Investor's Eye: Update - Hindustan Unilever, Persistent Systems, Glenmark Pharmaceuticals, Kewal Kiran Clothing, Bharat Electronics, Allahabad Bank; Viewpoint - V-Mart Retail

 

Investor's Eye [January 27, 2014]  Sharekhan www.sharekhan.com

Summary of Contents   STOCK UPDATE Hindustan Unilever Recommendation: Reduce Price target: Rs540 Current market price: Rs576 Volume growth tepid at 4%, margin concerns ahead Key points HUL's net sales grew by 9.4% (with a volume growth of 4.0% which came lower than tapered expectations) in Q3FY2014. The input cost inflation was judiciously managed, which led to a 114-basis-point improvement in the gross profit margin to 48%. Despite a 40-basis-point increase in advertisement spends as a percentage to sales, the OPM was up by 131 basis points to 14.8%. The reported PAT grew by 21.9% to Rs1,062.3 crore, which includes the exceptional gains of about Rs116 crore. Adjusting for the exceptional items the PAT grew by 8% to Rs946.5 crore.  The personal products segment surprised us positively with an over 12% revenue growth and the margin remaining stable on a Y-o-Y basis.  The macro environment remains tough and is reflected in the tapering of the volume growth despite the higher advertisement spends. On the margin front too, the gains are likely to reduce as the effect of the higher input prices starts kicking in. The rich valuations (30.7x FY2015E earnings which is close to 10% premium to its historic average multiples) in a tough business environment are unsustainable. Thus, we maintain our Reduce rating on the stock with a price target of Rs540.   Persistent Systems Recommendation: Buy Price target: Rs1,100 Current market price: Rs994 Impressive on most counts; margin performance surprises positively Key points PSL's Q3FY2014 revenues were at $69.9 million, a 2.2% sequential growth led by an impressive 3.8% Q-o-Q growth (a 3.4% volume growth and 0.4% realisation improvement) in the IT services, despite a seasonally weak quarter. Whereas, the intellectual properties (IP)-led revenues took a breather (down 4.9% QoQ) after delivering a robust growth in Q2FY2014.  EBITDA margin surprised us positively, improved by 170 basis points QoQ to 27.7% (the highest in the last seven preceding quarters). The margin improvement was attributed to the cost rationalisation of the SG&A space, down 10% QoQ and lower provision for doubtful debts which declined by 87.5% QoQ.  After delivering a 14.6% revenue growth in dollar terms in the nine months, PSL is comfortably set to end FY2014 with a 15% revenue growth (among the top quadrants in the IT sector). We continue to remain confident on PSL's earnings visibility and execution on the margin performance. We maintain our Buy rating on the stock with a price target of Rs1,100.   Glenmark Pharmaceuticals Recommendation: Buy Price target: Rs670 Current market price: Rs535 Upgraded to 'Buy' with price target of Rs670 Key points Glenmak Pharmaceuticals reported a 14.7% Y-o-Y rise in net sales to Rs1,601 crore in Q3FY2014. The core OPM expanded by 155 basis points YoY to 22.8%, which is healthy in our view. The core net profit grew by 21.6% YoY to Rs212.8 crore despite a higher effective tax rate.  The company surprised positively on its European operations wherein the generic business jumped by 72% YoY and the specialty business raked in a 45% Y-o-Y growth. The company also outperformed the Indian market by achieving a 15% growth (vs the industry growth of 5%) during the quarter. However, big markets like the USA, the RoW and Latin America witnessed a moderate growth despite currency benefits. The management has kept the annual guidance for FY2014 (ie a 20% growth in revenues and a 20-21% EBIDTA margin) intact. We revise our price target up by 12% to Rs670 on the roll-over of the valuation to the earnings estimate for FY2016. We also upgrade our recommendation on the stock to Buy from Hold.   Kewal Kiran Clothing Recommendation: Hold Price target: Rs1,277 Current market price: Rs1,111 Volume growth tapers off but still best among peers Key points In Q3FY2014 Kewal Kiran Clothing Ltd (KKCL)'s top line grew by 12.4% YoY, led by a 14% improvement in the blended realisation, while the overall volume declined by 1.7% YoY. An increased advertisement spending coupled with high other fixed expenses dragged the OPM down by 200 basis points, restricting the operating profit growth to merely 2.2% YoY. A lower operating profit and a lower other income resulted in an 11.5% Y-o-Y decline in the net earnings. Despite a weak Q3, we have only tweaked our FY2014 estimates (as the other income will be spilled over to Q4FY2014) and largely maintained our FY2015 estimates. We have also introduced our FY2016 estimates in this note. Our EPS estimates for FY2015 and FY2016 stand at Rs62.6 and Rs72.7 respectively. KKCL's brand equity strength, vigilant management, lean balance sheet and margin of safety in terms of cash and cash investments (of Rs180 crore, which constitutes 13-14% of its market capitalisation) continue to comfort us. Hence, we maintain our Hold rating on the stock with the price target of Rs1,277.   Bharat Electronics Recommendation: Hold Price target: Rs1,010 Current market price: Rs947 Execution remains key concern; downgraded to Hold Key points In Q3FY2014, Bharat Electronics Ltd (BEL) earned revenues of Rs1,201.4 crore, down 18%. The revenues declined largely on account of slower execution of projects (which remains the key concern for the company) in spite of a healthy order book. BEL added orders worth Rs926 crore during the quarter taking its total order book to Rs24,502 crore (close to four times its revenues). The OPM improved by 390 basis points YoY to 14.8% despite the slower execution on account of a favourable currency and better product mix (higher sales from the defence segment). However, we are concerned about the poor execution rate and rising working capital requirements that are leading to lower cash on the books (and consequently a lower other income). We understand that most of the large orders have a long lead time and the bulk of the revenue booking will materialise in FY2016 which will keep the revenue booking poor in the next few quarters. Add to this the recent deterioration in the working capital cycle and we see a rising scope for de-rating of the valuation multiples. Consequently we downgrade BEL to Hold with a revised price target of Rs1,010.    Allahabad Bank Recommendation: Hold Price target: Rs98 Current market price: Rs80 Asset quality pressure remains, maintain Hold Key points The sluggish growth in the net interest income was contributed by a slower advances growth and YoY decline in NIMs (2.75% in Q3FY2014). The higher provisioning on account of the rising NPAs continues to impact the profitability (up 4.7% YoY to Rs325.4 crore). Asset quality deteriorated in Q3FY2014; the outlook for the asset quality remains weak due to a significant restructuring pipeline (Rs2,460 crore) and rising slippages. The provision coverage declined sequentially to 42.9% in Q3FY2014 vs 46% in Q2FY2014 . The current valuation of 0.6x on FY2015 adjusted book value is inexpensive. However, the subpar RoAs, weak capitalisation and continued stress on the asset quality remain the key concerns which could limit an upside. We maintain our Hold rating with a revised price target of Rs98.    VIEWPOINT V-Mart Retail A differentiated model with focus on hinterlands Key points  V-Mart is a retail player focused on tier-1, 2 and 3 cities with its high street value retailing format. Currently, it has 90 stores spread across 67 cities and 12 states with an aggegrate 7.2 lakh square feet of retail space. The company has been focusing on the fashion component-apparel (that earns a higher margin), and hence has seen its apparel revenues mix reach 90% in Q3FY2014 as against 70% in Q3FY2013 In early 2012, the company went public and garnered Rs90 crore for its store expansion (opening 25 stores annually). In line with its target for the nine-month period it has opened 21 stores in the eastern and northern belts and further expects to open another four stores by March 2014 end. For Q3FY2014, despite pressure on the discretionary consumption category, the company managed to grow its revenues by 63% YoY; on the back of a 12% same-store sales growth and the opening of 21 new stores. For 9MFY2014, the revenues and earnings have grown by 51% and 43% respectively. View-ahead of industry growth but on lower base; valuations at a steep discount to larger players: A value retail proposition built around fashion coupled with controlled cost and a stiff eye on inventory control, we believe that the business has a potential to deliver if the consistency and control continues. On a rough cut basis, we expect V-Mart to post Rs26-27 crore earnings in FY2014, which at the current price translates into 18x its PER. At 18x its current PER, V-Mart is trading at a steep discount to national retailers like Shoppers Stop and Trent which are trading at over 30x their one-year forward earnings. Hence, it would be interesting to keep a watch on this new player.  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.

Regards, The Sharekhan Research Team

 

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