Sunday, February 12, 2012

>MARKET STRATEGY: Has anything gone wrong with India’s growth therapy (Indian equity markets to witness time based correction)

The year 2011 had one theme consistent across various asset classes i.e. safety first. Risk aversion remained at elevated levels forcing investors to dump sovereign bonds of troubled European countries in favour of relatively safer US bonds, thereby driving their yields to historically lower levels. Within commodities, gold remained in a sweet spot due to perceived benefits of hedge. The emerging equity markets including the BRIC brigade slumped with Indian equities at the bottom of the league.

CY12 would be an equally challenging year and is likely to be a rollercoaster ride for the investors. Politically, this year would be a mega carnival of leadership changes in major economies such as the US, China and France among others. Policy responses in the US and Europe region would be directed towards applying the liquidity balm to iron out current issues while solvency issue would be postponed. Emerging economies would spend their time and energy towards preservation of growth as higher inflation and interest rates eat up growth. In addition, global growth faces risk from higher crude prices due to Iran-Israel induced tension, political uncertainty in the Arab world, North Korea, Afghanistan and Iraq among others. Commodity markets may crumble under the Chinese slowdown fears. Domestically, the Indian economy could spot relief in terms of interest rate cuts and lower inflation while higher fiscal deficit, currency volatility and crude oil could still knock off a few basis points from our economic growth. In addition, perceived policy paralysis and gloom associated with it would continue to lead to procrastination in our thoughts and capture headlines.

We expect the Indian equity markets to witness time based correction. Hence, we expect the Sensex to be boxed in the range of 15442 (14x FY12 Sensex EPS of 1103) – 17822 (14x FY13 Sensex EPS of 1273, upside of 14%) in line with earnings growth of 15% in FY13 and historical average multiples of 14x. The fortunes of equities are also tied to the relative attractiveness of fixed income, gold and real estate. Any deterioration in risk return trade off in these asset classes would be a blessing in disguise for equities else equity markets may continue to be sidelined. In the event of an unlikely global sell off, Sensex multiples could shrink to 10- 11x FY13 earnings, implying a downside of ~15%. The long term case for investments in Indian equity markets still remains intact through periodic investments while investors should grab any opportunity arising due to sharp sell off where multiples contract further to 10-11x. Otherwise, investors should look at the next year end as a buying opportunity as by then we would have captured FY13 growth and a likely double digit growth in FY14 on the anvil, which would limit downsides from thereon. Parallel levels on the Nifty are 4637 on the lower side and 5351 on the higher side.

We believe that relatively safer sectors would continue to lure investors as the capital preservation despite lower returns theme is unlikely to fade away. Accordingly we continue to prefer IT (rupee to benefit though valuation expensive), pharma (rupee & patent expiry to benefit yet valuation seems expensive), telecom (financials to improve, reducing regulatory uncertainty) and auto (lower base, lower commodity, peaking interest rates).

To read full report: MARKET STRATEGY

>ORBIT CORPORATION: New launches in Q2FY2013- Orbit Laburnum, Orbit Grandeur - Slum. Napean Sea road

Slow execution & poor pre sales mar revenues: Orbit Corporation’s consolidated revenues in Q3FY2012 came in at Rs71.5 crore, down 37% year on year (YoY) and 31% sequentially due to weak execution across projects and poor presales in M9FY2012 so far. Project wise, Orbit Haven (Napean Sea Road) contributed the highest during the quarter at Rs22.6 crore followed by Orbit Residency Park (Andheri-Saki Naka) at Rs20 crore and Villa Orbit Annex (Napean Sea Road) at Rs10.6 crore. Orbit Enclave (Prarthna Samaj) could not reach the threshold of 25% completion during the quarter. So no revenue was recognised from the project. However, with 19% completion status, it is expected to contribute from Q4FY2012.

Sharp rise in margins, but escalating interest cost dents PAT: The operating margin was up 125bps YoY to 54% mainly on account of higher revenue booking from the Napean Sea Road premium properties which garnered high margins. There is a huge sequential improvement of 20% in margins as Q2FY2012 was hit by an increase in the cost of projects and lower margins booked in its Ocean Paeque asset sale. However poor performance at the top line along with escalating interest burden, which grew 21% YoY, and a higher tax payout completely negated the strong margin expansion. As a result, the profit after tax (PAT) declined by 86% YoY and 20% on a sequential basis.

Presales improve sequentially but still a long way to go: Presales for the quarter stood at Rs71.1 crore (32,921 sq ft) which are better compared to Q2FY2012’s presales of a measly Rs2.41 crore (9,034 sq ft) but poor as against Rs133.5 crore (62,158 sq ft) of presales attained in Q3FY2011. The poor performance on the presales front is on account of absence of new launches during the quarter which are stuck up for clearances and approvals. The company resorted to some discount in Orbit Laburnum (Gamdevi, of ~2.5%) and Orbit Residency (Andheri-Saki Naka, ~14.5%) projects. On the contrary the Lower Parel and
Tardeo properties witnessed price appreciation in the range of 10-20%.

Downgrading estimates for FY2012 but retaining FY2013’s: We have kept our revenue booking estimates for FY2012 and FY2013 unchanged. However for FY2012 we are lowering our EBITDA by 3% on account of lower margins. Further with a rise in interest cost for the company and a dip in margins we are reducing our FY2012 earnings by 17%. But we keep our FY2013 estimates unchanged and expect the demand to revive towards the end of H1FY2013. The management intends to bring in a strategic partner in two to three of the company’s projects which will help it to keep a check on its debt and speed up execution.

Maintain Buy, price target revised to Rs70: Poor sales across projects due to regulatory uncertainties and absence of new launches due to pending approvals and clearances took a toll of the company and the overall industry. However there have been amendments in Development Control Rules (DCR) which now create a level playing field for developers and provide regulatory clarity. This will result in pending projects now getting approved. Further with the clear timeline set for sanctioning approvals, the process will speed up. Thus as and when the company manages to gain some traction on the new launches front and on the execution, the performance would eventually reflect on the stock. The next couple of quarters need to be keenly watched in terms of the cut in interest rate cycle and the progress on the approvals front for the company. We like Orbit Corporation given its presence in the key property market— Mumbai—where it caters to the luxury segment which is relatively stable in terms of pricing. Hence we maintain our Buy rating on the stock. We factor in strong execution and sales from H2F2013 onwards in our net asset value (NAV) and reduce our discount given to NAV to 50% which results in a revision of the target price upwards to Rs70 from Rs50 earlier. At the current market price, the stock trades at 7.2x its FY2013E earnings.

Sales improve sequentially but not up to the mark Presales for the quarter stood at Rs71.1 crore (32,921 sq ft) which are better than Q2FY2012’s presales of measly Rs2.41 crore (9,034 sq ft) but poor as against Rs133.5 crore (62,158 sq ft) of presales in Q3FY2011. The poor performance on the presales front is on account of absence of new launches during the quarter which are stuck up for clearances and approvals. The company resorted to some discount in Orbit Laburnum (Gamdevi, ~2.5%) and Orbit Residency (Andheri-Saki Naka, ~14.5%) projects. On the contrary the Lower Parel and Tardeo properties witnessed price appreciation in the range of 10-20%. In Q4FY2012, the presales will be largely driven by bulk sales in two of its properties viz Orbit Residency (Andheri) and Orbit Terraces (Lower Parel) which might happen at some discount to the prevailing prices. It had previously done this in its Laburnum project in Gamdevi.

The average price for the quarter stood at Rs21,597/sq ft vs Rs26,677/sq ft for Q2FY2012 and Rs12,485/sq ft in Q3FY2011. With the amended DCR now in place, the company expects the approval process to be streamlined quickly. As a result the company has planned to start
applying for fresh project approvals since March and expects the fresh launches to start from the end of Q1FY2013.

New launches to kick in from Q2FY2013; strategic partners to be roped in The company is hopeful of launching the SRA project in Santa Cruz (one phase), Orbit Laburnum (balance), and a new project in Napean Sea Road by Q2FY2013 for which approvals are in process at various stages. The company is looking at roping in a strategic partner in its Santa Cruz project which will help in execution without raising further debt. The company may also look at partial exit in this project.

Further the pending approvals for Mandwa will take approximately six months for clearance, post which the company will launch the project completely. Further for the Kilachand property the company plans to rope in a strategic investor and is lined up for a launch in the next two to three quarters. Also the Orbit Terrace clearances have come in December and construction work has gained momentum. All the other under-construction projects are well on track and are on schedule for completion. Further the company is exploring a new property at Kemps Corner
which would come into the books of the company in Q1 – Q2FY2013. The said project is likely to be launched by Diwali.

Valuation and view
Poor sales across projects due to regulatory uncertainties and absence of new launches due to pending approvals and clearances took a toll of the company and the overall industry. However there have been amendments in DCR which now create a level playing field for developers and
provide regulatory clarity. This will result in pending projects now getting approved. Further with the clear timeline set for sanctioning approvals, the process will speed up. Thus as and when the company manages to gain some traction on the new launches front and on execution, the performance would eventually reflect on the stock. The next couple of quarters need to be keenly watched in terms of the cut in interest rate cycle and the progress on the approvals front for the company. We like Orbit Corporation given its presence in the key property market— Mumbai—where it caters to the luxury segment which is relatively stable in terms of pricing. Hence we maintain our Buy rating on the stock. We factor in strong execution and sales from H2F2013 onwards in our NAV and reduce our discount given to NAV to 50% which results
in a revision of the target price upwards to Rs70 from Rs50 earlier. At the current market price, the stock trades at 7.2x its FY2013E earnings.


> IIP growth declines to 1.8% in December 2011

In December 2011 the Index of Industrial Production (IIP) grew by 1.8%, which is a tad lower than the market’s expectations. The relatively subdued performance was led by a weak performance in the manufacturing sector and a sharp decline in the capital goods sector. On a year till date (YTD) basis, the IIP growth stands at 3.6% as against 8.3% in the corresponding period of FY2011.

On a sequential basis (month on month), the IIP index expanded by 6.8% in December 2011 to an absolute figure of 178.8 as compared to 167.4 in November 2011. On a sequential basis also, the growth in the consumer goods segment was quite strong at 12.1% led by a strong growth in the non durable goods, though the capital goods segment grew by a muted 1.6% sequentially. The mining sector declined by 3.7% as against a decline of 4.4% seen in November 2011 whereas the manufacturing output grew by 1.8% as against a decline of 6.6% in November 2011. The electricity sector saw a growth of 1.8% year on year (YoY) as against a growth of 14.6% recorded in November 2011.

After showing some recovery in November, the IIP growth has dipped in December on account of subdued growth in the capital goods segment. Going ahead we expect the IIP numbers to remain subdued due to a general slowdown in the economy as high interest rates have slowed investments. In its Q3 monetary policy review, the Reserve Bank of India (RBI) has already reduced the cash reserve ratio (CRR) by 50bps and indicated at a reduction in policy rates based on the inflation trend and fiscal deficit situation. Going ahead, the softening of IIP and gross domestic product (GDP) growth could build a case for reduction in repo rates by the RBI in the March mid-quarter policy review.

Sluggish growth in manufacturing sector
In December 2011 the manufacturing sector showed a growth of 1.8% YoY as against a growth of 5.9% seen in November 2011. In absolute numbers, the manufacturing sector index was reported at 190.7 as against 177.8 in the previous month and the mining sector saw a decline of 3.7% as against a drop of 4.4% in November 2011. The electricity sector witnessed a growth of 1.8% as against an increase of 14.6% in November 2011. In terms of industries, 5 out of 22 industry groups showed a decline during December 2011 as compared to 6 out of 22 in November 2011.

IIP for November 2011 remains unchanged at 5.9%
The IIP growth number for November 2011 has remained unchanged at 5.9%. From a segmental perspective, the mining growth has been revised upwards to -4.1% from the provisional figure of -4.4% and the capital goods growth has been revised upwards from -4.6% to -4.3%.

After showing some recovery in November, the IIP growth has dipped in December on account of subdued growth in the capital goods segment. Going ahead we expect the IIP numbers to remain subdued due to the general slowdown in the economy as high interest rates have slowed investments. In its Q3 monetary policy review the RBI has already reduced the CRR by 50bps and indicated at a reduction in policy rates based on the inflation trend and fiscal deficit situation. Going ahead, the softening of IIP and GDP growth could build a case for reduction in repo rates by the RBI in the March mid-quarter policy review.


>TATA STEEL: Disappointing to the core, maintain sell

Tata Steel reported more-than-expected consolidated PAT loss of ~Rs6bn (our est. loss Rs3.1bn) on account of Rs7.8bn operational loss in European operations due to high raw material costs. EBITDA stood at Rs17.2bn (margin of 5.2%, lowest in two years) as European operations suffered larger-than expected EBITDA loss of ~US$46/tonne and domestic operations remained under pressure as expected due to cost pressures. We expect profitability to improve going forward on account of lower raw material costs but see concerns related to European operations continuing as further restructuring and asset closure announcements will result in restructuring costs hitting P&L ahead. We revise our estimates slightly lower and remain well below consensus with our continued negative stance on the European operations, lower margin profile in domestic operations on reduced backward integration post expansion and high interest costs on account of the huge debt pile. Maintain Sell.

 Standalone results remain lower as expected: Domestic sales volume stood at ~1.62MT (our est. ~1.7 MT) and higher costs resulted in EBITDA margin of 31.7%, a drop of 230 bps sequentially. Long product sales were lower by 7% QoQ due to planned shutdowns but realizations were higher due to better product mix. 2.9mtpa steel expansion remains on track, but commissioning is yet to begin and is expected to take longer time for stabilisation with ~1MT volume contribution in FY13E.

■  Corus suffers higher loss, leads to consolidated EBITDA plunge: Corus suffered EBITDA loss of ~US$46/tonne as realizations dropped 7% QoQ and raw material costs climbed as expected. Restructuring of operations continues at Corus and Llanwern hot strip mill was closed in Dec’11 after cuts in long product capacity was implemented in Sep-Oct’11. South-East Asian subsidiaries continued their subdued performance and reported EBITDA loss of ~US$3/tonne on account of ~15% drop in sales volumes to 0.66 MT. As a result of operational losses in subsidiaries, cons. EBITDA plunged to Rs17.2bn with a two-year low margin of 5.2%.

 Outlook on Europe earnings cloudy: We see outlook on European operations remaining cloudy and expect EBITDA loss to continue in Q4FY12. We expect normalized EBITDA/tonne of US$25/35 in FY13E/14E in Corus as raw material cost pressures are easing but demand remains lackluster. We also expect restructuring costs at Corus to hit P&L in the next few quarters on account of ~2500 job losses, keeping profitability subdued. We expect domestic sales volume of 8MT/9.2MT in FY13E/14E. We expect EBITDA margin of 32.2%/33.1% in FY13E/14E on a standalone basis as integration on the coking coal front would drop post expansion and product mix will get skewed towards flats, keeping overall realizations in check. We revise our cons. EBITDA estimates lower by 4.7%/0.2% for FY13E/14E

 Maintain sell: We remain skeptical on subsidiary earnings going forward and are equally concerned on elevated maintenance capex keeping the debt levels high. We shift our valuation base to FY14E and value the company on SOTP basis with domestic operations at 5.5x FY14E EV/EBITDA and Corus & South-east Asian subsidiaries at 4x FY14E EV/EBITDA to arrive at a target price of Rs391. Maintain Sell.