Thursday, January 5, 2012

>INDIA CEMENTS: Coal costs to move up; price increase needed

Coal India Ltd., domestic supplier of coal to cement manufacturers in India, has switched to a new pricing regime from Jan 1, 2012, as per media reports (The Economic Times, 2nd Jan 2012). At this moment this change is on a trial basis and the final change may take place in1QFY13F.

The new pricing regime suggests that the notified price of coal would be directly linked to the Gross Calorific Value (GCV) instead of Useful Heat Value (UHV), which used to take into account the ash content. UHV is typically 12%-35% lower than the GCV for grades D,E,F of coal, according to our Coal India analyst, Anirudh Gangahar. The number of slabs for coal pricing has increased from 7 to 17 while the prices have been hiked sharply with erstwhile grades C,D,E,& F witnessing the highest price increases in the range of 25%-81%.

For cement companies on an average 50%-70% of the coal requirement is sourced from Coal India on average with India Cements and ACC being outliers with 30% and 80% of coal sourced domestically respectively. Cement manufacturers typically use imported coal and higher grade Coal India coal to fire their kilns while using lower grade domestic coal in the captive power plants. Thus the larger impact is expected on the power costs for these companies. Power and fuel costs contribute approximately 33% of a cement manufacturers’ cost of production. We expect in the worst case an increase of 50% in the coal cost for captive power and 15% increase in the coal cost for the kiln. Thus on a blended basis the cost for cement manufacturers’ could rise by INR190-INR232/ton, impacting estimated EBITDA/tonne by 18%- 29%, without any corresponding price increase. To negate this cost increase cement companies would have to hike prices by INR12-14 per bag, approximately 5%.

With the Jan-Mar quarter being the peak quarter for construction activity and cement demand, cement manufacturers’ should be able to take a price hike, in our view, though it may not be the entire quantum required. We would expect prices to be hiked by about INR5-7 per bag in the current quarter and the companies to take a hit of about INR85- 100/tonne on profitability in 4QFY12F. The rest of the price hike should flow through in 1QFY13F.

Within our coverage Shree Cements uses mainly petcoke as fuel and hence it should see only minimal impact. Shree Cement could even benefit from the price hike likely to be taken by the industry. We believe the greatest impact will be on ACC. The table below shows the impact on the cost/ton and EBITDA/ton for the companies under our coverage.

To read the full report:INDIA CEMENT

>INDIA STRATEGY: Uncertainty prevails, recommend stock-specific portfolio

Our December’12 Sensex target of 18,000 implies 16% upside from current levels.Global and Indian macro risks are both unlikely to diminish quickly in 2012. This makes it difficult to have high-conviction industry and/or sector bets. Instead, we advocate building up portfolio positions via stock selection (bottom-up) until more transparency emerges on key macro overhangs.

This approach results in a highly concentrated portfolio with a slight Overweight in Diversified Financials and Automotive and an Underweight in Metals and Real Estate. Our key stock selection criteria include: (1) a turnaround in fundamentals – WIPRO, (2) excessive pessimism priced in – STATE BANK OF INDIA, (3) sound fundamentals with an execution track record in difficult times – HDFC, (4) market share gains – HERO MOTOCORP, and (5) cheap valuations – BPCL.

 Domestic outlook still weak but bottoming out: We expect near-term growth to surprise on the downside and estimate GDP growth at 6.5% in FY12. However, inflation is now falling—largely driven by the base effect—giving the RBI the capacity to cut rates by 50bps in Q1CY12. We think growth is close to bottoming out, but don’t expect a significant improvement in the next 6–9 months.

 Global growth risks still on the downside: According to our global strategist, EM equities should outperform DM in 2012 by 10–15%. While austerity and weak growth will be dominant themes in the West, EM equity market performance will have an increasingly strong tailwind from more growth-supportive fiscal and monetary policy across the region. European recession appears inevitable but global recession is unlikely. Thus, investment should be made on the premise that growth surprises from the developed world are unlikely and that politics/policy will be the biggest sentiment and risk-asset performance drivers over the coming year.

 Earnings and valuation: Our FY12E/FY13E Sensex EPS is Rs 1,120/Rs 1,254, lower than consensus by 2.5%/5%. We think the market is already pricing in an earnings backdrop closer to our expectations. Hence, while we expect consensus estimates to adjust lower in Q1CY12, we don’t see this as a catalyst for another legdown in equities and would use any weakness as an opportunity to add to positions. Our December’12 target is based on a 13x forward P/E multiple, an 18% discount to historic multiples due to near-term growth fears, declining ROE and a perceived lack of governance.

 What could trigger a turnaround: (1) Internalising crude oil prices to address the twin-deficit problem. (2) A revival in governance, with fast-track implementation of projects in key areas, and long-delayed reformist legislation as confidence-building measures for the corporate sector and investors. (3) Sharp growth deceleration leading to a drop-off in inflation and cut in policy rates.

To read the full report: INDIA STRATEGY

>Metals & Mining – Q3FY12 Preview

Problem of Plenty!!!!!

Q2FY12 ended with many problems and almost all the problems have increased further in Q3FY12. Companies have found it extremely tough to maintain their utilization levels and to manage the extremely volatile currency. However Q3FY12 numbers would be better than anticipated earlier as companies are able to hold on higher prices inspite of lull demand due to rupee depreciation.

■ Stable realization lessen contraction of EBITDA/ton for ferrous players
Inspite of lull demand, steel prices remained more or less stable during the quarter due to ongoing mining crisis in Karnataka. Stable realizations will help companies to somewhat mitigate higher raw material prices. EBITDA/ton of ferrous players are expected to fall by ` 1000-1500/ton during Q3FY12.

■ LME and cost blues for Non Ferrous
Base Metals prices have significantly corrected during the quarter due to credit crisis in Europe and credit tightening in China. Lower LME price would be somewhat mitigated by higher volume however margins is set to fall for all companies due to higher input cost and adverse movement in currency.

■ Mining segment would be better
Mining segment is set to do better in this quarter due to higher production and favorable currency movement. CIL is set to increase its volume and firm prices will help the company to deliver better numbers. Rupee depreciation will provide cushion for Sesa Goa and will help the company to somewhat offset impact of lower volume and realization.

Slowing global economy has taken a serious toll on Metal and Mining companies and the conditions are expected to remain tepid at least in next two quarters. However except Tata Steel, all other Indian companies have been impacted by India specific issues. The shadow of global slowdown is yet to come in Indian metals and mining space. We believe that ongoing issues like mining mess, policy paralysis and slowing economy are structural in nature and the condition are going to remain stressed at least in next two quarters. Thus we continue to maintain our negative stance on sector. However Inspite of directly exposed to Europe, Tata Steel remains our prefer pick due to structurally changing business model.

To read the full report: METALS & MINING


What’s inside

1. Crude and natural gas prices………….……..…………….………...
2. Product prices and spreads………….………..…………..…...….....
3. Refining margins………………………….….……………..…..…....
4. Petchem and petroleum spreads……….…….……….……...……….
5. Production…………………………………..….…………..…..........
6. Inventory and product demand…………..………………......………..
7. Under-recoveries sensitivity……... …….………….................……….
8. Stock performance and valuations……………………………………..
9. Recent published reports …………………….........…..........................

To read the full report: PETRO MONITOR

>ZYDUS WELLNESS: Pressure on Everyuth & Nutralite margins to fall due to higher palm oil prices.

Management call: subdued FY12, long-term growth intact

High competitive pressure on the Everyuth brand, the cyclical downturn in SugarFree’s revenues and higher raw material costs for Nutralite have impacted Zydus Wellness’s performance over the past two quarters. We, however, believe the strong long-term growth
potential is intact and view the correction in the stock price as an attractive entry point. We maintain our Buy rating on the stock.

 Higher competitive pressure on Everyuth. Everyuth continues to see high competitive pressures from MNCs. HUL has raised media spend on the face-wash and scrub categories, which account for larger part of Everyuth’s revenues. Pressure also comes from other players, such as Garnier and Nivea. This results in lower revenue growth for Everyuth.

■ SugarFree passing through a cyclical slow-growth patch. Management indicated that the current slowdown in SugarFree’s revenues is due to the four-quarter period of lower growth that SugarFree goes through after every 3-4 years, and that structurally the brand has strong
long-term growth potential. Management also indicated that Zydus’ market leadership has risen from 84% a year ago to 89% now.

 Nutralite margins to fall due to higher palm oil prices. As 75% of the Nutralite business is institutional and has lower pricing power, the company expects to continue to suffer on the margin front as palm oil prices continue to rule higher due to rupee depreciation.

 Excise duty to be lower from 2HFY13. As the company is required to pay excise in Sikkim and then collect the refund from the Government in the next year, the excise duty is likely to drop from the second year of operations. We expect the lower excise duty to start from 2HFY13.

■ Valuation. We value the stock at a DCF-based price target of `690. (Implied target PE of 30x FY13e earnings.) Risk. Higher competitive pressure.


>INDIA BANKS: Sector-wise credit growth trends

Riskier lending slowing down

Sector-wise analysis of credit growth
■ As of the last available sector level data released by the RBI (November 18, 2011), aggregate non-food credit growth was 16.8% yy with primary contributions from industry (20.9% y-y), services (16.9% y-y), retail (13.4% y-y) and agriculture (7.3% y-y). We expect credit growth to average 16.5% for FY12.

 Working with 16.5% credit growth for the sector for FY12F, we have examined what proportion of this total credit target for FY12F has been completed so far by each of the major sectors and then compared it with the proportionate completion over the same period in FY11 and FY10. Looking at Figure 1, credit growth for the industry has completed 59% of the annual target so far in FY12, compared with 51% in FY11 and 38% in FY10. When adjusted for loans given to the power sector, industry has clocked 53% of the annual FY12 credit target (comparable proportions for FY11 and FY10 were 45% and 29%, respectively). In comparison, retail, SME and services sector credit have been relatively slower so far. We look at the subsector trends within each of these sectors in detail below.

 Looking at the subsectors within industry category – and assuming a 16.5% credit growth target for the subsectors for FY12F – subsectors such as power, roads, iron & steel and engineering are well placed in terms of proportion of the annual target completed. Using this metric, the ‘roads’ subsector comes out as a clear topper, which is in accordance with some of the guidance given by banks and NBFCs a few quarters back (that order activity in the roads sector is expected to pick up). Textiles, food processing and telecom are clearly lagging so far, but seasonal priority sector lending effect could come into play for textiles and food processing.

 Within retail loans – vehicle loans have tracked better so far than mortgage loans, while non-collateralized loans are clearly much slower. Mortgages have completed only 46% of the proposed annual FY12F target so far, compared with 59% in FY11 and 57% in FY10.

 In the services sector – commercial real estate has been the biggest laggard. Major subsectors such as NBFC and Transport Operators are lagging so far this year due to regulatory uncertainty surrounding their priority sector status and ban on mining operations in certain parts of the country.

■ In priority sector lending – While manufacturing SMEs are on track, service-driven SMEs are clearly lagging behind. While decline in agri credit could get reversed on the back of strong Rabi harvest and fourth quarter push, small ticket mortgage book could be a laggard.

How to read the charts - In the charts below we have plotted the YTD change in outstanding bank credit to different sectors as a ratio of full year change in their respective loan books. And then we have compared it across FY12, FY11 and FY10. While for FY10 and FY11, we have
used the actual annual change in loan book as the denominator, for FY12 estimates we have used our assumption of uniform credit growth of 16.5% across all categories to arrive at the denominator. The figures in parentheses indicate the category’s current loan book as a proportion of overall bank credit.

Fig. 1: YTD change in bank credit as % of full year change
Credit to Industry on track, retail and SME growth sluggish in FY12

Fig. 2: Breakdown of YTD change in industry loan book
Power and road sector drive strong growth, chemical and telecom lag

Fig. 3: Breakdown of YTD change in retail loan book
Mortgage growth weaker in FY12, non-collateralized book a laggard

Fig. 4: Breakdown of YTD change in services loan book
Trade finance, lending to NBFC on track, realty and transport laggards

Fig. 5: Breakdown of YTD change in priority sector loan book


>CAIRN INDIA: To benefit from weak INR and high oil prices (IFIN RESEARCH)

■ Weak INR to boost earnings; upgrade to Buy
Expect 17% FY11-FY13 EPS CAGR on weak INR, high oil price
We expect Cairn India to benefit from weak INR and high oil prices. To reflect this, we revise upward our Rs/USD exchange rate assumptions for FY12 to Rs49 (Rs45 earlier) and for FY13 to Rs52 (Rs45 earlier) and crude price assumption to USD110/bbl for FY12 (USD105/bbl earlier) and USD100/bbl for FY13 (USD95/bbl earlier). Consequently, we revise upward our EPS estimate for Cairn India by 10% to Rs40.3 for FY12 and by 24% to Rs45.6 for FY13. We expect Cairn India’s EPS to grow at 17% CAGR over FY11-FY13, the highest in our Oil & Gas coverage universe.

■ Production ramp-up in sight, 36% volume CAGR in FY11-13
With the completion of Cairn-Vedanta deal, we now expect regulatory approvals to come soon, which would help Cairn India to ramp-up production at its Rajasthan block. The Cairn India management has guided for ramp-up in crude oil production to 175kbpd by Mar-12 (subject to GoI approvals) versus 125kbpd currently led by start-up of crude production at Bhagyam field (expected peak production rate of 40kbpd) and ramp-up of crude production at Mangala). We model crude oil production volume CAGR of 36% over FY11-FY13E.

We have upgraded the stock to Buy from Hold with a revised target price of Rs364 (Rs321 earlier) on back of our weak INR assumption. We assume long term crude price of USD95/bbl and Rs/USD exchange rate of Rs50 FY14 onwards. The stock factors in long-term crude price of USD71/bbl and appears attractive at P/E of 6.7x FY13E EPS and 4x EV/EBITDA. Key risks to our target price and rating stems from steep fall in crude oil price.