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.