Investor's Eye: Update - Lupin; Viewpoint - CCL Products

Investor's Eye [October 28, 2014]  Sharekhan www.sharekhan.com

Summary of Contents STOCK UPDATE     Lupin Recommendation: Buy Price target: Rs1,512 Current market price: Rs1,357   Base business remains firm; maintain Buy   Key points Lupin reported a strong set of numbers for Q2FY2015 as reflected in an 18.9% growth in the revenues, a 151-BPS expansion in the OPM and a 37.7% jump in the adjusted net profit. As the limited-period exclusivity on generic Cymbalta and Niaspan ceased to exist during the quarter, the growth reflects a strong traction in the base business. However, the growth in the bottom line was mainly boosted by a 580-BPS reduction in the effective tax rate for the quarter. In the absence of exclusivity products during the quarter, the US sales reduced by 21% QoQ. However, a recovery in the Indian formulation business (up 5% QoQ) and Europe (up 27% QoQ) helped partially mitigate the impact of the weaker sales in the US market and the overall sales declined by only 4% QoQ.  The management has maintained a guidance of a 27-28% OPM for FY2015 as compared with 29.6% in H1FY2015 (given a high base in Q1FY2015). It expects a better performance in H2FY2015. It has also maintained the long-term goal of earning revenues of $5 billion by FY2018.  We broadly maintain our estimates and Buy rating on the stock with a price target of Rs1,512 (20x FY2017E EPS).       VIEWPOINT       CCL Products Current market price: Rs126 View: Positive   Well placed to achieve strong growth    Key points  Largest instant coffee processor and exporter in India: CCL Products Ltd (CCL) is one of the largest instant coffee processors and suppliers to private labels/marketers in the international markets. It produces international quality soluble coffee, which is currently being exported to more than 60 countries globally (CCL has approximately a 10% market share in the instant coffee market). Instant coffee continues to gain good acceptance in the international markets (especially in the emerging markets where the segment is expected to grow at 15-20% in the years ahead). CCL has recently increased its capacity to close to 35,000 tonne (ie 10x the capacity it started with in 1995) and is well poised to grab a good share of the emerging markets on the back of a rising demand for instant coffee. New plant in Vietnam to improve operating efficiency and profitability: CCL has set up a 15,000-tonne instant coffee producing facility in Vietnam (the capacity can be further enhanced by 10,000 tonne), which is one of the largest coffee producers globally after Brazil. The higher production from the Vietnam facility would aid in improving the operating profit margin (OPM) of the consolidated entity (due to savings in logistic and raw material costs) and reducing the tax element (as the Vietnam facility is not liable to pay any tax for the next four years of operations). Also, the presence in Vietnam helps the company to cater to the coffee needs of the Association of South-east Asian Nations countries, as most of these countries have favourable trade relations with Vietnam and nil duty structures. This will help CCL to tap some of the prominent markets in South-East Asia.  Revenues and PAT to grow in strong double digits; OPM to improve gradually: With an increase in the capacity utilisation in the Vietnam facility, we expect CCL's revenues to grow at a compounded annual growth rate (CAGR) of 19% over FY2014-17. The operating efficiency gains from the Vietnam facility would help the OPM to improve gradually. Also, an increase in production from the Vietnam facility would reduce the tax outgo at the consolidated level, resulting in a net profit growth of 37% CAGR over FY2014-17. Low debts, strong return ratios: Despite being engaged in a commodity-linked business, CCL has appropriately managed its working capital requirement (has reduced the same from 168 days in FY2011 to 148 days in FY2014 at the consolidated level). This has aided the company to have a strong balance sheet with a debt/equity ratio of 0.7x and return ratios above 20% (unlike the other commodity-linked players such as Tata Global Beverages, which has return ratios below 10%). With the capacity utilisation at the Vietnam facility expected to reach 85% by FY2017, we might see further improvement in the working capital cycle of CCL. Also, with no major capital expenditure requirement in the near future, the consolidated debt on books is expected to reduce gradually and we can expect CCL to become a zero-debt company by FY2017. Better earnings visibility can accrue returns of 25%: With an enhanced production capacity, CCL is well poised to grab the growing opportunities in the global instant coffee market. A strong balance sheet and above 20% return ratios make it a better commodity player. The stock is currently trading at 12.6x the FY2016E earnings and the valuation is at a discount of 30% to the closest peer, Tata Global Beverages. In view of the near-term growth prospects and discounted valuation, we expect a 25% upside in the stock price from the current levels. Key risk to earnings estimate: With more than 90% of the company's revenues coming from exports of instant coffee, any significant change in the duty structure (in Vietnam or India) or substantial fluctuation in the key international currencies would act as a key risk to our earnings estimate.   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