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Hbj capital ventures llp   monthly newsletter [july 2013]
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Hbj capital ventures llp monthly newsletter [july 2013]


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  • 1. JUNE’1 HBJ CAPITAL VENTURES 3 LLP Monthly Newsletter: HBJ Capital Ventures LLP To The Partners & Co-founders, HBJ Capital Ventures LLP, #912, 1F Main, Girinagar, BSK 3rd Stage, Bangalore – 85, Karnataka, India Dear Partners, Indian Stock Markets are going through one of the toughest phases with the Broader markets being beaten to death. While the SENSEX at 19200 does not give the true picture of this bloodbath, the fall in a number of stocks are extremely scary. To give you a view on the dim situation - the current level of the BSE Small Cap Index is near its 2005 levels and Mid Cap Index is near its 2006 levels. Small Caps and Mid Cap companies across sectors and quality have been punished extremely by the Markets. Indian Markets continue to get narrower as days progress. The NIFTY is held up largely by a group of select 5-10 Quality stocks even while the broader Market trended down. The real NIFTY value excluding these Top few Stocks is near 4200 levels compared to the value of 5700 which is being projected currently. Such is the damage to the overall markets. Stocks especially in Capital Intensive sectors like Infrastructure, Real estate and Capital goods are down 70-90% from their highs. Similar is the fate of several Small and Medium sized companies across the specter of Indian markets. While Market histories suggest that such Narrow Markets are not sustainable for a long time, there is no certainty on its Reversal especially with the recent market events which has increased the Macro risks considerably. But basic Economics suggests that Consumption can't keep treading up while the Investment continues to be in dumps. While we have written about it for the last several months, there is no way to judge the exact timeline on this playing out. Technically there is very little Buyers left in the Indian Markets. The FII's have turned net sellers in a small way over the past few months and the local Indian Investor is completely out of Equities. With so little Buying, any small amount of selling is leading to crashes in Share prices. This is typical Capitulation which is associated with Market lows. No one knows, the position if there some serious FII selling in Markets like the one in 2008. But this scary situation can't be the basis of #912, 1F Main, Girinagar 2nd Phase, BSK 3rd Stage, BLR - 85 Page 1
  • 2. JUNE’1 HBJ CAPITAL VENTURES 3 our Investment decisions. We continue to stay Invested, as we find Tremendous LLP Values in businesses which we like and are confident of them doing well even in a tough Economic environment going ahead. While bigger Bargains may come in our way going forward, we would react Flexibly to take advantage of it. The most important Market event of this month has been the RBI actions to stabilize the currency by imposing a lot of restrictions leading to a short term Liquidity squeeze. This has had wide spread effects on the Bond markets with the 10-year Yields rising substantially. The Interest rate reduction which we were expecting over this year is clearly off the record for some time. The big concern, is the limited impact it has had on the currency. While more Liquidity tightening will not just impact sentiment, it would also put a huge pressure on Balance sheets of several corporate. Increasing Cost of Capital impacts each and every company with varying Intensity. In fact in several of the companies, the Cost of Capital is already much higher than the Return on Capital. Bank NIFTY which is one of the biggest component of the markets, has corrected steeply after these moves from the Central bank. It is down over 25% since the start of the year with bulk of the correction in the last few weeks. Our Portfolio had the highest weight towards Financial services firms. While most of the Allocation was based on the Inherently strong businesses of our Finance stocks, there was also a small element of positioning the Portfolio for a Rate cut. This large weight age has created a significant dent in our Portfolio performance for this Month. Our Portfolio currently have Low cash position and this is a big disadvantage during current times. While maintaining a strong Dry powder to capitalize on the volatility should have been there in any Midcap & Small cap focused portfolio, it is extremely difficult to save the dry powder throughout the carnage. Even with a smaller dry powder which we have currently, we have been trying to juggle around a few stocks to gain good returns going forward. While Investors who have additional dry powder currently must not get drowned by the current negative news and capitalize on these wonderful prices and build a strong portfolio of stocks. Let's look at some of the Portfolio stocks and understand our Views on the same. Stocks like XX & YY has resulted in strong value erosions in our portfolio. While we have believed the bottom on these stocks is in place, they have continued to drift further. Looking at a stocks like XX - we believe that it would recover over the next 3years with any incremental uptick from the current dire state of the CAPEX cycle. But at the same time, our expectations from the stock has reduced considerably from the initial days of its recommendation. #912, 1F Main, Girinagar 2nd Phase, BSK 3rd Stage, BLR - 85 Page 2
  • 3. JUNE’1 HBJ CAPITAL VENTURES 3 There is so much of skepticism in the Market where there are several LLP companies which are being valued as though these don't have any future or the companies are full fledged Fake companies. This is where there can be big Opportunities for Rational Investors. Let's take 2 of our Own stock picks, where such skepticism has caused severe price damage. One is XX & YY and both the stocks have been hit very hard with no real bad news flow. Housing Finance is generally considered to be one of the most Resilient businesses which suffers little damages even during tough economic conditions compared with other Financing businesses. XX & YY are curious cases, where the companies are doing extremely well financially - but the stocks getting hit hard due to reasons unknown. Most of the Market participants would complain about the bad perception about the Management Quality on street. But taking away this Hysteria out of mind and thinking logically, we believe that the Corporate Governance in both these companies have improved substantially over the last few years and the business performance has been great. Let's take it one by one. On XX, the scale of the business has increased multifold and the inherent risk in a LMI portfolio has reduced to a large extent. It has a very stable Book and has seen through several stress periods. Mean while the company has cleaned away its Complex holding structure, reduced related Party transactions and done away with Cross holdings. The company has a well tested Management of the newer generation and the recent Share Swap with the promoters was done with transparency and was very fair to the minority share holders. We believe that even the recent Insurance deal was a very shrewd transaction which will create strong Share holder value. The Buying price is cheap and company has structured a Asset light model to scale the business. With its huge distribution, we are confident the Value creation would be largely visible within 2-3 years. Despite all these positive news, there are still be some concerns about the Corporate Governance for several skeptical investors which can be answered only over time by the Markets. While the Leverage is a concern, it is still within manageable limits. In a Housing Mortgage portfolio where the NPA's are not large, its CAR is in line or better than its big peers like LIC Housing Finance. The company has recorded good ROE's of about 18% and guided to maintain it along the 18-20% mark. When the company is trading at less than 0.5X Book Value, it's hard to lose money over time in such stocks. Similarly for Indiabulls Housing Finance, the company has increased Dividends consistently and has laid out a stable Dividend payout policy of over 45% of the company's profits. I feel this is the biggest confidence booster to any retail Investor. #912, 1F Main, Girinagar 2nd Phase, BSK 3rd Stage, BLR - 85 Page 3
  • 4. JUNE’1 HBJ CAPITAL VENTURES 3 The company has zero Related party transactions and also moved away from Riskier LLP lending segments to transparent and safer Mortgage financing. Company is one of the most Liquid Finance companies (Leverage of around 5X) and can survive any tight liquidity situation easily. The company's ability to focus and build a franchisee of significant scale in a quick time, is clearly visible in the way it has expanded its Home Loans business over the last 3-4 years. With the current Post Tax dividend Yield of over 10%, Return on Equity of over 25% and an expected profit growth of over 15% consistently over the next 3-5 years, this stock can easily be a Multibagger stock. The best thing about Indiabulls Housing Finance compared with XX is the strong Dividend Yield which pays us to wait for the change in Market perception, timing of which is difficult to gauge. Technically there has been a lot of Value Erosion among companies which are listed newly and have a limited Core Share holding base. Also the T to T segment rules is increasing the volatility which it was supposed to cut down. This can be one of the reason for the strong correction which we are seeing in Indiabulls Financials and also in good Quality businesses like CARE ratings which we are using to our advantage. We believe that the current Valuations are warranted only if there is a full blown corporate fraud which is going on these companies, which is not easily possible considering that - both these Housing Finance companies are well regulated by NHB and the rating agencies have accorded ratings of AA+ for both these companies. We believe that the Quality curve on Corporate Governance is definitely slightly lower on these companies compared with the top notch, but they have taken substantial steps to improve it and the current price makes sure that it's a calculated risk which is worth taking. We believe that the current Market conditions of favoring Quality and companies with the highest Corporate governance standards are good, but this is being overdone. Even the smallest scent of doubt is creating a crash in stock prices which can be seen from the recent down tick in Yes bank too. We believe that, it pays richly to be courageous at this point and get the fear out of our head and think rationally and allocate capital to these Companies where we believe that the market perception on the company is wrong. If you take the Top-10% of the stocks primarily in FMCG and some other sectors which are quoting at extremely expensive valuations and the bottom 30% of the companies which are having bad business models, Full Scale Corporate Governance Issues and Broken balance sheet - the Bulk of the Mid 60% of markets can give good returns over the next 3-5 years on the back of cyclical and structural #912, 1F Main, Girinagar 2nd Phase, BSK 3rd Stage, BLR - 85 Page 4
  • 5. JUNE’1 HBJ CAPITAL VENTURES 3 reasons. It's like shooting fish in a barrel and you could easily find enough winners LLP there. As they say, "Its darkest before Dawn" and the recovery which we have been expecting has elongated. Macro is looking tough and make no mistake about it. If 70% of a country's banking is available below Book value, that says a lot about the overall economic environment in the country. But being Optimistic Investors, we believe that this too shall pass and we are headed for better times ahead. We believe that the Gloom doesn't stay for a very long period and the Markets eventually recognizes these good Businesses and values them accordingly. As the famous Quote of Keynes goes, "Markets can stay irrational longer than you can stay Solvent !". We believe with an unleveraged and balanced Portfolio, we would definitely be able to be solvent until the markets become rational again. We think the current Mark to Market value of the Portfolio is presenting a dire case and this would definitely reverse in a few months once the panic gets out of the Market. We would like to add on to a few stocks at current prices. Our Active monitoring would ensure that your Capital would find some bit of Relative safety in the current Equity portfolio along with the ability to generate best Profits as and when the storm passes. Regards, [Principal Fund Manager, HBJ Capital Venture LLP] Date: June 30th 2012, Place: Bangalore, India #912, 1F Main, Girinagar 2nd Phase, BSK 3rd Stage, BLR - 85 Page 5