Saturday, July 11, 2009



Drown in red

Markets on July 10, 2009: Final hour selling
Massive selling during the final trading hour drowned the indices deep into the red. The Sensex ended 253 points lower, while Nifty closed 77 points down. BSE MIDCAP and BSE SMLCAP closed the day around 1.85% down. Since Nifty has accomplished the conservative target of head
and shoulders pattern, it is now expected to march towards its aggressive target. On upside, 4130 is a good resistance around which traders should look for initiating fresh shorts. The overall decline to advance ratio stood at 3.5 to 1 on the NSE.

The hourly momentum cycle is about to turn negative. Our short-term bias is revised down for the target of 3850 with reversal pegged at 4130. Also, our mid-term bias is still intact on the downside for the target of 3870 with reversal placed at 4700.

Bar information technology stocks, all other sectors saw selling with energy, power and realty stocks at forefront. From the 30 stocks of Sensex, Wipro (up 3%) and Sterlite Industries (up 3%) led the pack of gainers, while Reliance Infrastructure (down 6%), Jaiprakash Associates (down 6%) and Reliance Communications (down 5%) were hit the most.

To see full report: EAGLE EYE


Decreasing earnings stress

We preview 1Q FY3/10E earnings for our coverage universe. Although earnings growth remains negative, we expect profits for the firms in our coverage, ex the oil and gas companies, to contract by 8% YoY vs -20% YoY in 4Q FY3/09; we see some signs of improvement in individual sectors.


Domestic cyclicals: not great, but looking better. The domestic cyclicals’ earnings, while not great, are starting to look better. Auto sales volumes have increased sequentially, with better financing from state-owned banks and higher rural sales the key drivers. Infrastructure should also see continued moderate growth due to the robust order backlog, with stable margins.

Banks to show robust growth. We expect banks to be the standout performers this quarter, with aggregate earnings forecast to increase by 34% YoY, after 24% growth in 4Q09. This is partly due to the lower base in 1Q FY09, with earnings in that quarter hit by large one-off bond provisions.
However, even on a pre-provision level, growth is expected to be a healthy 25% YoY.

Operating margins to improve sequentially. We expect aggregate operating margins to improve sequentially by more than 150bp as the lower costs kick in. The key sectors here would be auto – based on lower input costs – and cement and metals – due to a combination of lower costs and higher prices.

Commodities still under pressure. Commodities remain under pressure, primarily from the high base effect. We expect this to continue in the next quarter as well. Metal earnings are expected to contract. However, the sector should benefit from higher prices and aggressive cost cutting by the companies. The oil and gas sector’s earnings continue to fluctuate subject to the government’s subsidy policy, and we have therefore excluded them from our analysis.


We believe that the recovery in the economy is still in its early stages and that it may be too early for a significant pass through to corporate earnings. However, the foundation for the recovery has been set, both by the policy measures carried out in late-2008 and by the further reforms expected to be carried out by the new government.

We continue to be positive on the Indian market and advise investors to stick with quality growth names and/or stocks with strong prospects for earnings upgrades, particularly in commodities and properties. We are replacing JSW Steel as one of our top picks with Tata Steel, in line with the views of our sector analyst Rakesh Arora. Our remaining top picks are Axis Bank, BHEL, Reliance and Unitech. Our key Underperforms are GMR Infra, Zee Entertainment and Idea Cellular.

To see full report: EARNINGS PREVIEW


Focus Issue of the Month

Focus Issue of the Month - Union Budget - 2009-10 - Analysis & Impact

Company Reports

Areva T&D India Ltd
While we are positive on its capacity expansion in high-rating power equipments and robust order intake, its high debt and higher contribution from low margin project business will lead to subdued growth in profits for the next two years. At 33xCY'09E earnings, Areva is fairly valued and we remain Neutral on the stock.

IDBI Bank Limited
IDBI Bank has transformed itself from a DFI into a full-service commercial bank. With Resource Mix shifting towards low cost deposits, we will witness NIMs expansion and improvement in CASA. We initiate coverage on IDBI Bank with a Buy recommendation with a target price of Rs.155, a return of 40% for a time frame of 12-18 months.

Impact Analysis of open offer for Great Offshore Ltd
We are likely to see a price war in the form of counter offers for the stake in Great Offshore Ltd. Bharati Shipyard Ltd has re - revised its bid for GOFS to Rs.405/ share as per SEBI rules. ABG Shipyard is also mulling over its options for the counter offer it has put across. Our estimates suggest that this acquisition will be more beneficial to BSL in all respects, financially, strategically as well as good synergies.

To see full report: SMART IDEAS



• Ahead of estimates, Financial Technologies has a reported a strong revenue growth of 143% at Rs3.3bn. Higher contribution from exchange solutions has increased EBITDA margins from 32.6% in FY08 to 49.3% in FY09. This resulted in 106% growth in operational net profit at Rs1.7bn.

• Consolidates revenues grew by 19% at Rs3.2bn and reported net profits stood of Rs2.5bn. This includes Rs3.7bn of other income with Rs1.9bn resulting from capital gains.

• Revenues from ecosystem ventures (includes NBHC, Atom, Tickerplant) grew by 80% at Rs1.2bn and EBIT for the segment came at Rs92m (as against Rs19m of EBIT loss in FY08).

• MCX (associate of FTIL – 31.2% stake owned), India’s largest commodity exchange garnered a 47% increase in turnover in FY09 at US$918bn. Share of profits from associates, which include MCX (31.2% stake) and IEX (41.2%), stood at Rs527m. This implies MCX garnered profits to the tune of ~Rs1.6bn for the year.

• Of the ten exchange ventures floated by FTIL (five domestic and five international), six are currently operational while four of the international ventures are scheduled to start in the next two years. Of these, SMX and GBOT are expected to go live in 2009, while Bourse Africa and BFX are targeted to go live in 2010.

• During the quarter, standalone revenues grew by 176% at Rs1.1bn. EBITDA margins improved significantly from 37% in Q4FY08 to 53% in Q4FY09 resulting in a 216% growth in operational net profits at Rs785m.

• As on 31st March 2009, cash on books stood at Rs11.6bn and Rs4.6bn worth of ZCCB outstanding.

• Aggregate investments in group companies stood at Rs4.3bn and share of losses from the same stood at Rs1.2bn.



Power-packed play

Ambitious plan to add 32+ GW capacity by FY18
Reliance Power (RPWR) has a power portfolio of over 32 GW capacity at various stages of implementation. The project portfolio is well diversified across fuels, off-take and geography, which helps in minimising counterparty risks, and RPWR benefits from higher realisation in power-deficit areas.

DCF-equity to value projects + CERs upside
We have used the DCF-equity of individual projects to value the company, using a cost of equity (Ke) of 15%, which gives us a value of Rs 171/share (FY11E). This includes Rs 146/share for projects that have not achieved financial closure. If we assume a Ke of 12.5%, our fair value goes up to Rs 229/share. It is pertinent to note that a major part of power sales done through competitive bid/merchant power makes the valuation highly sensitive to assumptions of CoD, tariff, fuel cost, loan repayment schedule, interest rates, exchange rates, etc. RPWR could also benefit from sale of CERs (carbon credits) by using fuel-efficient and environment-friendly technologies, and we value CERs at Rs 10/share.

Margin of safety (MoS) led by conservative gas price assumptions
We have assumed availability of natural gas from RIL’s KG D6 gas basin at a price of US$4.2/mmbtu. However, if we assume availability of natural gas at US$2.34/mmbtu for the Dadri power project, the project value increases by ~Rs 38/share. This provides MoS to our valuation as the potential downside risk of other projects is protected by the upside risk in Dadri project.

No additional equity required till FY13E
We estimate a equity funding gap of ~Rs 21bn in FY13 and ~Rs 15bn in FY14. RPWR can use debt at the corporate level to fund the equity gap and can repay the debt in FY15E from the cash flow generated from projects.

Key risks: Delays in CoD and fuel availability/pricing issues
(1) Any delays in CoD will lead to escalation in project costs, concurrently leading to lower equity IRRs. (2) Business model of ~92% of planned capacity is non-regulated, exposing RPWR to significant pricing and off-take risks.

To see full report: RELIANCE POWER


Raising money?

GDR issue could be in offing: Media reports suggest that Tata Steel might be looking to do a GDR offering. The amount indicated is a wide range of US$500m to US$1.5bn. We estimate that Tata Steel needs some equity funding, and with the business environment improving, the likelihood of better valuation is high, in our view.

Was a part of Corus acquisition funding plan: Tata Steel, post the acquisition of Corus in its funding plan, had mentioned about US$500m of GDR issue. However, given the buoyancy in the steel market, this was left out at that time and now seems to have been revisited.

Requirement – well funded but a bit stretched: Based on our estimates, Tata Steel should have free cashflow of US$1.5bn in FY10. This compares well with the estimated capex of US$1bn. However, with net debt to equity at 1.8x, the balance sheet is a bit stretched, hurting the company’s ability to undertake even profitable expansions.

Pricing and impact– expect upward of Rs500/sh: Tata Steel has done allequity infusion since 2006 at Rs450-500/sh, and we estimate that diluting below this level is only possible by a rights issue. We believe that, if Tata Steel raises US$500m at Rs500/sh, EPS would go up marginally in FY10, although there would be 2.7% dilution in FY11. If the raised amount is US$1.5bn, the EPS dilution would be 7.3% in FY11, by our estimate.

Business fundamentals improving: According to trade reports, the European steel mills have so far been successful in pushing though €30 (US$42/t) price increases for hot-rolled coil from July 1. Thyssen Krupp (TKA GR, €17.04, NR) reported that it has pushed through price increases on annual and quarterly contracts for steel. Tata Steel has announced the starting of the sixth Blast Furnace at its Netherland unit.

Earnings and target price revision
No change.

Price catalyst
12-month price target: Rs584.00 based on a PER methodology.
Catalyst: Improving steel demand and pricing scenario in Europe.

Action and recommendation
Maintain Outperform: We think Tata Steel reached the bottom of its earnings cycle, and we expect a sharp recovery from 2Q FY10. We believe that the company is not only the best stock to play the rebound but also that it has enough catalysts in the medium term to merit a long-term investment. Reduced concern on its debt could lead to re-rating of the stock, in our view.

To see full report: TATA STEEL


Sector outperformance of 32% since March 2009; valuations running ahead of earnings
Our Engineering and Capital Goods universe, comprising ABB, BHEL, Crompton Greaves, L&T and Siemens, has delivered 81% returns since March 2009, v/s 49% by BSE Sensex. The recent outperformance had been driven by expectations of positive impact on business environment with continuity of government. Post the recent outperformance, 1-year forward sector P/E now stands at 22x FY11 and is in-line with 21x, average during FY05-09. The period between FY05-09 was one of the best periods in terms of power and industrial capex, resulting in earnings CAGR of 38%. During FY09-11, we expect earnings CAGR of 17%, and thus the current P/E of 22x leaves limited room for further outperformance, until visibility improves further on order intake and thus earnings.

Valuation multiples converge in uncertain earnings outlook period
Our analysis indicates convergence of valuation multiples for Engineering and Capital Goods sector during periods when earnings outlook is uncertain. For instance, in FY02 and FY03, P/E multiples (1-year forward) had converged at 7.5-9.0x. These periods coincided with beginning of the revival of the industrial cycle, and sector reported earnings growth of 57% YoY in FY02 and 15% YoY in FY03 vs negative earnings growth of 17% CAGR during FY98-01. Similarly, we notice that currently, the sector P/Es have largely converged, again given the uncertain earnings outlook.

Current valuations partly factor in industrial recovery; ABB, Siemens and L&T more leveraged

  • ABB, Siemens are highly leveraged to private capex. Thus, the valuation will expand in the event of industrial capex recovery. Currently, both companies already quote at 30% premium to sector average.
  • BHEL’s recent sector underperformance of 33% since March 2009 is driven by moderate earnings upgrades expectations as compared to peers, post continuity of government.
  • L&T trades at premium of 10% to sector average and we believe that any further premium expansion is contingent on industrial capex rebound and success of new ventures like ship building, power equipment, nuclear, railways.

Valuation and view: We remain Neutral on the sector since it trades at one year forward P/E of 22x, in line with average during best period of earnings CAGR for the sector (FY05-FY09).

To see full report: INDIAN ENGINEERING



Large Caps
  • Maruti Suzuki
  • Bajaj Auto
  • BHEL
  • State Bank of India
  • Bharti Airtel
  • Kotak Mahindra Bank
  • Bank of Baroda

Mid Caps
  • Mphasis
  • Indraprastha Gas
  • Shree Renuka Sugars
  • Bharati Shipyard
  • Hindustan Dorr Oliver
  • KEC International
  • Jyoti Structures
  • Ess Dee Aluminium
  • United Phosphorus
  • India Infoline
  • YES Bank
  • Edelweiss Capital
  • Syndicate Bank
  • Dishman Pharma
  • Mundra Port & SEZ
  • Lupin
To see full report: EARNINGS GUIDE


Asia’s export recovery: challenging

Asia’s exports are starting rebound
Asia’s equity markets remain heavily influenced by global trends. Indeed, the export cycle remains a key proxy for the region’s earnings cycle. The market’s recovery since 6 March has been truly impressive indicating two things: 1) it was significantly oversold; and 2) the global recovery is on the way.

As we enter the summer months, Asia’s data flow is expected to point to something of a synchronised recovery (ie, both net exports and domestic demand driving output gains). This is based on the well documented industrial destocking that will be followed by restocking now that demand has stabilised.

But the trajectory of the export recovery will flatten out

All of Asia’s canaries (ie, Singapore, Taiwan and Korea) are experiencing a sharp recovery in industrial production and some improvement in exports. But this is to be expected given the intensity of the output collapse.

If output drops from 100 to 80 and then recovers to 90, then the recovery will look V-shaped. For example, Korea’s economy contracted by 5.1% QoQ, sa, (~20% QoQ, saar) in 4Q08. A 1–2% QoQ, sa, bounce translates into a 4–8% QoQ, saar, recovery, although output is still 3–4% below peak levels.

With global demand stabilising, our focus shifts to the strength of final global demand for Asia’s exports and we are concerned it will disappoint. The G3 consumer, a US$25tr market vs US$4tr for Asia ex Japan, will struggle until employment bottoms. Rising energy prices are also sapping its strength.

Given the low levels of capacity utilisation, a capital expenditure cycle driven by the private sector does not appear likely through 2010. Indeed, there is excess capacity in the global manufacturing sector containing top-line revenues.

The risk is that the export rebound linked to restocking will be weak and/or further delayed than we currently anticipate. Indeed, global manufacturers are more likely to run extremely low levels of inventories if end demand is in question, reflected in a lack of pricing power.

But all of this is not necessarily bad for Asian equities

Although the economic rebound is expected to be subdued, this need not be negative for Asian asset markets. Indeed, one of the implications is that G3 policy will remain easy for much longer than the market expects. Fiscal policy too, may need to be reinforced and extended into 2010.

By extension, Asian policy is likely to remain easy as well in an increasingly liquid environment driven by the region’s rapid external adjustment. Asia has already provided significant policy stimulus; if domestic demand picks up strongly this will draw more capital into the region. Indeed, policy makers will be in a position of having to raise interest rates which will lift their currencies against the backdrop of flagging global demand.

We continue to believe the large domestic economies of Asia look like the best all-weather harbours: China, India and Indonesia. High-beta Asia will lose its lustre if our expectation of lacklustre recovery for the G3 plays out.

To see full report: ASIA'S EXPORT

>Buy the Rumours, Sell the News!

UPA Version 2 will undergo what is seen as its first market-friendliness test on Monday morning when Union Finance Minister Pranab Mukherjee takes the floor in the Lok Sabha to present the budget.

The hope is that UPA 2 will be free of, what the Street termed, the red bugs that crashed the first version whenever it switched to the reform mode.

Expectations soared high ever since the new government swung the numbers when the Lok
Sabha election results came in last May. Last week’s economic survey only whetted the appetite of investors and the Sensex is still shy of the 15000 mark breached soon after the polls.

Meanwhile everyone is chipping in with wish lists. As late as the weekend, corporate honchos were wooing the media to get their points in during the finishing touches to the budget

If talking heads on television are to be believed, India is on the threshold of market reforms never seen since the economy first opened in 1991. Few are even prepared to consider the political compulsions of a government that barely commands absolute majority in parliament, forget the two- changes in the constitution.

The first signals of where the government’s sympathies lie came out on Friday’ when Railway Minister Mamta Banerjee chose people over profit, as she put it.

The government may have raised fuel prices to partially compensate the public sector oil companies for the losses suffered by them, but it falls short of the complete price deregulation expected by the market.

To see full report: INFORMED INVESTOR