Investor's Eye: Pulse - RBI Q1 policy review-status quo on rates, but mixed commentary causes confusion; Update - Ipca Laboratories, Jaiprakash Associates, GAIL India, Allahabad Bank

 

 

Investor's Eye [July 30, 2013]  Sharekhan www.sharekhan.com

Summary of Contents     PULSE TRACK RBI Q1 policy review-status quo on rates, but mixed commentary causes confusion After the announcement of stiff measures to curb volatility in exchange rates since the mid of July, the markets were expecting the Reserve Bank of India (RBI) to maintain status quo in its Q1FY2014 policy review, which eventually happened. Therefore, the repo rate now stands at 7.25%, cash reserve ratio (CRR) at 4.0% whereas the marginal standing facility (MSF) and bank rates will be at 10.25% each. Further, the central bank trimmed the growth forecast for FY2014 to factor evolving conditions in the domestic and global economy. However, the dovish undertone of the RBI commentary seems to have sent mixed signals and confused the markets. Consequently, the rupee and the financial markets reacted negatively. We do not see any scope for rate cuts in September also. On the other hand, the RBI could take further steps to curb volatility in the rupee if the government fails to take structural measures to bring down the fiscal imbalances. Going ahead, the RBI's actions will hinge upon the government's actions to curtail the current account deficit (CAD) management and global environment.   STOCK UPDATE Ipca Laboratories Recommendation: Hold Price target: R675 Current market price: Rs653 Q1FY2014 results: a first-cut analysis Result highlights Q1 sales in line with expectations; healthy growth in domestic market: For Q1FY2014 Ipca Laboratories (Ipca) has reported a 25.7% year-on-year (Y-o-Y) rise in net sales to Rs792.5 crore, which is in line with our estimate of Rs789 crore. The growth was mainly driven by formulation exports, which grew by 47% year on year (YoY) to Rs330 crore in the same quarter. The domestic business reported a 12% Y-o-Y growth to Rs250 crore, which is better than the industry growth of nearly 8% in the same period. We had expected a slower growth in the domestic market due to the implementation of the new drug pricing policy and the consequent de-stocking by distributors and wholesalers.  OPM declines on higher raw material cost: The operating profit margin (OPM) declined by 190 basis points YoY to 19.9% during the quarter mainly due to a higher raw material cost, which jumped to 40.9% of net sales in Q1FY2014 from 39% of net sales in Q1FY2013.  Adjusted net profit sees limited growth of 17.6%: On the back of a higher other income and a lower interest cost, the profit before tax of the company jumped by 25.1% YoY to Rs144.2 crore in Q1FY2014. However, due to a higher effective tax rate (25% in Q1FY2014 versus 11% in Q1FY2013), the adjusted net profit witnessed a limited growth of 17.6% YoY to Rs119.7 crore.  Lower forex loss helps report a 67% rise in net profit: During the quarter the company provided for a foreign exchange (forex) loss of Rs48 crore as compared with Rs59 crore in Q1FY2013. This helped the reported net profit to jump by 67% YoY to Rs71.8 crore during the quarter.  View: The overall performance of the company during this quarter was broadly in line with expectations. The quarter's revenues and adjusted net profit constitute nearly 25% and 24% of the company's annual revenue and profit estimates for FY2014 respectively. We will come out with a detailed note on the company shortly after our interaction with the company's management.    Jaiprakash Associates Recommendation: Buy Price target: Rs63 Current market price: Rs38 Price target revised to Rs63 Result highlights Q1FY2014 adjusted earnings disappointing: For Q1FY2014 JP Associates Ltd (JAL) reported a net profit of Rs334 crore (up 140.7% year on year [YoY]), which included an extraordinary gain of Rs312 crore (net of tax) realised by selling 16 crore shares of Jaypee Infratech. Hence, the adjusted net profit works out to Rs22 crore (down 84% YoY), which is much below our as well as the Street's estimate. The performance was disappointing largely on account of margin pressure across cement, construction and real estate divisions and a 26.8% surge in the interest charge YoY to Rs590 crore.  Real estate division supports revenue growth; revenue performance of cement and construction divisions remains muted: The overall revenues of the company increased by 10.8% YoY to Rs3,283 crore. The revenue growth was largely supported by the real estate division, which posted a revenue growth of 175.3% YoY (largely due to a low base effect) to Rs454 crore (lower than estimated and down 29.1% quarter on quarter [QoQ]). The revenue growth of the real estate division was supported by a growth in the volume of residential properties sold, as this time there was no sale of land parcel. The revenues from the cement division came in line with our estimate and stood at Rs1,539 crore (down 1.5% YoY due to a lower realisation). Further, the revenues from the construction division increased by 2.9% YoY to Rs1,251 crore, which is in line with our estimate.  OPM contracted across divisions: On the margin font, the operating profit margin (OPM) for the quarter contracted by 309 basis points YoY to 22.9%. The margin contracted on account of a decrease in profitability in all the three divisions. The cement division's profitability contracted by 336 basis points to 11.2% at the earnings before interest and tax (EBIT) level on account of a 2% decline in the cement realisation and increased cost pressure. Further, the construction division's EBIT margin contracted by 536 basis points due to a change in the revenue mix in favour of less profitable projects. The real estate division of the company also witnessed margin pressure with a contraction of 658 basis points in the EBIT margin. Consequently, the operating profit of the company declined by 2.4% YoY to Rs753 crore.  Higher interest outgo dents earnings: The interest outgo increased by 26.8% YoY to Rs590 crore, which is higher than our estimate, and dented the earnings of the company. The interest cost surged mainly on account of increased borrowings to fund the ongoing capital expenditure (capex) in the cement business. Hence, we believe the interest outgo is expected to remain high in the near term.  Earnings estimates for FY2014 and FY2015 downgraded: We are downgrading our earnings estimates for FY2014 and FY2015 mainly to factor in (a) the lower than expected volume growth in the cement division; (b) the lower than expected revenue and profitability of the real estate division; and (c) the higher than expected interest charge due to increased borrowings. Consequently, our revised earnings per share (EPS) estimates for FY2014 and FY2015 now stand at Rs2.4 and Rs3.1.  Maintain Buy with revised target price of Rs63: Though the company is facing a tough time on account of its stretched balance sheet, an unfavourable business environment for its cement and real estate divisions, but we believe the huge capacity expansion in its cement division and the huge land parcel of its real estate division will generate healthy cash flow over the longer run. Further, the near-term trigger in the stock will be the likely stake sale in Jaypee Cement Corporation as the move will de-leverage the balance sheet of JAL to some extent. In terms of valuation, we continue to value the stock using the sum-of-the parts (SOTP) valuation methodology and arrive at a revised price target of Rs63 per share. Hence, we maintain our Buy recommendation on the stock.    GAIL India Recommendation: Book out Current market price: Rs307 Book out on fuel and regulatory uncertainty Result highlights Q1FY2014 performance hit by LPG business: During Q1FY2014, the net sales of GAIL India (GAIL) improved by 16% year on year (YoY) supported by a higher realisation in the petrochemical (petchem) and natural gas trading segments. However, the operating profit declined by 22% as the liquefied petroleum gas (LPG; liquid hydrocarbons [LHC]) segment reported a segmental loss of Rs11 crore as against a profit of Rs437 crore in Q1FY2013. Consequently, the net profit declined by 29% YoY to Rs808 crore, which is 18% lower than our and the Street's expectations. The management indicated that the supply of gas to its LPG facilities from the Krishna-Godavari (KG)-D6 basin has stopped; hence, the company has sourced LPG from regasified liquefied natural gas (RLNG; cost of RLNG is significantly higher than domestic gas [almost 3x]). Thus, the LPG business segment is unable to absorb the entire subsidy burden of Rs700 crore put on GAIL in Q1FY2014. LPG business-a pain point; uncertainty on subsidy adds to confusion: The drop in fuel supply to GAIL's LPG facilities from the KG-D6 is a structural issue and could take time to resolve. We believe that GAIL would continue to face this problem for the next six to eight quarters in our view. Therefore, we have cut our EBITDA estimates by 11% and 10% for FY2014 and FY2015 respectively and revised down our earnings estimates by 11% and 10% for FY2014 and FY2015 to factor in the rising fuel cost of the LPG business.  The management of GAIL has been approaching the oil ministry for relief from a subsidy burden. However, there is no clarity yet. Moreover, given the strained financial status of the economy (containing current account deficit [CAD] is the top priority of the government) and weakening of the rupee against the dollar, the subsidy burden is unlikely to come down sharply. Hence, we believe GAIL may face uncertainty regarding both regulation (subsidy sharing) and gas availability for some time now.  View-book out on fuel and regulatory uncertainty: The stock has corrected significantly in the recent past as a lot of negatives are factored in but the above mentioned uncertainties would continue to weigh down the stock in the near-to-medium term. Even after a downwards revision in the earnings estimates, the stock is trading at 11x its FY2014 and 10x its FY2015 earnings, while the earnings growth is likely to be flat to negative in the next two years. The stock is trading at 8x and 7x its enterprise value (EV) to EBITDA multiple, while the current uncertainties would remain for some time and continue to weigh on the stock price. Hence, we discontinue our coverage on the stock and recommend to book out.   Allahabad Bank Recommendation: Hold Price target: Rs85 Current market price: Rs70 Slippages remain high, price target revised to Rs85 Result highlights In Q1FY2014, Allahabad Bank reported a net profit of Rs413.1 crore, which was ahead of our estimate. The higher than estimated growth in the net interest income (NII) and robust treasury gains drove the overall growth in earnings. The NII growth was flattish (up 0.5% year on year [YoY]). On a sequential basis, the net interest margin (NIM) improved by 53 basis points to 2.83% mainly driven by a 54-basis-points quarter-on-quarter (Q-o-Q) jump in the yield on advances. The advances grew by 16.7% led by a 27.5% year-on-year (Y-o-Y) growth in the corporate advances and a 15.9% Y-o-Y growth in the retail advances. The current and savings account (CASA) ratio dipped to 29.6% due to outflow of the current account deposits. The non-interest income grew by 61.9% YoY (down 4.4% quarter on quarter [QoQ]) largely on account of treasury gains to the tune of Rs177.0 crore. The fee income grew by 12.6% YoY (4.7% QoQ).  The slippages continued to climb as the bank reported slippages of Rs1,694 crore mainly contributed by the steel, pharmaceutical, agriculture (agri) and textile sectors. The bank has restructured loans to the tune of Rs339 crore in Q1FY2014 and has a restructuring pipeline of loans worth Rs1,449 crore for Q2FY2014.  Valuation: Allahabad Bank's Q1FY2014 earnings were higher than our estimate largely on account treasury gains, which may not sustain. We have modelled further stress on asset quality and margin pressures in our estimate. The bank's return ratios (return on assets [RoA] of 0.6% and return on equity [RoE] of ~11%) are expected to be subdued leading to a lower valuation. We now value Allahabad Bank at 0.6x its FY2015 adjusted book value (instead of book value earlier) leading to a price target of Rs85 and retain our rating to Hold.   Click here to read report: Investor's Eye   Sharekhan Limited, its analyst or dependant(s) of the analyst might be holding or having a position in the companies mentioned in the article.

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