Sunday, July 5, 2009


1QFY10 preview: Expect quarter to be in line with guidance and consensus; Management outlook on demand recovery is key

We expect an in line 1QFY10 quarter, meeting management guidances and consensus estimates. We expect volumes to be largely stable Q/Q, with a slight follow-on impact of price declines. As a result, US$-revenues should be flat to marginally down Q/Q, with Rupee/US$ appreciation leading to Rupee revenues being down 5-7% Q/Q. EBITDA margins should contract due to lower utilization and currency, leading to 5-15% Q/Q EBITDA declines. However, EPS performance could vary dramatically due to different hedging policies. On a company specific basis, we expect Infosys performance to be weaker than TCS/Wipro due to investments in sales and marketing and limited hedging.

We believe that the key in 1QFY10 results is the outlook for 2QFY10 and qualitative management commentary on demand. We expect all companies to indicate an improving business environment, more deal closures and acceleration in ramp-ups. Further, we expect companies to indicate low-to-mid single digit revenue growth in 2QFY10, at the higher end of consensus expectations. With Infoys being the only large player providing FY10 guidance, we do not expect material change in Rupee guidance as Rupee/US$ appreciation would offset any benefit on business improvement.

Investment view: We have been fundamentally positive on the sector given our view of improving business outlook for offshore players and low consensus expectations. We expect 1QFY10 results and management commentary to confirm this trend and lead to upgrades in consenus estimates. In term of stock prices, a sharp upmove in the last few weeks could mean a near-term breather – we would be buyers in such a correction on a 9-12 month view.

To see full report: IT SERVICES


Hold: News Flow a Bigger Driver than Crude Prices

Dependent on gas — Since most of RIL’s E&P revenues are dependent on gas, the company is not materially affected by changes in our global crude price forecasts.

Downside to fair value after the court verdict — Our current fair value of Rs1,835 incorporates a value of Rs729 from E&P assets based on 12x FY11E EV/FCF. Following the court verdict on the RIL-RNRL case, this E&P value could decline to Rs544/share assuming that RIL begins its supply of 28mmscmd of gas FY11E onwards (which is clearly a worst-case scenario given ADAG’s non-readiness of power plants to intake gas). FY11E EPS could decline to Rs151 in this case from our base case of Rs165. If 12mmscmd gas to NTPC is also sold at US$2.3/mmbtu, then E&P valuation reduces to Rs465 and EPS to Rs145.

NAV erosion is lesser — Based on this judgment, we estimate that our NAV of RIL’s E&P business would be reduced to Rs467/share from Rs521 earlier. If gas to NTPC is also sold at lower prices, we estimate the NAV to drop to Rs452.

D6 under control, new exploration will have to wait — The company is aiming at 40mmscmd by end-Jun and 80mmscmd by end-FY10. Exploration wells in other blocks would be in 2HFY10 – with one rig from D6 and one new delivery. Entry in domestic oil retailing is likely to be gradual and at a controlled pace.

Balance sheet — Net debt was Rs280bn. FY10E capex guidance at US$4.5- 5.0bn includes RPL’s remaining capex of US$0.5bn (total project cost of US$6.5-7.0bn).

To see full report: RELIANCE INDUSTRIES


Global: historic inventory cycle to boost growth

• A key factor behind our above-consensus global growth forecast is our view on the inventory cycle. Our thesis is that, even if the demand recovery is slow during 2009, we will still see a significant production rebound in H2 09.

• This is the main difference between our forecast and, for example, those of OECD and IMF, which predict a considerably slower and later recovery.

• The inventory cycle is a very important cyclical driver and in this downturn it has been much more forceful than we have seen historically.

• Production has been cut at a record pace in order to deplete inventories. However, with inventories lean, production substantially below demand and demand rising due to massive stimulus, we believe the ground is laid for a rapid production rebound in H2 09.

• It is important to note that inventories will continue to fall in H2 09 even as production rises. Hence it is not a case of rebuilding of inventories but a case of aligning production with demand.

• We already see recovery in Japan and other Asian countries and we expect to see it soon in US and Europe. The auto sector should be a prime example of this.

Since the beginning of the year we have argued that the strong force of the inventory cycle in this downturn would lay the ground for a manufacturing recovery during 2009 (see Research – US: Manufacturing recovery ahead, Jan 09). We have already seen signs that this is materialising, in surveys such as ISM and leading indicators, but we believe the story has further to run. Hence we expect ISM and global leading indicators to continue to surprise on the upside. Importantly we should also start to see improvement in the hard data over the coming quarters. This is about six months earlier than, for example, OECD and IMF are predicting; they also forecast a much slower recovery. We don’t disagree that the recovery in demand will be slow as headwinds linger for a long time due to the financial crisis and wealth destruction. However, that does not mean we don’t see a strong rebound in production.

See inside:
  • Production - demand = change in inventory
  • Further ISM increases in the pipeline
  • Euroland production should also recover
  • Bottom line: global production to rise in H2, perhaps strongly
To see full report: MARKET RESEARCH


Sense of security

Zicom reported a 29.5% increase in topline to Rs. 3,757.6 mn. EBITDA jumped substantially by 224.3% to Rs. 505.2 mn versus Rs. 155.8 mn for FY08 with EBITDA margin improving to 13.4% versus 5.4% for FY08. This was primarily because the company had taken the advertising expense of Rs. 231.6 mn for their retail arm as one-time expense in FY08. Depreciation and interest cost increased by 78.4% and 72.3% respectively.

At PBT level, profit was up significantly by 2,572% at Rs. 240.2 mn. The company’s net profit increased by 447.3% to Rs. 222.9 mn versus Rs. 40.7 mn for FY08. The net profit figure after adjusting for minority interest was Rs. 195.9 mn versus Rs. 14.5 mn for FY08.

Zicom reported consolidated Q4FY09 revenues at Rs. 1,038.4 mn with EBITDA of Rs. 152.1 mn. Net profit figure for the quarter stood at Rs. 67.6 mn. EBITDA margin and net profit margin for the quarter were at 14.7% and 6.5% respectively.

The electronic security solutions market in India is at a nascent stage compared to developed countries of the world. While the U.S. and Europe may account for more than 60% of the global electronic security industry, the rate of growth of the industry in India is expected to be much higher at 30% compared with the single digit growth rates expected in these developed markets. We believe that there is a huge potential for security business in India for the following reasons:

1) The security perception of the government has changed drastically due to continued threats from terrorist activities in India. With the government giving increased importance to safety and security measures, we expect significant demand from the government for integrated security solutions to protect public infrastructure.

2) The industrial segment’s rising demand for new generation network-based integrated products and solutions to support remote access and monitoring across their physically scattered plant locations.

3) The consumers’ growing awareness and change in attitude about safety, security and preference for integrated electronic security systems.

4) The need for security systems at the increasing number of public places such as malls, multiplexes, retail chains, etc that have come up over the past few years. Further, need for security equipments such as burglar alarm system, video phone doors, etc for large number of residential townships across metros, tier 1 and tier II cities in India as these are increasing considered as basic facilities or lifestyle products by the consumers.

To see full report: ZICOM


Liquidity is decorrelating financial markets from the real economy

The viewpoint we defend in this Flash is as follows: normally, the value of financial assets should reflect the situation of the real economy (growth, inflation, profits, etc.), in a more or less long-term perspective depending on the nature of assets and investors’ ability to anticipate. However, if global liquidity is over-abundant, and in a situation where inflation in prices of goods
and services cannot make a comeback, asset prices are successively affected by bubbles when investors use the surplus liquidity to try and buy assets.

This leads to asset price cycles that are less and less correlated with economic cycles, and are linked to the interaction between the excess liquidity and investors’ opinions or risk aversion.

This decorrelation between financial markets (asset prices) and real economy is very serious, since it implies that asset prices no longer give any reliable information about the situation of the real economy, and simply reflect the quantity of liquidity and the most often herd-like behaviour of investors.

To see full report: FLASH MARKETS


Sales momentum robust; raise target price, reiterate Conviction Buy

Source of opportunity
Unitech reported FY2009 EPS about 20% ahead of our estimate and Bloomberg consensus. More importantly, trends since March have been upbeat with sales of 3.5-4.0 mn sq ft in 1QFY2010, which is more than what Unitech sold in all of FY2009. Accordingly, we increase our area sold forecast to 14 mn sq ft pa on average in FY10E-FY14E versus our earlier projection of 11 mn sq ft pa. We assume 14 mn sq ft of area sold in FY10E versus over 8 mn sq ft previously. We raise our target price to Rs95 from Rs88 and maintain our Buy rating (on Conviction List).

Unitech is looking to launch 30 mn sq ft of projects and get bookings for about 20 mn sq ft in FY2010. Although 1Q trends are reassuring, our forecasts are conservative vs. guidance, tempered by taking into context the area sold during the previous upcycle, which was about 10 mn sq ft pa in FY06-FY07. With plans to launch in 15 cities in FY10E, we believe news flow on project launches over the next three quarters could drive the stock higher. We also see Unitech’s debt burden reducing over the next three quarters, which we believe would be reassuring.

We raise our 12-m TP to Rs95 (a 20% discount to FY11E RNAV), and revise our EPS forecasts by +18% for FY10E, +18% for FY11E and -8% for FY12E, reflecting revised development pipeline forecasts and optionality of any additional asset disposals. We believe the stock price reflects about a 12% decline in property prices across the board in FY10E, which seems pessimistic given Unitech’s recent launches at lower ticket sizes.

Key risks
Any signs that 1QFY10 sales trends might not be sustained and if we see cancellations on recent bookings; execution delays.

To see full report: UNITECH


Stretched valuations; increasing uncertainties

We downgrade Colgate-Palmolive to HOLD from Buy based on rich valuations and higher risks to EBITDA margin due to increased competitive intensity, likely withdrawal of the excise stimulus in the Budget, rising input costs and concerns on poor monsoons. We value Colgate at FY11E P/E of 20x and raise our 12-month target price to Rs568/share from Rs531/share. While Colgate’s prospects are bright (our estimates remain unchanged), rich valuations and increasing short term uncertainties lead us to believe that most positives have been priced in.

Further EBITDA margin expansion unlikely after it touches an all-time high in FY10. Colgate’s EBITDA margin has increased consistently since FY99 (when it bottomed at 8.1%); we expect it to touch an all-time high of 21% in FY10E (270bps rise over FY09). We do not expect further margin expansion and anticipate earnings to grow in line with sales.

We expect effective tax rate to rise to 23% in FY11E from 16.5% at present. As per management, no greenfield capacity is coming on stream in tax-exempt areas in the short term as there is enough capacity for the next 18-24 months. At present, ~60% of sales is tax exempt due to its production facility in Baddi. However, from FY11E, tax exemption will reduce to 30% from 100%.

Increasing uncertainties – Higher focus on oral care by Hindustan Unilever, monsoon disappointment & withdrawal of excise stimulus. Enhanced focus on the oral care segment by Hindustan Unilever (HUL) might create pricing uncertainty. Likelihood of poor monsoons, withdrawal of excise duty stimulus in the Budget and rising HDPE prices also pose risk to earnings growth.

Downgrade to HOLD; bright prospects priced in. The stock has yielded 36% return since our last report (refer ‘Strong earnings growth ahead’ dated April 20, ’09). We remain positive on long-term prospects of Colgate. However, the company trades at FY11E P/E of 21.9x versus its seven-year historical one-year forward P/E of 18.7x. We believe rich valuations have priced in most of the upside. Hence, we downgrade Colgate to HOLD from Buy. We value the company at FY11E P/E of 20x and raise our 12-month target price to Rs568 from Rs531.

To see full report: COLGATE-PALMOLIVE


A Dream Budget? ? Unlikely, in our view

Rural & Infrastructure thrust likely
The central government Budget will be announced on 6th July 2009 for year ended March 2010. Given UPA’s pro-rural policies, Budget may give impetus to rural spending programmes especially given late monsoons. We believe the budget will provide a clear roadmap on infrastructure investment. Other key announcements could include 1) Hiking FDI/FII limits in insurance & retail 2) Roadmap for PSU divestment.

Fiscal concerns likely to dampen Budget FY10
We believe rising fiscal deficit remains a key concern for FIIs investing in India. While the FY10 budget may do very little to bring down the fiscal deficit in the near-term, we expect a road-map that is likely to target much lower fiscal deficit in the medium term (3-5 years). Some key issues are 1) Setting revised FRBM targets 2) Setting a clear timeframe for implementation of GST. 3) There could be some relief in personal taxes. We believe the government is unlikely to decontrol oil
prices (fully or partially) due to lack of political consensus on the issue

Maintain our positive view on the Indian market over medium term
Over the medium term, we believe fundamentals and liquidity are likely to support higher valuations and maintain our March 2010 Sensex target of 16,750. We are overweight on banks, autos, cement, IT Services, telecom and real estate. We have also allocated 5% weight to Cash in our model portfolio. We are underweight on petrochem, metals, engineering, conglomerates and oil & gas. Key overweight stocks in our model portfolio are BoB, Infosys, Tata Power, Bharti, & Union Bank.

To see full report: MARKET STRATEGY


Stock run-up offers limited scope for upside

Punj Lloyd reported a robust revenue growth of 53.7% yoy in FY09, closely in line with our estimates. However, the performance remained disappointing at the operating level with the Company having to provide for the cost overruns for Heera Project and SABIC order, as well as the guarantee claims for the SABIC order. Thus, the Company reported a net loss of Rs. 2.4 bn for the year.

Revenue visibility declining, top-line growth to be subdued in FY10: Punj
Lloyd’s book-to-bill ratio declined from 1.90x in FY08 to 1.65x in FY09. Going forward, we believe that order inflows in the Company’s Petrochemicals and Oil & Gas segments are likely to slow down as CAPEX plans are being reviewed cautiously by clients across all geographies. However, given the re-elected UPA government’s thrust on infrastructure, we expect the order inflows in this segment to be quite strong; it would however fail to completely offset the weakness in the other two segments. Hence, we expect the order backlog to decline by 14.1% yoy and revenue growth to slowdown to 7.1% yoy in FY10.

Operating performance dips in FY09, Company to focus on improving
bottom-line: During Q4’09, Punj Lloyd recorded cost overruns in ONGC’s Heera Project and also made provisions of Rs 2.2 bn related to guarantee claims of SABIC order (in addition to the provision of Rs. 2.0 bn for cost overruns in Q3’09). As a result, EBITDA margin nosedived 605 bps yoy to a mere 3.2% in FY09. The Company has indicated its strong focus towards improving the bottom-line. We believe that the profit maximisation measures being taken by the Company under ‘Project Hawk’, coupled with the new project take-up at margins of ~9%, would help in pulling up the margins in the coming quarters.

Valuation: With the re-election of the Congress-led UPA government, we expect
an increase in the thrust on infrastructure development, which we believe will support Punj Lloyd’s long term growth. Our DCF-based fair value estimate of Rs. 215 offers a limited upside potential from the current market price. The stock is trading at an EV/ EBITDA of 8.6x and a PEG of ~0.80x. We maintain Hold.

To see full report: PUNJ LLOYD


4QFY09 results below expectation: Bombay Rayon standalone 4QFY09 sales are up 27% YoY at Rs3.33b (expected Rs4.2b). PAT is down 26% YoY at Rs251m (expected Rs475m). Sales and EBITDA are below expectation mainly due to delay in commissioning of two of its garmenting units at Latur and Islampur. PAT is sharply lower than expected mainly due to (1) charging of full year’s interest on account of borrowings against GURU; and (2) charging of deferred tax on projects commissioned in 4Q (effective 4Q Tax/PBT of 49%)

9-10% downgrade in FY10 and FY11 EPS estimates: Considering the delay in capacity addition, we have lowered FY10E sales estimate by ~7%. Further, pending clarity, we had assumed the equity issue proceeds to be parked in liquid investments. The same is now deployed in the operations. However, we have not increased commensurate sales or margins. As a result, our PAT and EPS are downgraded by 9-10% to Rs28.6 for FY10 (up 45% YoY) and Rs43.8 for FY10 (up 53% YoY). FY09-11E EPS CAGR works out to a high 49%.

Stock trading at 6.4x FY10E, target price of Rs286 (10x FY10E) Buy: Bombay Rayon stock is trading at a P/E of 6.4x FY10E and 4.2x FY11E. We believe this is extremely attractive considering its 49% EPS CAGR and RoE of over 25%. We value the stock at 10x FY10E EPS to arrive at a target price of Rs286, 55% upside from current levels. We maintain Buy.

To see full report: BOMBAY RAYON FASHIONS