Monday, March 26, 2012


 Continued growth in loan book: With an established franchise in retail lending and an improving presence in corporate lending, we expect KMB to deliver healthy 29% CAGR in loan growth over FY11-FY14 (FY07-FY11 CAGR is 28%).

 NIMs to remain stable: Whilst a growing proportion of lower yield wholesale loans in KMB’s portfolio (40% by FY14E from 32% in 3QFY12) will decrease the bank’s blended yield, a decrease in the cost of funds (due to a higher proportion of CASA deposits going forward and lower wholesale funding costs) will ensure that NIMs remain stable at ~5.1% over FY12-FY14 (~5.1% in FY12YTD on a calculated basis).

 Lower exposure to credit quality risk: With negligible exposure to stressed sectors such as Power, Telecom, Infra, Aviation and Textiles (0.9% of total net worth) and gross NPAs of 1.1%, we believe that KMB is one of the best placed banks in India in terms of asset quality.

 Well capitalised balance sheet: With a tier 1 capital ratio of ~16%, Kotak is amongst the best capitalised banks in India. This not only offers the bank an opportunity to acquire businesses for inorganic growth, it also provides enough headroom for the company to leverage its balance sheet and expand its RoE.

 Fee income to increase sharply: We believe the worst is over for the capital market businesses and we expect capital market related fee income to increase sharply from hereon at 26% CAGR between FY12-FY14 with recovery of the markets (negative CAGR of 22% between FY08-FY11).

Valuation: Our SOTP valuation of the company is `609 (for FY13E, implied consolidated P/B of 3.0x and consolidated P/E of 19.1x), implying 7% upside from current levels. However, if the overall economy improves going forward, the stock could provide significant returns due to higher valuation for both lending and capital market businesses.

To read full report: KOTAK MAHINDRA BANK                  
To read other reports: SWOT ANALYSIS ON BANKING INDUSTRY                                                                         

>PORTFOLIO STRATEGY: 2Q consolidation: Expect flat market, cyclical rotation

■ Expect flat market for 2Q, rotation out of global themes
A period of consolidation is likely after the region’s 14% ytd gain; we expect flat returns in 2Q (+2%). Performance will likely be driven by the interplay between macro newsflow and expectations. We expect market leadership to rotate out of global cyclicals back to domestic themes.

■ Allocations: restack driven by shifting risk/reward
We retain our overweight stance on China, but expect a bumpy period in the very near term until clearer signs of policy easing emerge. We raise Indonesia to overweight and India to market weight (“domestic” theme). We upgrade Australia to market weight; we may be early, but expect a cyclical upturn later this year and find valuations attractive. Hong Kong and Malaysia are underweight on valuation and a lack of catalysts. We are market weight Japan on a 12m view but see near-term outperformance.

■ Stock correlations falling: focus on relative value ideas
We emphasize relative trade ideas given falling intraregional stock correlations and a potential period of consolidation. Ideas include inexpensive ASEAN stocks vs. expensive cyclicals, banks vs. property, and tech hardware vs. semiconductors.

■ Positive strategic stance: higher 12-month target
Our 525 MXAPJ 12m index target equates to roughly 12x our 2013 EPS forecast of $44 and implies 19% upside from current levels. Our positive strategic view is driven by a recovery in EPS growth to 9% and 15% (in local fx terms) for 2012-13 and a moderate improvement in valuation from still inexpensive levels (11.4x forward P/E, 1.5x trailing book).

To read full report: PORTFOLIO STRATEGY

>HEXAWARE TECHNOLOGIES LIMITED: Improvement in utilization level, moderation in attrition and higher contribution of offshore revenue

We initiate coverage of Hexaware Technologies with a LONG rating and March’13 price target of Rs 143, based on 12x March’13e TTM earnings which implies an upside of 20% from current level. In 2008-09 Hexaware’s revenue was hit severely given the disproportionate exposure to discretionary spend segment. Since then the company undertook realignment of its business segment resulting in industry leading growth (CQGR of 8.1%) for the last 8 quarters and also significant improvement in operating performance (wherein operating margin improved by ~1600 bps) during the same time frame. Given the recent deal wins, we expect that the company to sustain its revenue growth momentum going ahead and believe that the company has enough levers to at-least maintain its Q4CY11’s operating margin if not improve
the same.

■ Recent large deal wins provide better visibility over revenue – expect $ revenue CAGR of 20% from CY11-14E: Recent deal wins amounting to TCV of ~$600 mn by Hexaware which are long term in nature (as compared to short-term earlier), spanning across various service lines provides better visibility and much-needed stability to the future revenues. As most of the deals are with existing clients, it will help Hexaware improve its offshore mix and employee pyramid metrics. We expect Hexaware to clock a $ revenue CAGR of 20% from CY11-14E.

■ Still enough levers left to aid margin improvement – company’s target of EBITDAM of 25% a realistic target: Aided by sharp rupee depreciation (~11% in Q4CY11), Hexaware clocked an EBITDA margin of 23% (lifetime high) in the Q4CY11. The company intends to achieve 25% EBITDA margin in next couple of years. We think that an EBITDA margin of 25% is definitely a realistic target and the company still has enough levers to achieve the same. Some of the potential levers are (a) Change in employee mix – Hiring more of freshers (b) Reduction in SG&A expense (c) Improvement in utilization level, moderation in attrition and higher contribution of offshore revenue.

■ Revenue growth momentum and operational stability is here to sustain; Strong dividend policy to support our TP: Post 2008-09 business restructuring, the company has reported industry leading growth and significant improvement in operating performance. We believe this change is sustainable owing to recent deal wins, and operational stability. Hexaware has a high dividend payout ratio of ~50% along with dividend yield of 3.5% which limits the downside risk to our price target (as evident from the DDM fair value of Rs 116). The stock has kept pace with business performance (has doubled over the last 12 months) but we still see upside from current level because of continued revenue growth momentum, healthy dividend pay-out policy and improving operating performance.

To read full report: HEXAWARE TECHNOLOGIES

>DIVI's LAB: Vizag SEZ, Carotenoids uptick to boost revenues

Sustained revenue ramp-up in sight; Buy

 Recent underperformance offers a particularly good entry point; Buy
We believe Divis 14% YTD underperformance (vs market) is overdone noting high revenue visibility (22%+), healthy Balance Sheet and strong earnings trajectory (24% EPS CAGR). Our recent interaction with management reinforces our optimistic view on Divis’ ability to capitalize on CRAMS recovery backed by strong customer relationships (~70% sales from repeat business) & capex plan. Rate Divis as our top mid-cap pharma pick and reiterate Buy with PO of Rs940.

■ Vizag SEZ, Carotenoids uptick to boost revenues
We expect Divis to sustain 22% sales CAGR over FY12-14E driven by (a) increased volumes in key API products (~35% of sales, 60%+ mkt share) & new launches from upcoming US patent expirations (like generic Seroquel-Mar’12, Diovan-Sep’12) to help 20%+ growth; (b) New orderflow in high margin custom synthesis business to sustain 25%+ growth & (c) Carotenoids business set to double sales to Rs1.6bn by FY14E. New Vizag SEZ would support company’s growth plan with 25% incremental capacity being added (peak sales of Rs5bn).

■ Carotenoids – opportunity to unfold strongly
We expect Divis carotenoid business to grow at fast pace over FY12-14E to clock revenues of Rs1.6bn (from Rs840mn in FY12E). New customer additions through distributor (like Omya Intl) would help capture mkt share of ~5% in US$1bn global mkt over 3-5 years. With only two large players DSM & BASF in the market, customized solutions would help Divis differentiate and gain market share.

■ Attractive valuations; PO implies 27% upside potential
Divis is currently trading at 15.8x FY13E & 13.4x our FY14E, at 15% discount to its historic average and in line with the sector despite stronger return ratios (~25%) & superior margin profile (37% EBITDA margin vs 20% avg). We expect 4Q PAT to improve 17% QoQ led by 22% sales growth, implying sustained improvement in revenue run-rate and key to re-rating potential. Reiterate Buy.

To read full report: DIVI's LAB

>MARUTI SUZUKI LIMITED: No valuation cushion at current stock price; down to Sell

■ Current price discounts optimistic outcome; downgrading to Sell
Our Sell rating reflects the rich valuation (23x FY13E core EPS) on our estimates which factor all likely positive outcomes on volumes, mix and margins. The current price implies a reversion to peak profitability levels of the past – an optimistic expectation. In addition, Maruti’s margin is significantly affected by FX fluctuations and hence it should command a lower valuation multiple. We note that Hero and Bajaj, with comparable financial metrics, offer higher FCF yields (7-10% vs. 4% for Maruti). Mahindra remains our preferred stock in Indian autos.

 Our estimates factor in positive outcome on volumes, mix and margins
We forecast Maruti’s domestic volumes to grow at a CAGR (FY12-14E) of 21% vs. 14% for the industry. This implies Maruti's market share at 44% by FY14E (490bps gain). We forecast volume share of higher ASP models (Swift, Ritz & Dzire) to increase by 200bps to 34% by FY14 due to easing of capacity constraints’ improved supply of diesel engines. On profitability, we expect EBITDA/car to increase from Rs18,011/car in FY12 to Rs27,472/car (90% of peak) by FY14. Despite the expectation of a pullback in profits from the trough in FY12, Maruti's core profits in FY14E will only be 8% higher than FY10 ( its previous peak).

 Currency-driven profitability swings reduce earnings visibility
For Maruti, costs equivalent to c27% of revenues are denominated in JPY. A 5% appreciation of JPY vs. INR would lead to a 12% fall in EPS. Over the last five years Maruti’s EBITDA margin has declined c1100bps from 15.4% (quarterly peak) in 1Q08 to 4.1% in 3Q12. The entire fall is due to 90% appreciation in the JPY/INR rate over this period. While Maruti has embarked on an aggressive localisation
programme, in the interim, earnings visibility remains low due to the FX impact.

■ Trading at 16x FY14E core P/E and 4% FCF yield
Our target price of Rs1,200 is DCF-based (Rf 6.0%, Rm 8.5%, WACC 13.2% and 4.0% terminal growth rate) and implies 20x FY13E core EPS (Rs49) and 14x FY14E core EPS (Rs67). We define core profit as net profit minus post-tax non-operating other income. Core P/E is (stock price – cash)/ core profit. Risks include better than-expected volume growth and significant depreciation of the JPY.

To read full report: MARUTI SUZUKI

>LIC HOUSING: Disbursements towards individual segment is set to remain tad higher

  • LICHF raises Rs8.1bn via issue of 30mn equity shares to parent LIC India (2.0x/9.1x 1-yr forward PB/PE) and resulting in EPS dilution to the tune of 6% for FY12E
  • FY12/FY13 ABV estimates stand increased by 9%/7% resp. Capital infusion to enhance CAR by 200bps+ to ~16.5%. Factoring 26% CAGR in loan portfolio over FY11-13E
  • Competitive intensity expected to rise, longer than expected time frame for easing monetary policy and lower share of corporates loans to act as caveat for growth and margins
  • Remain wary on stock due to lower disbursement growth and easing return ratios. Valuations at 2.4x/2.0x FY12/FY13ABV leave limited room for upside. Maintain HOLD, tp of Rs260

■ Capital infusion much along the expected lines
LICHF has raised Rs8.1bn (~US$162mn) via preferential issue of 30mn equity shares to the promoter - LIC of India. The promoter shareholding posts the issues stands increased to 40.2% (36.5% pre-placement). The equity infusion has resulted in EPS dilution to the tune of 6% for FY12; CAR stands enhanced by 200bps+ to ~16.5%+. This enhanced capital adequacy ratio will aid 24% CAGR in balance sheet over FY11-13E. Our FY12E/FY13E BV estimates stand increased by 9%/7% respectively. LICHF has also passed an enabling resolution to raise capital via QIP, the quantum of which in our view
would be ~Rs2-3bn.

■ Disbursements growth to ease at 17%CAGR over FY11-13E
The soft interest regime and relatively affordable property prices had enabled LICHF to report healthy 33% /41% CAGR in loan portfolio / disbursements in FY08-11. However, in the backdrop of a) intensifying competition by Banks / FIs in the mortgage space (Bank credit to the sector is up 13.2% yoy against overall non-food credit growth at 15.9% as at Jan’12) b) longer than expected time frame for easing monetary policy rates and c) lower proportion of exposure to high-yielding corporate loans, we expect growth rates to ease. We expect LICHF to clock 17% CAGR in overall disbursements. The renewed focus towards increasing penetration and loan schemes targeted towards retail segment, disbursements towards individual segment is set to remain tad higher at 20% CAGR. Loan portfolio to witness 26% CAGR over FY11-13E

 Valuation and view
The stock has exhibited resilience in the recent times owing to its ability to generate superior return ratios (RoE / RoA at 20%+/2%) and stable asset quality (Q3FY12 GNPA at 0.6%). We however remain wary on the stock given lower margins (2.3% as at Q3FY12), limited exposure to high-yielding corporate segment (6% of book) and larger dependence on high cost of funds – Banks + NCD (80%+ of total borrowings). In FY10, LICHF had raised ~Rs6.6bn via QIP issuance of 10mn equity shares and resulting in equity dilution to the tune of 11%. The issue was priced at 1.9x 1-yr forward book. This time around, the capital dilution is a tad lower at 6%. However, the pricing is on a higher end at 2.0x 1-yr forward book which is also equivalent to its 1-yr forward P/B for past 3-yr average. In our view, a further re-rating of valuation multiple does not seem likely given constraints on competition, product portfolio and interest rate regime. In the backdrop of lower loan growth and easing return ratios, current valuations at 2.4x/2.0x FY12/FY3E ABV leave limited room for upside. Maintain HOLD, target price of Rs260.

To read full report: LIC HOUSING