Indian benchmark indices SENSEX and NIFTY are already down by 20%+ for the calendar year 2011, yet there is a lingering concern that what would happen if the FIIs were to pull out money like they did in 2008-09.
Just to put things in perspective, FIIs pulled out close to Rs 47000 crore ($13 bn) in FY 2009 and the Indian market’s crashed by a whooping 60%+ while we are already down by approximately 20% for the year, with the net outflows till Dec’11 at just about Rs 1100 crore ($209 mn).
This raises the question that can there be substantial fall in the market in calendar year 2012 if FIIs pull out $3-4 bn. Well they definitely can, provided there’s a repeat of Lehmann like situation and it would have a negative impact on the market’s. However before reaching any conclusion let’s understand that why this figure of $209 mn FII outflow could be a bit misleading.
As per the study done by Morgan Stanley, drawing out the numbers from Emerging Portfolio Fund Research [EPFR], comparing it with FII [foreign institutional investors] flows and then say that the two don’t match and worry about the source of flows to India is not the right way to go about determining FII flows into India.
This is because EPFR does not cover all funds that invest or can invest in India. In the past few years, flows into India have diversified and India is receiving money from many more sources. If one is to take into account the traditional investors, India-dedicated funds, hedge funds and emerging market funds, they have already sold equities worth $10-12 billion in Calendar year 2011.
But then one would think that why are we still talking about just $209 mn FII outflows when the traditional investors have already sold equities worth $10-12 bn. Well this is because the US pension funds have made net purchases to the tune of $10-12 bn.
So, the traditional fund managers appear under-exposed to India at this stage and thus instead of outflows, we could rather witness surprisingly good FII inflows in 2012.
The second reason why FIIs may not be so foolish to further sell Indian equities is the fact that they are reeling under the double whammy of market correction of 20-25% and Indian currency depreciation of another 15-20%, which makes Indian equities very cheap at the moment. While this situation may be inflicting pain on all the FIIs already invested in India, but on the other hand this also calls for investments by FIIs and Pension funds who are under-exposed to India.
The good thing about Pension funds is that their investments are more long term oriented and stable in nature in comparison to investments by hedge funds. Besides Pension fund flows, India is also witnessing a deluge of Foreign Direct Investments (FDI). During the April-September’11 period, FDI went up by about 74% to $19.13 billion from $11 billion in the year-ago period.
Further, another study by Morgan Stanley’s global analyst team, which covers 1,766 companies, reckons that 339 of these companies have plans to invest in India. These investment plans add up to a pipeline of about $80 billion over the next 12-24 months.
It is extremely important for India to have stable and long term capital flows, because it is these investments in the present that will shape the robust future of the Indian economy and thus the capital markets.
Ekansh Mittal – [firstname.lastname@example.org]
Whom would you follow or at least read about when it comes to generating wealth from stock investments?
I am sure that almost all of you reading this would follow (at least partially) in the foot steps of those who have proved it to the world by generating enormous wealth for themselves and have experienced the volatilities and vagaries of market cycles for many years.
At the recently held 16th wealth creation study organised by Motilal Oswal Financial Services, four market mavens — Ramesh Damani, Rakesh Jhunjhunwala, Madhusudan Kela and Raamdeo Agrawal — got together to discuss the future of investing and the challenges ahead for Indian economy and markets. Though each one of them has different views on market levels and stocks to invest in, all of them believe that we may see a challenging 2012.
Excerpts from the panel discussion:
Ramesh Damani: Rakesh, can we start with you? Sensex went from 3000 to 20000 in a period of say 20 years on the back of reforms, liberalisation and growth. Going by what has happened recently in Parliament, does it mean for the next 2-3 years reforms are in cold storage?
Jhunjhunwala: In our democracy, there is going to be no smooth and one way rise — everything needs to be debated or discussed. If the government policy is a hurdle to India’s growth, it may take some time, but it will correct itself. I, for one, don’t agree that we will not get the right policy. We will get it but with some interval. I am as bullish on the Indian growth story as I ever was.
I don’t rule out that we could have six months to one year of below-par growth or some kind of illusion or disillusion within the government. I still remain confident on the longer term although I must confess that for a person who has always had more than 100% of wealth invested in equities, I have decided that in the next bull run I will make it 98%.
Damani: Over the next 2-3 years, what are the key reforms you would like to see happen?
Jhunjhunwala: I don’t think retail in FDI at 51% is something which is extremely important. If I were to decide, I wouldn’t open 51% in one ago. I would do it in stages. I think GST is one of the important reforms waiting to happen. And how do we develop a bond market so that we can do long-term infrastructural financing? And how do we speed up decision making so capital projects can take off?
For example, I mean we cannot take off Posco, which is a $12-billion dollar investment, primarily because 1,600 hectares of forest land are involved. We need to have a balance somewhere. Instead of having a qualitative analysis of the environment, let’s do a study and decide what can be done and what cannot be done. Also, let’s decide how much of the environment are we ready to sacrifice in order to be able to feed 120 crore people. So, for me, the key is GST, speedy decision making so that capital investments can go through. These are the most important activities right now.
Damani: Madhu, do you think that the political paralysis that inflicts Delhi can be broken? For example the Aadhar scheme that was launched by Sonia Gandhi is now under debate. If we have this kind of decision making, what can we get done in India?
Kela: I think I am more disillusioned than Rakesh from what we have seen over the past 12-18 months. I think the characteristics we are showing to the world, everything happens out of confidence. India got extreme premium valuation not for anything else but because we end up delivering. Can you imagine a country where Parliament is not functioning for the last six months? What is the message we are trying to communicate?
From what I get to hear from one of the ministers, it seems there are 13 education bills pending and they would be taken up only when Parliament gets functional. Given this kind of situation, why should there be a case of 30-40% premium valuation to India compared with any other country? I am also hopeful that it will change sooner or later and that’s why we are doing our jobs.
Damani: Raamdeo, the governments in India have acted in times of crisis. Whenever any crisis happened, the Indian government has moved decisively. Could it be that we haven’t reached the crisis stage or unless the government moves, there wouldn’t be a major problem?
Agrawal: Some more time. Still we’re getting a 7% growth; we started the year with a 9% growth. Now, they’re talking about less than 8%. They still have an ambition of more than 9% plus for the 12th Plan which is starting next year. Clearly, what has happened is that with the confluence of events in the last 8-10 years, we have been able to get 8-9% growth without the government doing anything after 2004. That got us a lot of tax money, so much money that government did not know what to do with it…
So, they never had a problem about doing work and yet they got revenues. Now, that revenue tap is getting closed. The tax collection has come down to 8-9% now and my sense is that, if it goes on like this fourth quarter, we may see a negative growth in tax collections. Then, you have a fiscal problem. Though government may not admit, we have a problem on hand – look at subsidies, be it related to petroleum, fertiliser or free food, you have a whole lot of it. Power sector is witnessing huge losses annually. Look at Air India & BSNL…..how much is the government going to pay up for? All this was possible when the revenue was very strong. Nobody bothered and everyone was happy. Now growth is gone, global environment is very challenging. When outside environment is challenging, you have to take care of your house properly. You have to deleverage, you have to manage your currency exchange rate and take proper decision. So, worse to worse, if we go to 6% growth and once revenues start drying up, we will see them start working.
Damani: Rakesh, coming to you. One part of the crisis is the rupee dollar rate which has gone berserk in the last few months. Does it surprise you? Does it change your investment hypothesis?
Jhunjhunwala: It does surprise me. I was a rupee bull myself. But seeing the price movements lately, I personally feel there is a 75% chance the rupee will lose more against the dollar and I don’t see the dollar going below 48-49 against the rupee easily. I think in the export industry, people were covered or hedged for the next 6-9 months. And everybody was caught by surprise with the rise in the value of the dollar. If this continues for the next 6-9 months, export industry will benefit like anything. Software, especially Infosys, and all textile and export, pharma companies should benefit.
Damani: Madhu, your take…
Kela: Six months down the line, you will see the real impact on earnings in companies like pharmaceuticals where 30-40% of the company’s revenues are export driven, but import is not that high. The other side of the coin is that a lot of companies have taken huge debt in dollar terms and some of the companies have taken billions of dollars.
Jhunjhunwala: I don’t agree. Maybe, the first year will be difficult. Today I have a debt. Nobody has a debt unless and until you are not in the export industry. For all of the export industry, the annual sale in dollar terms is surely more than the debt.
Kela: There are a lot of domestic companies which do not have any export exposure and have taken dollar loans. So, what I am saying is as an investor you need to avoid these companies. Also, many of the companies have yet not provided for the kind of losses they may bear if the rupee doesn’t gain back.
Damani: But Raamdeo, if the rupee depreciates as sharply as it has, come say January 2012, will foreign fund managers put money back into Indian equities, given the fact they are getting Indian equities relatively cheap due to a favourable exchange rate?
Agrawal: I don’t think it works. In fact, the guys who are there are going through their own pain after losing 35-40% of year opening balance. So, first that pain has to be handled. Once growth starts, you see the problem is that of growth, if you don’t grow at 8%, now the entire infrastructure and expectations are built around 8% growth. This 8% leads to very different levels of growth in corporate earnings due to buoyancy in consumer spends. But as the growth goes down, a lot of things will change and if you go to sub 7%, it will be a different India.
Kela: If I can add, FDI investors might find it very attractive, essentially if you’re buying something for a million dollars and if you get it 30% cheaper, and if you really want to invest in India for long term, this is an opportunity for you.
Damani: Raamdeo, let me ask you this question. NREGA. It is a boon giving a lot of employment and creating a lot of prosperity. But it is also contributing to inflation and pushing people out of productive labour forces. Give us your view on that. How is it helping shape economic decisions for you? What are your views on NREGA?
Agrawal: The kind of poverty you have in rural India is not humane. You have to take care of these guys. Giving a hundred rupees to someone in rural India is not a lot of money.
Damani: Isn’t every employer complaining to you that we can’t find people now?
Agrawal: But this is a good thing, in the sense that people at the lower end of the economic hierarchy are beginning to gain in purchasing power. Economic growth is meant to progress in a way that a trickle-down effect will reach them. It is time to celebrate that. That will drive industries all the way. I mean, it is not only our birthright to consume. They should also consume in their own lifetime. And if there is a little help… Management of these schemes is another thing whether you are actually able to get some work done. People send their children to IITs or IIMs, they are getting huge subsidy in one form or the other. Why not that guy who has been deprived of good education and good infrastructure? If he gets two dollars a day, I don’t think it is bad.
Damani: But is it contributing to inflation?
Agrawal: Yes it is. I mean at some stage, at the absolute low-end, the demand for wheat, rice definitely goes up. But that also allows the farmers to produce a lot more and get remunerative prices. On the whole, I think if it is managed well, the NREGA scheme is good for the poor.
Damani: Are we in a long-term commodity spike? Do you feel commodity prices will hold higher in the next 10 years?
Jhunjhunwala: One thing is assumed in higher commodity prices that the demand will remain the same at all level of prices. I think that may not be correct. It’s not as if the demand is going to remain if copper goes up substantially. If you look at the return on capital which companies are getting at present commodity prices; why will supply not come? I am not a commodity bull to say that commodities will go up day by day, year by year.
Damani: Bears are fairly vocal right now; they’ve been pleading the case. A lot of them tell me that 5200 in the Nifty is the high watermark for the market for a long time. What is your view on that?
Jhunjhunwala: Dekh Ramesh, zindagi mein kya hota hai ke har aadmi ka din aata hai. So be it yaar. I only want to know at the end of five years, their balance sheet and my balance sheet. I’ll ask the bears. I think the proof of the pudding is there, not in the shouting…I think the markets are in a difficult stage. We could be in a range for a long period of time. It could be for six months or one year. As an investor I don’t feel that I should sell my equity and put my money elsewhere or that the companies will fail and India will not grow. I am confident.
May be 5200 could be a difficult point to penetrate. I think 4600-4700 is also going to be a difficult point to break.
Damani: What’s your trading range for the market?
Jhunjhunwala: I would think 4600-4700 level should hold.
Damani: Madhu, Rakesh suggests 4700-5200 as a range for the Nifty, what is your view?
Kela: To my mind the index is not 5200, it is much, much lower, because it is only 15-25 companies which are making this index. I think even in this painful phase, even if it lasts 6-12 months, one is very clear that in the larger midcap space is where you will get investing opportunities. That index is around the equivalent of 3000-3500 on the Nifty. So, that is where one is investing time and resources to identify companies. This is the time to invest in those companies, and give it time and patience and you will get disproportionate rewards. This is the time to look at good quality businesses and high quality management. And some of these stocks are already beginning to be on that radar. Not every midcap which has fallen is a fraud or a cheat.
Damani: Look ahead to 2012, which are the sectors you think are attractive to start investing in?
Agrawal: I am aligning more to buy more blue-chips or emerging blue-chips. May be even younger companies which do not have a track record of paying dividends for five years. I look at individual companies rather than sectors and look at their performance. What they can do, their dividend track record, what kind of competence and honesty they bring to the table. I don’t buy 10-15 companies in a year. If I can add one or two companies in a year, that’s good enough.
Damani: Do you think the index will be higher than today, year on year?
Agrawal: I would think so. Diwali to Diwali would be a better time. Damani: Madhu, you said start looking at midcaps, smallcaps, any particular sector you find attractive?
Kela: I think across sectors you will find attractive companies even perhaps in real estate or infrastructure, which is completely written off. If you look at the technology boom, there were 200 listed companies. Ten of them have survived but it could be said that they have seen glory since then even when compared to 2001-02. In every sector you will have leaders. This is the time to choose, rather than a sector, individual companies from different sectors and make your portfolio.
Jhunjhunwala: Ramesh, if you ask me where to invest the money, I’m looking for money, because I am already fully invested. We are entering a year of uncertainty. I think it is best not to predict. It’s best to watch and react. With inflation, the European government factors, I think it is going to be an unpredictable year. If I were to invest I would invest in the beaten-down sectors.
And also the concept of value-investing, I think value-investing is not only buying the blue-chips. Value investing is also buying a stock, keeping it for 12-18 months and selling it at a handsome rate. Every stock in life doesn’t have to be bought for 40 years. All of us cannot be Mr Warren Buffett in life, let me tell you. Just because he thinks that every stock should be bought for life, does not mean that we should also buy every stock for life. Value investing is buying value where it may not be lasting value. That value could be encashed over two or three years.
A few months back (on 14th Sep’11), while referring to Piramal Lifesciences Ltd (PLSL) and Piramal Healthcare Ltd (PHL) demerger arbitrage opportunity (can be accessed HERE), we mentioned about some easy gains on the platter and yes the gains have truly come very easily and that too when the market is in a bad shape.
Earlier on 14th Sep’11, when the opportunity was shared, PLSL was trading at a discount (Rs 86.00/- per share) in comparison to PHL (Rs 355.00/- per share) based on the 1:4 de-merger ration fixed by the company then, and thus offered a good arbitrage opportunity.
By the time we came close to the closure of the opportunity i.e 22nd/23rd Dec’11 (based on whether one wishes to book profit before the ex-date or wait for the issue of PHL shares by selling PLSL shares on ex-date i.e. 23rd Dec’11), PLSL was trading at a premium (Rs 100.00/- per share) in comparison to PHL (Rs 380.00/- per share).
Either way, one still made 12-14% return in a matter of 3 months, while the market is down by 6%.
Case #1 – Selling before the ex-date
- Purchase price of PLSL (on 14th Sep’11) – Rs 86.00/- per share
- Selling Price of PLSL (on 22nd Dec’11, one day before the ex-date) – Rs 98.00-100.00/- per share
- Approximate absolute gain (before tax) – 12.5%
- Approximate annualized gain (before tax) – 50%
Case #2 – Selling on ex-date
- Purchase price of PLSL (on 14th Sep’11) – Rs 86.00/- per share
- Selling Price of PLSL (on 23rd Dec’11, on ex-date) – Rs 7.00/- per share
- Cost of acquisition of one share of PHL (1:4 demerger ratio) – 86*4 – 7*4 = 316.00/- per share
- Current price of 1 share of PHL – 377.00/- per share
Since the PHL shares should get allotted in 15-20 days time, PHL may correct to 350-360 odd levels. Though the absoulte gains would be similar to the ones earned on selling the shares before the ex-date, however for cases where we don’t see any value unlocking, we prefer to book profits by selling shares before the ex-date i.e. the Case #1 and thus avoid time risk and price risk.
Note: Special situations/Arbitrage opportunities are to a large extend immune from regular market risks and thus it is always a good idea to scout for them (look for de-listing opportunities, de-merger cases. Ex: Search UTV on this site) and allocate some 15-20% of your portfolio (spread over 4-5 such opportunities), than keeping surplus cash idle.
Make sure the opportunities you invest in have a very low downside risk, and offers returns in excess of 24-25% on annualized basis. De-listing cases, where the Promoters have already indicated the offer price are usually immune from market risks while the un-paired de-merger cases can be volatile. So, its important to manage the time and price risk in such cases.
Ekansh Mittal – [email@example.com]
Looking at the above illustration, you may have already decided that going forward you will not invest in IPOs, more specifically the smaller ones. However before you reach a final conclusion, why not learn some important details.
Note: The below details, regarding modus operandi of operators were shared by Mr. Ashok Kumar, Chartered Accountant.
A few months ago, an ex-student of mine, who is now engaged as an Equity Research Analyst with a prominent broking house cautiously asked me whether I ever felt that I was far too dismissive while evaluating IPOs, and more particularly the smaller ones.
He cited the example of a company whose IPO we had rated as D (Poor) but whose stock price had risen by 50 per cent post listing. My response then was, let us revisit this company’s stock price 45 days down the line.
Sure enough, the stock quoted 60 per cent below its IPO price by the end of the stipulated period and my student had learnt his lesson well in the best way, as I often repeat at my guest lectures – by actually losing money.
Am certain, like my student, many of you have often wondered about the phenomenon of a clearly under-par company with a ridiculous price-tag getting full subscription and thereafter quoting ( albeit temporarily ) at an even more ridiculously high price post listing. Given the lack of fundamentals of most of these companies, clearly, there is more to these bumper listings than meets the eye.
Based on anecdotal evidence, SEBI is either oblivious or disinterested in this phenomenon and resultantly the rapacious machinations of criminals, euphemistically and rather gently, called ‘operators’ continue uninterrupted. While the onus of busting this ‘drop by drop’ multi-crore small IPO scam and proving the modus operandi of the operators and promoters must rest at SEBI’s door, let us now turn the spotlight on how it must be perpetrated.
Let us assume a scenario where a company, RXL’s financials are so obviously weak that banks will no longer be willing to part with good money to recover their bad money.
In such a scenario, one of the several small and unknown investment bankers approaches the company and offers its management an IPO plan which will be a win-win scenario for both parties concerned.
Let us again assume, for arguments sake that Rs. 50 per share is the mutually agreed fair value of the company arrived at by the two parties. The investment banker then makes a Don Corleone (a major character in Mario Puzo’s The Godfather saga) like offer that cannot be refused, of taking the IPO through at a price of Rs 100 per share with the ‘support’ of their guaranteed investors and operators!
The trick is to manage subscriptions from guaranteed investors and Operators in the form of cheques at Rs 100 per share before issuing a guaranteed cash-back of around Rs 30. This reduces the effective investment cost for these guaranteed investors and operators to Rs 70 per share.
Secure in their knowledge that the fundamentals and pricing of these small IPOs are so poor that informed retail and HNI investors will keep away, the shares thus get distributed to the guaranteed investors and operators thus choking whatever little free float there otherwise may have been post listing.
So how these Operators and Promoters relieve themselves on the heads of gullible and greedy retail investors?
Once the issue gets subscribed in this manner, the post-listing games begin and soon the buyers and sellers left are the same parties albeit under different garbs. This facilitates a ‘price discovery’ that leave alone market participants, but even Christopher Columbus would have failed to fathom.
It is here that the media, and more specifically the television channels can play a more responsible role. Instead of merely flashing the listing price and its uptick, they could take an editorial stance of playing the role of the watchdog that has clearly been abdicated by those actually responsible. By flashing the ridiculous listing gains, what the television channels in effect do, is lure the never ending list of gullible and greedy small investors in droves to this stock counter.
When this happens, the scene that follows is reminiscent of one I watched on the National Geographic channel where crocodiles wait patiently in the river for crossing herds of zebras before moving in for the kill. Simply put, the operators sell aggressively once gullible retail investors start pouring in and before the latter know it, they are left holding the stock whose price almost immediately takes a U-Turn and commences a southward journey at break neck speed.
What a wonderful modus operandi!
The guaranteed investor gets a 30 per cent cash discount and hence an inbuilt safety net so that even if he is forced to bail out 20 per cent below the issue price, he still gains, not to speak of having laundered his black money white.
The promoter gets an upfront 100 per cent ramp-up on the IPO price and the operator make a killing by dumping the shares at their peak price, the watchdog looks the other way and the gullible albeit greedy retail investor gets slaughtered.
Those in the know claim there are 3 to 4 (in)famous operators who take up contracts from promoters and their investment bankers to ensure that their IPO gets fully subscribed irrespective of the market conditions.
It is also claimed that these Gujarat and Mumbai-based operators are very ‘professional’ and have infrastructure in place including dummy retail applicants for the IPO and sub-accounts with some foreign institutional investors in place for post-listing prop-up operations.
The commerce for this ‘professional’ service is estimated at a minimum of Rs 150 million per IPO. Clearly, with such IPOs flooding the market in recent times, this is one business that is ‘de-coupled’ from even the Indian market, leave alone the global one.
There’s no doubt that we are probably going through one of the worst periods. One carries out due diligence, finds a good company quoting at mouth watering valuations, decides to buy the stock and is humbled by the market the very next week with the same stock quoting 15% lower than his purchase price. However there’s a ray of hope for all the patient investors. I am not saying this just to motivate you, there are some strong reasons supporting the fact that we may be entering the last leg of the correction, which could be very volatile but at the same time fraught with opportunities.
Before I discuss further, let me quote some lines of Mr. Rakesh Jhunjhunwala from Motilal Oswal’s 16th Annual Wealth Creation Study on being asked by Mr. Ramesh Damani about Bears being very vocal and pleading the case that 5200 on the Nifty is the high watermark for the market for a long time….
Here’s what Mr. Jhunjhunwala mentioned and I quote, “Dekh Ramesh, zindagi mein kya hota hai ke har aadmi ka din aata hai. So be it yaar. I only want to know at the end of five years, their balance sheet and my balance sheet. I’ll ask the bears. I think the proof of the pudding is there, not in the shouting. I think the markets are in a difficult stage. We could be in a range for a long period of time. It could be for six months or one year. As an investor I don’t feel that I should sell my equity and put my money elsewhere or that the companies will fail and India will not grow. I am confident”.
I hope the above lines help you understand the fact that wise investors don’t look at markets from a standpoint of next week, month or year. Their outlook spans more than 3 years and more and probably that’s why they are wise and rich at the same time.
So the times are definitely tough, however another wise investor once said, “Either you will get good and cheap equity prices or you will get good news. You rarely get both at the same time.” At this point of time, we are definitely getting good and cheap equity prices and a deluge of bad news and that’s why we believe that we could be just 10-12% away from the bottom.
It all started in Nov’10 when everyone was gung ho about the Indian economy and the SENSEX had breached the level of 21,000. The retail investors, just like any other period of exuberance, had started approaching the market as they were gaining the feeling of being left out. It was the time when the news flow was good and as the wise investor mentioned, the equity prices were not cheap. Since then, their hopes have been dashed with SENSEX falling from highs of 21000 to current lows of 15,500, a fall of more than 26%. Along the way, Small Cap index has shed close to 50% from its highs of 11,250 in Nov’10 to current levels of 5700.
In the last twelve months or so, we have had complete state of panic twice (State of panic is a situation when almost all the stocks are hammered irrespective of their fundamentals. Out of sheer panic and fear, investors start selling even the fundamentally strong and out performing stocks from their portfolios). One was in Feb’11, when SENSEX dropped to a low of 17,295 on 11th Feb’11. I believe, that was one great opportunity when many good stocks had gone down too low. Since 11th Feb’11 low, market has corrected by more than 10%, however there are numerous good companies that are quoting 20-100% higher than their Feb’11 lows. So that was one leg of correction.
We witnessed the second leg of correction in late Aug’11 when SENSEX breached the strong support level of 17,500 and tanked to a low of 15,765 on 26th Aug’11. It was again a state of panic. Thereafter the markets recovered to the highs of 17,800-17,900 only to fall back again to current lows of 15,500.
On 16th Dec’11, RBI announced no change in policy however hinted towards rate reversal considering slowdown in economy and inflation. Though it wasn’t a major event, SENSEX witnessed a sharp sell off and closed the day at 15,500. Now, SENSEX has closed below a major support level of 15,750 (the second panic level from which the market reversed). It remains to be seen if this turns out to be the the third leg of correction.
If it does, then SENSEX may tread lower to levels like 13,500-14,000 and the stocks may see a further correction of 15-20% on individual basis. However with the same we also believe that this would probably be the last leg of correction with bottom formation at around 14,000. Seeing your stocks go down by another 15-20% could be painful, when they may already be 25-30% down from your intial purchase, but this is definitely not the time to sell your shares. Instead, brace up your self and keep some free cash (which you may not require for another 3 years) ready for deploying at lower levels of 13,500-14,000 and taking your overall portfolio allocation to 85-90%.
We are not trying to predict the SENSEX levels, nor are we trying to predict the market direction, however there are various reasons which makes us believe that 14,000 (+/- 2-3%) could be the maximum downside:
At 14,000, we would be off almost 35% from highs recorded in Nov’10. Considering market history, SENSEX has witnessed corrections of similar magnitude in the past.
Technically speaking, market usually corrects in three phases with the third being the last and most volatile. Though it shakes off most of the market participants, however it also offers some of the best investment opportunities.
Fundamentally, the valuations would go down to an extent (~ 12 times on trailing twelve months consolidated earnings) witnessed only twice or thrice in the past. Though the news flow may continue to remain negative for some time, however as observed in the past, the market does not go below certain valuations, no matter how bad the situation may seem domestically and globally.
After 13 consecutive rate hikes, RBI finally left all the key rates unchanged in its mid-term review of the credit policy. Inflation seems to be under control and this may allow RBI to lower the rates in its subsequent reviews of credit policy.
We understand that it might be frustrating in the current market condition, but then you should understand that equity is just like any other asset class. If you can sit over your real estate holdings (if real estate prices were to reflect every second on some ticker, even they would be so much volatile), bank deposits, gold jewellery for years, then why not stocks of good companies. In the past, equities have outperformed all the asset classes and will continue to do so for forseeable future in a country like India. Moreover, you increase your chances of potential gains by being patient and by investing during such bad times.
Remember, its always the darkest before the dawn. You know it and now you can experience it, only if you can hold your nerves.
Ekansh Mittal – [firstname.lastname@example.org]
In the past, service delivery mechanisms of the government departments left much to be desired in India. Cramped spaces; shabby ambience; discourteous dealing personnel and their chronic absenteeism; demands of gratification; inefficiency in work; long queues; procrastinating officials; procedural complexities; etc., were some of the undesirable features of the working of the government departments.
Consequently, a visit to government department by a citizen to make use of any service used to be a harrowing experience. Public Administration, governed by bureaucratic structures built on rationale principles, that dominated the twentieth century, has failed to respond to the changing requirements of the present times. It is so because it tended to be rigid, laid too much emphasis on red-tapism; thwarted initiative; wore out dynamism and denied justice as of resultant delays.
However, with the rising awareness amongst the citizens and their better experiences with the private sector – the demand for better services on the part of government departments became more pronounced.
The metamorphosis in the quality of delivery of services to the citizens by the government has been more pronounced in recent years with the advent of e-governance. E-governance, which is a paradigm shift over the traditional approaches in Public Administration, means rendering of government services and information to the public using electronic means. This new paradigm has brought about a revolution in the quality of service delivered to the citizens. It has ushered in:
- transparency in the governing process;
- saving of time due to provision of services through single window;
- simplification of procedures; better office and record management; reduction in corruption;
- and improved attitude, behavior and job handling capacity of the dealing personnel.
In India the Government has launched the National e-Governance Plan (NeGP) with the intent to support the growth of e-governance within the country. The Plan envisages creation of right environments to implement G2G,G2B, and G2C services. While the intent is right, the gap is still huge and the process of approval of projects a long drawn one. The same lends itself to a huge business opportunity for all the smart companies operating in the domain of e-Governance.
ABM Knowledgeware Ltd (BSE Code – 531161) – Exclusive focus on e-Governance
ABM Knowledgeware Ltd., listed in Bombay Stock Exchange, is one of the few IT companies in India with exclusive focus on E-governance since 1998.
Within seven years of its foray into the E-governance space, ABM achieved the distinction of winning the prestigious award of “The Best Technical Organization in E-Governance” in India adjudged by the Ministry of Information and Communication Technology, Govt. of India and IIT Delhi.
ABM is one of the few companies in India which possesses IPRs and Trade Marks for its various proven and sustained E-gov solutions. The journey of ABM is populated by several Milestones signifying growth of ABM in this very challenging and tough market segment.
Some of the core strengths of ABM that distinguishes it from many big or small IT companies operating in Indian market can be summarized as:
- Successful demonstration of Sustenance and Institutionalization of several large E-Gov projects
- Deep understanding of the focus Domains and functioning of Government in general
- Proven strategies/solutions for ensuring sustenance after “Go Live” of any E-Gov project.
Key Investment Highlights
E-Governance at transactional change – E-Governance in India has reached at the “Transactional” stage and providing various services to citizens, business and government organization, offered by Central Government agencies and different State Government departments. National e-Governance Plan (NeGP), initiated in 2006, attempts to make all Government services accessible to the common man in his locality, through Common Service Centers (CSC) being set up across India. As on April 2011, about 94,786 CSCs were operational while the scope is still humongous.
Strong entry barriers & Customer lock-in – ABM operates in a segment with strong entry barriers. Since early 2000, ABM shifted its focus from supplying hardware to developing knowledge-based solutions/products for Govt. organizations. ABM has gained strong domain knowledge like no other company, and has thus been able to bring in administrative reforms in Govt. processes. ABMs products have received awards from various organizations and are amongst the only few solutions that have been adopted by both the National and state Govt. for recommendation and implementation across the country.
Dealing with Govt., not everyone’s cup of tea – It is widely believed that dealing with Govt. is not everyone’s cup of tea. The Govt. works at its own pace and there’s a lot of bureaucracy involved. ABM has been dealing with the Govt. organizations since late 1990s and has over the years mastered the art of negotiations with the Govt.
Very attractive valuations – ABM is currently quoting at a market cap of Rs 74 crores, while the company holds approximately Rs 15 crore of cash balances. For FY 11, the company achieved a net profit of Rs 10.50 crores at 20% NPM, while the company has already achieved a net profit of Rs 8.77 crore for the half year ending FY 12. We believe the stock is quoting extremely cheap at 5 times FY 12 (E) earnings and approximately 1.5 times FY 12 (E) book value. Considering both the quality of the management and the company, ABM can easily command premium valuations over its peers in the long run.
For detailed analysis, investment strategy and portfolio allocation, refer the attached report at the below link:
Ekansh Mittal – [email@example.com]
As the above heading reads, the two companies that come to my mind, operating primarily in the farm machinery space are: VST Tillers Tractors, which is being covered below, while the other is Swaraj Engines (supplies tractor engines to Swaraj division of Mahindra and Mahindra ltd).
For the past few days, I had been tracking VST Tillers Tractors and Swaraj Engines and wanted their price to inch lower and now finally VST Tillers is quoting at investment worthy levels of Rs 425, which makes me excited all the more to share the details on the same. However, before we talk about VST Tillers, lets discuss about the govt. policy which is indirectly driving the growth for farm mechanization.
I am sure you may have heard of NREGA. While labourers/workers are very happy about the NREGA, farmers are crying their heart out.
Though Govt. has put in efforts to support farmers with its policy of Minimum support price (MSP) for the crop produce by the farmers, what is hurting their profitability is the rising wages for labourers, driven by government efforts to ensure a minimum level of paid work for rural households under its National Rural Employment Guarantee Act (NREGA). Farm labourers wages have gone up sharply. And even after paying higher wages there is no guarantee one will get workers.
Daily wages for female farm workers in the Jalgaon area have risen to Rs 100 this year from Rs 75 a year ago and for male farm workers to Rs 200 from Rs 50. Overall, farm wages in the area have more than doubled over four years.
The advent of NREGA has resulted in a significant structural break in rural wage inflation. The numbers are truly striking as between 1999 and 2005, pre NREGA, nominal wages in the rural economy grew at an average annual rate of 2.7% YOY. Post NREGA, average wage inflation almost quadrupled to 9.7% YOY between 2006 and 2009. Further, wage inflation continues to accelerate – between January 2010 and May 2011 (the last date for which this data is available) annual nominal wage growth averaged almost 20%.
Wage hikes are now linked to inflation: As if the pressure from rural wages to food prices was not enough, the desire to index NREGA wages to inflation has effectively institutionalized the wage-price in the rural economy.
This is indirectly leading to growing mechanization of agriculture: We are consequently witnessing that farmers are increasingly using tractors, tillers to substitute labor given the higher wage inflation as well as the growing scarcity of labor (given that other opportunities in rural India are opening up).
Let’s discuss VST Tillers Tractors Ltd.
V.S.T Tillers Tractors Ltd (VTTL) promoted by the V.S.T Group, a well known business house in South India, manufactures Power Tillers and Diesel Engines in technical collaboration and joint venture with Mitsubishi Heavy Industries and Mitsubishi Corporation, Japan. In 1984, the company entered into an additional technical and financial collaboration with Mitsubishi Agricultural Machinery Company Ltd, Japan for the manufacture of 18.5 HP, 4 wheel drive Tractor.
Some of the key highlights of VST Tillers Tractors are as follows:
- VST is the largest manufacturer of Power Tillers in India with about 45% market share. It has delivered a strong CAGR of 27% in Power Tillers sales during last 5 years (FY06-11).
- The annual market size of Power Tillers is about 53,000 and it is growing at very healthy rate of about 15-20%, mainly due to fast mechanization of agricultural industry.
- During FY11, VST sold 23,449 Power Tillers for Rs. 262 crore as against 19,068 Power Tillers sold for Rs. 212 crore during FY10, registering a 23% growth in volume term and 23.6% growth in sales value.
- The company also manufactures sub 20 HP tractors, where it has been witnessing strong growth and reported sales of 4,735 tractors in FY 11 against 3,758 tractors in FY 10 and 2,327 tractors in FY 09.
- VST is a debt-free company Besides being debt free, the company holds liquid investments worth Rs 32 crores and cash balances worth Rs 20 crores.
- As at 31st Mar’11, VST had a combined (tractors + tillers) production capacity of 30,000 (on double shift basis) while the company recorded a total sales of 28,184 (tillers + tractors) with 94% capacity utilization. In order to ensure that there’s no lack of growth on account of capacity constraints, VST has embarked on establishing a new Tractor manufacturing plant in Hosur, Tamil Nadu with an installed capacity of 30000 units p.a. (on double shift basis). The financial outlay for this project is budgeted at Rs. 66 crores and is proposed to be funded with a mixture of internal accruals and debt. The plant is expected to go on stream during the third quarter of 2012.
- Over the years, VST Tillers Tractors Ltd., has established an extensive and efficient countrywide sales and after-sales service network and the same can be well gauged from the ever increasing deposits from dealers.
- For the last 5 years, the company has recorded an annualized sales growth of 27%, while the bottom-line has recorded a much superior growth of 43% CAGR (compounded annual growth rate).
It cannot be denied that availability of adequate farm power is very crucial for timely farm operations for increasing production and productivity. The power productivity relationship shows that those states having higher farm power availability/ha have higher productivity. Hence, it can be concluded that the additional requirement of food grains in future will be met through improving productivity by using more farm equipment, hence, the demand of Tractors, Power Tillers and other machinery will continue to increase in future.
Moreover there is an inherent expansion in sub 20 HP (VST manufactures 18.5 HP tractors) tractor demand on account of shortage of farm labour/increase in wage rates due to the alternative employment opportunities available to workers under NREGA leading to increasing tractor viability even for small/medium size land owners. The inclusion of marginal/small farmers (with less than two hectare land holding) in the tractor market is potentially a strong demand driver as about 39 per cent of the agricultural land in India is owned by these farmers.
Going forward we expect the bottom-line growth to be in sync with the revenue growth as there’s not much scope for margin expansion. During high inflationary environment, such as the one we are facing now, the NPM margins should settle at 9% while on the higher end the company can clock NPM of 11%. The demand for farm machinery is strong and with the above expansion, which would double the existing capacity, the company should be able to maintain 20%+ annualized growth.
Given the market correction, the stock is currently trading at 8 times trailing twelve months earnings. The current valuations make the stock investment worthy from the standpoint of long term investment. Though agriculture sector growth has averaged around 3-4%, Indian agriculture is characterized by low farm mechanization and thus points to the significant scope that exists for raising farm machinery penetration, which bodes well for companies like VST Tillers Tractors Ltd.
Disclaimer: The above is just a stock specific view. VST Tiller is not yet a part of Alpha recommendation to our Alpha/Alpha Plus portfolio members and in future we may/may not recommend it to our members. Readers are suggested to carry out their own due diligence before making any investment decision.
Ekansh Mittal [firstname.lastname@example.org]