Sunday, March 23, 2008
Without doubt, bears have raided. We try to fathom what further damage could they cause, for how long and how to cope with it.
The confluence of greed and fear may sound clichéd by now, but the Indian stock markets have become prey to the very phenomenon over the past few months.
The Reliance Power public issue is a case in point. Just when it was open for subscription, people from all walks were willing to buy its shares for Rs 450 and were optimistic of their ability to sell them at almost Rs 1,000 upon listing.
Not a shred of the company’s fundamentals has altered, but the same market is now pegging its value at around Rs 310 levels now. The intent is not to suggest that the stock is fairly or under-valued at these levels, but the instance reflects the drastic change of market sentiment.
The euphoric one-way upward trek of the BSE Sensex from the 15,000 levels to its peak of 21,207 took more than seven months, while the plunge downward did not even take fifty trading sessions (about two months).
The US-led global credit crunch is finally taking its toll, and every other major bank is dipping into the red. There are signals hinting at a slowdown in earnings, and hence, the risk appetite of investors has nearly vanished.
This has led to a revision in the valuations, so far shaving off anywhere between 25-50 per cent of stock prices that prevailed three months ago. Even then, the fall still persists. Investors are bound to worry about whether there is still more pain left, or the worst is over.
Going by the insight of the experienced, the so-called bear phase may not last as long as the bull-run did, but it will trigger a range-bound phase for a few months, before a reversal of trend.
Besides, the priority now is not to return to the previous peak as much as the reversal of the current down-trend in order to limit the losses.
In India’s case, it will also need to prove to the world that its economy is largely decoupled from the global economy with a conviction that India’s domestic consumption will continue to drive its growth. Only then, will foreign investors find solace and perhaps, start pouring money to buy Indian stocks.
With the wholesale erosion in valuations, investors are facing a dichotomy of attractive buying opportunities against the fear of stock prices falling below these levels. The indecision that crops up makes one question both the macro as well as microeconomic prospects of India.
On the one hand, the economy is likely to continue growing at over 8 per cent while on the other hand, there are fears of a slowdown in corporate earnings, capital expansion plans being postponed, rising cost pressures and risks from foreign exchange exposure of companies.
Putting these factors in perspective, it gets more difficult to figure out the direction that the markets may take over the coming two to four quarters.
In spite of a slowdown in the US, there is little possibility of the Indian economic growth being impacted drastically. First, Indian economy is driven strongly by the domestic consumption boom.
Since a large part of the contribution to the GDP is derived from services, which continues to grow consistently, the overall growth will remain buoyant.
“Even though the short-term outlook may be uncertain, the long-term outlook for India is positive. In FY09, India's economic growth is likely to remain between 8-9 per cent,” says Andrew Holland, managing director – strategic risk group, DSP Merrill Lynch.
… but some worries
On the industry front, mid-sized and small corporates could get impacted. The noise is more than the expected negative impact on account of foreign exchange-based derivatives. Larger companies are likely to have better risk management systems in place.
Besides, smaller and mid-sized businesses are expected to face more difficulty in raising funds for expansion plans, as credit flows may remain limited to larger companies due to a conservative approach and higher risk premiums. The restrictions, imposed earlier, for raising funds via the ECB route has only added to the woes.
“The global financial system is getting risk averse, increasing the cost of credit, which might lead to some slowdown of major capacity expansions that were planned. Robust corporate earnings, witnessed for the last 12 quarters, would get moderated due to rising cost pressure arising out of commodity inputs as well as wage inflation,” comments Balasubramaniam A, chief investment officer, Birla Sun Life.
“We are probably, globally, near the bottom,” as Andrew Holland puts it. However, it is still unknown how long the US slowdown will linger on, and thus its impact on the rest of the world, including India.
This leads to an uncertain environment eclipsed by high volatility, as far as the Indian stock market is concerned.
But Abhay Aima, country head, equities and private banking, HDFC Bank, too, has a consoling view: “there may not be a directional correlation with the US economy since a slowdown in the US would mean the need to cut costs, which in turn would mean more outsourcing. So, even if the short term appears shaky, the longer term is good.”
Focusing on the direction that the markets could take, Nirmal Jain, chairman and managing director of India Infoline says, “Recovery may start from the month of April with corporate earnings starting to flow in.”
Going a step further, Aima suggests that valuations are fair now, and it appears to be a good time to buy. One can expect 12-15 per cent returns over 12 months.
Thus, even though the markets may not have bottomed out yet, there are ample investment avenues for the coming year, till the bulls find their way back to the bourses. Overall, because of the strong domestic growth over a long period to come, the global economic slump is likely to remain just a temporary setback for India.
Pick and choose
Due to the volatility on the streets, stalwarts unanimously recommend a strategy of focusing on asset allocation for realistic returns to investors, rather than trying to time the market.
Advantage India: It is clear by now that those sectors, which derive their growth from the domestic consumption in India are likely to have an upper hand compared to those dependent on exports and global demand.
The likely winners are fast moving consumer goods (FMCG), consumer durables and, multinational pharmaceutical companies, which are expected to introduce newer products in the domestic markets.
For FMCG, while growth prospects continue to be good and valuations reasonable, the budgetary moves will enhance consumption. Higher disposable incomes along with softer interest rates should also benefit the consumer durables sector, which so far has been lagging.
Among others, telecom companies are also expected to witness consistent growth in demand, although valuations may appear slightly rich, which is due to the better visibility of growth in the sector.
Automobiles is another sector that looks good, where valuations have taken a big knock. Notably, most of these sectors carry a far lesser earnings risk, providing cushion during a market downfalls, if things get worse.
Infra plays: Apart from the massive investments (about $500 billion) planned towards creation of new infrastructure during 2007-2012, with the coming year being an election year, greater infrastructure spends are likely, which should prove gainful for the infrastructure-related players, power equipment makers and well-established larger utility companies.
As an economist suggests, given that India’s domestic savings rate is high at 32-33 per cent, it’s dependence on external funds to finance the infrastructure creation is less—this indicates that such activities are unlikely to witness any slowdown.
Bigger the better: Though an ideal time to get rid of unworthy small- and mid-sized stocks is the peak, it is better late than never.
Apart from unworthy stocks, there will be other vulnerable plays. Investors may want to reshuffle their portfolios to get rid of small- and mid-cap technology companies dependent on discretionary spend from the developed markets, textile companies with high exposure to foreign exchange risks and the stocks from the real-estate space.
Small- and mid-cap stocks are typically more volatile, besides their ability to raise resource (vis-à-vis bigger players) is also less. Hence, these could be avoided—unless one is too confident about the fundamentals and growth prospects of a particular company. Since large-cap stocks tend to bounce back first as the market turns around, a higher exposure to them should help.
Contra bets: The healthcare and information technology (IT) sectors have been major underperformers on the bourses, and for reasons well known.
Within the healthcare space, especially the large domestic multinational drug manufacturers, analysts cite the multi-billion dollar opportunity arising from drugs going off-patent in the US during FY09-FY10.
Given the past track record, the opportunities and low valuations, taking a bet on these should lead to gains. In IT too, valuations are relatively low as compared to a year ago.
Again, experts say that a slowdown in US would require companies to cut costs, which could bring more business for Indian companies, and hence, recommend large IT companies.
Tad riskier: Although there are risks of some impact of the credit crunch and the yet-unknown forex derivatives exposure, valuations appear far more reasonable with regards the banking (specially public sector) and financial services sector. Risk-takers may want to look for the turnaround in sentiments for this sector.
Shubhada Rao, chief economist, Yes Bank
Indian economy in FY09
While growth drivers remain intact, the uncertainty arising out of global financial markets along with domestic factors like higher inflation and therefore higher interest rates will begin to impact growth.
We expect economy to moderate to about 8.3 per cent growth in FY09. While consumption has remained weak, India's 5-year track record of capital goods expansion reflects strong investment intention.
In recent months however, we do see a marginal moderation in domestic production of capital goods. The weakness in consumer durables is bottoming out and we may expect some revival in consumer durables going forward.
Sujan Hajra, chief economist, Anand Rathi
The math of India's GDP growth
Even though the consensus for FY09 suggests there is a significant slowdown expected in growth, but one cannot be sure of it.
Advance estimates indicate agricultural growth to remain at 2.7 per cent for FY08 and the trend rate is 4 per cent. This creates a base effect. So, in FY09 agricultural growth is highly likely to be at around 5 per cent because of the base effect. In terms of contribution to the overall GDP growth, 85 basis points should come from agriculture in FY09. Even an average monsoon can deliver this.
In services, there has not been much impact and they are still growing close to 11 per cent. Besides, there is no major reason for services to slow down, especially considering that the Sixth Pay Commission is due.
Last time, just the impact of the Pay Commission added 50 basis points from the government sector, so similar impact should also come this time. Services account for 55 per cent of GDP, hence, growth in services should account for 6 per cent GDP growth.
Industry, despite the slowdown, is still growing at 8-9 per cent. Next year, it could grow by 7.5-8 per cent. Since industry accounts for 27 per cent of the GDP it is likely to contribute 1.4 per cent to the overall GDP growth. Summing all this up, a total estimated 8.3-8.5 per cent growth looks pretty likely next year.
The US impact
It is noteworthy that decoupling of India's economic growth with industrial nations has already begun since 1985. India has been growing at a much higher rate than others.
But, there is a direct relation in the direction of growth. There is no denial of the fact that if there is a serious slowdown in industrial nations, then India will be impacted. But, the impact on India will be much less than other emerging markets due to their higher dependence on the US. India is likely to be driven more by the growth in domestic consumption.
Another impact is in terms of capital flows. India is still dependant on foreign funds for growth to some extent as the gap between domestic savings and investments is less than 2 per cent of the GDP. However, most of fund requirement is met through internal savings, which is as high as 34 per cent.
However, the foremost reason that India is less prone to the ill-effects of a global slowdown is that consumption accounts for 67 per cent of the GDP, while investments account for as high as 33 per cent, and a growth of 20 per cent is witnessed here, over the last few years. Therefore, the stimulus to sustain economic growth is available back home, even in the forthcoming years.
Titagarh Wagons is well positioned to benefit from the demand in the logistics space.
Kolkata-based Titagarh Wagons, a private sector manufacturer of railway wagons, is setting up a manufacturing centre to make electric multiple units (EMUs) and expanding its existing facilities at a cost of Rs 70 crore.
To fund its expansion as well as meet corporate expenses the company aims to raise Rs 111- Rs 126 crore through the IPO route, with each share priced between Rs 540 (lower band) and Rs 610 (higher band).
While the company has wagons, special projects and heavy earth moving and mining equipment divisions, over 80 per cent of its revenues accrue from the wagons division.
Rising freight demand
The opening up of India’s container movement to private players (in 2006) as well as the move to allow corporates to invest in wagons (in 2005) has opened up the erstwhile Indian Railways monopolies.
With a large number of logistics service providers and manufacturers jumping into the fray, this nascent segment is expected to take off.
In 2004-05, freight handled was pegged at 6,000 lakh tones, while that for FY08 is estimated at 7,850 lakh tonnes. This is expected to move up further to 11,000 lakh tonne by the end of the 11th five-year plan in 2012.
Indian Railways plans to double its wagon purchase order from the estimated 10,200 wagons for the current fiscal to 20,000 wagons for FY09. This translates into a steady demand for players such as Titagarh Wagons, which along with nine other public, private and joint sector companies are eyeing the Rs 15,000 crore wagons market.
While the company is planning to expand its share in wagons, it is also targeting niche applications. It has tied up with US-based FreightCar America to manufacture aluminium coal hopper wagons and other wagon products.
The company is also planning to expand its EMU production to cater to the passenger car and metro rail requirements of the railways. The unit to be set up at the Uttarpara facility in West Bengal will manufacture 24 rakes per annum with each rake consisting of nine EMU coaches.
The company has received an order for supply of 9-car rake from Indian Railways and hopes to expand its presence in the sector once its Uttarpara facility is completed by December 2008.
In addition to the EMU facility, the company wants to set up an axle machining and wheelset assembly unit with an annual capacity of 10,000-12,000 wheelsets.
The expansion will allow Titagarh Wagons to integrate backwards and reduce dependency on Indian and foreign suppliers.
With only two Indian manufacturers of wheelsets, which constitute 35 per cent of a wagon’s selling price, and continued increase in prices over the last two fiscals due to global shortage, Titagarh’s move to backward integrate makes sense.
Special projects/euipment segment
The special projects business, which contributes 11 per cent to total revenues, makes modular bridges, equipment for nuclear power plants and special purpose wagons for the defence sector.
Defence equipment sales to Defence Research and Development Organisation (DRDO) have increased from 1.6 per cent in FY07 to 4.4 per cent in the first half of FY08.
The heavy earth moving and mining equipment division manufactures hydraulic excavators, cranes and forklifts and accounts for 5 per cent of revenues. To ramp up its facilities and improve cost efficiencies in the equipment division, the company plans to invest Rs 4 crore.
Healthy order book
The company’s order book as on January 31, 2008 stands at Rs 753 crore, which is over 2.5 times its FY07 revenues. Of this, 90 per cent is accounted for by wagons and EMU sales.
Though Indian Railways continues to be Titagarh’s single largest customer, its share of revenues and wagon sales is declining. While Indian Railways’ share in Titagarh Wagons’ total revenues has come down from 61 per cent in 2005 to 11 per cent in FY2007, its share of wagon sales has also declined from 75 per cent to 49 per cent in the same period.
Over the last nine months, two strategic investors--GE Capital International and JP Morgan have bought 15.5 per cent (August, 2007) and 5 per cent stakes (January 2008) in the company at Rs 509 per share and Rs 610 share, respectively.
The vendor financing agreement with GE Equipment Services on May 2007 will help Titagarh’s customers finance their wagon purchases. JP Morgan, on the other hand, is helping Titagarh Wagons acquire a majority stake in Cimmco Birla. JP Morgan owns a significant portion of Cimmco Birla’s debt.
As part of the restructuring programme, Titagarh will be investing Rs 35 crore in Cimmco for a 51 per cent stake. This acquisition is expected to double Titagarh Wagons’ current manufacturing capacity of 5,000 wagons per year.
With rising demand from corporates such as Adani Ports, Hind Terminals and logistics service providers, replacement and new wagon requirement of Indian Railways and the cost advantage for rail transport over road, the macroeconomic outlook for the logistics sector manufacturers and service providers looks bright.
While there are 10 players in the wagon manufacturing space, competition for Titagarh Wagons comes from Texmaco. Going by Titagarh’s half-year FY08 numbers, with revenues at Rs 211 crore and a bulging order book, revenues should top Rs 350 crore in FY08.
If the company is able to maintain its 20 per cent operating margins and 12 per cent net profit margins in future, the stock is available at 17 times FY09 earnings of Rs 36.93 at the higher end of the band and 15 times at the lower end.
While Texmaco trades at a premium of 20 times its FY09 earnings of Rs 85 due to its leadership position, Titagarh could bridge the gap thanks to its growth prospects and higher operating margins, and at this price can fetch good returns over the short- to medium-term.
Issue opens: March 24
Issue closes: March 27
The Nifty almost revisited its January lows of 4,450 before bouncing back a wee bit. The index slumped to a low of 4,469, recovered to a high of 4,718 and eventually ended with a loss of 172 points at 4,574.
The index broke its yearly S3 (support 3) level of 4,500 on an intra-day basis twice in the week, but somehow managed to close above it. Going by the current trend, the chances of the index testing lower levels of 4,100 and 3,500 remain high.
The charts are indicating an oversold zone. Hence, a significant pullback cannot be ruled out. However, the rally would just be a relief rally and the markets may drop again.
The significant indicator is the Stochastic Slow, which is in a highly oversold zone. The per cent D value is 9 and the per cent K is at 7.4. There will be a buy confirmation once the per cent K crosses the per cent D level.
Both are in an oversold zone as they are below the 30 per cent mark. The 14-day Stochastic Slow is drawn with two lines - per cent K and per cent D - with a 3-day range.
The bearish phase will reverse after the Nifty moves back above the 200-DMA (daily moving average), which is 5,080, and closes above the yearly S1 (support 1) at 5,135. The index may find support around 4,400 this week.
The Sensex moved in a range of 789 points last week and broke yet another psychological mark, of 15,000. The index touched a low of 14,677 before finally ending with a loss of 766 points at 14,995.
We maintain our previous view that the index would drop to 12,000, with some support around 13,900. However, given the oversold position, a relief rally may be in the offing. In case of a sharp pullback, the index may even rally up to 16,650 to 17,200 levels in the near term.
The Sensex is likely to find support around 14,700-14,600-14,500 this week, while it may face resistance around 15,300-15,400-15,500 on the upside
An investment can be considered in the stock of Zee Entertainment Enterprises (ZEEL) with a two-year perspective. As the broadcaster inches closer to the No.1 slot in the general entertainment category (GEC), it stands most to gain from increasing advertising spends. The strength in its programming and the improvement of ratings across the network suggests sustained growth in earnings. The nearly 25 per cent decline in the stock price since the beginning of the year has trimmed valuations, with the stock trading at about 31 times its trailing consolidated earnings per share.
While, on an absolute basis, the valuation remains high, we believe that ZEEL is well-placed to record an annualised growth rate of 25 per cent over the next three years on the back of improving advertising income. While the pace of overall subscription revenue growth has been slower than expected, this too is likely to improve upon the entry of more DTH players, as the ZEE bouquet will be an essential offering for all players. However, we recommend accumulating the stock in small lots, given the volatile market conditions.
Flagship channel, Zee TV, continues to bridge the gap with STAR TV in the overall ratings and now dominates prime-time viewing. Improvement in ratings has resulted in better utilisation of advertising slots at 95 per cent levels. Zee TV is also riding on the strength of several programmes that are now in the top 50; which could inspire advertiser confidence. If ZEEL manages to attain and maintain market leadership, it could also implement further advertising rate hikes.
Earlier concerns of over-dependence on Zee TV have begun to dissipate with other channels in the Zee bouquet such as Zee Café and Zee Cinema also gaining strength. In the latest earnings conference call, the management claimed that Zee TV’s contribution to advertising revenue was just below 50 per cent, implying that all its channels contribute to advertising revenue.
Taking on competition
With competition picking up in the general entertainment category, the ability of Zee TV to maintain its market share remains a concern. However, Zee TV appears to have withstood the onslaught of NDTV Imagine fairly well, while Star Plus and Sony have lost market share (according to recent ratings and news reports).
The new channel from Viacom 18 is also in the offing and, therefore, maintaining its slice of the GEC ad pie remains a challenge for Zee TV. ZEEL’s new channel, Zee Next, was launched earlier this year to take on fresh competition from NDTV and UTV’s Bindass, but does not appear to have made much of an impact.
However, the improving strength in ZEEL’s bouquet and its higher connectivity and reach should enable it maintain a chunk of GEC ad spends. Zee TV as an incumbent is better placed than new entrants in terms of spending on carriage fees.
Intense competition is likely to keep ZEEL on its feet as the Star network is not likely to give up its turf in a hurry and is increasing spends on content and new programming. This limits the scope for margin expansion in the near term; operating margins are likely to remain at 30 per cent levels.
While the upside from domestic subscription exists, a weakening dollar may mute gains on international subscription, which has till now been driving subscription revenues. ZEEL’s advertising-subscription ratio is currently an even mix. But over the next year or so, the ratio is likely to tilt in favour of the former.
We expect growth in advertising spends to continue as there is nothing yet to suggest a slowdown in consumption. On the contrary, advertisers are likely to bank on higher disposable income (courtesy the latest budget) to sustain spending. Waning share of GEC channels in the television advertising pie is also a concern. However, Zee TV as a market leader is well-placed to protect its advertising share.
Investors can consider exposure to the Mahindra and Mahindra (M&M) stock. At the current market price of Rs 658, the stock trades at around 14 times the trailing 12 months standalone earnings. Planned product launches, capacity expansions, foray into new export markets and improved performance from the farm equipment segment present good earnings prospects over a two-three year timeframe. Besides, M&M shareholders may also benefit from value unlocking, if any, from the company’s 100 per cent subsidiary — Mahindra Holidays and Resorts — whose IPO is on the anvil.
The company’s core business is the manufacture of automobiles and tractors. Under the automotive segment, it manufactures utility vehicles (UVs) and light commercial vehicles (LCVs) including three wheelers. The UV segment commands more than 50 per cent market share. The tractor division sells agricultural tractors with horsepower ratings ranging from 25 HP-60 HP and fuel-efficient direct injection diesel engines. The company is the market leader in this business.
Automotive division: Being a player in the UV and LCV segment, the company has been shielded from the slowdown in the medium and heavy commercial vehicle and two-wheeler sales in the last few quarters.
For the nine months ended December 2007, M&M’s revenues from the automotive division grew by 14 per cent year-on-year to around Rs 5,100 crore. The key driver of growth has been the UV segment, where the company recorded a growth of 18 per cent, driven mainly by the Scorpio and the Bolero, which grew at a scorching 44 per cent.
Passenger Car Foray
The company has made a foray into the passenger car segment with the launch of the Logan (through its JV with Renault) in FY-08. M&M’s decision to defer investment in the three-way joint venture with Renault and Nissan at Chennai is unlikely to have a damaging impact as the project is still at a very early stage. But in the same breath, it must be added that there were a few bright spots for the company in this venture.
One, the Greenfield plant is to have flexible assembly lines that would have provided additional production capacities for some of Mahindra’s new vehicles. Two, the joint venture of M&M and Renault (which currently uses the company’s Nashik facility to produce the Logan) was to use this joint plant to produce other vehicles on the Logan platform for the Indian market. With M&M pulling out, it remains to be seen how the two companies redraw their manufacturing plans for this otherwise new segment for M&M.
Three, Renault-Nissan had proposed setting up of a power-train manufacturing plant close to the new facility to supply engine and gearbox requirements for the Logan and its derivatives.
Given the French carmaker’s expertise in this area, M&M could have sourced future power-train requirements for its utility vehicles and other new launches from this facility. Whether M&M will still be able to do it despite backing out of the venture needs to be watched. Moreover, by aligning with the Renault-Nissan brand, M&M stood to gain much in terms of access to latest technology and design architecture. But the latest acquisition of the Italy-based auto design and engineering firm Grafica Ricerca Design indicates that M&M has decided to explore options beyond Renault-Nissan to strengthen its design capabilities and, hence, its access to Europe.
Going forward, M&M has planned few other launches to sustain its growth momentum. The Ingenio, a multi purpose vehicle (MPV), will hit the roads in FY-09. Priced between the Scorpio and the Bolero, the MPV will take on Toyota’s Innova.
The company is also looking at launching a mass market platform, similar to the Tata Ace in FY-10. The company has recently launched a variant of the Scorpio, the mHawk.
The excise duty cuts for hybrid vehicles in the budget is a shot in the arm for the company whose hybrid version of the Scorpio is also on the cards.
Over the past year, the Scorpio has been launched in several markets, including Australia, Turkey, Sudan and Ghana. In January this year, M&M launched the Scorpio SUV in Egypt, commencing its first assembly operations outside India. The company has also launched the Scorpio and its Pick-up range of vehicles in Brazil where a state-of-the-art facility has been set up to assemble the vehicles. Besides, the company is also planning to enter the US markets in 2009.
Farm Equipment Division
For the nine months ended December 2007, the revenues of this division reported a subdued six per cent year on year growth due to rising interest rates and strict financing norms.
The limited growth in this segment also contributed to a fall in operating margins which declined by 1.1 per cent year-on-year to 11.9 per cent for the same period. This trend is expected to reverse, thanks to the budget bounty announced for the farmers.
Besides, Punjab Tractors ( PTL), in which the company acquired a 63 per cent stake in 2007, is expected to show healthy growth in the next two-three years.
PTL’s cash flows are expected to improve in FY-08 itself as, post-acquisition, M&M has brought down the dealer inventory by 50 per cent; the debtors period has also been reduced to 150 days from 260 days prior to the acquisition and 25-30 per cent of the outstanding debts have been recovered.
Synergies from the acquisition such as raw material procurement, shared dealer network and possible use of excess production capacities of PTL for M&M will provide an impetus to growth.
The company will also be able to leverage on the strong presence of the ‘Swaraj’ brand (which came into its fold from PTL) in the northern markets.
If you had purchased $1000.00 of Nortel stock one year ago, it would now be worth $49.00. With Enron, you would have $16.50 left of the original $1000. With WorldCom, you would have less than $5.00 left. If you had purchased $1000.00 of Delta Air Lines stock you would have $49.00 left. If you had purchased United Airlines, you would have nothing left. But, if you had purchased $1000.00 worth of beer one year ago, drank all the beer, then turned in the cans for the aluminum recycling refund, you would have $214.00. Based on the above, the best current investment advice is to drink heavily and recycle
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Investments with a two-three year perspective can be considered in the initial public offering of Titagarh Wagons (TWL). Our optimism stems from the opening up of business opportunities in the rail sector by way of setting up of dedicated freight corridors, participation of private players in rail logistics and the introduction of the wagon leasing scheme.
Titagarh Wagons appears well placed to ride this growing demand for wagons, given its established relationship with the Indian Railways (IR). At the price band of Rs 540-610, the stock is valued at about 15-17 times its likely FY-09 per share earnings on a diluted equity base. This is at a marginal discount to Texmaco, which trades at about 17 times its likely FY-09 per share earnings. This discount is justified as Texmaco commands a higher share in wagon supplies and has a more diversified business mix. Growth prospects notwithstanding, we would be more comfortable if the offer were priced at the lower end of the price band.
Railways, demand booster
The demand for wagons is set to increase given the Railways’ renewed focus on increasing its share of freight traffic. This is reflected in the latest Rail Budget, which aims to procure an all-time high of about 20,000 wagons for the coming year. While railway orders are generally procured only through an open tendering process, TWL’s already established relationship with the Railways and the expansion and de-bottlenecking of present capacities may lend it greater credence. Besides, TWL’s proposed entry into EMU (electric multiple unit) may also expand its potential market. It plans to invest about Rs 19 crore to set up the EMU unit, which will have the capacity to manufacture two rakes (nine EMU coaches) per month.
Revenue contribution from the Railways, one of TWL’s largest customers, has reduced over the years, despite an increase in the supply of wagons. This is because the Railways typically provides a bulk of raw materials as ‘free supply’ items to wagon manufacturers.
While this may dwarf the Railways’ contribution to wagon manufacturers’ revenue pie, Railway orders yield higher margin and provide greater flexibility in working-capital management. With a likely ramp up in Railway orders in TWL’s books, the latter may enjoy greater operational freedom.
Entry of 14 new private players in container rail logistics is also likely to keep the demand for wagons strong. Since these players are required to invest in their own wagons, the introduction of wagon leasing policy and investment scheme offers support.
The wagon investment scheme provides a 10 per cent rebate on normal freight charges to wagon owners and a guaranteed supply of rakes every month. The wagon-leasing scheme, on the contrary, allows third-parties to invest in wagons and lease them. These schemes, introduced to attract more private participation, may help keep the order books of domestic wagon manufacturers buoyant.
Strategic sourcing of components
TWL’s proposal to set up an axle machining and wheel set assembling plant appears strategic, given the supply constraints of domestic railways-approved wheel set manufacturers. With an investment of about Rs 13 crore, TWL plans to set up a unit to assemble wheel sets through procurement of loose machined-wheels and axles from global suppliers. This unit, which will have the capacity to assemble over 10,000-12,000 wheel sets annually, will give TWL better control over its cost and greater operational continuity.
TWL witnessed a compounded earnings growth of about 74 per cent during the last four years on the back of 57 per cent growth in revenues. Operating margins have also expanded from over 10 per cent in FY-03 to the current levels of about 17 per cent. Its order-book of about Rs 750 crore, with Rs 670 crore for the rolling stock division, also reflects the strengthening demand scenario.
However, since IR fixes the price of wagons on the basis of the lowest bid (L1) it receives, there is little scope for a drastic improvement in TWL’s realisations. This may be compensated by way of expansion in margins, considering the likely ramp up in IR orders and its backward integration initiatives.
Going forward, we expect the bulk of revenue growth to come from TWL’s wagon manufacturing division only. While its casting division may help on the margin front, the HEMM (heavy earth moving and mining equipment) division may take a couple of years to make significant earnings contribution.
The offer is open from March 24-27. Kotak Investment Banking is the book running lead manager. The company plans to raise about Rs 126 crore through a combination of fresh issue of shares and offer for sale by the promoters.
A sharp reversal in its stock price from Rs 161 to Rs 91 makes Idea Cellular a good investment for those looking to add a large-cap stock to their portfolio. Investments with a 18-24 months’ horizon can be considered in the stock. At Rs 91, the stock trades at 24 times its current earnings and 19 times its estimated FY-09 earnings.
With earnings and subscriber growth rates comparable to its top-tier listed peers, the stock may deliver reasonable capital appreciation. Robust subscriber additions and improving performance in its three new circles, benefits accruing from the Indus Towers stake and the recent allocation of spectrum, which will enable an entry into the high ARPU (average revenue per user) Mumbai circle, make Idea strongly positioned in the telecom services landscape.
Additions and network enhancement: Subscriber additions in Idea’s eight established circles continue to be strong. In many of these circles, Idea has been able to maintain its position as the top or second largest player in terms of subscriber base over the past year.
The company has managed to ramp up monthly subscriber additions from 6-7 lakh to an average of 8.5-9 lakh over the past two quarters, indicating increasing market penetration. In the three relatively new circles of operation — Himachal Pradesh, UP (East) and Rajasthan — Idea expects to become EBITDA-(operating profit) positive by mid-2008. The turnaround was originally expected by this quarter (March 2008). The company attributes this delay to network capacity-addition and doubling of the number of cell-sites.
Although this delay is undesirable, the cell-site addition will enable Idea to enhance its subscriber addition run-rate in these circles. Idea’s country-wide NLD (National Long Distance) rollout, which has coincided with its acquiring a national footprint, could help cost savings, as this enables it to carry inter-circle traffic on its own network, reducing carriage costs that are paid to other operators. The other positive from this network capability is the potential for garnering larger roaming revenues. Idea’s ILD licence win holds similar potential.
Idea has a hybrid model for its tower infrastructure — a combination of owned towers, those leased from other operators and from independent tower companies.
This arrangement may become more structured and generate further savings with the formation of Indus Towers — with Bharti Airtel, Vodafone Essar and Idea Cellular as the constituent players. Indus Towers will offer tenancy to third-party operators for a fee. Idea plans to transfer 9,000 towers to this entity. The venture covers 10 of Idea’s 13 service areas of operation.
This creates a more optimal cost structureand may facilitate a quicker rollout of services for Idea. This becomes important in rural or even dense urban areas where locating new cell-sites may face technical and profitability challenges.
Entry into new circles
Idea’s license win to commence operations in Mumbai and Bihar circles and the recent allocation of 4.4 MHz spectrum for the same, hold promise. Mumbai is the highest ARPU-generating circle in the country along with Delhi and holds potential for improving Idea’s realisations. Though penetrating Mumbai may not be easy, two factors could help Idea in its Mumbai foray.
First, the time involved in the rollout of services may be expedited with the existing tower infrastructure offered by Indus Towers.
Second, with mobile number portability on the anvil, any churn in subscriber base for existing operators in Idea’s newer circles of operation, may work in its favour.
In a circle such as Bihar, the mobile penetration is still not substantial and represents an untapped market for Idea. Mumbai operations are expected to commence in the July-September quarter.
Idea has also won licences for nine new circles, but the spectrum is yet to be allocated for commencement of operations. When this is done, Idea will be a national player. This may happen over the next couple of years only.
The 3G policy, expected to be announced during the course of this year, will allow operators to offer high-end voice, data and video services at faster throughput. If this comes through, it may stem the fall in ARPU for most top operators.
The industry-wide phenomenon of falling ARPU poses a threat to overall revenue growth in the near future, thanks to offers such as ‘lifetime recharge’ and ‘Chota’ recharge.
As Idea and other operators tap the ‘bottom of the pyramid’, newer subscribers may come in with lower ARPUs. But this risk is somewhat mitigated for Idea, as it is yet to make an entry into nine circles, which offers scope for higher APRUs.
Strict spectrum allocation norms may pose constraints to subscriber additions. Mobile number portability may also cause a churn of subscribers from Idea’s network.