Sunday, May 31, 2009
Investors with a two-year horizon may buy the shares of Redington India, an IT hardware and software distributor.
The company has potential for scaling up its sales in high growth markets of India, West Asia and Europe, even in a slowing global economy. Given the sharp rise in markets, investors may consider buying the stocks in a phased manner to capitalise on declines linked to broader markets. At Rs 230, the stock trades at 10 times its likely 2009-10 per share earnings.
In the recent March quarter, Redington’s revenues grew by 7.7 per cent over the same period in 2008, while net profits grew by 18.3 per cent over the same period.
Improving trends in IT hardware shipments, diversification from sales of electronic goods, and expanding after-sales services offer scope for revenue growth, while helping margin expansion. After two successive quarters of decline in hardware shipments around the world, sales growth is just starting to revive in the March quarter, especially in India, West Asian and African regions.
According to a recent IDC report, personal computer shipments in India have increased by 7 per cent sequentially in the recent March quarter. Further, hardware and software sales are likely to be to the tune of Rs 63,703 crore (7.1 per cent growth over 2008) and Rs 11,300 crore (17.4 per cent growth) in 2009.
This is expected to be led by Government spending on IT enablement, especially in schools and colleges, e-governance projects, and banking sectors. With the new Government in place, a continuity of policies is expected in these areas.
IDC pegs the Middle-East and African IT markets to be worth $80 billion by 2012, up from $51 billion in 2008. Other research agencies such as TPI also point out the increasing average contract values in the West Asian region.
Redington with a near 50-50 revenue split between India and the EMEA region, given its partnership with all global majors in the IT hardware and packaged software space, appears well placed to capture a substantial share of the pie.
The company has also diversified into selling non-IT products such as cameras, consumer-durables, and mobile-phones. Redington has tied up with Nokia to distribute the latter’s mobile phones in Africa. Given the relatively under-penetrated African market and the interest shown by several operators such as Bharti Airtel, Vodafone and several Chinese operators in having a larger footprint there, this partnership could be quite fruitful to the company.
Redington also has also started a chain of after-sales service and repair centres to capture revenues from services as well.
Competition from well-entrenched distributors such as Ingram Micro and the resulting pricing pressure is a key risk to this recommendation. Given the capital intensive nature of business, interest costs have increased by 35.8 per cent for the company in 2008-09, but due to margin expansion, the interest cover has been stable.
Fresh investments can be considered in the stock of Shriram Transport Finance Company (STFC), which is among the leading asset financing (commercial vehicle financing) NBFCs in India.
The company delivered robust earnings growth (57 per cent for FY-09) despite the slowdown in new truck demand thanks to its significant presence in pre-owned truck financing.
At the current market price of Rs 288, STFC trades at 10 times its historic earnings and 2.5 times its FY-09 book value. At these valuations, it trades at a premium to smaller asset financing companies such as SREI Infra, Mahindra Finance and Sundaram Finance.
Better-than-industry spreads (7.17 per cent) and profitability ratios (ROE 30 per cent, ROA 2.7 per cent), presence in under-penetrated pre-owned truck segment and few listed competitors, country-wide presence are key positives for the company.
STFC claims a 20-25 per cent market share in the pre-owned truck finance market. In addition, STFC has a market share of 7 per cent in the new truck market.
Loan book mix
Almost three-fourth of the total assets under management (loan book and securitized assets put together) is contributed by pre-owned trucks and the rest 25 per cent by new trucks. The book for STFC has grown at 53 per cent CAGR in the period 2005-2008.
However, STFC did not mange to grow at same rate in FY-09 owing to the slowdown in various sectors; the loan book growth rate was still robust at 20 per cent in FY-09. Almost 23 per cent of assets have been securitised.
The securitised portfolio is bought by banks and institutions to meet their priority sector lending targets. Offloading a part of portfolio will allow them to lend more to the sector.
To fund its lending, the borrowing profile of STFI has shifted from retail deposits to bank/institution borrowings over the past four years.
The share of retail borrowing has come down from 73 per cent in FY05 to 15.7 per cent in FY-09 which helped in reducing the cost of funds.
The net interest margin of STFC fell from 7.77 per cent to 7.16 per cent in a year. However, the margins are high relative to most other FIs and appear sustainable due to high yields on pre-owned vehicles. Falling interest rates may help improve the margins for STFC, as it may source funds at lower rate (benefiting from a reasonable credit rating), while yields may not fall significantly due to high risk attached to the truck segment.
Net profit of STFC grew at 57 per cent for 2008-09 on the back of high growth in net interest income growth (35 per cent) and income from securitisation (104 per cent). Fall in net interest income can be attributed to contraction in margins. Employee expenses and other operating expenses have grown at more than 50 per cent pulling down the operating profit growth. Gross NPA/advances rose 1.6 per cent in FY-08 to 2.1 per cent in FY-09. STFC’s provisions for bad debts grew by 24 per cent, helping the company bring down its NNPA proportion to 0.8 per cent from 0.9 per cent in FY-08, despite increase in gross NPA.
The company’s loan-to-value of 65 per cent, offers comfort. It also gets internal valuation done for the truck, which will help it ascertain the true value of the truck. A strong countrywide network aids recovery.
Apart from truck financing, the company has forayed into tractor financing, small CV and passenger CV financing, providing possible diversification. The RBI’s recent circular making it easier for lenders to repossess assets in case of default will benefit the company significantly.
In the current slowdown, STFC is going slow on loan disbursals. The disbursement remained flat during the year. The company has Rs 5,300 crore in the form of cash and bank balances, which it is yet to lend; this may be a reflection of cautious lending. It also plans to raise another Rs 1,000 crore in the form of NCDs, taking care of liquidity for the time being.
The higher spreads that STFC enjoys reflects the higher risk profile attached to its borrowers. That suggests that higher slippages are possible if the slowdown persists. Issues such as over capacity, fall in export/import freight and industrial product carriers have not affected STFC for now as most of its clients (the older trucks) carry es0sential commodities, but given the classification of assets as NPAs only after 180 days past due, the true picture would be known only in the coming quarters.
Tata Motors is in a phase that cricket commentators would call consolidation — that is, the period where the side chasing runs rebuilds its innings after the fall of a couple of quick wickets. The company is slowly but surely picking up the threads once again and assuming that the overall domestic economy gets back on rails and there are no more shocks hereon, the company should be back in the chase by the end of the third quarter of this fiscal.
The biggest worry remains Jaguar Land Rover, its falling sales and rising debts.
Shareholders can continue to hold the stock, trading at Rs 337, given the incipient signs of recovery. However, fresh buying can be put off till the signs of revival become stronger and commercial vehicle (CV) demand begins to show firm growth signs. The stock has more than doubled since March and a rise in valuation from hereon will depend on the sustenance of the market recovery.
Emerging from the wilderness
Sales of commercial vehicles, the bread-and-butter business of TML, literally fell off a cliff in the October-December ’08 quarter (drop of 46 per cent compared to the same period in the earlier year). However, the period since then has seen an improvement with monthly volumes returning to levels that prevailed in the first half of 2008-09.
The credit goes largely to the stimulus measures announced by the Government; excise duty rates on commercial vehicles were reduced while depreciation rates were increased to 50 per cent. This coupled with the gradually easing credit markets and lower interest rates helped put commercial vehicle demand on the recovery path once again. Every month since December 2008 has been better than the previous one with March seeing the highest commercial vehicle sales in 2008-09.
The industry’s troubles, however, have left deep scars on TML’s performance in 2008-09. The earnings picture would have been bleaker were it not for some generous help from the government directive on accounting for foreign exchange transactions which buttressed profit by Rs 418 crore, net of tax. Also buoying the bottomline was a profit of Rs 520 crore on sale of long-term investments during the year. Yet, despite its troubles, the declaration of a Rs 6 per share dividend (face value of Rs 10 per share) is a sign of the company’s confidence and the comfortable liquidity position that it is now in.
The CV market is beginning to show the first signs of a recovery. Demand is growing again in the light commercial vehicle (LCV) segment but heavy commercial vehicles are yet to see return of interest. Indeed, TML’s Uttarakhand plant, which produces the Ace light commercial vehicle, is running close to capacity. This is good news as the Ace enjoys the highest margins among all of TML’s products.
Liquidity in the market is improving even as interest rates at the borrower level are gradually beginning to soften. The critical aspect for return of truck buyers will be a sustained revival in the manufacturing sector, which has been sending out mixed signals in recent months.
The prediction of a normal monsoon is encouraging for CV demand which is driven by sentiment. With export-related cargo down to a trickle, fleet operators will be looking to a bountiful harvest for business.
There is reason to be optimistic on the costs front as commodity prices are way off their highs. TML says that it expects raw material costs to soon return to levels that prevailed in early 2008.
The company is gradually rebuilding its finances which were in disarray following the Jaguar Land Rover (JLR) deal. While a part of the bridge loan taken to fund the JLR deal has been paid off by the Rs 4,200 crore bond issue made on favourable terms, the balance of $1 billion has been rolled over for another 18 months.
The bonds may push the debt:equity ratio close to 1.3:1 from 1:1 at the end of 2008-09 but it will still be at a comfortable level. With capital expenditure scaled down, the company will be looking to fund its requirements from internal accruals as much as it can.
TML is maintaining a tight inventory position of just over two weeks which means that working capital will not be strained. It has also embarked on a programme to shave Rs 1,000 crore off costs in the next three years.
Cost control is in the DNA of the company and was a vital factor in its turnaround after posting a loss early this decade.
As the market gradually recovers, orders for buses from state transport corporations under the Jawaharlal Nehru National Urban Renewal Mission will provide the much-needed cushion in the next three months.
TML’s passenger car business was hit more than that of competition as the bulk of Indica’s demand comes from the taxi segment which has been hit by the slowdown in sectors such as IT and BPO. There is relatively lesser worry on the cars front and an economic recovery will see the return of buyers.
Amidst the encouraging signs, one big spot of worry is JLR. North America and UK account for about half of JLR’s sales and the recession in these markets has hit business hard.
Tata Motors, which will put out a detailed report on the JLR business in a month’s time, says that things are beginning to improve. Among its other markets, China is said to be doing significantly better now while Russia is just about recovering. The West Asia market continues to be challenging.
JLR was bought debt-free, but its loans have already crossed $1 billion in the last one year. Given the change in mileage and emission regulations in the US and Europe, JLR has to invest in product development and technology if it is to remain competitive.
Given the downtrend in JLR’s revenues, TML may find itself either pumping more money into JLR or guaranteeing its loans. This could be tricky, especially if conditions in the domestic market do not improve.
That brings us to the final risk that TML faces — delay in CV demand recovery. Though overall signs are promising, if CV demand fails to take off by the end of this calendar year, TML could find itself in a spot. That would be somewhat like the fall of a couple of more wickets just when the run-chase has been put back on track.
The stock of JK Lakshmi Cements looks an attractive buy in the mid-cap cement space at the current price of Rs 98. The stock trades at just three times its trailing four quarter earnings when some of its peers are at over six times (Prism Cements’ PE six times, Binani Cement’s PE eleven times and Dalmia Cement’s PE seven times).
There is a promise of upside from the current level given the company’s capacity expansion plans (a 2.7-million-tonne green-field plant) and its established client and dealer network. JK Lakshmi Cement is the flagship company of the JK group.
Having commissioned its first unit in Sirohi, Rajasthan, in 1983, the company holds a 10 per cent market share in Rajasthan and Gujarat. The company’s product mix includes blended cement, ready-mix-concrete (RMC) and plaster of paris.
Western and Northern India, the two regions served by the company, are expected to see good consumption growth on the back of the work for the Commonwealth games in Delhi and order inflows from government-funded projects in Maharashtra.
Further, the return of the UPA government at the Centre has given rise to hopes that the golden quadrilateral project under the National Highways Development programme, which suffered setbacks in the period between 2004 and 2008, will be expedited. Recent initiatives by the Cabinet Committee of Economic Affairs to allow highway developers to seek higher viability gap funding from the government may fasten the pace of completion of these projects and bolster cement demand. The RMC business may be a key beneficiary.
JK Lakshmi Cements is one of the few mid-sized players to have 11 RMC plants with a combined capacity of five lakh cubic metres; it has participated in the Indira Gandhi Nahar (IGN) and Golden Quadrilateral project.Demand should not be a concern for the company as it has an established client base, with leading infrastructure builders such as L&T, Delhi Airport Authority, Essar Refinery, Reliance, Hindustan Construction Company and Raj West Power (a subsidiary of JSW Energy) among its clients. The brand is distributed by over 1,500 dealers across North and West India.
The company has recorded a strong 18 per cent growth in sales in the March quarter of 2009 supported by an equivalent volume growth and stable prices.
Investments that will pay-off
The past March quarter saw JK Lakshmi Cement’s cement capacity expand 30 per cent through addition of a 0.55 million tonne grinding unit at Sirohi in Rajasthan and another 0.55 million tonne grinding unit at Kalol near Ahmedabad.
The company has begun acquiring land for its 2.7 million tonne (mt) green-field plant at Chattisgarh. The estimated outlay for this project is Rs 1,100 crore and is to be financed by a mix of debt and internal accruals. The debt outstanding in the company’s balance-sheet as on March 31, 2009 was Rs 700 crore and the debt-to-equity stands at a moderate 0.9.
To make cost savings, the company is setting up a 12 MW waste heat recovery plant at an outlay of Rs 125 crore. Till the December quarter end of 2008, 80 per cent of the company’s power requirements were met by its captive thermal power plants (36 MW).
But with power needs going up following the 1.1 mt addition to capacity in the March quarter, the company has tied up with a private power company to meet the additional requirements. This power, the company claims, is sourced at a cost lower than sourcing from the grid.
The company has been switching between coal and high calorie pet coke for fuel over the past year based on relative price parity. In the current fiscal, after negotiating lower pet coke prices with the suppliers, the company hopes to make fuel cost savings
Margins head-up after declining
The company’s operating profits for the recent March quarter was 31 per cent higher than the corresponding previous period. Increased volume, higher selling price and the savings in cost due to the fall in pet coke prices have aided margin expansion.
Operating profit margins for the quarter stood at 31.9 per cent, a 163 basis point expansion over the same quarter of the previous year.
However, for the full year FY-09, the company’s operating margin has still contracted by 453 basis points to 25.8 per cent due to higher fuel prices (up 25 per cent) and employee expenses (up 24 per cent). Operating profit margins stood well above 30 per cent in the preceding two years.
Investors with long-term perspective can consider buying Welspun India.
The structural down-trend from December 2004 peak in this stock halted at Rs 13 this February and a strong uptrend is in motion since then.
The monthly oscillators are beginning to signal a buy indicating a reversal in the long-term trend.
Long-term investors can accumulate the stock in declines with stop-loss at Rs 19. Though the stock can correct over the medium-term, this correction is expected to halt above Rs 20.
We expect the stock to rally up to Rs 70 over the next 12 months.
Medium-term investors can buy with the target of Rs 50 and with the stop at Rs 26.