What are CARS? CARS are Zero Coupon Convertible Alternative Reference Securities issued by Tata Motors in July 2007 to raise $490 million from foreign bond holders. These bonds are due for redemption on June 12, 2012 and carry yield to maturity (YTM) of 131.82%.
Scenario 1: CARS conversion by bondholders The conversion price as well as the rupee-dollar rate while estimating the bond conversion into equity shares has been fixed. The bondholders who may opt for conversion will get a conversion price of Rs181.4. The $473 million worth CARS will fetch a dollar-rupee rate of 40.6.
Scenario 2: CARS redeemed by the bondholders The bond holders are entitled to a 131% YTM on their zero coupon CARS. There is no fixed dollar-rupee rate for the redemption. The redemption would take place at current currency rates.
Probability of conversion low We estimate a mere 23.3% return for bondholders in five years, assuming they sell the converted shares at Rs270 per share. The returns are much lower than 131%, five-year YTM return on the respective bonds. The conversion is highly unlikely at the current prices due to the lower relative return.
Valuation Our FY2012 consolidated earnings per share (EPS) estimate stands at Rs36. The stock has traded between 8x and 9x one-year forward earnings in the past. Given the excellent performance of Land Rover, the company may continue to see long-term investment interest. However, the short-term overhang of CARS redemption would stay. We are positive on the stock with a long-term investment horizon.
SHAREKHAN SPECIAL
Q3FY2012 Pharma earnings review
Key points
Pharma universe grows 29% in Q3FY2012: Sharekhan's pharmaceutical (pharma) universe reported a 29.1% year-on-year (Y-o-Y) growth in net sales during Q3FY2012. The growth was mainly driven by the export of formulations which grew by 39% year on year (YoY) on a weaker currency and acquisition-led volume growth for a few. Excluding the contribution from the newly acquired entities the growth would have been at 16% YoY. Adjusted for the marked-to-market (MTM) foreign exchange (forex) losses and the extraordinary items, the net profit grew by 49% YoY, mainly driven by an improvement in the margins and better operating leverage. Revenues of players like Opto Circuits (up 46% YoY), Sun Pharma (up 34% YoY), Ipca Laboratories (Ipca; up 29% YoY) and Glenmark Pharma (up 37% YoY) were better than our expectations. Other players like Divi's Laboratories (Divi's; up 33.7% YoY), Cadila Healthcare (Cadila; up 21.9% YoY), Lupin (up 22.1% YoY) and Torrent Pharma (up 21.8% YoY) performed in line with our expectations.
Weaker rupee helps OPM but pinches bottom line: The operating profit margin (OPM) of our pharma universe stood at 26.2% (up 362 basis points YoY) mainly due to favourable currency movement and a better operating performance by players like Sun Pharma (up 1,741 basis points YoY, due to the consolidation of Taro Pharma), Ipca (up 586 basis points YoY) and Lupin (up 390 basis points YoY). However, players like Glenmark Pharma (core operating profit down 420 basis points YoY), Divi's (core operating profit down 280 basis points YoY) and Cadila (core operating profit down 114 basis points YoY), mainly on a higher raw material cost and higher payments to foreign employees due to the rupee's depreciation. However, lower values of the rupee against major international currencies also resulted in huge MTM losses which eroded a substantial portion of the profits. During the quarter, our pharma universe collectively provided non-cash forex loss of Rs222 crore against forex gains of Rs39 crore in Q3FY2011. Players like Glenmark Pharma, which has substantial foreign liabilities, provided Rs102 crore of MTM forex losses, followed by Ipca with Rs40 crore, Lupin with Rs34 crore, Cadila with Rs31.7 crore and Torrent Pharma with Rs18 crore. Players like Divi's recorded forex gains of Rs8 crore during the quarter. However, since these are non-cash items, we expect a partial write-back in the subsequent quarter as the rupee has strengthened against the major international currencies.
Universe's bottom line grows 26% YoY despite forex losses: Despite the provisioning of MTM forex losses, the net profit of the pharma universe grew by 26% YoY, mainly driven by Sun Pharma, which reported a 90% Y-o-Y rise in its net profit due to the consolidation of Taro Pharma, Opto Circuits (up 31% YoY) and Divi's (up 20.6% YoY). However, the forex losses affected the net profit of Glenmark Pharma (down 58% YoY) and Cadila (down 7.9% YoY) during the quarter. The adjusted profit after tax (PAT; excluding the forex loss and extraordinary items) grew by 48% YoY for our universe.
We introduce estimates for FY2014: Since we are closer to the end of FY2012 and the visibility of the revenues and earnings of our universe is better, we have introduced estimates for FY2014. On an average, our pharma universe is trading 14x and 12x FY2013E and FY2014E earnings. We have based our valuation on the average of the earnings for FY2013 and FY2014. We prefer Sun Pharma (an impressive performance of Taro Pharma and a better operating performance on a cash-rich balance sheet), Divi's (niche business segments and a clean balance sheet) and Ipca (a better operating performance on operationalisation of the Indore plants).
New Investment Policy 2012; structurally positive but gas-linked subsidy cap causes uncertainty: The empowered group of ministers (EGoM) has finally given an in-principle nod to the New Investment Policy (NIP) for urea manufacturers in order to attract new investments in the segment. Currently, India produces around 22 million tonne of urea as compared to the domestic consumption of 28-29 million tonne. The remaining gap is bridged by importing urea at a high cost. Thus, any move to attract fresh investments in urea capacity expansion (greenfield and brownfield both) will be structurally positive for the sector and the major fertiliser players looking to expand, eg Rashtriya Chemicals and Fertilizers (RCF), Tata Chemicals, Zuari Industries and Chambal Fertilisers and Chemicals. However, the proposal to link the subsidy in urea with the gas price within a band of $6.5-14 per mmbtu has caused some uncertainty and the domestic players have requested the government to increase the gas price limit to $20 per mmbtu. The policy will have to be cleared by the Cabinet Committee on Economic Affairs (CCEA) before it can be implemented.
SHAREKHAN SPECIAL
Monthly economy review
Economy: Industrial growth remains subdued; inflation continues to decline
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 growth 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.
The Wholesale Price Index (WPI)-based inflation for January 2012 came in at 6.55%, slightly lower than the Street's expectations. However, the inflation rate for November 2011 has been revised upwards to 9.46% from the provisional figure of 9.11%.
The trade deficit for January 2012 expanded to $14.7 billion from 12.7% in December 2011. On a year-on-year (Y-o-Y) basis, the trade deficit increased by 117.9% and remains at higher levels. The growth in exports remained weak showing an increase of 10.1% YoY (up 6.7% in December 2011). Imports grew by 20.3% YoY (up 19.8% in December 2011).
Banking: In view of tight liquidity another CRR cut expected
In its last policy meeting, the Reserve Bank of India (RBI) had reduced the cash reserve ratio (CRR) by 50 basis points. In line with the continued liquidity pressure and the need to support growth we expect the RBI to continue with its liquidity easing measures and expect another cut in the CRR in the forthcoming mid quarter policy review meeting.
The credit offtake registered a growth of 15.7% YoY (as on February 10, 2012), which was higher than the growth of 16.4% recorded in the previous month (as on January 13, 2011). The credit growth is lower than the RBI's guidance of 16%.
The deposits registered a growth of 15% YoY (as on February 10, 2012), which was lower than the 17.2% Y-o-Y growth seen during the previous month (on January 13, 2012). The growth in deposits has fallen due to the higher yields offered by the other debt instruments.
The credit/deposit (CD) ratio was at 75.6% (as on February 10, 2012), higher than 75.1% as on January 13, 2011. Meanwhile the incremental CD ratio increased to 96% for the period, which was higher than the ratio seen during the previous month.
The yields on the government securities (G-Secs; of ten-year maturity) stood at 8.21% as on February 24, 2012, in line with the previous month's levels. The G-Sec yields across the long-term maturities have increased on a month-on-month (M-o-M) basis.
Equity market: FIIs remain buyers
During the month-till-date (MTD) period in February 2012 (February 1-15), the foreign institutional investors (FIIs) were net buyers of equities and the domestic mutual funds were net sellers of equities. For the MTD period in February 2012 (February 1-15), the FIIs bought equities worth Rs13,222 crore while the domestic mutual funds sold equities worth Rs1,015 crore.
Stress continues; results below expectation: In Q3FY2012 the net profit of the engineering, procurement and construction (EPC) companies (ex Punj Lloyd) fell by 45% year on year (YoY; below our estimate) despite a decent revenue growth. This was mainly on account of a lower EBITDA margin and a higher interest burden. The revenue growth was decent across our universe except for NCC, IVRCL and Ramky InfraStructure (Ramky), which pulled down the cumulative revenue growth to 7.2% YoY (which was still marginally above our expectation). However, most EPC companies except Unity Infraprojects (Unity), Gayatri Infrastructure (Gayatri) and Ramky experienced pressure on their margins which caused our universe's (ex Punj Lloyd) EBITDA to fall by 5% YoY (below our expectation) in Q3FY2012. Further, the 42% year-on-year (Y-o-Y) rise in the interest cost (in line with our expectation) caused the stress to continue at the earnings level.
In case of infrastructure developers, the aggregate revenue was up 44% YoY, in line with our expectation, on the back of the strong execution witnessed by IL&FS Transportation Networks (India) Ltd (ITNL). But on the margin front, while ITNL saw a contraction (as expected) due to a higher share of its revenue coming from its construction arms, IRB Infrastructure Developers (IRB) witnessed a stable margin (above our estimate), resulting in a cumulative 30% growth at the operating level. Despite a strong operating performance, the cumulative net profit was up by just 13% YoY on account of a high interest burden. However, it was better than estimated due to IRB's better than expected quarterly results.
IRB, Unity and Simplex outperform: In Q3FY2012 IRB, Unity and Simplex Infrastructures (Simplex) outperformed with regards to ours as well as the Street's expectations while IVRCL, NCC and Ramky were the laggards. IRB outperformed on the back of an expansion in its operating profit margin (OPM) along with a lower both depreciation charge and tax outgo. Even Unity outperformed on the back of margin expansion, a stable interest cost and a lower depreciation charge. Further, Simplex saw a pick-up in execution which resulted in a buoyant revenue growth; this supported by a stable interest cost led to its outperformance during the quarter. Even Pratibha Industries (Pratibha) saw a very robust revenue growth which led to its marginal outperformance at the earnings level.
On the other hand, IVRCL saw poor execution due to delays in obtaining approvals and acquiring land which resulted in poor revenue booking and lower OPM. Even Ramky saw a poor revenue growth due to slower execution on account of adverse weather conditions in some parts of India. This along with a high interest burden led to Ramky's underperformance. NCC recorded a multi-year low OPM which along with a high interest burden led the company to report a loss at the earnings level. Punj Lloyd seems to have gained some traction on the execution front which is well reflected in its revenue performance over the last two to three quarters. However, its OPM continues to be under pressure which along with a high interest burden continues to result in a poor show at the net profit level.
Outlook: For the EPC companies in our universe except IRB, we have marginally upgraded our estimates for FY2013 to factor in the better execution and higher margins as compared with our earlier estimates. However, we have revised our estimates downward for IRB to factor in the slower execution in a few of the company's projects and the substantial rise in the company's debt levels. The peaking of interest rates is a big relief for the sector and has led to a strong rally in the stock prices across the sector. The government is also slowly shedding its policy paralysis by taking a few initiatives. Now it remains to be seen when the government will speed up the decision making process in order to support the desired policy changes and will expedite the roll-out of the major projects as the same would boost investment in infrastructure. Quick policy actions will help the mid construction companies Like NCC, IVRCL to improve their execution and thus come out of the deep water. Till then we prefer being very selective and our top pick remains ITNL, Unity and Pratibha.
Q3FY2012 Cement earnings review
The Q3FY2012 earnings growth of the domestic cement players was impressive and ahead of the Street's estimates. The companies with a larger exposure to south India saw a significant improvement in their bottom line during the quarter, as their realisation surged due to a supply discipline followed by the manufacturers in the region. On the other hand, after a sluggish offtake during H1FY2012 the cement offtake witnessed signs of a revival in Q3FY2012. Hence, the impact of the cost pressure during Q3FY2012 was largely offset by the healthy realisation for most of the companies. Consequently, we have upgraded our earnings estimates for most of the cement companies under our coverage to factor in the better than expected cement realisation and the improvement in the cement offtake. Going ahead, with the price hike undertaken in January this year, we believe cement companies are expected to post better profitability and earnings in the coming quarter. Our top pick in the sector is Grasim Industries (Grasim) in the large-cap space on account of its strong balance sheet, better profitability in the viscose staple fibre (VSF) business and attractive valuation. In the mid-cap space we prefer Orient Paper & Industries (Orient Paper) due to its diversified business model, improving market mix in favour of the non-southern regions and attractive valuation.
Key points
Cumulative revenue grew by 20.8%: In the quarter under review, the cumulative revenues of the cement companies under Sharekhan's universe grew by 20.8% year on year (YoY) to Rs17,606.7 crore. The revenue growth was supported by the realisation growth of 18.2% YoY and the volume growth of 10.2% YoY. Among the Sharekhan cement universe, Shree Cement, Orient Paper and Madras Cement posted a revenue growth of above 25% YoY. On the other hand, the revenue of the other companies grew by 18-20%. Large players like Ambuja Cement posted an impressive revenue growth of 30.2% whereas the revenues of ACC grew by 27.8% during the same quarter.
Mixed volume growth of cement universe, Orient Paper takes the lead: The cement companies under our coverage posted a mixed volume growth during the quarter. Orient Paper reported a volume growth of 25% due to the stabilisation of its new capacity and the revival in the demand for cement. On the other hand, JP Associates Ltd (JAL) and Madras Cement also posted an impressive volume growth in the range of 16-18%. Companies like UltraTech Cement (UltraTech), Shree Cement and India Cements, however, posted a volume growth of 7-9%. The pan-India large players like ACC and Ambuja Cement reported a volume growth in the range of 6-7%.
Cumulative realisation increased by 18.2%, supported by supply discipline: The cumulative realisation of the cement makers under our coverage increased by 18.2% YoY in the quarter. The cumulative growth in the realisation was supported by the supply discipline followed by the cement players. The average realisation of Shree Cement and Orient Paper increased by 33% and 20.7% respectively whereas the average realisation of the other players increased by 10-15%. Further, the cement prices increased by Rs10-12 per bag during January this year which will be reflected in the coming quarters.
Cost pressure offset by surge in realisation, margin expanded: On the operating profit margin (OPM) front, the cumulative OPM of these cement companies expanded by 48 basis points to 22% during the quarter under review. Shree Cement, India Cements and Madras Cement reported a healthy improvement in their OPM whereas the margin improvement was comparatively lower in case of UltraTech and Grasim. The margin expanded on the back of a surge in the realisation which offset the cost pressure in terms of an increase in the power & fuel cost (due to a rise in the coal price YoY) and a higher freight cost (due to an increase in the lead distance). On the other hand, players like JAL and Orient Paper reported contraction of 150-400 basis points in their margin. However, in the coming quarters we believe the margins would improve sequentially due to the recent increase in the cement prices.
Earnings improved by 46.1% due to revenue growth and margin expansion: The revenue growth (supported by the realisation and volume growth) coupled with the margin expansion resulted in a better than expected earnings growth during the quarter. Further, the impressive performance of the non-cement division of JAL also supported the overall earnings growth. On a cumulative basis, the Sharekhan cement universe registered a 46.1% growth at the net profit level.
Robust realisation; await ramp-up in production volumes
Result highlights
Strong results driven by realisation; volume growth unimpressive though: In Q3FY2012, the net revenues (adjusted for the petroleum profit) of Selan Exploration Technology (Selan) grew by 54% year on year (YoY), as a 76% year-on-year (Y-o-Y) improvement in the realisation over-compensated for the 6% decline in the volume during the quarter. Though sequentially the volume improved by 14% to 41,853 barrels of oil, but the realisation supported 6% growth QoQ taking the sequential sales growth to 20%.
PAT records 65% growth YoY: The operating profit grew by 77% YoY and 5% quarter on quarter (QoQ) to Rs14.7 crore. Following the trend, the profit before tax (PBT) grew by 80% YoY and 5% QoQ to Rs16.7 crore in Q3FY2012. However, there was an extraordinary item to the tune of Rs2.4 crore pertaining to foreign currency variation in Q3FY2012. Therefore, the reported profit after tax (PAT) recorded a growth of 65% YoY and 17% QoQ to Rs10.5 crore. Excluding this extraordinary item, the adjusted PAT seems to jump by 100% YoY and 12% QoQ to Rs12.9 crore.
Volume estimate revised down; consequently profit estimate trimmed: Given the delay in obtaining regulatory approvals for further exploration & development of the company's oil fields, we are fine-tuning our assumptions for the production volume in FY2012 and FY2013. However, the impact of the delay on the net revenue will be limited by the higher than expected blended realisation. We are also introducing our FY2014 estimates for the company in this note. We remain positive about the field development programme and the potential ramp-up in the volume from the same in the coming years. Thus, we maintain our Buy recommendation on Selan with a price target of Rs500.
SHAREKHAN SPECIAL
Q3FY2012 Banking earnings review
Key points
Net earnings ahead of estimates: In Q3FY2012 the earnings of our banking universe showed a growth of 12.6% year on year (YoY) compared with our estimate of a 9.5% year-on-year (Y-o-Y) growth for the period. This was mainly contributed by a better than expected performance on the net interest income (NII) front.
Strong margin drives NII growth: The NII growth of 17.1% YoY was also higher than our estimate driven by a stable margin and a better growth in the advances. The private sector banks delivered a slightly higher growth (up 17.5%YoY) compared with the public sector banks (PSBs; up 16.9% YoY).
Slippages decline QoQ, restructuring picks up: Though the slippage for most PSBs declined sequentially, but the same remained at elevated levels (2.4% vs 2.8% in Q2FY2012) contributed by the slippage from the corporate segment (aviation, media, agriculture). The restructured advances also increased on a sequential basis (Bank of Baroda [BoB], Bank of India [BoI], Punjab National Bank [PNB], Union Bank of India [Union Bank] etc) partly contributed by the telecommunications (telecom) sector.
Valuation and outlook The Q3FY2012 results show a relatively better growth in the core income led by a stronger net interest margin (NIM). Going ahead, the interest rates are likely to soften which will aid the core income growth of banks and support the growth in their net earnings. Though the higher slippage and increased restructuring (especially chunky accounts like state electricity boards [SEBs], Air India) remain causes for concern for banks but with the likely easing of rates the growth in advances could improve while the pressure on asset quality could ease, thereby benefitting the banks.
Factoring in the likely easing of the interest rates and the asset quality issues the banking stocks have seen a sharp run-up (13% appreciation in the Bankex in the last one month). In this note we have introduced our FY2014 estimates and rolled over our valuation estimates to the FY2014 estimates which has resulted in a revision in the price target for most banks. Given the sharp run-up in the prices of most banking stocks we prefer Axis Bank, Yes Bank, BoB, Allahabad Bank and HDFC as these could see a re-rating from the current levels.
Q3FY2012 Auto earnings review
Revenue growth in double digits while PAT remains flat in Q3FY2012: Sharekhan's automobile (auto) universe grew its revenues by 13.9% in Q3FY2012. The EBIDTA grew at a slower pace of 7.4% year on year (YoY) while the profit after tax (PAT) remained flat on a year-on-year (Y-o-Y) basis. Ex Maruti Suzuki the universe's revenues and EBIDTA grew by 27.1% and 25.2% YoY respectively while its PAT grew at a slower pace of 16.3%.
Operating performance under stress, margins decline across the board: Raw material pressure failed to recede during the quarter leading to a lower growth in the EBIDTA vis-a-vis the revenue. About 65% of the auto companies under Sharekhan tracking universe witnessed a sequential drop in their contribution margin, indicating sustained pressure on the material front. The absence of operating leverage put further pressure leading to a decline in the operating profit margin (OPM).
Maruti faced triple whammy: strike, poor demand for petrol cars and yen-hit margins; but the worst is over: Dual blows of a strike at the Manesar plant and a lower demand for petrol cars led to a 27.6% Y-o-Y drop in Maruti Suzuki's volumes in Q3FY2012. Apart from the higher discounts on petrol cars, a sharp appreciation in the yen inflated the import cost and the royalty pay-out. The company reported the lowest OPM in the last few years. The sharp depreciation in the rupee against the dollar and the appreciating yen affected the auto companies by way of marked-to-market (MTM) losses on export hedges, outstanding loans and yen-denominated royalty payables.Maruti Suzuki and Hero MotoCorp are vulnerable to large yen exposures while Mahindra and Mahindra (M&M) felt the impact of the depreciating rupee on its foreign currency denominated outstanding loans. Bajaj Auto also saw a notional MTM loss on its exports as it has hedged its export receivables at lower levels of the rupee for the next one year.
Outlook and valuation: We have introduced our FY2014 estimates for Sharekhan's auto universe and have revised our price target upwards for most companies as we have rolled over our valuations to the FY2014 earnings estimates. The upward revision has been major for Maruti Suzuki as we believe that the worst is over for the company. Given the sharp appreciation in the auto stock prices we have kept our recommendations unchanged. Apollo Tyres is poised to outperform our coverage universe. Valuation-based gains are also available for M&M but we have kept a Hold recommendation on the stock due to the overhang of higher duty on diesel vehicles in the forthcoming Union Budget. Our view on the sector remains cautious.
