Tuesday, October 28, 2014

>The world’s greatest stock picker? Bet you sold Apple and Google a long time ago. - JOHN MAULDIN

My good friend Barry Ritholtz, famous for launching The Big Picture blog (and since graduating to being a regular Bloomberg columnist as well as writing a weekly column for the Washington Post), is well-known for being a contrarian. Barry is a regular dinner partner when I get to New York, and he also participates in the annual Maine fishing trip. We frequently trade information … and barbs. The word colorful affectionately comes to mind when I think of Barry (and maybe opinionated would work).

I can usually count on him to find at least a few things to disagree with me on at our dinners. No matter what devastating arguments I produce to demonstrate the errors in his thinking, he conjures up new facts to support his flawed positions. We have had a few of these episodes as members of a panel in front of a large public audience, much to the amusement of the spectators (and watching Barry can be an entertaining spectacle). My only real frustration with Barry is that he is mentally faster than I am and he seemingly remembers every obscure data point from the last thousand years. I consider it a triumph if I merely hold my ground.

But one thing we do agree on and are both passionate about is that we human beings were not designed for these modern times. As I so often say, we evolved on the African savanna dodging lions and chasing antelopes. We have converted those survival instincts into an unwieldy approach to dealing with financial markets, which is not the optimal way to approach investing. Both of us write a great deal about behavioral investing and the foibles of human nature.

I was struck by the insights of Barry’s latest Washington Post column. How difficult it is for us humans to hold on in the middle of dramatic volatility. Don’t you wish you had held Apple for the last 10 years? A 1000-bagger is not to be sneezed at. But dear gods, the volatility! And what about the stocks that once looked like a better bet than Apple that went to zero? How do you decide when to hold and when to fold? (Cue Kenny Rogers.)

This is a short Outside the Box, but it’s one that should make you think, which is the purpose of this letter.

And in a departure from my usual close, I want to offer two links. The first is to a fascinating web post at something called distractify.com of 52 colorized historical photos. You have seen most of these photos in black and white (or at least you have if you have reached my advanced age). Seeing them in color is quite another story.

Second, and not for the faint of heart, is a link to a rather heated exchange between Ben Affleck and Bill Maher over radical Islam and Islamaphobia. I generally find Maher annoying, sometimes in the extreme. But this “conversation” is instructive. It illustrates the tensions in the Western world around dealing with Islamic beliefs and the religion in general. The other guests chime in with fascinating anecdotes. You can decide for yourself who wins this argument, but it is one that is increasingly important in our world. And I am not sure anyone will be comfortable with the answers. This is courtesy of my friends over at Real Clear Politics.

I am still luxuriating in the aftermath of my birthday party on Saturday night. Friends flew in from all
over the country (and from around the world) and surprised me. Too many to mention, but I was deeply honored and humbled. My staff and friends and family put the whole thing together (huge thanks to Shannon and Mary and Shane and my kids). My daughter Melissa put together a playlist on Spotify of all the songs she has heard me listening to over the years. Three and a half hours of one hit after another. We are working on making it available to those of you who are already on Spotify.

And just for the record, that morning I did 66 consecutive push-ups on my 65th birthday. I then went on to do a total of 360 push-ups (50×5+44) in less than two hours, with the help of an Avacor machine to cool me down between sets, in a workout that included a similar number of abs, lat pulldowns, arm exercises, etc. Knock on wood, I do not plan to go gently into that good night. As a geek, I am coming late in life to loving the gym. But better late…

It is time to hit the send button. I am off to the Great Investors’ Best Ideas Symposium here in Dallas.

It is a who’s who of famous investors, all of whom agreed to speak and to give one investment tip to aid a great charity. Bill Ackman, David Einhorn, Paul Isaac, Bill Miller, Ray Nixon, Richard Perry, T. Boone Pickens, Michael Price, Tom Russo, and moderated by Gretchen Morgenson. Have a great week while thinking about how to get your human nature under control.

Your more human that I want to admit analyst,


Source: www.mauldineconomics.com


>M&M Financial Services: Increased efforts on recoveries (CENTRUM)

Inline results; recovery efforts underway

MMFS' Q2FY15 results reflect the management’s positive efforts on recovery highlighted by mere 5% sequential increase in GNPA to Rs21.3bn (our / consensus estimates at +8-10%). Collections have improved and the management expects limited accretion to NPAs in H2FY15. Q2 NII at Rs7.4bn / net profit at Rs2.1bn were in line with estimates. AuM growth came in lower at 14.6% yoy and we have accordingly tweaked our estimates for FY15E. Well-diversified loan mix with improved reach and benign interest rate regime bode well for MMFS enabling it to leverage on growth opportunities during the auto industry up-cycle. Retain Buy with a revised target price of Rs325.

 Results in line with estimates: In MMFS’ Q2FY15 results, NII at Rs7.4bn (+9% yoy) and net profit at Rs2.1bn (-6% yoy) were largely in line with our estimates, though below consensus estimates. AuM grew 14.6% yoy, while value of assets (VoA) financed declined 7% in H1FY15. Recovery efforts as envisaged by the management resulted in limited accretion to bad assets during the quarter. GNPA at Rs21.3bn grew 5% sequentially vs 44% qoq increase in Q1’15 and 6% qoq increase in Q2’14. Our channel checks suggest NPA accretion was from CV’s especially the LCV segment and tractor portfolio.

 ■ Recovery efforts underway: Increased efforts on recoveries by the management in the past two-quarters seem to be working. Collection has improved 5-6% for the quarter and the management expects limited accretion to NPAs in H2FY15. In the up-cycle of FY09-13 GNPAs halved to 3.2%. This was partly supported by buoyancy in rural income. With focus on recoveries and balance sheet growth over FY16-17E, we expect overall GNPA (currently at 6.3% in H1FY15) to decline to 4.9% by end- FY17E. Provisioning coverage ratio at 53% was the only negative.

 ■ AuM grows 15% yoy; borrowings skewed towards bank route: Lower than expected AuM growth during the quarter could be attributed to the slow-pace of growth in auto industry. While segments of cars and tractors continue to see lower growth, MMFS has seen good traction in the pre-owned vehicle segment. Management expects AuM growth to gather momentum in H2FY15 and we have accordingly revised our FY15 estimates lower. With improved reach and respectable market share across all OEMs, MMFS is well-positioned to leverage on the growth opportunity. Borrowing mix remains skewed towards banks (~50%).

■ Valuation, view and key risks: We have tweaked our estimates and now factor in 18% CAGR in NII / 19% CAGR in profits over FY14-17E. Renewed thrust on recoveries (over balance sheet growth) will enable MMFS contain asset quality risk at comfortable levels. This, coupled with benign interest rate regime, will ensure stable margins and sustainable 2.8% / 19.2% (average) RoA / RoE over FY14-17E. We retain Buy with a revised target price of Rs325 (valued at 2.8x Sept’16E ABV). Failure on the recovery front or lower than expected pick-up in industry-wide auto volumes remains key risks.


BIOCON: Malaysian facility for insulin poised for good growth (CENTRUM)

Affected by capacity constraints

We maintain Buy rating on Biocon with a revised target price of Rs570 (earlier Rs660) based on 18xSeptember’16E EPS of Rs31.7. Biocon’s results were below our expectations and were impacted by capacity constraints and geo-political situation in the Middle East and North Africa. The company reported 17%YoY growth in domestic formulations and 2%YoY in research service segments. Higher personnel cost led to 100bps margin decline during the quarter. With registration of rh-insulin in over 55 countries, it is poised for good growth when its Malaysian facility for insulin is expected to go on steam by the end of FY15. Key risks to our assumptions are slowdown in the biopharma segment and delay in the implementation of Malaysian insulin facility.

 ■ Formulation business to drive growth: Biocon reported sales growth of 2%YoY driven by domestic formulations. The company’s biopharma business (59% of revenues) declined by 1%YoY to Rs4.42bn from Rs4.47bn. Domestic formulations (15% of revenues) grew by 17%YoY to Rs1.16bn from Rs989mn higher than the industry growth of 11.6%. Biocon’s CRAMS business (26% of revenues) grew by 2%YoY to Rs1.92bn from Rs1.88bn. We expect CRAMS business to report good growth due to its association with major global clients BMS, Abbott and Baxter and extension of BMS contract for five years. We expect Domestic Formulations business to drive future growth.

 Malaysian facility to improve margins: Biocon’s EBIDTA margin declined by 100bps to 22.0%% from 23.0% due to the increase in personnel expenses. The company’s material cost declined by 80bps to 46.9% from 45.7% due to the change in product mix. Personnel cost grew by 270bps to 16.7% from 14.0% due to the addition of 590 employees during the year. Biocon’s other expenses declined by 290bps to 14.4% from 17.3%. Its R & D expenses increased by 25%YoY to Rs559mn from Rs446mn. We expect margin improvement going further due to higher growth in formulation business and commencement of insulin facility in Malaysia.

Net profit maintained: Biocon’s net profit for the quarter was maintained at Rs1.02bn. The company’s other income grew by 24%YoY to Rs231mn from Rs187mn.Biocon’s interest cost went up by 1,567% to Rs50mn from Rs3mn due to temporary borrowings. Its tax rate declined to 16.9% from 23.9% of PBT. We expect improvement in net profit due to margin improvement and debt-free status of the domestic entity.

■ Recommendation and key risks: We maintain Buy rating on the scrip with a revised target price of Rs570 based on 18x September’16E EPS of 31.7 with an upside of 20% from CMP. We have lowered our FY15 and FY16 EPS estimates by 13% and 14% respectively. Key risks to our assumptions are slowdown in the biopharmaceutical segment and delay in the implementation of Malaysian insulin facility.


>INDIAN IT SERVICES: Take a Breather — Positives Priced in? (CITI)

 Moderating our bullish thesis — Following strong outperformance (~45% outperformance in two years), relatively full valuations and multiple changes in the IT landscape, we are toning down our optimism. The sector trades at ~18.5x 1-yr forward – last time it traded at that level was when the top four companies were growing at ~25% (vs now at ~10-15%). Reverse DCF suggests ~11-19% 10-year implied EBIT CAGR. We downgrade Infosys to Neutral & TechM/Mindtree to Sells.

 Macro uplift not fully translating to revenue acceleration… — Top 5 cos grew 13.4% yoy in Q1FY15 vs 14.2% yoy in Q1FY14. This could be due to the changing IT services landscape and some impact of the law of large numbers – (a) commoditization in some of the traditional service lines; (b) high market share in the applications business, particularly in US; (c) cloud/SaaS impacting enterprise solutions segment. Longer-term impact of cloud remains something to watch out for.

 …Though medium-term growth drivers remain — The industry can still grow at low double digits: (a) new markets like continental Europe offer growth opportunities (Europe Opportunity – The 'New Normal'); (b) newer technologies (analytics, mobility etc.) can become significant in the medium term; (c) penetration is still low in the relatively new services lines (including BPO/ITO); (d) better capital allocation can support growth/multiples (M&A, Capital Return the Next Potential Catalysts).

 Downgrade Infosys, TechM, Mindtree — Infosys has had a good ~15% return (10% outperformance) in the past 3m, factoring in management change and cost improvements. We see risks of volatility ahead. Tech Mahindra – expect EBITDA growth of ~5% in FY15 – difficult to justify the premium to HCLT; downgrade to Sell. Mindtree remains the best-placed mid-cap – however, the sharp rerating (valuations at ~17x 1-yr forward vs ~11x 1 year back) may be running ahead of fundamentals.

 Absolute vs relative — Our investor interactions suggest that most investors struggle with the “absolute vs relative” call given the sharp rally in the Indian markets and valuations in some sectors being even higher. While that (as well as the depreciating INR) could help the sector in the near term, the industry issues should dominate over the medium term and, given where valuations are, we would
prefer to be more stock specific – HCLT/Wipro remain Buys.