Monday, March 17, 2008

Good Value Stocks to pick in the falling market

ICICI Bank
Research: JP Morgan
Rating: Overweight
CMP: Rs 893

ICICI Bank’s top management has clarified that it does not have any direct exposure to subprime-related assets. The bank’s exposure is mainly in the form of collateralised debt obligations (CDOs) or credit linked notes (CLNs), the underlying assets of both ICICI Bank and its overseas banking subsidiaries. ICICI had already provided for a substantial 72% of this loss up to December 31, ’07. It expects to provide for the balance in this quarter (these values are estimated as on January 31, ’08 and can change depending on how credit spreads behave up to March 31, ’08). The apparent confusion arose from two sources: a)

The subsidiary exposure, which was not/under-estimated; and b) The marked-to-market loss on its fixed income investment portfolio. These amounts are too small to create any permanent economic damage (about 2.5% of the parent’s book value).

In fact, if they are held to maturity and remain credit-worthy, most of these provisions are likely to be written back. The market’s reaction to the news seems to be overdone, with the parent bank now trading at a 10% discount to JP Morgan’s fair value multiple of 1.9x book and implying zero value for its life and securities businesses - which is an extreme scenario. JP Morgan believes it is time to buy at these very cheap valuations, given upcoming branch openings, medium-term improvement in low-cost deposit mix, tapering off of non-performing loans (NPLs) and bottoming out of retail growth.

Suzlon Energy
Research:Morgan Stanley
Rating:Overweight
CMP:Rs 247

While the one-time provision for write-down of Rs 100 crore for strengthening of Suzlon’s Energy’s blades for its 2.1-mega watt turbine will wipe out 8% of the company’s FY08 earnings (if it were not one-time), Morgan Stanley believes the market is more concerned about the issue becoming a recurring expenditure.

The revised price target of Rs 450 implies a 79% return from current levels, reflecting Morgan Stanley’s belief in the company’s strong growth story, backed by its vertically integrated business model. Suzlon Energy had written off Rs 19 crore in the third quarter of FY08 to replace 34 blades of its 2.1-mega watt turbines installed in the United States.

The company plans to take a further provision of Rs 100 crore in the fourth quarter of FY08 to strengthen 1,251 blades - the entire inventory of the 2.1-mega watt turbines, including those installed across the world and currently on hand. The market has overreacted on fears that the provision will become a recurring expenditure.

While the provision may become a recurring one, its quantum is expected to reduce significantly in FY09-10E. The company’s upcoming call with the investing community will address some of the market’s concerns regarding the quantum of recurring expenditure. Morgan Stanley expects strong results in the fourth quarter of FY08, driven by Suzlon Energy’s continued robust sales growth.

Birla Corporation
Research:Religare Securities
Rating:Buy
CMP:Rs 210

Religare Securities initiates coverage on Birla Corporation with a ‘buy’ rating and a target price of Rs 335. At the current market price, the stock is trading at a huge discount to the replacement cost of $100 per tonne, compared to its peer group and to recently-concluded merger & acquisition (M&A) deals. Apart from cheap valuations, the following key points also add to Religare’s ‘buy’ argument: 1)

The company’s expansion of capacity by 1.7 million mtpa will increase the installed capacity to 7.5 million mtpa by March ’09 and add to its volume growth; 2) Strong free cash flow generation will further strengthen the company’s balance sheet and financials; and 3) Revenues and profits will witness a compound annual growth rate (CAGR) of 10% and 17%, respectively, over FY07-FY10E. Birla Corp’s expansion of cement capacity by 1.7 million mtpa is expected to be commissioned by March ’09 in two phases.

The company is upgrading its kiln and pre-calcinising unit, and setting up new vertical roller mills (VRMs) to increase capacity. It is likely to announce new greenfield capacities of approximately 2.5 million mtpa to achieve its target of 10 million mtpa by ’10. The company holds limestone reserves through its 100% subsidiary, Lok Cement, in district Kadapa, Andhra Pradesh.

This will increase Birla Corporation’s cement despatches by 7.6% and 19% in FY09E and FY10E, respectively. The stock trades at a one-year forward priceto-earnings (P/E) multiple of 3.7x and EV/EBITDA of 2.6x. Asset valuations of $36 per tonne FY09E are much lower than the replacement cost of $100 per tonne, compared to its peer group of the same size and recently-concluded M&A deals.

Ultratech Cement
Research:HSBC
RAting:Overweight
CMP:Rs 849

HSBC reiterates ‘overweight’ rating on UltraTech Cement and maintains a target price of Rs 1,300, implying a potential total return of 44.4%. UltraTech’s 4.9-mtpa capacity expansion in Tadapatri (Andhra Pradesh) and phase I of its captive power plant in Gujarat are on schedule and likely to be commissioned in Q4 FY08. The company plans to spend Rs 3,300 crore over the next three years for capacity expansion, decongestion and setting up a captive power plant. HSBC expects significant volume growth due to new capacity expansion. UltraTech’s performance has improved, as indicated by its year-to-date results. While most cement companies faced cost pressures, UltraTech’s total operating cost increased by just 10%, resulting in significant margin expansion.

This trend is likely to continue, with the commissioning of its captive power plant in the next two years. HSBC maintains its FY09 forecast and uses 7x EV/EBITDA FY09E derived from the historical trading range to set its target price at Rs 1,300. Under HSBC’s research model, for stocks without a volatility indicator, the neutral band is 5 percentage points above and below the hurdle rate for Indian stocks of 11.3%. For Ultra-Tech, this translates into a neutral band of 6.3-16.3% around its current share price.

Tata Steel
CMP: Rs 773
Target Price: Rs 1,038

HDFC Securities has given a ‘buy’ on Tata Steel on expectations of economies of scale and growing steel demand. According to the brokerage, the valuations are compelling with increased integration milestone achievements and a bullish outlook on steel prices. It expects the demand for steel in Asia and Europe to grow at 4.8% and 1.4% compound annual growth rate (CAGR) respectively.

“Steel prices are expected to remain firm due to high raw material prices and rising supply constraints. Supply constraints in terms of poor port facilities at Australia and Brazil and high freight rates, will also keep the prices firm,” says the brokerage in a note to its clients.

Additionally, the synergies from the Corus acquisition is expected to start reflecting from financial year 2009, coupled with a reduction in concerns on financial leverage. Key risk factors include increased environmental awareness and exchange rates movements.

Allied Digital
CMP: Rs 697
Target Price: Rs 1,200

Broking house JP Morgan has initiated coverage with an ‘overweight’ on Allied Digital (ALDS). “ALDS is a play on the strong domestic demand for IT services with more than 90% of its revenues coming from India. We expect the stock to deliver more sedate gains over the next 9-12 months, backed by high growth potential and management’s decent execution track record,” the brokerage said.

Indian domestic IT services is a $5 billion industry. It is expected to grow at a CAGR of 23% over the next five years to over $10 billion. JP Morgan believes the domestic IT exposure shields ALDS from concerns about a US slowdown, rupee appreciation and expiry of STPI tax benefits in FY10. The key drivers would be strong financial performance and possible acquisitions, using a part of the IPO proceeds, along with increased capacity utilisation of its remote IT management centres.

BHEL
CMP: Rs 2,026
Target Price: Rs 2,529

Citigroup has reiterated its ‘buy’ on BHEL, but with a downward revision in price target as it feels that its operating leverage which is largely over and the cost reduction efforts are working against it. “BHEL expanded EBIT margins from 0% in FY01 to 18% in FY07 and right-sized its workforce from 75,000 to 42,000 in four successive voluntary retirement schemes (VRS) from 1999 to 2003, cutting down operational costs and benefited from operating leverage,” said the brokerage in a note to clients.

Capital goods companies significantly expand margins when there is spare capacity and sales grow at a rapid pace benefiting from operating leverage.

“We believe that there is great likelihood of BHEL’s earning before interest tax (EBIT) margins peaking in FY08E. Once this happens, earnings growth has to largely track sales growth and will not benefit from operating leverage benefits,” it adds. The brokerage, however, terms BHEL its top pick in the Indian electric equipment rated universe.

Container Corp
CMP: Rs 1698
Target Price: NA

Merrill Lynch has retained its ‘sell’ recommendation on Container Corporation of India on not so attractive valuations, given muted growth prospects. However, the company does have some huge capex plans.

“We are raising earnings per share (EPS) driven by upward revision to volumes and lower margin erosion. Still, we expect muted 12% EPS compound annual growth rate (CAGR) over FY08-10, compared with 9% growth this year,” said the brokerage. The company is yet to finalise its scaled up capex plans of Rs 40 billion (from Rs 20 billion), to be spent over the next three years.

The brokerage believes that this will be largely directed towards initiatives across the value chain and through joint ventures, which will protect existing volumes and reduce project risk. However, the uncertainty and lag effect of benefits could impact stock performance. It believes that the stock is not attractively valued on traditional parameters, even though the stock trades at 13 times its one-year forward PE multiple.

Emkay's Picks: Elder Pharma, Sintex, Kalindee Rail Nirman

Emkay Share and Stock Brokers has initiated 'buy' on Elder Pharma for target price of Rs 535. Unlike its peers, Elder chose the in-licencing model over manufacturing of generic versions of patented molecules, which has helped it build high credibility in the international space.

The company expects more in-licensing deals going ahead to enhance product portfolio and drive growth. The recent acquisitions of NeutraHealth and Biomeda are strategic decisions to increase its global reach and the benefits of these initiatives will be seen over the next two to three years.

Emkay expects total exports to grow at CAGR 69.4 per cent over FY07-FY10E. Moreover, these acquisitions have created additional CRAMs opportunity for the company. Also, Elder is on its way to generating substantial cost savings by shifting its manufacturing activities to tax-free zones of Uttaranchal and Himachal Pradesh.

Emkay expects operating margins to improve by 200 basis points from 17.4 per cent in 2006-07 to 19.4 per cent in FY10E. It expects Elder to report strong growth in revenues at CAGR 27 per cent during FY07-FY10E. The brokerage expects the company to record net profit growth at CAGR 34 per cent during FY07-FY10E.

At the market price of Rs 375, the scrip discounts FY09E EPS of Rs 44.6 by 8.8x and looks attractive for long term investment.

Sintex Industries

Emkay has initiated ‘buy’ on the stock for target of Rs 860. Having pioneered the "Plastic Water Tanks" in India, Sintex Industries has moved ahead to providing turnkey solutions like prefabricated structures, monolithic construction, custom molding for the auto & power sectors.

The major thrust of the government on rural housing, health & sanitation infrastructure coupled with increasing investment in telecom infrastructure holds good for the company.

Sintex is also benefited by the increasing use of plastic moldings for automobiles. The company also has a textiles division focused on premium segment which continues to provide steady cash flows to the company.

Emkay is positive on the company's strategy of innovating products in order to meet its market demand. Sintex is also undertaking growth through organic & inorganic route which will lead to increase in market share & entry into new markets.

The brokerage expects Sintex’s revenues and profit after tax for the period FY07- FY10E to grow at a CAGR of 55 per cent & 66 per cent respectively.

Kalindee Rail Nirman

Emkay has initiated ‘buy’ on Kalindee Rail for a price target of Rs 592, an upside of 48 per cent from current levels. Kalindee Rail Nirman, whose fortunes are closely linked to the infrastructure spends of the Indian railways, is on the fast track to growth. The ambitious capital expenditure plans of the Indian Railways have presented the company with a huge Rs 300 billion opportunity.

The upgradation of existing rail network, dedicated freight corridor, plans to set up metro rails and orders from private players to provide linkages are likely to ensure a fat order book for Kalindee Rail Nirman in the years to come, says Emkay.

At present, the company has an order book of Rs 500 crore with new orders worth Rs 300 crore to flow in over the next six months. Emkay expects the company to post 63 per cent and 88 per cent CAGR in revenues and profits respectively during FY07-10E period. The brokerage expects fully diluted EPS of Rs 10.1, Rs 23.6 and Rs 49.3 in FY08-10E.

Motilal picks: Maruti Suzuki, M&M, Tata Motors, Bajaj Auto, Hero Honda, TVS Motor

Motilal Oswal Securities has maintained ‘buy’ on Maruti Suzuki. The company reported growth of 1.3 per cent in February 2008 sales to 63,822 units. Domestic volume growth was flat at 0.4 per cent; volumes were 59,311 units. However, export growth momentum remained robust, as sales increased 15.5 per cent year on year to 4,511 units.

During February 2008, sales growth in most segments was negative, except for the volume driver A2 segment (plus 2.7 per cent year on year) and the A3 segment (plus 8.9 per cent year on year).

Motilal believes that the lower domestic growth was due to postponement of purchases following expectations of excise duty reduction in Budget 2008. The brokerage expects strong volume growth from March 2008 onwards, boosted by the excise duty reduction from 16 per cent to 12 per cent on small cars (constituting 77 per cent of MSIL’s product portfolio).

Motilal believes that the reduction in the excise duty may lead to volume upgrades due to robust domestic demand. Currently, the brokerage expects MSIL to register volume growth of 16.1 per cent in 2008-09 and 16.5 per cent in 2009-10. The stock trades at 13.1x FY08E EPS of Rs 66.7, 11.4x

FY09E EPS of Rs 76.8 and 9.9x FY10E EPS of Rs 88.6.

Motilal estimates that the price reduction would average Rs 10,120 per car for MSIL.

Mahindra & Mahindra

Motilal has maintained ‘buy’ on the stock. M&M reported volume increase of 13 per cent year on year in February 2008 to 23,446 units (excluding Logan). Inclusive of Logan sales, volumes have increased 26.3 per cent year on year.

UV sales growth recovered strongly after two consecutive weak months in December and January, increasing 39.1 per cent year on year to 13,858 units. Scorpio sales increased by 28 per cent, non-Scorpio UVs by 34 per cent and exports by 170 per cent.

In passenger cars, Logan sales were also impressive at 2,751 units (plus 19.6 per cent month on month). However, tractor sales continued to disappoint, declining by 6.9 per cent year on year to 6,522 units; both domestic sales and exports declined by 7 per cent each. Three-wheeler volumes were also disappointing, declining by 22.8 per cent year on year to 2,347 units.

With several growth drivers for the company over the next few years coupled with attractive valuations, Motilal remains positive on M&M. The brokerage expects volume growth of 7.5 per cent and 6 per cent in 2008-09 and 2009-10 respectively for tractors, and 11 per cent and 10 per cent in 2008-09 and 2009-10 respectively in UVs.

While the agriculture sector growth is expected to be lower at 2.6 per cent in 2007-08, Motilal believes that the budget offers positives for the sector in terms of increased agricultural credit (Rs 2,400 billion by March 2008, target of Rs 2,800 billion by 2008-09) progress in Bharat Nirman, focus on water resources, and the debt waiver and debt relief scheme for farmers.

This is positive for tractor companies like M&M and Punjab Tractors. Their tractor volumes may see an upside from the continued agricultural and rural sector focus seen in the recent budget. The stock trades at 10.9x FY08E EPS of Rs 62.5, 9.2x FY09E EPS of Rs 74.7 and 7.9x FY10E EPS of Rs 86.9.

Tata Motors

Motilal has maintained ‘buy’ on the stock. Tata Motors reported total volumes of 54,181 vehicles for the month of Feb (plus 0.9 per cent year on year but lower 1.1 per cent month on month). Medium and Heavy Commercial Vehicles volumes were robust at 17,814 units (plus 0.6 per cent year on year and plus 7.9 per cent month on month); these are the highest monthly M&HCV sales in 2007-08.

Domestic M&HCV sales growth was also higher at 3.6 per cent year on year. Light commercial vehicles continued to witness robust volumes,

increasing by 29.5 per cent year on year, domestic LCV growth was 25 per cent. Total domestic commercial portfolio grew 12.8 per cent year on year in February 2008.

Passenger cars declined 19.4 per cent year on year, while UV sales were higher by merely 0.7 per cent year on year. The growth rate in passenger cars may have been impacted due to budget expectation of an excise duty cut. Tata Motors has announced price reductions in the range of Rs 8,500 - 15,300 on the Indica and Indigo CS after the Budget.

Motilal expects the passenger car industry to register a healthy growth rate in the coming months due to incremental demand from lower excise duty rates and increased disposable incomes following reduction in personal tax rates and higher slabs. The stock trades at 13.4x FY08E EPS of Rs 51.9, 11.6x FY09E EPS of Rs 59.6 and 10.3x FY10 EPS of Rs 67.4.

Bajaj Auto

Motilal has maintained ‘buy’ on the stock. Bajaj Auto reported volume decline of 9.1 per cent year on year in February 2008 to 183,807 units, with

disappointing volumes in all the segments. Motorcycle volumes declined by 7.6 per cent year on year to 158,662 units, while three wheelers sales were lower by 13.2 per cent year on year to 24,299 units.

However, export growth was robust at 65 per cent year on year to 63,182 units. The company has stated that 3-wheeler demand is lower due to poor domestic demand, but exports are expected to compensate for volumes. In motorcycles, the company has seen strong sales in its +125cc portfolio comprising of XCD, Discover, Avenger and Pulsar.

The company estimates that the 100cc saw a 13 per cent decline in volumes, while sales in the +125cc segment were stable, leading to a decline of 10 per cent in the motorcycle industry. The management has given guidance of positive overall growth for 2008-09 owing to the twin focus on bigger motorcycles and international markets.

Motilal believes that the lower domestic growth may be partially due to postponement of purchases following expectations of excise duty reduction in Budget 2008. The brokerage expects volumes to be boosted by the excise

duty reduction from 16 per cent to 12 per cent and it expects volume growth of 10 per cent in 2008-09 and 8 per cent in 2009-10 in motorcycles.

Motilal believes that the reduction in the excise duty may lead to volume upgrades due to robust domestic demand, thereby providing an upside to their estimates. The brokerage has lowered their volume estimate for BAL in 2007-08 and expects motorcycle volume decline of 8 per cent in 2007-08 (previous estimate decline of 5.5 per cent. EPS estimates stand reduced by 1.5 per cent and 0.9 per cent respectively for 2007-08 and 2008-09. The stock trades at 17.5x FY08E EPS of Rs 128.9, 14.9x FY09E EPS of Rs 151.1 and 13.4x FY10E EPS of Rs 167.7.

Hero Honda

Motilal has maintained ‘buy’ on the stock. Hero Honda has reported a volume decline of 5.4 per cent year on year in its sales for February 2008 to 265,431 units. Sales in YTD 2007-08 have declined marginally by 1.4 per cent year on year.

Hero Honda has announced a price decline in the range of Rs 1,000-2,400 after the excise duty cut in the budget. The company has said that it expects sales to improve post the reduction in the excise duty, and has passed on the entire benefit of the duty reduction to the customers.

Motilal expects volume growth of 8.6 per cent in 2008-09 and 8.1 per cent in 2009-10. A positive response to the lower excise duty rate may result in an upside to the brokerage volumes estimates for 2008-09 and 2009-10, while further extension of the credit squeeze provide a downside risk to the same. The stock trades at 16.7x FY08E EPS of Rs 46.2, 14.6x FY09E EPS of Rs 53.1 and 13.2x FY10E EPS of Rs 58.4.

TVS Motors

Motilal has maintained ‘neutral’ on the stock. TVS Motors reported 20.7 per cent year on year decline in its February 2008 sales to 95,235 units. The decline was again led by lower motorcycle sales (-34 per cent year on year) to 46,565 units. However, on a month on month basis, motorcycle sales increased by 19 per cent.

Scooter sales declined 29 per cent year on year to 14,126 units. However, moped sales were robust at 34,544 units ( plus 15.1 per cent year on year). Exports increased by a robust 56.2 per cent to 12,523 units.

TVS plans to relaunch the much delayed Flame with a new engine this month; this might provide respite to the declining motorcycle volumes. The management has reiterated that its volumes have been negatively impacted by restricted availability of retail finance, high interest rates, stringent norms being followed by financers and non-availability of the 125cc Flame due to legal reasons. The stock trades at 16.5x FY09E EPS of Rs 2.6 and 13.1x FY10E EPS of Rs 3.2.

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