Thursday, December 3, 2009


Our forecasts for the global economy are left broadly unchanged. We continue to look for strong growth in the short term and expect business surveys to continue higher. Our growth forecast is still slightly higher than consensus – but less so than three months ago.

From Q2 10 we project a gradual slowdown in growth as the boost from the inventory cycle and policy stimulus fades. The global recovery should prove sustainable, though, with growth slightly above trend into 2011.

  • Strong recovery to continue in the near term
  • Risk of slower growth by mid next year
  • Job creation is key for a sustained recovery
  • Central banks remain accommodative

Labour market improvement is key for restoring confidence and sustaining the recovery. We look for a peak in unemployment in both the US and Euroland in Q1 10. If confidence takes hold there is a lot of pent-up demand to be unleashed – especially in the US.

A key risk to our scenario is a setback in confidence that takes the economy back into a negative feedback loop where employment and investment fails to come through. Testing times are approaching for sustainability and hence markets may become more jittery.

Deflationary pressures in the developed world will continue to be stronger than inflationary pressures.

Monetary policy will stay loose for a long time. Liquidity measures will start to be phased out gradually. The ECB will hike before the Fed as ECB is more concerned about sowing the seeds for new excesses in the financial system. China is expected to resume CNY appreciation in spring 2010.

To read the full report: GLOBAL SCENARIOS


One is cheap (BPCL), the other cheaper (HPCL). We highlight that the recent strong outperformance of BPCL stock has opened a large valuation gap between BPCL and HPCL. We see similar upside/downside risks to the earnings of both the companies in the current macro-environment and find it hard to justify the valuation gap. Adjusted for value of investments, HPCL is trading at 4.8X FY2011E EPS and BPCL at 9X FY2011E EPS. We maintain our BUY rating on both stocks but prefer HPCL on higher potential upside (45% for HPCL and 11% for BPCL).

BPCL’s strong outperformance makes HPCL look cheaper
BPCL stock (+16.3%) has outperformed the BSE-30 Index by 15% since November 20, 2009
versus a moderate 5.6% rise in HPCL stock price over the same period. We attribute the spurt in
BPCL stock price partly to an announcement of a significant oil discovery in Brazil. However, it is
difficult to justify the valuation gap of US$1.8 bn between EVs of BPCL and HPCL. We note that
HPCL stock offers a significant upside (+45%) to our 12-month target price of Rs525. The recent
strong outperformance of BPCL leaves moderate upside for the stock (+11%) to our target price of Rs675. We maintain our BUY rating on both the stocks and find it difficult to justify the significant gap in valuations given similar operating environment.

HPCL is trading at 4.8X P/E and BPCL is trading at 9X P/E
We believe that the current relative valuations of BPCL and HPCL offer a good trading play. We do not see any justification for such a significant valuation gap as both companies have similar
operating environment and regulatory exposure. HPCL stock is trading at 4.8X FY2011E EPS and BPCL at 9X FY2011E EPS (adjusted for the value of investments and dividends). Exhibit 1 gives our estimated replacement value for R&M companies broken down by various assets. At the current valuations, HPCL is trading at 27% discount to its replacement cost, as compared to BPCL which is trading at a 21% discount. Even on a P/B ratio, HPCL continues to be inexpensive at 0.9X in relation to BPCL which is trading at 1.44X

To read the full report: HPCL-BPCL


Let the fun begin
Over the last few years, there have been discussions on the Indian entertainment industry being on the verge of take-off, powered by new delivery platforms and technological breakthroughs, increasing content variety and favourable regulatory initiatives. This is expected to transform the entertainment landscape, with more players entering and traditional players being forced to adapt or perish. One can already witness changes that have the potential to alter the industry structure.

New delivery platforms and technological breakthroughs: Increasing penetration of new delivery platforms is one of the key drivers of the media and entertainment industry today, that has the potential to change the way people receive content. These platforms, resulting from fundamental technological breakthroughs, are likely to see most of the action in next few years. For example, the spread of inexpensive and stable storage media will also enable people to store content and view it at their convenience. Some other examples are:

  • Introduction of DTH and IP-TV
  • Digital distribution of films
  • Immersive content media like IMAX theatres
  • Coming of age of Satellite Radio and FM Radio
  • Emergence of new technologies like podcasting, etc

Together, these are expected to change the viewing habits of people.

New forms of content will emerge to cater to select viewers, as the industry evolves. Content like community radio and local television, that were unviable earlier, will also emerge stronger through new delivery formats. Moreover, content innovation will be necessary to sustain the interest of the increasingly jaded urban population. A few instances of rising content diversity are:

  • Newer programming categories like reality television,
  • Crossover content in music and films,
  • Niche programming on radio like sports and comedy,
  • Newer genres like lifestyle television, religion channels, etc.
Increasing content variety: Regulatory initiatives: The regulatory framework for media is still evolving. Looking at the policies announced by TRAI, it seems that a liberal framework is likely to be developed in order to allow the industry to flourish. Alongside regulating broadcasting and distribution, it will be important to create stronger protection mechanisms for copyrights and royalties. If intellectual property is protected to a fair extent, the industry could capture far greater value, giving its growth rate a significant boost.

To read the full report: ENTERTAINMENT SECTOR


Cipla’s partnership-based, geographically diversified model, with particular focus on RoW markets, and its formidable R&D capabilities have proved to be a robust and sustainable growth engine. Momentum will be further boosted by Cipla’s muchawaited entry into the EU inhaler market as also likely launch of niche partnership products in USA. Aggressive capex rollout indicates management’s comfort on future growth outlook. Coupled with significant EBITDA margin expansion of 260bp to ~26%, we expect 29% EPS CAGR for Cipla over FY09-11 (albeit on a low base) with upside possibilities. An expected decline in capex FY12 onwards would see asset turnover ratios plateau and lead to improving return ratios. Maintain estimates and upgrade the stock to Outperformer with a price target of Rs368 per share.

A winning business model: Recent alliances between Dr Reddy’s-GSK, Aurobindo- Pfizer, etc endorse Cipla’s strategy focused on R&D and manufacturing as also sales and marketing tie-ups with global companies. Cipla is among the most geographically diversified global generics companies with significant presence in multiple RoW markets including Africa, Middle East, Latin America and Australia. With future global pharma market growth likely to largely accrue from RoW markets, Cipla has created an enviable business model to participate in this opportunity.

Inhalers and US launches to drive upsides: With its diversified model yielding steady revenue growth (10-15%), the much-delayed entry into EU inhalers market as well as niche product launches in US will generate upsides. Cipla’s inhaler plans for EU (a US$3bn+ market with limited competition) are fructifying with launch of Salbutomol in UK in Q3FY10 and likely approval for its first combination inhaler in H2FY11. Cipla has partnerships for 118 drugs in the US with only 23 commercialized ANDAs so far, indicating significant potential for ramp-up in the market.

Good gets better

Better days ahead; Outperformer: The recent upswing in EBITDA margins (26% in H1FY10) appears sustainable on the back of an improving product mix and tighter cost control. Cipla’s aggressive capex intensity (Rs30bn spend over FY06-10) will likely ease by FY11, leading to improved return ratios and higher asset turnover. The management’s intent to enhance investor interaction through quarterly investor calls provides comfort and will aid re-rating. Any adverse FDA action or unfavorable court decision on contingent liabilities related to overcharging stay potential risks for the stock. Upgrade to Outperformer.

To read the full report: CIPLA