.462
Many competitors are not paying dividend

30
 No of Shares % Share Share
Holding Holder
Foreign (Promoter & Group) 7,127,304.00 2.5471 2
Indian (Promoter & Group) 69,063,784.0 24.6814 58
0
Total of Promoter 76191088 27.2285 60
Non Promoter (Institution) 140130069 50.0784 715
Non Promoter (Non-Institution) 47665482 17.0343 138374
Total Non Promoter 187795551 67.1127 139089
Total Promoter & Non Promoter 263986639 94.3412 139149
Custodians(Against Depository Receipts) 15834626 5.6588 3
Grand Total 279821265 100 139152

FRAMEWORK FOR ANALYZING DIVIDENDS

Year Mar 09(12) Mar 08(12) Mar 07(12) Mar 06(12) Mar
05(12)

31
Dividend 278.83 282.61 282.23 243.97 150.81
FCFF 940.414 601.2914 866.566 590.385 1029.091
Total Debt 4,052.76 2,587.06 1,636.00 883.38 1,052.62
Change in Debt 1,465.70 951.06 752.62 -169.24 322.81
FCFE 2,406.11 1,552.35 1,619.19 421.15 1,351.90
Div/FCFE 0.115883952 0.182052852 0.174303632 0.579301666 0.111554
FCFE-Dividend 2,127.28 1,269.74 1,336.96 177.18 1,201.09
Cash and Bank 1,574.43 861.23 1,326.07 730.31 623.98

They have enough money to give dividend but they need money to reinvest. Recently they are going
for scooter segment and so they need money to invest in other high potential projects. Despite the
recession firm has been consistently distributing cash among the shareholders in the form of
dividends

Year 2009-03 2008-03 2007-03 2006-03 2005-03 2004-03 2003-03 2002-03

End
Payout 33.42 26.54 27.51 29.65 30.68 31.15 46.45 54.74
(%)
ROE 0.19956 0.25485 0.30838 0.34117 0.28576 0.21140 0.07958 0.051134
2 5 9 3 3 8 9
ROE(%) 19.9562 25.4854 30.8388 34.1173 28.5763 21.1407 7.95891 5.113439
4 6 7 1 4 6 1

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Here we can see that the firm had increasing ROE from 2003 to 2006 and started decreasing after
that. Firm is having a very high ROE, this implies that they have been making good investments in
the recent past. So, the company can think of retaining the earnings with themselves and can invest
in some good projects rather than paying the payout almost equal to ROE. In this case investors can
earn a decent return on their invested capital.

VALUATION

2009 2010 2011 2012 2013

Net Profit 1383.551 2074.552 2667.776 3144.636 3233.617
Depreciation+ 343.775 376.355 408.935 441.515 474.095
Operating Cash Flows 1727.326 2450.907 3076.711 3586.151 3707.712
Gross Block + 4498.722 4827.124 5155.527 5483.93 5812.332
Capital Expenditure -395.168 328.4026 428.4026 458.4026 528.4026
Working Capital 522.6504 541.6257 560.6011 579.5764 598.5518
Working Capital Change 239.2104 18.97536 28.97536 35.97536 38.97536
FCFF 1477.348 1379.948 1993.529 2582.333 3018.773

Discount Rate 0.116949

Terminal Growth Rate 0.04
Present Value of Firm 28266.75
No. of Shares 2.8E+08

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Price per share 1010.172
Terminal Value 40800.21
PV Terminal Value 23469.08

34