Sunday, January 3, 2010

>The source of financial imbalances: Global excess production capacity (NATIXIS)

Globalisation has led to excess global production capacity: emerging countries have high savings rates, invest a lot and have large available labour reserves; OECD countries have not reduced their production capacity despite the opening of trade with emerging countries. The first effect of this situation is of course the enduring absence of inflation.

Since there is excess global production capacity, various countries are clashing as they want to use their domestic production capacity, and therefore to grab a larger share of the demand:

in OECD countries, the technique used is an increase in indebtedness, private-sector until the crisis, and now public;

in emerging countries, the technique used is an undervaluation of their currencies.

The result of this conflict about capacity utilisation is excess private-sector and public indebtedness, financial crises, excess liquidity and anomalies in the exchange-rate system. The imbalances will disappear only when the excess production capacity has been corrected, which is not the case currently.

To read the full report: FINANCIAL IMBALANCES


BGR Energy (BGR), one of India’s leading BoP (balance of plant) companies in the power sector, has recently made a successful transition into full-service EPC (engineering, procurement and construction), winning two turnkey contracts worth Rs 80bn during FY09. It now intends to enter the market of BTG (boiler, turbine, generator) supply by establishing a 4,000–5,000MW manufacturing facility in India. Considering the expanding scope of business and Rs 122bn power project order book, we believe the stock offers multi year growth opportunity. We expect the sales and earnings CAGR of 41% and 40% respectively over FY08-FY11E. Buy.

Stage is set, execution remains the key

Strong industry potential: India’s power sector harbours significant business opportunities given the quantum leap in generation capacity planned by the government over the next 8–10 years. According to the Ministry of Power (MoP), India has targeted to build ~78GW of power generation capacity in the course of the 11th Five Year Plan from 2007 to 2012, and ~100GW in the subsequent plan ending 2017. This opens up a tremendous market for BGR.

Earning outlook healthy: BGR holds a large order book of Rs 122bn in the power project division, which is 6.3x its FY09 sales. All the necessary project approvals are in place, with term loan and working capital funding tied up. This mitigates the execution risk to a large extent. Considering the industry growth prospects and BGR’s strong credentials, we expect order flows in the power project division to remain robust, both in EPC and BoP. This would support a sales and earnings CAGR of 41% and 40% respectively over FY08-FY11E.

Evolving into a full-fledged EPC player: BGR has bagged two major EPC contracts worth Rs 80bn during FY09 – a major breakthrough in the company’s drive to evolve from a BoP supply company to a full-service EPC play. At present the company sources its BTGs for EPC contracts from China-based Dong Fang. It now intends to enter the market of BTG supply by establishing a manufacturing base in India through technical tie-ups with global majors. To this end, the company has signed an exclusive 20- year technology transfer agreement with US-based Foster Wheeler for the manufacture of subcritical and supercritical boilers from 100MW to 1,000MW. The company is also scouting for a global partner for its turbine venture.

Initiate with Buy and target of Rs 581: The stock is currently trading at a P/E of 13.6x on FY11E earnings, which is ~40% discount to BHEL’s valuation. Considering BGR’s expanding BoP and EPC presence in the high-growth power sector, we believe this discount should narrow – we have valued the stock at 17x FY11E earnings, which is a 26% markdown to BHEL. We initiate coverage on BGR with a Buy rating and a target price of Rs 581.

To read the full report: BGR ENERGY


Tractor gaining ground; other businesses to chip in
The company’s tractor business has significantly turned around with its profitability (EBITDA margins at 12-13%) now comparable to the industry. Escorts has revamped its dealerships and plans to launch new products to consolidate its leadership. Further, on the strategic level, the management plans to evolve Escorts into an infrastructure company; it expects to leverage on government’s expanding railway budget and metro-linked projects to expand its railways segment (where it supplies braking systems) over the next three years. Similarly, it (recently freed from a non-compete clause) plans to launch a slew of new products in the construction business.

On a firm footing post restructuring; balance sheet strength to shine
Escorts has successfully restructured its business following its precarious position in 2003. The company has divested its non-core businesses and has built a strong platform for its three existing business lines—tractors, railways, and construction. The reorganisation has been accompanied with a balance sheet restructuring—D/E is now at 0.12x; the company has adjusted bad debts/provisioning/write offs against business restructuring reserve.

Cost cutting; changing product profile to drive profitability
We expect the company’s EBITDA margins to improve from 7.6% in FY08 to 10.6% in FY10E, leading to an EPS CAGR of 70% over FY08-11E (albeit on a low base). We believe profitability in the tractor segment can be maintained with higher operating leverage and various cost cutting measures including better supply chain management and employee costs (reflected in the tractor business EBITDA of ~13% in the past two quarters). Also, the infrastructure/construction business with its new product range could begin to turnaround in FY10.

Outlook and valuations: Positive; initiate coverage with ‘BUY’
We believe Escorts is now more focused with the teething balance sheet issues subsiding. While in the near term the tractor business is on track, we are also enthused by the company’s focus on segments in the infrastructure space. On our estimates, the stock trades at a P/E of 10XFY10E and 9XFY11E, respectively, considerably lower than its peers. We initiate coverage on the stock with a ‘BUY’ recommendation and a target price of INR 170, implying a P/E of 12x one year forward earnings.

To read the full report: ESCORTS

>Kewal Kiran Clothing Ltd (HDFC SECURITIES)

Company Background
Incorporated in 1981, Kewal Kiran Clothing Limited (KKCL) today is amongst the few large branded apparel manufacturers in India. The company designs, manufactures and markets branded jeans, semi-formal and casual wear for men and women. The company’s main
target audience includes the youth of India (18 – 40 years) falling in the middle to upper middle class segment (about 25% of the overall population in India).

KKCL has positioned its brands differently; depending on the segment targeted. Its brands range from the high fashion premium segment such as ‘Killer’ for denim wear and ‘Easies’ for casual wear to the middle and economy segments through brands such as ‘Lawman’ and ‘Integriti’. The company began as a manufacturer of men’s wear for reputed brands. The company is exposed to global standards in quality, technology, marketing and branding. In 1989, the company introduced ‘Killer’ the first international denim brand created in India. Today ‘Killer’ is one of the most successful and widely recognized brands in the Indian apparel industry. As of 31st March 2009, the company had 1,615 employees under its rolls. About 3% of KKCL’s sales are from exports. The company exports to Asia, Middle East and CIS.

Shareholding Pattern
As of September 2009, the promoters hold a 73.98% stake in the company (up from 71.32% in September 2008 due to creeping acquisition), followed by foreign holding of 10.1%, institutions 1.4%, non-promoter corporation holding of 2.6% and public and others hold 12%. At the end of March 2009, the promoters held a 73.81% stake. Nalanda India Fund (FII) invested in the company in September 2008 and currently has a 9.7% stake. The fund acquired shares at an average price of Rs. 406 per share and as per the management the fund’s investment is long term in nature (5-7 years).

Manufacturing units
KKCL has 4 manufacturing units with an annual capacity of 30 lakh pieces. These units are at Dadar, Mumbai, Goregaon, Mumbai, Vapi, Gujarat and Daman. The company’s main operations take place out of the Daman (manufacturing and finishing) and Vapi (washing) plants.

Wind Power - The company has procured one 0.6 MW capacity, Wind Turbine Generator (WTG) from Suzlon Energy Limited. The WTG is installed at Village Kuchhadi, Taluka Porbundar in the State of Gujarat. The WTG has been in with effect from 30 July 2008.
The power generated is used for captive purposes thereby bring some cost saving for the company apart from some tax deferment advantage.

White Knitwear Private Ltd - KKCL has invested about Rs. 3.44 cr in White Knitwear Private Limited (WKPL). KKCL has a 33% stake in the joint venture. The company could further make investments in WKPL based on the expansion plan in two phases. WKPL has acquired land in Surat SEZ for manufacturing apparels for European and American market. The building is ready but the machinery order has not yet been placed as these plans have been postponed looking at the global slowdown. WKPL intends to put up a 1 mn knitting facility. The main strategy behind this investment for KKCL is to get a flavor of the international markets. As a matter of prudence, KKCL has written off Rs. 0.29 cr of its investments in WKPL in Q2FY10 due to the prevalent economic conditions in the export market and the stalling of plans.

Brand Portfolio
As of H1FY10, KKCL’s sales are split in the following manner amongst its brand: Killer has a leading share contributing 53% of net sales (up from 50% at the end of FY09), Integriti commands second place with a share of 24% (down from 26% at the end of FY09), followed by Lawman at 21% and Easies contributes the rest.

Launched in 1989, Killer is the flagship brand of the company. It is a brand that is youthful, trendy, vibrant and with an attitude. The focus of the brand is on the 16-30 years segment. This power brand enjoys a leadership position in the premium menswear domain.

Killer Jeans is the largest selling denim brand in India. The brand's product line includes jeans, shirts and jackets. In 2007, 'Killer for her' (an exclusive style statement for women) was launched. In 2009, Killer introduced range of Killer style footwear and shoes.

To read the full report: KKCL

>Bayer CropScience Ltd (HDFC SECURITIES)

Company Background:
Bayer CropScience Ltd (BCS) is a cropscience company having crop protection production facilities at Himatnagar and Ankleshwar (both in Gujarat) where it manufactures a variety of agrochemical like fungicides, insecticides and herbicides. It had a plant at Thane, which has been shut down and the facilities have been moved to the Ankleshwar plant. The Himatnagar plant also caters to export related agrochemicals required by its Asia-Pacific and European group companies. Post the acquisition of Aventis Cropscience Limited worldwide in 2001, BCS has become the leader in the Crop Protection business in India. BCS is a 71% subsidiary of the Euro 35bn Bayer AG, Group, which is a world leader in Agrichemicals. BCS is a leader in the Indian crop protection Sector with a market share of 17%. Other large shareholders include LIC, Birla Sun Life Insurance Company Ltd and Bajaj Aliianz Life Insurance Company Ltd, which hold 3.67%, 2.51% and 2.48% respectively in BCS.

Bayer AG acquired Aventis CropScience globally in 2001 and became a global leader in crop protection, pest control, seeds and plant biotechnology. With a sizeable existence in 122 countries and 22,000 dedicated employees, BCS remains a large global player. BCS is divided into 3 business groups: Crop Protection, Environmental Science and BioScience. BCS as a global innovator and market leader in its industry believes that its technological and commercial expertise entails a duty to contribute to Sustainable Development.

Crop protection:
This segment ensures a secure yield by giving protection from seed planting through to harvest. During its life cycle a crop will encounter many enemies that can even destroy an entire harvest: pests, weeds, fungi. Researchers in Crop Protection are committed to preventing this damage. BCS’s goal in this business is to secure harvests for farmers without creating a burden on the environment.

Principal products and brands in crop protection
Insecticides (Confidor®/ Admire®, Calypso®, Decis®, Temik®, Oberon®)
Fungicides (Antracol®, Baycor®, Folicur®, Monceren®)
Herbicides (Atlantis®, Basta®, Topstar®, Whip Super®)
Seed treatment (Gaucho®, Raxil®)

Environmental Science and Professional Pest Control:
The Bayer Environmental Science (BES) is a pioneer in the field of public health, being a major contributor in this segment since several years. The business areas covered by BES, are diverse in order to address the specific needs of the customers, covering three major segments: Vector Control, Professional Pest Control and Green Industry.

The commitment of BES is to consistently deliver high quality research products for the control of insect pests of public health. Such products include pesticides to manage malaria vectors, cockroaches, rodents, termites, stored grain pests, houseflies and other pests in general.

BioScience is a part of BCS, and is a global player in research, development and marketing of high quality seeds and innovative plant-based solutions derived from modern breeding and plant biotechnology. BioScience offers an integrated portfolio of high quality seeds, trait technologies and high performance crop protection products. BioScience activities are focused on three areas: Vegetable Seeds, Agricultural Seeds and Research activities into novel plant-based solutions for agriculture, nutrition, health and biomaterials. Bayer Bioscience, headquartered in Hyderabad India has about 400 employees, and has research, production and an extensive sales network spread across the country.

To read the full report: BAYER CROP SCIENCE