HDFCBank - Consistent performer

An economic slowdown may not be new for HDFC Bank that grew consistently at 30 per cent during various cycles in the last ten years. To weather the present slowdown, the bank has sought to adopt a conservative approach, resulting in a subdued growth in its core business of lending– its credit growth has remained flat in the last few quarters. In these trying times, seeking to maintain asset quality and stable margins could mean a loss on volumes, but it has also helped in maintaining profitable growth. The merger of Centurion Bank of Punjab (CBOP) with HDFC Bank last year extended its branch network in the near-term, however the real operational synergies from the merger are expected to flow in 12-18 months.

Unexciting loan growth HDFC Bank’s loan book grew by just 7.2 per cent y-o-y in June 2009 quarter, which reflects the weak demand environment and the bank’s conservative appetite for growth. In the last fiscal, too, the trend in absolute advances (sequentially) from the September 2008 to March 2009 quarter was largely flat. For June 2009 quarter, its net interest income and fee income grew at a slower pace of 8 per cent and 27 per cent year-on-year (y-o-y), respectively from around 30-40 per cent levels in 2008-09. The lower growth is also due to the base effect–due to the merger of CBOP with HDFC Bank in May last year.

On the whole, HDFC Bank observed a modest loan growth due to a moderation in both retail and corporate books. Retail loans may have grown year-on-year, but sequentially it has not. With concerns over the retail segment, the bank is persisting with a cautious approach, especially in the unsecured space (personal loans, credit cards) where the bank has introduced stricter underwriting standards.

A demand slowdown and a cut-back of new investments in the corporate advances during 200809 was evident in the slowdown of credit to this sector, however things seem to be stabilising, which is a positive. Regarding the credit growth for 2009-10, Paresh Sukthankar, executive director, HDFC Bank, says “If we project a systematic growth of around 17-19 per cent for the year, we would hope to grow faster than the system as we have done it in the past.”
Profitability intact It is a foregone conclusion that HDFC Bank’s net profit would grow at about 30 per cent, which is what the bank delivered in the June quarter also. However, there has been a change in the profit contributors. As the growth in core income slipped, trading profits grew at robust rates thereby boosting profitability in the recent quarters. Unlike during 2007-08 and the first two quarters of 2008-09, the share of trading profits in net profit has averaged at around 40 per cent in the last three quarters. Going ahead, with yields expected to harden (from second half of 2009-10) the gains in treasury (trading) income may not be sustainable feel experts.

The pressure from a slowdown in the credit growth might have got accentuated on the earnings, had it not been for the best -in-the industry net interest margins (NIM) of over 4 per cent that the bank enjoys. What is remarkable is that the bank has maintained these margins in the last 17 quarters. With over 1,400 branches and an expected increase of 200-250 branches in 2009-10, low-cost deposits would boost margins in the future also. In the second half of the current year, some high-cost deposits would also get re-priced and would further cushion the margins. The management expects NIMs to average between 3.9 per cent and 4.2 per cent.

Asset quality holds up During any downturn, non-performing assets (NPA) are bound to rise. Nevertheless, HDFC Bank has been doing a good job of holding on to asset quality without major slippages in the recent quarters even as CBOP books have deteriorated faster than its standalone book in the present downturn. Of the total NPAs, around 40-42 per cent is estimated to have originated from CBOP is the extent of let-up in the tough macro conditions, given that CBOP’s share in total loan book is pegged at less than 20 per cent.

While there has been increase in the quantum of restructured assets in case of several banks, HDFC Bank’s restructured assets are among the lowest in the industry. Restructured loans account just 0.55 per cent of its loan book, around a fourth of the gross NPA of 2.05 per cent, which seems to be manageable, going ahead. With most of the restructured loans given for working capital requirements to corporates, analysts say that these should remain under check.
Outlook Higher treasury gains over the last few quarters have been used to provide for bad loans. Consequently, the provision coverage rose by 130 bps to around 70 per cent in the June quarter. Absence of gains from the treasury in the future could put pressure on earnings or ability to maintain high provision covers. Analysts estimate HDFC Bank’s net profit to grow at an average of 25 per cent in the next two years. Thus, the banks’ ability to extract synergies from the CBOP merger assumes importance for future growth. Superior NIMs, a high proportion of low-cost deposits driven by extensive branch network and robust risk management systems will help drive profitable growth and maintain asset quality.

HDFC Bank is adequately capitalised and would be able to sustain the lending momentum as and when the credit cycle picks up. Even though HDFC Bank trades at a premium vis-a-vis its peers–the stock is trading at 3.5 times its 2010-11 adjusted book value and looks fully valued–it could considered on dips with a long-term perspective.

Hindustan Zinc

Falling cost of production, new capacity addition and huge cash reserve makes Hindustan Zinc a good medium-term bet
BASE metal prices have picked up over last six months, thanks to the improved optimism worldwide about a speedy economic recovery. But the road to recovery is paved with caution, and hence investors should cherry pick a stock from the base metal sector which offers good growth potential but with limited downside risk.

Hindustan Zinc is one such stock, which we recommended and predicted the bottoming out of zinc prices at that time. Since then, the stock price has more than doubled. Recently, the company reported a good quarterly result and is on track with its expansion plans. Its lower cost of production and huge cash and liquid investment reserve on its balance sheet makes it an attractive investment bet. Its new smelting capacity of 3 lakh tons, expected to be commissioned by mid-2010, is well timed with demand recovery. Mediumterm investors with a horizon of 2-3 years can add this stock to their portfolio.

BUSINESS

Hindustan Zinc is the largest zinc-lead producer in India with a market share of more than 80%. It is fully integrated having its own mines and power plants. The company’s total mining reserve and resources is estimated at around 272 million tonnes which contain different grades of zinc and lead content ranging from 5-13% and 1.5-3% respectively. It mines nearly 7 million tonnes of zinclead ore every year. Similarly, the company has smelting capacity of 0.75 million tonnes which operated at a capacity utilization of 80% in FY ‘09. In addition to these non-ferrous metals, it also produced around 105 tons of silver, which is a by-product of the core operation. It also sold around 1 million ton of sulphuric acid, a by-product, during same time period.

FINANCIALS

The company is one of the lowest cost zinc producers in the world, thanks to its raw material integration plan and better operating efficiency. Its operating margin, even in current market scenario, stands at more than 50%. Its average return on capital employed (ROCE) for last five years is close to 50%, much higher than many companies across different sectors. Hindustan Zinc has a target to bring down the cost of production to $550 per ton from the current sub $700 per ton level and that would further improve its operating margin substantially. It has a cash and cash equivalents of more than Rs 10,000 crore and zero debt on its balance sheet as on 31st March, 2009.

FUTURE GROWTH PLANS

The company plans to be one million tonne integrated lead-zinc producer in next two year time period. To achieve this target, the company is also expanding the capacities of different inputs like power and zinc-lead ore. It is setting up a power plant with a capacity of 160 MW and also increasing the mining capacity close to 10 million tonnes per annum. The silver production capacity would also increase to 500 tons per annum, from the current 150 tons per annum, boosting the profitability further since it is doesn’t add any further cost to main production process. The total investment required for this purpose is estimated at around Rs 3,600 crore which would be financed from internal accruals.

VALUATION

The company’s profitability in next two years would significantly increase because of lower cost of operation, higher volume and increase in realization. The impact of its additional 3 lakh tonnes capacity will be visible partly in FY ’11 and fully in FY ’12. The earning per share for FY ’11 and FY ’12 are worked out to be Rs 105 and Rs 135 respectively. At the current price level, this translates into forward price-earning (P/E) multiple of 6.9 and 5.4 respectively. This provides a significant upside potential for a stock, which traditionally trades at a P/E band of 10-14. Also its huge cash and cash equivalent on balance sheet translates into Rs 237 per share and limits the downward risk. Investors with a time horizon of 2-3 years can consider this stock for their portfolio.

Hindustan Dorr-Oliver Ltd

Hindustan Dorr Oliver (HDO) is one of the few small-cap engineering companies that managed to weather the current slowdown by focussing on diversification of services and offering specialised technologies through overseas tie-ups. The company’s recent order-win from Uranium Corporation of India for a greenfield ore mining and processing facility demonstrates its ability to quickly capitalise on new business opportunities. This listed subsidiary of IVRCL Infrastructures & Projects holds strong earnings potential from a medium-term perspective. Investors can consider investing in this stock, which trades at a modest 2.8 times its expected per share earnings for FY10.

HDO’s expertise lies in providing turnkey solutions and Engineering Procurement and Construction (EPC) services in liquid solid separation applications in industries such as mineral processing, fertiliser and chemical and environmental management. The diversified operation has aided in steady order flows even in a downturn such as the present one. The company has managed a 63 per cent growth in net profits for the nine months ended FY09 compared to year-ago numbers. The profit growth would have been higher but for the steep hike in interest costs primarily on account of working capital requirements.

HDFC

HDFC is facing stiff competition from state-run banks.With the P/E at a high, it may be a good idea to exit at the current price point
HOUSING Development Finance Corp, better known as HDFC, is the biggest housing loan provider in India. In fact, its success is so unparalleled that its name has become synonymous with housing loans in the country. It is also one of the most consistent performers in India Inc. For instance, its profit growth remained in the range of 20-25% in six years from FY 2002-2007. As a result, its stock has become darling of investors be it retail, high net worth individuals or foreign institutional investors. However, state owned banks; particularly State Bank of India (SBI) has upped the ante on housing loans, which has intensified the competition.

BUSINESS

India is a country with acute shortage of dwelling units. This shows that housing loans will continue to be a growth business in many years to come. Moreover, housing loan is secured lending. Unlike unsecured lending such as credit cards, the risk of non-performing loans is much lower in mortgage business. The logical conclusion from these facts is that HDFC - being the largest mortgage player - is set to grow in future. But the competitive landscape has dramatically changed. In the good days of boom, it was ICICI Bank, which was the closest competitor of HDFC in terms of housing loans.

Today, public sector banks are coming out with attractive schemes for prospective borrowers. For instance, country's largest bank, SBI, has offered home loans at 8% per annum interest rate to new borrowers. The bank has met with such success that it has become the largest home loan provider in terms of both numbers of homes and volumes.

Other top PSU banks are also offering housing loans at attractive rates. In fact, today PSU banks offer lowest rates for housing loans. No doubt HDFC is feeling the heat. Moreover, PSU Banks have adopted modern practices such as core banking solution (CBS), improved their culture by instilling customer-focused approach at branch level, hired young workforce and introduced incentive based compensation structure. These changes have radically changed the competitive landscape in banking and finance space.

HDFC, however, has an upper hand due to its relationships with many builders across the country and its valueadded services to potential home buyers like qualitative information about builders and projects. Its staff also tends to be aggressive in courting prospective customers, while state-run banks mostly rely on walk-in customers.

FINANCIALS

HDFC’s performance has slipped a few notches in the last few quarters. In fact, in the December ’08 quarter, its net profit fell 2.3% year-on-year. Though profits soared 20.7% in the June’09 quarter, still the performance is lacking on some parameters. For instance, the growth in advances has come down to a mere 8.4% in the June ’09 quarter from 31% a year ago.

It is clear that the company is finding it difficult to maintain the growth rates. Plus, the competition has intensified over last year.

Moreover, the cost of funds for banks is much lesser because 30-40% of their deposits are CASA (current account and savings account) in nature. And because such deposits provide better liquidity than term deposits, banks offer extremely low interest rates. On the contrary, the cost of funds for HDFC is high because it is a non-banking finance company (NBFC) and cannot mobilize CASA deposits. For instance, in FY 2009, the cost of funds for SBI stood at 5.9% compared to 9.7% in case of HDFC. (Refer the chart below for comparison of cost of funds between HDFC and SBI over last five years). With higher cost of funds, HDFC cannot match the interest rates offered by PSU Banks on home loans.

VALUATIONS

The stock is trading at 30 times its trailing twelve months standalone earnings. The adjacent chart shows price to earning multiple (P/E) at various points in last six years. It is clear that only once in last six years that valuations were higher than what is prevailing now. And that happened in last months of year 2007. Those were the days of great Indian bullrun, when the company was growing by leaps and bounds.

The point here is that HDFC is facing strong headwinds in form of stiff competition. However, it seems that stock market has not captured it. On the contrary, the current rally has pushed the stock price bit too far. There is no doubt that HDFC will continue o grow due to its expertise in mortagge business. But, the growth rate may not be as high as invetsors have become used to. Later or sooner, stock market will factor this into valuations. It would be wise for long term investors to sell the stock or at least reduce exposure.

HCL Technologies

Beyond operations, lower depreciation and amortisation charges as well as halving of forex-related losses helped the company report a 60.5 per cent q-o-q rise in net profit for June 2009 quarter. This robust performance helped HCL in containing the decline in net profit to a mere 5.6 per cent in 2008-09--- profits were down 21 per cent in the first nine months.
structuring its operations for faster growth, which has reaped good results. In a bid to stay ahead of the industry and broad base its growth platform, HCL is continuing to focus on non-US markets, reduce dependence on any single vertical, service or geography and offer customers incremental value. However, in the near-term, analysts believe that there are challenges including from the company’s higher reliance on new deals for growth. As against its larger peers, HCL’s share of repeat business has been on a gradual decline. And although it announced new deals including from Sony and Nokia among others during the quarter, the undertone on big deals in future was not strong.

While resumption of business from existing clients has been the primary reason for outperformance (v/s expectations during quarter ended June 2009) at other tier 1 vendors, HCL mostly benefited from better performance on new deals. In this context, management’s negative outlook on deal flow is worrying. Also, IMS could have further margin headwinds, as the nature of new deals necessitate higher contracting. That the company’s software services business has seen its employee strength reduce q-o-q by 538 in June 2009 quarter on the back of a 396 qo-q decline in March 2009 quarter is perhaps some indicator, believe analysts. They however, also believe that while there is limited scope to further enhance utilisation levels the company could resort to just-in-time recruitments if needed.

Conclusion

For now, the challenges pertaining to weak demand and managing costs are likely to persist for Indian IT companies in the near-term. In the mediumterm though, the expected economic recovery in US and other global markets from early 2010 should improve visibility. For HCL Tech, on the back of better June quarter performance, most analysts have revised upwards their revenue and earnings estimates for 2009-10 and 2010-11, translating into an EPS of Rs 16.3 and Rs 23.2, respectively. However, at Rs 306, the stock, which is up by 22 per cent in the last six trading sessions and trades at 13.1 times its estimated 2010-11 earnings, is a bit expensive and can be considered on dips.

HCL Technologies surprised the Street by posting good numbers for June 2009 quarter. While revenue growth was helped by strong performance of its infrastructure services business, profit margins rose on the back of a tighter control over costs. However, the flip side is that concerns over demand and pricing persist. On its part, the company believes that its strategy of focussing on large deals, emphasis on offering new services and thrust on providing value to customers among others will help it emerge stronger and report industry leading growth, going ahead. Meanwhile, even as analysts have upped their estimates for 2009-10 and 2010-11, the stock looks a tad expensive at current levels. June quarter, a booster

The fifth largest Indian IT company, HCL Technologies has broadly three service segments classified as software, infrastructure management (IMS) and BPO. While the company caters to the needs of a host of sectors, its presence across the value chain (multi-service offerings) has helped it qualify for big multi-year outsourcing deals believe analysts—in 2007-08, the company bagged $1 billion worth of large deals and the same stood at $1.5 billion in the first nine months of 2008-09.

Higher revenues booked from new deals won in the first nine months (July to March) of 2008-09 have partly helped HCL report a 3.9 per cent quarter-on-quarter (q-o-q) growth in revenues (in dollar terms and on a constant currency basis) for the fourth quarter ended June 2009. The reported revenue growth though was higher at 7.6 per cent. Notably, volumes grew by about 2.7 per cent to some extent helped by higher number of billable days.

IMS, which accounted for 18 per cent of total revenues, reported a strong 25 per cent q-o-q growth. However, its EBIDTA margins fell by 260 basis points (bps) to 19.4 per cent, partly due to outsourcing of jobs worth $7 million to third parties. The BPO business (about 10 per cent of revenues) too saw margins slip, albeit by just 20 bps, mainly due to higher staff costs.
Notably, software services (roughly threefourths of total revenues) did reasonably well with revenues rising by 4.5 per cent in dollar terms, mainly helped by a 13 per cent sequential growth in the custom application business. More importantly, its EBIDTA margins expanded by 180 bps to 23.8 per cent. As the external environment conditions turned tougher, Indian IT companies have been focusing on cutting costs to preserve margins.

HCL, too, has been working on similar lines. Over the last six quarters, it has been able to increase its employee utilisation levels— it is up from 69.1 in December 2007 quarter to 74.1 per cent in March 2009 quarter and further to 76.2 per cent in June 2009 quarter – as well as lower the attrition levels across businesses. Likewise, companies (including HCL) have also focussed on gradually hiking the share of fixed-price contracts, which adds to margin visibility. Last but not the least, selling and general expenses have been kept under control, all of which have led to margin expansion in June quarter (on q-o-q basis) as well as in 2008-09.

GSPL

THE Gujarat government-controlled Gujarat State Petronet (GSPL) has outperformed the benchmark Sensex by more than three times since mid-July 2009. The scrip is up 75.7% in the past three months compared to the 25% rise in the Sensex during the period. The company is currently valued at 19.2 times its profits for the past 12 months.

This better-than-expected performance has been attributed to a spurt in GSPL’s financial numbers following the commissioning of new pipelines and new supply contracts. The company registered a 147% jump in its June 2009 quarter profit and a growth of 288% in the September 2009 quarter. The company doubled its revenues in this period on the back of doubling its gas volumes. This performance is expected to be repeated in the second half of FY10 also.

Particularly so, as the company had witnessed a fall in natural gas volumes in the corresponding period of last year due to the crash in naphtha prices.

GSPL’s board of directors as well as its shareholders had approved a contribution of 30% of its pre-tax profits to the Gujarat Socio Economic Development Society in FY09. However, the company did not make any provisions as no project was identified. The society also could not obtain a registration with income-tax authorities. The possibility of such a contribution will continue to remain a major concern for the company’s shareholders in future.

GSPL’s recently-published results for the September 2009 quarter were remarkable as its operating margins nearly doubled during the period. However, the spurt was mainly on account of writeback of excess provisions for salary hikes and hence, such high level of margins appear unsustainable.

The company, which currently operates 1,280 km of gas pipelines, plans to double its network to connect all 25 districts of Gujarat in coming few years. Low debt level, strong operating margins and high cash generation capacity are big positives. However, the distribution of 30% of its pre-tax profits for social services could play spoilsport.

TIME Technoplast

is India’s leading manufacturer of drums and containers used in transportation of chemicals with nearly 4 million units per annum and 75% market share in India. The company derives nearly 58% of its annual revenues from industrial packaging, with lifestyle products contributing 9%, and the rest coming from infrastructure products.

GROWTH DRIVERS

The company recently commissioned its greenfield battery unit at Panoli and high pressure HDPE pipe and pre-fabricated structures at Silvassa. It is setting up another plant to manufacture drums and containers near Kolkata to commission by September 2009 and planning to enter China with a greenfield unit. The government has recently made the usage of auto-disable syringes mandatory in India to improve public health. This is set to help Time Technoplast, which is a leading producer of such syringes from its plant in Baddi.
It has started supplying plastic fuel tanks for export variants of Tata’s commercial vehicle ‘Ace’ from its Pantnagar plant. Thanks to their low weight, which can improve an automobile’s mileage, the plastic fuel tanks have a substantial growth prospects in India. The company’s new capacities are coming up tax free zones and this is likely to reduce its effective rate of tax to around 20% in FY10 from 28.7% in FY09. The company is also working on other innovative products such as green batteries, fuel cells, polymer composite LPG and CNG cylinders, sound barriers as part of its various product lines. All these products have great growth potential in Indian as well as exports markets. Most of these products will be rolled out over next few quarters. At a macro level, with the natural gas based polymer capacities come up in the Middle East, it is expected that the global polymer prices will remain depressed in coming 2-3 years. This bodes extremely well for a plastic product manufacturer like Time Technoplast.

FINANCIALS

The company has always maintained its operating profit margin around 18% - 20% over last five years, which signifies its ability to command premium for its products. During the same period the company’s net profit grew at a cumulative annual growth rate (CAGR) of 109% as against 44% CAGR in net sales. Its performance for the December 2008 quarter was weakened due to the crash in commodity prices necessitating a write off in inventory value. At the same time, higher interest rates and longer working capital cycle pushed up the interest cost. As a result, the company’s consolidated profit fell 32% to Rs 14.5 crore

VALUATIONS

At current price, the scrip is trading at a P/E of 11.2 times based on trailing twelve month profits. We expect the company to end FY09 with earnings of Rs 3.9 per share, which discounts the current market price 9.8 times. During FY 2010 the company will have full benefit of its various new capacities, which are likely to boost its EPS to Rs 5.3. At its current market price, the stock is trading at just 7.3 time the forward EPS for FY10.

CONCERN

Several of the company’s products such as the plastic fuel tanks, fibre coated CNG / LPG cylinders, duro-turf, pre-fabricated structures, roadside sound barriers are new to Indian market and need government approvals as well as customer acceptance, both of which are time-consuming.

Godrej Consumer

A diverse product range, value for money strategy and enhanced distribution reach will help Godrej Consumer sustain growth rates

An economic slowdown and down-trading by consumers meant better sales for its valuefor-money products like Godrej No.1. Superior quality positioning (relatively higher total fat content of 76 per cent) with minimal price hikes helped sustain its position as the largest selling ‘Grade-1’ soap in the country. Periodical launch of new variants like Aleo Vera and Lime under the Godrej No.1 brand also boosted brand visibility. On the back of Godrej No.1, its soap business has grown faster than the industry for the last five years. Besides Godrej No.1, another key soap brand, Cinthol, helped it soaps business register a 27 per cent y-o-y growth in revenues in June 2009 quarter, wherein volume growth was a robust 15 per cent. On the whole, the management expects to increase its market share by one per cent in 2009-10 from 9.4 per cent in the previous year.

HAIR CARE: Holding ground For GCPL, the hair colour segment is the second biggest business making up 22 per cent of its net sales. Even though it is a leader in the category, GCPL has lost market share in three out of the last four fiscals. Increasing popularity of premium segment hair colour over black hair dye segment is the reason for this slippage. The premium segment of hair colorants is growing faster (at 20-25 per cent) than the overall market on account of the changing lifestyle and higher disposable incomes, wherein multinationals like L’Oreal and Garnier have gained a strong foothold. For now, while the company’s market share (in value terms) had slipped in the past to a low of 33.7 per cent in the month of March 2009, it increased to 34.8 per cent at the end of June 2009. This was aided by higher volumes from Godrej
Nupur Mehendi and from higher value derived from Godrej Expert.

Going ahead, the company believes that it will be able to sustain its value-based market 50,000 across the country over the next six months) are an indication. This tie-up could help GCPL to penetrate into smaller towns and rural areas besides, enable it to cross-sell its other products. Greater volumes from the mass hair colour segment would ensure it outperforms the industry volume growth in the future also.

Investment rationale A spurt in input costs, especially palm oils (for soaps business), saw the proportion of raw material costs to sales increase to as high as 57 per cent during 2008-09 as against 50 per cent in 200708. Nevertheless, the pressure on margins has decreased and considering its forward cover on inputs for the full year, 2009-10 should be better— in June 2009 quarter margins were up 470 basis points to 19.8 per cent. With volume growth in soaps and hair care likely to be good, aided by focus on low price points (Rs 5 and Rs 10) and expansion in distribution reach, expect the performance of GCPL’s domestic business (about 80 per cent of consolidated sales) to be healthy in 2009-10.

Godrej Sara Lee is estimated to have reported sales of Rs 750 crore and net profit of Rs 100 crore (both up 25 per cent y-o-y) for 2008-09. Adjusted for the issue of shares for acquiring the stake, the acquisition is likely to add around 5 per cent to GCPL’s consolidated earnings. GCPL’s international business grew relatively slower and this is expected to continue in the future.
GCPL is expected to report a CAGR of 15 per cent and 25 per cent in sales and net profit, respectively between FY09-FY11. This is assuming weak monsoons (near term) and rising competition in the soaps business. The stock, which has run up 30 per cent since mid-July, is trading at 20.3 times its 2010-11 estimated earnings, and could be considered on dips.
Godrej Consumer Products

Increasing rural prosperity has driven many companies into these areas helping them grow at robust pace. A beneficiay of this growth is Godrej Consumer Products (GCPL). The company intends to double its network in towns and triple its reach in villages in the next three years. Consequently, the share of rural markets in overall sales is expected to increase from 38 per cent now to about half in the next three years. Besides rural reach, its varied product range in soap, hair colour, toiletries, fabric care and hygiene categories supported by constant re-invention would add solidity to revenues. Notably, GCPL’s move to acquire 49 per cent stake in Godrej Sara Lee has indirectly extended its product basket to include mosquito repellents and air care (perfumes for cars). The company’s product as well as geographical diversification, with business interests in nearly 50 countries, makes for a stable revenue model.

SOAPS: On a growth momentum The company lost market share in the second half of 2007-08 a time which saw a sharp rise in the cost of raw materials, primarily palm oil. In fact, GCPL’s market share made a recent low of 9.1 per cent when palm oil prices were at the highest in the March 2008 quarter.

Nevertheless, the company was able to consolidate its position in the recent quarters on the back of robust volume growth. This was possible as the company’s price hikes due to increases in input costs were relatively lower compared to its peers. As a case in point, analysts say, HUL is estimated to have lost market share in soaps as it focused on profitability compared to players like GCPL that preferred volumes over margins. As a result of GCPL’s effort to boost volumes and expand its rural reach, it has gained market share in four of the last five quarters. Its market share for the month of June 2009 stood at 10.1 per cent, a shade below its threeyear peak of 10.2 per cent.

Godawari Power and Ispat

Profits from its iron-ore mines and the pelletisation plant provide significant upside potential for GPIL

THE upsurge in stock markets saw the prices of many frontline metal stocks more than treble in the past nine months. However,quite a few stocks in the small-cap space have failed to fire the street. Godawari Power & Ispat (GPIL) is one such case which suffered badly in early 2009 from lower steel prices and economic slowdown. However, the commissioning of its long-pending iron-ore mines and pelletisation plant in curent fiscal, along with the surge in spot iron-ore prices, is expected to boost earnings significantly.

The stock looks undervalued and provides upside potential in the near term. Investors looking to invest in small-cap metal space may consider this stock with an investment horizon of around two years.

BUSINESS

GPIL manufactures mild steel wire, which is used as binding wire and barbed wire. It has a current annual capacity of 1.2 lakh tonne of steel wire. The company has stopped producing steel billets, which is used as a raw material in wiremaking and available at a very low price in the open market. In turn, it has started selling its surplus power, otherwise used in billet making.

GROWTH DRIVER

The company has been allotted two iron-ore mines, with an estimated reserve of 15 million tonne, in the state of Chhattisgarh. The first one was commissioned in May and the second one will be commissioned at the end of 2009. Annual production from both the mines is expected to be in the range of 6-8 lakh tonne from FY ’11 onwards. The company is also setting up a pelletisation plant of 6 lakh tonne capacity, which is expected to get commissioned in October. The captive mines and pelletisation plant will bring down the cost of iron ore to almost one-third last year’s level.

FINANCIALS

The company’s revenue has more than quadrupled in the past three years to Rs 1,100 crore. Its operating margin contracted by 300 basis points, on a year-on-year basis, to 14.6% in the Jun ’09 quarter. However, its profitability is expected to improve in the coming quarters and the operating margin will increase to a little more than 20% in the current financial year, largely due to the captive iron-ore mines.

VALUATION

The company will save around Rs 3,000 per tonne of iron-ore consumed. As per the current plan, it will receive around 3.5 lakh tonne of iron ore, for sponge iron production, from captive mines in FY ‘10. This figure is expected to double in FY ‘11. The savings arising out of this would improve the earning per share by Rs 28 and Rs 55 in FY ’10 and FY ’11 respectively. At the current price level, it translates into a price-earning multiple of 2.8 and 1.8 for FY ’10 and FY ’11, respectively. This provides significant upside potential considering the fact that the stock has historically traded at a price earning multiple range of 7-12. Investors with a short to medium term horizon can consider adding this stock to their portfolio.

Indian Hotels

The Sea Rock acquisition makes Indian Hotels a dominant player in the central Mumbai market.
INDIAN Hotels Company (IHCL) recently acquired Sea Rock Hotel in Mumbai for Rs 680 crore. It has picked up 85% stake in ELEL, which holds a long-term lease of the land on which Sea Rock is built. How does this acquisition help IHCL, going forward?

Current scenario:

The domestic hotel industry has suffered in the past six months due to the global slowdown and terrorist attacks on the country’s financial capital. And it seems a tad difficult that occupancy levels would be higher in the immediate future. In FY’09, the average occupancy at Indian Hotels fell to around 66% from 73% in FY’08. The company understandably had lower average room rates (ARR) during the year, which resulted in a 38% drop in the stand-alone net profit at Rs 234 crore.

Impact of the Sea Rock deal:

IHCL is planning to demolish Sea Rock and erect a new hotel complex, which will also house a convention centre, besides commercial and retail outlets. The company plans to integrate the site with Taj Lands End in Bandra within three years. The funds for the acquisition would come from last year’s Rs 1400-crore rights issue and internal accruals. The location of Sea Rock would be the biggest advantage for IHCL. It has a better view as it is right on the seashore compared with IHCL’s other property Taj Land’s End. Now, the Taj Group would have five prime hotel properties in Mumbai. It would increase its footprint in central Mumbai as the city will see the opening of the Bandra-Worli Sea Link. After the sea link opens, the Chhatrapati Shivaji International Airport will be barely 10 minutes’ driving distance from the Sea Rock Hotel site. This augurs well for the Taj Land End’s property.

Currently, IHCL has 97 hotels and 11546 rooms, including hotels belonging to its subsidiaries, associate companies, JVs and management contracts. For FY’09, the company plans to add nearly 1800 rooms. This addition would come in the backdrop of declining revenues sales. Total revenue in FY’09 fell by over 10% to Rs 3918 crore, while the number of rooms increased by a similar percentage. IHCL’s financial appears to be a concern. The company’s profits are falling, while its interest expenses have increased. Its profit before other income, interest and taxes as a proportion of interest payments shrank from 4% in FY’08 to 1.7%. If the profits continue to fall further, the company may find it difficult to service its debt. The Sea rock deal would not increase IHCL’s debt further.

Currently, IHCL’s stock is trading at 18 times trailing twelve months earnings. This is on the higher side, given that its smaller peers including Hotel Leelaventures and Asian Hotels are trading at a P/E of over nine. IHCL’s stock price currently equals its book value. Historically, the stock has seen a strong resistance at this level of price-book value ratio. The hotel sector is likely to witness sluggish demand for the next two-three quarters. It remains to be seen whether IHCL is able to leverage its latest acqusition to improve its performance in the coming quarters.

Colgate Palmolive

PRIMARILYa one-brand company, Colgate Palmolive India (CPI) has managed to hold its guard over the years against intense competition from big players such as Hindustan Unilever and Dabur and other regional players. New product variants, aggressive marketing and hikes in product prices helped the company to maintain its growth momentum. Unlike other defensive stocks, Colgate has not only held its own, but also appreciated by over 4% in the past one year.
Business:

Incorporated in 1937, CPI’s flagship products like Colgate toothpaste and tooth powder have secured a place in most Indian households. The company has a range of products including toothpastes, toothpowder and toothbrushes under the ‘Colgate’ brand, besides specialised dental therapies under the Colgate Oral Pharmaceuticals banner.

The company has diversified into a range of personal care products under the ‘Palmolive’ brand name, but the oral care business continues to account for over 90% of its turnover. CPI commands leadership in the toothpaste, tooth powder and toothbrush markets, with a share of 48.4%, 44.3% and 35% respectively in the urban areas for calendar year 2007. The company has designed its product portfolio in such a manner that the products are available at different price points and cater to the requirements of consumers across all segments.

While there is intense competition from low-priced brands in the oral care business, Colgate Cibaca continues to be the undisputed leader.

Growth Strategy:

launch new products in an attempt to achieve a growth in profits. The company has developed a product portfolio spanning oral care, skin care and personal care segments and has undertaken strategic initiatives focused on consumers, dental professionals and retail customers. It conducts a variety of consumption-building activities like dental education programmes, making itself visible at dental conventions, observing the oral health month with dental professionals and having a professional sampling programme.

With urban India having a per capita dental care product consumption of 92 grams per month against China’s 219 grams, the Indian market offers a huge opportunity for an increase in the consumption of oral care products. The company also sees an immense opportunity to boost the per capita consumption by increasing the frequency of teeth brushing.

Financials:

CPI’s net sales rose at a compounded annual growth rate (CAGR) of 9.2% over the past five years to Rs 1473.8 crore in FY08. During the same period, the net profits grew at a CAGR of 22.5% to Rs 235.7 crore. The dividend payouts have grown at a much higher CAGR of 25%. The company, on an average, pays out around 90% of its net profits in the form of dividends. It has a strong balance sheet befitting a FMCG company, with zero debt and healthy cash flows. Realising that it was over capitalised, CPI reduced its capital from Rs 136 crore to Rs 13.6 crore in FY08. This made its equity and net worth ratios even more attractive. The company has been on an aggressive growth path since the past two years and this is reflected by its improved financials over the past two fiscals.

Valuations:

The company is likely to close this fiscal with sales of Rs 1663 crore and net profit of Rs 283 crore. This will lead to a PE of 21.4. Assuming that the company’s sales revenues grew by 14% in 2009, as was the case in the past, one can expect profits of Rs 322 crore. This will further bring down the PE to 18.8. At a dividend yield of 3, investors looking at steady returns can consider this stock with long-term perspective.

Caraco Pharmaceuticals

FDA thought otherwise and seized drugs at Caraco’s three Michigan facilities on June 25. The inventory seized is to the tune of $15-$20 million. Caraco is meeting its expenses from its cash balance of $64 million and by selling Sun Pharma’s products and those manufactured by third parties in the US.

The next step Since the current seizure has been carried out under a court order, Sun Pharma management believes that Caraco will interact with the FDA and work out a consent decree. The step means that the FDA through the court will impose its own controls and restrictions on manufacturing operations of Caraco. The consent decrees can be removed if the FDA is convinced that the firm has achieved compliance in line with regulations. It is unclear how long the process will take, but analysts believe that it will be at least 3-4 quarters before the issue is resolved which will mean higher fixed cost, no revenue from manufactured costs and likelihood of expensive changes to Caraco’s manufacturing processes.

Impact Caraco, which has been struggling to maintain its sales in FY09, (sales down by 4 per cent yo-y) due to price erosion and product recall, is likely to see a major part of the $110 million revenues from manufacturing operations affected in FY10. This means revenues for 2009-10 are estimated to could come down to about $230 million which is 32 per cent lower y-o-y. As far as Sun Pharmaceutical is concerned, the company has withdrawn its 13-15 per cent revenue growth guidance for 2009-10. Though the Caraco events could impact its revenues, the bigger issue could be a hit to its credibility as far as sales in the US is concerned. While none of its own facilities have any serious quality concerns, analysts believe there will be a short term impact on Sun’s products marketed by Caraco. The Sun Pharma management has indicated that its first priority would be to resolve the FDA issue before looking at either transfer of products manufactured at Caraco to third parties or to its plants in India.

Outlook On the back of superlative margins and niche product focus, Sun Pharma’s revenue and net profit have grown at a fast clip; in the last five years, these have risen at a CAGR of 32 per and 42 per cent, respectively. However, in 2009-10, the high base and one-off sales in 2008-09 and Caraco issue means that sales are likely to remain flat. The flat sales would get support from the strong domestic business, which account for about half of sales and is expected to grow by 18-20 per cent led by a favourable product mix. Here, nearly three quarters of sales accrue from products in the chronic segment, which is growing in doubling digits, say analysts.
One factor that could also help provide a fillip to Sun’s sales is EffexorXR. In the current fiscal, Sun Pharma will bank on USFDA approval for EffexorXR (used in treating depression and anxiety disorders) with an estimated innovator sales of $2 billion to improve incremental revenues. The approval, if it comes towards the end of the calendar year, could boost sales upwards of $75 million (Rs 375 crore) for 2009-10. One-off sales can substantially improve revenues as was seen in the case of generic Protonix (used for treating acid reflux disease), which was launched by Sun in the US in January 2008 and has so far grossed around $280 million (Rs 1,400 crore). The downside for this drug, however, is that if the company loses the patent case against Wyeth, it will have to pay stiff damages.

At current price, the stock is trading at about 15 times its 2009-10 diluted estimated EPS of Rs 74. Given the uncertainty over Caraco and continuing legal battle for Taro both of which are likely to take a year to resolve, the short term is unlikely to have any upsides.

The Sun Pharma stock lost 12 per cent on June 26 to Rs 1,140, a day after US authorities seized drugs at its 76 per centowned subsidiary, Caraco Pharmaceuticals’ Michigan-based facilities for violations of good manufacturing practices. This move by USFDA means that Caraco Pharmaceuticals will not be able to market drugs it manufactures at its three facilities in Michigan. Though the company also imports and markets Sun Pharmaceuticals’ products, the USFDA action will not affect the sale of its parent’s US drug basket. The closure of Michigan facilities and the company planning to layoff a part of its 350 employees, will have an adverse impact on Caraco’s 2009-10 revenues. For 2008-09, manufactured products contributed $112 million or a third of the total revenues of $227 million. On a consolidated basis, about 10 per cent of Sun Pharmaceutical’s revenues could be affected. Intensifying troubles Problems for Caraco began in June 2008 when the FDA issued a 483 and followed it up with a Warning Letter in October, 2008. While a 483 records observations of non-compliance with current good manufacturing practices (cGMP) by investigators and does not need an official response from the investigated party, a Warning Letter indicates that the FDA is not happy with the quality of drugs manufactured and the company in question must address the situation quickly if it is to avoid further action. Since January 2009, Caraco had initiated voluntary recalls of drug products due to manufacturing defects, including oversized tablets.

Voltas

Stock Seen Moving In Tandem With Financial Performance, Trades At A PE Of 21
THE stock price of the engineering service provider, Voltas, halted from a declining trend of the past two weeks. Since early March, the stock price has increased more than five times, with most of the gains coming in the quarter ended June 2009.

Thus, Voltas stock performance seems in line with the company’s financial performance in the past three quarters. The adjacent chart compares net sales against net profit margin since the year ended September 2007. As can be seen with a significant jump in net sales in the year ended March 2009, the profit margin has gained momentum during the past four quarters.

For the quarter ended September 2009, the company reported a jump of about 11% in the net sales to Rs 1,098 crore compared to last year. However, the operating profit — profit before interest and depreciation — during the period jumped by more than 60% to Rs 119 crore. Net profit for the quarter has increased by about 48% y-o-y to Rs 91 crore.

The biggest contributor to the revenues as well as profit was the electro-mechanical projects and services business segment, which showed an average contribution of about 49% to each. On the other hand, the engineering products and services division continued to show a dismal performance because of a slowdown in the demand for capital equipment. The company designs and manufactures machine tools, mining & construction equipment and sells textile machinery under this division.

The Unitary cooling division, under which Voltas manufactures and markets cooling appliances and commercial refrigeration products, grew by 25% in the past quarter. The division accounts for about 18% of the company’s revenue, but its contribution to bottomline is much lower. In coming quarters, the company expects the electro-mechanical projects and services to remain the growth driver as the order book for the same stood at about Rs 4,300 crore. At the current market price, the stock is however trading at P/E of more than 21, which is higher than its average for 2008.

Cipla

CIPLA, the second-most valuable pharmaceutical company in India, is showing signs of stress on its financials. Its free cash flow – or the cash it generates after providing the money required to maintain and expand its asset base – is getting deeper and deeper into the negative territory.

The company recently announced its intention to raise Rs 1,500 crore by selling securities in the domestic and international markets, to meet its capital expenditure requirements. With no noteworthy returns generated on the investments it made in the last four years, Cipla will become a riskier bet for investors unless it sets its books right and starts generating positive free cash flows.

Deteriorating Financials:

The company has been on a capital expenditure spree since the last five years. It invested Rs 1,854 crore in fixed assets between FY04 and FY08. Against this, it has generated cashflows of Rs 1,443 crore from its operations during the same period. The surplus has been financed through net longterm borrowings to the tune of Rs 386 crore. An excess of investment over cash generation has resulted in negative free cash flows. The net cash flow from operating and investing activities has been negative and getting worse from Rs 112 crore in FY06 to Rs 151 crore in FY07 to Rs 307 crore in FY08.

Unlike its industry peers like Sun Pharmaceutical Industries and GlaxoSmithKline Pharmaceuticals, Cipla has negligible cash and investments of Rs 174 crore (as on March 31, 2008 as per the latest available data). Sun Pharma’s cash and investments stood at Rs 1,995 crore (on March 31, 2008) and Glaxosmithkline Pharma’s at Rs 1,686 crore (on December 31, 2008). Despite its precarious cash position and aggressive capex, Cipla has been generous in distributing dividends to its shareholders. At an average payout of 24%, the company has disbursed dividend of nearly Rs 466 crore in three fiscals years ending FY08. With a 39% promoter shareholding in the company, the dividends rewarded to the promoters have been to the tune of Rs 186 crore over the same three-year period.

Impressive Performance:

Cipla posted a 73% increase in its net profits for the quarter ended June 2009, while its sales rose 13%. It will, however, face severe cash flow issues in case of a poor show in the coming quarters. The company has seen its stock prices rise 43% since the start of this year although it could not match the 57% jump achieved by the Sensex.

In a recent filing to stock exchanges, Cipla said it plans to mop up Rs 1,500 crore through issue of various instruments including warrants, debentures, institutional placement, foreign currency bonds or global depository receipts.

The company, which is quite under-leveraged, may benefit more from raising funds through debt than issuing additional shares. For a company with a debt-equity ratio of 0.1, an additional debt of Rs 1,500 crore would increase the ratio to 0.5. Given its current market capitalisation, tapping equity market for Rs 1,500 crore will reduce Cipla’s earnings per share (EPS) by around 10%. The EPS currently stands at Rs 11.2. This will depress the share price even if the market cap doesn’t decline.

Poor Defence Technique:

Despite having a very small pool of cash in hand, Cipla has been aggressive on its capital expenditure. This is quite unlike the common strategy in a defensive sector like pharma. To justify its current valuations, Cipla must improve its cash-flow and maintain a continuous streak of outstanding performance over the forthcoming quarters. Investors, on their part, can book their profits on the stock, before any dilution in EPS or before the company’s cash flow problems start getting reflected in its stock price.

Chettinad Cement

Chettinad Cement has increased capacity but concern over surplus supply in south remains

THE Rs 1,142-crore, Chennai-based Chettinad Cement Corporation, which is controlled by M A Ramaswamy & Associates, has been aggressively ramping up capacity to take advantage of rapid growth in cement consumption in southern markets.

The company had brought on stream an additional two million tonnes of capacity in the fourth quarter of FY09 at Ariyalur district, Tamil Nadu. This has doubled its total installed capacity to nearly four million tonnes. In addition, the company will soon add another two million tonnes and the full benefit of these expanded capacities will be felt from FY10 and onwards. During FY10 alone, the company is expected to add nearly Rs 525 crore, or 46%, to its revenues thanks to higher sales volume.

BUSINESS:

Chettinad’s installed cement capacity will shortly reach 6 million tonnes, and it has also started installation of an additional cement grinding unit with a capacity of 0.5 million tonnes. As part of its rapid expansion, Chettinad Cement invested nearly Rs 1,200 crore during FY07 and FY09, while its cash flows were Rs 596 crore during this period. Capex has, however, been more aggressive and its debt to equity ratio was 1.92 at the end of March ‘09, compared to 1.2 at the end of March ‘07.

The expansion strategy has come at a time when cement consumption in Tamil Nadu alone, had a CAGR of nearly 25% between FY 06 and FY 09. The company’s board has also given inprinciple approval for expanding cement capacity by an additional two million tonnes in Tamil Nadu. The cost of this facility has been estimated at Rs 500 crore by analysts and cash flows from recent additional capacities are adequate for financing this capex.

FINANCIALS:

Between March ‘06 and March ‘09, the company’s total operational income grew at a CAGR of 33% to Rs 1,142.3 crore, but net profit lagged behind. For the year ended March ‘09, it reported a net loss of Rs 4.2 crore as compared to a net profit of Rs 40.1 crore, three years earlier. This net loss in the previous financial year was due to a change in its method of depreciation calculation. During September ‘09 quarter, the company’s operating profit margin improved by 530 basis points y-o-y to 41.4%.

VALUATIONS:

At current price, Chettinad Cement trades at just 2.2 times its operating profit in the last four trailing quarters. Other players like India Cements trade at three times trailing operating profit, while Madras Cements trades at 2.5 times.

Bharti Shipyard and Great Offshore

Despite the sentiment improving in the last couple of months, the outlook for the shipbuilding sector continues to be weak. Though the Asia Pacific Shipbuilding Index, which measures the orders for shipyards for leading shipyards in Asia, has been on an uptrend over the last couple of months, it is still long way away from its value last year. While the index is up 38 per cent since March, and 10 per cent since April, the drastic drop in trade and the demand for new ships has meant that the index is still 97 per cent down since May 2008. The global shipbuilding industry is bogged down by cancellations and delays due to lack of credit and stiff financing terms.

For Bharati, of the total order book of Rs 5,093 crore, the unexecuted part (orders booked minus revenues booked) is about Rs 3,300 crore to be completed in the next two years. The issue for the company has been the lack of large incremental orders. Over the last five months, the company has bagged only a single large order of Rs 281 crore from the Ministry of Defence. While the company says that there have been no cancellations so far, analysts are, however, divided over the quantum of cancellations Bharati is likely to face. While some analysts believe that customers might not want to forego the 20 per cent advance given to the shipbuilder, others say that the tight credit situation and dip in demand would mean a cancellation to the extent of 15 per cent (Rs 500 crore) for the company. This could keep its yards idle and add to its interest burden.

Offshore demand

But, the situation isnt as grim for Great Offshore. Thus far, the offshore business has been less affected than the tanker and dry bulk business as the latter suffers from an oversupply situation. For instance, the Baltic Dirty Tanker and Baltic Dry indices had declined between 85-95 per cent from their peak in 2008; only the Baltic Dry index has risen recently, but is still down two-thirds from the peak. However, the lack of fresh supply in the near term means that charter rates for the offshore business are expected to be stable. Though hiring rates for rigs have halved over the last one year to about $110,000 a day, this will not affect Great Offshore as most of its contracts are long term in nature and have been in place since 2006. In fact, analysts believe that the company could get better rates for three of its vessels which are up for renegotiations in FY10 as the price is expected to be higher than those it got earlier. However, the demand for offshore vessels and day rates going ahead will depend on the price of oil, which recently has shown an upward bias. Analysts believe that if the same stabilises at around $70-$80 to a barrel, exploration activities will increase, boosting hiring rates.

Valuations

While valuations for Great Offshore which trades at 5.26 times its FY10 estimated earnings and Bharati Shipyard (2.29 times its FY10 numbers) are reasonable, the outlook for the shipbuilding and offshore services in the short term is not looking good. At the offer price of Rs 344 (which is a 10 per cent discount to the current price of Rs 380), the deal pegs the enterprise value (EV) of Great Offshore at Rs 3,200 crore translating into an EV/EBIDTA of 5.5 times for FY10. Its larger peer, Aban Offshore, which is run into a spot of bother after its Sinvest acquisition, trades at 6.3 times. In this context and the strategic benefits for Bharati, the deal is not expensive. Thus, dont be surprised if new suitors enter the fray and bid up the price, in which case Great Offshores investors will stand to gain. Despite cheap valuations, the outlook for Bharati does not look too bright. If you possess Great Offshore shares, hold on to them.

If the open offer by Bharati Shipyard (Bharati) for Great Offshore goes through, the countrys second largest ship maker would have sewn itself a good deal. Bharati, which is already the largest shareholder in Great Offshore with a 14.89 per cent stake, has announced an open offer a week ago to acquire a further 20 per cent stake in Great Offshore at Rs 344 a share. If successful, Bharatis stake will increase to 35 per cent and will help it to forward integrate its business.

Good deal

While there are no major benefits for Great Offshore, how does it help Bharati to buy a stake in Great Offshore? Analysts believe that there are three reasons for this. First, Great Offshore, which currently accounts for 30 per cent of Bharatis order book will route its future requirements, which includes the replacement of an ageing fleet and repairing the existing ones, through Bharati. With 70 per cent of Bharatis revenues coming from offshore vessels, an assured captive demand will mean revenue visibility and keep its production lines occupied. Second, Bharati will be able to derisk and reduce the impact of a slowdown in the shipbuilding business. Finally, the combined net debt of Bharati (Rs 700 crore) and Great Offshore (Rs 1,900 crore) and resulting high interest cost of Rs 56 crore and Rs 110 crore respectively in FY09 could be brought down. Given the current environment, Great Offshore is relatively better placed in terms of cash flows. Bharati might lean on Great Offshores strong cash flows which were Rs 389 crore vs Bharatis Rs 140 crore in FY09.

Bank of India

Profile

Like all PSU banks the stress at Bank of India (BOI) also has been towards the retail sector and as a result the share of bulk deposits or corporate deposits is just 20 per cent, while rest is all retail deposits. International business of the bank contributes 17 per cent of the total business.
Current Account and Savings Account (CASA) ratio as of March 31, 2009 stood at 31 per cent, down from 40 per cent 2 years ago, which implies that the higher interest offered during the credit crisis has worked for the bank, and most of the new funds have gone into term deposits.
Currently, the bank is looking for partners for its venture into the asset management business.

Fundamental Performance

The bank has, over the years, done well to cut down on high non-performing assets (NPAs) of yesteryears. Its current net NPAs stand at 0.44 per cent of the total assets while its capital adequacy ratio stands at 13.01 per cent, up from 11.75 per cent 2 years ago. On the profitability front, it has also improved upon its wayward ways —for the past three years, the bank has been able to boost its bottom-line by 62.45 per cent annually.
Though its dividend payout ratio is not something to brag about, still BOI has been a regular dividend paying company for the past 10 years.

Stock Performance

The believer of this bank’s stock has been rewarded handsomely over the past 5 years. The stock has compounded the investors money at more than 50 per cent per year.
Currently, the stock is trading at a dividend yield of 2.03 per cent, well above its 5-year median yield of 1.71. BOI is about 1/4th the size of the PSU banking giant State Bank of India (SBI), but valuation-wise the stock is trading at a 50 per cent discount to SBI. Its price to earning (PE) ratio is 6.84 while that of SBI is 13. But comparing this with the stock’s own historic level, it is currently trading at 21 per cent below its 5-year median PE.

History

Bank of India was set up in 1906 in Mumbai. Starting off with a single branch, it now has over 3,000 branches all across India. It was nationalised in 1969.

Bajaj Electrical

Bajaj Electrical a good buy on dips

BAJAJ Electricals is probably one of the best performers in recent years in the portfolio of companies that form part of the Bajaj Group, one of the oldest business houses in India. The company has shown consistent growth in revenues in the past five years.

BUSINESS:

Bajaj Electricals is a 71-year old company and operates in three major business segments — consumer durables, lighting and Engineering and Products (E & P). In the lighting segment the company manufactures and sells lamps, tubes and luminaries (light fittings) while appliances and fans are produced and sold through the consumer durable segment. E & P includes manufacturing, erection and commissioning of transmission line towers, telecommunications towers, highmasts lighting, poles and special projects, including rural electrification projects. At the end of FY09, the company’s rural electrification business received four major orders from an NTPC subsidiary, National Electric Supply Company Limited (NESCL) and National Hydro Power Corporation (NHPC) totalling Rs 360 crore. Export of all BEL’s products except of its engineering and projects business unit is taken care of by group company Bajaj International. Out of all the business units, the consumer durable segment is the biggest contributor to the revenues and profits, followed by the E&P and lighting segments.

FINANCIALS:

In last five financial years the company’s topline grew at compounded annual rate of 28%. After sluggish year on year growth in revenue for the quarter ending June’09, for the latest quarter net sales rose by 35% compared to the previous year. While the lighting division experienced a decline in revenue for the second quarter of this fiscal, it recovered by expanding by 15% in the latest quarter. The company’s operating profit and net profit posteda CAGR of 88% and 60% in the last five financial years. The profit margins, considered on a trailing year basis, have also improved since the quarter ending December’09. The company showed a healthy annually compounded growth of 53% in cash profit since FY05 while the dividend paid also grew at a CAGR of 61% during the period.

GROWTH PROSPECTS:

While the consumer durables segment is expected to continue its r contribution to total revenues, the company expects the E&P business units to act as a growth engine. Besides the rural electrification projects, Bajaj Electricals is also associated with the entire chain of power generation, transmission and distribution for the Commonwealth Games 2010. The company’s balanced business portfolio, which is both consumer centric and infrastructure oriented is expected to boost future growth.

VALUATIONS:

The company’s stock has outperformed the Sensex in the last five months and its market capitalisation has more than doubled in the last two years. At the current market price the P/E ratio is 12, a little above its average of 10 during the period. Given the growth prospects of the company and dividend payout strategy the stock is a good buy on dips.

Asian Paints

Asian Paints’ revenue and profit margin are going up
WITH June quarter net profits having risen by 65% , Asian Paints has kept the promise. It has been holding out, making it one of the safest bets for any long-term investor. Sure, India’s largest paint company has underperformed the markets in the ongoing rally, but that’s in line with the defensive streak of the scrip. With strong finances, a proven business model, strong brand equity complemented with deep sales and distribution network, the company remains a classic defensive stock.

BUSINESS :

and has three main business divisions — decorative paints, industrial paints and international business. The domestic paints business contributes more than 80% to the company’s total revenues while the international business operations constitute 17% of the company’s total turnover with the balance contributed by its chemicals business. It is the market leader in decorative paints in India and operates in all segments of interior & exterior wall finishes, enamels and wood finishes. In industrial paints segment, Asian Paints directly operates in auto refinish, protective coatings, floor coatings and road marking paints segments. The company is the second-largest supplier to the auto segment in India. Establishing presence in Fiji in 1978, the company now has presence in 20 countries spread over the regions of West Asia, Caribbean, South Pacific Islands, South Asia and South East Asia. The company is in the top three in all markets in decorative paints, except in Southeast Asia.

GROWTH STRATEGY:

In decorative paints business, the company intends to secure growth by spreading its distribution network, installation of more colour world machines and innovative retailing initiatives. The company is also looking at a more consumercentric approach with focus on R&D to provide new or upgraded products, providing shopping ambience and a more effective complaint redressal mechanism. The company’s move to make its entire range of decorative products free of lead and other heavy metals is a step in this direction. The demand in tier II and III towns is buoyant and likely to be a good growth driver for the company. Asian Paints also has an eye on capacity building both in India and overseas and is incurring capex towards expanding its manufacturing capacities.

On the flip side, since the company’s industrial and automotive paints segment had suffered a serious impact in FY09, the growth in this segment is going to be challenging. Asian Paint’s international business portfolio is under continuous review by the management, which expects West Asia and South Asia to drive growth.

FINANCIALS:

The company’s net sales have grown at a compounded annual growth rate (CAGR) of 20% over the last five fiscal years to stand at Rs 5,463.2 crore in FY09. The net profit has grown at a CAGR of 23.2% during the same period to Rs 419.5 crore at the end of FY09. At a 3-year average payout ratio of 49%, the company’s dividends have grown at 15.5%, lower than the CAGR at which company’s net profits grew. The company has been generating steady cash flows from its operations. It incurred capex of Rs 240 crore in FY09 and has planned a capex of Rs 300 crore for FY10 primarily towards spends for its plant in Rohtak. The fiscal year FY09 was difficult for the company on account of lower consumer demand, rising raw material costs and depreciating rupee. However, the company gained some market share in the decorative business unit. With recovery in economic conditions, the consumer demand is likely to surge back to normal. The company’s performance during the first quarter of this fiscal already bears the sign of revival in its business. The net profit jumped by 65% and revenue increased by 18%, along with surge in operating profit margin.

VALUATIONS:

At the current state of recovering business, the company’s net sales are estimated to grow by 20% to Rs 6,555.8 crore and net profit by 29% to Rs 518 crore in the current fiscal. At current market price, this pegs the company’s forward P/E multiple at 28, lower than the current P/E of 30.8. Long-term investors are recommended to accumulate Asian Paint’s stock on lower levels currently than later when the recovery in company’s business is complete and it resumes its normal annual growth levels.

Asian Hotels

Asian Hotels could benefit post demerger. Its P/E compared to the peers is pretty attractive

Delhi-headquartered Asian Hotels is a leading owner and operator of five star hotels and resorts in the country. The company’s properties are operated by Hyatt International that provides marketing, branding and management services. Beginning with Hyatt Regency in Delhi, the company now has one property in Mumbai and Kolkata with total room inventory of around 1,200.

RE-STRUCTURING:

The company is in a restructuring mode and it will be divided into three independent companies each owned by its Asian Hotels key promoters –the Jatia Group, the Gupta Group and the Saraf Group. These three promoter families together own 63.6% stake in the company. Post de-merger, nonpromoter shareholders will get an equal numbers of shares in three companies. For every existing 10 shares held in the company, the shareholders would be allocated five equity shares in each of the three entities post the demerger.

The flagship Delhi property will remain with Asian Hotels; Kolkata property and development option at Bhubaneswar besides some cash will be spun off into Vardhman Hotels, while Mumbai and development option at Bangalore and some cash will be merged into Chillwinds Hotels. In the past all major demergers and spin offs such as the one in Reliance Group and Bajaj Auto have created shareholders value and there’s nothing to believe why it would be different in this case.

FINANCIALS:

The company’s net sales have grown at a CAGR of 11.7% in the last three years ending FY09. Its net profit has increased at a CAGR of 47% in the last three years. The company in March 2008 entered into a new business segment of power generation. With the exception of FY08, when it cut its dividend pay-out by 90%, the company has been generous in sharing profits with shareholders and never missed dividends in last 15 years.
The company is into cash conserving mode and is parking its free cash flows in safe investment vehicles.

GROWTH PROSPECTS:

With Commonwealth Games scheduled in Delhi next year Asian Hotels is likely to be a major beneficiary. With over 500 rooms, Hyatt Regency is the largest hotel in NCR region and in FY08, it accounted for nearly 48% of Asian Hotels’ annual revenue of Rs 513.5 crore. The company’s cash flow from operations has grown at a CAGR of 30% to Rs 176.56 crore in the last three years till the year ending March 2008. It has been consistently generating positive cash flows from its operations.

VALUATION:

In last one and half months, the stock has appreciated by nearly a third, but at a price-to- book value of 1.23, it’s still one of the cheapest stocks in the sector. Moreover, it’s nearly debt free and flush with cash unlike many of its peers. At its current stock price of around Rs 400, its P/E is around 14 times its earnings in last 12 months. In comparison, its peers such as EIH, Taj GVK and Hotel Leela is trading at P/E multiple of 20-30 times. All this makers it an attractive buy for long-term investors.

Coromandel Fertiliser

Coromandel Fertiliser’s valuations appear cheap in view of its stable prospects and improved industry outlook
COROMANDEL Fertilisers appears attractively valued compared to its peers in view of the improved outlook for the fertiliser industry, the company's steady growth prospects and lucrative dividend yield. Long term investors may consider it as a value buy.

Business:

Coromandel Fertilisers (CFL) is India’s leading phosphatic fertiliser manufacturer producing di-ammonium phosphate (DAP), monoammonium phosphate (MAP) and complex fertilisers. The Murugappa group company’s nameplate capacity stands at 23.1 lakh tonne per annum (TPA) of complex fertilisers, 8.15 lakh TPA of DAP and 1.32 lakh TPA of single super phosphate.

The company has also established itself in the agrochemicals industry, with 8 manufacturing / formulating units set up in North, West and Southern part of the country. It also produces watersoluble fertilisers and is planning to set up units manufacturing micronutrients.

Growth Drivers:

The government's policy change in fertiliser subsidy calculations, which linked subsidies to import parity prices, benefited CFL during FY09 and will continue to do so. The fall in commodity prices over the past 9-10 months will reduce CFL's need for working capital as well as its dependence on government subsidies, which will bring down its short-term borrowings and interest burden.

CFL has been taking strategic steps to improve its dependence on non-subsidized sectors. It recently commissioned two plants in Kakinada to manufacture water-soluble fertilisers. CFL is focusing on brand building and will expand the retail network to 400 centres under its 'Mana Gromor Centres' initiative during FY 09 from just 20 last year. These retail centres focus on rural marketing and offer agri as well as non-agri inputs.

The company has set up a subsidiary in Brazil to market its agrochemical products. Similarly, it has tied up with a Chilean company SQM for setting up a micronutrients plant at Kakinada. It has also picked up 15% stake in a Tunisian joint venture TIFERT to produce phosphoric acid - a key input for phosphatic fertilisers - which is expected to commence operations by end 2010. The company invested Rs 62 crore in this venture during FY 09. Financials: The government's decision to pay a part of subsidies by way of special bonds is a major concern. The company wrote off Rs 104.5 crore in the quarter ended March 2009 towards mark-to-market losses, thereby incurring net losses for the quarter.

Over the past 5 years, from FY 05 to FY 09, the company's revenues have risen at a cumulative annual growth rate (CAGR) of 49.9%, thanks to acquisition and subsequent amalgamation of Godavari Fertilisers with effect from 1st April 2007. The net profit during the same period has jumped at a CAGR of 63% and dividend paid by the company has increased at a CAGR of 53.3%.

Valuation:

The company ended FY09 with per share earnings of Rs 35.5. On the current market price of Rs 143, the scrip is trading at P/E of 4.0. Other comparable fertiliser companies such as RCF, Chambal Fertilisers and National Fertilisers are trading at P/E above 10, while Zuari Industries and Deepak Fertilisers are trading at a P/E between 4 and 6. CFL paid Rs 6 per share as interim dividend and has proposed an additional Rs 4 as final dividend for FY 2009, which together translate in an attractive dividend yield of 7%.

Educomp Solutions

It provides technology enabled education products and services to both public and private schools, including Smart Class, instructional and computing technology solutions (ICT solutions) and teacher training programmes (Professional Development). For the financial year FY09 it reported 89.5% jump in operating profits to Rs 496.7 crore from Rs 262.1 crore in FY08. Profits were also up by 83% to Rs 128.2 crore.

Among the different verticals it has got presence in Smart class accounted for 63.2%, ICT accounted for 22.8%, Retail 8.2% and professional development accounted for 5.8% of the sales revenue. The companies unique business model has in the recent times attracted a lot of negative press, but the company has been quick to assure the investors of the viability of this business. Being a market leader in education services space and with virtually no competition the stock trades at quite a premium.

But with government intend on spending more on education, Educomp will the primary beneficiary of any progress in this segment. Recently it got orders worth Rs 80 crore and Rs 120 crore from the governments of Gujarat and UP to set up ICT solutions in schools. With very little risk in the horizon, this stock is definitely worth a look even at these prices.

Bharti Airtel

INVESTORS seem to be relieved that the merger talks between India’s No. 1 telco Bharti Airtel and South African firm MTN have been called off. The decision by the companies on Wednesday has put an end to the uncertainties over the deal that have been prevailing for weeks.

The aborted deal may prompt Bharti to rethink its global aspirations. At the same time, the event doesn’t alter the near term scenario for the market leader in the world’s fastest growing telecom market. Given its dominant position in the domestic market and the existing and forthcoming opportunities in the form of 3G, direct-to-home (DTH), and IPTV, Bharti offers a good opportunity to long-term investors. Business and growth prospects

Bharti Airtel accounts for nearly a fourth of India’s mobile telephony market and nearly a third of total telecom revenues generated in the country. Bharti has a pan-India presence with operations in all the 22 telecom circles. At the end of August ‘09, the company had 108 million subscribers, 44% more than the year ago levels. It has been adding more than 2.8 million users each month for the last six months, the highest net addition by any mobile operator.

Apart from consumer mobile services, Bharti also provides broadband and fixed line telecom services, enterprise and carrier services. Its subsidiary Bharti Infratel provides passive infrastructure services through a network of over 28,000 telecom towers in 11 circles. Recently, the company has also launched services in the DTH and IPTV space. Its mobile services division contributes four fifths of Bharti’s revenues. Enterprise and carrier services account for nearly 18% of the revenues and the rest comes from telemedia activities. Like other telecom operators, Bharti has been witnessing a decline in key operational parameters including average revenue per user (ARPU) per month and minutes of usage (MOUs) per month. Its ARPU dropped by 20.4% to Rs 278 in the June’09 quarter from the June quarter of the previous year. MOUs fell by 10.6% by similar comparison.

GROWTH SANS MTN:

The major reason for Bharti to scout for alliances outside can be found in the fact that the domestic market is inching towards saturation. At the speed of 12 million monthly additions, India’s telecom penetration will reach 50% in another 6-8 months. Also, the current growth in subscriber additions is coming from low yielding rural and semi-urban regions. This means every new subscriber would be dragging down the profitability ratios. The situation becomes murky if one looks at the rising competition in the mobile space with the entry of new players.

With the termination of the MTN deal, Bharti is likely to focus its attention on upcoming 3G opportunities in the India. Currently, telecom operators are struggling with network congestion due to the limitations of the existing 2G networks. A 3G launch would resolve the issue for operators as it would offer more bandwidth.

Also, to start with, only four 3G licenses will be offered per circle. This would intensify the competition to get these licenses as a hoard of new players in the 2G space would also vie for them. Operators with these licenses will be able to cater to a bigger subscriber base compared to the others. 3G also supports non-SMS services including data, music, and video. This calls for more investments from the operators.

Now that the deal with MTN is scrapped, Bharti looks comfortably placed with enough financial muscle to carry on with 3G expansion without taking fresh debt. By the end of June 09, the company had Rs 6,307 crore in cash and liquid investments. After successfully operating pan-India networks, Bharti appears to be far more comfortable in the current scenario both financially and functionally.

VALUATIONS:

At the current price, Bharti is trading at a trailing twelve month P/E of 19.2. This is lower than P/Es of Reliance Communications, the second biggest telecom operator in the country (P/E of 28.7), and Idea, the fifth biggest (22.3). In terms of enterprise value relative to subscriber base and earnings before interest, depreciation, amortisation, and taxes (EBITDA), Bharti is valued higher compared to the other two peersThis can be attributed to higher subscriber additions recorded by Bharti on a sustained basis. Bharti appears to be better placed to take advantage of new opportunities in the Indian telecom space given its scale and reach. Investors can hold on to the stock and can even accumulate on fall.

Balmer Lawrie

Profile
In the initial years there was hardly any business that Balmer Lawrie (BLCL) did not delve into.

The company boasts that it is a “multi-activity, multi-technology, multi-location conglomerate, with global footprints”. And why not, as even today it has a presence in as many as eight different segments: industrial packaging, greases & lubricants, logistics services, travel & tours, logistics infrastructure, leather chemicals, refinery & oilfield services and tea.

In the packaging area, the company is the largest manufacturer of industrial containers in India. Though the company is the leader in this segment, it is not a high-growth area. The standout segment for BLCL is logistics services & logistics infrastructure. In the last fiscal this segment contributed the most to the profit.

Fundamental Performance

Over the past 5 years it has been able to log a phenomenal profit growth rate of 40.47 per cent, while top-line has grown at a more sedate 12 per cent. It is clear, that the cost-cutting measures are bearing fruit. Currently, BLCL has close to Rs 150 crore of cash on its books i.e. Rs 94 per share.
Though the company is fundamentally quite strong, it does lack focus in any particular segment.

Stock Performance

Till 2004 BLCL was a typical PSU stock, it did practically nothing. But in the next 5 years, it has enthralled investors with close to 38.14 per cent annualised return. It is a regular dividend paying company, with a payout ratio of 30 per cent.

Even now the stock is trading at a dividend yield of 4 per cent while its median yield over the past 5 years is very close to 2 per cent. Considering the current stock price of Rs 497.75, the stock is trvroading at 7.62 times its trailing earnings, i.e at a discount of 24 per cent to its 5-year median price/earnings (PE) multiple.

Based on the current price and its fundamental attributes, the stock is a value buy.

History

BLCL was founded by two Scotsmen, George S. Balmer and Alexander Lawrie in 1867. In1972, BLCL became government-owned as a subsidiary of IBP, but in 2001, IBP transferred its holding of 61.8 per cent to Balmer Lawrie Investments.

Bharat Electronics Limited

Profile

Bharat Electronics Limited (BEL) is the manufacturer of a wide array of products, which can be broadly classified into 8 core business groups —radars and sonars, communication, electronic warfare systems, electro optics, tank electronics, telecommunication & broadcasting, components and turnkey solutions.

Though BEL is the market leader in this segment still it is increasingly facing difficulty in procuring advanced technology in defense space as the foreign companies are more keen to come into this segment themselves by tying up with local partners. Though there might not be any mass flight of customers (defense establishment is under government control), but lack of advanced technology would compromise its future growth.

Fundamental Performance

Being in a niche sector, and protected by barriers raised by the government, BEL has flourished over the years. Over the past 5 years the company had seen a steady rate of growth in profits of 20 per cent per annum. It is virtually a debt-free company, with very low capital expenditure. A limited working capital requirement has allowed it to operate with a positive cash flow. At the end of the previous fiscal it had close to Rs 3,700 crore in its reserves. The weakness outlined by the company in its annual report, which plagued all PSU companies at one point of time or other, may be a matter of concern for investors.

Stock Performance

Over the past 5 years the stock has given gains of 21 per cent per annum. With an yield of 1.35, the stock is trading at a PE of 12.57. Its 5-year median PE is 14.31, that is, the stock is trading 12 per cent below its historic trading level. With pending orders close to Rs 10,000 crore, the company is assured of earnings visibility in coming quarters. Coupled with cash on its books of Rs 330 per share, (which is almost 25 per cent of its current market price) and a market dominance of over 57 per cent, the stock can be considered as a value pick at these levels.

History

BEL was set up by the Government of India under aegis of Ministry of Defence in 1954 to manufacture transreceivers. Today, it has evolved into a multi-product, multi-technology, multi-unit company in the field of defense and electronics.

ICSA

ICSA India’s growth trajectory makes it attractive. Investors with higher risk appetite can include it in their portfolio owing to its cash-flow woes
THE government’s renewed focus on providing electricity to all households in the country augurs well for ICSA India’s growth prospects, but problems in cash generation make it bit dicey, ideal for those with risk appetite. Business: Rs 1,113 crore ICSA (India) is engaged in designing and developing customised technological solutions for power sector. The company earns over 90% of its revenues from public sector entities. Its revenues come from two streams — embedded solutions and infrastructure services.

Under embedded solutions, ICSA provides controllers for power substations and distribution transformers, and automatic metre readers. It has patented technology to provide remote terminal units for remote monitoring and controlling power substation parameters. Its infrastructure division provides design, supply, and erection of transmission lines and substations.

Traditionally embedded solutions account for more than half of the total revenue. However, in recent quarters, its share has gone down significantly since there was a delay in launching new power programmes by the government due to elections. Now with the advent of Restructured Accelerated Power Development and Reforms Programme (RAPDRP), revenue from embedded solutions is expected to grow in next few quarters. Financials: ICSA has grown at break-neck speed in last few years. In the two years ended March 09, the company’s revenue jumped four fold to Rs 1,111 crore. Net profit trebled during the period to Rs 168 crore. The company has maintained its operating margin between 25-27% during this period. In recent quarters, while the top line growth has remained robust, its bottomline has been impacted due to rising interest expense. The interest charge is rising since the company has to borrow to meet its working capital requirement due to poor cash generation from operations.

Risks:

The company has to fund its operations through external financing since its operations are not generating enough cash. This is on account of very high level of receivables. This can prove to be a major concern for ICSA especially during tough economic situations when external funding comes at a higher cost. On a positive side, it has reduced its number of days for which sales is outstanding (DSO) from more than 180 days a year ago to 163 days. The management has set a target of bringing down the DSO further to 120 days. It expects to turn its operations cash positive by the end of the current fiscal.

Valuations and investment rationale:

At the current price level, ICSA’s stock is traded at a trailing twelve month price earnings (P/E) multiple of 5. Since there is no other listed player of ICSA’s size that can match its business operations, it is difficult to build a comparative scenario. Many of the frequently traded small-cap technology companies are traded at a P/E of more than 9. The company has Rs 2,000 crore strong order book to be executed within next two years. Of this, the infrastructure services account for Rs 1,400 crore. With R-APDRP now in place, ICSA is likely to see buoyancy in its embedded solutions revenue. This is a good sign since the division earns better margins compared to the infrastructure business.

In view of its future prospects and the risk attached with it, investors with higher risk appetite can consider ICSA with a horizon of two years.

Fortis Healthcare

FORTIS Healthcare has emerged as the fastestgrowing private hospital chain in the country after it agreed to buy 10 properties of Wockhardt Hospitals last fortnight. The second-largest private healthcare provider in the country now plans to float Rs 1,000-crore rights issue to partfund its Rs 909-crore acquisition. Investors looking for a good bargain in this sunrise sector would get a higher return on their investment with Apollo Hospitals, the country’s largest private healthcare provider, which is trading at a more reasonable valuation than Fortis.

BUSINESS:

Fortis Healthcare was incorporated in 1996 and the company started operating its first hospital in 2001. Eight years later, the company manages 3,300 beds in 28 multispecialty and super-specialty hospitals, with a dominant presence in the national capital region, especially Delhi. The company has followed a hub-andspoke model while connecting these multi-specialty hospitals to its superspecialty centres, all of which are either owned by the company or are run on management contracts.

GROWTH STRATEGY:

Fortis Healthcare has preferred the inorganic route for expansion. The company acquired Escorts group’s healthcare business in 2005, adding five hospitals to its network. In 2007, the company took over Chennai-based Malar Hospital and Delhi-based, The Cradle, a boutique hospital for women, calling it Fortis La Femme. Fortis is also working on greenfield projects in north Delhi, Gurgaon, Bengaluru and Kolkata.

LATEST ACQUISITION:

Last fortnight, the company entered into an agreement with Wockhardt to acquire 10 of its hospitals for Rs 909 crore, a deal which will enhance the company’s earnings per share (EPS). About Rs 190 crore from this corpus would be spent on two of these hospitals that are under construction.

The company would need to spend another Rs 200 crore over 15 months for completing these facilities. The value of Rs 909 crore for ockhardt’s 10 hospitals appears attractive as the average enterprise value of Wockhardt Hospitals with 17 properties was Rs 2,525 crore when it had floated its initial public offering in February 2008. This translates into Rs 60 lakh per bed for Fortis on a completed basis. The latest acquisition of Fortis will help the chain grow out of its northern hub and penetrate southern, western and eastern regions. The addition of 1,902 beds will raise the spread of Fortis to 5,180 beds across 38 hospitals. The Wockhardt deal will also help Fortis consolidate its position in specialties such as cardiac, orthopedics, renal and neuro sciences.

FINANCIALS:

Healthcare is a capital-intensive industry with a long gestation period. While Fortis has seen its profits wiped clean every time it acquires a new property, the company managed to turn around in 2008-09 and clocked a small profit. Since Fortis Healthcare has to ramp up its operations to achieve profitability, an investor looking for dividend income will have to wait.

The company’s net sales have been growing at a compounded annual growth rate (CAGR) of 28.5% since 2005-06 and hit Rs 620 crore in 2008-09. Since a specialty division in a hospital logs gross margins between 20% and 28%, the company has registered average revenue of Rs 60 lakh per occupied bed. Fortis plans to float a rights issue of Rs 1,000 crore by mid-September, priced at Rs 110 per share, to fund its expansion.

This issue will add Rs 100 crore of equity to the company’s existing equity of Rs 227 crore. The company intends using a mix of debt and equity to fund this acquisition. A little over Rs 350 crore from the proposed rights issue will be utilised for the acquisition.

VALUATION:

Post-acquisition and rights issue, Fortis is expected to close the current fiscal year with net sales of Rs 875 crore and a net profit of Rs 44 crore. At this rate, the company’s estimated P/E multiple post the rights issue would be around 75. In comparison, Apollo Hospitals, with about 8,000 beds, is trading at just 24 times its trailing 12-month earnings. Besides, Apollo Hospitals is valued at twice its net sales, calculated on a trailing 12-month basis. The scrip is trading at twice its book value.

On the other hand, Fortis Healthcare, whose business model is seen as more risky, is valued at thrice its net sales and is trading at a price that is thrice its book value. So, Fortis is relatively a risky and expensive bet compared to its more matured and larger peer.