India Strategy (Thematic)- The stock called INDIA with ... · PDF fileIndia Strategy (Thematic) The stock called INDIA ... Bajaj Auto – Rahul Bajaj • Unprepared for shift in customer

India Strategy India Strategy (Thematic)(Thematic)

The stock called INDIAThe stock called INDIA……

Nikhil Vora / Nikhil SalviIDFC Securities Ltd(Dir) +91-22-6622 2567 / 2566(M) +91 –98211 32471Email: [email protected] / [email protected]

August 2012August 2012

SEBI Registration Nos.: INB23 12914 37, INF23 12914 37, INB01 12914 33, INF01 12914 33.For Private Circulation only. Important

disclosures appear at the back of this report”

2

Country Country vsvs CompanyCompany

“ A country is not a company”– Paul Krugman, Harvard Business Review

2

We disagree!!!We disagree!!!

Factors Company Country

Purpose For profit Welfare state

Extent of mgmt control On every employee Realistically not on every citizen

Exercise of mgmt control Hire and fire policy Consensus-based execution

3

A country and a company/ stock A country and a company/ stock AREARE comparablecomparable

3

Analogous investment parameters: Stock vs Country

Promoter/ Management Government/ Administration

Business model/ Growth potential Economic model / GDP potential

Business model / Growth potential Economic model / GDP potential

Balance sheet strength / Credit rating Fiscal position / Sovereign rating

Relative valuation of stock Relative attractiveness of country

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2

3

4

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Company/ Stock Country

44

1

Company Country

Promoter Government

5

Management can hold back company performance!Management can hold back company performance!

5

Key decision Key decision makermaker

Company Country (INDIA)

Bajaj Auto – Rahul Bajaj

• Unprepared for shift in customer preference from scooters to motorcycles

Pranab Mukherjee, ex-finance minister(January 2009-June 2012)

• Introduced GAAR

• Introduced Retrospective Tax amendments post an unfavourable Supreme Court ruling

Lack of synergy Lack of synergy among key among key

management management personnelpersonnel

Tata group (1990s)

• Multiple group companies in the same industry competing with each other

Power vs environment vs coal ministry

• 90 power and 168 coal projects stuck for lack of environment and forest clearances

6

Management practices affect investor sentimentManagement practices affect investor sentiment

6

Poor governance Poor governance practices! practices!

Company Country (India)

Educomp Solutions

• Debatable accounting policies and corporate structure!

Regulations spook global investors• Introducing GAAR unilaterally, retrospective

tax amendments

Policies of Policies of largesse largesse

weakening balance weakening balance sheetsheet

India Cements (1998-2003)

• Rs16bn debt to fund several acquisitions and capex during cyclical downturn

• Inability to service debt led to CDR

Ever increasing subsidy burden

• Policies shielding consumers from global fuel prices

• Leading to higher fiscal deficit, putting sovereign rating at risk

7

Improved management practices trigger a reImproved management practices trigger a re--raterate

7


Mr. P. Chidambaram, new finance minster

• During his previous stint as finance minister (May 2004-Nov 2008), Sensex rose 60%

• Outlined growth as a clear priority after taking over recently

• To review GAAR and retrospective tax amendments

Will this trigger a reWill this trigger a re--rate?rate?

Rajiv Bajaj - Caught the changing trend from scooters to motorbikes

0

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1,000Ap

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(Rs)

(Rs)

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Post balance sheet clean-up

88

2

Company Country

Business growth GDP growth

9

Investments in capacity creation spur growth!Investments in capacity creation spur growth!

9

Total investments in 100 years

Rs22bn Rs24bn

CY10 gross block Capex in CY11+CY12E

=

Investments in last 2 yrs


Visibility of growth leads to large investments, fuelling growth

Visibility of growth leads to large investments, fuelling growth

Invest in supply creation to meet untapped growth potential

Invest in supply creation to meet untapped growth potential

Agriculture:• Create urban production

centers

• Narrow gap between consumption and production

Infrastructure:•Need to invest in next

round of investments in roads, ports, airports, urban transportation system, etc

0.0%

7.5%

15.0%

22.5%

30.0%

CY02 CY03 CY04 CY05 CY06 CY07 CY08 CY09 CY10

Revenue growth

1010

“The price of inaction is far greater than the cost of making a mistake”

– Meister Eckhart – German Writer and Theologian

1111

3

Company Country

Execution Policies

12

Investors reward execution capabilitiesInvestors reward execution capabilities

12

Ability to take risksAbility to take risks


• Implement diesel de-regulation !!!

Handing over Handing over control to experts control to experts

when requiredwhen required

• Government needs to make policies, not run companies

• Exit PSUs like Air India, NTPC, NHPC

0

100

200

300

400

Feb-00 Feb-02 Feb-04 Feb-06 Feb-08 Feb-10 Feb-12

(Rs)

Took on board a professional management team…gave away ownership (only one board seat

retained by Hindujas!)

0

175

350

525

700

Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12

(Rs)

Took risk of expanding overseas with a series of bold

acquisitions

13

Investors reward execution capabilitiesInvestors reward execution capabilities

13

Take accelerated Take accelerated actionaction


• Introduce phased FDI

• Incentivise early adopters of GST

Business model Business model needs to change to needs to change to meet market needs meet market needs

• Dismantle socialist models and policies of bygone era

• 2/3rd of non-agri economic output is contributed by private sector! Design policies encouraging private enterprise

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300

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600

Apr-03 Apr-04 Apr-05 Apr-06 Apr-07 Apr-08

(Rs)

Aggressively expanded footprint across India to

capitalise on telecom boom and become market leader

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500

750

1,000

Apr-01 Apr-03 Apr-05 Apr-07 Apr-09 Apr-11

(Rs)

Diversified into financial services to meet finance needs of rural and semi-urban buyers and fuelled growth in auto sales

1414

4

Company Country

Balance sheet Fiscal position

15

Balance sheet strengthBalance sheet strength

Key Key parametersparameters

Company

Leverage Interest coverage ratio

SolutionSolution Deleverage

Country (India)

Fiscal deficit Current account deficit

Divestment

Leverage at 2x; interest coverage

at 2x

Leverage at 2.1x; interest coverage

at 1x

Undertake strategic stake

sale

Divested Pantaloon format

to reduce leverage to 1.5x

“Be bolder in divestment”

Government has targeted Rs30bn in divestment proceeds in FY13

But it can raise 3x the target by...

…10% stake sale in top 12 PSUs…

...lowering fiscal deficit by 20%!

1616

5

Company Country

Stock performance Index performance

17

Cumulative effect of action plan leading to Cumulative effect of action plan leading to reratingrerating

HUL

SENSEX ?

150

190

230

270

310

Apr-06

Jul-06

Oct-06

Jan-07

Apr-07

Jul-07

Oct-07

Jan-08

(Rs)

175

250

325

400

475

Apr-08 Apr-09 Apr-10 Apr-11 Apr-12

(Rs)

15,000

16,500

18,000

19,500

21,000

Nov-10 May-11 Nov-11 May-12

The worst performing consumer stock globally !!!

New management

New aggression

Innovation

New finance minister

Priority on rekindling growth

23% CAGR returns in the past three years

Underperfomed several developed and emerging markets in past 2 years!!!

18

History is testimonyHistory is testimony…… India India reratedrerated once before!once before!

18

Change in Business Model: From closed economy to partially liberalised economy

Stable management and consistent strategy: Stable government pursuing continued gradual liberalisation

Heeding market demand: Opening consumption sectors to private enterprises, e,g. telecom, drove exponential growth

Leveraging core strengths: Private enterprises unshackled from labour laws

Between 2001 and 2008…

BSE Sensex

0

5,500

11,000

16,500

22,000

Apr-01 Apr-02 Apr-03 Apr-04 Apr-05 Apr-06 Apr-07

191919

Market callMarket call

2020

We believe 16500 is astrong base for

Sensex

1/4th of Corporate India trading at less than capital employed! 1

Corporate India has shown more resilience this time2

Expect sharp rate cuts in the rest of FY133

212121

CorporatesCorporates trading at less than invested capital!trading at less than invested capital!

Over 50% of the companies are at index levels of 8000, with more than 25% trading at less than capital employed – implies that valuations are at par with promoters!

EV/capital employed

1/4th of Corporate India trading at less than capital employed!

0.0

0.5

1.0

1.5

2.0

2.5

Automobiles Engineering Cement Telecoms Power Utilities Logistics Infra Developers Construction Metals

FY12E FY13E

1

222222

Corporate resilience much stronger this time! Corporate resilience much stronger this time!

Indian corporates more resilient to withstand economic shocks than in previous downturn!

Lower gearing and higher cash on books for Indian Corporates!

0.40

0.48

0.55

0.63

0.70

FY06 FY07 FY08 FY09 FY10 FY11 FY12E FY13E20.0

30.0

40.0

50.0

60.0

Debt to Equity ratio (% - LHS) Cash as a % of debt (RHS)

2

23

Expect sharp rate cuts in the rest of FY13Expect sharp rate cuts in the rest of FY133

High interest rates hurting operating performance and investment decisions

Aggressive monetary policy stance so far by the RBI……resulting in sharp rise in system lending rates!

Repo rate

4.0

5.5

7.0

8.5

10.0

01-Jan-06 01-Jan-07 01-Jan-08 01-Jan-09 01-Jan-10 01-Jan-11 01-Jan-12

(%) Repo rates hiked by 375bp in 20 months..translating to a sharp rise in system lending rates!!

242424

Sensex earnings CAGR between FY12Sensex earnings CAGR between FY12--14E at 12%14E at 12%

(% yoy) Net sales EBITDA Profit after tax

Sector FY12 FY13E FY14E FY12 FY13E FY14E FY12 FY13E FY14E

Automobiles 28.4 15.5 13.8 22.3 10.7 18.2 28.2 (7.8) 26.3

Construction 21.1 14.6 5.5 10.1 10.9 4.0 20.9 2.3 1.8

Consumer goods 15.3 16.9 16.7 20.4 19.8 20.0 23.3 18.4 19.8

Financials 24.2 18.4 19.6 18.8 20.3 19.4 28.6 24.9 21.4

IT Services 24.3 17.2 5.8 20.6 16.6 4.7 19.7 17.4 9.6

Metals 16.3 (2.6) 9.9 (6.0) 10.1 17.5 (16.5) 9.3 21.1

Oil & Gas 28.7 (1.4) 1.7 7.6 1.8 2.7 5.5 2.1 1.7

Pharmaceuticals 24.8 16.8 10.8 45.8 16.8 9.7 33.3 13.5 9.9

Power Equipment 13.6 8.2 (7.0) 13.6 4.6 (12.7) 18.4 (0.6) (13.1)

Power Utilities 23.4 16.7 21.0 4.5 24.5 18.7 (24.0) 5.0 0.5

Telecoms 20.0 13.2 11.5 16.2 7.2 17.1 (24.8) (9.1) 67.0

Sensex Index 23.6 6.9 9.1 12.2 12.0 12.9 12.3 9.2 14.8

Our Sensex EPS estimate stands at Rs1,200 for FY13 and Rs1,376 for FY14

252525

Sensex 1-yr forward PE band

Source: Bloomberg, IDFC Securities Research

Valuations attractiveValuations attractive

Our sense is that 16500 level for Sensex is a strong base (comfort on valuations)

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15000

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30000

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Index 10.0x 13.0x 17.0x 21.0x

262626

Model portfolioModel portfolio

Sector Sensex weight

Jan-12 weight

Aug-12 weight

Top ideas

Automobiles 9.7 7.5 9.5 Bajaj Auto, Eicher Motors, TVS, M&M

Construction/Power Equipment 6.6 13.0 8.0 JPA, L&T

Consumer goods 13.3 10.5 15.0 HUL, Marico , Godrej

Financials 26.0 27.0 24.5 HDFC, ICICI Bank, Yes Bank, Indusind

IT Services 13.9 8.0 8.0 Infosys, Wipro, Tech Mahindra

Metals 6.7 3.5 4.0 JSPL

Oil & Gas 14.6 9.0 9.0 Cairn, Petronet LNG

Pharmaceuticals 3.6 5.0 8.0 Cipla, Dr Reddy’s, Sun Pharma

Power Utilities 3.0 2.5 2.0 JPVL

Telecom 2.7 2.5 0.0 -

Others 0.0 11.0 12.0 United Spirits, DEN, APSEZ, Sobha Developers

Total 100.0 100.0 100.0

We are overweight on Consumer Goods and Pharmaceuticals and underweight on Construction

272727

Companies Price Mcap EPS Earnings CAGR P/E EV/EBITDA P/BV RoE RoCE

(Rs) (Rs bn) (Rs/share) FY11-13E (x) (x) (x) (%) (%)

Bajaj Auto 1,727 491 108.0 14.6 15.7 10.9 6.6 46.4 52.9

JPA 77 161 5.9 44.2 12.7 8.3 0.8 6.5 8.5

HUL 511 1,087 14.0 17.2 35.9 30.2 22.5 72.8 61.2

Marico 189 117 6.7 26.0 28.4 19.8 6.0 26.9 21.9

Godrej 666 207 21.4 22.0 29.9 21.6 6.6 23.4 20.1

Infosys 2,429 1,343 163.7 10.5 14.4 9.1 3.5 25.8 30.0

Wipro 355 861 27.2 15.4 13.0 9.2 2.6 21.3 19.4

JSPL 404 375 47.6 10.2 8.4 6.7 1.7 21.6 16.2

Cairn 334 635 51.5 2.2 6.5 3.9 1.2 19.4 20.7

Cipla 362 285 17.4 20.3 20.4 13.6 3.3 17.1 18.6

Dr Reddy 1,678 282 94.6 7.3 17.6 11.4 4.0 25.1 19.4

Sun Pharma 666 685 28.5 10.2 23.2 15.2 4.2 20.1 24.8

Adani Ports 117 247 5.0 16.2 24.6 14.2 4.3 18.8 8.5

M&M 783 452 46.4 6.6 16.6 11.6 3.4 21.9 20.7

P/Adj. BV (x) RoA (%)

HDFC 725 1,046 33.2 18.5 21.5 4.8 4.8 24.1 2.7

ICICI Bank 974 1,108 69.1 22.1 13.9 1.7 1.7 12.7 1.6

Yes Bank 357 125 35.7 24.9 10.1 2.2 2.2 24.1 1.5

IndusInd Bank 337 155 22.2 28.8 15.0 2.9 2.8 20.9 1.6 Note: Based on FY13E, Prices as on 22 August 2012

Top buys Top buys –– Large capLarge capLarge cap (Mcap>US$2bn)

Bajaj Auto

Structurally well-placed; presence in 40 countries with 2W, 3W and, very soon, 4Ws. Poised to benefit the most from uptrading, with brands like Pulsar and Kawasaki in its stable.

Better placed to handle competition. Derives 20% of volumes from the domestic 100cc executive segment; robust launches planned in key brands to tackle competition.

Potential of RE60 not captured in estimates; could be replacement for 3Ws as it caters to demands of both regulators and customers. Exports to start in 3QFY13.

M&M

UVs drive growth while tractors take a pause. XUV and Bolero drive growth in a weak market and mitigate impact of weak tractor demand.

Recent recovery of monsoon reduces risk of a tractor collapse.

Recent turnaround of Tech Mahindra positive for consolidated financials.

JPA

Capex has peaked, gearing expected to reduce.

Expect strong cash flows in power (JPVL) due to robust generation at hydro plants and progress of projects under construction. YamunaExpressway commissioned; to pave way for real estate launches in new locations along the expressway.

L&T

Diversified skill-sets for a range of industries; vendor of choice for large and complex projects.

Large and diversified order book.

Captures maximum value from most orders due to broad presence in the value chain (e.g., power EPC solutions include manufacturing of both BTG and BoP components).

Top buys Top buys –– Large capLarge cap

HDFC

High visibility of sustained growth given healthy affordability levels and strong demand.

NPLs to remain low as no heavy job losses forseen; benefits from the fact that as most loans are for self-use, this is the last asset a person would default on.

Given strong track record and sustainable high core RoEs, we expect HDFC to sustain premium valuations. Valuing the core business at 4x FY13E book (3.5x FY14E) and building in a value of Rs205 per share for subsidiaries, we set a 12-month price target of Rs800.

ICICI Bank

The bank has delivered 20%+ earnings growth for seven consecutive quarters now; and we believe it is firmly on track to expand both profitability and balance sheet.

Better transaction structuring and high level of collateralization offer comfort on infrastructure asset quality.

A steady earnings trajectory should drive a structural re-rating of the stock from 1.3x FY13E core book currently to 2.4x. We have a 12-month target price of Rs1,476 (including Rs166/ share for non-banking subsidiaries).

Yes Bank

With its advances portfolio being almost entirely composed of working capital loans, Yes Bank's asset quality remains one of the best in the industry.

Given the wholesale bias of the bank’s funding mix, a decline in wholesale borrowing rates would provide impetus to earnings as also stock performance.

Currently trades at 2.2x FY13E adj. book and 1.7x FY14E adj. book. Reiterate Outperformer, with an 18-month price target of Rs500 (2.5x FY14E adjusted book).


IndusInd Bank

With rates softening in the past few days due to easing liquidity (a trend likely to sustain), we expect IndusInd to start gaining margin momentum again given ~50% of its loan book is fixed rate in nature.

IndusInd is focusing on diversifying its revenue base as well as improving its liability franchise as reflected in robust fee growth and a continuous expansion of the saving deposit base.

Despite improving over the past three years, branch efficiency still lags peers by a wide margin. We see this untapped opportunity driving a sustainable RoA of ~1.6% 4. Current valuations are 2.9x FY13E & 2.3x FY14E adj. book. We have an 18-month price target of Rs430 (3x FY14 adj. book).

Infosys

Infosys’s prolonged underperformance to the CNX IT index has been led by the conspicuous absence of its “beat-and-raise” quarterly performance and slower volume/ revenue growth compared with TCS/ HCLT.

The management has taken steps to accelerate growth and adapt to newer business dynamics. The sales engine in being revived withrenewed focus on client-mining and new high-potential client acquisition as also empowering the next line of management.

These efforts should bear fruit in the next few quarters; valuations of ~14x PER adequately captures the known negatives.

Wipro

Wipro has a high share of run-the-business IT spending, the highest among the top 6 Indian IT services companies. Also, revenues are well-diversified across verticals, clients and service lines.

A re-organization undertaken in FY12 has ensured higher accountability, agility and better client responsiveness and is likely to reflect in Wipro’s long-term growth prospects.

Valuations of ~13x PER reflect weak Q1 and muted Q2 guidance. Wipro’s business model is resilient and we see a bounce-back.


Cairn

Production growth of ~20% from current levels by H2FY14E to 210 kb/d. Further increases possible over FY15E if regulatory clearances come through.

We have conservatively used peak production of only 210 kb/d in our numbers based on clearances received so far.

We are positive on strong crude prices (we build in a long-term price of ~US$90/bbl) and rupee depreciation boosting earnings and pushing back earning peak to H2FY14E (post which government’s share of profit would rise to 50%, depressing earnings).

Exploration option value of Rs78/ share; approvals coming through for exploration on the Rajasthan block to get the resource base of ~3100 mmboe (risked resources of ~530 mmboe) through to appraisal stage would boost this value

JSPL

JSPL should beat the steel downcycle through value-addition.

In the power segment, lower tariffs are priced in; should still drive earnings growth.

Overseas mining assets – value-unlocking from overseas coal assets in South Africa, Mozambique and Indonesia.

HUL

HUL has transformed itself into a premium-focused and leaner organization in the past two years; this would continue to drive 8-10% volume growth.

The soaps and detergents business is moving back to normalized margins; premiumisation of personal products will ensure sustained margin expansion.

Efficient leveraging of unmatched scale will drive down costs, further adding to profitability.

We expect a 17% profit CAGR over the next three years.


Marico

The strength of the core domestic hair and edible oil business ensures strong volume growth. Continued market share gains in spite of steep pricing action is indicative of the strong brand equity of Parachute and Saffola, which will ensure volume-driven as well as profitable growth.

A shift in strategy towards taking on the multinationals in their own categories (oats, skin care, deodorants) is encouraging and, we believe, will create growth drivers for the business, beyond the core hair and edible oil business, over the next five years. We are positive on the Paras acquisition as it opens up new high-growth avenues.

We expect a 22% profit CAGR over the next three years.

Godrej Consumer

The domestic business gives us a high level of confidence as the household insecticides business (50% of domestic revenues) is growing 2-3x category growth and remains an extremely exciting category. Moreover, soaps has also picked up pace and is supplementing strong growth in household insecticides.

The company has allayed concerns on the international business to a large extent as growth continues to be strong and the balance sheet has improved considerably.

We believe GCPL’s de-rate cycle is over, increasing growth visibility on both the domestic and international businesses; this would prompt a re-rating.

APSEZ

Strong volume growth momentum continues, leading to strong cash flows.

Leverage ratios to peak at current levels (Abbot Point expansion unlikely to be taken up over next 18-24 months).

Strong earnings profile (20% CAGR in cons. earnings over FY12-14) not reflected in current valuations.



Cipla

After management changes, Cipla’s focus on revitalizing its domestic business and enhancing profitability has clearly begun delivering returns.

While the finer contours of this turnaround strategy remain hazy, we take comfort from management commentary referring to steadyimprovement in operating metrics and significant improvement in balance sheet quality.

We also anticipate increased aggression for growth, including strategic moves like M&A deals.

With reasonable possibilities of earnings upgrades, we remain positive on the stock. We have a target price of Rs398 (20x FY14E, 23x FY13E earnings).

Dr Reddy's Labs

One of the most attractive ANDA pipelines in the industry – 79 pending ANDAs, including of 40 Para IVs and 10 FTFs.

A slew of recent complex launches – e.g., Fondaparinux, Lansoprazole, Tacrolimus, Omeprazole OTC – underline the company’s R&D capabilities; news flow on more interesting product launches expected in the coming quarters.

High-margin branded formulations sales of Rs37bn (FY13E) across India and CIS; relatively insulated from any impact of the likely implementation of price control policy.

Street’s skepticism on management’s ability to achieve FY13 guidance of $2.6bn-2.7bn an upside risk.

At CMP of ~Rs1660, the stock trades at ~16x FY14E, much below multiples of most large peers. Also, given return ratios of >20% and a net cash balance sheet, valuations remain attractive.


Sun Pharma

With all three business segments – US, RoW generics and domestic formulations – showing strong growth, we remain fairly comfortable on medium-term growth.

US generics will likely keep delivering positive surprises, with 135 ANDAs awaiting approval and unanticipated approvals for niche products like Astelin nasal spray, Sumatriptan auto-injector etc.

Buy-back of remaining ~34% stake in Taro (Rs4bn PAT in FY14) to provide further upside given valuation arbitrage (Taro trades at ~10x FY14 compared to >20x for Sun); even after the Taro share purchase, Sun will have >$500m cash reserve left for significant value-accretive acquisitions.

353535



Tech Mahindra 853 105 78.4 17.1 10.8 10.1 2.5 24.2 19.3

Petronet LNG 151 113 13.7 5.7 11.0 7.1 2.5 25.7 21.2

IPCA 404 50 28.9 24.1 14.0 9.3 3.1 24.7 24.4

Strides 840 47 45.4 19.0 18.0 11.6 2.2 14.8 10.3

Glenmark 406 112 21.1 7.3 19.6 13.6 3.8 21.4 18.5

Eicher Motors 2,230 60 134.5 34.6 16.6 7.3 2.2 14.2 21.1

JPVL 32 83 2.6 46.3 11.9 10.9 1.3 11.6 7.7

United Spirits 950 116 28.7 33.8 32.2 12.9 2.4 7.8 9.9

Sobha Developers 336 33 22.2 19.6 15.1 9.8 1.5 10.2 11.1

Note: Based on FY13E, Prices as on 22 August 2012

Top buys Top buys –– Mid cap & small capMid cap & small cap



DEN Networks 125 16 3.4 35.9 36.5 11.7 1.8 5.2 8.1

TVS Motors 39 19 5.5 19.0 7.2 4.8 1.4 20.8 18.2

Mid cap (Mcap: US$500m to US$2bn)

Small cap (Mcap<US$500m)


Tech Mahindra

Merger with Mahindra Satyam would create an entity with US$2.6bn in sales and 75,000 employees, put it on the global map for large deals and improve growth prospects.

Core competencies of the two firms complement each other (enterprise services of Satyam and TechM’s mobility expertise), creating a formidable player in the fast-growing enterprise mobility business, a key area of investment for Fortune 500 companies.

Valuations of ~10.8x FY13E EPS on pro forma earnings do not completely capture the improved growth prospects of the company.

Eicher Motors

Best play on CVs; company poised to gain market share, driven by AB Volvo-validated products and frugal cost structure (efficiency close to that of 2W names!!!)

Offers superior growth visibility in a cyclical industry due to rising HCV market share (up in a weak market), resilient LMD and exports/ outsourcing.

CY13/ CY14 to be blow-out years as MDEP project goes live, RE expands capacity, new CV platform hits market and new EM brand is launched.

Petronet LNG

Company to expand capacity 2x over the next two years (Dahej +5m tpa from 10m tpa currently; Kochi +5m tpa) and 2.5x in four years (Gangavaram +5m tpa).

Domestic gas volumes remain muted; demand to keep growing in double digits over the next decade (volumes to grow from ~11m tpa currently to ~15m tpa by FY15 and ~18m tpa by FY17E).

Pricing remains an issue, but with newer tranches of domestic supply coming in at higher prices, acceptability of higher prices would rise. Slowing Japanese demand and global capacity additions could drive some moderation in spot LNG prices in the next five years.

Petronet LNG (continued)

Earnings CAGR of 14% over FY12-15E, but growth will be back-ended, with FY13-H1FY14E earnings showing slower growth due to ramp-up of capacity coming in only by H2FY14E.

Limited threat from regulations in the medium term, with re-gasification margins not under the purview of the PNGRB Act as of now.

Ipca Labs

Ipca has among the strongest and most consistent business models in the mid-cap pharma space; superior API capabilities vis-à-vis peers give solidity to its model; the company expects a 100+ commercial API basket over 2-3 years.

With the FDA nod for the Indore SEZ, clearance for the Baroda API complex, WHO pre-qualification for Artemether-Amodiaquinecombination over the last few months and recovery in domestic formulations, Ipca is well set to embark on the next phase of growth.

Expect steady growth across segments, with US generics likely leading the way from FY14 (expect 35-40% growth); currency tailwinds will further add to the momentum.

At CMP of Rs402, the stock trades at 12x FY14E; scope for further appreciation with multiples re-rating to 13-14x given the robustness of the business model and medium-term growth drivers.

Strides Arcolab

With 161 sterile ANDA filings, only 43 commercialized products, and promise of ~50 new filings in CY12, Strides’s scale-up potential remains fascinating.

Given the tight steriles market in the US and availability of abundant USFDA-approved capacities, we expect the specialty business to scale up briskly; pick-up in the pharma business will add to the momentum.

Net debt is down to Rs13bn with D/E ratio of 0.67x (from 1.67x as of Dec-11), which addresses a key investor concern



Glenmark

After addressing investor concerns over balance sheet issues, last quarter’s performance (37% yoy revenue growth; 21% EBITDA margin) is reflective of the potential of its generics business model.

We expect profits to steadily improve hereon as investments in growth begin to pay off across geographies, led by the US and India.

Expected scale-up of ROCE to 18-19% (despite Rs1.7bn-1.8bn of NCE R&D spend) over FY13-14 (from 11-12% over FY09-11) builds a strong case for a re-rating of the generic business. Significantly value-accretive news flow on the NCE pipeline is possible over the next 12-18 months.

At CMP of Rs409, Glenmark remains attractively valued at 16.5x FY14E earnings.

Sobha Developers

Among the largest players in the steady Bangalore market; expansion into other cities (Chennai, Mysore and Gurgaon) provides comfort on sales momentum.

Over 60% of land bank (210msf) in tier-1 cities of Bangalore and Chennai; minimal payment outstanding (Rs1.2bn; ~10% of total).

Strong cash flows from ongoing/ planned launches (>Rs80bn over next four years) provide comfort on execution scale-up and debt reduction (Rs12bn; gearing at 0.58x; management target is 0.5x).

Growing at a whopping 76% CAGR (over FY08-12), Sobha achieved >Rs17bn sales in FY12; can comfortably achieve a run-rate of Rs20bn from FY13.

We expect revenues/ earnings CAGR of 23%/ 20% over FY12-14E; EPS to potentially double by FY14 (>Rs30/share); stock trading at attractive P/E levels (~10x FY14).

Potential valuation of >Rs400/share even at conservative land-bank valuations (Rs180psf; 2x acquisition cost).

JPVL

Expect strong cash flows on the back of robust generation in hydro power plants.

Progress in under-construction power plants on track, visibility on capacity addition.

Better protected than peers from coal-supply shortage and cost pass-through issues due to higher proportion of hydro capacity and captive coal mine.

United Spirits

Shift in strategy to premiumisation and, hence, significant improvement in quality of earnings were evident in the recent results; this would enhance USL’s positioning in the Indian spirits market which is becoming more premium.

With increasing leverage (1.7x), narrowing interest coverage ratio (1.3x for FY12), we see an urgent need for capitalization, which could be addressed by sale of UB shares andUSL treasury stock.

We have always maintained that “strategic” value-unlocking in USL is a given and that the timing is the only “uncertainty”. Our sense is that the probability of inducting a strategic partner looks high, which will significantly re-rate the business.

TVS Motors

One-legged run to end: New bikes (125cc and ‘Victor’ re-launch) mark entry in executive segment (50% of 2W industry). 125cc scooter to boost presence.

New launches to drive margins as gross margins would rise, driving operating leverage. Growth in operating profits to be 2x growth in revenues.

Deleveraging to boost non-operating growth: Interest-bearing debt of Rs4.3bn (25% of market cap) to be retired by end-FY14.


DEN Networks

DEN added 0.3m digital subscribers in FY12; we expect a 3x jump in additions over the next 12 months (1.18m in FY13E).

With digitization to improve declarations (albeit with a lag), we see the ‘annuity-driven’ model of distribution coming to the fore and resulting in superior financial performance for DEN (35% CAGR in earnings over FY12- 14E). With cash on books of Rs2bn+ and leverage of 0.3x, DEN is well capitalized for incremental subscriber addition of 2m+.

With the ‘direction’ of digitization now clear and given the superiority of the cable business model over DTH (capital requirement for digitization almost half), we see merit in investing in DEN to participate in the digitization story. An aggressive management is an added support to our thesis.


414141

Note: Based on FY13E, Prices as on 22 August 2012

Top sellsTop sells



ITC 262 2,028 9.3 19.7 28.1 18.8 9.5 36.2 41.9

SAIL 85 343 11.0 (3.3) 7.6 6.5 0.8 11.1 10.4

BPCL 348 246 22.4 49.9 15.2 11.4 1.4 9.3 4.7

HCL Tech 554 376 41.9 15.0 13.3 7.9 3.0 24.8 27.2

Idea 75 250 4.0 57.4 18.7 5.8 1.7 9.8 10.2

Hero Motocop 1,939 386 130.6 3.4 14.8 8.5 6.7 52.1 46.8

DLF 214 355 8.6 13.1 24.2 12.7 1.2 5.2 6.9

Voltas 111 37 7.7 108.7 14.6 10.3 2.2 15.9 16.8

Top sellsTop sellsITC

Ten years ago, cigarette valuations nosedived as a host of adverse events marred the outlook of the global tobacco industry. History is set to repeat itself as all-time high cigarette valuations are under serious threat from legislative/ regulatory tightening globally.

Despite pricing power, ITC faces formidable challenge to grow volumes profitably in the face of a structural rise in taxation, both at the central and state levels.

Non-tobacco FMCG has been unexciting despite ITC having pumped in Rs45bn and strong distribution leverage; hotels would remain a drag on the balance sheet and return ratios; other businesses are too small and commoditized to offer any re-rating potential.

We set an SOTP-based target price of Rs244.

HCL Tech

Most levered to discretionary IT spend.

Impending management re-organisation could hit revenue momentum.

PER of 13x captures positives.

Idea

Most exposed to risks from 2G re-auction and New Telecom Policy 2012.

Inability to pass cost increases to consumers highlights competitive intensity.

Current valuations of 6x FY13 EV/EBITDA do not reflect regulatory risks and potential equity dilution.

SAIL

We are negative on the steel cycle and expect realizations to trend down. We see threat to margins due to firm raw material prices.

Historical delays have led to huge lock-up of capital, which has affected return ratios.

Top sellsTop sells

Voltas

Electro mechanical projects: a) order inflows slow (weak construction activity in India and the Middle East); b) intense competition has driven down margins by 300-400bp; c) longer WC cycle, and d) risk of further losses at large Qatar order.

Engineering products and services: a) textiles – slow investments by sector leading to weak inflows; b) sluggish mining and construction activity as also loss of principals.

Unitary cooling products: a) intense competition marring ability to pass on higher input costs; b) higher ad spends impacting margins.

Pressure on both top line and margins.

DLF

Euphoria around likely non-core asset deals (~Rs50bn expected from three transactions – NTC mill land, Aman Resorts, wind power) overdone; the stock remains significantly expensive even assuming these deals get executed.

At ~Rs18bn lease rentals in FY13E, DLF’s leasing portfolio is valued at ~Rs180bn – equivalent to residual debt post Rs50bn from asset sales.

This effectively implies a Rs360bn valuation for DLF’s 345msf land bank (@Rs1040 psf), which is by far the highest in the industry (implied land bank valuation of peers – Rs60-120 psf for JP Infra, Sobha, etc.)

DLF has guided for sales of ~Rs65bn in FY13. Assuming ~35% EBITDA on the real estate business, DLF is valued at ~15x FY13 EBITDA. The multiple is at a significant premium to that of peers (Sobha and Oberoi trade at 9.3-9.5x FY13 EV/ EBITDA), leaving little room for upside.

Other significant risks include inability to conclude non-core asset sales, risks to Magnolias project launch in Gurgaon (projected sales Rs18bn-20bn for FY13) and cash-flow pressures (could struggle to meet interest obligations).

Top sellsTop sells

BPCL

Core business remains under stress, with high inventory losses, high subsidies and high interest costs eating into earnings and balance sheet .

Too much optimism on the E&P business

• Timelines (at least five years to commissioning of the first trains of LNG in Mozambique, a decade for all trains to start), investment (US$47bn required to monetise Mozambique; BPCL share at ~US$5bn) and challenges in dealing with the government in Africa not factored into Street valuations ascribed to this segment.

• Brazil is also highly attractive, but we are sceptical of attributing too much value to what are essentially exploration assets as of now (no appraisal-stage drilling, no reserve/ resource certainty).

• Our valuation of US$1.2bn for the portfolio (US$950m for Mozambique, Rs66/ share) reasonably factors in the timelines, investment and pricing challenges for the assets (Street valuations for Mozambique alone at US$2bn taking Cove Energy acquisition price as a marker, which we do not agree with).

Hero Motocorp

Most exposed to incremental competition: Executive segment accounts for 70% of volumes and 80% of profits. Three new players, including Honda, to enter the market in 2012. Hero’s current market share of 68% indefensible.

Honda has Hero in its sights as it aims to be the leader by 2020. Product and dealer mapping targeting Hero; company has startedenrolling Hero dealers after the split.

Structurally on a weaker wicket: Unable to extend executive success to premium segment. No big brand success since Passion (2001) despite seven launches.

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