Ambit Insights Feb 01, 2016
UPDATES:
Larsen & Toubro (SELL): It's not there yet
Pain of high infra segment exposure and lack of short cycle orders in India is now visible; surprisingly, Middle East continues to hold up. Continued order chasing and rising international exposure/book-to-bill/ employee costs don't provide any predictability of progress in this 'just a large franchise' which suffers from poor project selection/ capital allocation. We cut our FY16/17/18 standalone estimates for revenue growth to 4%/7%/11% and EBITDA margin to 9.6%/9.6%/10.5% building moderation in international growth but an eventual domestic pick up; cut core eps est by >20%. Our new TP is Rs1,175 (standalone Rs655, 14x FY18 core EPS); stable embedded value/standalone balance sheet provide support as E&C's valuation (still not worst case) deservingly re-sets for its low growth/margin/RoEs. Higher margins in India and painful steps to tidy up the business are the key upside risks. (Nitin Bhasin, +91 22 3043 3241)
(Click here for detailed note)
L&T Infotech (NOT RATED): Nothing special about it
L&T Infotech (LTI) is an average, mid-sized IT services company without any major differentiating competitive advantages or portfolio mix. Its exposure to fast-growing services (IMS, digital, engineering services) is low and its lower revenue and EBIT per employee suggests that the work LTI does is relatively low-end as compared to peers. The company has been plagued by management churn over the last five years and has a sub-optimal organization structure (parallel chains of command for delivery and sales). The new CEO, Sanjay Jalona (Infosys veteran, our primary checks are highly positive) has a tough job ahead. This report contains key questions which investors should ask the management before deciding whether or not to subscribe in the IPO. (Sagar Rastogi, +91 22 3043 3291)
(Click here for detailed note)
Economy: CSO likely to lowball 3QFY16 GDP data
On Friday 29th Jan the CSO released revised GDP estimates for the last three financial years. The revised data provided further proof regarding the estimation error CSO data often suffers from i.e. the CSO tends to overestimate GDP growth when growth in the immediate past has been trending upwards and vice versa. As regards 3QFY16 GDP data, our updated India's Keqiang Index (IKI) suggests that economic momentum in India decelerated in 3QFY16 v/s 2QFY16. Against the backdrop of the RBI Governor (and several other economists) casting doubt on the new GDP numbers (http://goo.gl/ZBgy7O) it is becoming increasingly difficult to predict the CSO's GDP estimates and it appears likely that on 8th Feb, 2016 (when the CSO releases 3QFY16 GDP data) it will lowball the numbers so as to allow the Ministry of Finance to justify the coming fiscal slippage in the Union Budget (see our note dated 7th Jan, 2016). (Ritika Mankar Mukherjee, CFA, +91 22 3043 3175)
Century Plyboards (BUY): Focussing on margins rather than volume growth
Decline in plyboard volumes and margin contraction concerned investors, since Century's closest competitor, Greenply posted 6% volume growth. Management highlights that its focus is on maintaining prices and cash conversion cycle, rather than cut prices to spur demand ephemerally. Lower fixed cost absorption and reduction in face veneer margin led to compression in EBITDA margin on a high base of last year; management expects to maintain margin at 17% (17.7% in 9MFY16) in FY17. Century is doubling face veneer capacity in Laos (to 96k CBM) to improve its market share in veneer trading (from 10%) since the ban on timber imports has impacted availability of face veneer for Indian organised/unorganised manufacturers. We reduce our sales and EBITDA estimates by 5% and 7%-9% for FY17 and FY18, owing to weak demand for premium ply. Poor predictability of timber regulations and possibility of disruption in wood-based products will keep multiple expansion in check; our target price implies 16x FY18 EPS. (Achint Bhagat, CFA, +91 22 3043 3178)
BFSI: Weekly tracker
In this weekly update, we have compiled all the key news flows, regulatory developments, key management interviews, summary of takeaways from our meetings with management teams/primary data and summary of key notes we published last week. On the positive front: (1) Finance ministry is likely to soon announce the modified PSU bank recap plan; and (2) the RBI Governor Rajan has provided further impetus to financial sector reforms through competition and technology. On the negative front: (1) banks' SDR deals are likely to lead to material write-offs; and (2) influence of community links at some of the smaller banks continue to limit banks' evolution. (Pankaj Agarwal, CFA, +91 22 3043 3206)
Utilities: Weekly tracker
In this weekly update, we have compiled the key news flow, regulatory developments and key management/regulator interviews that occurred last week. The key positive news: (a) Rajasthan and Chhattisgarh signing up for UDAY; (b) Mr Gurdeep Singh becomes NTPC's CMD; and (c) Coal ministry to take CCEA nod to supply coal to 30GW projects. The key negative news: (a) Reliance Power to exit Krishnapatnam project; (b) REC sales down 58% in January; and (c) Coal Minister hinting at scaling down CIL's FY16 production target. (Bhargav Buddhadev, +91 22 3043 3252)
Economy: Ambit's qualitative leading indicators' (QLI) tracker
With qualitative data collected through primary data networks often proving to be a stronger leading indicator of changes in the economy, we collate a weekly tracker that captures these critical qualitative inputs. On the positive front: (1) Rural India appears likely to receive a lot of attention in the Union Budget for FY17; (2) IMF quota reforms gives India more voting rights; and (3) In-line with our three speed economy thesis (click here for our January 22 thematic) quarterly results point to robust demand for passenger cars. However, on the negative front: (1) the RBI Governor warns against a fiscal stimulus to spur growth; (2) We highlight that fiscal slippage in FY16 will limit room for rate cuts; and (3) The skies are darkening for India's banks as NPAs rise sharply under pressure from the RBI. (Ritika Mankar Mukherjee, CFA, +91 22 3043 3175)
RESULTS UPDATE:
V-Guard (BUY): Stellar cash generation; debt reduces by 72% YoY
V-Guard's 3QFY16 EBITDA at Rs346mn (up 60% YoY) came in 7% below estimate on account of higher advertisement spend (Rs200mn in 3Q); 4.8% of revenue (in 2Q it was at 3.7%) vs our estimate of 3.8%. This may be on account of Dusshera and Diwali falling in 3Q vs Dusshera falling in 2Q last year. However, 370bps gross margin expansion meant that gross profit at Rs1.28bn (up 20% YoY) came in line with our estimate despite revenue at Rs4.2bn (up 5% YoY) being 6% below our estimate. South revenue improved 7.4% YoY but non-south revenue declined 0.3% YoY. 9MFY16 CFO has been strong at Rs1.02bn (vs Rs440mn in 9MFY16) led by a 34-day reduction in receivables (47 days). Total debt at Rs230mn as on Dec '15 has declined by 72% YoY. We have upgraded our FY16 PAT estimate as we cut our FY16 interest cost by 4% given V-Guard is virtually debt free; we assume advertisement spend to normalize in 4Q. At CMP, V-Guard is trading at 22x FY17E P/E, a ~9% discount to peers. (Bhargav Buddhadev, +91 22 3043 3252)
NTPC (SELL): Cost rationalisation✓; Demand improvement?
NTPC's 3QFY16 standalone EBITDA at Rs48.8bn (down 1% YoY) was 2% below our estimate due to 16% higher-than-expected other expenses (up 12% YoY). Realisation at Rs3.05/unit (4% lower than our estimate) declined 4% YoY led by 12% YoY decline in fuel cost to Rs1.87/unit (7% lower than our estimate). APAT at Rs20.7bn was 6% below our estimate due to 46% lower-than-expected other income. Despite the tariff reduction and 3.5% YoY increase in commercial capacity, volumes declined 1% YoY to 56.6bu due to weak power demand; PLF down 260bps YoY. Given the miss in EBITDA and weak power demand, we cut our FY16/FY17 EBITDA estimate by 2%/3% and TP by 2% to Rs117/share. We reiterate SELL based on expensive valuations; NTPC is trading at 1.3x FY17E P/B (~2x on regulated equity), despite FY17E RoE at 11% (15.5% RoE on regulated equity) vs CoE of 14%. We expect NTPC's capacity CAGR to remain capped at 6% over FY17-FY22 and the incentive income to remain negligible. (Bhargav Buddhadev, +91 22 3043 3252)
Shriram Transport Finance (SELL): Elevated stress but hopeful valuations; reiterate SELL
SHTF's standalone PAT grew by 20% YoY to Rs3.75bn, ~5% ahead of our and consensus estimates primarily led by higher-than-expected improvement in margins (up 54bps YoY). Key operating trends continue to be mixed – Whilst AUM growth continues to improve (up 17% YoY) and NIMs continue to expand (up 54bps YoY), asset quality and operating efficiency continues to be under pressure, as credit costs and opex/AUM increase by 27ps/11bps YoY. Whilst we upgrade our FY16/FY17 consolidated PAT estimates by 9%/3% on back of collections from the stressed construction equipment subsidiary, SHTF's RoEs are unlikely to exceed 15% over FY15-FY18 due to regulatory, competitive and asset quality headwinds as highlighted in our thematic Auto NBFCs – Multiple Headaches. Current valuations, albeit at a discount to historical levels, are still factoring in hope of asset quality improvement, which is at risk, as rural slowdown persists. We retain SELL with target price of Rs760/share (from Rs745 earlier), implying a generous 1.5x one-year forward P/B and 12x one-year forward P/E for a company delivering muted 15% RoEs over FY17-FY18E. (Aadesh Mehta, CFA, +91 22 3043 3239)
TVS Motor Company: In-line results, new launches to drive revenue/margin
TVS Motor's (TVSM's) adjusted EBITDA margin of 7.2% for 3QFY16 was a marginal 21bps lower than our estimates. We marginally downgrade our FY16-18 volume estimates (by 2%) on the back of recent volume trends but continue to expect market share gains (98bps over FY16-18 in domestic 2W (ex-mopeds) and strong volume growth (14% over FY16-18) on the back of new launches (Victor, Apache and TVS variant of BMW bike) and continued strong response to Jupiter. As a result of revenue/volume downgrade, we also cut TVSM's EBITDA margin estimates for FY16 by 18bps to 7.0% (implying an EBITDA margin of 7.3% for 4QFY16) and for FY17 by 17bps to 8.5%. We downgrade our FY16-18 EBITDA and net earnings estimates by 2%-7% with an unchanged target price of Rs330/share. We continue to prefer TVSM over larger 2W incumbents (Hero, Bajaj) as it appears best placed to ride the scooterisation and premiumisation shifts in 2Ws. (Ashvin Shetty, CFA, +91 22 3043 3285)
Thermax (SELL): Sliding downhill
Thermax's standalone 3QFY16 EBITDA at Rs989mn (down 25% YoY) was 16% below our estimate, due to 8% lower-than-expected revenue (down 9%) of Rs10.5bn. EBITDA margin at 9.5% declined 200bps YoY and was 90bps below our estimate. Lower tax rate at 29.1% (380bps below our estimate) meant that PAT at Rs679mn (down 11% YoY) was 13% below our estimate. Subsidiaries slipped back into the red (after turning around in 2QFY16) with a loss of Rs56mn vs loss of Rs185mn in 3QFY15. The consolidated order book at Rs47.7bn declined by 23% YoY; standalone order intake declined 26% YoY to Rs8.7bn. Given the miss, we cut our FY16/FY17 EBITDA by 10%/27% and TP by 4.6% to Rs595/share. We reiterate SELL given expensive valuations and structural challenges in the standalone business (which saw an order book decline of 26+% YoY). Further, the stock is trading at an expensive valuation of 40x FY17E P/E, an unjustified ~100% premium to its five-year average, despite an EPS CAGR of 4% over FY16-FY18E vs 20% over FY10-FY14 and RoEs of 11% over FY16-FY18E vs 20% over FY10-FY14. (Bhargav Buddhadev, +91 22 3043 3252)
Shriram City Union Finance (SELL): Improving operating trends; but strategic clarity is key
Shriram City Union Finance (SCUF) reported PAT of Rs1.74bn (up 22% YoY), and was 11%/5% above our/consensus expectations; primarily due to lower-than-expected provisioning costs. SCUF's operating metrics demonstrated a strong positive trend with improving growth (up 18% YoY); improving asset quality (incremental delinquencies down ~45bps YoY); and improving operating efficiencies (opex/AUM declined by ~40bps YoY). Improving trends along with SCUF's strong competitive positioning in the small-ticket lending segment, reinforce our conviction that SCUF is well positioned to deliver 18% EPS CAGR over FY16-FY18E. However, with the involvement of Piramal Enterprises in SCUF's strategy formulation, clarity on future strategy is key for SCUF's valuations to rerate from hereon. We are BUYers with a target price of Rs2,260 (implying 2.7x FY17E P/B and 18x FY7E P/E). (Aadesh Mehta, CFA, +91 22 3043 3239)
Cholamandalam Finance (BUY): Strong trends amidst challenges; reiterate BUY
CIFC reported PAT of Rs1.46bn (up 31% YoY), which was 16%/10% ahead of our/consensus expectations. Earnings beat was primarily driven by lower-than-expected credit and operating costs. Operating trends are strong for CIFC – with improving AUM growth (up 13% YoY), expanding NIMs (up ~40bps) and improving operating efficiencies (opex/AUM down ~6bps). As the economy recovers and LCV sales increase with a lag, CIFC's AUM growth and profitability should further improve leading to 20% EPS CAGR over FY15-FY18E driven by sustained RoAs and 19% AUM CAGR. Besides this, CIFC is also uniquely positioned to sustain its long-term earnings growth due to its strengths in highly-lucrative segments with high entry barriers - used CV and LCV financing. Whilst valuations of 2.4x 1-year forward P/B and 16x 1-year forward P/E are at premium to its historical averages and peers, it is best placed to sustain its earnings growth by capitalising on structural disruptions in the Auto-NBFCs space as highlighted in Auto-NBFC thematic. We reiterate our high-conviction BUY on the stock with a target price of Rs740/share (implying 2.8x FY17E P/B and 17x FY17E P/E). (Aadesh Mehta, CFA, +91 22 3043 3239)
eClerx (SELL): Short term projects lead to bounce in revenue
eClerx reported strong revenue growth (4.2% QoQ in constant currency terms, 3%-5% ahead of our and consensus estimates) due to unexpected extension of some short-term projects. The management has guided to a ~3% QoQ revenue decline in the March 2017 quarter and "softer" revenue growth in FY17 compared to FY16 due to expected short-term project completions and recent INR depreciation tilting customer's choice towards captives that operate on a cost-plus model. We raise our FY17-FY18 EPS estimates by 4%-8% on better margin estimates and consequently raise our TP by 4% to Rs1,300/share. Whilst we are cognizant of the high quality of the management (excellent capital allocation; FY15 RoE of 35%), we remain SELLers because current valuation of 16x one-year forward EPS is punchy (better franchises like TechM, HCL Tech are available at lower valuation multiples), its competitive advantages are getting blunted and client concentration risk remains high (top-10 clients were 77% of revenue, Dec-15). (Sagar Rastogi, +91 22 3043 3291)
ANALYST NOTES:
IOCL: preferred bet amongst OMCs; valuations should catch up from hereon
IOC remains our preferred pick in OMC space. We recently initiated with a BUY on IOCL (TP 526, upside 23%), BPCL (TP 1,066, upside 18%), and a SELL on HPCL (downside of 2%). We see a strong case for IOCL valuation to move up from hereon given a) improvement in refining margins as Asian GRMs remain strong and fuel losses reduce as crude bottoms out b) addition of Paradeep refinery should drive volume growth as well as GRMs from FY18 onwards c) stable petchem and pipeline business (30% of earnings) would continue providing a steady earnings stream and d) sustained ROEs of 14-15% as capex needs are only for brownfield expansion/BS upgrades. However, we are not hopeful on marketing margins to further improve from hereon as OMCs are using it as a tool to deter private competition. On a core basis, IOC trades at one year forward average of 1.2x P/B vs. historical 5 year average of 1.1x notwithstanding with the benefits of deregulation driving significant ROE improvement (14% now vs. 6-7% historically) (click here). (Ritesh Gupta, CFA, +91 22 3043 3242)
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