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Downgrade continues
While the sharp correction in the market may suggest attractive
valuations, we note that the pace of corporate earnings downgrades has
intensified in the recent results season. We see downside risk to bottomup
derived 15% earnings cagr over FY11-13 and even greater risk to the
street estimates as we are 3-5% below consensus. We lower 12-m
Sensex target to 18,200 as we lower target multiple to 13x to factor in
the earnings downgrade risk. Our portfolio continues to stay defensive as
we increase our U-WT on banks, industrials. Stay OWT on staples,
consumer discretionary and healthcare.
Pace of earnings downgrades has intensified
q We have lower FY12 and FY13 Sensex EPS estimates by 5.6% and 10.6%
respectively since the beginning of CY11.
q The pace of downgrades have increased during the recent result season with a
downgrade of 3% and 5% respectively. This also indicates that the there would be
more downside to our FY11-13 earnings cagr of 15%.
q Downgrades so far have been driven by margin disappointments and revenues
have held up well, which could be at risk going forward. We also saw interest cost
led downgrades in 1QFY12 for the first time and full impact is yet to be seen.
q The sectors that look vulnerable to earnings are PSU banks (asset quality
concerns), industrials (slower order flow), private utilities (lower utilisation rates
and fuel availability)
We are 3-5% below consensus
q Our new FY12 & FY13 Sensex EPS of 1,181 and 1,338 are 3% and 5% lower than
the street (Bloomberg consensus) respectively.
q On the negative side, our estimates are substantially below street on cement cos,
telcos, Pantaloon, Suzlon Maruti, Tata motors and HCL Tech and believe that the
consensus will likely see more earnings downgrades.
q On the positive side (which are few), our estimates are above street on IDFC, Dr
Reddy’s and BHEL and we maintain our positive views on these names.
Lower 12-m Sensex target to 18,200
q Our earlier Sensex target of 19,500 was based on 14x Mar’13CL earnings. Our new
target of 18,200 is based on 13x Sep’13CL earnings.
q Lower target multiple builds in the risks associated with more earnings downgrade.
q Key downside risk remains faster slowdown of growth while the near-term upside
risk would be potential loose monetary policy in the west.
q We will continue to stay cautious on the markets till we see some evidence of
investment demand picking-up.
Model portfolio stays defensive
q We have increased our OWT on Consumer discretionary by adding to M&M as its
reasonable valuations and visible growth being the key points of attraction. We
replace Hero Honda with Bajaj Auto. Higher share of exports and lower competitive
threats is the reason for our preference.
q We cut industrials to UWT by removing L&T from the model portfolio. The stock
has held-up well despite the ordering slowdown and we see greater risks to its
earnings / multiples. The slowdown in the investment cycle will
impact banks' earnings through lower credit growth and uptick in NPLs. We
increase our UWT on banks by taking off 2 points from Bank of Baroda.
q To maintain our UWT on IT, we have taken out e-Clerx. The stock has O-PF the
markets by 20% since its inclusion in Jan-11
q We are taking out Adani Power as we see downside earnings risk on account of
continued fuel shortages and Indonesia coal costs. Replacing with more defensive
Power grid. We also bring in JSPL as the stock has corrected by c.20% over the
last one month and downside appears limited.
eClerx (-2)
eClerx has been among the best performing IT stocks and is down only 6%
over the last six months. Its 45% exposure to financial services clients,
however, makes it vulnerable in the current uncertain macro environment as
pricing pressure could limit margin defense. Valuations at 14.5xFY12E are not
compelling and the gap with Tier-1 peers has narrowed materially and risk
remains on the downside.
Bank of Baroda (-2)
The slowdown in economic growth and a deadlock in the investment cycle will
impact banks' earnings through lower credit growth and uptick in NPLs. This
trend is likely to weigh on earnings growth and more on stock valuations. We
see asset quality concerns as a bigger risk on PSU banks and consequently,
reduce weight on Bank of Baroda by 2 ppts.
Adani Power (-2)
We had introduced Adani power in June as we were encouraged by Adani’s
execution skills which resulted in ahead of schedule plant commissioning.
However, domestic coal availability has worsened and the new laws on coal
pricing in Indonesia also remains an uncertainty. So while the stock has
corrected by 25% over the last one month, we believe that greater downside
risk exists and consequently removing the stock from the model portfolio.
Power Grid (+3)
Regulated return model makes the stock a defensive. Also, in the current
environment while most of the utilities are suffering from potential issues
pertaining to fuel availability, Power grid is insulated from that. Also we
expect the ordering by Power grid to pick-up from 3QFY12 onwards.
JSPL (+2)
JSPL enjoys a higher degree of control over resources than peers in both
businesses, which is reflected in its higher return ratios. Low cost advantages
and higher fuel security makes us prefer JSPL over its power peers. The stock
has already corrected by 20% over the last one month and downside appears
to be limited.
Replacing Hero MotoCorp (-3) with Bajaj Auto (+3)
Key reason why our auto analyst, Abhijeet Naik, holds a negative view on the
two wheeler industry is increasing competitive intensity. We believe that the
same impacts Hero Motocorp more than Bajaj Auto as Honda Motors will
likely take more market share away from Hero than Bajaj. Also, Bajaj’s
exports (30% of revenues) reduces its dependence on the domestic market.
Bajaj also trades at a small discount to Hero Honda on valuations. While
higher margins have been a concern on Bajaj Auto, potential slower global
growth and easing metals prices would partially address that concern.
M&M (+2)
M&M’s core auto business (after assuming 20% holdco discount for its listed
subs) trades at 10.5x Mar’13CL earnings. The business (tractors and utility
vehicles) remains closely linked to rural / tier II towns in India and not linked
to the global growth. Volume growth has been robust even 1QFY12 with
20%+ which highlights the resilience of its domestic business. The proposed
new launches will be the near-term trigger for the stock.
Larsen & Toubro (-2)
While Larsen has done well against its peers and the market ytd, we see
limited scope for outperformance considering higher multiples as well as
possibilities of further downgrades to earnings. 1QFY12 ordering was only 4%
yoy as against the management guidance of 15-20% YoY (for the full year)
and with no perceptible pick-up in ordering so far, L&T may again miss its
order inflow target, leading to possible derating.
ITC (+1)
We are adding 1 ppt to ITC essentially to maintain neutral weight on the stock
and an OWT on the staples as the stock has been performing well. With the
recent cigarette price hikes and more in the offing, visibility on earnings
remains strong.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Downgrade continues
While the sharp correction in the market may suggest attractive
valuations, we note that the pace of corporate earnings downgrades has
intensified in the recent results season. We see downside risk to bottomup
derived 15% earnings cagr over FY11-13 and even greater risk to the
street estimates as we are 3-5% below consensus. We lower 12-m
Sensex target to 18,200 as we lower target multiple to 13x to factor in
the earnings downgrade risk. Our portfolio continues to stay defensive as
we increase our U-WT on banks, industrials. Stay OWT on staples,
consumer discretionary and healthcare.
Pace of earnings downgrades has intensified
q We have lower FY12 and FY13 Sensex EPS estimates by 5.6% and 10.6%
respectively since the beginning of CY11.
q The pace of downgrades have increased during the recent result season with a
downgrade of 3% and 5% respectively. This also indicates that the there would be
more downside to our FY11-13 earnings cagr of 15%.
q Downgrades so far have been driven by margin disappointments and revenues
have held up well, which could be at risk going forward. We also saw interest cost
led downgrades in 1QFY12 for the first time and full impact is yet to be seen.
q The sectors that look vulnerable to earnings are PSU banks (asset quality
concerns), industrials (slower order flow), private utilities (lower utilisation rates
and fuel availability)
We are 3-5% below consensus
q Our new FY12 & FY13 Sensex EPS of 1,181 and 1,338 are 3% and 5% lower than
the street (Bloomberg consensus) respectively.
q On the negative side, our estimates are substantially below street on cement cos,
telcos, Pantaloon, Suzlon Maruti, Tata motors and HCL Tech and believe that the
consensus will likely see more earnings downgrades.
q On the positive side (which are few), our estimates are above street on IDFC, Dr
Reddy’s and BHEL and we maintain our positive views on these names.
Lower 12-m Sensex target to 18,200
q Our earlier Sensex target of 19,500 was based on 14x Mar’13CL earnings. Our new
target of 18,200 is based on 13x Sep’13CL earnings.
q Lower target multiple builds in the risks associated with more earnings downgrade.
q Key downside risk remains faster slowdown of growth while the near-term upside
risk would be potential loose monetary policy in the west.
q We will continue to stay cautious on the markets till we see some evidence of
investment demand picking-up.
Model portfolio stays defensive
q We have increased our OWT on Consumer discretionary by adding to M&M as its
reasonable valuations and visible growth being the key points of attraction. We
replace Hero Honda with Bajaj Auto. Higher share of exports and lower competitive
threats is the reason for our preference.
q We cut industrials to UWT by removing L&T from the model portfolio. The stock
has held-up well despite the ordering slowdown and we see greater risks to its
earnings / multiples. The slowdown in the investment cycle will
impact banks' earnings through lower credit growth and uptick in NPLs. We
increase our UWT on banks by taking off 2 points from Bank of Baroda.
q To maintain our UWT on IT, we have taken out e-Clerx. The stock has O-PF the
markets by 20% since its inclusion in Jan-11
q We are taking out Adani Power as we see downside earnings risk on account of
continued fuel shortages and Indonesia coal costs. Replacing with more defensive
Power grid. We also bring in JSPL as the stock has corrected by c.20% over the
last one month and downside appears limited.
eClerx (-2)
eClerx has been among the best performing IT stocks and is down only 6%
over the last six months. Its 45% exposure to financial services clients,
however, makes it vulnerable in the current uncertain macro environment as
pricing pressure could limit margin defense. Valuations at 14.5xFY12E are not
compelling and the gap with Tier-1 peers has narrowed materially and risk
remains on the downside.
Bank of Baroda (-2)
The slowdown in economic growth and a deadlock in the investment cycle will
impact banks' earnings through lower credit growth and uptick in NPLs. This
trend is likely to weigh on earnings growth and more on stock valuations. We
see asset quality concerns as a bigger risk on PSU banks and consequently,
reduce weight on Bank of Baroda by 2 ppts.
Adani Power (-2)
We had introduced Adani power in June as we were encouraged by Adani’s
execution skills which resulted in ahead of schedule plant commissioning.
However, domestic coal availability has worsened and the new laws on coal
pricing in Indonesia also remains an uncertainty. So while the stock has
corrected by 25% over the last one month, we believe that greater downside
risk exists and consequently removing the stock from the model portfolio.
Power Grid (+3)
Regulated return model makes the stock a defensive. Also, in the current
environment while most of the utilities are suffering from potential issues
pertaining to fuel availability, Power grid is insulated from that. Also we
expect the ordering by Power grid to pick-up from 3QFY12 onwards.
JSPL (+2)
JSPL enjoys a higher degree of control over resources than peers in both
businesses, which is reflected in its higher return ratios. Low cost advantages
and higher fuel security makes us prefer JSPL over its power peers. The stock
has already corrected by 20% over the last one month and downside appears
to be limited.
Replacing Hero MotoCorp (-3) with Bajaj Auto (+3)
Key reason why our auto analyst, Abhijeet Naik, holds a negative view on the
two wheeler industry is increasing competitive intensity. We believe that the
same impacts Hero Motocorp more than Bajaj Auto as Honda Motors will
likely take more market share away from Hero than Bajaj. Also, Bajaj’s
exports (30% of revenues) reduces its dependence on the domestic market.
Bajaj also trades at a small discount to Hero Honda on valuations. While
higher margins have been a concern on Bajaj Auto, potential slower global
growth and easing metals prices would partially address that concern.
M&M (+2)
M&M’s core auto business (after assuming 20% holdco discount for its listed
subs) trades at 10.5x Mar’13CL earnings. The business (tractors and utility
vehicles) remains closely linked to rural / tier II towns in India and not linked
to the global growth. Volume growth has been robust even 1QFY12 with
20%+ which highlights the resilience of its domestic business. The proposed
new launches will be the near-term trigger for the stock.
Larsen & Toubro (-2)
While Larsen has done well against its peers and the market ytd, we see
limited scope for outperformance considering higher multiples as well as
possibilities of further downgrades to earnings. 1QFY12 ordering was only 4%
yoy as against the management guidance of 15-20% YoY (for the full year)
and with no perceptible pick-up in ordering so far, L&T may again miss its
order inflow target, leading to possible derating.
ITC (+1)
We are adding 1 ppt to ITC essentially to maintain neutral weight on the stock
and an OWT on the staples as the stock has been performing well. With the
recent cigarette price hikes and more in the offing, visibility on earnings
remains strong.
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