Indraprastha Gas: IGL seen losing steam now

Stiff Competition May Find Co Losing Marketing Exclusivity In Many Areas

AFTER an almost uninterrupted yearlong rally, the stock of the Delhi-based city gas distributor Indraprastha Gas faced a bout of weakness in the past couple of weeks. The scrip faced headwinds after the high valuations raised concerns on profit sustainability. Still, the scrip has significantly outperformed the broader market over a oneyear time-frame gaining 91% compared to 17% increase in Sensex.

IGL has consistently shown attractive volume growth over the past few years with more users opting for natural gas over liquid fuels. After reporting a cumulative annualised growth rate (CAGR) of 83% between FY00 and FY07, IGL’s volumes grew at 17% CAGR in the past three years. In the June quarter too, the growth continued with 18% growth in compressed natural gas (CNG) sales and a more than 100% growth in piped natural gas (PNG) volume.

The company raised CNG and PNG prices in the fag end of June in response to the government raising APM gas prices. The September quarter will be the first full quarter when the company will derive the benefit of the price hike.

Although the business outlook remains positive, there are a few concerns going forward. First, a part of the total demand growth emanates from the Commonwealth Games, which is likely to slow down after the Games gets over. As a result, the 17% annual volumes growth of past three years may come down to 15% or below. Second, the company enjoys marketing exclusivity in the National Capital Territory of Delhi, which expires on January 1, 2012. Thereafter, the field would be open for competition.

Third, the company, which is a joint venture between GAIL and BPCL, could face problems in expanding into new geographies mainly due to its parents’ independent ambitions in the city gas distribution business.

A recent JP Morgan report mentions, “We see limited support from the parent entities for IGL playing an expanded role in geographies outside the NCR. A case in point, GAIL bid for and got the CGD licence for Sonepat from the PNGRB, though IGL had a prior approval from Haryana for setting up CGD in Sonepat.” At the current market price of 315, the scrip commands a price-to-earnings multiple of 19.6. Unless the various concerns are addressed to, the scrip appears to have a limited upside.

Reality check: Greed may be fuelling your IPO chase

Watch Out, Only 3 Out Of 10 IPOs Earn Above-Average Returns In Long Run Ramkrishna Kashelkar ET INTELLIGENCE GROUP

ICAN feel it coming, SEC or not, a whole new round of disastrous speculation, with all the familiar stages in order — blue chip boom, then a fad for secondary issues, then an over-thecounter play, then another garbage market in new issues, and finally the inevitable crash. I don’t know when it will come, but I can feel it coming, and damn it, I don’t know what to do about it.”

That was not Sebi chairman CB Bhave, but Bernard J Lasker, New York Stock Exchange chairman ruing about investor exploitation way back in 1970. In the past four decades, nothing much has changed in investor greed leading to entrepreneurs and bankers exploiting it, which triggered Mr Bhave’s bemoaning of IPO pricing last week.

At least a dozen companies sold shares in the past two weeks, to raise 3,100 crore to fund new projects and provide exit for private funds that are capitalising on the investor euphoria, making many times their investments. Corporates need to channel national savings into equity capital in an economy that aspires to grow at 10% emulating China, but as is usual there are possibilities of greed overtaking entrepreneurial ambitions. Career Point, a company that runs coaching classes for students, saw its IPO, priced at 31.6 times earnings, receive 47 times subscription. Water treatment company VA Tech Wabag had its issue bid 36 times after pricing shares at 27.8 times its earnings.

“In a bid to maximise returns for promoters they (investment bankers) are not looking at the interests of investors,” Mr Bhave lamented last week. “You need to introspect whether it is a healthy practice. If you keep investors disappointed day in and day out, the cause of investors will only be a lip service”

While Indian growth euphoria is strong with overseas funds pouring in a record $18 billion this year so far, there may be disappointments for investors along the way. Empirical evidence suggests that IPOs do tend to trade at a significant premium at the time of listing, only to fall later.

An ETIG analysis of 277 IPOs that got listed since January 2006 shows that nearly two-thirds posted listing gains. However, as time progressed the proportion of companies staying above their issue price declined rapidly. Three years since the listing, only 31% of the scrips could maintain their prices above their respective IPO prices. In other words, there is a 69% probability that a share will trade below its IPO offer price by the end of the third year after listing.

The study reveals that some of the biggest IPOs have been a drag on investor wealth. Those who subscribed to the Reliance Power public float in January 2008 has lost 42%. So is the case with the biggest real estate developer DLF whose shares are trading 30% lower and the scrip of Future Capital Holdings is down by two-thirds its IPO price.

But that does not mean that all IPOs have been eating up investors hard earned savings. While listing gains is a global phenomenon, the analysis showed that 21% IPOs gained more than 50% on listing day itself. In the subsequent months as more and more scrips fell below their offer price, the proportion of companies exceeding 50% gains grew. Within 10 months after listing, 28% of IPOs managed to command premium in excess of 50% over their issue price. About 18% of the IPOs doubled, while 9% tripled within 10 months. This analysis shows that only about three in every 10 IPOs can enable investors earn above average returns in the long run.

Just as the multi-baggers of the past — Infosys, TCS or ONGC — a few of the notable IPOs of late have more than doubled investor wealth since listing in 2010. This includes, Jubilant Foodworks, ARSS Infra, Aqua Logistics and Thangamayil Jewellery.

In fact, the market performance of IPOs in the long- and short-run is a well-researched area in capital markets literature, first studied by the US Securities Exchange Commission in 1963. Most of the studies across geographies and time periods conclude significant premium at listing and subsequent weakness indicating it is a global phenomenon. But researchers are still working to find an answer as to why IPOs tend to jump on their debut. Are they chasing a mirage?

CHARGE OF THE IPO BRIGADE

The market buoyancy is taking IPO valuations to newer heights. But in the rush for listing gains, one must not lose sight of the risks that lurk alongside. Ramkrishna Kashelkar lends you a hand so that you can stay away from the quicksands

IT is still a month to go for the great Indian festive season to begin, but celebrations have already started on Dalal Street. The bulls have lodged a fresh, and this time even mightier, charge against bears. Stocks and stock indices have bounced back to the levels seen two and a half years ago.
While the secondary equity market is witnessing all this and more, the primary market encompassing initial public offers (IPOs) is not far behind. The IPO segment of the equity market has caught up on the euphoria with a dozen issues hitting the market in a span of just two weeks. With more such IPOs likely to come up in coming weeks, it is necessary for retail investors to be more diligent while investing in an IPO. This week, ET Intelligence Group brings you the finer points of IPO investing that you must keep in mind while wading through a spate of issues.
Since the beginning of 2010 till the third week of September, India Inc has raised over 15,000 crore through the IPO route. Onefifth of this amount, or over 3,100 crore, has come in the past two weeks alone. Most of these IPOs were successful in raising funds in staggering multiples of the required sum. For instance, the Kotabased tutorial service provider Career Point Infosystems intended to raise 115 crore from the primary market. By the time its issue closed, it had attracted 47 times more money.
It seems the 'listing gains' bug - just as in the second half of 2007 - has bitten investors yet again. And, why not? The recently listed companies such as Technofab Engineering, Bajaj Corp, SKS Microfinance and Gujarat Pipavav have all given a double-digit return on the listing day itself. And if one had invested in the IPO of Prakash Steelage and sold out on the day it got listed, the gains would have been a whopping 71%. Even in the last boom phase, five out of every six IPOs resulted in listing gains; in nearly 40% cases, gains being more than 50% of the offer price.
Huge unmet demand for the IPO - reflected in the over-subscription numbers - is the primary reason why stocks tend to jump to unrealistically high levels on their stock market debut. Moreover, the book running lead manager is legally allowed to support the stock price of a newly-listed company for a specified period of time.
As valuations of IPOs touch new highs, the risk of ending up with an unproductive over-valued investment increases for investors who invest not to get listing gains but to park their money over a longer term.
A look at the past phase of market boom explains the matter. Even though three long years have passed and the Sensex is once again beyond 20,000, a whopping two-thirds of the IPOs from the second half of 2007 are still trading below their issue price.
IPO is a process where promoters sell a part ownership of their company in which they had so long invested. In a buoyant market, the price of equity tends to be much higher than what could be justified. Investors mustn't neglect this aspect in their rush for 'listing gains'. For example, at the peak of the previous boom, Reliance Power had sold its shares at 430 apiece to retail investors. Soon, the market crashed and the company offered three bonus shares for every five existing shares, thereby reducing the IPO price by 40%. Today, the scrip still trades 40-50% below this bonusadjusted IPO price.
It may come as a surprise to many, but a number of experts consider IPO investing risky. In fact, none other than Benjamin Graham, the father of 'value investing', has recommended in his most decorated work 'The Intelligent Investor', to stay away from all initial public offerings. "IPOs are only sold when Mr Market is in his most optimistic mood, and therefore, by definition are almost always a bad buy, with the promoters cashing in on the enthusiasm of investors," he had remarked.

GUIDELINES OF IPO INVESTING:
Of course, not all IPOs are bad. For example, those who invested in IPOs of Jyothy Laboratories, eClerx or V-Guard Industries have already more than doubled their capital in spite of the fact that these IPOs hit the market during the peak of 2007-08. But for every winner, there are dozens of losers. It is necessary, therefore, to separate these winners from the mob. Investors can check the following guidelines as to how to go about IPO investing

DO YOUR OWN RESEARCH
The IPO company's financial and other information, along with risk factors, industry scenario, issue details and objects of fundraising are given in the prospectus. An investor should go through these details to figure out how things stand on the ground.

CHECK PROMOTER BACKGROUND
Reputation, qualifications and success of any previous ventures of the promoters, along with pending litigations, post-issue promoter holding, other group companies, related party transactions and conflict of interest should be checked.

COMPANY'S FUNDAMENTALS
Company's financial history, its capacity to generate profits and cash, use of funds, indebtedness and working capital management are the key points to study.

PAY ATTENTION TO VALUATION
Often, the prospectus mentions valuations. However, it is calculated on the existing equity base without considering the IPO dilution. Since investors get shares only after the equity dilution, they need to calculate the valuation multiples on the post-issue equity. Priceto-earnings (P/E), price-to-book-value (P/BV), dividend yield are some of the criteria that can be used. A comparison with the peers can identify the over-valued IPOs.

YOUNG COMPANIES IN HOT SECTORS
New companies mushroom in a sunrise industry. Many a time, such companies may lack in vision or may not be able to scale up activities in future. Green energy, water management, infrastructure, power are some of these hot sectors at present.

INVEST WHEN MARKETS ARE COLD
When the markets are in euphoric mood, the valuations tend to move to unsustainable levels. However, IPOs coming out when markets are dull hold better promise of sound valuations. Research is, however, essential.

TAKE EXPERT ADVICE
When you can't do the homework yourself, take an expert's opinion. Make sure it is an independent expert - your broker is more likely to suggest investing at the slightest justification. It is better to compare opinions of more than one expert. Websites dedicated to investors community including www.etintelligence.com can prove to be a good source of information.
If the art of investing is difficult, IPO investing is even more so. For investors, it remains a high-risk, high-reward strategy. As Mr Graham put it, "No matter how many other people want to buy a stock, you should buy only if the stock is a cheap way to own a desirable business". Don't buy a stock only because it's an IPO - buy it because it's a good investment.

Swing of fortunes

When it comes to investing, one can benefit even when a company finds itself in dire straits. Sounds paradoxical? Not really. Ramkrishna Kashelkar & Rajesh Naidu tell you why

Price-earnings multiple is one of the most popular tools used by stock market participants to evaluate the investment worthiness of a publicly-listed company. It determines a stock's value as a multiple of the company's net profit in the past 12 months. The companies that have shown robust growth in the past often enjoy a premium valuation over those who have not.
Also, the companies who post a net loss in the previous quarters tend to report lower trailing four quarters profit. This also tends to pull down their P/Es. But a quarter or two of losses does not mean a dead end for companies. It has been observed that companies with sound fundamentals often have this uncanny ability to report a turnaround. It is this factor that creates a surprise element about such companies on bourses.
This week, ET Intelligence Group decided to take a stroll down to the past year's September quarter to figure out companies that reported losses then, but got their act together in subsequent quarters. We believe some of these companies would continue to maintain their growth momentum even in the September 2010 quarter.
Here is the logic. A loss in a quarter brings down profits for trailing 12-month (TTM), lowering with it the company's overall valuation. And it is this loss, which continues to depress the trailing 12-month profits for next three quarters. When these companies make a profit after a year, the profit for trailing 12 months gets a booster, as losses go out and are replaced by profits. Investors can track such loss making companies to make profitable investments quarter after quarter.
Take for instance, Tata Steel. Despite being profitable on a stand-alone basis, the company had posted a huge net loss in the September 2009 quarter. As a result, today the company's profits for trailing 12 months stand at just 2024 crore, valuing it at nearly 27 times its profits. Come September 2010, the company's turnaround last year is set to complete one year.
Even if on a conservative basis we assume the company’s net profit at 1,500 crore in the current quarter, its TTM profits will rise beyond 6,200 crore. We can reasonably estimate Tata Steel to command a P/E of around 10, which should value the company at a market capitalisation of 62,000 crore. This means the scrip has scope to grow a further 13-14% from its current level with a month's time. And better industry conditions means the actual profits could be even higher.
Tata Steel is not the only such company. Here is the list of companies that we believe would report healthy profits in the September quarter on top of losses a year ago and hold potential to move up in valuations.

SPICEJET
The wheels of aviation industry's growth appear well-oiled for coming quarters. With softening of crude oil prices, growth in passenger numbers driven by momentum in leisure and business travel and the upcoming holiday season, the entire airline industry is set to take off. Among the lot, we find SpiceJet's valuations highly attractive. The champion of the low-cost carrier model had posted a net loss exceeding 100 crore in the September 2009 quarter. A healthy profit jump in September 2010 would mean its current valuation is inexpensive.
Our estimates peg SpiceJet's net profit for the September 2010 quarter at around 65 crore, which will boost its trailing 12-month profits to 256 crore. Its current market capitalisation is just 12 times this, which appears highly attractive, considering the bright prospects ahead.

MERCATOR LINES
Mercator Lines is another such company expected to report a significantly better performance in the September 2010 quarter on the back of a turnaround in tanker freight rates. The tanker freight market has gained from a pickup in global oil demand and is nearly twice that of the year-ago period.
As a result, we expect the company to report a consolidated net profit of 40 crore in the September 2010 quarter, compared to a net loss of 1.9 crore a year earlier. The scrip is currently trading at a price-to-earnings multiple (P/E) of 18.4. However, post-September quarter results, the P/E would fall to 11.4, giving it reasonable scope to gain.

SICAL LOGISTICS
The increased economic activity and higher port and rail container operations in the past few quarters have benefited the logistics industry. Sical Logistics had already shown a sharply improved performance in the June 2010 quarter against the year-ago period. The company is expected to continue with the same momentum in the September 2010 quarter as well. We expect it to convert its last September quarter loss of 37 crore to a net profit of around 7 crore in the current quarter. This will value the company at 11.3 times its annual earnings, which is attractive for long-term investors.

KHAITAN CHEMICALS & FERTILISERS
The central India-based producer of single super phosphate Khaitan Chemicals and Fertilisers (KCFL) is also set to see a change of fortunes this quarter. The company had incurred a small net loss in the September 2009 quarter due to high raw material costs. However, things have improved since then. The company reported profits in the past three quarters and is now benefiting from the government's nutrient-based subsidy scheme, which was made applicable to SSP from May 2010.
We expect the company to report net profit of around 6.2 crore for the September 2010 quarter. Considering its current market capitalisation, these profits will bring down its valuation to just 5.8 times.

INDIAN METALS & FERRO ALLOYS
India’s largest fully-integrated producer of ferrochrome, Indian Metals & Ferro Alloys is also set to witness a boost in the September 2010 quarter profit. During the similar period of the past year, the company was suffering from lower sales and high input costs, eroding its operating profit margins and incurring a net loss.
The scene is totally different now. The company is increasing its capacity utilisation as volumes are growing, while the international ferrochrome prices have improved. Its acquisition of Utkal Manufacturing's 40,000-tonne capacity in FY10 is adding to revenues. Our estimates for the company's September 2010 quarter are quite bullish with a net profit target of 60 crore. This will take the trailing 12-month profits to 165 crore and bring down its valuation to just 11.6 times.
The company is also expanding its ferrochrome production capacity by another 40,000 tonnes and increasing its power generation capacity by 30 mw, which are expected to start operation from October and November 2010, respectively.
There are several other similar companies like SPML Infrastructure, Honda Siel Power Products, Ugar Sugar Works, Nitin Spinners, KIC Metaliks and Automobile Corporate of Goa, which had posted losses in the September 2009 quarter that are likely to transform into profits this September. Investors need to do detailed analysis of their future prospects and valuations before investing.

Swiftest Nanos

Although India Inc’s giants hog the limelight more often, their smaller counterparts are not far behind. ET Intelligence Group brings you the latest list of 100 Fastest Growing Small Companies that hold the potential to make it big

SUCCESS, be it small or big, needs to be celebrated. In keeping with this belief, ET Intelligence Group unveils a list of India Inc’s 100 Fastest Growing Small Companies annually. It is the fastestgrowing small companies of today that hold the promise to emerge as tomorrow’s giants.

But this comes with a caveat. It is difficult to say, for sure, which of these smaller speedsters of India Inc would make it to the Grand Prix in the future. As they say, past performance is no guarantee of excellence in the future. But what we can state from historical trends is the kind of companies which have the potential to make it big. Given their consistent past performance, the companies in the latest list of ETIG’s 100 Fastest Growing Small Companies hold the potential to emerge as likely winners. Investors should cherry-pick stocks from the list based on further research or build a portfolio based on our selection to stay ahead of the markets.

THE SHOWSTOPPERS ON BOURSES A robust financial performance goes a long way in winning investor confidence. To put it in perspective, 77 companies that featured in our 2009 list of 100 Fastest Growing Small Companies outperformed the benchmark indices in the year gone by. Moreover, the stock prices of 27 companies more than doubled during the period.

A portfolio, which includes the top 10 companies from the list, would have enriched an investor by 59%, as against a market gain of 21%. A portfolio of top 25 companies would have earned 61%. And a portfolio with equal weightage of all these 100 companies would be valued higher today by 73%. Indeed an impressive feat.

THE NEW HEROES

Zydus Wellness leads the ETIG’s 2010 list of 100 Fastest Growing Small Companies. It zoomed to the top from fourth position last year. The scrip has benefited immensely due to the merger of Cadila Healthcare’s consumer healthcare business and continues to remain debt-free and cash-rich.

The recently listed Technofab Engineering occupies the second spot, thanks to its impressive profit growth ov the last three years. But it is Hawkins Coo ers, which stole the show in the top five. made it to the top three after figuring do in the list at the 19th position last year. A superior profit growth in FY10 helped the company cruise past the likes of Man Infr construction, Vinati Organics and VST Tillers Tractors. Vinati Organics shot up from last year’s 14th rank to 8th this year and VST Tillers from 27th to 12th positio

A few seem to have lost their ground compared to last year. Tata Sponge Iron, which stood tall at the third position in 2009 list, has slipped to 20th this year. Similarly, Praj Industries slipped considerably moving down to 83 in the l after being ranked 10th last year. Sulzer dia, the topper from last year, recently g delisted and hence couldn’t make it to th list this year.

Among other firms, Bliss GVS Pharma made an impressive entry to the list occupying the fourth position. Man Infra — another newly listed company — entered the list directly at the fifth spot. Plastic goods manufacturer, Mayur Uniquoters, which had failed to make it to last year’s list due to weak interest coverage ratio in the past, has made it this year. The company ranks seventh in this year’s list.

Do refer to the future editions of ET Investor’s Guide to know more about some of the companies in the latest listing.

HOW WE DID IT? For compiling the list of companies, we included companies with net sales below 1,000 crore during FY10. With a view to exclude small companies with possibly dubious credentials, we eliminated from the list companies with a market capitalisation of less than 50 crore.

To make sure that the list was populated only with companies showing healthy financials, we added further criteria, such as return on capital employed (RoCE), debt-equity ratio (DER) and interest coverage ratio (ICR), cash flows from operations and dividends paid. India Inc’s Small Speedsters AS A result, the final list comprised companies, which consistently maintained their RoCE over 15% during the past three years, DER below 1.5 in the past three years and an ICR above 5. Companies which had missing or skipped dividends more than once during the last three years or companies with more than one year of negative operating cashflows, too, were weeded out.

This left us with nearly 140 companies with healthy financials. Since we were trying to identify the fastest growing companies, we calculated weighted average growth rates of sales and profits for all these companies, assigning the highest weightage to growth in FY10. This rewarded their latest performance over growth in the past. Finally, the three-year sales and profit growth and RoCE were assigned 30:30:40 weightage to decide the final rankings. We also decided not to select such companies that have strained their balance sheets for the sake of pursuing high growth. Our list comprises healthy cash generating companies, paying regular dividends with under-leveraged balance sheets. These companies are also earning substantially higher on the capital they have invested in their businesses than their cost of funds. This ensures that they will continue to have sufficient surplus to reinvest in the business after paying their creditors and equity shareholders. Less of debt and higher interest coverage ensure their sustainability even in difficult times.

These companies have performed consistently to deserve a ranking in the list. But remember, the entry to our list of 100 Fastest Growing Small Companies alone is not an investment trigger. It serves more as an entry point to begin your investment research. Happy investing…

Shiv Vani Oil: Exploring Hidden Wealth

Shiv Vani Oil seems to be an attractive choice for long-term investors considering strong visibility of earnings

INDIA’S largest service provider for onshore petroleum exploration, Shiv Vani Oil, continues to carry a fat order book, which gives great visibility to its future growth. Its flat performance in FY10 followed by a tepid June quarter has kept its stock market performance under check. However, the company is well poised to benefit from its huge capital expansion during the past couple of years. Long-term investors can bet on this stock.

BUSINESS: Shiv Vani Oil (SVOL) is India’s largest integrated service provider for onshore petroleum exploration and production. It offers services including collection and analysis of seismic data, well logging, cementing, mud engineering, directional drilling and well testing till actual extraction of petroleum and well maintenance. At present, the company has 10 seismic equipment sets, 350 shot-hole rigs and 40 drilling rigs. The company has also emerged as the leading integrated service provider for coalbed methane (CBM) development in India owning eight sets of modern directional drilling equipment. The company is executing a long-term contract in Oman for PDO and Shell, which has no expiry clause. The contract generates annual revenues of $18 million. More than 98% of the company’s domestic revenues come from national oil companies, which provide great visibility on its future earnings.

GROWTH DRIVERS:

The company currently carries an order book of 3,000 crore, which is nearly two-and-a-half times its consolidated revenue for FY10. Further, a number of more contracts has come up for bidding, which will be awarded post monsoon. The company, being a dominant player, is certain of grabbing a lion’s portion.

With all its equipment deployed on various contracts, SVOL has already started preparing for acquiring additional assets that will be required in carrying out additional contracts. It recently raised $80 million through the issue of FCCBs, which can be utilised in buying more drilling rigs. The company has historically followed the practice of buying new assets only when they have firm orders in hand.

As the company’s seismic equipment remains idle in India during monsoon, it is proposing to transfer them to Middle East for four months from next year. This will enable the company to earn additional revenues.

FINANCIALS:

The company has incurred heavy capex in line with inflow of orders, which has more than tripled its gross block in the past two years. Bond conversion and preferential allotments have resulted in 20% equity dilution since 2008. The recent FCCB issue is likely to dilute equity by another 15% when converted.

During the past five years, the company has expanded its net profit at a cumulative annualised growth rate (CAGR) of 76%, while the net sales grew at 58%. The company has consistently increased its operating profit margin from 32.4% in FY04 to 44.9% in FY10. However, the spurt in interest and depreciation burden in FY10 has resulted in a fall in the net profit margin. The company’s June 2010 quarter numbers were dull, as some of its ongoing contracts faced delays on asset relocation.

VALUATIONS:

At its current market price of 443, the scrip is valued at 9.1 times its profits for the trailing 12 months. Considering its growing asset base and the contracts in hand, SVOL is likely to end FY11 with net profit of around 282 crore. As the company continues to generate positive cashflows and retires debts, its net profit margins are likely to improve. The current market value is just 8.4 times its expected profit for FY11 on fullydiluted equity. This makes SVOL an attractive bet for investors.

BRIGHTER DAYS AHEAD?

Only an upturn in its core biz can lift RIL Stock May Benefit Long-Term Investors, Say Analysts

WITH a market capitalisation in excess of 3,00,000 crore, or $64 billion, Reliance Industries is a company one may hate or love, but surely can’t ignore. However, this poster boy of the India Inc has not been doing well of late. Its conspicuous absence from the recent market rally — and a downright fall through August — therefore, came as a big surprise to retail as well as institutional investors.

However, there is still no certainty if and when the stock will realign itself with the overall market. Last year, the company commissioned two mega projects and their ramping up process throughout the year provided positive growth triggers for the stock to sustain price-to-earnings multiple (P/E) above 20 — highest among its peers globally and higher than the Sensex. As both these projects — the new refinery and KG basin gas — reached their peak outputs, the company failed to introduce any new growth driver. Its core petroleum refining and petrochemicals businesses have come under pressure due to cyclical downturn and little help came from its diversification efforts. Its high valuation, therefore, appeared unjustified.

After its entry into the retail business four years ago, the company has now decided to invest in shale gas in the US, broadband wireless and power industries domestically while recently picking up a stake in East India Hotels. Some of these investment decisions have not gone down well with some analysts. “Unfortunately, investments such as the broadband venture, and now EIH, don’t help the growth thesis. These instead raise questions on whether RIL would have been better off returning that cash to shareholders, rather than making investment decisions outside its core operations. It may also indicate lack of core oil and gas growth opportunities, which, if it persists, can cause further lacklustre stock performance,” mentioned a Credit Suisse report on the company dated August 30.

While the new businesses won’t contribute much in the short run, an improvement in its core industries is what experts are betting on. However, opinions are divided on when the upturn will begin. Kotak Securities, for example, maintains a ‘reduce’ rating on the company citing concerns over the continuing weakness in chemical and refining margins. A few others believe the worst is already past for the company. “After a 15% year-to-date underperformance v/s the market, we believe the unexciting refining and petrochemicals outlook is largely priced in,” mentioned a Citigroup report dated August 23. A more recent report by Merrill Lynch estimated RIL’s September 2010 quarter refining margin at $8.0-8.6/bbl, “which would be its highest in six quarters”. Both these foreign brokerage houses retain their ‘Buy’ ratings on the company. However, most others, including Edelweiss, HSBC and Motilal Oswal, continue to carry a ‘hold’, ‘accumulate’ or ‘neutral’ rating on the scrip. Going forward, the company is expected to end FY11 with earning per share between 58 and 67, according to various analyst estimates. The current market price trades at 13.8 to 15.8 times its FY11 forward earnings. The company may appear inexpensive at these levels. However, the question remains whether it can justify any higher valuation when its growth appears stagnated.

As things stand, the scrip appears to have undergone a de-rating and not expected to cross the 4-digit level again in a hurry unless a sustainable upturn begins in its core industries. Having said that, a technical pull-back in the short run cannot be ruled out. India Infoline, for example, had given a ‘Buy’ on the company on August 30 when the scrip traded at 947 assuming it had fallen too much. “It is already trading into an oversold territory and appearance of positive divergence certainly supports argument for reversal in the short term,” it mentioned, giving a target of `1,020. Conventional wisdom suggests the best time to invest in a cyclical industry is when the cycle is at its bottom, which appears the case with refining and petrochemicals industries. As the long-term prospects for the company remain bright, investors willing to wait for 2-3 years could consider accumulating the scrip now.

Kemrock to shine on capacity additions

THE scrip of Kemrock Industries continued with its three-week long fall, losing 2.2% on Tuesday, disregarding its strong June quarter results announced on Monday. In the past one year, the scrip has witnessed a bumpy ride. It continued to lag overall market gains till April 2010, but a subsequent spurt — in spite of a sharp correction that ensued — helped it outpace the Sensex.
Kemrock Industries is India’s leading producer of fibre-reinforced polymers (FRP) and derives two-thirds of its revenues from exports. The company set up India’s first carbon fibre plant with 400 tonne per annum capacity in May this year with a capex of 200 crore.
The company’s June quarter numbers were boosted by its acquisition of an 80% stake in an Italian company, Top Glass. Its net sales more than doubled, while net profit grew 82% to 15.9 crore. The company, which extended its financial year by three months, reported net profit of 55 crore for the 15-month period ended June 30, 2010, which was 35.8% higher against the comparable period last year.
In the past, the company always tried to go for high-speed earnings growth necessitating heavy investments, which has resulted in mounting debt burden, equity dilution as well as receding promoters’ stake. Within the past couple of years, the company witnessed a 65% dilution in equity capital, whereas the promoters’ stake fell to 26% from 38%. As on June 30, 2010, the company carried nearly 940 crore of outstanding debt, resulting in a debt-equity ratio of 1.67.
All these investments have enabled the company to grow its net profit by 33% annually for past three years. Sales have, however, increased at a much sharper rate of 60% in the same period. However, equity dilution meant the earning per share remained stagnant.
The company has recently completed its ambitious expansion project to double its resins and carbon fibre capacities and quadruple FRP capacity. As a result, its net block on June 30, 2010, stood nearly twice of its level of last year. The carbon fibre business is unlikely to bring in any significant revenues this year due to the long drawn testing and approval procedure by the prospective customers. However, the substantial capacity additions could enable the company’s earnings growth to continue.