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Centrum wealth india investment strategy - 24 august 2013


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  • 1. o Editorial o Equity Strategy & Tactical Asset Allocation o Rupee Crash – A tactical opportunity in 5 MNC stocks o Rupee Crash: Net exporters & producers of import substitutes to benefit o Sector strategy during turbulent time o Five high conviction large cap stocks o New Banking Licenses: Benefit to old private sector banks o High dividend yield stocks with diversified business models o Beaten Down Value Stocks o Silver: Set to shine o Gold: A defensive bet against falling Rupee o Fixed Income Outlook and Strategy: Currency defense pushes up bond yields August 2013 Emerging $ squeeze & General Election: Uncertainty in markets to continue
  • 2. I nd i a I nv e s tm en t S tr a t eg y2 Table of Contents 1 Editorial 3 2 Equity Strategy & Tactical Asset Allocation 4 3 Rupee Crash – A tactical opportunity in 5 MNC stocks 11 4 Rupee Crash: Net exporters & producers of import substitutes to benefit 17 5 Sector strategy during turbulent time 23 6 Five high conviction large cap stocks 30 7 New Banking Licenses: Benefit to old private sector banks 34 8 High dividend yield stocks with diversified business models 39 9 Beaten Down Value Stocks 43 10 Silver: Set to shine 49 11 Gold: A defensive bet against falling Rupee 52 12 Fixed Income outlook & strategy: Currency defense pushes up bond yields 55
  • 3. I nd i a I nv e s tm en t S tr a t eg y3 Dear Clients / Colleagues, 24 August 2013 Emerging $ squeeze & General Election: Uncertainty in markets to continue The domestic equity market has faced severe stress since the beginning of the current calendar year, going through an unprecedented turbulent time. The Sensex is down 6.5%, BSE500 down 13.3% and INR has fallen 15.2% YTD in 2013. However, the trend in both Sensex and BSE500 indices does not truly reflect the pain in the equity markets. In the BSE500 index, while as many as 81% of the stocks are in negative territory, nearly 1/5th of the stocks have lost anywhere from 50% to as high as 97% of their market cap and 52% of stocks have lost more than 25% of their market cap on a YTD basis. What went wrong? In our view, there are two set of factors which have adversely impacted macroeconomic scenario – severe industry slowdown and loss of confidence in INR - leading to this state of affairs in the domestic markets: While the global slowdown also contributed to domestic economic slowdown, the high interest rate regime has taken a toll on industrial growth in India. While most economies in the world were worried about either avoiding or escaping the recession, perhaps we were alone sitting in an “island of inflation”. Despite WPI inflation falling from an average of 9.5% in CY2011 to 5.8% in July 2013 and core manufacturing inflation falling below 3%, India did not allow interest rates to fall substantially and in the process, we saw significant de-growth in the industrial economy. A lot of importance was given to CPI inflation, which is highly influenced by fuel and crop prices, both of which are exogenously determined to a large extent; Loss of confidence in INR is partly due to severe slowdown in global trade and hence, in India’s exports. However, the steep spurt in import of gold has made a severe dent in $ reserves. Despite the country resorting to withdrawal of $12 billion from forex reserves for balancing BOP in FY2012, it allowed import of gold to the extent of over $110 billion in the last 30 months alone – had even half of this been controlled India would have been in a very comfortable position to tackle the INR exchange rate crisis it faces today. Export of foreign capital towards importing gold, the most unproductive asset, has also impacted the investible liquidity available in the domestic economy. The opportunity of holding back at least $50 billion was lost to this. The RBI, which had bought $78 billion (a record level, at an average price of just about Rs.40/$) from the open market in FY2008) has already exhausted $60.45 billion (as of June end 2013) since the Lehman crisis. Owing to this swift depletion in $, RBI has little headroom left to sell $ in the spot market to support the INR. Catch 22 situation: The Central Bank is in the midst of a perfect storm, with lack of resources to support INR and facing adverse macroeconomic situation along with the possible risk of a ratings downgrade. Unfortunately RBI having been late in taking steps to prevent the Rupee depreciation, has recently tried to tighten INR liquidity in the short term to create an artificial liquidity squeeze for INR and pulling down $ value! This has delivered a massive blow to both equity and debt markets, as the action is tantamount to raising rates in the economy, further increasing losses in both the debt and equity segments. While broad indices are trading at attractive valuation, they are not representing the grim picture of domestic equity markets. About 80% of individual listed stocks are trading anywhere 10% to 90% below their price levels existed and INR is down about 45% as compared to levels existed two years ago. In our view, India does not deserve such punishment for its currency and equity markets though it has been a major failure in containing the damage. Volatility with negative bias is expected to continue till General Elections are over in next 8 to 9 months. However, the excellent monsoon we are experiencing, coupled with lower inflation and significant fall in trade deficit will help the markets to recover substantially post elections. Hence, we suggest our clients to expose note more than 30% for average profile and for highly conservative investors not more than 20%, of total wealth in equity over next 3 to 6 months. We suggest keeping at least 40% in liquid cash or cash equivalent instruments. Within the equity asset class keep around 15% cash for further bargain buys in next 3 months and also play on defensive equity bets. Sincerely yours, G Chokkalingam, Chief Investment Officer, Centrum Wealth (
  • 4. I nd i a I nv e s tm en t S tr a t eg y4 Equity Strategy & Tactical Asset Allocation
  • 5. I nd i a I nv e s tm en t S tr a t eg y5 Equity Strategy & Tactical Asset Allocation What you see is NOT what you get The domestic equity market has faced severe stress since the beginning of the current calendar year, going through an unprecedented turbulent time. The Sensex is down 5.5%, BSE500 down 12.6% and INR has fallen 15.8% YTD in 2013. However, the trend in both Sensex and BSE500 indices does not truly reflect the pain in the broader equity markets. In the BSE500 index, while as many as 81% of the stocks are in negative territory, nearly 1/5 th of the stocks have lost anywhere from 50% to as high as 97% of their market cap and 52% of stocks have lost more than 25% of their market cap on a YTD basis! The top contributors to BSE 500 movement were a handful of large stocks largely in the consumer, IT and pharma sectors. The proportion of stocks in BSE 500 index which are near their 52 week low is close to the ratios that we saw during the Lehman crisis and even post the dot- com bust. Moreover, today there are close to half of the total listed companies which are below the lows seen post the Lehman crisis, although the Nifty has moved up by approximately 125% since then! This clearly shows how skewed the performance of the indices have been, with only a handful of stocks leading to the rise in the Index that we see in headline numbers. What caused the mayhem in the markets? We see primarily two set of factors viz., steep fall in GDP growth and crash in the exchange rate of Indian Rupee (INR), being responsible for causing the pain in the domestic equity markets: Vicious cycle of growth slowdown and poor corporate performance RBI raised interest rates by 175bps during FY2012 and maintained a hawkish view on rates despite significant slowdown in the economy. Even though the headline inflation fell by almost 600bps from the peak to below 6% and core-inflation (non-food manufactured product inflation) fell below 3%, the central bank reduced benchmark rates only by 125bps from the peak. The focus on inflation management hit the growth of the economy, leading to a vicious cycle of low GDP growth, severe deceleration in the industrial economy, severe deterioration in banks’ asset quality and steep fall in corporate earnings; India’s GDP growth fell to 4.99% for FY2013, the lowest level in the last decade; The Index of Industrial Production (IIP) de-grew at 2.2% for the month of June 2013 mainly on account of decline in capital goods (down 6.6%) and consumer durables (down 10.5%). On a cumulative basis, the IIP declined by 1.1% for the period Q1FY2013; Corporate earnings data for Q1FY14 was one of the weakest in the last 15 quarters with the sales being flattish and net profit posting low single digit growth for Q1FY14. The auto sales numbers have been weak posting de-growth of 2.09% during the period April-July 2013 and cement dispatch numbers have also posted de-growth reflecting an overall decline in the investment and production activity. Indirect tax collections have been weak for the period April-July 2013 growing by just 2.9% on a YoY basis as against the Budget target of 19% for FY2014. Among indirect taxes, the excise duty collections during this period de-grew at 11% - it is really worrisome since excise duty collections reflect the status of aggregate demand in the country and show pain for the corporate world in terms of poor sales revenues; In the first quarter of current fiscal itself the fiscal deficit in Q1FY14 has already reached close to 50% of the budgeted estimates for the whole of FY2014 – hence, there is a high possibility that the government may overshoot their fiscal deficit target considering the higher subsidy burden from recent INR crash. Exhibit 1: Core-inflation versus Repo rates Exhibit 2: IIP versus GDP (and its components) -4% -2% 0% 2% 4% 6% 8% 10% May-05 Oct-05 Mar-06 Aug-06 Jan-07 Jun-07 Nov-07 Apr-08 Sep-08 Feb-09 Jul-09 Dec-09 May-10 Oct-10 Mar-11 Aug-11 Jan-12 Jun-12 Nov-12 Apr-13 Core Inflation% Repo Rate % -10.0 -5.0 0.0 5.0 10.0 15.0 20.0 25.0 Jun-06 Dec-06 Jun-07 Dec-07 Jun-08 Dec-08 Jun-09 Dec-09 Jun-10 Dec-10 Jun-11 Dec-11 Jun-12 Dec-12 Jun-13 IIP% Manufacturing GDP % GDP% Services GDP% Source: RBI, Centrum Wealth Research Source: Bloomberg, Centrum Wealth Research
  • 6. I nd i a I nv e s tm en t S tr a t eg y6 Structural issues and failure on gold imports lead to rupee crash Failure to address structural issues impact rupee We have failed to address structural issues over the years - the import of gold, crude oil, edible oil and fertilizers have gone up from 6 fold to as high as 21 fold in the last 10 years. For instance, coal imports were up by 52% in the month of June 2013. During the last 10 years, our overall exports have gone up only 6 fold, hence our trade deficit zoomed 22 fold in $ term in the last 10 years. Exhibit 3: Increase in India’s imports, exports and trade balance in the last 10 years Year India's Import Data ($ Billion) Exports ($ bn) Trade Balance ($ bn)Crude GOLD Coal Edible Oil Fertilizer All Imports FY2003 17.6 3.8 1.2 1.8 0.4 61.4 52.7 -8.7 FY2013 169.0 53.7 15.4 11.2 7.4 490.3 300.2 -190.1 Increase in 10 years 10x 14x 12x 6x 21x 8x 6x 22x Source: Bloomberg, Centrum Wealth Research Booming gold imports leads to limited intervention capability by RBI Gold import (US$53.7 bn) accounted for almost 58% of the current account deficit in FY2013. The government acted on gold imports only after it got out of hand and we imported US$ 15bn worth of gold in just the first two months of FY2014. We have made a major blunder in allowing easy import of around $110 billion in gold in the last 30 months. Had we contained this to even $50 billion, the current situation would not have come about at all. In Rupee terms, the gold imports took up Rs.5 lakh crore. We not only lost precious forex but also simply exported domestic liquidity when we bought the most unproductive asset viz. gold. In FY2012, we had to drawdown USD 12bn from the reserves to balance our BOP (Balance of Payments). Still we delayed stringent measures on gold import till June 2013. In FY2008 alone, RBI had purchased 78.2bn worth of US Dollars at the rate of below Rs.40 which it has used intermittently to support the currency, but the RBI has almost depleted its reserves in selling off close to USD 60bn worth of these dollars by June 2013 and hence has limited head room to support the currency any more. Moreover the services exports which helped meet the trade deficit numbers have also come down by 3.5% in the month of June 2013 at USD 6.22bn. Further, during April-June 2013, NRIs put $5.50 billion into Indian banks' deposits, down by 16.11% YoY. The total NRI bank deposits as on June 30, 2013 stood at $71.07 billion, marginally lower than $71.69 billion in May 2013. Continued instability in INR may lead to continued de-growth in NRI deposits; this would impact the financing options for the current account deficit. Exhibit 4: Sale (-) and Purchase (+) of USD by RBI 78.2 -34.9 -2.6 1.7 -20.1 -2.6 -1.8 -60.0 -40.0 -20.0 0.0 20.0 40.0 60.0 80.0 100.0 FY2008 FY2009 FY2010 FY2011 FY2012 FY2013 FY2014 (USD bn) Source: RBI, Centrum Wealth Research Global meltdown and fear of “taper” impacts flows The emerging market currencies have all seen sharp depreciation owing to fears of the US Fed tapering in its quantitative easing program in September 2013. In the recently released FOMC meeting minutes the members agreed to a reduction in quantitative easing on the back of economic recovery, although the timing or quantum of the roll back seemed uncertain. The fear of sharp outflow of funds from both the equity as well as the debt market has led to rise in yields and further depreciation of currency. Another casualty of slow growth in the developed world has been the slow export growth which has also impacted the current account deficit. Owing to the above reasons INR has depreciated by almost 45% in the last two years and has caused instability in the macro environment as it has impacted imported inflation and fiscal deficit of the country. The instability in INR has raised some uncertainty among the FIIs as well, though they pulled out less than $3 billion from the equity markets since June 2013. Their pull out from the equity market so far in the last 3 months is insignificant as compared to their overall cumulative investment of over $216 billion till date, or over $35 billion in the last 18 months. However, as the appetite to absorb the equity supply is so poor among domestic investors, even this marginal selling by the FIIs has led to chaos in both currency and equity markets.
  • 7. I nd i a I nv e s tm en t S tr a t eg y7 Exhibit 5: INR movement against USD Exhibit 6: YTD 2013 movement of emerging currencies 52 54 56 58 60 62 64 66 Jan-13 Feb-13 Mar-13 Apr-13 May-13 Jun-13 Jul-13 Aug-13 Announcement of possible taper -20% -15% -10% -5% 0% 5% SOUTH AFRICA BRAZIL INDIA INDONESIA RUSSIA MALAYSIA PHILIPPINES THAILAND TAIWAN POLAND MEXICO CHINA Source: RBI, Centrum Wealth Research Source: Bloomberg, Centrum Wealth Research Exhibit 7: FII/DII flows versus Sensex, USD-INR Month DII (Rs.Cr) FII (Rs.Cr.) FII Debt Investment (Rs.Cr.) Sensex INR / USD Jan-13 (17,542) 22,230 3,274 19,895 54.3 Feb-13 (8,819) 22,123 4,074 18,862 53.8 Mar-13 (7,872) 10,399 5,031 18,836 54.4 Apr-13 (2,701) 6,407 6,936 19,504 54.4 May-13 (12,052) 20,678 2,575 19,760 55.1 Jun-13 8,427 (10,530) (31,342) 19,396 58.4 Jul-13 (1,541) (5,909) (12,651) 19,346 59.7 Aug-13 2,936 (1,097) (7,176) 18,312 64.7 Source: Bloomberg, Centrum Wealth Research FIIs have sold in the debt market to the extent of Rs.27,000 crore YTD, post the announcement by Fed on possible tapering of its stimulus program. This has further added to the rise of debt yields and further fall in the equity markets especially in banking stocks as the potential losses from investments in government securities increased substantially. Other factors that aggravated the crisis in domestic equity markets Repayment of debt: India has over $170 billion in various foreign currency liabilities which need to be repaid before March 31, 2014. This could put pressure on the economics of the capital account owing to the current USD-INR levels and also lead to pressure on government finances; Governance issues among many midsized, highly leveraged companies – nearly 100 stocks have lost market cap to the extent of 70% to 90% and in many cases, the promoters have offloaded their stake in the companies. Such governance issues have also led to soaring NPAs, especially for the PSU banks; Sovereign downgrade could be last nail in the coffin: With deteriorating finances of the government and growth not picking up, a final blow to the market could come in terms of a rating downgrade by international rating agencies. This could lead to a flight of capital from the country and further pressure on the INR. However, some green shoots visible The FIIs have remained net buyers in the domestic equity markets - on a YTD basis, their net buying stands at Rs.42,144 crore and the Domestic Institutional Investors (DIIs) who have been largely net sellers since the beginning of 2012 have turned net buyers in June and August 2013. We believe that any large scale selling of equities by the FIIs is most unlikely – the Rupee has already crashed over 45% in the last 2 years and about 80% of equities are negative on YOY basis. Over 2/3 rd of cumulative investments of the FIIs into the country flew in over 2 years ago. Therefore, any large scale selling by the FIIs would involve huge losses for them. India’s GDP is still growing in nominal terms at about 11%, so we believe that there is no need for any panic for FIIs who hold Indian equities and assets. Other comforting factors are: Steep fall in trade deficit: For July 2013 trade deficit declined by 30% YoY to $12.3 billion on the back of steep fall in gold and silver imports – their imports fell sharply by 34% YoY to $2.97 billion during July 2013 following the increase in import duty and other curbs imposed recently by the government. On a cumulative basis, for April-July 2013 the trade deficit was down 4.6% to $62.4 billion. Exports grew by 11.6% YoY to $25.8 billion during July 2013 – the 1st double digit growth in 2 years. Back of the envelope calculations suggest that the government may even meet its target of US$70 billion current account deficit (CAD) for FY2014. Surplus rainfall: For the period from June 1, 2013 to August 18, 2013 India as a whole received 14% surplus rainfall with 86% (31 subdivisions) out of total 36 subdivisions receiving normal to excess rainfall, which is one of the best in a decade. We can hope for a record level of food grain production in current year. With the recent crash in INR, there exist opportunities for foreign investors to opt for bargain buying of Indian equities from the markets and assets through FDI route. Already the FDI inflows in Q1FY2014 have shown 22% YoY growth.
  • 8. I nd i a I nv e s tm en t S tr a t eg y8 What is in store for next 6 months? The passing of the “populist” food security bill by an ordinance, events in Telengana (awarded status of a separate state) and increased activity by major parties on various social media platforms allude to undercurrents of preparation for elections. The election announcement and the run up to the elections would be marked with bouts of volatility as investors, especially the FIIs, would prefer to wait and watch before they take a fresh call on the markets. There would be greater uncertainty on core macroeconomic issues as the focus would shift from economic policies to politics. Rating agencies may announce more adverse downgrades among the PSU banks as there would not be any let up in the NPA levels for many of them. The list of candidates for possible downgrades would only increase. Interest rate cycle reversal may be a long protracted journey: The RBI, in the month of July 2013 has taken a series of steps to create an INR squeeze and raise short term rates to support the INR. The RBI increased the MSF rates from 8.25% to 10.25% and also reduced the LAF borrowing window to Rs.75,000 crore. Moreover, the RBI has also proposed to further suck out liquidity from the banking system by issuing cash bills to the tune of Rs.22,000 crore each week. This has caused the short term rates to rise and led to some banks increasing their deposit rates and base rates for lending. Thus, the reversal of interest rates in the economy has come to a halt for some period. Considering there are no strong triggers for INR to appreciate in the short term, the interest rate reversal could get delayed in spite of core inflation coming down to 2.4% levels. This would in effect delay our earlier assumption on reversal of interest rates in CY2013. While the expectations from the new RBI Governor would be very high, we believe that he has limited ammunition to tide over the current macroeconomic situation. Considering the current state of INR any sharp reversal of interest rate could lead to further withdrawal of debt by the FIIs. INR to trend close to Rs.60 level: We believe that the government and RBI have little ammunition left to address short term movement of Rupee unless some of the long term structural problems are taken care of. The government has been a bit late in implementing higher import duty on gold and the steps take by RBI to stem short term liquidity has also failed to avert instability in INR. Moreover, the risk of downgrade from rating agencies has increased as the fiscal deficit pressure and dependence on external flows to maintain balance of payment has caused a sharp depreciation in INR. This has led to a vicious cycle of higher imported inflation, higher subsidy payments and rising long term yields putting further pressure on the economy and corporate sector. The FIIs may remain on the sidelines till the elections, creating a potential funding gap in the balance of payment account. The government has continued to make desirable moves on the path of reforms creating the right environment for increased FDI investment into the country. We expect INR to stabilize around Rs.60 against the USD by end of 2013 and would wait for election results for further recovery. Corporate earnings to be weak and risk of defaults increase: The corporate earnings for Q1FY14 have been quite weak with low single digit growth in earnings among the Sensex companies. This would be the lowest growth seen over the last few quarters. Moreover, the asset quality of banks is deteriorating and possibility of large scale defaults is increasing. As per a Crisil report, there have been 42,819 cases involving close to Rs.1.43 lakh crore pending with the debt recovery tribunals across the country. Net non-performing assets for banks went up 51% in FY13 to Rs.92,825 crore. Gross NPAs of banks are expected to increase to 4% in FY14 from 3.3% in March 2013. The unanticipated rise in interest rates by the central bank could further put pressure on the asset quality of banks. The rise in asset quality pressure could further risk a downgrade for the country, leading to further INR depreciation and could lead to a vicious cycle of high interest rates and weak INR. Risk of tapering of the quantitative easing: The global markets are under pressure owing to possible reduction in the stimulus measures by the Fed in its meeting in September. We expect soft landing of monetary expansion in the US from the last quarter of 2013 – this would cause further temporary uncertainty on foreign investment inflows into the country. While INR has crashed by 45%, the international crude oil prices almost remain quite firm over the last one year – this would aggravate the government’s burden on oil subsidy. High interest regime is also likely to keep India’s GDP growth below 5% during the first half of FY2014. Hence, Unlucky (20)13 for most investors Owing to uncertainties anticipated during the next 6 months, we expect the year 2013 to be a lost year for investors. We expect the index to remain in the range of 18,000-19,000 (Sensex) for the rest of 2013, with only a handful of stocks participating in any possible marginal recovery in the broader indices. Although post election we could see Sensex creating a new high We maintain our target in the range of 25,000 to 27,000 (Sensex) for the December end 2014 as we expect one of the national parties to win and get a majority in Parliament. This would enable the formation of a stable government and implementation of pending reform measures. This is also expected to give a sentimental boost to the markets. Forces of economic equilibrium on account of the INR crash would also start working – we have already seen major fall in gold imports, improvement in profitability of textile exports and overall exports growth improving in double digits in July 2013 for the first time in the recent past. Hence, the long term investors who have appetite to take another 5% to 10% risk to their portfolio in next 6 months and whose equity exposure is less than 30% of total wealth may remain invested in quality stocks. We believe that there is a convergence of many positives in 2014 which could help in expansion of corporate earnings and lead to re-rating of the Indian markets. With good progress of monsoon we expect the food inflation to come down, which should further pull down the WPI inflation. Current monsoon performance is one of the best in recent times – there are reports of kharif crop planting area going up by 9% leading to cooling off in food inflation and therefore significant fall in overall inflation; The interest rate reversal may continue in 2014 as we expect the currency to stabilize once the elections are over. With reversal of interest rates the corporate earnings should expand, owing to margin expansion leading to re-rating of the Indian equity markets; We will also see significant fall in imports of goods and also dip in export of $ capital going forward. We can also expect further aggressive purchase of Indian assets by foreign companies as it is about 45% cheaper as compared to 2 years earlier. FDI investments in multi brand retail and airline sector would fructify. FDI in insurance and pension sectors is likely to be relaxed.
  • 9. I nd i a I nv e s tm en t S tr a t eg y9 Risk to our Views Remaining period of 2013: In case the US postpones proposal to cut down monetary expansion to 2014 – this would provide sentimental boost to both currency and equity markets; In case a predominant portion of the foreign investors believe that 45% crash in INR is a rare opportunity which may not be available post elections and therefore decide to rush in, instead of sitting on sidelines, to buy out Indian equities and assets – this development can lead to robust recovery in the Indian equities. For CY2014: In case the developed world especially the US and Euro zone fall back to low growth or recession, then the Indian economy would suffer from decelerating exports and poor inflow of foreign capital, leading to GDP growth remaining below 5% for one more year. General Election results: We bank on our hypothesis that one of the two dominant national parties would succeed in forging successful alliances with regional parties and improve their own tally, on standalone basis, close to 250 seats. This would strengthen the hold of the major ruling party over its alliance partners. However, in case both major national political parties secure only around 150 seats on a standalone basis (while simple majority requires 273 seats), there would be major setback to both the markets (currency & equity) and economy. We would remain alerted on these risk factors over the next 9 months. Conclusion: Equity Strategy & TAA Equity strategy – Portfolio allocation Considering substantial volatility over the next 6 months period, we prefer a defensive strategy. Hence, suggest we 15% cash within equity asset class for another 3 months or till individual stocks are further beaten down badly. Investment strategy Suggest large cap and fairly large mid cap for investments; Avoid companies with high promoters share pledging; Avoid highly leveraged companies, as high interest rates are impacting bottom line growth; Sectoral Bias Export oriented sectors: Prefer sectors which have a major portion of their earnings which are dollar denominated and hence prefer stocks in the IT Sector; Domestic demand themes: Sectors which do not depend on government intervention or regulatory overhang or major capital expenditure in the country. Hence, prefer FMCG and Pharma; High Dividend Yield: Companies which have a strong track record of dividend payments and also have some visibility on the earning potential. They would provide a good downside protection in the current volatile environment; Import substitutes: companies which compete with importers of goods would stand to benefit from the current Rupee crash as the competitiveness of their products would increase; Deep value: Stocks which offer deep value and still hold the potential to become multi-baggers in the long term; Market cap bias In terms of market cap segments, we suggest restructuring the portfolios and recommend investing only 20% of the equity allocation into small caps (below Rs.1000 crore market cap) and rest in large and large midcap stocks. The recovery – as and when it happens, may start with large and large midcap stocks. On the other hand, if risk emanates from the election results, exit from larger stocks would be much easier. Exhibit 8: Equity Allocation Allocation by Market Cap Allocation (%) Large Cap 30 Large Mid Cap 35 Small Cap 20 Cash 15 Total 100 Source: Centrum Wealth Research
  • 10. I nd i a I nv e s tm en t S tr a t eg y10 Tactical Asset Allocation (TAA) Considering our expectation of huge volatility in the equity markets till elections are over and possible major risks associated with the election results for CY2014, we have cautiously developed following conservative TAA strategy. For an average investor, we would suggest not having more than 30% of wealth in the equity market due to high volatility in the next 3-6months. For a very conservative investor, not more than 20% of wealth till elections are over or till further possible beating down of individual stocks; Suggest additionally 5% allocation to silver while maintaining 5% in gold; Exhibit 9: Tactical Asset Allocation Asset Class Current TAA (%) Previous TAA (%) Equity 30% 50% Other than Equity 70% 50% Fixed income/ Structured products 55% 40% Gold/ Silver 10% 5% Real Estate Investment 5% 5% Total 100% 100% Source: Centrum Wealth Research G Chokkalingam, CIO ( Ankit Agarwal, Fund Manager (
  • 11. I nd i a I nv e s tm en t S tr a t eg y11 Rupee Crash – A great attraction for foreigners to buy Indian Assets; a tactical opportunity in 5 MNC stocks
  • 12. I nd i a I nv e s tm en t S tr a t eg y12 Rupee Crash – A great attraction for foreigners to buy Indian Assets; a tactical opportunity in 5 MNC stocks INR has depreciated by 45% in the past 2 years, from Rs.43.86 in July 2011 to Rs.63.4 at present. In the last 2 years, though Sensex rose 13%, over 80% of individual stocks, including MNC stocks, fell anywhere from 10% to as high as 90%. This provides a historically rare opportunity for MNCs to either increase their stake in Indian subsidiaries up to 75% or 100% (and then delist them) at the cheapest possible valuations. Other factors which could make Indian assets attractive to the foreign investors are: o In nominal terms, India is still growing over 11% and in the past India’s GDP growth has rarely stayed at very low levels for more than 2 years in a row. India has probably crossed Japan to occupy 3rd largest position in terms of GDP size (Source: OECD); o INR is unlikely to fall further significantly as it has already crashed close to 50%. Considering the steep fall in gold imports and other remedial measures taken by government, we can expect the INR to stabilize soon and in fact, it can appreciate 10% to 20% in the next one to 2 years; In the last 2 years most of the MNC stocks, barring those in the FMCG space have fallen substantially. We have shortlisted 6 MNC stocks based on their fundamentals, strength of parents’ balance sheets and correction in their stock prices. These 6 stocks except GSK Pharma have fallen in the range of 3% to 48%. However, the price fall has been in the range of 23% to 63% in USD term. Hence, we believe that the current market conditions in India provide a historically rare opportunity for MNCs to consider open offers to increase their stakes. Even if they offer 40-50% premium to the current valuations, the benefit for the MNCs would be far greater in the long run. Exhibit 10: % Fall in stock prices of Indian subsidiaries in last two years -48% -33% -24% -8% 9% -63% -52% -46% -34% -23% -75.0% -60.0% -45.0% -30.0% -15.0% 0.0% 15.0% Siemens StyrolutionABS Clariant BASFIndia GSKPharma Price chg in INR terms Price chg in USD terms Source: Bloomberg, Centrum Wealth Research Exhibit 11: Most of the companies are trading near 52 week low Open offer candidates Parent Company Indian Subsidiaries (%) of total subsidiaries wholly owned Revenue (In EUR bn) Net Cash (In EUR bn) CMP (Rs.) Chg from 52 Week 1 year forward P/EHigh Low BASF India 87 72.1 1.6 521 -32.3% 6.3% 14.5* Clariant Chemicals (India) 91 5.0 1.4 481 -28.6% 29.6% 18.9 Glaxosmithkline Pharma 89 32.6 5.3 2,282 -21.3% 18.2% 25.1 Siemens 73 78.3 11.4 451 -39.9% 7.6% 28.1** Styrolution ABS (India) 94 6.0 0.2 350 -56.3% 3.2% 8.7 Note: * March ending; ** September ending; Rest December ending Source: Bloomberg, Centrum Wealth Research
  • 13. I nd i a I nv e s tm en t S tr a t eg y13 Exhibit 12: A tactical opportunity for 5 MNC stocks Open offer Candidates Rational for possible open offers / Stock Attraction BASF India In 2011, its parent merged 4 of its local unlisted subsidiaries with BASF India, which was followed by merger of the Indian operations of Cognis, which was globally acquired by BASF SE in December 2010; Parent company made public its intention of converting BASF India the “Single Legal Entity” for all its India based operations; The parent has already increased its holding in the company from 52.7% in FY2008 to the present 73.3% through an open offer in FY2009 and the merger of unlisted entities (2.1%); Clariant Chemicals (India) Clariant International, the parent company has been restructuring its businesses across geographies – it is exiting non-core segments in order to concentrate on value added segments like specialty chemicals. In the past the company has sold its land and other assets & distributed one third of the sale proceeds as dividend. Expect another special dividend payout as last year it sold low focus businesses for Rs.209 crore; Glaxosmithkline Pharmaceuticals Recently, the GSK Pte announced increasing its stake in its GlaxoSmithKline Consumer subsidiary from 43.2% to 75%, in a deal worth ₤591m at a 28% premium to the unit’s closing share price of the previous week; The logical possibility of increasing the stake is higher for its pharma venture, as the extent of involvement of parent’s technology is more for this business; Siemens Siemens AG had earlier increased its stake in Siemens by 19.8% from 55.2% to 75% through an open offer in 2011; Siemens AG has charted a new strategy to design and develop about 60 products especially for India, targeting $1.3 billion in annual revenues from them alone by 2020; Reversal of interest rate cycle along with revival of economy would lead to the company outperforming its peers; Styrolution ABS (India) The parent had tried to acquire 100% stake in its Indian subsidiary in the past but had not been successful; Styrolution ABS has been on a steady growth path. Over CY2008-2012, its revenue and net profit has been consistently growing at 13.1% CAGR and 36.7% CAGR respectively; Due to OFS to meet the SEBI norms, the stock has witnessed correction and the current market price offers a good opportunity for MNC to consider delisting of the Indian subsidiary; Source: Company, Centrum Wealth Research Abhishek Anand, VP - Research (; +91 22 4215 9853) Dhaval Sangoi - Research Analyst (; +91 22 4215 9980)
  • 14. I nd i a I nv e s tm en t S tr a t eg y14 BASF India Ltd. BASF India, a subsidiary of €72 billion chemical engineering major BASF, Germany (73.3% equity stake) is engaged across virtually the entire chemicals sector including agri chemicals, performance products, plastics, functional solutions, etc. In FY2012, BASF consolidated its businesses by merging four of its unlisted entities belonging to the parent company (BASF Polyurethanes, BASF Coatings, BASF Construction Chemicals and Cognis Specialty Chemicals) with itself. Subsequently, the management announced that BASF India would be the “Single Legal Entity” for all its India operations. This provides us some conviction of its eventual delisting, as the MNC already holds more than 73% stake in this company; Post consolidation, BASF has proposed aggressive capacity expansions. It is setting up a new chemical plant in Gujarat at a cost of over Rs.1,000 crore and the plant is expected to be operational in 2014. BASF is looking to fund this expansion through a mix of internal accruals and ECB from group companies which would be on beneficial terms. The plant is likely to add at least Rs.700 crore of revenue in its 1st year of operations. Further, the company is looking to set up a Global Research Centre for crop protection solutions in India as it shifts its R&D work to Asia, supporting its major expansion into the region; BASF is expected to add a production line for precious metal-based fine chemical catalysts at its Mangalore plant. These catalysts find applications in the manufacturing of active pharmaceutical ingredients (API). This is the first chemical catalyst facility in the Asia-Pacific region and will not only cater to the increasing pharma market in India but also the growing market across the Asia-Pacific region; BASF for Q1FY2014 reported 21% YoY growth in net profit to Rs.87 crore led by improvement in margin from agri- solution business. Revenue for the quarter grew by 5.2% YoY to Rs.1,360 crore. The company’s operating profit grew by 22% YoY to Rs.151 crore with margin improving by 151 bps to 11.1%. On segmental basis, Agri-solution business outperformed with its EBIT growing by 61% YoY to Rs.111.4 crore and revenue increasing 16% YoY to Rs.586 crore. EBIT margin of the segment improved 527 bps to 19%. BASF reported an EPS of Rs.20 for Q1FY2014; The company is setting up precious metal catalyst plant at its existing manufacturing site at Mangalore at an approximate cost of Rs.10 crore (Euro 1.5 million) and the same will be financed through internal accruals. Production is likely to commence in Q3FY2013. Further, it is targeting annual sales of Rs.820 crore from innovative lifestyle solutions for affordable mass housing, food fortification, solar and wind energy and water purification. Also, the parent company is targeting sales revenue of €25 billion (~Rs.2.12 lakh crore) by 2020 in the Asia-Pacific region in which India is likely to play a major role. We believe this would be positive for BASF; INR has depreciated by almost 44% since July 2011 from Rs.43.9 to Rs.63.4 at present. We believe this offers a good opportunity for the parent to delist BASF which if implemented would make the stock a multi bagger. Even if delisting does not materialize, the stock can provide significant returns post the business restructuring and aggressive expansion plans which would boost both its top line and bottom line in the next 2 years. Hence we recommend Buy with a fair value of Rs.773. Financial Summary (Rs. Cr.) CMP: Rs. 521 52 week H/L Rs. 770/490 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 3,516 101 -14.4 23.3 22.3 2013A 3,941 121 19.5 27.8 18.7 2014E 4,532 155 28.6 35.8 14.5 2015E 5,235 159 2.8 36.8 14.1 Source: Company; Centrum Wealth Research Estimates Clariant Chemicals (India) Ltd (CCIL) Clariant Chemicals (India) Ltd. (CCIL), a 63.4% subsidiary of Clariant AG Switzerland, is a leading manufacturer of specialty chemicals in India catering to various sectors including automobiles, paints, personal care, food & beverage and among others. It has four manufacturing plants across the country. We expect significant export opportunity for CCIL from its parent as some plants in EU and South Korea are not likely to be operative. CCIL is a debt-free cash rich company, with cash on books at Rs.181 crore as on June 2013 (~14% of its current market cap). The company had restructured its business in 2011 and sold land & infrastructure worth Rs.240 crore of which it distributed a third as special dividend to shareholders. It had paid a total dividend of Rs.60 per share for CY2011 (including a special dividend of Rs.30). For CY2012, CCIL paid a total dividend of Rs.27.5/share translating to a yield of 5.7% at the current market price; CCIL’s board in March 2013 approved the sale of 3 out of the total 9 business units - Textile Chemicals, Paper Specialties and Emulsions to SK Capital (US based PE Investor) for a consideration of Rs.209 crore. The divestment of the company's business includes a textile chemical plant situated at Roha. The total cash after considering the divestment (post tax) would increase to about Rs.389 crore (Rs.145 per share) or 30% of its current market cap; Further, the company has recently decided to sell its land at Kolshet, Thane and move its plant to a new location. Based on media reports, the company has around 88 acre of land in Thane and is looking to raise about Rs.1,500-Rs.1,600 core. Even if we consider realisation of Rs.1,200 core for the land, post tax the cash would increase by about Rs.840 crore (Rs.311 per share). Considering its history with regards to being investors friendly, we believe there is likely case for a special dividend by the company in future as the total cash post the sale of 3 business units and land at Thane would increase to Rs.1,229 crore (Rs.456 per share); For Q2CY2013 on CCIL’s net profit declined by 21.6% YoY to Rs. 24 crore. While Revenue grew by 14% YoY to Rs. 327 crore, EBITDA declined by 17% YoY to Rs. 38 crore with margin contracting by 420 bps to 11.5%. This was mainly due to raw material and employee cost, which as a percentage of sales increased by 194bps YoY and 305 bps YoY to 63.3% and 10% respectively. For H1CY2013, while the revenue grew by 15% YoY to Rs.612 crore, the company’s net profit declined by 13% YoY to Rs.49 crore. Operating profit declined by 3.7% YoY with margin contracting 233 bps to 12.1%. CCIL reported EPS of Rs.9 and Rs.18.3 for Q2CY2013 and H1CY2013 respectively. CCIL has declared an interim dividend of Rs. 10 per share; CCIL’s core business (after the sale of 3 units) would continue to growth with focus on high margin businesses. We expect CCIL to report an EPS of Rs.25.40 in CY2013. We value the core business at Rs.254, 10x its CY2013E EPS, which we believe is conservative given the MNC parentage. Further the company would have cash per share of Rs.456 per share (Rs.145 existing + Rs.311 from land sale), giving a total fair value of Rs.710 per share over a one year period and recommend Buy. Financial Summary (Rs. Cr.) CMP: Rs.481 52 week H/L Rs. 674/371 Y/E Dec Revenue Adj. PAT Growth % EPS P/E 2011A 979 118 0.9 44.4 10.8 2012A 1,096 95 -20.0 35.5 13.5 2013E 663 68 -28.6 25.4 18.9 2014E 759 77 14.4 29.0 16.5 Source: Company; Centrum Wealth Research Estimates
  • 15. I nd i a I nv e s tm en t S tr a t eg y15 Glaxosmithkline Pharmaceuticals Ltd. (GSKP) GlaxoSmithKline Pharma (GSKP) is a leading player in the Indian pharma market with products across therapeutic areas such as anti-infectives, dermatology, gynecology, diabetes, oncology, cardiovascular disease and respiratory diseases. The domestic pharmaceutical market is expected to reach $20 billion by 2015, making it one of the world's top 10 pharma markets. Domestic formulations industry is expected to grow at a CAGR of ~15% over the next decade. GSKP has a robust product pipeline aided by the strong backing of its parent company, GlaxoSmithkline Plc, UK. GSKP is the market leader in the dermatology, vaccines and hospital segments. Its sales have grown nearly 2.2 fold over the last 10 years and net profit has grown more than 3.8 times to Rs.662 crore during the last 10 years. GSKP enjoys EBITDA margins of over 30% which is among the highest in the industry. GSKP has excellent return ratios and margin. It achieved ROCE of over 28% and ROE of over 30% over the last few years. Hence, GSKP commands a premium valuation over its peers; GSKP and Biological E have agreed to set up a 50:50 joint venture (JV) to develop a six-in-one vaccine for polio and other infectious diseases. The transaction is expected to complete in 2013 subject to several conditions including regulatory approval of the JV; For Q2CY2013, reported net profit declined by 30% YoY to Rs.115 crore, while revenue declined by 2.5% YoY to Rs.645 crore. EBITDA declined by 42.6% YoY to Rs.122 crore while EBITDA margins stood at 18.9% as compared to 32.1% in CY2012. Company’s performance suffered due to supply constraints and trade related issues. Going forward, GSK revenues would be impacted by ~5% of annualised sales due to price reduction under new pharma pricing policy (NPPP); As per AIOCD AWCS data for the month of July 2013, GSK sales declined by 5.6% as against the industry’s 9.2%; Recently, the GSK Pte. announced its intension to increase its stake in its pivotal Indian division, GlaxoSmithKline Consumer Healthcare from 43.2% to 75%, in a deal worth ₤591m and representing about 28% premium to the unit’s closing share price then. The parent has also announced its plans to increase its stake in GlaxoSmithKline Consumer Nigeria from 46.4% to 80% with a tender at N48 a share, a premium of approximately 28%; GSKP is a cash rich company, with cash and current investments as of June 2013, stood at Rs.1,829 crore, which is Rs.216 per share. GSKP has declared a dividend of Rs.50/share for CY2012 giving a yield of 2.2% at the current price. We expect GSKP’s performance to improve from 2HCY2013 onwards due to new product launches and growth in existing products. At CMP of Rs.2,282, the stock is trading at 25.1x CY2013E EPS of Rs.91. We recommend BUY on GSKP. Moreover, there could be possibility of open offer even in GSK Pharma like the one witnessed in case of GSK Consumer. Financial Summary (Rs. Cr.) CMP: Rs. 2,282 52 week H/L Rs. 2,899/1,931 Y/E Dec Revenue Adj. PAT Growth % EPS P/E 2011A 2,378 648 12.1 76.5 29.8 2012A 2,621 663 2.3 78.2 29.2 2013E 3,014 770 16.1 90.9 25.1 2014E 3,458 899 16.9 106.2 21.5 Source: Company; Centrum Wealth Research Estimates Siemens Ltd., (India) (SL) Siemens Ltd., India (SL), a 75% subsidiary of Siemens AG, Germany (a €78.3 billion company as on Sept,2012) is a zero- debt & cash-rich company (cash of €11.4 billion as on Sept,2012). The parent earlier had increased its shareholding by 19.8% in SL from 55.2% to 75% through an open offer in March 2011 and had diluted its stake by 1.2% to 73.8%. The consolidation of operations and the open offer to increase its stake gives us enough confidence of an eventual possibility of delisting SL. SL is emerging as a key beneficiary of the parent group’s growing global presence and it would become a key sourcing destination for value-added products offered by it. Two recent moves by Siemens, AG are expected to be positive for the SL: o Siemens group has started an NBFC, which will focus on sectors like healthcare, infrastructure, energy and industry, with an initial investment of $50 million from the parent. This initiative will increase the demand for capital goods from SL by facilitating capital available to the customers; o Siemens AG has charted a new strategy to design and develop some 60 products especially for India, targeting $1.3 billion in annual revenues from them alone by 2020; For Q3SY2013 (September year ending), SL reported a net loss of Rs.48.8 crore as against a profit of Rs.36.2 crore. Revenue for the quarter declined by 12.5% YoY to Rs.2,643 crore. SL reported a loss of Rs.6.2 crore at the operational level as against a profit of Rs.130 crore last year. Pursuant to the significant developments in certain projects, the company has revised estimated revenue, costs and project related provisions and has charged a net amount of Rs.135.4 crore for the same in Q3SY2013 as against NIL last year. Order inflow during the quarter stood at Rs.2,620 crore, a 3% YoY decline; During FY2012 (September year end), the amalgamated Winergy Drive Systems Pvt. Ltd. with SL. It has also merged another parent owned company - Siemens Power Engineering (SPEL) with itself. This was after the company had already merged Siemens Rolling Stock Pvt. Ltd in May 2011, Siemens VAI Metal Technologies Pvt. Ltd. and Morgan Construction Company India Pvt. Ltd. in October, 2011; SL has cash of Rs.344 crore and debt of Rs.320 crore on books as on 31 March, 2013. Growing opportunities in India and outsourcing from the parent is expected to lead to strong earnings growth for SL over FY2013-14. Going forward, we expect a reversal in the interest rate cycle and also a revival in the capital goods segment, which will be positive for SL; SL, with comfortable order book, is poised to benefit from its NBFC foray & designing of over 60 new products and thereby improve its growth prospects going forward and holds an attractive delisting opportunity. Hence, we recommend BUY on the stock with a target price of Rs.700. Financial Summary (Rs. Cr.) CMP: Rs. 451 52 week H/L Rs. 750/419 Y/E Sept Revenue Adj. PAT Growth % EPS P/E 2011A 12,920 422 -50.1 11.8 38.0 2012A 12,145 430 1.9 12.1 37.3 2013E 13,068 571 32.8 16.0 28.1 2014E 14,205 665 16.5 18.7 24.1 Source: Company; Centrum Wealth Research Estimates
  • 16. I nd i a I nv e s tm en t S tr a t eg y16 Styrolution ABS (India) Ltd. (SAL) Styrolution ABS (India) Ltd. (SAL) is a 75% subsidiary of Styrolution Group GmbH, Germany. Styrolution Germany, a $10 billion company is a leading manufacturer of an engineering plastic namely styrene monomer, polystyrene and ABS and is a 50:50 joint venture between global chemical giants BASF SE (about $100 billion company) and INEOS ABS ($42 billion company). The parent had tried to acquire 100% stake in SAL in the past but has not been successful. SAL is the market leader in the engineering plastics industry in India with ~60% market share in ABS resins segment and ~68% in SAN resins segment. Absolac (ABS) is plastic resin produced from Acrylonitrile, Butadiene & Styrene. Its application ranges from home appliances to automobile, consumer durables, business machines; There is a huge demand supply gap for ABS in India which is being met through imports over the years. CRISIL Research estimates that the supply of ABS would grow at 17% CAGR to meet the demand during CY2010-15E. SAL has expanded its SAN capacity from 36,000 tpa to 65,000 tpa, which has helped increasing its capacity of ABS from 60,000 tpa to 1,00,000 tpa. This expansion has been funded through internal accruals. We expect the demand growth to continue and provide steady revenue stream to SAL; SAL has been on a steady growth path. Over CY2008- 2012, its revenue and net profit has been consistently growing at 13.1% CAGR and 36.7% CAGR respectively. For Q2CY2013 SAL reported 16.5% YoY decline in net profit to Rs.8.3 crore. Revenue for the quarter declined by 2.5% YoY to Rs.230 crore. Operating profit declined 1.1% YoY to Rs.14.5 crore with margin remaining flat at 6.3%. For H1CY2013, while the revenue remained flat at Rs.472 crore, SAL’s net profit declined by 10.1% YoY to Rs.23.4 crore. Operating profit and margin stood flat at Rs.38 crore and 8% respectively. SAL reported EPS of Rs.4.7 and Rs.13.3 for Q2CY2013 and H1CY2013 respectively; The company has proposed internal re-structuring within its businesses in India. The parent which has another private company named Styrolution India private Ltd. is now evaluating methods to combine the two companies under one umbrella which would streamline management operations and functions. We believe this is a likelihood of merging the unlisted entity with SAL which would be very positive as this would further improve the business through better synergies of the combined entity; We believe the impact of OFS has already been factored in the price and the current valuation of 8.7x CY2013E EPS of Rs.40.4 offers a great opportunity to accumulate. We value the stock at 14.1x CY2014E EPS estimates to arrive at a fair price of Rs.660 from a long term perspective. Financial Summary (Rs. Cr.) CMP: Rs. 350 52 week H/L Rs. 800/339 Y/E Dec Revenue Adj. PAT Growth % EPS P/E 2011A 825 54 -22.9 30.7 11.4 2012A 989 63 15.9 35.6 9.8 2013E 1,116 71 13.5 40.4 8.7 2014E 1,273 83 16.2 46.9 7.5 Source: Company; Centrum Wealth Research Estimates
  • 17. I nd i a I nv e s tm en t S tr a t eg y17 Rupee Crash: Net exporters & producers of import substitutes to benefit
  • 18. I nd i a I nv e s tm en t S tr a t eg y18 Rupee Crash: Net exporters & producers of import substitutes to benefit In the three to four decades prior to Lehman crisis, the exchange rate of Indian Rupee (INR) against the US$ had been depreciating in the range of 4-5% per annum. However, in the last 5 years, INR has witnessed huge volatility and fell more than 15% on four occasions. The first of these was post the Lehman crisis in 2008 and then thrice every year from 2011. INR has depreciated by about 13% YTD in 2013 and by over 45% in last two years. Exhibit 13: Sharp movement in INR-USD in the last 5 years Sl. No From Date INR / USD To Date INR / USD % Change Duration 1 Aug 2008 42.35 Mar 2009 51.30 21% 8 Months 2 Aug 2011 44.08 Dec 2011 53.65 22% 5 Months 3 Mar 2012 49.22 Jun 2012 57.14 16% 4 Months 4 May 2013 53.82 Aug 2013 63.35 18% 4 Months Source: Bloomberg, Centrum Wealth Research In our view, two set of reasons have led to such crash in INR. There has been a structural change in the Indian economy with the ever increasing demand for imports of 5 major commodities – Crude oil, Gold, Coal, Edible oil and Fertilizer. In the last 10 years, the imports of these commodities have gone up from anywhere between 6 to 22 times. However, India’s exports have not kept pace with its increasing imports leading to a huge negative trade balance, which has gone up 22 fold! On the back of these structural changes, the pressure on INR compounded by the recent fear over the US Federal Reserve tapering its Quantitative Easing (QE) and subsequent withdrawal of money from the domestic debt markets by the FIIs. Exhibit 14: INR movement against USD 35 40 45 50 55 60 65 70 Jan-08 Apr-08 Jul-08 Oct-08 Jan-09 Apr-09 Jul-09 Oct-09 Jan-10 Apr-10 Jul-10 Oct-10 Jan-11 Apr-11 Jul-11 Oct-11 Jan-12 Apr-12 Jul-12 Oct-12 Jan-13 Apr-13 Jul-13 Source: Bloomberg, Centrum Wealth Research The way forward and how to benefit Going ahead, unless the structural changes are addressed, the pressure on INR is unlikely to ease substantially in the short term. It is likely to take one to two years for INR to appreciate by 10% to 20%. Meanwhile we believe the companies which are net exporters or engaged in producing import substitutes would be the major beneficiaries. Hence, we present 6 stocks which were also filtered in terms of valuations, growth prospects, tactical (like possible de-listing, stake sale, etc), dividend yields, etc. Exhibit 15: Net Exporters and import substitutes (FY2013 standalone numbers) Company Revenue (Rs. crore) Net Exports (Rs. crore) Net Exports as % of Revenue Other positive highlights Cairn India 9,201 8,708 95% Largest and cheapest crude oil producer in the country Oracle Fin Serv. 2,938 1,956 67% De-listing possibility; Cash rich Polaris Fin Tech 1,854 839 45% Cheapest valuation and Impressive dividend yield; Management committed to enhance shareholders’ value through restructuring JB Chemicals 816 357 44% Growing fastest in the domestic pharma space; Cash rich and Cheapest valuation in the pharma space Tata Coffee* 598 216 36% Seen steep correction in stock price; Subsidiary in the US engaged in coffee retailing doing extremely well, posted close to 100% YoY profit growth in Q1FY2014 Hindustan Zinc 12,700 681 5% Tactical opportunity from divestment of government stake through auction route; Cash rich; Major producer of silver whose prices are expected to rise significantly; Producer of Zinc, which is a major import substitute Source: Company, Centrum Wealth Research
  • 19. I nd i a I nv e s tm en t S tr a t eg y19 Exhibit 16: Valuation Table Company Name CMP (Rs.) Market Cap (Rs. Cr.) Target Price (Rs.) Upside (%) 52 Week High (Rs.) 52 Week Low (Rs.) EPS (Rs.) P/E (x) FY2014E FY2015E FY2014E FY2015E Cairn India 311 59,224 375 21.0 367 268 51.5 46.2 6.0 6.7 Oracle Fin. Serv. 2,876 24,181 3,300 15.0 3,415 2,350 143.3 167.8 20.1 17.1 Polaris Fin. Tech 105 1,045 145 38.1 148 96 24.1 27.2 4.4 3.9 JB Chemicals 82 695 120 46.3 96 64 12.9 15.8 6.4 5.2 Tata Coffee* 958 1,789 - - 1,680 880 72.3 84.1 13.3 11.4 Hindustan Zinc 116 49,014 144 24.1 147 94 15.9 16.8 7.3 6.9 * Note: Tata Coffee is not under our coverage. We have started buying this stock for our clients under fund management over the last few months; Source: Bloomberg, Company, Centrum Wealth Research Siddhartha Khemka, VP - Research (; +91 22 4215 9857) Rijul Gandhi - Research Analyst (; +91 22 4215 9415)
  • 20. I nd i a I nv e s tm en t S tr a t eg y20 Cairn India Ltd. (CIL) Cairn India Ltd. (CIL) is one of the largest independent oil and gas exploration and production companies in India producing more than 20% of India’s domestic crude oil production. It operates the largest onshore oil field in India, the MBA (Mangala, Bhagyam and Aishwariya) fields in Rajasthan, having gross recoverable oil reserves of ~1 billion barrels and has made over 40 oil & gas discoveries. The production at Rajasthan fields grew by 32% YoY to 169,390 bpd in FY2013. The average overall daily gross operated production grew by 19% YoY to 205,323 barrels per day (bpd) in FY2013. The CIL-ONGC JV has started commercial sale of 5 million standard cubic feet per day of natural gas initially from its Barmer fields in March 2013, to be sold at around $5/mBtu. Also, CIL has commenced production at its Aishwariya field, the 3rd largest discovery in the Rajasthan block. The field will be ramped up to its plateau of 10,000bpd in FY2014E. CIL has recovery and basin production potential of 300,000 bpd from the Rajasthan block. The JV expects product made its 26th discovery in India so far in the RJ-ON-90/1 block and has commenced drilling of 1st exploration well in Barmer after a gap of over 4 years which will help realise the estimated 0.5 billion barrels of oil equivalent (boe) of risked recoverable prospective resource, amounting to ~1/3rd of the Estimated Ultimate ion rate of 200,000- 215,000 bpd from the block by end FY2014. CIL has also acquired 600 sq. km of 3D seismic in Block SL 2007-01-001 in early 2012 and spud its 4th exploration well in the block on February 2, 2013; CIL is planning to invest more than Rs.16,000 crore ($3 billion) for new exploration till FY2016 including Rs.13,000 crore ($2.4 billion) to drill more than 450 wells in its Rajasthan block. With these new explorations CIL is targeting to add 530 million barrels of oil to its reserves. CIL indicated delayed ramp up of Bhagyam field (in H2FY2014E) with drilling of 15 additional wells. However, it is accelerating its plans to drill 30 wells in FY2014 and FY2015 each. So far CIL has invested a total of Rs.18,000 crore in Rajasthan fields and plans to invest Rs.6,000 crore in FY2014; For Q1FY2014, CIL reported a 8.3% YoY decline in consolidated net profit to Rs.3,127 crore against Rs.3,826 crore in Q1FY2013, mainly led by decline of about 16% YoY in EBITDA and a 19% YoY increase in depreciation. The revenue declined by 8.5% YoY to Rs.4,063 crore. CIL has achieved highest ever gross operated production of 212,442 bpd in Q1FY2014. It plans to increase crude production in the Rajasthan block from the current 180,000 bpd to 210-215,000 bpd by FY2014. The block also witnessed a full quarter of gas sales from the Rageshwari Deep gas field which commenced in March 2013; Crude Oil (Brent) prices have remained steady with a marginal fall of 0.8% since the start of 2013 as against the average decline of about 7% in the international prices of other non – agri commodities during the same period. This is positive for CIL. The company has net cash reserve of Rs.16,000 crore as on March 31, 2013 and is expected to generate about Rs.10,000 crore each year for next few years. With most of the regulatory issues being addressed, CIL is poised to focus on ramping up its production. Considering capacity expansion, firm oil prices and substantial cash flow we maintain our ‘BUY’ on CIL which trades at 6.7x FY2015E EPS of Rs.46.2/share with a price target of Rs.375. Financial Summary (Rs. Cr.) CMP: Rs. 310 52 week H/L Rs.366/268 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 11,861 7,938 25.3 41.6 7.5 2013A 17,524 11,920 50.2 62.4 5.0 2014E 16,582 9,847 -17.4 51.5 6.0 2015E 17,076 8,827 -10.4 46.2 6.7 Source: Company; Centrum Wealth Research Estimates J.B. Chemicals & Pharmaceuticals Ltd. (JBC) JB Chemicals (JBC), a mid-sized pharmaceutical company, had sold off its OTC business in Russia/CIS in FY2012 for Rs.1,155 crore. It is one of few companies to share the cash proceeds with the shareholders which indicates a good management - it gave out a special dividend of Rs.40/share (a total dividend –including dividend tax - of around Rs.400 crore). JBC has posted an impressive result for Q1FY2014 with its standalone net profit growing by 4.7 times (372% YoY) backed by a 24% YoY growth in operating income and EBIDTA growing by 102% YoY. The formulation exports business, which accounts for almost 50% of revenue, grew by 28% during the quarter. The overall sales in domestic formulations business grew by 19% YoY with API revenue witnessing a growth of 62% YoY. The total sales under the supply agreement with Cilag GmBH International, a Johnson & Johnson affiliate, registered a growth of 15.5% YoY and this is expected to grow further over the coming quarters; JBC has been consistently outperforming industry growth rate since July 2012. We expect this outperformance to continue going forward. The focus of the company is on the contract manufacturing opportunities and on niche branded generics; On a consolidated basis, the company’s net cash for FY2014, after accounting for the Rs.64.5 crore to be transferred to Cilag GmBH Intl., is expected at Rs.442 crore (cash & current investments of Rs.506.4 crore minus debt of Rs.44.5 crore), which is 64% of current market cap of Rs.695 crore. Its book value stood at Rs.120/share as on March 31, 2013; Considering revenue growth and current margin, the company can achieve Rs.12.90 EPS in FY2014E, implying a P/E of 6.4x at current market price. Further, we estimate net cash and equivalents (net of debt) of Rs.52/per share as on June 2013 – at current stock price, its net Enterprise value is just about 25% of its sales which is extremely attractive when we consider anywhere 3 to 6x valuations given to recent acquisitions in the pharma space. We reiterate BUY with a fair value of Rs.120/share – in case JBC joins consolidation process, then it can provide a multi-bagger opportunity in the medium to long term; We consider JBC as the most defensive stock – operating in defensive pharma business, growing faster than the domestic industry since July 2012, investor friendly management (rewarded with special dividend), sitting on huge cash and also debt free, and on our expectation of a dividend of Rs.4 per share for FY2014, also offers 4.9% dividend yield. Hence, we suggest all our clients continue to accumulate the stock. Consolidated Financial Summary (Rs. Cr.) CMP: Rs. 82 52 week H/L Rs. 96/64 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 802 68 -51.3 8.0 10.2 2013A 866 79 17.2 9.4 8.7 2014E 1,017 109 37.2 12.9 6.4 2015E 1,220 134 23.2 15.8 5.2 Source: Company; Centrum Wealth Research Estimates
  • 21. I nd i a I nv e s tm en t S tr a t eg y21 Oracle Financial Services Software Ltd. (OFSS) Oracle Financial Services Software (OFSS), a subsidiary of Oracle Corp. USA, the global leader in providing software platforms to Banking and Financial Services Industry (BFSI) and enterprise solutions. The company witnessed revenue growth of 10% in FY2013 after a slower growth of an average 2% over FY2010-12. For FY2013, the product revenue (which contributes 75% to the total revenue), grew by 14% and helped the overall growth momentum; For Q1FY2014 on a consolidated basis, OFSS reported a growth in net profit by 30.2% QoQ (declined by 0.5% YoY) to Rs.366 crore. The company’s revenue grew by 2% QoQ (declined by 5% YoY) to Rs.899 crore. EBIT grew by 1.7% QoQ (declined by 14% YoY) to Rs. 320 crore. The EBIT margins stood at 35.5% for the quarter. The company signed new licenses worth $18 million and 10 new customers for the product portfolio in Q1FY2014. The EPS for the quarter stood at Rs.43.6 as against Rs.43.7 in Q1FY2013. On a segmental basis, the revenue from the Product business grew marginally by 0.8% QoQ (declined by 3.4% YoY) to Rs. 687 crore. The services business grew by 8.2% QoQ (declined by 10.7%YoY) to Rs.191 crore. On a geographical basis, North America grew by 23% QoQ (declined 7.6% YoY) to Rs. 315 crore. Asia Pacific declined by 14.1% QoQ and 5% YoY to Rs. 288 crore. Europe, Middle East and Africa (EMEA) grew by 2% QoQ (declined 2% YoY )to Rs. 297 crore; Over the last 5 quarters, OFSS has added 51 new clients set across various geographies thereby increasing its market share. It signed license agreements worth $80.3 million over the last 5 quarters. It diversified its hold in to new geographies by signing licenses in nations such as Ethopia, Kenya, Nigeria, Zambia, Oman and Myanmar which have high growth prospective. Going forward, we expect the revenue to grow at 13-14% over FY2013-15E, in- line with the expected industry growth of 12-14% for FY2014 by NASSCOM; As on June 2013, the company was sitting on a cash of Rs.5,792 crore which is about 24% of the current market capitalization. Oracle Corp has a history of not declaring dividends and the investors had to wait for 23 years when it first declared a dividend in 2009. Since then both Oracle Corp (US) and Oracle Japan have been declaring regular dividends. OFSS last declared a dividend of Rs.5 per share in 2006. Going forward, considering the improvement in profitability and the significant cash in books, we believe OFSS might follow its parent and start declaring regular dividends; OFSS enjoys one of the highest net profit margins in the industry at 31%. The company’s return on capital employed (RoCE) has historically remained above 20% despite the high level of cash in balance sheet; At the current price, the stock is trading at 20.1x FY2014E and 17.1x FY2015E earnings estimate which is in line with large IT services companies. We believe that the stock is attractive considering 1) expected improvement in financial performance going forward; 2) strong balance sheet with cash of Rs.653 per share (23% of the CMP); and 3) strong balance sheet of parent (net cash of close to $14 billion) and INR depreciation of close to 39% in the last two years can lead to buy back or de-listing would offer tactical opportunity. Consolidated Financial Summary (Rs. Cr.) CMP: Rs. 2,876 52 week H/L Rs. 3,414/2,350 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 3,147 909 -18.0 108.2 26.6 2013A 3,474 1,075 18.2 128.0 22.5 2014E 3,891 1,204 12.0 143.3 20.1 2015E 4,475 1,409 17.1 167.8 17.1 Source: Company; Centrum Wealth Research Estimates Polaris Financial Technology Ltd. (Polaris) Polaris Financial Technology Limited (Polaris) a leading global player in Specialty Application Development for the BFSI sector. Over the years, the company has strengthened its product and services profile with the help of global acquisitions. Polaris has a strong base of more than 200 customers with 80 of them as strategic accounts. It gets around 58% of revenues from its top 10 clients with Citigroup forming a bulk of it, with whom it has been dealing since last 15 years. Recently, Polaris approved of an organizational restructuring. Polaris currently operates in three verticals - software services, products and cloud computing. Polaris has planned five chief executive officers for different verticals to improve focus and client success ratio; With acquisition of Patni by iGate, we believe there can be further consolidation in the mid and small sized IT companies and the average PE multiple of companies like Polaris, which are witnessing strong operating performance, should shift vertically. The company is exploring options including appropriate restructuring, that would provide an impetus for the next stage of its growth, in order to maximize shareholder value; For Q1FY2014, Polaris reported a decline in PAT by 1.4% QoQ and 29.4% YoY to Rs.43 crore. The decline was on account of forex loss and higher software development expenses. Revenue grew by 5% QoQ and 0.4% YoY to Rs.584 crore. The operating profit grew by 8.9% QoQ, however the same declined 8.5% YoY to Rs.101.4 crore. The EBITDA margins stood at 17.3% in Q1FY2014. The company acquired 11 new clients during Q1FY2014. The debtor collection period improved to 107 days as compared to 118 days in Q1FY2013. The cash and cash equivalents as on June 30, 2013 stood at Rs.571 crore which is 54% of the current market cap; The company is looking at divesting its stake in IdenTrust Inc due to security reasons raised by the US government. Polaris acquired 85% stake in the company for US$19 million. The management do not expect any significant losses from this sale; Polaris has been improving its dividend payout over the years and had paid Rs.4.50 and Rs.5 in FY2011 and FY2012 respectively. The Board paid a final dividend of Rs.5 for FY2013 which translates into a yield of 4.8%; At the current price of Rs.105, the stock is available at an attractive valuation of 4.4x FY2014E EPS of Rs.24.1 and 3.9x FY2015E EPS of Rs.27.2. While the result subdued, we believe that consolidation story would play out within IT sector and Polaris would be one such company to benefit from this theme. Considering business restructuring plan and mandate to enhance shareholder value indicated by the management, we recommend investors to Buy Polaris for a target of Rs.145, giving an upside of 38% from current levels. Consolidated Financial Summary (Rs. Cr.) CMP: Rs. 105 52 week H/L Rs. 147/96 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 2,049 221 13.8 22.2 4.7 2013A 2,308 201 -8.9 20.2 5.2 2014E 2,597 239 19.1 24.1 4.4 2015E 2,909 271 13.1 27.2 3.9 Source: Company; Centrum Wealth Research Estimates
  • 22. I nd i a I nv e s tm en t S tr a t eg y22 Tata Coffee Ltd. (TCL) Tata Coffee Ltd (TCL) is the largest integrated coffee plantation company in the world with business ranges from growing and curing of coffee & tea to manufacture and marketing of value added coffee products. TCL has a huge plantation area of 25,447 acres or 10,303 hectares, as of FY2013. Around 77% of standalone revenue comes from the coffee segment while Tea, Pepper and Estate supplies contribute 12%, 5% and 6% respectively. Acquisition of Eight O’clock coffee (EOC), helped TCL to transform from being just a commodity player into a significant branded player. EOC contributes around 65% of the consolidated top-line of TCL numbers. EOC registered sales CAGR of 10.2% to Rs.1,099 crore over FY2008-2013. Furthermore EOC, re-launched its brand and introduced new products in US and Canadian market which would drive growth growing forward; Instant coffee share in the standalone revenue is consistently increasing, from 38% in FY2010 to 54% in FY2013 and is expected to be around 75% going ahead. The segment has higher margins and is helping the overall PAT margins to improve (from 9.8% in FY2010 to 16.8% in FY2013). Company is planning to invest more than Rs.300 crore over the next 3 years to increase its instant coffee production capacity, which may partly be achieved via acquisitions outside India; TCL’s has made an agreement to supply coffee beans to JV “Tata Starbucks” in India and also to Starbucks operations in South East Asia. Tata Starbucks currently operates around 17 outlets and it plans to have 50 outlets in the country by 2013. Further, Starbucks (Global) approximately has 700 retails (licensed and company operated) chains in South East Asia. Supplying coffee beans to these chains would boost TCL standalone revenue going ahead; TCL is a net exporter and as of March 2013, its net forex earnings stood at Rs.216 crore, 36% of the company’s standalone revenue and hence INR depreciation is beneficial for TCL; During Q1FY2014, Average Arabica coffee prices are down by 21.9% YoY to 132.4 cents/lb while Robusta prices are down 7.4% YoY to $1,916 tonne. EOC uses Arabica and Robusta green beans as its raw material and hence fall in their prices would be margins accretive for the company. On a consolidated basis, for Q1FY2014, net profit grew by 43% to Rs 40.4 crore while total income was up 1% YoY to Rs.418 crore. EBITDA grew by 49.3% YoY to Rs.103 crore while margins stood at 24.5% as compared to 16.6% in Q1FY2013; TCL stock has corrected by 42.8% from its 52-week high of Rs.1,675. The stock is currently trading at attractive valuation of 11.4x its consensus FY2015E EPS of Rs 84.1 per share. We believe that TCL is strong play on branded coffee retail (EOC) and growing demand for coffee & tea. Hence we are positive on the company. Financial Summary (Rs. Cr.) CMP: Rs. 958 52 week H/L Rs. 1,675/880 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 1,549 81 11.9 43.5 22.0 2013A 1,697 116 43.2 62.2 15.4 Source: Company; Centrum Wealth Research
  • 23. I nd i a I nv e s tm en t S tr a t eg y23 Sector strategy during turbulent time
  • 24. I nd i a I nv e s tm en t S tr a t eg y24 Sector strategy during turbulent time We expect the domestic economic growth to remain subdued for another 3 to 6 months and GDP growth to continue to remain below 5% till 3rd quarter of FY2014. This low growth scenario for next 3 to 6 months would be characterized by high borrowing costs, deterioration in quality of banking assets, subdued capital expenditure, lower level of job opportunities and income generation especially in the urban economy and continued stress on both exchange rate of Rupee and the fiscal balance. Considering this environment, we suggest the following sector strategy for the period till elections. Exhibit 17: Sector Strategy Sector Recommenda tion High conviction Stocks Remarks Banking & Financials Neutral Karur Vysya, City Union, HDFC Bank, J&K Bank, YES Bank Asset quality would continue to deteriorate especially for the PSU banks; Credit growth to remain subdued due to high interest regime maintained over last 2 years and with further tightening of liquidity by RBI. Information Technology Overweight Oracle FinServe, Polaris, CMC# Over 45% fall in exchange rate in the last 2 years of INR is positive; It would be very difficult for INR to recover beyond 10% in next 6 months. In case of any rating downgrade INR can fall further, significantly. The IT sector would remain a safe bet in this environment; Further revival of US economy would also be positive for Indian IT industry. Energy Neutral RIL, Cairn India While INR fell 13% YoY, oil prices remain quite firm leading to more stress on oil under-recovery. Difficult for the government to shift the entire burden on people during the election time, hence PSU upstream and oil marketing companies would share larger burden; Prefer private operators as they are likely to benefit from INR depreciation, volume growth and increase in gas prices. FMCG Overweight ITC, Tata Coffee# , Britannia# , Akzo Long term growth prospects still remain better, compared to other sectors; FMCG would remain the best defensive and can mitigate any possible risk arising from further domestic shocks Automobiles & Components Neutral M&M, MRF, Bosch, JK Tyre Low GDP growth and high interest regime would lead to continued deceleration in automobile sales for at least next 3 months; Competition cutting across segments (car producers getting into SUVs, high-end car producers getting into small cars, etc) would provide further pressure to automobile producers; While M&M set to gain in tractor segment due to successful monsoon, ancillaries would gain from recent boom in automobile population and consequent robust demand from replacement markets. Capital Goods Underweight SIEMENS, BHEL, L&T Sector would continue to suffer poor order inflows, slow execution and high interest costs; While long term investments can be made in L&T and BHEL, investors can bank on Siemens for tactical reasons (possible delisting). Metals/Mining Underweight on Metals; Overweight on resource producers HZL, NMDC, MOIL Growth slowdown to be negative for metal companies; However, competition among resource companies is less intense and some are debt-free, cash rich and make extra-ordinary profit margins – hence, better positioned to change their fortunes in a big way as and when economic conditions turnaround. Telecommuni cation Services Neutral None Reliance Jio launch can increase the competitive intensity again in the data business; Balance sheets still under pressures for most players; Sector would start witnessing renewal of spectrum and licenses at circle level which would increase balance sheet pressure. Healthcare Neutral J B Chemicals, Indoco Remedies, Wockhardt* Prefer domestic pharma players as they continue to get benefit from off-patent blockbuster drugs and are relatively least impacted from pharma pricing policy ; Sector is expected to grow ~18% over the next 2-3 years. Real Estate/ Infra Underweight NESCO Sector is facing challenge from slowdown in the economy and hence, poor demand, and high interest rate regime; Recommend BUY on NESCO alone at this juncture as its revenue model is based on rental income from exhibition centre & IT Parks. Note: *Recommended exclusively for risk-taking investors – while investors may lose about 20% in the worst case scenario, if company successfully comes out from the US FDA Alert, then stock can be a multi-bagger. # Not under our coverage, however, we have started buying these stocks for our clients under fund management over the last few months; Source: Centrum Wealth Research
  • 25. I nd i a I nv e s tm en t S tr a t eg y25 Portfolio Allocation and Investment Suggestion Considering the substantial volatility expected in equity markets during the next 6 months, we prefer a defensive strategy. Hence, we suggest having minimum 15% cash within equity asset class for another 3 months or till individual stocks are further beaten down badly. Within the equity asset class, we would prefer large cap and fairly large mid cap companies for investments. Within this framework, we prefer export oriented sectors, import substitutes, domestic demand themes, high dividend yield stocks and beaten down value stocks. Investors should avoid highly leveraged companies and stocks with high promoter pledging. Exhibit 18: Sectoral Allocation and preferred stocks Allocation by Sector / Theme Allocation Stock Picks in the sector FMCG 15% ITC, Tata Coffee# , Britannia# , Akzo IT 10% Oracle, CMC# , Polaris, Infosys - Hold Pharma/ Healthcare 10% Biocon, JB Chemical, Indoco Dividend Yield 20% KCP Sugar, Surya Roshni, HIL, Indraprastra Medical, BLIL Banking (Value picks) 15% HDFC Bank, KVB, CUB Beaten Down Value stocks 15% Balmer Lawrie, Andhra Sugar, BASF, Linde*, NMDC, MOIL, JK Tyre, Nesco, BBTC, Wockhardt* Cash 15% Total 100% Note: *Recommended exclusively for risk-taking investors – while investors may lose about 20% in the worst case scenario, if company successfully comes out from the US FDA Alert, then stock can be a multi-bagger. # Not under our coverage, however, we have started buying these stocks for our clients under fund management over the last few months; Source: Centrum Wealth Research Abhishek Anand, VP - Research (; +91 22 4215 9853) Siddhartha Khemka, VP - Research (; +91 22 4215 9857)
  • 26. I nd i a I nv e s tm en t S tr a t eg y26 FMCG Akzo Nobel India Ltd. (Akzo) Akzo (previously known as ICI India) is a strong player in paints and chemicals business with over 100 years of presence in India. In 2008, Akzo Nobel NV, Netherlands took equity ownership of Imperial Chemical Industries, UK and currently has 72.96% equity stake in the Indian subsidiary. During FY2012, Akzo commissioned two new plants – one in Hyderabad for decorative paints and another in Bangalore for coil coatings increasing its total facilities to 5 plants. Further the greenfield expansion at the Gwalior plant (mainly for its decorative segment) is expected to get commissioned in 2 phases of 50 milllion litres per annum each, of which 1st phase would be commissioned in next few months. This facility would help address growing demand from the North and East India. The company is currently focusing on decorative segment which contributes around 57% of its total sales. We believe this would improve the overall profitability of the company, as this segment enjoys higher margins; During Q1FY2013, Akzo merged three parent owned unlisted entities in India with itself, which led to increase in promoter holding to 68.9% from 59.6%. The company believes that the merger has created an integrated coatings and chemicals company, with significant synergies in several segments, namely, premium decorative, industrial and automotive coatings; In July 2012, the company completed buyback of 13 lakh equity shares at Rs.920 per share which increased the promoter stake to 70.8%. The promoters further acquired 10 lakh shares in the company in August 2012 increasing their holding to current 72.96%. We believe that consolidation in the business and increasing promoter stake signals a strong case for de-listing. Akzo has cash and investments of Rs.1,033 crore or Rs.221 per share as on March 31, 2013 which is 18.9% of current market capital. We believe that the company may go for another round of buyback before eventually going for de-listing; For Q1FY2014, net profit declined by 43% YoY to Rs.35 crore mainly on the back of decline in other income, even as revenue grew 2% YoY to Rs.574 crore. EBITDA declined by 8% YoY to Rs.49 crore, with margins contracting by 93 bps YoY to 8.5%. Other income fell by 71% YoY to Rs.10 crore. For FY2013, while the net income rose 12.3% to Rs.2,232 crore, the company's net profit increased 8.45% YoY to Rs.218.8 crore; Akzo at the current price is trading at 16.1x FY2014E EPS of Rs.51.5 and is the most attractive as compared to other listed paint companies. We believe the company is well placed to benefit from the improved outlook for the paints industry combined with the expected higher dividend and a possibility of de-listing. Hence we recommend BUY on the stock with a target price of Rs.1,300 per share. Financial Summary (Rs. Cr.) CMP: Rs.828 52 week H/L Rs. 1,196/820 Y/E Mar Revenue Growth % EBIDTA EBIDTA (%) Adj. PAT Growth % EPS (Rs.) P/E 2012A 1,988 81.2 175 8.8 202 14.1 43.3 19.1 2013A 2,232 12.3 189 8.5 219 8.4 47.0 17.6 2014E 2,510 12.5 210 8.4 240 9.6 51.5 16.1 2015E 2,875 14.5 245 8.5 303 26.3 65.0 12.7 Source: Company, Centrum Wealth Research Britannia Industries Ltd. Britannia is the largest player in the fast growing biscuits category with a market share of over 30% with a strong portfolio of brands like Tiger, 50:50, MarieGold, Good Day, Milk Bikis, Treat and NutriChoice. Britannia is focusing on premiumisation of its product portfolio. We believe it will help the company achieve better margins in the long term. The recent management change in Britannia appears more likely to be related to building its snack food franchise. Dairy is also a large opportunity and Britannia offers a great proposition in the segment given the quality of its product portfolio. Britannia is setting up plants in different geographic locations (two new units at Patna and Odisha, new bakery plant in Gujarat at a cost of Rs.50 crore) to reduce freight cost. This will help reduce lead distance by 100-150kms. The company has also implemented initiatives like alternative fuels to keep costs as low as possible; Britannia has come out with strong Q1FY2014 results. On a consolidated basis, Britannia’s net profit grew by 93% YoY to Rs.89.5 crore while revenue increased by 15% YoY to Rs.1,552 crore. EBITDA increased by 73% YoY to Rs.138 crore, while EBITDA margins expanded by 300bps YoY to 8.9%. EPS for the Q1FY2014 stood at Rs.7.48 as compared to Rs.3.89 per share in Q1FY2013; At the current market price of Rs.715, the stock is trading at 28.6x FY2014E consensus EPS of Rs.25 and at 24.0x its consensus FY2015E EPS of Rs.29.80. The stock is one of the cheapest in the FMCG space with market cap to sales of 1.4x on FY2013 compared to other domestic firms which are trading at anywhere between 3-5x market cap to sales; We believe that it is one the preferred branded plays in the biscuits space and is a possible acquisition target of firm like ITC which is scouting for inorganic ways to grow its business. Considering its size and cheap valuations it could be one of the preferred companies for any acquisition. Hence, we recommend accumulating the stock considering medium to long term investment horizon. Consolidated Financial Summary (Rs. Cr.) CMP: Rs. 715 52 week H/L Rs. 775/400 Y/E Mar Revenue Growth % EBIDTA EBIDTA (%) Adj. PAT Growth % EPS (Rs.) P/E (x) 2012A 5,485 19.0 311 5.7 200 48.9 16.7 42.9 2013A 6,185 12.8 421 6.8 260 30.0 21.7 33.0 Source: Company, Centrum Wealth Research
  • 27. I nd i a I nv e s tm en t S tr a t eg y27 Information Technology CMC Ltd. CMC’s unique solutions approach in the System Integration space along with focus in the hi-tech space has enabled it to post robust growth in an uncertain environment and also ensures revenue stickiness for the future. The company has been working for the last several years with TRW, a large automotive electronic player, primarily due to its unique domain capabilities and hi-tech approach. We believe that like other successful mid cap focused players, CMC’s expertise has been the hi-tech space where competition has been limited, which has enabled significant revenue and client stickiness. The solutions and technology approach, along with TCS parentage provides it with all advantages of a large player (in spite of being a small player), right from capabilities to offer services across geographies to a large balance sheet required to participate in huge projects like the Indian passport project; For Q1FY2014 on a consolidated basis, CMC reported a net profit decline of 13.4% QoQ and 9.1% YoY to Rs.53.1 crore. Revenue declined 7.1% QoQ (grew by 7.6% YoY) to Rs.486.6 crore. EBITDA declined by 5.8% QoQ (grew by 2.4% YoY) to Rs.77 crore and the EBITDA margins stood at 15.8% for the quarter. On a segmental basis, system integration (SI) segment which contributes around 58% of the total revenue grew by 7.8% QoQ and 10.8% YoY to Rs.293 crore. CMC added 16 new clients (14 domestic and 2 international) in the quarter. The management has planned for a capex of Rs.230 crore for FY2014 and has incurred a capex of Rs.38 crore in Q1FY2014; We expect CMC to continue its endeavor to enhance revenue contribution of high margin SI and ITES segments. Further, with its focus on higher off-shoring in the SI segment we expect the overall margins to improve over the next two years. At the current price of Rs.1,262 the stock is trading at P/E of 13.7x its FY2014E consensus EPS of Rs.92.11 and at 11.1x its consensus FY15E EPS Rs.114.16 respectively. Consolidated Financial Summary (Rs. Cr.) CMP: Rs.1,262 52 week H/L Rs. 1,523/951 Y/E Mar Revenue Growth % EBIDTA EBIDTA (%) Adj. PAT Growth % EPS (Rs.) P/E 2012A 1,463 35.5 224 15.3 152 45.5 50.0 25.2 2013A 1,928 31.2 317 16.4 230 51.7 76.0 16.6 Source: Company, Centrum Wealth Research Infosys Ltd. Infosys is the second-largest IT services company in India with revenue of ~$7.4b (FY2013) and employing over 157,000 people. It offers IT and IT-enabled business solutions to its clients across more than 30 countries. Infosys has 87 global development centers and 69 sales offices. Its wide service offerings include business and technology consulting, ADM, SI, product engineering, IT infrastructure services and BPO. According to NASSCOM, Indian IT exports are expected to grow by 12-14% to $87 billion in FY2014 as against growth of 10% in FY2013 at $75.8 billion. Moreover, the expectation of economic revival in US can further improve demand for Indian IT sector. Post Q1FY2014 results, Infosys management maintained its revenue growth guidance of 6-10% in dollar terms and 13%-17% in INR terms for FY2014; For Q1FY2014, on a consolidated basis, revenues grew by 7.8% QoQ (17.2% YoY basis) to Rs.11,267 crore aided by volume growth of 4.1% QoQ (5.8% onsite and 3.3% offsite). Net profit declined by 0.8% QoQ (3.7% growth on YoY basis) to Rs.2,374 crore. EBIT grew by 8.2% QoQ to Rs.2,664,crore, maintaining the margins at 23.6%; Lodestone Holdings AG (contributing ~6% of the consolidated revenue in FY2013) which was acquired by Infosys in October 2012 saw a turnaround in the current quarter. Lodestone posted a net profit of $1.88 million as compared to a loss of $3.44 million in Q4FY2013. Its revenue grew by 29% QoQ to $90.67 million; Infosys won 7 large deal wins with total contract value of $600 million in 1QFY2014, of which 6 are in the US. Over the past three quarters, Infosys has bagged large deals worth around $1.6b, largely in outsourcing, which could drive growth in Business IT Service (BITS) going forward. The company has scope to improve operating margin going forward by way of increased utilization and revenue proportion from offshore; The company has cash and equivalents of Rs.24,078 crore as on June 30, 2013, which translates to Rs.421 per share (14% of the current market price). In terms of cash utilization, we believe the company may opt for any of the following : 1) Acquisition outside India which could further help achieve growth apart from hedging the risk of the proposed new US Visa Bill; 2) Buy-back of shares or special dividend; 3) Invest in products, platforms and solutions ideas in line with Infosys 3.0 strategy (the company has already set aside up to Rs.550 crore for this); At CMP, the stock is trading at 16.2x FY2015E EPS of Rs.185 per share. We believe that the stock is fairly priced considering valuation and the fact that Q2FY2014 may face margin pressure due to impact of wage hike. We advise Hold on the stock only for the long term investors as IT sector becomes a defensive in case of further Rupee depreciation. Consolidated Financial Summary (Rs. Cr.) CMP: Rs.2,999 52 week H/L Rs. 3,098/2,190 Y/E Mar Revenue Growth % EBIDTA EBIDTA (%) Adj. PAT Growth % EPS (Rs.) P/E 2012A 33,734 22.7 10,749 31.9 8,332 6.3 146 20.6 2013A 40,352 19.6 11,569 28.7 9,421 13.1 165 18.2 2014E 43,958 8.9 12,033 27.4 9,602 1.9 168 17.8 2015E 48,410 10.1 13,190 27.2 10,545 9.8 185 16.2 Source: Company, Centrum Wealth Research
  • 28. I nd i a I nv e s tm en t S tr a t eg y28 Pharma Biocon Ltd. Biocon is present across the entire biogenerics space and has strong technological skill-sets to develop complex biotechnology products on its own. In the next 5 years nearly $33 billion ($17 billion in US alone) worth of biotechnology products are likely to lose patent protection globally. Biocon is likely to benefit from this as its plans to file 20 ANDAs in the US market post FY2015. Biocon has identified 5 growth verticals – API business, Bio-simillars, formulations business, novel programme vertical and research services. With low leverage and as a net exporter (about 10% of total revenues), Biocon is better placed than a lot of its domestic peers. Recently, Biocon has hired the services of global consulting giant McKinsey to create a new structure to help the company achieve its ambitious target of $700 million revenue in 2015 and $1-billion revenue target by 2018; Biocon is the leading supplier of Orlistat API (anti-obesity drug) to the developed markets and generated sales of over Rs.100 crore per annum. It has entered into collaboration with Abbott Labs, US for neutraceutical research. Biocon is likely to spend Rs.200 crore on its new R&D centre and aims to build its Rs.300 crore healthcare business to Rs.1,000 crore in 5 years; Biocon has launched ALZUMAb, a new biologic for treatment of psoriasis at about 50% cheaper than other psoriasis drugs for which the domestic market size is around Rs.200 crore. If successful, Biocon plans to market the drug in international market which is expected to be about $8 billion by 2016; Biocon has entered into an option agreement with Bristol-Myers Squibb (BMS) for IN-105, an oral insulin drug candidate. If BMS exercises its option to license IN-105 following the successful completion of Phase II trial, it will assume full responsibility for the programme including development and commercialization outside India. Biocon will receive a license fee in addition to potential regulatory and commercial milestone payments, and royalties on sales outside India; On a consolidated basis, for Q1FY2014, Biocon’s net profit grew by 21.3% YoY to Rs.97 crore backed by a 24.6% YoY growth in EBIDTA. Sales grew by 21.5% YoY backed by a 21% YoY growth in the biopharma segment, 17% YoY in branded formulations and 26% in research services. The company incurred R&D expenses of Rs.43 crore which were 10% of the Biopharma revenue. Biocon paid a dividend of Rs.5/share along with a special dividend of Rs.2.50/share for FY2013; Biocon is a net debt-free company with borrowings of Rs.374 crore as against cash and cash equivalents of Rs.652 crore and current investments of Rs.633 crore as on June 30, 2013. The stock is currently trading at an attractive valuation of 14x its FY2015E earnings of Rs.24.3/share. We recommend a BUY on the stock with a fair value of Rs.390/share. Financial Summary (Rs. Cr.) CMP: Rs.341 52 week H/L Rs. 352/243 Y/E Mar Revenue Growth % EBIDTA EBIDTA (%) Adj. PAT Growth % EPS (Rs.) P/E 2012A 2,087 -24.7 517 24.8 338 -0.8 16.9 20.2 2013A 2,428 16.4 486 20.0 307 -9.3 15.4 22.2 2014E 2,938 21.0 595 20.3 380 23.8 19.0 17.9 2015E 3,672 25.0 727 19.8 486 28.0 24.3 14.0 Source: Company, Centrum Wealth Research Indoco Remdies Ltd. (IRL) Indoco Remedies Ltd (IRL) has a strong brand portfolio of 120 products across various therapeutic segments with its top 10 brands contributing about 60% to its domestic sales and has 5 brands in top 500 brands globally. IRL is looking to expand its presence in other regulated markets like US and emerging nations. It is targeting exports business to grow at 25-30% CAGR over the next 2-3 years and to contribute close to 45% of the revenues by FY2015E. IRL is planning to file 9 ANDAs in FY2014 of which 3 will be with Watson Pharma, US. IRL has also entered into an alliance with Aspen Pharma (a South African MNC) for emerging markets and with DSM, a €9 billion Dutch company, for marketing & distribution in Australia. The total number of patent applications filed as on June 30, 2013 are 55, out of which 37 pertain to API processes and 18 pertain to finished dosages; IRL has posted muted results in Q1FY2014 with net profit declining by 11% YoY and net sales declining by 2% YoY mainly on the back of decline in international sales of formulations (lower tender business in Germany). However, the management has re-iterated its revenue guidance of over Rs.700 crore and Rs.1,000 crore, with EBITDA margins (ex-R&D) at 18% and 20% for FY2014 and FY2015, respectively. This would be on the back of ramp up in the Watson Pharma and Aspen Pharma businesses and revival of growth in domestic business with chronics contributing close to 20% of the revenues, from 10% currently. IRL’s Goa I facility has got USFDA approval and the company is likely to launch one drug from this facility in September 2013. The Goa II facility is awaiting ANDA approvals for the Watson alliance which are expected post the USFDA’s routine re-inspection expected in August 2013 end; IRL expects spurt in international business with commencement and ramp up of sales of sterile formulations in US. The strategy to partially replace contract manufacturing business with supplies against own dossiers/ marketing authorizations in European markets would help to improve margins and sustainability. The API business is expected to grow at faster pace due to its low base and is also likely to contribute to the growth of the formulation business through backward integration in select APIs. Moreover, on the new pharma pricing policy, IRL does not expect any major negatives as the potential impact could be only to the tune of Rs.4-5 crore; We believe that the firm is well poised to grow its revenue at 20% plus over FY2013-15E and with expected improvement in margins we believe that the PAT CAGR would be in excess of 25%. Improved traction in the domestic business coupled with growth driver in international business coming from new tie ups would help IRL to re-rate closer to the large-cap pharma companies which are trading at an average of 18x one year forward earnings. We recommend BUY on IRL with a fair value of Rs.73 per share. Financial Summary (Rs. Cr.) CMP: Rs.64 52 week H/L Rs. 83/55 Y/E Mar Revenue Growth % EBIDTA EBIDTA (%) Adj. PAT Growth % EPS (Rs.) P/E 2012A 569 18.2 85 14.9 46.3 -9.4 5.0 12.7 2013A 630 10.8 94 14.9 43.0 -7.2 4.7 13.7 2014E 782 24.0 141 18.0 53.3 24.0 5.8 11.1 2015E 977 25.0 195 20.0 66.7 25.0 7.2 8.8 Source: Company, Centrum Wealth Research
  • 29. I nd i a I nv e s tm en t S tr a t eg y29 Banks HDFC Bank Ltd. HDFC Bank is one of the largest private sector banks in India. The business of HDFC Bank has grown over ~16 fold over the last ten years from Rs.34,131 crore as on March 31, 2003 to Rs.535,968 crore as on March 31, 2013. HDFC Bank has been a top performer compared to peers due to its consistent 30% YoY profit growth over the last several years. The Bank’s net profit has grown 17-fold over the decade from Rs.387 crore in FY2003 to Rs.6,726 crore in FY2013. This consistency in financial performance is the result of maintaining a fine balance between balance sheet growth, profitability and asset quality. The consistent performance over the years has enabled HDFC Bank to command premium valuations compared to its peers. HDFC Bank has the best asset quality amongst its larger private sector peers like ICICI Bank and Axis Bank. The gross NPA% of the bank remained unchanged at 1.0% while its net NPA% increased by 10bps to 0.3% as on June 30, 2013. In value terms, the net NPA grew at a higher pace than the gross NPA on lower provisioning. The total restructured loans stood at 0.2% of the total advances as on June 30, 2013 compared to 0.3% last year; HDFC Bank posted a 30% YoY growth in net profit for the 55th consecutive quarter backed by a 23.6% YoY growth in its pre provisioning profit (PPP). NII of the bank grew by 21% YoY backed by a 18.1% YoY growth in interest earned compared with a 15.9% YoY growth in interest expended. The non interest income grew by 17% YoY driven mainly by a 11.7% YoY growth in the income from fees and commissions. The CAR as per the Basel III norms stood at 15.5% of which 10.5% was Tier I capital, as on June 30, 2013. The bank has a negligible level of bulk deposits and does not foresee any impact of the RBI’s liquidity tightening measure on the margins going forward. The bank’s loan book is largely funded by deposits and leaves marginal scope for borrowings. The CD ratio (credit-deposit ratio) of the bank stood at 52.3% as on June 30, 2013; The overall business of the bank grew by 19.3% YoY to Rs.561,904 crore as on June 30, 2013. The advances growth of 21.2% YoY as on June 30, 2013 was driven by 25.5% YoY growth in the retail loan book and a 16.5% YoY growth in the wholesale lone book. The deposits during the period grew by 17.8% YoY with the savings and current account deposits growing by 16.7% YoY and 10.5% YoY, respectively. The CASA of the bank stood at 44.7% as on June 30, 2013. The bank’s network stood at 3,119 branches and 11,088 ATMs, of which 54% are in semi-urban and rural regions. The bank plans to add about 250-300 branches in FY2014; The bank is currently trading at 3.9x its Adj. BV of Rs.157.9/share as on June 30, 2013. With the ongoing expansion in the bank’s business and extension of the branch distribution network, we expect HDFC Bank to continue its robust business growth and maintain good asset quality going forward also. We expect the banking credit growth to improve from 14.9% as on July 26, 2013, going forward. Hence, we recommend BUY on the stock of HDFC Bank with a fair value of Rs. 840/share. Financial Summary (Rs. Cr.) CMP: Rs.608 52 week H/L Rs. 727/566 Y/E Mar NII Growth % Adj. PAT Growth (%) EPS (Rs.) P/E Adj. BV P/Adj. BV 2012A 12,884 16.6 5,167 31.6 22.1 27.5 126.0 4.8 2013A 15,811 22.7 6,726 30.2 28.5 21.3 150.2 4.0 2014E 19,448 23.0 8,744 30.0 36.7 16.6 175.7 3.5 2015E 24,018 23.5 11,367 30.0 47.8 12.7 209.0 2.9 Source: Company, Centrum Wealth Research Jammu & Kashmir Bank Ltd. Jammu & Kashmir Bank (J&K Bank), incorporated in 1938 functions as a universal bank in Jammu & Kashmir and as a specialized bank in the rest of India. The state government holds 53.2% stake in the bank as on June 30, 2013. It is also designated as RBI’s agent for banking business and carries out banking business of the Central Government, besides collecting central taxes for CBDT. It operates on the principle of 'socially empowering banking' seeking to deliver innovative financial solutions for household, small and medium enterprise. In FY2013, the bank added 70 branches and 105 ATMs taking its overall network to 685 branches and 613 ATMs. The bank has targeted to open 100 more branches in J&K state itself in FY2014. During the last 5 years (FY2009-2013), its banking business has grown by 91%, total income up 104%, while the net profit grew by 157%. Despite steep increase in its business, its outstanding net NPA (non-performing assets) has come down in absolute terms from Rs.285 crore in FY2009 to mere Rs.54 crore in FY2013. The net NPA stands at 0.14%, among the lowest in the industry; As on June 30, 2013, the overall business of the bank grew by 13.4% YoY to Rs.86,342 crore with a growth of 18.2% YoY in advances and 10.3% YoY growth in deposits. The CD ratio stood at 62.6% as on June 30, 2013. The overall business growth is expected to be around 20%, (of which credit growth would be 22%, while the deposit growth would be 19% for FY2014). The advances growth outside J&K state is expected to be around 15-20% and in the state at around 20-25% for FY2014. The bulk deposits for the full year are expected to be around 15% of total deposits. Considering the past growth trend of J&K Bank, we believe their growth targets for FY2014 are achievable and we remain positive on the bank; For Q1FY2014, the net profit of J&K Bank grew by 25.1% YoY backed by a 15.9% YoY growth in PPP (pre-provisioning profit) during the quarter. The Net Interest Income (NII) grew by 22.2% YoY. Provisions declined 28.1% YoY to Rs.36.2 crore. The bank has made a provision of Rs.54 crore pertaining to the settlement of wage revision which shall have effect from November 2012; J&K Bank is the cheapest midcap banking stock among the set of banks with high quality assets. Its net NPA is mere 0.14% as on June 30, 2013. Its outstanding net NPA is Rs.56 crore while its June 2013 quarterly net profit alone is Rs.308 crore – about 5.5 times its outstanding net NPA. Against the regulatory norm of 70%, the NPA Coverage Ratio of the Bank is at 94.01% for Q1FY2014, which is one of the best in the industry; For FY2013, the bank has recommended a dividend of Rs.50/share (500%) which translates into dividend yield of 4.5% at the current price. With consistent increase in dividend payout over the years, considering Rs55 as dividend for FY2014 , the yield would be 4.9%. The stock of J&K Bank is currently trading at 1.13x its FY2013A Adj. BV of its Rs.992 and at 0.75x its FY2015E Adj. BV of Rs.1,503/share. We believe that the stock is worth considering for accumulation with a target price of Rs.1,709 which is 1.4x its FY2014E Adj. BV of Rs.1,221. We strongly suggest investors to consider accumulating the stock. Financial Summary (Rs. Cr.) CMP: Rs.1,124 52 week H/L Rs. 1,473/881 Y/E Mar NII Growth % Adj. PAT Growth (%) EPS (Rs.) P/E Adj. BV P/Adj. BV 2012A 1,839 37.9 803 20.1 165.6 6.8 834 1.35 2013A 2,316 25.9 1,055 31.4 217.6 5.2 992 1.13 2014E 2,766 19.4 1,330 26.1 274.4 4.1 1,221 0.92 2015E 3,596 30.0 1,729 30.0 356.7 3.2 1,503 0.75 Source: Company, Centrum Wealth Research
  • 30. I nd i a I nv e s tm en t S tr a t eg y30 Five high conviction large cap stocks
  • 31. I nd i a I nv e s tm en t S tr a t eg y31 Five high conviction large cap stocks In line with our equity investment strategy to address the volatility, we have identified select sectors which depend on domestic demand. We believe that sectors such as metals, infrastructure, capital goods, realty and PSU banks are affected the most on the profitability front due to slowdown in the economy, weakening of Rupee, higher interest payout (highly leveraged balance sheet) and growing non performing assets. We have picked up the following five large cap stocks which we believe will successfully tide over the pressures coming from slowdown in GDP growth, crash in Rupee exchange rate and high interest regime due to their own inherent strength or continued positive outlook for their business models. Hindustan Zinc Ltd. (HZL) Hindustan Zinc Ltd. (HZL), is one of the largest fully integrated zinc-lead players and also one of the lowest cost producer of Zinc in the world with a combined reserve base of 348.3 MT at the end of FY2013. HZL enjoys the best EBIDTA margin (52%) amongst its global peers and also gets Silver as a byproduct which is free to EBIDTA. The government currently holds 29.54% in HZL and is considering various options for divesting the stake, while Sterlite Industries (promoter) holds 64.92%. We believe that whenever the government divests its stake, it would do it at a significant premium to the current price considering HZL’s strong fundamentals and solid cash/ liquid investments; HZL plans to raise its mined metal output to 1.2MT from current 0.87MT via a number of Greenfield and Brownfield projects at a cost of around $250 million per year over next 6 years. The plan includes development of 3.75MT underground mine in Rampura Agucha, additional 1.75MT (to 3.75MT) in Sindesar Khurd mine and 3.8MT (to 5MT) in Zawar; Production volumes for HZL continued to increase in FY2013 with total mined metal production up 5% to 0.87 MT in FY2013. Though the integrated refined zinc production declined by 12% in FY2013 to 0.66MT, lead production increased by 20% in FY2013 to 0.107 MT. Silver production grew by 35% YoY to 321 tonne while the volumes grew by 69% YoY to 408 tonne during FY2013. Silver being a byproduct of lead manufacturing process, the entire silver revenues are free to EBIDTA. For FY2013 HZL’s income from silver rose by ~85% to Rs.2,093 crore; For Q1FY2014, HZL reported 5% YoY growth in adjusted net profit to Rs.1,660 crore. Revenue grew by 8.6% YoY to Rs.2,984 crore. EBITDA for the quarter grew by 5.2% YoY while the margin contracted by 162 bps mainly on account of higher expenses (i.e. royalty, mining and other expenses) which together increased by 565 bps to 26.2% of the revenue. The company’s mined metal production in Q1FY2014 grew by 27% YoY to 2.38 lakh tonne and is in line with HZL’s target of achieving 10 lakh tonne (15% YoY growth) mined production for FY2014. Zinc production grew by 10% YoY to 1.73 lakh tonne on higher smelter utilization rate; HZL has cash and cash equivalents worth Rs.22,365 crore as of June 30, 2013, which translates into Rs.52.9/share or about 46% of its current market price. Considering solid cash on books, highest operating margins, growth prospects through expansions proposed and fact that the company has managed to post growth in both revenue and profits in the latest despite tough environment for the metal sector, we consider HZL stock as a great value play in the large cap space and hence, recommend a BUY with a fair value of Rs.144. Financial Summary (Rs. Cr.) CMP: Rs. 116 52 week H/L Rs. 147/94 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 11,255 5,526 12.8 13.1 8.9 2013A 12,526 6,900 24.9 16.3 7.1 2014E 12,809 6,724 -2.5 15.9 7.3 2015E 13,463 7,091 5.5 16.8 6.9 Source: Company; Centrum Wealth Research Estimates ITC Ltd. ITC is a 100-year old company and a leading player in the tobacco and FMCG space. ITC’s revenues and net profit have grown 5.1 and 5.5 times over FY2003-FY2013 to Rs.31,627 crore and Rs.7,608 crore respectively. The company has accelerated its capex plan and is likely to spend Rs.25,000 crore over the next 5-7 years, mainly in non-cigarette businesses. It has already committed investment in 40 projects which are under implementation. We believe that capex would help maintain its revenue growth momentum at 14-15% CAGR over FY2012-2015. The company launched its super premium luxury hotel having 600 keys, ITC Grand Chola, the world’s largest LEED Platinum green hotel, with an investment of around Rs.1,200 crore; ITC has entered new segments in the FMCG food space as well as a portfolio of personal care products which are gaining market share. Launch of new variants and increase in distribution network is expected to aid further growth. The other businesses like hotels, agri-products, non-cigarette FMCG business, paper, paperboard and packaging are now profit making and performing well (for FY2013, on a consolidated basis company posted PBIT grew of 7.9% YoY to Rs.1,892 crore); We believe that regulatory concerns such as Australia calling on the world to match its tough new anti-tobacco marketing laws that will ban logos on cigarette packs and consistent increase in tax and duties on cigarettes have been overdone in India. Cigarettes have been a dominant contributor of tax to the government and historical trends indicate that the company has always been able to pass on the incremental tax liability by raising product prices. EBIT has been growing between 15-20% since past 8 years despite consistent increases in tax liability; For Q1FY2014, net sales was up 10.3% YoY to Rs.7,339 crore, while net profit grew by 18.1% YoY to Rs.1,891 crore. EBITDA increased by 17.5% YoY to Rs.2,791 crore. EBITDA margin stood at 37.7% as compared to 35.4% in Q1FY2013. On a consolidated basis, for FY2013, net sales increased by 19.2% YoY to Rs.31,627 crore, while its net profit grew by 21.6% YoY to Rs.7608 crore. Balance sheet remains strong with cash on books of Rs.3,828 crore and current investments of Rs.5,167 crore as on March 31, 2013. It has been consistently maintaining high dividend payout ratio of 55-60% every year; ITC’s performance has been spectacular and the stock has given return of ~17.7% over the last one year vis-à-vis the Sensex 1- year return of ~4.7%. ITC remains attractive at the current levels considering higher capex and turnaround expected in non– cigarette FMCG segments. We suggest investors consider ITC from a medium to long term perspective. Going forward, we believe that price hikes taken in the cigarette segment would further help improve growth and profitability for the company. At current market price the stock is trading at 23x FY2015E EPS of Rs.13.4 per share. We continue to remain positive on the stock. Consolidated Financial Summary (Rs. Cr.) CMP: Rs.308 52 week H/L Rs. 380/251 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 26,525 6,258 26.3 8.0 38.5 2013A 31,627 7,608 21.6 9.6 32.1 2014E 36,650 8,950 17.6 11.3 27.3 2015E 42,500 10,575 18.2 13.4 23.0 Source: Company; Centrum Wealth Research Estimates
  • 32. I nd i a I nv e s tm en t S tr a t eg y32 Mahindra & Mahindra Ltd. (M&M) M&M enjoys leadership position in the UV and tractor segments with market share of 47.7% and 40.2% respectively in FY2013. Over the past 3-4 years, M&M has diversified its business portfolio by venturing into two-wheelers, commercial vehicles, electric-cars and auto components through the acquisition/JV route. M&M’s Korean subsidiary SsangYong (73% stake) is improving its performance with sales volume growing by 6.8% YoY to 120,717 units in 2012. Further, its operating loss declined to Rs.507 crore in 2012 from Rs.730 crore in 2011. To expand its auto component business globally, M&M recently picked up 13.5% stake in Spain's auto component maker CIE Automotive for 96.24 million euros. As of FY2012, M&M has 114 subsidiaries, 6 joint ventures and 11 associates with interests in financial services (M&M Financial Services), aerospace, auto components, engine, hospitality (Mahindra Holidays and Resorts), real estate, software services (Tech Mahindra), logistics, and steel (Mahindra Ugine Steel) etc. Many of these subsidiaries are in nascent phase and growing fast which would benefit its parent firm (M&M) going ahead; For FY2013, the Passenger Vehicle (PV) segment (which includes UVs, Cars & Vans) of M&M grew by 26.5% YoY to 310,707 units as compared to the industry growth of 2.1%. However, M&M’s domestic tractor sales declined by 4.6% YoY to 223,885 units in FY2013 as against a decline of 1.7% in industry. From beginning FY2014, domestic demand for tractor recovered and sales grew by 38.3% and 24.7% YoY respectively in the month of April and May 2013 respectively. We believe that M&M being the market leader in the segment would benefit from the normal monsoon expected this year; On a standalone basis, for Q1FY2014, net sales grew by 7% YoY to Rs.10,023 crore, while its net profit increased by 29% YoY to Rs.938 crore. EBITDA increased by 16% YoY to Rs.1,287 crore, with EBITDA margins improving by 100 bps to 12.85%. EPS for the quarter stood at Rs.15.27 per share as compared to Rs.11.82 per share in Q1FY2013. On a segmental basis, the revenue from the automotive segment declined by 2.5% YoY to Rs. 6120.5 crore where as the Farm equipment segment grew by 26.6% YoY to Rs.3899.5 crore. Mahindra Ssangyong, the South Korean subsidiary of M&M, reported its first quarterly profit in 6 years. The company posted a net profit of around 8 billion Won (Rs.50 crore) in the quarter ended June 30, 2013 compared with a loss of 21.5 billion Won in the corresponding period last year; M&M plans to launch various variants of existing product portfolio and also new products going ahead. The company has a capex plan of around Rs.10,000 crore spread over the next 3 years. Of the total, around Rs.2,500 crore would be invested in its subsidiaries while the remaining Rs.7,500 crore would be for its Automotive and Farm segment. M&M is also planning to set up new Automotive plant going ahead; At the CMP of Rs.814 the stock is trading at 13.4x its FY2014E EPS of Rs.60.8 and at 12x its FY2015E EPS of Rs.68.1. With the expectation of a normal monsoon and continuing consumer preference for UVs, we remain positive on M&M for a medium to long term perspective. Financial Summary (Rs. Cr.) CMP: Rs. 814 52 week H/L Rs. 1,026/741 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 31,370 2,997 11.5 48.8 16.7 2013A 38,357 3,634 21.3 59.2 13.8 2014E 39,681 3,730 2.6 60.8 13.4 2015E 44,198 4,181 12.1 68.1 12.0 Source: Company; Centrum Wealth Research Estimates Reliance Industries Ltd. (RIL) RIL market cap is at 3/4th of the level seen in 2009 as its profits stagnated since FY2008 at around Rs.19,000 crore level. However, in FY2013 RIL’s net profit has surpassed the Rs.21,000 crore mark, growing by 8.5% YoY and is expected to grow substantially beyond FY2015. Going forward, we believe RIL’s alliance with British Petroleum (BP), acquisition of shale gas assets in US, its foray into retail business and likely revision of gas price in 2014 would all lead to breaking away from the stagnation in its profits and also in rerating of the stock. BP holds 30% stake in 21 oil & gas blocks of RIL and plans to import liquefied natural gas (LNG) through RIL to service India's burgeoning energy demand. RIL and Russian rubber giant Sibur – JV (74.9%:25.1%) has begun construction on a $450 million butyl rubber plant in Gujarat - expected to commission in 2015. The plant with a manufacturing capacity of 100,000 TPA would be the only one in India and become the 4th largest global supplier of butyl rubber - an input for tyres; RIL has encountered natural gas in the first exploration well (MJ1) it spud in over 5 years on the KG-D6 block as it looks for new reserves to supplement falling output. Moreover, the CCI has cleared RIL’s plan to invest in exploring for oil and gas in areas within the KG-D6 and NEC-25 blocks. In order to fund its huge capex plans, RIL has so far raised $4 billion in the form of long-term debt from overseas markets; RIL plans to double its petrochemical business by investing across the entire value chain business. The refining business is also expected to grow considerably in the future. Moreover, RIL’s Reliance Jio Infocomm is likely to roll out its wireless broadband business in the second half of 2013 using fourth-generation (4G) technology; In Q1FY2014, RIL’s net profit grew by 19.7% YoY backed by a 4% YoY increase in operating profit and a 13% decline in depreciation. Net sales declined by 4.6% YoY. The overall EBIDTA margin improved by 66 bps YoY to 8.07%. The total exports of RIL increased by 3.2% YoY to Rs.57,026 crore. GRM increased by 10.5% to $8.4/barrel compared to $7.6/barrel in Q1FY2013. RIL’s share of gross production in its shale gas investment stood at 37.7 Bcfe in 1QFY2014, a growth of 71% YoY and 4% QoQ. Moreover, RIL is in the process of raising ~$1 billion from global financial institutions and banks against its shale gas reserves in the US. Also, the RIL group is infusing Rs.8,575 crore in its gas and port companies; Also, the turnover from retail business increased by 53% YoY to Rs.3,474 crore in Q1FY2014 compared to Rs.2,269 crore in corresponding quarter last year. The business achieved PBDIT of Rs.70 crore for the quarter. It has initiated a process to consolidate all its 8 retail ventures under a single entity - Reliance Fresh. RIL aims for revenues from the retail venture to grow by 5-6 times to Rs.40,000- 50,000 crore in the next 3-4 years, making it one of the large businesses for RIL; In January 2013, RIL has closed its share buy-back through which it bought back about 34% of targeted value – hence, there exists possibility of another buyback in the near future, which would provide some comfort on any possible downside. RIL has total cash and cash equivalents of Rs.93,066 crore ($15.7 billlion) as on June 30, 2013 and is debt free on net basis. We recommend BUY on RIL which is available at attractive valuation of 10.8x its FY2015E EPS of Rs.76 with a target price of Rs.1,042. Financial Summary (Rs. Cr.) CMP: Rs. 819 52 week H/L Rs. 955/760 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 329,904 20,040 -1.2 62.1 13.2 2013A 360,297 21,003 4.8 65.0 12.6 2014E 369,942 21,367 1.7 66.2 12.4 2015E 382,847 24,541 14.9 76.0 10.8 Source: Company; Centrum Wealth Research Estimates
  • 33. I nd i a I nv e s tm en t S tr a t eg y33 YES Bank Ltd. YES Bank is the fast growing private sector bank in India and during FY2007-2013, has achieved about 8.9 times growth in its balance sheet from Rs.11,105 crore in FY2007 to Rs.99,104 crore in FY2013 and 13.8 fold increase in net profit to Rs.1,301 crore. Its overall business (advances + deposits) has grown by 80 fold since commencement of operations in FY2005, registering the highest growth in the industry. Under the bank’s “Version 2.0 Program” it aims to grow its balance sheet size to Rs.150,000 crore by FY2015 from Rs.99,000 crore as on March 31, 2013. In FY2013, advances grew by 23.7% YoY to Rs.47,000 crore while its deposits grew by 36.2% YoY to Rs.66,955 crore. For FY2014, the bank’s advances and deposits are expected to grow by 25-30% each. YES Bank is among the best banks in terms of quality of assets with its net non-performing assets (NPA) at 0.03% as on June 30, 2013. Moreover, the bank’s quarterly net profit of Rs.401 crore in Q1FY2014 is over 33 times its net NPA as on June 30, 2013; For Q1FY2014, YES Bank reported a net profit growth of 38.2% YoY to Rs.401 crore, backed by a 48% YoY increase in the pre-provisioning profit (PPP). The bank’s net interest income (NII) during the quarter grew by 39.6% YoY to Rs.659 crore. The NIM (net interest margin) improved by 20bps YoY to 3.0% as on June 30, 2013. The capital adequacy ratio (as per Basel III norms) of the bank stood at 15.4% as on June 30, 2013; The recent RBI measures for liquidity tightening are likely to impact the NIM of the bank to an extent of 10-15bps as it has over 10% exposure to wholesale deposits. However, YES Bank has guided that this impact would be offset considerably as the bank has a large amount of loan assets coming up for re-pricing over the coming quarters which will be at higher rates so as to pass on the increase in cost of funds to the customers. As a result, the NIM of the bank is not likely to be impacted negatively. Moreover, the bank aims at 30% CASA deposits by FY2015 of which it has already achieved 20.2% as on June 30, 2013; The bank has recently received RBI approval for opening 150 branches in Tier I cities and is also free to open an equal number of branches in Tier II-IV cities as well. Hence, it is well placed to open around 300 new branches in FY2014. The bank, under its Version 2.0 program, has set a target to reach 900 branches, 2,000 ATMs and 12,750 employees by the end of FY2015; At the current market price of Rs.259/share, the stock of YES Bank is trading at an attractive valuation of 1.0x its FY2015E Adj. BV of Rs.269/share. The stock has corrected by over 52% from its 52 week high of Rs.547/share made in May 2013. Considering the robust business growth expectations and the consistent net profit growth, we believe YES Bank is likely to attract higher valuations and recommend a BUY on the stock with a fair value of Rs.564/share. Financial Summary (Rs. Cr.) CMP: Rs. 259 52 week H/L Rs. 547/220 Y/E Mar NII Adj. PAT Growth % Adj. BV P/Adj. BV 2012A 1,616 977 34.4 130 2.0 2013A 2,219 1,301 33.1 162 1.6 2014E 2,938 1,699 30.6 207 1.2 2015E 3,692 2,179 28.3 269 1.0 Source: Company; Centrum Wealth Research Estimates Siddhartha Khemka, VP - Research (; +91 22 4215 9857) Mrinalini Chetty - Research Analyst (; +91 22 4215 9910)
  • 34. I nd i a I nv e s tm en t S tr a t eg y34 New Banking Licenses : benefit to old private sector banks
  • 35. I nd i a I nv e s tm en t S tr a t eg y35 New Banking Licenses : benefit to old private sector banks Why do we believe that the issuance of New Banking Licenses is positive for Old Private Sector Banks? In the first issuance of fresh banking licenses in 1993, 10 new banks were formed, namely - Global Trust Bank Ltd, ICICI Bank Ltd, HDFC Bank Ltd, UTI Bank Ltd (renamed Axis Bank Ltd), Bank of Punjab Ltd, IndusInd Bank Ltd, Centurion Bank Ltd, IDBI Bank Ltd, Times Bank Ltd and Development Credit Bank Ltd. Later in the year 2003-04, two more fresh licenses were given to the Kotak Mahindra Bank and YES Bank. These new private banks (NPSB) have shown robust growth in their overall businesses and profits since inception. They also penetrated into the regions (rural as well as urban) where there were minimal banking facilities and have made banking available to a larger part of the country today. Since the 1st issuance of new banking licenses to FY2013, the overall banking credit grew more than 34 times from Rs.1.58 lakh crore at the end of FY1993 to Rs.53.95 lakh crore at the end of FY2013. Between the years FY1993 to FY2004, the banking credit grew at a CAGR of 16.6%. Exhibit 19: Industry credit growth over the years 0% 5% 10% 15% 20% 25% 30% 35% 40% 0 1,000 2,000 3,000 4,000 5,000 6,000 FY1993 FY1994 FY1995 FY1996 FY1997 FY1998 FY1999 FY2000 FY2001 FY2002 FY2003 FY2004 FY2005 FY2006 FY2007 FY2008 FY2009 FY2010 FY2011 FY2012 FY2013 FY2014* ('000 Rs. Crore) Banking Credit (LHS) YoY % Change (RHS) * Note: data till July 26, 2013; Source: Bloomberg, RBI, Centrum Wealth Research New Private Sector Banks post robust Credit and Profit Growth The overall advances growth of the large private banks formed post the 1st issuance of banking licenses is far higher than the industry advances growth. For instance, the credit base of ICICI Bank and HDFC Bank have gone up 79 and 71 fold respectively as compared to 12 times jump in the banking industry’s overall credit growth during the period FY2000-FY2013. Exhibit 20: Overall Credit growth FY2000 – FY2013 (no. of times increase over the years) 12 56 71 79 0 10 20 30 40 50 60 70 80 90 Industry Axis Bank HDFC Bank ICICI Bank Note: Considering only the large private banks that received license in year 1993 Source: Capitaline, RBI, Centrum Wealth Research
  • 36. I nd i a I nv e s tm en t S tr a t eg y36 Moreover, the share of these new private banks in the total business pie of the Indian banking industry has increased from 11.3% at the end of FY2005 to 15.2% at the end of FY2013. These NPSBs have also posted very impressive profit growth – for instance, during FY2005 - FY2013, the aggregate net profit of these new private banks grew at an average growth of 28% with YES Bank posting highest average annual growth of 59% followed by IndusInd Bank with 48% and Kotak Mahindra Bank with 46% average annual growth. Exhibit 21: Growth in Profit of New Private Banks since FY2005 42 34 48 20 59 46 0 10 20 30 40 50 60 70 Axis Bank HDFC Bank IndisInd Bank ICICI Bank YES Bank KMB Growth in Net Profit (%) (FY2005 - FY2013) Note: PAT growth for YES Bank is taken from FY2006 as it incurred losses in FY2005 Source: Capitaline, RBI, Centrum Wealth Research A lot of aspirants for new banking licenses, however, the Banking Credit growth tapering off On February 22, 2013, RBI announced the final guidelines for issuance of new banking licenses. In all 26 companies have applied for the fresh banking licenses in the 3rd set of issuance. Among these are - Tata Sons Ltd seeking to set up the first new Indian banks since 2004, Bajaj Finance, LIC Housing Finance, L&T Finance Holdings, Reliance Capital, Edelweiss Financial Services, IDFC, IFCI, Indiabulls Housing Finance Ltd, India Post, Aditya Birla Nuvo, Religare Enterprises and others. Post the 1 st issuance of banking licenses, the average credit growth (during the years FY2000 to FY2004) in the industry stood at 17.9%. It further improved to 24.5% for the period FY2005 to FY2009 post the 2 nd issuance of licenses in FY2004, with the highest growth in the 4 years coming from the newly started YES Bank at 115%. The average credit growth of NPSBs was 33% during the period FY2005 to FY2009. However, after FY2005 this trend of robust credit growth has slowed down. Over the last 4 years the average industry credit growth was 18% and the average growth rate of the new private banks also declined to 19%. Industry credit growth declined further to 17% per annum over the last 2 years (FY2012 & FY2013) (see Exhibit 19) and recorded a dismal growth of 15% in the current fiscal up to July 26, 2013. In our view, the main reasons for the slowdown in the credit growth are base effect and severe slowdown in the industrial economy in the recent years. The banking industry’s credit base went up 35 fold from mere Rs.1.58 lakh crore in FY1993 to about Rs.55 lakh crore as of today. Hence, it will be very difficult for the new players in the banking industry to grow in a robust manner going ahead. Therefore, we see a greater opportunity in inorganic route for growth through acquisition of Old Private Sector Banks (OPSBs). We believe that 3 rd issuance of fresh banking licenses would lead to further consolidation in the sector due to following reasons as well: The sticky nature of OPSBs having about 100 years of successful relationships with SMEs (Small and Medium Enterprises) would be an attraction; There is a possibility of already successfully established private banks like HDFC Bank and ICICI Bank - which got licenses and also grew in size partly through acquisition – pre-empting the possible moves of new entrants in the industry by taking over existing efficient OPSBs such as City Union Bank, Karur Vysya Bank, etc; The stipulation to open 25% branches in the rural unbanked areas for the new players gives us further comfort that the OPSBs would be preferred for acquisition as they already have good presence in the rural parts of the country. City Union Bank has 47% of its branches in rural and semi-urban areas while Karur Vysya Bank has close to 58% of its branches in such areas; Most of the OPSBs have either “zero” or miniscule promoters’ holdings – hence, we believe that the regulator would also encourage merger of such banks with the larger ones; We believe that for the reasons mentioned above, the OPSBs would again become acquisition targets of the new players in the banking industry.
  • 37. I nd i a I nv e s tm en t S tr a t eg y37 Past acquisition trends in the banking industry Post the issuance of banking licenses in 1993, Bank of Madura an Old Private Sector Bank (OPSB) was acquired by ICICI Bank at a P/BV multiple of around 1.5x. Thereafter, new banking licenses were issued in the year 2001, post which banks such as Lord Krishna Bank were acquired at a multiple of 1.9x P/BV while Centurion Bank of Punjab and Bank of Rajasthan were acquired at a multiple of 4.5x and 5.5x P/BV, respectively. Considering the recent contraction of valuation multiple of overall banking sector, we firmly believe that the valuation multiple for any possible acquisition of efficient (in terms of quality of assets and interest margins) OPSB would be around 3x Adjusted Book value, if not more. Exhibit 22: Range of valuations for past consolidation in the midcap banking space Date Acquirer Target Bank Acquisition Valuation: P/BV Dec-00 ICICI Bank Bank of Madhura 1.5 Jun-05 Centurion Bank Bank of Punjab (BOP) 1.9 Aug-06 Centurion BOP (CBOP) Lord Krishna Bank 1.9 Apr-08 HDFC Bank CBOP 4.5 Aug-10 ICICI Bank Bank of Rajasthan 5.5 Source: Company, Centrum Wealth Research Exhibit 23: Valuations of OPSBs (Figures as on June 30, 2013) No. Banks CMP Net NPA Gross NPA PAT (Q1FY2014)/ Outstanding Net NPA (x) Op. Eff. P / current Adj. BV Promoter Holding % 23-Aug-13 Rs. Cr. (%) Rs. Cr. (%) Ratio 1 City Union 44 97 0.63 192 1.25 0.93 1.7 1.4 0.00 2 Dhanlaxmi 30 307 4.10 440 5.78 0.01 0.8 0.8 0.00 3 Federal 286 374 0.91 1,483 3.51 0.28 1.6 0.8 0.00 4 Karnataka 77 492 1.96 823 3.22 0.19 1.3 0.6 0.00 5 Karur Vysya 330 155 0.50 466 1.51 0.78 1.5 1.2 3.08 6 Lakshmi Vilas 62 435 3.74 625 5.27 0.06 1.3 1.0 9.93 7 South Indian 20 348 1.12 493 1.57 0.33 1.7 1.0 0.00 Note: Op. Eff. Ratio = Net Interest Income / Total operating expenses Based on the previous consolidation trends, we believe that the efficient OPSBs can command much higher valuations if they are to be merged with the larger banks. Among these OPSBs banks, we reiterate our conviction on 2 value picks viz., City Union Bank and Karur Vysya Bank, based on consistent growth in business and profits, quality of assets and co-operative nature of their trade unions. Moreover, these OPSBs have also created considerable wealth for the investors in the last 13 years (starting from FY2000). The market cap of CUB and KVB has grown by 18x and 7x over the last 10 years, respectively. During the same period the BSE Bankex index has increased by 5.4x. We believe these banks have tremendous potential going ahead. Exhibit 24: Valuation and Recommendation BANKS CMP (Rs.) 23 Aug 2013 Target Price (Rs.) Expected Return (%) Net Profit Growth (%) FY2015E P / Adj. BV (FY2015E) Dividend yield % City Union 44 65 48 28.1 1.0 2.3 Karur Vysya 330 600 82 26.5 0.9 4.2 Source: Company, Centrum Wealth Research Payal V. Pandya - Research Analyst (; +91 22 4215 9926)
  • 38. I nd i a I nv e s tm en t S tr a t eg y38 City Union Bank Ltd. (CUB) CUB, a 108-year-old regional bank, has performed well consistently through business cycles and has shown steady improvement in its business growth and asset quality. Considering the consistently good business growth, impressive asset quality and the possibility of further consolidation in private regional banks, we expect CUB to continue to create significant wealth going forward. The Banking Laws (Amendment) Bill which was passed in the Parliament, is aimed at strengthening the powers of RBI and to further develop the banking sector in India. It aims to increase the voting rights to 26% which is a very positive development for the OPSBs which lack identifiable promoters or have low promoter holding such as CUB (with “zero” promoter holding). This is expected to attract foreign banks, overseas investors as well as the domestic NBFCs (especially the ones which aspire to apply for banking licenses) to explore the opportunities to acquire up to 26% equity stake in efficient OPSBs with possible approval of the RBI; CUB has maintained a loan book CAGR of 28% over the past five years and we expect the bank to maintain a loan growth CAGR of over 25% in the next five years as well, considering its strong presence in the SME (Small & Medium Enterprises) space. The overall business of CUB grew by 24.8% YoY to Rs.35,551 crore as on March 31, 2013 backed by a 25.6% YoY growth in its advances and a 24.3% YoY growth in its deposits. The CD ratio of the bank improved by 81 bps YoY to 75.1% as on March 31, 2013. The bank is focusing on expansion and has added about 125 branches over the last 2 years of which over 50% have already achieved breakeven. Most of the others are expected to breakeven in FY2014. The bank further expects to add about 70-80 branches in FY2014; CUB posted impressive result in Q1FY2014 despite stress on asset quality across industry: net profit of CUB grew by 22.2% YoY to Rs.90 crore backed by a 41.5% growth in PPP (pre provisioning profit) to Rs.162 crore in Q1FY2014. The NII (net interest income) grew by 21.8% YoY to Rs.1,061 crore. CUB has maintained its healthy asset quality despite stress on NPAs across the industry. The gross and net NPA% grew by 18bps YoY to 1.25% and by 13bps to 0.63%, respectively, as on June 30, 2013. The current quarterly net NPA of CUB is almost equivalent (1.1 x) to its net NPA of Rs.97 crore as on June 30, 2013. This when compared to various PSU banks’ which have net NPAs above 7-8 times their net profits for the quarter, implying that CUB’s asset quality is well under control; CUB has plans to raise capital by Rs.350 crore through QIP route. The bank is looking to increase its loan book at about Rs.30,000 crore by FY2016 for which the bank will require net owned funds of Rs.3,000 crore. As a result of this, CUB plans to raise about Rs.1,000 crore over next 3-4 years and has already received shareholders’ approval for the same. CUB has also raised about Rs.250 crore via rights issue in the ratio 1:4 at a rights price of Rs.20/share which is fully paid up as on July 30, 2013; CUB is expected to be a major beneficiary of the consolidation in the OPSB space. L&T Finance Holdings has a 4.59% stake in CUB as on June 30, 2013. Acquisitions in OPSB space have taken place at 2.5x-6x Adj. Book Value in the past, whereas CUB currently trades at 1.0 x FY2015E Adj. Book Value. Hence, we maintain BUY on CUB with a fair value of Rs.65 which is 1.5x FY2015E Adj. Book Value. Financial Summary (Rs. Cr.) CMP: Rs. 44 52 week H/L Rs. 66/42 Y/E Mar NII Adj. PAT Growth % Adj. BV P/Adj. BV 2012A 500 280 30.3 29.1 1.5 2013A 624 322 14.9 30.2 1.5 2014E 778 389 20.7 36.5 1.2 2015E 1,009 498 28.1 44.4 1.0 Source: Company; Centrum Wealth Research Estimates Karur Vysya Bank Ltd. (KVB) KVB, a nearly 100 year old bank, successfully survived business cycles and has grown consistently over the decades. KVB is known for consistent wealth creation for shareholders with market cap increasing 14 times in the last 10 years and 2.6 times in the last 5 years. KVB’s asset quality is among the best in the industry with minimal exposure to risky assets and over 95% of its loans secured. Net Non-Performing Assets (NPAs) are very low at mere 0.50%. Over the last 10 years, its business has grown 8 fold to Rs.68,133 crore while its Gross NPA on absolute basis has remained similar levels at Rs.286 crore as on March 31, 2013. KVB has posted good quarterly results: Despite the macroeconomic pressures, the Net NPAs continue to be at a comfortable territory of 0.5% much better than industry average. For Q1FY2014, the NII (Net Interest Income) and the PPP (pre-provisioning profit) grew by 30.7% YoY to Rs.332 crore and by 57.2% YoY to Rs.319 crore, respectively. The gross and net NPA (in absolute terms) increased by 23.8% YoY and 67.4% YoY, respectively. However, the gross NPA% declined by 2bps to 1.51% while the net NPA% increased by 12 bps to 0.50%, as on June 30, 2013. The bank’s PCR (provision coverage ratio stood at 75.03% as on June 30, 2013; KVB’s overall business grew by 21.5% in FY2013 with its advances growing at a faster pace of 23.1% YoY compared to the industry growth of around 16% YoY during the period. For FY2014, the bank expects its overall business to grow by about 25% YoY with focus on SME and small ticket advances to counter weak spreads in corporate segment. In FY2016, its centenary year, we expect KVB to reward its shareholders through attractive rights/ bonus issues (in line with past trend of giving such rewards once in 3 to 4 years); Successful passage of Banking Laws (Amendment) Bill, which facilitates increase in the cap on shareholders’ voting rights in private banks to 26% from 10% earlier, is expected to attract foreign banks as well as the domestic NBFCs (especially the ones which aspire to apply for banking licenses) to explore the opportunities to acquire up to 26% equity stake in efficient banks like KVB. Moreover, the proposed implementation of Basel III norms, which will gradually increase the total capital requirement to 11.5% by FY2018, will not impact on KVB as it is already well capitalized with its CAR at a comfortable at 12.52% as per Basel III, as on June 30, 2013; KVB is expected to be a major beneficiary of the consolidation in the Old Private Sector Banking (OPSB) space as the promoters’ equity stake is only 3.08% as on June 30, 2013. Past acquisitions in OPSB space were at 2.5x – 6x Adj. BV. KVB trades at very attractive valuation of 1.0x FY2014E Adj. Book Value of Rs.320. KVB will complete 100 years in 2016 and the stock price could double or triple by then as the management (with a proven track record) is targeting a business growth of 2x to Rs.1.25 lakh crore by 2016. We recommend a BUY on the stock of KVB with a long term fair value of Rs.1,200, expecting the stock price to appreciate by about 3.7 times from current level by the end of FY2016. Financial Summary (Rs. Cr.) CMP: Rs. 330 52 week H/L Rs. 592/307 Y/E Mar NII Adj. PAT Growth % Adj. BV P/Adj. BV 2012A 917 502 20.1 245 1.3 2013A 1,158 550 9.7 278 1.2 2014E 1,426 687 24.7 320 1.0 2015E 1,804 868 26.5 378 0.9 Source: Company; Centrum Wealth Research Estimates
  • 39. I nd i a I nv e s tm en t S tr a t eg y39 High dividend yield stocks with diversified business models
  • 40. I nd i a I nv e s tm en t S tr a t eg y40 High dividend yield stocks with diversified business models Of late, equity markets have seen huge volatility and some of good value stocks with relatively high dividend yields also been adversely impacted. We have selected 5 such good value stocks which not only offer regular and stable dividend income but also have a lot of potential for capital appreciation in the long term. These companies have dividend yield of anywhere between 5-7% for FY2013, and are likely to maintain such high dividend payout going forward as well. Even if they maintain dividend for FY2014 at the FY2013 rate, these stocks are very attractive. Hence, we suggest accumulating the following stocks: Exhibit 25: High dividend yield stocks with diversified business models Company CMP (Rs.) FY2013 FY2013 EPS (Rs.) Dividend Payout (%)Div. per share (Rs.) Yield (%) Balmer Lawrie Investments 203 11.0 5.4 14.0 78.6 HIL Ltd. 295 20.0 6.8 81.0 24.7 Indraprastha Medical Corp. Ltd. (IMCL) 32 1.6 5.0 3.1 51.6 KCP Sugar & Industries (KCPS) 16 1.0 6.3 3.4 29.2 Surya Roshni Ltd. (SRL) 63 4.0 6.3 15.8 25.3 Source: Bloomberg, Centrum Wealth Research Balmer Lawrie Investments Ltd. Balmer Lawrie Investments Ltd. (BLIL), the holding company for Balmer Lawrie & Company (BLC), was incorporated in 2001 with the sole aim of disinvesting its 61.8% holding in BLC. The company does not transact any other business and will be wound up once divestment process in BLC is completed. BLIL’s stake in BLC, at the current price of Rs.333, is worth Rs.587 crore, whereas, BLIL’s own market cap is just Rs.449 crore, leaving huge discount to valuation of Rs.138 crore. This discount could vanish, if it divests its stake in BLC; Divestment of stake in BLC can even triple stock price of BLIL as the stock price of BLC can move up at least 50% as it holds a lot of properties and is deeply undervalued at present; BLIL, for Q1FY2014 reported a 4% YoY growth in net profit to Rs.0.76 crore. Other income grew by 5% YoY to Rs.1.2 crore. EPS for the quarter stood at Rs.0.34. For FY2013, net profit grew by 9.4% YoY to Rs.31.1 crore while revenue grew by 7.7% YoY to Rs.28.2 crore. Cash on books as on March 31, 2013 was Rs.58.2 crore; BLIL, at the current market price (CMP) of Rs.203 is trading 15% below its 52 week high of Rs.238. BLIL has consistently increased the dividend - from Rs.6.40 per share in FY2009 to Rs.10 per share in FY2012. For FY2013, the board has recommended a dividend of Rs.11 per share (payout is historically in the month of September) which at the CMP translates into a yield of 5.4%. We expect the company to declare a dividend of Rs.11.50 per share for FY2014. Thus the cumulative dividend in the next 13-14 months could stand at Rs.22.50 per share which translates into a yield of 11.1% at CMP; While BLIL is a strong play on divestment of its stake in BLC, till the divestment unfolds it is a safe play on dividend yield. Financial Summary (Rs. Cr.) CMP: Rs. 203 52 week H/L Rs. 238/165 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 25.3 24.2 14.8 10.9 18.6 2013A 26.2 28.4 17.4 12.8 15.8 2014E 28.2 31.1 9.6 14.0 14.4 2015E 40.2 37.7 21.2 17.0 11.9 Source: Company; Centrum Wealth Research Estimates Siddhartha Khemka, VP - Research (; +91 22 4215 9857) Vidrum Mehta - Research Analyst (; +91 22 4215 9605)
  • 41. I nd i a I nv e s tm en t S tr a t eg y41 HIL Ltd. HIL Ltd (earlier Hyderabad Industries Ltd) is the market leader in the fibre cement roofing industry with a market share of 20%. This segment consists of Fibre Cement Corrugated Sheets, Autoclaved, Aerated Concrete Blocks and Aerocon Panels. Fibre cement sheets and flat products are the major revenue generators for the company, accounting for ~81% of revenues in FY2013. With the right pricing, HIL’s Aerocon Block products could witness significant growth in volumes in the coming years as builders move from conventional red clay bricks to environment friendly Aerated Autoclaved Concrete blocks. HIL has created significant wealth for its shareholders and its market cap has increased ~2.3x over the last 4 years. HIL has been consistently increasing the dividend over the last 5 years. Over FY2008-13, though HIL witnessed fluctuating profits, its net sales grew at a CAGR of 16.6%. HIL also has low debt of about 44% of the capital employed. Considering HIL’s dominant position in the industry we believe it would continue to generate wealth for shareholders going ahead as well; The government is keen on rural development and has increased its spending at 12.5% CAGR over FY2008-13 to Rs.52,000 crore. In FY2014 budget it has proposed a 46% hike in rural development expenditure. HIL being a market leader, with a strong brand "CHARMINAR" and extensive distribution network, is well poised to capitalize on the opportunities in rural India; For Q1FY2014, net profit declined by 64.9% YoY to Rs.11.4 crore while sales declined by 18.7% YoY to Rs.270.5 crore. EBITDA declined by 53.1% YoY to Rs.25.7 crore while margin contracted by 699 bps YoY to 9.5%. Profit declined due to higher raw material cost, which as a percentage of sales increased by 575 bps YoY to 60.4%. EPS for the quarter stood at Rs.15.3. For FY2013 HIL declared a final dividend of Rs 12.50, taking the total dividend to Rs.20 per share, translating to a yield of 6.8%; HIL owns a large land in a prime location of Hyderabad (Sanatnagar), which according to secondary research is around 70 acres and would be worth about Rs.1,750 crore (even 50% of the value would be Rs.1,172 per share). As per media reports, some industries have already shifted from this area. In our opinion, with 13 plants located across India and recent capacity expansion in UP, it would be easy for HIL to shift from this location. Though this may not happen in the next 3-6 months, we believe this would be one of the major value unlocking propositions from a long term perspective as HIL would eventually shift out of this location; Considering its dominant position in the industry and strong fundamentals (i.e. despite fluctuations in profits due to raw materials, the RoCE has been above 20% over 4 years), we believe the stock is deeply undervalued. Further, it has the potential to unlock significant value from land in one or two of its 13 manufacturing units which are in major cities and are now within residential area. The stock is currently trading 46% below its 52-week high of Rs.547 and 3.1x its FY2014E EPS of Rs.94.6. Hence we recommend a BUY. Financial Summary (Rs. Cr.) CMP: Rs. 295 52 week H/L Rs. 547/275 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 858 61 1.0 81.2 3.6 2013A 1,037 61 -0.7 81.0 3.6 2014E 1,165 70 15.5 94.6 3.1 2015E 1,300 94 34.3 127.3 2.3 Source: Company; Centrum Wealth Research Estimates Indraprastha Medical Corporation Ltd. Indraprastha Medical Corporation Ltd. (IMCL), an Apollo Hospital group company, is into multi-disciplinary super specialty territory care at New Delhi. It is the first hospital in India to receive accreditation from the prestigious Joint Commission International, USA for delivery of quality healthcare services and meeting patient safety needs. It has created a differentiating edge for itself with its special focus on core specialties - cardiology, oncology, neurology, orthopedics, emergency to name a few. In the healthcare infrastructure, there exists a significant demand supply gap - currently India has a bed to population ratio of only 9 beds per 10,000 persons (global median of 24 per 10,000 persons). Hence huge untapped potential for growth exists in the industry. Further, India’s growing population and increasing preference for private healthcare services over public services is augmenting the growth of the healthcare delivery market. We believe the healthcare delivery industry is favorably placed for steady growth ahead; IMCL has been on a steady growth path - while its net sales increased at a CAGR of 13.4% to Rs.591 crore over FY2008-2013, its profit grew at 12.2% to Rs.28.7 crore over the same period. IMCL expanded its total capacity to 683 beds by adding 127 beds in FY2012. It also improved its average daily bed occupancy to 516 beds in FY2012 from 477 in FY2011; IMCL for Q1FY2014, net profit grew by 18.3% YoY to Rs.9.6 crore while Revenue grew 11.6% YoY to Rs.166 crore. Operating profit increased by 24% YoY to Rs.23.8 crore and margin improved by 144 bps to 14.3% as against 12.9% in Q1FY2013. For FY2013, IMCL reported a 6.6% YoY increase in net profit to Rs.28.8 crore and revenue increased by 17.5% YoY to Rs.591 crore. EPS for FY2013 stood at Rs.3.14 as against Rs.2.94 in FY2012; IMCL is one of the least leveraged company – its total debt at the end of March 2013 stood at Rs.52 crore which is 21.4% of the total capital employed of Rs.242 crore. IMCL has been paying dividends consistently for the past 13 years, the board has declared a dividend of Rs.1.6 per share for FY2013 which at the current market price would offer a yield of 5%; We believe IMCL is well poised to grow its revenue CAGR at 20% ahead. With continuous demand for healthcare services, the PAT CAGR for IMCL would be in excess of 20%. Higher disposable income, coupled with population growth and increasing demand for specialized services would help IMCL to command premium compared to its peers and would shift its valuation vertically. IMCL is currently trading at 24.5% below its 52 week high of Rs.42.4 and at 8x FY2014E EPS. We recommend Buy on the stock with a fair value of Rs.43. Financial Summary (Rs. Cr.) CMP: Rs. 32 52 week H/L Rs. 42/31 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 503 27 12.1 2.9 11.0 2013A 591 29 2.3 3.1 10.3 2014E 700 37 16.1 4.0 8.0 2015E 840 49 16.9 5.3 6.0 Source: Company; Centrum Wealth Research Estimates
  • 42. I nd i a I nv e s tm en t S tr a t eg y42 KCP Sugars and Industries Corporation Ltd. KCP Sugars (KCPS), the most efficient producer of sugar in the country, made profits and paid dividends almost consistently over the last 15 years despite the industry going through severe cyclical downturn. Only in FY2003, it posted some loss and skipped dividend as the sugar realization touched a 14-year low at Rs.12.9 per kg. We believe KCPS would be one of the major beneficiaries of sugar de-control. As of March 2013, it had a sugar inventory worth Rs.217 crore while its total debt stood at Rs.48 crore (18% of total capital employed Rs.267.6 crore - one of the least leveraged companies in the industry) implying the company has been utilising 78% of its owned funds to manage inventory. This means even if there is decline in sugar prices, KCPS can hold sugar stock and sell at higher margins when the price increases; In Q1FY2014 on a standalone basis, KCPS reported a decline in net profit by 10.3% YoY to Rs.11.3 core. Revenue declined by 11.5% YoY to Rs. 93 crore. EBITDA declined by 16% YoY to Rs. 14.7 crore and the margins declined by 83bps YoY to 15.7%. On a segmental basis, the sugar segment reported a decline in revenue by 6.5% YoY to Rs. 84.8 crore but posted a marginal decline in profit by 1.3% YoY to Rs.13.15 crore; Eimco – KCP Ltd, a wholly owned subsidiary of KCPS reported profit before tax of Rs.9.1 crore as against Rs.0.63 crore in Q1FY2013. The subsidiary achieved record revenue of Rs.27.2 crore as against Rs.6.9 crore in Q1FY2013. For FY2013, it had reported a net profit of Rs.2.2 crore and revenue of Rs.44.7 crore. The export earnings which contributed 21% of the revenue grew by 2.3x to Rs.9.3 crore. We believe such performance going forward would boost the consolidated profits substantially; For FY2013, KCPS on a standalone basis posted 47% YoY growth in net profits to Rs.38.8 crore with EPS at Rs.3.42. The operating income grew 23.1% YoY to Rs.506 crore. KCPS paid dividend of Re.1 per share for FY2013 as against Rs.0.70 for FY2012. Even if we consider it continues to declare a dividend of Re.1 per share for FY2014, the yield would be 6.3% at CMP; We believe KCPS holds surplus land bank worth over Rs.350 crore in Chennai which alone would be more than its enterprise value (EV) of Rs.222 crore. In addition, it has major manufacturing assets like sugar plants, acetic acid plant and co-generation of power. The value of its land bank and plants are worth about Rs.1,000 crore, which is ~4.5 times its current EV. Considering the huge gap between its EV and value of assets, and also promoters’ lacking majority control (holding of ~39%), we believe there also exist a possibility of its takeover. For the last few years, the promoters have also been regularly buying the stock from the market, which enhances our conviction; The stock trades at an attractive valuation of 3.4x FY2015E EPS. We believe the stock could be a multi-bagger if it becomes a target of any possible acquisition. Further, with the government initiating policy level changes starting with partial de-control of the sector, we believe these measures would benefit efficient sugar producer like KCPS. Hence, we recommend a BUY with a fair value of Rs.32 with a 2 year perspective. Financial Summary (Rs. Cr.) CMP: Rs. 16 52 week H/L Rs. 26/16 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 411 26 123.4 2.3 6.9 2013A 506 39 46.8 3.4 4.7 2014E 540 43 10.1 3.8 4.2 2015E 621 53 25.0 4.7 3.4 Source: Company; Centrum Wealth Research Estimates Surya Roshni Ltd. Surya Roshni Ltd. (SRL), is a leader in both the steel pipe and lighting industry. In the steel division, SRL manufactures electrical resistance welded (ERW) steel pipes and tubes, cold-rolled formed sections and profiles and cold-rolled (CR) strips. The lighting division manufactures fluorescent tube lamps (FTL), general lighting systems (GLS), glass shells for lamps, filaments, and sodium and mercury vapor lamps. SRL has also set up a joint venture with Osram, under the name Osram Surya Pvt Ltd to manufacture compact fluorescent lamps. The steel segment contributes around 70%, while the branded sales of the lighting division contribute 30% to the total revenue; Surya has witnessed robust growth in its sales over the last 10 years. The company has also consistently paid dividends for the past 22 years, except for FY2012. India has become the global pipe manufacturing hub primarily due to the benefits of its lower cost, high quality and geographical advantages. The steel tube division caters mainly to the oil and gas sector, which is seeing heightened activity these days and from the government’s thrust on water and irrigation projects, which augur well for the steel tube division of the company; SRL has a strong brand and wide distribution network. It sells lamps under the well established and renowned ‘Surya’ brand with export presence in over 40 countries. Exports contributed 12.2% to total revenue in FY2012. SRL has a wide marketing and distribution network of 30 branch offices, over 1,500 dealers and more than 100,000 retailers. Further SRL has taken up expansion plans of its lighting division and is looking at achieving revenues of Rs.250 crore from LED segment by 2016; The company owns the largest ERW pipe manufacturing plant in India and two plants for lighting products at Malanpur (Madhya Pradesh) and Kashipur (Uttarakhand). SRL is the only lighting company in India with 100% backward integration; For Q1FY2014, SRL’s net profit grew by 19.1% YoY to Rs.14.2 crore while revenue increased by 12.8% YoY to Rs.709 crore. Further, EBITDA grew by 11.8% YoY to Rs.54 crore, while EBITDA margin remained unchanged at 7.7% on YoY basis. For FY2013, SRL reported a 34% YoY growth in net profit to Rs.69.3 crore while the revenue grew by 15.9% YoY to Rs.2,959 crore. The company has declared a final dividend of Re.1 per share together with the interim dividend of Rs.3 per share resulting in a total dividend of Rs.4 per share for FY2013 which at the current market price of Rs.63 translates to a yield of 6.3%; Further, SRL’s lighting branded business for FY2013 stood at close to Rs.1,000 crore (as compared to Rs.954 crore in FY2012). This gives us comfort on the valuation front. Additionally, the company is in process of preparing a roadmap on value creation and business reorganization of the company, which we believe is a positive move for share holders over the medium to long term. Considering its vast product range, strong position in the industry, growth prospects and strong fundamentals we believe its P/E valuation should shift vertically to around 7x-8x. Hence we recommend a BUY on this stock with a target price of Rs.90 (conservatively valuing it at ~4x FY2015E earnings). Financial Summary (Rs. Cr.) CMP: Rs. 63 52 week H/L Rs. 84/46 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 2,554 51.7 -23.0 11.8 5.3 2013A 2,959 69.3 34.0 15.8 4.0 2014E 3,440 82.0 18.3 18.7 3.4 2015E 4,020 104.0 26.8 23.7 2.7 Source: Company; Centrum Wealth Research Estimates
  • 43. I nd i a I nv e s tm en t S tr a t eg y43 Beaten Down Value Stocks
  • 44. I nd i a I nv e s tm en t S tr a t eg y44 Beaten Down Value Stocks Andhra Sugars Ltd. (ASL) Andhra Sugars Ltd. (ASL) incorporated in 1947, is engaged in manufacturing of sugar, chemicals and oils. The company manufactures more than 15 products, with sugar and caustic soda accounting for majority of the revenues. ASL holds rich assets and investments in various listed and unlisted entities. ASL owns 55% stake in the efficient fatty acids manufacturer – JOCIL, 28.98% stake in Andhra Petrochemicals and has 1 crore shares in unlisted entity Andhra Pradesh Gas Power Corporation Ltd. (APGPCL). We believe the current value of these investments alone would be a little more than the market cap of ASL. The value of investments and replacement cost of assets is estimated to be close to Rs.1,900 crore, which is nearly 4.3 times the current enterprise value (EV) of about Rs.443 crore. ASL is the 2nd largest producer of caustic soda and one of the most efficient producers of both caustic soda and sugar in India. While power constitutes about 60-65% of the production cost of caustic soda, ASL has access to cheaper power through APGPCL, as it provides power to it at 50% below the State tariff. In the sugar business, ASL is able to maintain sugar recovery rate close to 10.5% in a normal year of cane availability; In April the government abolished the levy sugar mechanism which required the sugar mills to sell 10% of their output at subsidized rate of around Rs.19 per kg to government for PDS. Further, the government has increased import duty on sugar to 15% from 10%. With the imports declining we expect sugar prices to increase, which would result in improvement of margins for efficient sugar producers like ASL; ASL has a consistent track record of making profits despite being engaged in highly cyclical businesses and not having faced any major labour unrest. ASL has maintained strong dividend historically (paid consistently for the last 50 years). Even for FY2013, despite a 20% fall in profit, ASL paid a dividend of Rs.6 (Rs.7 previous year) which gives a yield of 6% at current price; For Q1FY2014 on a standalone basis, net profit declined by 38% YoY to Rs.11.7 crore. Revenue declined by 18% YoY to Rs.176.4 crore. EBITDA fell by 27% YoY to Rs.31 crore while margins declined by 216bps YoY to 17.7%. On a segmental basis, revenue from the sugar segment declined by 61% YoY to Rs.33 crore. The company reported an operating loss of Rs.9.4 crore as compared to a profit of Rs.44 lakh in Q1FY2013. The quarterly result of the sugar segment is highly volatile and depends upon the inventory adjustments. This quarter, draw down of sugar was substantially less as compared to corresponding quarter last year. On the other hand, revenue from the caustic soda segment grew by 16% YoY to Rs. 110 crore. The profit from the segment grew by 9.4% YoY to Rs. 26.4 crore even though average domestic caustic soda prices for the quarter declined by 18.6% YoY & 14.3% QoQ to Rs.1,609/ 50kgs; ASL’s promoter holding is extremely fragmented with 80 individuals/individual entities holding 46.47% as on March 31, 2013, making it an easy takeover target. In case it becomes a target of M&A, the stock can become a multi-bagger. At the CMP of Rs.100, the stock is trading at a PE of 2.2x FY2015E EPS (standalone) of Rs.45.8. We recommend BUY with a fair value of Rs.165 at 3.6x its FY2015E. Financial Summary (Rs. Cr.) CMP: Rs. 100 52 week H/L Rs.160/97 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 714 96 172 35.5 2.8 2013A 800 93 -3.9 34.1 2.9 2014E 825 100 8.1 36.9 2.7 2015E 949 124 24.0 45.8 2.2 Source: Company; Centrum Wealth Research Estimates Balmer Lawrie & Co. Ltd. (BLC) Balmer Lawrie & Co (BLC), a 100-year old cash & asset rich company, is a rare player in the logistics segment with huge real estate & land assets spread over more than 30 locations mainly in metros. It has presence in industrial packaging, lubricants, logistics services, travel and tours. Balmer Lawrie Investments Ltd. (BLIL), the holding company for BLC, has given an undertaking to the regulator (RBI) that it will divest its stake in BLC (source: Being asset-rich, this provides multi-bagger opportunity in long term. On a consolidated basis, BLC had cash on books of Rs.412 crore as on March 31, 2013 (Rs.145/share) which is 43% of the current market cap. The company has recommended a dividend of Rs.17.60 per share for FY2013 which translates to a yield of 5.3%. BLC had issued bonus shares in the ratio of 3:4 on 23 May 2013. We believe this is a positive as it would help improve the dividend yield further. We expect the dividend for FY2014 to be about Rs.20 per share giving a yield of 6%; BLC has posted impressive growth during FY2003-FY2013, while its total income increased nearly 3.2 times to Rs.3,018 crore, net profit increased more than 7 fold to Rs.148 crore. BLC has consistently increased the dividend – 10 fold from Rs.1.80 for FY2003 to Rs.17.60 per share for FY2013. For Q1FY2014, on a standalone basis, BLC reported a 24% YoY decline in net profit to Rs.34.6 crore while its revenue grew by 2.7% YoY to Rs.683 crore. EBITDA declined by 21% YoY to Rs.40.8 crore with margins contracting by 180 bps YoY to 6.0% on account of higher employee and other operating expenses. EPS for the quarter stood at Rs.12.15 as against Rs.16.01 in Q1FY2013; BLC plans to acquire a mid-sized domestic tour company offering tour packages to various locations. The travel division of BLC, Balmer Lawrie Tours and Travel (BLTT) revenue grew 9% YoY in Q1FY2014 to Rs.313 crore (~46% of total revenues). BLC plans to invest Rs. 500 crore over the next 2-3 years in new projects including a container manufacturing facility at Navi Mumbai (~Rs.100 crore), a multi-modal logistic hub at Visakhapatnam (~Rs.150 crore), an independent facility for producing construction chemical in Chennai (~Rs.40 crore) and a travel portal (~Rs.25 crore). Further, BLC has also got the board’s approval to set up a logistics park at Dankuni, Kolkata involving an investment of Rs 150 crore. It is expected to acquire 55 acres of land for setting up the logistic hub; BLC further plans: a) Foraying into the Rs.1,800 crore construction chemical business, b) Focusing on branding by launching new packaging for ‘Balmerol’, with its goal to emerge as a globally competitive, transnational lubricants solution and service provider, and c) Its subsidiary, Balmer Lawrie (UK) is proposing acquisitions outside India; It holds huge land bank – its logistics segment alone owns 63 acres of land in metros. In our view, its assets are worth more than 4-5 times its net Enterprise Value. Hence, we believe that BLC is well placed to benefit and can emerge as a multi-bagger if the divestment takes place. Further, we also believe that the investors are likely to get close to 10% return from the dividend alone in the next 14 months (i.e dividend of FY2013 & FY2014). Along with these dividends, we believe that there is a good opportunity to participate in the capital appreciation as well. The stock is currently trading at a low P/E of 4.3x FY2015E EPS of Rs.77.9, we recommend a BUY on the stock. Financial Summary (Rs. Cr.) CMP: Rs. 333 52 week H/L Rs. 410/308 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 2,671 148 15.4 51.9 6.4 2013A 3,023 167 12.8 58.6 5.7 2014E 3,428 191 14.4 67.0 5.0 2015E 3,906 222 16.2 77.9 4.3 Source: Company; Centrum Wealth Research Estimates
  • 45. I nd i a I nv e s tm en t S tr a t eg y45 Bombay Burmah Trading Corp. Ltd. (BBTC) Bombay Burmah Trading Corporation (BBTC), a 142-year-old company, is a leading company of the Wadia Group with diverse business interests. BBTC is an asset and investment rich company with 2,822 hectares of tea and 972 hectares of coffee plantations. It is also engaged in other businesses including healthcare and horticulture. BBTC has large tracts of real estate under development with book value of ~Rs.18 crore. But, the current value of this land is expected to be significantly higher. BBTC also holds 50.96% stake in Britannia Industries (a leading FMCG company in India) and 14.35% stake in Bombay Dyeing. BBTC started restructuring its businesses in FY2012 and sold its sunmica and springs divisions for a profit of Rs.39.77 crore and Rs.124.93 crore respectively. We expect the company to continue restructuring the business and unlock huge hidden value in the consolidated company; Valuation of equity stake in Britannia and Bombay Dyeing alone is worth around Rs.4,503 crore – a gap of Rs.3,760 crore compared to its net Enterprise Value of Rs.743 crore. This valuation gap alone works out to Rs.539 per share. The total investment in Britannia and Bombay Dyeing comes to Rs.646/share. The current market price of the stock is ~17.8% of its valuation gap (a discount of 82.2%, or a gap of Rs.539/share); BBTC sees opportunity in washed robusta. Indian washed robusta continues to be the preferred choice of roasters specializing in espresso in Europe and no real competition from other countries is noticed in this niche market; For Q1FY2014, on a standalone basis, net profit grew by 15.5% YoY to Rs.3.4 crore, while revenue increased marginally by 1% to Rs.68 crore. EBITDA increased by 19.5% YoY to Rs.7.5 crore, with margins improving by 170 bps YoY to 11.1%, mainly on the back of lower raw material cost. Both the major segments Plantation and Auto Electric component performed well during Q1FY2014, with profit growing by 166% and 22% YoY to Rs.4.1 crore and Rs.4.3 crore respectively. For FY2013, on a standalone basis, BBTC’s net profit declined by 86.1% YoY to Rs.18.9 crore, while profit before tax and exceptional item grew by 52% YoY to Rs.18.0 crore. After adjusting for exceptional items (profit of sale of divisions) the adjusted net profit declined marginally by 1.5% to Rs.12.8 crore as against Rs.13 crore last year. Revenue for the year declined by 8.4% YoY to Rs.249 crore. The board has recommended a dividend of Rs.3 per share for FY2013, resulting in dividend yield of 3.1%; The stock is currently available at an attractive valuation of 4.4x its FY2014E consolidated EPS of Rs.22/share and we recommend investors to accumulate the stock with a medium to long term investment horizon. Consolidated Financial Summary (Rs. Cr.) CMP: Rs. 96 52 week H/L Rs. 159/84 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 5,930 230 94.9 33.0 2.9 2013A 6,519 132 -42.6 18.9 5.1 2014E 7,497 152 15.2 21.8 4.4 2015E 8,650 179 17.8 25.7 3.7 Source: Company; Centrum Wealth Research Estimates Linde India Ltd. Linde India Limited (formerly known as BOC India Ltd.) is a part of Linde group (a world leading engineering and gas company) and has nearly 8 decades of presence in India. The company has strong technological capability and operates India’s largest air separation plant and supplies more than 20,000 gases and mixtures. It runs more than 20 production facilities and filling stations across the country. Linde India has strong financial track record with both revenue and operating profit registering 25% CAGR and 23.6% CAGR over CY2008-2012. The company has built further capacity in 2012 to fuel growth. However, the same was not fully supported by macro environment, resulting in lower than full capacity utilization; Linde India’s primary markets, viz. steel, glass, automobile, pharmaceuticals, construction and infrastructure sectors demonstrated lower investment appetite for growth. The slowdown in the automobile sector impacted the demand for gases. However, with likely improvement in macro environment especially in the second half of 2013 and 2014 would revive the investment cycle which would revive demand for gases. Moreover, export opportunities would also help grow revenue going forward; Linde for Q2CY2013 reported 71% YoY decline in net profit to Rs.5.9 crore led by higher depreciation and interest costs. Revenue for the quarter declined by 5% YoY to Rs.331 crore. The company operationally witnessed growth, with profit increasing by 5.5% YoY to Rs.58 crore. Operating margin also improved by 174 bps to 17.6%. For H1CY2013, while revenues grew by 1.9% YoY to Rs.662 crore, the company’s net profit declined by 69% YoY to Rs.12 crore. Linde reported EPS of Rs.0.7 and Rs.1.4 for Q2CY2013 and H1CY2013 respectively; Linde is targeting to double its revenue in the next four years with focus on the three areas of tonnage, cylinder and health-care businesses. Linde Group has committed investments in India worth Rs.2,500 crore till date and is going to continue its investments in the country as it sees turnaround in the near future; The parent has already diluted its stake to 75% via offer for sale route (floor price of Rs.230/share) which got oversubscribed by 157%. In our view, the OFS was a major dragger for the stock. At CMP, we believe that the negatives are priced in and the likely improvement in the investment across industries would help accelerate growth for the company. Hence, we recommend BUY on the stock with a target price of Rs.302 considering 19.5% fall in last 6 months and attractive valuation of 15.9x CY2014E earnings estimates. Financial Summary (Rs. Cr.) CMP: Rs. 240 52 week H/L Rs. 474/230 Y/E Dec Revenue Adj. PAT Growth % EPS P/E 2011A 1,153 118 25.5 13.8 17.3 2012A 1,324 52 -55.9 6.1 39.4 2013E 1,444 74 42.3 8.7 27.7 2014E 1,646 129 74.3 15.1 15.9 Source: Company; Centrum Wealth Research Estimates
  • 46. I nd i a I nv e s tm en t S tr a t eg y46 MOIL Ltd. (MOIL) MOIL Ltd. (MOIL), India's largest producer of manganese ore, has a dominant position (51% share) in the domestic industry with good quality ore, centrally located mines and mine life of 22 years. MOIL is a debt free, cash rich company with cash balance of Rs.2,277 crore as of March 2013, which is equal to 65% of its current market cap. The cash on books translates to a strong Rs.135/share. MOIL currently has beneficiation plants of 0.4 MT at Dongri Buzurg mine and of 0.5 MT at Balaghat mine to upgrade the quality of ore produced. MOIL intends to expand its value- added capacity and has entered into JVs with SAIL and Rashtriya Ispat Nigam Ltd (RINL) to set up two ferro alloy plants in Chhattisgarh and Andhra Pradesh. The proposed installed capacity in case of the JV with SAIL is 1,06,000 tonne and that in case of RINL is 57,500 tonne. Further it has started expanding its existing mines to augment its production capacity to 1.5 MT by FY2016 from 1.2 MT in FY2013; Global manganese ore prices which had hit a low of $4.6/dmtu in Feb 2012, have gained 11% since to $5.1/dmtu currently. We believe that global prices have bottomed out on account of low inventories in China and lower production worldwide. Further INR has also depreciated 14% in the last 3 months making imports expensive. We believe these are positive developments as MOIL would be able to command higher price in the market, which in turn would improve its realization; MOIL for Q1FY2014, reported 12.7% YoY growth in net profit to Rs.112 crore led by lower raw material costs. Revenue for the quarter declined by 1.5% YoY to Rs.239 crore. The company’s operating profit increased by 14% YoY to Rs.117 crore with margin improving by 665 bps to 48.8%. EPS for the quarter stood at Rs.6.7; MOIL currently trades at a 7.9x its FY2014E earnings, which is low considering its leadership position in the Indian manganese ore segment, sound financials and cash rich status. We continue to maintain a positive view on the stock with a fair value of Rs.285. Financial Summary (Rs. Cr.) CMP: Rs. 210 52 week H/L Rs. 275/182 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 900 411 -0.8 24.5 8.6 2013A 967 432 5.1 25.7 8.2 2014E 985 447 3.6 26.6 7.9 2015E 1,029 460 2.9 27.4 7.7 Source: Company; Centrum Wealth Research Estimates Nesco Ltd. (NESCO) NESCO is a zero-debt, cash rich company holding about 70 acres of land at Goregaon, Mumbai. It has completed its third building for IT Park. NESCO already has 3.9 lakh sq ft of exhibition centre and 3 buildings for IT Parks with 10.2 lakh sq ft area. It is a perfect hedge on inflation and a thematic play on Mumbai’s scarcity of land on the one hand and it’s ever growing prosperity on the other. Due to these factors, its 70-acre plot would remain a cash cow for decades to come - its real estate asset is located on a highway and close to domestic airport and a 5-Star Hotel. It drives more than 95% of profits from real estate based assets and the rest from capital goods segment. Also, NESCO had cash and liquid investments worth Rs.182 per share as of March 31, 2013. It is believed to have 40 acres out of its total 70 acres of land still vacant – in Mumbai, where it is very difficult to find large surplus land that too on a highway, it would be major trigger in the long term for NESCO’s shareholders. In future, the profits can multiply when its entire land is fully utilized and also inflation driven rise in revenues; NESCO’s additional capacity should drive significant profits going forward as the operating margins in the business are more than 65%. NESCO’s third building for IT Park, with 6.6 lakh sq ft of leasable area is completed and half of it has already been leased out. The company expects to lease the remaining area by end of CY2013. Further, it has chalked out robust expansion plans: o It expects to start construction of the 4th IT building during FY2014 and has already initiated steps to secure required approvals for this. The expansion would be funded through internal accruals; o Plans to expand Bombay Exhibition Centre (BEC) to 10 lakh sq. ft. from the current 3.9 lakh sq. ft. Also, it has applied for double FSI for BEC. This would help it expand further by another 10 lakh sq. ft. to a total of 20 lakh sq. ft.; NESCO for Q1FY2014 reported 29% YoY growth in net profit to Rs.16 crore and 28% YoY growth in revenue to Rs.24 crore. Its operating profit grew by 25% YoY to Rs.15 crore despite margin contracting by 171 bps YoY to 61.4%. On a segmental basis, revenue from Bombay Exhibition Centre and IT Park grew by 50% YoY to Rs.20 crore, while EBIT grew by 25% YoY to Rs.20.1 crore. EPS for the quarter stood at Rs.11.33 as against Rs.8.77 last year. For FY2014, NESCO expects to grow its revenue and profits by more than 20%; NESCO trades at a P/E of 9.2x FY2014E earnings. However, its P/E should shrink substantially over the next 3 years (to less than 7 and cash & liquid investments should be little more than 1/3rd of its current market cap in FY2014). Further the value of its total land bank would be much more than its current enterprise value. We believe NESCO is a long term wealth creating idea and suggest investors to consider the stock with a fair value of Rs.980. Financial Summary (Rs. Cr.) CMP: Rs. 647 52 week H/L Rs. 862/621 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 129 67.4 -15.1 47.8 13.5 2013A 144 81.7 21.2 58.0 11.1 2014E 159 99.3 21.5 70.5 9.2 2015E 181 122.0 22.9 86.6 7.5 Source: Company; Centrum Wealth Research Estimates
  • 47. I nd i a I nv e s tm en t S tr a t eg y47 NMDC Ltd. NMDC is the largest domestic iron ore miner by volume with annual production capacity of 32 MTPA and high grade (66% fe average) reserves of 1,160 million tonne (MT) in Chhattisgarh and Karnataka. The company sells 37% of its volumes in the form of lumps, which commands a significant premium over iron ore fines. NMDC plans to expand its capacity to 48 MTPA by FY2015E. It is also planning to enter value added products like pellet and steel in the next two years. The global iron ore price has increased 49% from a low of $94/tonne in September 2012 to $140/tonne currently on hopes of steel industry recovery in 2013 and increased iron ore demand from China. Combined with the shortage of iron ore in the domestic market, this can lead to firm domestic iron ore prices and may help NMDC to improve its realizations and margins; NMDC boasts of a strong balance sheet with zero debt and cash on books exceeding Rs.21,026 crore as on 31st March 2013 (45% of current market cap). With the huge cash balance on its books, NMDC is aggressively looking at entering into partnerships and JVs with global steel players and miners to acquire stakes in various resource assets. NMDC bought 50% stake in Legacy Iron Ore, Australia, for Rs.92 crore during FY2012. NMDC is also looking at reviving its equal JV with global mining giant Rio Tinto. It is also eyeing Rs.8,000-10,000 crore from the sale of its 50% stake in the upcoming 3 MTPA steel plant in Chhattisgarh to a strategic partner to bring in necessary technologies capable of producing high-end steel products like CRGO, CRNO and auto-garde steels; NMDC, for Q1FY2014 reported 17.5% YoY decline in net profit to Rs.1,572 crore. Revenue grew by 1% to Rs.2,871 crore due to fall in average realization. The company’s operating profit declined by 17.2% YoY to Rs.1,905 crore with margins contracting by 1,468 bps to 66.4%. This was mainly led by 7x increase in selling expenses including freight costs to Rs.291 crore. As a percentage of revenue, selling costs increased by 887 bps to 10.1%. However on a sequential basis, operating margin improved by 1,176 bps QoQ. EPS for the quarter stood at Rs.4. The company incurred a capital expenditure of Rs.526 crore during the quarter. For August 2013, NMDC has cut price for iron ore lumps by Rs.200 to Rs.4,300 per tonne and kept price of fines unchanged at Rs.2,510 per tonne; NMDC for FY2013 has recommended a total dividend of Rs.7 per share which translates to a yield of 6% at the current market price. The final dividend of Rs.4 is yet to be paid; NMDC achieved an output of 27.2 MT in FY2013 and is targeting an output of 30-32 MT during FY2014 (17.7% YoY increase). Further, it is planning to incur capex of Rs.2,720 crore (70% YoY increase) in FY2014 mainly for its JV into steel project. We believe there may be some value unlocking through divestment of stake; The stock of NMDC has seen sharp correction of 42% from its 52 week high of Rs.201 and at the current price, the stock trades at 7.6x FY2015E EPS of Rs.15.4. Considering NMDC’s high margins, robust free cash flow generation and cash rich balance sheet, we maintain BUY on NMDC with a fair value of Rs.170. Financial Summary (Rs. Cr.) CMP: Rs. 117 52 week H/L Rs. 201/93 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 11,262 7,265 11.8 18.3 6.4 2013A 10,699 6,342 -12.7 16.0 7.3 2014E 10,178 5,667 -10.7 14.3 8.2 2015E 10,954 6,092 7.5 15.4 7.6 Source: Company; Centrum Wealth Research Estimates JK Tyre & Industries Ltd. (JKT) JK Tyre & Industries (JKT), the third largest tyre manufacturer in India and ranked 19th in the world, has presence in 80 countries across 6 continents. JKT has 9 plants (6 in India & 3 in Mexico) with total capacity of 19.8 million tyres and utilization level of 75%. The current market cap (Rs.365 crore) of JKT is less than the cumulative advertisement expenditure incurred over the last 15 years (Rs.444 crore). Considering its 3rd largest position in the market and real value of these nominal ad expenses, we believe that the company’s real value of intangible asset alone would be in multiple of its current market cap; JKT posted an impressive performance for its Mexican operations in FY2013, with a segment profit of Rs.129 crore on a net capital employed of Rs.170 crore and improved its RoCE to 76%. Revenue of JK Tornel (the Mexican operations) registered 21% CAGR to Rs.1,571 crore over FY2010-2013, while PBIT witnessed 16% CAGR to Rs.129 crore during the same period. JKT had bought Tornel in FY2008 for about Rs.270 crore and turned it around immediately. Further contribution from Mexico to its overall revenues has doubled in the last four years from 11% in FY2009 to 22% in FY2013; The replacement demand accounts for more than 75% of JKT‘s total turnover. We believe that there is a strong case for revival in demand from replacement market considering 1) Reversal of interest rate cycle and acceleration in infrastructure investment going forward; 2) The current Truck and Bus Radialisation (TBR) in India which is just 22% is expected to increase to 45% by FY2015 and JKT would be the biggest beneficiary due to its leadership position in the segment. Considering the slowdown in the auto sales globally, we expect lower demand for Natural Rubber (NR). NR prices are likely to fall by 5% to 10% going ahead, which would be positive for tyre companies including JKT; On a consolidated basis, for Q1FY2014, net profit grew by 236% YoY to Rs.55 crore while revenue grew by 3.2% YoY to Rs.1,876 crore. EBITDA grew by 48.4% YoY to Rs.235 crore while margin expanded by 382 bps YoY to 12.54%. On the segmental front, profit from Mexico operations grew by 115% YoY to Rs.59 crore as compared to Rs.27 crore in Q1FY2013. PBIT Margins from Mexico operations improved substantially to 14.6% during Q1FY2014 as against 7% last year. For FY2013, net sales grew by 3% YoY to Rs.6,985 crore, while company posted a net profit of Rs.203 crore against a loss of Rs.32 crore in FY2012; JKT is expanding its existing Chennai capacity (of TBR & Passenger Car Radial) to an aggregate of 2.9 million tyres p.a. and its Mexican operations, JK Tornel by 0.9 million tyre p.a. which will take the aggregate net capacity to 23.6 million tyre p.a. by FY2015. Chennai expansion would require a capex of Rs.800 crore while the capex for Tornel is Rs.137 crore; At CMP, the stock is trading at 1.4x FY2015E EPS of Rs.62.8. Considering JKT’s strong brand value, improvement in demand, acceleration in revenue growth from its Mexican operations, we believe that there is a strong case for re-rating of P/E multiple. We recommend BUY and ascribe conservatively 2.5x FY2015E EPS of Rs.62.8 to arrive at target price of Rs.157 per share. Financial Summary (Rs. Cr.) CMP: Rs. 89 52 week H/L Rs. 131/84 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 6,783 -32 NA NA NA 2013A 6,985 203 NA 49.4 1.8 2014E 7,850 235 15.8 57.2 1.6 2015E 8,900 258 9.8 62.8 1.4 Source: Company; Centrum Wealth Research Estimates
  • 48. I nd i a I nv e s tm en t S tr a t eg y48 Wockhardt Ltd. Wockhardt is an integrated pharma company with a strong global presence with the geographical segments of US, Europe, India and RoW. The company has 12 manufacturing facilities across the globe of which 9 are in India while others are in US, UK and Ireland. It is a leading generic player in the US market and derives 52% of its revenues from there, followed by 24% each from Europe and India. It is the 3rd largest generic player and No.2 in hospital segment in UK. While its US revenues grew by 52% in FY2013, its UK operations grew by 24% indicating strong growth in global markets. For Q1FY2014, on a consolidated basis, Wockhardt reported 14.5% YoY decline in net profit to Rs.323 crore. Revenue grew by 1.3% YoY to Rs. 1,358 crore. EBITDA declined by 12.8% YoY to Rs.421 crore, while EBITDA margins declined by 499 bps YoY to 31%. The company reduced its interest expenses by 67% to Rs.17.4 crore during the quarter. EPS for Q1FY2014 stood at Rs.29.19 as compared to Rs.34.08 in Q1FY2013. The promoters released their pledged shares i.e. 7.01 crore equity shares of the company at the end of Q1FY2014 and accordingly none of the promoters shares in the company are presently pledged; Wockhardt has reduced its net debt by 79% in the last 2 years from Rs.2,701 crore in FY2011 to Rs.561 crore in FY2013. It has also paid off its domestic debt and come out of CDR (corporate debt restructuring). We expect the net debt to become zero by FY2014; Wockhardt has filed 20 new product applications with USFDA and received approvals for 12 products in FY2013. The cumulative products pending approval with US FDA stood at 46 as on March 31, 2013. It has also filed for 162 patents in FY2013 taking the cumulative filings to 1,733 and has been granted 52 patents during the year taking the cumulative patents granted to 206; In addition to Waluj plant, another plant in Chikalthana, Aurangabad, which was inspected by US FDA recently, has received several observations in the Form 483. The company plans to address all the concerns in a comprehensive response along with corrective measures and is hopeful that US FDA would clear the unit; While these alerts have an immediate impact on the company’s revenue, we believe that the issues raised can be resolved over the next 1-2 years. Other Indian companies which had received alerts from US FDA in past have managed to resolve the issues and restart exports from those facilities. Aurobindo’s Unit VI facility was able to restart exports within 25 months, while Claris Lifesciences restarted within 20 months as the US FDA lifted its ban after these firms took corrective actions; The current prices assume more than 40%-50% decline in its global revenues which we believe is a low probability. At CMP of Rs.447, the stock is trading at 4.5x its FY2014E EPS of Rs.100. Although the current issues are serious, we believe that they are already factored in the stock price. We suggest investment in Wockhardt only for risk taking investors, at current levels considering the risk reward scenario. Financial Summary (Rs. Cr.) CMP: Rs. 447 52 week H/L Rs.2,166/344 Y/E Mar Revenue Adj. PAT Growth % EPS P/E 2012A 4,614 343 49.6 31.3 14.3 2013A 5,609 1,594 365.2 145.5 3.1 2014E 5,500 1,096 -31.2 100.0 4.5 2015E 6,200 1,315 20.0 120.0 3.7 Source: Company; Centrum Wealth Research Estimates Abhishek Anand, VP - Research (; +91 22 4215 9853) Mrinalini Chetty - Research Analyst (; +91 22 4215 9910)
  • 49. I nd i a I nv e s tm en t S tr a t eg y49 Silver: Set to shine
  • 50. I nd i a I nv e s tm en t S tr a t eg y50 Silver: Set to shine Last year we saw the silver price correcting downwards from record high reached during 2011, with an annual average of $31.15 (per oz) in 2012 – a fall of 11% from 2011 average of $35.12 and 28% from April 2011 average of $43.10. In 2013 the price correction continued and it reached a three year low of $18.49 per ounce in July 2013. Silver now trades at $24.07 an ounce, down 23% compared to its 2012 annual average price of $31.2 per ounce. In the domestic markets, in July 2013, silver was trading at Rs.38,796 per kg - the lowest level since November 2010. Currently it trades around Rs.53,473 which is 18% below its 52-week high of Rs.65,292. Going forward, we believe that silver will provide decent returns. It has been high beta commodity in both upward and downward movements. The reasons for silver price to firm up are: Declining silver Supply Over the last 58 years, average silver ore grades (quality of ore) have declined by 92%. During this period, the amount of milled ore has increased a staggering 1,240%, but final silver output increased by just 7.8% due to poor quality of ore grades! These figures include the production of metal ores from gold, silver, copper, lead and zinc mines. This trend of falling ore grades is also taking place in the two largest silver mines in the world. The top 2 silver producing companies KGHM Polska and BHP Billiton reported a decline in their Jan-June 2013 silver production by 17% and 5.6% respectively. Also, if silver prices remain around $22-$24 per oz, it is highly likely that more primary silver miners will be forced to put their high cost mines on care & maintenance until prices recover. U.S. Silver has already announced they were cutting a third of their staff and Alexco Resources is planning to put their only commercially producing mine (Bellekeno) on care and maintenance in the winter, hoping prices will recover in 2014. If more companies elect to shut down their marginal mines until prices recover, we could see overall silver production to decline even further in 2013-2014. The stress on supply side and increasing demand will eventually lead to prices rising further. ETF Holding – Global investors stick to Silver assets ETF holdings had seen a sharp increase post 2009 as investors got into gold and silver ETFs as a safe haven investment. The total holding of gold and silver in ETFs had reached a peak of 2,633 Metric Tonne (MT) in December 2012 and 20,022 MT in August 2013 respectively. However, investors have already pulled out 26% (684 MT) of their holdings in gold ETFs which are near their three year low holding of 1,948 MT as of mid August 2013. However, ETF holding in silver has increased by 5.8% (i.e. an addition of 1,105 MT) during the same period. At the same time, silver prices were down by 21%. The underperformance of silver may not induce any significant withdrawal of ETFs – rather there are possibilities of these funds adding more silver to ETFs as silver is at a bottom and also has very high beta – any recovery from this bottom can fetch significant profits. Exhibit 26: Silver ETF holding trend in relation to its price movement - 5.00 10.00 15.00 20.00 25.00 30.00 35.00 18,500 18,700 18,900 19,100 19,300 19,500 19,700 19,900 20,100 31-Dec-12 13-Jan-13 26-Jan-13 8-Feb-13 21-Feb-13 6-Mar-13 19-Mar-13 1-Apr-13 14-Apr-13 27-Apr-13 10-May-13 23-May-13 5-Jun-13 18-Jun-13 1-Jul-13 14-Jul-13 27-Jul-13 9-Aug-13 22-Aug-13 Silver ETF Holding (MT)(LHS) Price ($/oz) (RHS) Source: Bloomberg, Centrum Wealth Research Silver demand set to grow High industrial demand: Silver has a wide range of industrial uses compared to gold. There's currently growing demand from an increasing number of industrial applications, including lighting, electronics, hygiene and medicine, food packaging, and water purification, to name a few. The world economy, especially the developed world is expected to improve its growth in 2014, which in turn would improve the global industrial demand for silver. The Silver Institute reports that industrial demand of the white metal is expected to average more than 483 million ounces from 2012 to 2014, a level 53% greater than the average annual industrial fabrication demand of 313.4 million ounces from 1992-2001. Demand from solar panel to grow Solar panel demand is growing and silver is needed to make them. The average panel requires about two thirds of an ounce. Since 2000 the adoption of solar panel technology has meant a 50% annual increase in silver usage each year, going from 1 million ounces in 2002 to 60 million ounces last year, representing nearly 11% of all industrial demand. Adding fuel to the fire, Japan has recently offered to pay utilities three times the price for electricity generated from solar versus conventional methods. Japan plans
  • 51. I nd i a I nv e s tm en t S tr a t eg y51 to increase its solar generation capacity by about 5.3 GW in 2013. The country’s domestic solar power market is expected to reach $19.8 billion, meaning that it will pass Germany as the world’s largest solar market. Exhibit 27: Silver demand from solar industry improving over the years Source: Bloomberg, Centrum Wealth Research Various countries are pushing solar energy as an alternative to present energy sources. According to media reports, China’s State Council has raised the country’s solar generating capacity target to 35 gigawatts (GW) by 2015, 67% higher than the previous target of 21 gigawatts (GW) and will mean a yearly addition of 10 GW from 2013 to 2015. China's proposed boost would translate into a global increase of 27%, from 102.2 GW last year to 130.2 GW in 2015. On a worldwide basis, solar power generating capacity is projected to be 20 to 40 times the amount of current capacity by 2020. According to the Silver Institute, approximately 80 tonnes of silver are required to generate one GW of electricity. With 5.3 GW of new capacity in Japan in 2013 and 30 GW from China, a staggering 2,824 tonnes, or roughly 91 million ounces of silver, will be required over the next three years for just this industry. This amount is nearly twice the current worldwide demand from the PV industry and 11% of global mine supply by 2012 numbers. Further, silver used in solar panels cannot be recycled; once it is used, it is gone forever. That means solar power generation has the potential to put ever-increasing pressure on the silver market, particularly if other countries follow China and Japan’s lead in upping their solar generation capacity. Silver: Finding new applications: Further, there are numerous new applications for silver that have potential to make a big difference to demand, over time. Many of these new applications are using nano-technology where they use tiny amounts of silver per application, but they have potential to be used extensively. In addition, because the amount of silver per application is so small, demand is likely to remain price inelastic. Another new application that looks promising and has potential to become a major user of the metal is silver–zinc batteries. These rechargeable batteries are being considered as the next generation of high performance batteries for laptops and mobile electronic devises. Ninety five percent of the primary elements within the battery can be recycled and re-used to make batteries again (i.e. after recycling there is no loss of quality in the material and a closed-loop recycling system could be introduced). Judging by the size of the market for rechargeable batteries in laptops and mobile devices this could potentially become a large growth area for silver demand. Our view We believe that silver price can rise to $31 per ounce in next 12 months which is about 29% increase from the current price of $24.07. However, in Rupee terms we expect about 20% return – i.e. a target price of Rs.64,250 per kg - from silver as we believe that Indian Rupee can appreciate about 10% in the next one year. The risk to our view would be any possible steep appreciation of Rupee beyond our expectation of 10% in next one year. We believe such steep appreciation is most unlikely considering uncertainty on the eve of forthcoming General Elections and also considering the fact that there are no signs of any moderation in import of coal, crude oil and fertilizers in the years to come. The imports of these commodities would continue to apply major pressure on the current account balance of our Balance of Payments. The second risk to our view on silver can come from any possible recession in the developed world, which would suppress the industrial demand and hence, international prices of silver. Siddhartha Khemka, VP - Research (; +91 22 4215 9857) Sanket Daragshetti - Research Analyst (; +91 22 4215 9423)
  • 52. I nd i a I nv e s tm en t S tr a t eg y52 Gold: A defensive bet against falling Rupee
  • 53. I nd i a I nv e s tm en t S tr a t eg y53 Gold: A defensive bet against falling Rupee In our strategy note released in April 2013, we had given a target of Rs.24,000 per 10 grams by end of 2013. However, the domestic gold prices have jumped by 22% to Rs.31,905 from Rs.26,164 on April 23, 2013. In April 2013, INR was quoting at Rs.54.39 against the USD and we expected that it would appreciate to Rs.52 by the end of 2013, believing that the government would take effective control over import of gold. However, the import of gold actually zoomed in April and May 2013 applying a lot of pressures on demand for USD. Sale of debt instruments by FIIs added to woes of INR. Eventually INR depreciated by 12% since April 2013 and the government also increased the import duty on gold by 400 bps to 10% after April 2013. It also tightened restrictions on import of gold and hence, the premium on the domestic gold price also increased. Actually the international price of gold fell 1% since April from $1,413 per oz to $1,398 at present. However, the domestic gold price jumped by 22% during the same period mainly because of 16% impact from INR depreciation and duty hike, and premium offered on domestic gold. Going forward, the call on gold price for the next one year essentially hangs equally on both the domestic factors (the movements in INR and the government policy towards import duty on gold) and global factors like recovery in the economies of the US and the Euro Zone, response of ETFs towards gold and Chinese demand. Considering the following global factors, we expect the international gold prices to fall to $1,350/oz by end of 2013. The U.S. economy appears to be recovering The latest figures indicate that the unemployment rate has dropped to 7.4%, the lowest level since December 2008. U.S. consumer spending rose in July at its fastest pace in seven months. US economic growth unexpectedly accelerated in the second quarter at a 1.7% annual rate. Exports too witnessed some rebound, showing the largest percentage gain since the Q3CY2011, even as demand weakened in Europe and China. Many economists now predict that 2014 will be the best year for growth since 2005, while joblessness is expected to click below 7% next year for the first time since 2008. The Fed is also likely to start tapering off Quantitative Easing before end of 2013. Eurozone comes out of recession – reports growth in Q2CY2013 According to Eurostat, the Eurozone escaped recession, recording GDP growth of 0.7% in Q2CY2013 – the fastest growth seen since the first three months of 2011. This was led by stronger consumption and investment in Germany as well as growth in France. The official figures suggest that a fragile recovery is underway. Surveys of manufacturers have shown increased optimism. Industrial production in June grew at the fastest rate for three years. Some countries like Spain, have seen a surge in exports. Although some of the economies in southern Europe are still shrinking, the rate of decline is slowing. Global gold demand rebalancing The fall in international price of gold in the last one year has led to a dramatic structural change in gold demand across the world. Some of statistics for Apr-June 2013 quarter show interesting trends: There has been significant increase in gold demand for jewellery from India and China – by far the biggest markets for gold. Together they accounted for 60% world demand in this quarter. Demand for gold in June 2013 quarter went up by 54% and 51% respectively in China and India. India's overall consumption of gold grew by 71% YoY to 310 tonne in Q2CY2013, its highest in the last 10 years; There were also significant increases in demand for gold jewellery in other parts of the world – the Middle East region was up by 33% and in Turkey demand grew by 38%; Bar and coin investment grew 78% globally compared to June 2012 quarter, topping 500 tons in a quarter for the first time. In China and India, the demand for bar & coins went up by 157% and 116% respectively in this quarter; Meanwhile gold held in gold-backed ETFs, which accounted for 6% of the world’s gold demand, fell by 400 tonnes, driven by hedge funds and other speculative investors continuing to exit their positions. This was predominantly in the US. Overall demand for gold in June 2013 quarter was down 12% at 856 tons – June 2013 quarter continued to see rebalancing in the market as gold coming into the market from ETF sales met with demand for bars and coins, as well as jewellery. Though the central banks were net buyers of gold for the tenth consecutive quarter, purchasing 71 tons, their net purchases are down 57% yoy. ETF Holdings in Gold drop ETF holding had seen a sharp increase post 2009 as investors got into gold and silver ETFs as a safe haven investment. The total holding of gold and silver in ETFs had reached peaks of 2,633 Metric Tonne (MT) in December 2012 and 19,738 MT in March 2013, respectively. However, the decline in gold and silver prices and possible recovery in the global growth towards the end of 2014 have set a vicious cycle whereby investors pulled out money of ETFs. Year-to-date, investors have already pulled out money from gold ETFs by 26% to near its three year low holding of 1,948 MT as of mid August 2013, a withdrawal of 684 MT. While India curtails import of gold, China increases domestic production of gold Recently, the Indian government raised customs duties on gold 10% from 8% earlier to help curtail the imports to 850 tonnes (950 tonnes last year) this fiscal, contributing towards reducing the current account deficit to 3.7% of the GDP in FY2014 from 4.8% in the previous year. Further it has prohibited import of gold in the form of coins and medallions. All imports of gold in any form or purity shall be subject to a license issued by DGFT prescribing 20-80 scheme. All India Gems & Jewellery Trade Federation expects import of gold to fall by 69% YoY to 150 tonne in the H2CY2013 as compared to 478 tonne last year. According to China Gold Association, the country’s gold production reached during H1CY2013 grew by 8.9% YoY to 192.82 tons. Gold mine production achieved 159.26 tons, with gold recovered as a by-product from the smelting of other ores reached 33.56 tons, YoY increase of 8.9% and 9.3% respectively.
  • 54. I nd i a I nv e s tm en t S tr a t eg y54 Recycled gold While mine production of gold is relatively inelastic, the recycling of gold ensures there is a potential source of readily available supply when needed. For H12013, the total mine supply and recycled gold was down by 1.4% to 1382.7 tons and 12.9% to 672.1 tones respectively as compared with the same period last year. The high value of gold makes recovery economically viable, as long as the precious metal is in a form that is capable of being extracted, melted down, re-refined and reused. Between 2008 and 2012 recycled gold contributed an average 39% to annual supply flows. The hike in gold import duty to 10% in India to restrain imports of gold will increase constraints on the supply side. Going forward this supply crunch could be compensated by higher contribution in recycled gold which would helps to cater for an increase in demand and keep the gold price stable. Conclusion Considering these developments, wherein both positive and negative forces of demand are being rebalanced, we expect international gold prices to tend marginally lower at $1,350 by end of 2013. In case Fed withdraws QE substantially (more than half of $85 billion per month) before 2013 end instead of doing it in a phased manner, then the gold price can fall $1,250 by 2013. However on the domestic front, considering the tremendous pressures on availability of USD and financing of Current Account Deficit, we believe that the government is unlikely to drop the import duty on gold. We expect INR to trade against the USD in the range of Rs.60-62 by end of 2013. Considering the General Election to be held in early 2014, we expect the net inflows from the FIIs to come down significantly in the last quarter of 2013 which in turn would apply pressures on INR in that quarter. Hence, our optimistic target for domestic gold price is Rs.31,000 per 10 grams by end of December 2013, incorporating 10% import duty and some premium of domestic gold as imports are expected to fall further at the expected international price of $1,350. Though in our view, the domestic gold price is likely to remain around current levels, we suggest investors park about 5% of wealth in gold at this juncture. In case India struggles to finance CAD and opts for another significant withdrawal from forex reserves, or the reputed international rating agencies downgrade sovereign rating of India, or FIIs decide to pull out even $5 billion from Indian equities before end of 2013 due to election uncertainty, then there is a risk of further steep fall in exchange rate of INR. In such a scenario, investing in gold can provide some protection against both falling INR and domestic equities. Hence, we suggest medium to long term investors invest in gold at current prices. Risk to our view on gold would be any decision by the Fed to withdraw entire QE before end of 2013 and/ or any steep inflow of FDI and investments by the FIIs before elections are held, considering the opportunity available from about 45% crash in INR over the last two years. In such a scenario, domestic gold prices can fall to around Rs.27,000 level. However, odds are in favour of retaining gold at this juncture. Abhishek Anand, VP - Research (; +91 22 4215 9853) Dhaval Sangoi - Research Analyst (; +91 22 4215 9980)
  • 55. I nd i a I nv e s tm en t S tr a t eg y55 Fixed Income outlook and strategy: Currency defense pushes up bond yields
  • 56. I nd i a I nv e s tm en t S tr a t eg y56 Fixed Income outlook and strategy: Currency defense pushes up bond yields Market Overview Since our last communication, bond markets have swung violently from a phase of significant gains (1Q-CY13) to steep losses (3Q- CY13) with the yield on the benchmark 10-year rising sharply from a low of 7.11% in May’13 to a high of 9.45% in Aug’13 – the benchmark trades closer to 8.26% levels, as we write this note. The volatility seen in the bonds market over the past 4 – 6 weeks has been unprecedented as circuit filters were breached, triggering a brief halt in market trading as well - perhaps for the first time in over 2-decades. The scenario was rosier from the start of the year – 2013 began with cheer as the broad macro-environment seemed to favor a prolonged rally in bonds i.e. falling WPI inflation, reduced pricing power, good monsoons, subdued international commodity prices, slowing growth – all pointing to an imminent turn in the local rate cycle. However, a sudden change in the US Federal Reserve’s long-held accommodative stance in May’13 and increasing chatter of a roll-back in its QE-program by as early as September 2013, led to US Treasury yields spurting and as a result, triggering the unwinding of large carry trades into many Emerging Markets (EMs). Countries with large twin deficits on the current account and the fiscal account came in for special punishment through large depreciation in their exchange rates. The INR was a victim of this move and witnessed sharp and swift depreciation, pushing it to record lows vis-à-vis the USD. Bonds were hit by a wave of FII outflows (~USD 10B between May – July’13), as interest rate differentials turned unattractive after the steep rise in US Treasury yields. While almost all of such investments would have been fully hedged, their swift exodus had a cascading impact on a falling INR that was anyway reeling from a global re-allocation of flows away from EMs that were characterized by the twin deficits. Exhibit 28: Expectations of QE tapering have pushed Treasury Yields sharply higher 1.5 1.7 1.9 2.1 2.3 2.5 2.7 2.9 Dec-12 Jan-13 Feb-13 Mar-13 Apr-13 May-13 Jun-13 Jul-13 10-yrUSTreasuryYield(%) Source: The RBI responded swiftly by tightening system liquidity and hiking money market rates by a whopping 300 bp, apart from enforcing other measures like limiting open forex positions for banks/ market participants in order to curb speculation and reduce the volatility in the INR. In two phases, the RBI significantly narrowed the liquidity window it earlier offered to banks to fund their short-term liquidity requirements. Tight liquidity and a significantly higher marginal cost of overnight funding reverberated through the yield curve, pushing yields sharply higher – 1-3 year bond yields soared by 150-250 bp and swap rates were up by 200 bp (1- year), while the benchmark 10-year g-sec yield closed July higher by about 65 bp since the first round of measures on 15th July. The RBI’s twin moves in July helped in lowering the volatility on the INR in the run up to the 30th July monetary policy, where expectations centered around possible cues from the central bank with regard to the eventual unwinding of the currency stabilizing measures. The policy itself though revealed a divided opinion of the RBI with the central bank sounding a dovish note by revealing its preference for softer rates to bolster growth once the INR volatility issue had been conquered. The dovish interest rate view spooked the FX market with the INR tumbling to fresh lows on the policy day and continuing to weaken further thereafter.
  • 57. I nd i a I nv e s tm en t S tr a t eg y57 Exhibit 29: Volatility in the INR Source: Bloomberg, INR/USD 1-mth ATM option volatility (notation is ours) INR volatility spurted since then and was aided in large measure by the absence of any large and concrete USD mobilization measures by the policy making establishment. Alongside this, liquidity in the system eased as the RBI paid out its annual profit of INR 330.01 B to the Government, which in turn was running occasional overdrafts too with the RBI. In order to staunch the volatility in the INR, the RBI announced further moves aimed at: Tightening liquidity – through the weekly planned issuance of Cash Management Bills (CMB) of INR 220 B Restricting USD outflows – through limiting remittances by resident individuals and companies While the liquidity extraction measures helped in ensuring a tight liquidity situation, the restriction on USD outflows was widely interpreted as capital control measures and thus sparked off another round of panic-driven weakness in the INR that pushed up bond yields dramatically – the 10-year rose from 8.30-8.50% prior to these measures to intra-day highs of 9.45%. Realizing the impact on long-bond yields, the RBI then stepped in with what is now viewed as India’s version of the US’s Operation Twist, where it announced its explicit preference for lower long bond yields and backed it through open market purchases of long bonds. Outlook By doing so, as was the intended objective of the US version, the RBI has effectively placed a cap on long-bond yields and in the process implicitly loosened its grip on the INR/USD. For the bonds market, this latest move and the accompanying dovish statements from the central bank signaled its clear preference for supporting growth once the INR stabilizes. Thus, current yields that are about 100 bp higher than those on 15th July ’13, when the INR stabilization measures were initiated, present a strong opportunity for investors. More importantly, with inflation pressures (especially core inflation) abating (although these may temporarily spike owing to the cost push effects of the INR depreciation) and the RBI turning its focus on supporting an economy battered by a recent currency crisis, yields can ease appreciably over the next 1- 1 ½ years from the current elevated levels. Also, given the RBI’s recent position, the element of uncertainty and volatility on bonds appears to have reduced substantially. Finally, the extraordinary measures on liquidity may likely be withdrawn sooner rather than later once the RBI finds a window for doing so, given that these have now lost their relevance largely and also given the potential harmful impact they can have on the economy if sustained for a long period. While the next 1 – 1 ½ years may therefore witness easing yields, the path may well be jagged (marked by two-way movements) than smooth. Over the near term though, the market may remain victim to: the swings in the FX market, especially in the run-up to and following the US Fed’s policy on 17th/18th September the Government’s borrowing programme which remains fairly large – besides, over the next few months, the market will be sniffing for any potential slippages in the fisc, despite the Finance Minister’s assurance Any exuberance may be tempered by: hints of possible RBI interventions – although the last move by the RBI provided comfort, the markets may not want to rule out such a possibility in the event of drastic movements in the FX market increasing credit risk in the system arising from the economic slowdown
  • 58. I nd i a I nv e s tm en t S tr a t eg y58 Investment Strategy Existing Investors: We recommend investors in dynamic/medium term and high yield funds to stay invested and extend their investment horizon by 9-15 months hereon depending upon the category of funds invested into, as we believe that the volatility in bond markets could offer fund managers opportunities to offset the recent underperformance. That said, while performance of these funds from hereon could be higher than that was expected prior to the recent liquidity tightening measures, although overall holding period returns may be colored by the sharp cut suffered in July. New Investors: Given the volatility in bond markets, we suggest investing into a diversified portfolio across a select category of products described below and most importantly, in a phased manner over the next 4 – 6 weeks so as to be able to navigate the near term volatility in bond yields. Dynamic Bond Funds Suggested allocation: 40% In an environment where we foresee volatility in g-sec and corporate bond yields, Dynamic Bond Funds that actively switch between duration - accruals strategies seem to present an attractive investment opportunity, especially after the recent spike in yields. Such investments may see heightened volatility over the next 1-2 months, but seem attractive over a 15 – 18 month time- frame. While the longer end of the curve could head lower over the medium term driven by broader macroeconomic considerations such as slowing growth, moderating inflation etc., the path is unlikely to be unidirectional – these funds are best positioned to operate in such an environment – by actively straddling across tenors/ curves and trading into short term, tactical opportunities within the broader trade of the season. We therefore prefer such funds to dedicated long-term funds that generally adopt a less active approach to asset allocation and are also constrained by internal exposure limits on asset classes. Even within this category, we suggest investing into a diversified set of 2 – 3 funds with varying investment styles. As mentioned earlier, investors considering such products should necessarily have an investment horizon of 15-18 months or more. Medium Term Income Funds and High Yield Funds Suggested allocation: 20% These funds are well suited for investors with an investment horizon of 12 - 15 months and seek to not only benefit from accrual income but also participate in duration linked strategies through limited exposure to g-secs. In the current macro-environment, most such funds remain invested in the short - medium segment of the g-sec/ corporate bond curve (i.e. T-Bills/CPs/CDs - 5 / 7 years) with a primary focus on accrual income - whilst maintaining an exposure of not more than 10 - 20% into medium - long-dated g-secs so as to participate in possible short-term trading rallies in g-secs. As such, these funds typically maintain a portfolio maturity/ duration cap of ~3 – 4 years, thereby reducing the potential volatility associated with high- duration portfolios. There are high yield variants in this segment too which invest into reasonably good quality, sub-AAA rated securities. Not only are these funds likely to benefit from high yields, but would also benefit from any improvement in system liquidity that would help narrow corporate bond spreads over the next 3 – 6 months. However, these funds are only suited for investors with an investment horizon of 24 – 30 months and without any interim liquidity requirements. Open-ended Bank CD funds and Suggested allocation: 10% Fixed Maturity Plans (FMPs) that seek to lock-in the current high money market yields seem attractive especially considering their low volatility. These funds offer highly visible returns over a 1 -2 year horizon and help reduce the volatility in the overall portfolio. However, these are close ended funds, offering virtually no exit route and hence, the investment horizon must necessarily be aligned to the tenor of the product. A few AMCs have introduced open-ended ultra short term dedicated Bank CD/ CP funds – these are akin to open-ended FMPs – investing into CDs/CPs but 1) offering liquidity and 2) marginal upside potential, with relatively lower mark-to-market risk vs. short term funds. We prefer the open-ended variety of funds to the conventional FMPs. Bonds Suggested allocation: 15% The next few months may witness a spate of tax-free bond issuances from Government-owned companies (mainly public utilities). These are bonds issued for 10/15/20 years, but offer reasonably good liquidity (from past experience) for investors choosing to exit their investments in the interim. As their coupons at issuance are linked to g-sec yields, which are currently elevated, these can be very attractive options over the near term. The consistency of returns over a 10/15/20-year term is an added benefit that makes them a necessary consideration in every fixed income portfolio. Investors can also selectively consider medium-term bonds from good quality NBFCs (non-bank finance companies) that generally provide higher yields vis-à-vis their counterparts in other sectors. Going by recent experience, such bonds offer around 11-11.5% p.a. over 3-5 year periods. They therefore compare well with traditional bank or company deposits, as these are secured and also as they offer higher return stability (through fixed coupon payments) vis-à-vis fixed income funds where returns tend to vary through interest rate cycles.
  • 59. I nd i a I nv e s tm en t S tr a t eg y59 Two important caveats that need to be borne in mind while considering private sector corporate bonds are: 1. Credit quality – investors should only invest into bonds issued by high quality companies having a superior credit rating – we suggest a minimum credit rating of AA (or equivalent). Within this, we prefer issuances from companies belonging to large, well established business groups and those from large manufacturing companies. We would prefer to be highly selective in considering bonds from NBFCs with a bias for companies engaged mainly in secured lending in non-capital market linked segments. This factor is especially key, given the current financial stress seen across companies and sectors. 2. Liquidity – while bond issuances have increased sharply in recent times, the bonds market remains fairly illiquid for individual investors (with transaction size of under INR 5 crores). Specifically, a fresh supply of bonds can significantly impact the price/ yield levels. Investors should bear in mind this risk and not depend on investments into bonds to meet contingencies or unforeseen liquidity requirements. Specialty High Yield Debt Products Suggested allocation: 5% Investors with a moderately high risk appetite and seeking a high yield premium over a 3 – 3.5 year time-frame can consider investing into niche high yield debt products which invest into a pool of carefully identified NCDs issued by good quality real estate companies. These NCDs are secured with multiple layers of collaterals. Such products typically offer regular coupon income (typically from 3 – 6 months from date of investment) and are structured in a tax-efficient manner so as to maximize the net yield to the investor. However, such products are suitable only for investors with a high risk appetite and with an investment horizon of at least 3 years. Given the higher risk associated, investors should necessarily restrict exposure to this asset class. Market-linked structured debentures Suggested allocation: 5% Market-linked debentures can provide non-linear pay-off profiles for investors and thus act as an effective diversification tool in portfolios. While there is an undeniable linkage to an underlying asset class (mostly, an equity index in India), the returns to investors may not be in lock-step with equities. With yields having gone up in recent weeks (high yields increase the attractiveness of structures), the swings in equity market volatility may help in offering attractive payoff possibilities for investors. We suggest investors to consider a mix of: 1. High-coupon based structures over a 3-4 year period. Such structures currently offer high coupon rates that are premised upon low to moderate upsides in the equity markets over a 3-year period. 2. High-equity participation structures over a 3-4 year period, where investors with a favourable equity market outlook over this period can look to beat equity index performance by a large margin. Global opportunities Suggested allocation: 3% Investors could selectively consider exposures to certain global geographies or themes to effectively diversify their predominantly domestic equity and debt portfolios. Many of these ideas are worthy of consideration for their own individual merits as growth opportunities, while others could be poorly correlated with India and therefore act as good portfolio diversification options. Some such ideas include US equities, Emerging Market equities, select thematic plays such Global Real Assets, Agriculture, etc. These funds also help as a hedge against the movement of the INR, as the underlying assets are denominated in foreign currency. For domestic investors with portfolios that are largely positively correlated with the INR, these options can help as effective currency hedge. A caveat on the other hand is the significant volatility in some of these asset classes (e.g. commodities). However, with the steep depreciation in the INR in recent times, the attraction of some of these ideas may be diminished for investors over the short- term. These ideas should necessarily be considered for periods of 3-years or more for the benefits outlined above. Commodity-based funds Suggested allocation: 2% Such ideas offer good opportunities as the commodity complex is fairly diversified and offers effective diversification both within this asset class and vis-à-vis conventional assets. Investors can consider regulated products that are designed within strong risk- management frameworks and designed to deliver outperformance over conventional debt products. R. Shankar Raman, Head – Third Party Products Advisory (; +91 22 4215 9684) Mangala Pruthi, AVP – Third Party Products Advisory (; +91 22 4215 9632)
  • 60. I nd i a I nv e s tm en t S tr a t eg y60 Appendix A Disclaimer Centrum Broking Limited (“Centrum”) is a full-service, Stock Broking Company and a member of The Stock Exchange, Mumbai (BSE), National Stock Exchange of India Ltd. (NSE) and MCX-SX Stock Exchange Limited (MCX-SX). One of our group companies, Centrum Capital Ltd is an investment banker and an underwriter of securities. As a group Centrum has Investment Banking, Advisory and other business relationships with a significant percentage of the companies covered by our Research Group. Our research professionals provide important inputs into the Group's Investment Banking and other business selection processes. Recipients of this report should assume that our Group is seeking or may seek or will seek Investment Banking, advisory, project finance or other businesses and may receive commission, brokerage, fees or other compensation from the company or companies that are the subject of this material/report. 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  • 61. I nd i a I nv e s tm en t S tr a t eg y61 Member (NSE and BSE) Regn No.: CAPITAL MARKET SEBI REGN. NO.: BSE: INB011454239 CAPITAL MARKET SEBI REGN. NO.: NSE: INB231454233 DERIVATIVES SEBI REGN. NO.: NSE: INF231454233 (TRADING & CLEARING MEMBER) CURRENCY DERIVATIVES SEBI REGN NO. : MCX-SX INE261454230 Distributor Mutual fund ARN : 1833 Depository Participant (DP) CDSL DP ID: 120 – 12200 SEBI REGD NO. : CDSL : IN-DP-CDSL-661-2012 PORTFOLIO MANAGER SEBI REGN NO.: INP000004383 Website: Investor Grievance Email ID: Compliance Officer Details: Mr. Ashok Devarajan; Tel: (022) 4215 9437; Email ID: Centrum Broking Ltd. REGD. OFFICE Address Bombay Mutual Bldg., 2nd Floor, Dr. D.N. Road, Fort, Mumbai - 400 001 Correspondence Address Centrum House 6th Floor, CST Road, Near Vidya Nagari Marg, Kalina, Santacruz (E) Mumbai 400 098. Tel: (022)4215 9000 Fax: +91 22 4215 9344