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UBS Investment Research
India Market Strategy
Time to look at Mid Caps?
Indian market may have bottomed out—time to look at mid caps?
The BSE Small-Cap/Mid-Cap index have underperformed the Sensex by
19.5%/13.4% since 10 November 2010. Given most of the bad news such as high
inflation, fiscal worries, higher oil prices and negative earnings momentum seem
factored in, we believe it is time to look at selective mid-cap names. We profile
five mid-cap ideas (out of the 126 stocks under coverage) where the UBS India
research team has high conviction.
Attractively valued franchise businesses—Exide and Havells
Exide and Havells have strong franchise businesses with a strong brand,
distribution and industry outlook. We believe both stocks are attractively valued
given the earnings growth outlook and ROEs. Recent concerns should abate (Q3
margin pressure for Exide and Sylvania overhang for Havells), leading to a
rerating, in our view.
Power/Infrastructure: time for a relook—Lanco and Nagarjuna
Poor sentiment on the Infrastructure sector (worries on fuel supply, project
implementation, order flows) has led to underperformance by Lanco and
Nagarjuna. We believe current valuations imply limited downside and we have
stress-tested them. Further, there have been signs lately, led by provision of
clearances/fresh project awards, that ordering could pick up in a few sectors.
Deep value with significant upside potential—Jai Balaji
Jai Balaji's stock price has corrected on low volumes. We view the current share
price as attractive and does not even reflect the value of existing operations (based
on replacement cost, 5x FY12E PE and 0.8x FY12 P/BV). Coal resources and the
Purulia expansion provide significant long-term upside potential, in our view.
Exide (Buy, PT Rs162.00)
Exide is a market leader (70%+ market share) in a near-oligopoly automotive
battery market. We believe Exide is more akin to a consumer than an auto
component company. We estimate more than 80% of Exide’s earnings come
from the auto aftermarket and home inverter segments—where branding and
distribution are critical.
We believe its earnings sensitivity to any slowdown in OEM automotive
sales in FY12-13 is negligible as a bulk of its earnings comes from the
replacement market and home inverters. Q3 earnings disappointment should
also be behind us as new capacity comes onstream and price hikes
implemented in February 2010 in the auto aftermarket take effect. We
forecast an FY11-13 earnings CAGR of 23%, driven by a 19% CAGR in
revenue and a 270bp improvement in the company’s EBITDA margin.
We believe its share price is attractive at FY12E PE of 13x for the core
underlying business given: 1) our 23% FY11-13E earnings CAGR; 2) high
core FY11 ROE of 45%; and 3) a net cash balance sheet.
Havells (Buy, PT Rs465.00)
Havells India is a leading Indian consumer electrical goods company. We
believe Havells provides an attractive investment opportunity given robust
domestic demand for consumer durables and strong housing growth.
Additionally, Havells could benefit from the continued launch of new
products, which could provide upside to our estimates.
The company has demonstrated an ability to gain market share and improve
profitability. Havells has a strong distribution network and its product
strategy is aimed at capturing a larger share of distribution channels.
We believe that over the next two to three quarters, investor concerns over
Sylvania would abate. We believe that post Q4 FY11, Havells will not infuse
cash from its domestic business into Sylvania.
Additionally, we expect Sylvania to report improvements in operating
performance in Europe on account of the robust demand environment in
Europe for lighting products as well as Sylvania’s continued efforts to
improve operating margins.
The stock is trading at 13.6x standalone FY12 PE. This does not include
upside from the Standard Electric (domestic switchgear) division (Standard
Electric reported PAT of Rs134m during 9M FY11; 9M EPS of Rs1.1) and
upside from a Sylvania turnaround. This is very attractive for a company
with 30% ROE and 20%+ EPS CAGR.
Lanco (Buy, PT Rs70.00)
We believe Lanco’s share price performance YTD has been affected by
general poor sentiment surrounding the Indian infrastructure sector, worries
around the Lanco’s changes in deprecation accounting policies, and concerns
on coal supply security and project implementation.
In our note ‘Lanco: Share price implying unlikely events’ dated 14 February
2011, we performed stress test valuations and concluded that the current
share price is implying either:
— that 65% of projects under construction will stall and the company will
have to bear debt and contract liabilities for them; or
— the coal-based projects are not contributing any value. We believe either
of these scenarios is unlikely.
We value Lanco as a conglomerate with power contributing 67% of
valuation and EPC 23%. We think the stock is very attractive and reiterate
our Buy rating and price target of Rs70. We derive our price target from our
sum-of-the-parts methodology.
On our earnings forecasts, the stock is trading at 9.4x FY12E earnings and
5.6x FY13E earnings.
Nagarjuna (Buy, PT Rs180.00)
Strong revenue visibility—Nagarjuna's order backlog at Rs173bn at the end
of 9M FY11 is 2.7x FY12E revenues. Further, there have been signs lately,
led by provision of clearances/fresh project awards, that ordering could pick
up in a few sectors such as power or roads. Nagarjuna will operationalise all
its existing BOT projects in the next few months and intends to bid for new
projects. Order inflow announcements are likely to improve sentiment and
drive stock performance, in our view.
Maintained margins—Nagarjuna has largely maintained its margins in 9M
FY11 on a YoY basis at 9.8% (compared with 10.2% in 9M FY10) and is on
course to achieve its guidance of 10% for FY11. We estimate stable margins
of 10% going forward.
Valuations are attractive—The core construction business is trading at about
7x FY12 EPS (excluding 1.) Rs20 per share of investments in BOT projects
at BV; and 2.) Rs17 per share of real estate investments at 0.5x BV, from the
current stock price). We expect an EPS CAGR of 15% over FY11-13 in the
core construction business and believe our assumptions have upside risk.
Jai Balaji (Buy, PT Rs450.00)
Jai Balaji's massive Purulia project and huge coal mines imply considerable
value creation ahead. The Purulia project is one of the largest steel projects
in India (5m mtpa steel, 1,200MW power), with 100% thermal coal
integration, to be executed in modules to address funding issues apart from
lending operational flexibility. Phase 1A of this project entails capex of
Rs18.7bn and comprises a 2m mtpa beneficiation plant, 1.2m mtpa pallet
plant, 0.66m mtpa sponge iron, 70MW power and 0.3m mtpa EAF.
The company has achieved financial closure for this phase 1A—we believe
this is a significant positive as it gives visibility on the monetisation of the
huge coal resources (700m tones) through this project. The mines are mainly
underground, and so present fewer land/environmental approval issues than
open-cast mines. With government policy changing from allocation to
auction, the value of this coal should become evident in future. The
company’s capacity has grown tenfold in the past seven years to 0.9m mtpa
steel and 111MW power.
EBITDA growth of 50% in FY10-13E will be driven by product mix
improvement (ductile iron pipes) and backward integration (coke oven). We
believe the Purulia expansion should drive strong earnings growth from
FY14E. We have factored Phase 1 of Purulia into our estimates and valuation
but not Rohne coking coal (16% potential upside to our valuation).
The stock has corrected on low volumes and now has deep value, in our view.
We believe the current share price is very attractive and does not even reflect
the value of existing operations (based on replacement cost, 5x FY12E PE
and 0.8x FY12 P/BV—a discount to peers). Coal resources and the Purulia
expansion provide significant long-term upside potential, in our view.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
UBS Investment Research
India Market Strategy
Time to look at Mid Caps?
Indian market may have bottomed out—time to look at mid caps?
The BSE Small-Cap/Mid-Cap index have underperformed the Sensex by
19.5%/13.4% since 10 November 2010. Given most of the bad news such as high
inflation, fiscal worries, higher oil prices and negative earnings momentum seem
factored in, we believe it is time to look at selective mid-cap names. We profile
five mid-cap ideas (out of the 126 stocks under coverage) where the UBS India
research team has high conviction.
Attractively valued franchise businesses—Exide and Havells
Exide and Havells have strong franchise businesses with a strong brand,
distribution and industry outlook. We believe both stocks are attractively valued
given the earnings growth outlook and ROEs. Recent concerns should abate (Q3
margin pressure for Exide and Sylvania overhang for Havells), leading to a
rerating, in our view.
Power/Infrastructure: time for a relook—Lanco and Nagarjuna
Poor sentiment on the Infrastructure sector (worries on fuel supply, project
implementation, order flows) has led to underperformance by Lanco and
Nagarjuna. We believe current valuations imply limited downside and we have
stress-tested them. Further, there have been signs lately, led by provision of
clearances/fresh project awards, that ordering could pick up in a few sectors.
Deep value with significant upside potential—Jai Balaji
Jai Balaji's stock price has corrected on low volumes. We view the current share
price as attractive and does not even reflect the value of existing operations (based
on replacement cost, 5x FY12E PE and 0.8x FY12 P/BV). Coal resources and the
Purulia expansion provide significant long-term upside potential, in our view.
Exide (Buy, PT Rs162.00)
Exide is a market leader (70%+ market share) in a near-oligopoly automotive
battery market. We believe Exide is more akin to a consumer than an auto
component company. We estimate more than 80% of Exide’s earnings come
from the auto aftermarket and home inverter segments—where branding and
distribution are critical.
We believe its earnings sensitivity to any slowdown in OEM automotive
sales in FY12-13 is negligible as a bulk of its earnings comes from the
replacement market and home inverters. Q3 earnings disappointment should
also be behind us as new capacity comes onstream and price hikes
implemented in February 2010 in the auto aftermarket take effect. We
forecast an FY11-13 earnings CAGR of 23%, driven by a 19% CAGR in
revenue and a 270bp improvement in the company’s EBITDA margin.
We believe its share price is attractive at FY12E PE of 13x for the core
underlying business given: 1) our 23% FY11-13E earnings CAGR; 2) high
core FY11 ROE of 45%; and 3) a net cash balance sheet.
Havells (Buy, PT Rs465.00)
Havells India is a leading Indian consumer electrical goods company. We
believe Havells provides an attractive investment opportunity given robust
domestic demand for consumer durables and strong housing growth.
Additionally, Havells could benefit from the continued launch of new
products, which could provide upside to our estimates.
The company has demonstrated an ability to gain market share and improve
profitability. Havells has a strong distribution network and its product
strategy is aimed at capturing a larger share of distribution channels.
We believe that over the next two to three quarters, investor concerns over
Sylvania would abate. We believe that post Q4 FY11, Havells will not infuse
cash from its domestic business into Sylvania.
Additionally, we expect Sylvania to report improvements in operating
performance in Europe on account of the robust demand environment in
Europe for lighting products as well as Sylvania’s continued efforts to
improve operating margins.
The stock is trading at 13.6x standalone FY12 PE. This does not include
upside from the Standard Electric (domestic switchgear) division (Standard
Electric reported PAT of Rs134m during 9M FY11; 9M EPS of Rs1.1) and
upside from a Sylvania turnaround. This is very attractive for a company
with 30% ROE and 20%+ EPS CAGR.
Lanco (Buy, PT Rs70.00)
We believe Lanco’s share price performance YTD has been affected by
general poor sentiment surrounding the Indian infrastructure sector, worries
around the Lanco’s changes in deprecation accounting policies, and concerns
on coal supply security and project implementation.
In our note ‘Lanco: Share price implying unlikely events’ dated 14 February
2011, we performed stress test valuations and concluded that the current
share price is implying either:
— that 65% of projects under construction will stall and the company will
have to bear debt and contract liabilities for them; or
— the coal-based projects are not contributing any value. We believe either
of these scenarios is unlikely.
We value Lanco as a conglomerate with power contributing 67% of
valuation and EPC 23%. We think the stock is very attractive and reiterate
our Buy rating and price target of Rs70. We derive our price target from our
sum-of-the-parts methodology.
On our earnings forecasts, the stock is trading at 9.4x FY12E earnings and
5.6x FY13E earnings.
Nagarjuna (Buy, PT Rs180.00)
Strong revenue visibility—Nagarjuna's order backlog at Rs173bn at the end
of 9M FY11 is 2.7x FY12E revenues. Further, there have been signs lately,
led by provision of clearances/fresh project awards, that ordering could pick
up in a few sectors such as power or roads. Nagarjuna will operationalise all
its existing BOT projects in the next few months and intends to bid for new
projects. Order inflow announcements are likely to improve sentiment and
drive stock performance, in our view.
Maintained margins—Nagarjuna has largely maintained its margins in 9M
FY11 on a YoY basis at 9.8% (compared with 10.2% in 9M FY10) and is on
course to achieve its guidance of 10% for FY11. We estimate stable margins
of 10% going forward.
Valuations are attractive—The core construction business is trading at about
7x FY12 EPS (excluding 1.) Rs20 per share of investments in BOT projects
at BV; and 2.) Rs17 per share of real estate investments at 0.5x BV, from the
current stock price). We expect an EPS CAGR of 15% over FY11-13 in the
core construction business and believe our assumptions have upside risk.
Jai Balaji (Buy, PT Rs450.00)
Jai Balaji's massive Purulia project and huge coal mines imply considerable
value creation ahead. The Purulia project is one of the largest steel projects
in India (5m mtpa steel, 1,200MW power), with 100% thermal coal
integration, to be executed in modules to address funding issues apart from
lending operational flexibility. Phase 1A of this project entails capex of
Rs18.7bn and comprises a 2m mtpa beneficiation plant, 1.2m mtpa pallet
plant, 0.66m mtpa sponge iron, 70MW power and 0.3m mtpa EAF.
The company has achieved financial closure for this phase 1A—we believe
this is a significant positive as it gives visibility on the monetisation of the
huge coal resources (700m tones) through this project. The mines are mainly
underground, and so present fewer land/environmental approval issues than
open-cast mines. With government policy changing from allocation to
auction, the value of this coal should become evident in future. The
company’s capacity has grown tenfold in the past seven years to 0.9m mtpa
steel and 111MW power.
EBITDA growth of 50% in FY10-13E will be driven by product mix
improvement (ductile iron pipes) and backward integration (coke oven). We
believe the Purulia expansion should drive strong earnings growth from
FY14E. We have factored Phase 1 of Purulia into our estimates and valuation
but not Rohne coking coal (16% potential upside to our valuation).
The stock has corrected on low volumes and now has deep value, in our view.
We believe the current share price is very attractive and does not even reflect
the value of existing operations (based on replacement cost, 5x FY12E PE
and 0.8x FY12 P/BV—a discount to peers). Coal resources and the Purulia
expansion provide significant long-term upside potential, in our view.
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