| MARKET OUTLOOK Scaling new heights
Policy activism and economic recovery to support the uptrend in markets It's only getting better: The easing of commodity prices and renewed policy activism by the Bharatiya Janata Party (BJP)-led government at the centre are only adding to an already favourable setting for the Indian equity market. The plummeting crude oil prices and soft coal prices are a godsend to an energy-starved country like India and have eased the concerns related to the curtailment of the country's current account deficit and inflationary pressure. Moreover, BJP's impressive performance in the recent state elections has increased the assertiveness of the central government to announce more reforms (like deregulation of diesel prices, changes in labour laws and gas price hike) which calls for celebrations in the equity market. Globally too, liquidity concerns easing out: In addition to the short-term impact of the geopolitical concerns related to the conflict in the Middle-East, the withdrawal of quantitative easing in the USA at a time of unexpected weakness in the economies of Europe and China has raised concerns related to the revival of the global economy and a possible tightening of global liquidity. However, the Japanese central bank has announced another stimulus package (in addition to the measures it has raised the annual asset purchases to JPY80 trillion from ~JPY50 trillion earlier). The European Central Bank is also expected to follow with its own stimulus programme to support the frail European economy. Corporate earnings recover but lag heightened expectations: The corporate earnings growth on a broader market basis (of BSE 100 companies) has been on expected lines. It has moved to double digits and is showing distinct signs of improvement. Growth is now getting more broad-based, with the export-based sectors, which were driving the earnings earlier (due to currency benefits), getting substituted by the domestic-demand based sectors whose contribution has gone up. The policy push coupled with a likely easing of interest rates could further aid an earnings expansion. However, the earnings growth could fall short of the Street's heightened expectations (at least in certain cyclical sectors where a swift recovery is expected by a section of the market). Going ahead, worsening of the global macros is the biggest risk to the potential surge in the earnings growth to a high double-digit level by the next fiscal, as has been built in the market expectations. So far so good; seasonally strong period to support uptrend: After a breather in October, the Indian stock market indices seem to have resumed their uptrend on the back of strong foreign fund inflows as well as inflows from the domestic institutions. We see little scope for the dampening of the sentiment with the market entering a seasonally strong period (a possible year-end rally cannot be ruled out) and the central government looks set to get the reforms ball rolling in the forthcoming winter session of the Parliament followed by the Union Budget for 2015-16 in February 2015. The valuations are also supportive with the Sensex trading at close to 16x one-year forward earnings, which is not expensive given the all-round positives for the Indian equity market. Risk to our call: Unexpectedly negative global cues (including the inability of western nations to control an outbreak of Ebola) seem to be one of the biggest risks to the continued uptrend in the Indian equity market.
STOCK UPDATE Greaves Cotton
Recommendation: Buy
Price target: Rs155
Current market price: Rs139 FY2016 financials to reflect hiving off of loss making units; maintain Buy Key points - After the dismal operating performance in the past four consecutive quarters, Greaves Cotton Ltd (GCL) is back on track again with OPM expansion of 150BPS YoY (due to lower contribution from loss-making construction division) and better operating leverage, which led to an 11.5% Y-o-Y growth in Q2FY2015 operating profit. The net profit after adjusting for an exceptional loss of Rs14.8 crore (Rs10.4 crore after tax) increased by 17.4% YoY to Rs37.7 crore during the quarter.
- The company reported a 16% volume growth in its core three-wheeler engine business during the quarter. The small commercial vehicle (SCV) business is expected to bottom-out in the coming quarters and we expect a revival in FY2016. Additionally, the company is in the process of expanding its engine range and offering solution for higher tonnage vehicles (upto 3mt). By Q4FY2015, the management expects a complete roll-out of its genset range (CPCB II compliant) and it hopes to expand the market share, given its technologically superior products.
- During the quarter the company took a strategic decision to exit the loss-making construction equipment division (~5-6% of revenues) and focus on the core engine business which augurs well for profitability, to be visible in FY2016. Additionally, the launch of innovative design engines and cost saving measures along with improving working capital cycle would bring more synergy to its overall financial performance. We have broadly maintained our earnings estimate for FY2015 and FY2016, and retain our Buy rating on the stock with a price target of Rs155 (18x FY2016 EPS).
V-Guard Industries
Recommendation: Buy
Price target: Rs1,000
Current market price: Rs913 Healthy Q2 performance; revised price target to Rs1,000 Key points - V-Guard Industries (V-Guard) reported a healthy earnings growth of 32% YoY in Q2FY2015, backed by 29% revenue growth, better than our estimate. A strong growth recorded in the digital UPS, electric water heater and stabiliser helped the company to achieve healthy revenue growth. Despite the gross margin expansion of 46BPS YoY, OPM expanded by 17BPS only at 8.3% due to one-off expenses (which includes warranty cost, related to change in after sales service model and new call center services) worth Rs4.5 crore in this quarter.
- The non-south market registered a robust growth of 47% YoY on a low base and the share of revenue from non-south market touched 33% in this quarter. On the flip side, there is a slight deterioration in the working capital as net working capital days stepped upto 81 days, from around 70/71 days in comparable quarters largely due to inventory pile up for winter and festive season ahead. Consequently, the cash generation has been squeezed during this quarter.
- The management of V-Guard retained its guidance (20% revenue growth and EBITDA margin of 8.5-9%) for the full year. We believe the inventory stock-up would be temporary in nature and the company could deliver healthy cash flow and returns ratio on full year basis. Hence, we retain our Buy recommendation on V-Guard with a revised price target of Rs1,000, 24x FY2017E earnings.
IRB Infrastructure Developers
Recommendation: Buy
Price target: Rs320
Current market price: Rs255 Robust BOT performance limits impact of monsoon-affected EPC segment Key points - For Q2FY2015 IRB Infrastructure Developers (IRB) reported a net profit growth of 14.0% on account of a strong performance by the BOT segment (revenues up 58% YoY, OPM up 299BPS). On the flip side, the construction business (revenues down 32% YoY), and higher interest expenses (after the commissioning of the Jaipur-Deoli project) and depreciation (amortisation of premium deferment of two projects) limited the net profit growth.
- The company's order book stands at Rs11,587 crore (including Rs5,500 crore of projects bagged recently) providing revenue visibility for the construction business over the next three to four years. Tariff revision in some projects from April 1, 2014 and September 1, 2014 along with an improvement in traffic is expected to drive the BOT revenues.
- IRB is well funded to meet the Rs3,400-crore equity requirement for the next four years from internal accruals. An improving macro environment (better visibility of the tendering business, potential easing of interest rates etc) and a potential upside from a better than expected growth in the traffic on the back of an economic revival are the key re-rating triggers for the stock. Thus, we continue to like IRB, though we have revised our operating estimate for FY2015 after factoring in the lower construction revenues and margin improvement due to a higher contribution from the BOT segment. We maintain our Buy rating on the stock with a price target of Rs320.
Thermax
Recommendation: Hold
Price target: Rs1,100
Current market price: Rs945 Strong earnings growth in Q2; price target revised to Rs1,100 Key points - Thermax (stand-alone) reported a very strong earnings growth of 37% YoY during Q2FY2015, backed by a healthy topline growth of 15% and margin expansion. The adjusted PAT was Rs86 crore for the quarter, much ahead of the Street and our estimate. We believe that with healthy revenue growth, the operating leverage kicked-in which translated into an operating profit margin expansion of 129BPS YoY to 10.3%. However, the performance of consolidated entity was affected due to an exceptional loss of Rs36 crore provided against the investment in Omnical Kessel (a loss making step-down subsidiary), which is now placed under the administrators (government authority). We believe, the exit of Omnical would improve the overall performance of Danstoker in future.
- The management sounded fairly positive and optimistic about the growth prospect, given the way domestic economy is shaping up, though it would take some time before the recently increased enquires get translated into orders. Also, they see a sustained demand for standard products which are mainly derived from consumer sectors. We believe the company is well positioned with expertise and capacities to capture opportunities, which would help in gaining significant operating leverage and propel earnings in the coming two to three years.
- We believe an improved earnings outlook would play as a key trigger for the stock, given the high-quality management and proven track record already backing this stock. In our view, the benefit from expected recovery in the domestic investment cycle would start reflecting in the next couple of quarters. In this note, we have fine-tuned our FY2016 estimates and introduced FY2017 estimate; therefore we roll-over our price-earnings multiple to FY2017 earnings and continue to recommend Hold on the stock with a revised price target of Rs1,100, based on 28x FY2017E earnings.
Jyothy Laboratories
Recommendation: Hold
Price target: Rs285
Current market price: Rs242 OPM affected by higher ad-spends, maintain Hold with a revised price target of Rs285 Key points - In Q2FY2015, Jyothy Laboratories Ltd (JLL)'s revenues grew by 16.2% YoY to Rs367.9 crore, driven by 9% volume-led growth and 7% price-led growth. The dishwashing segment continued to perform well for the company with 17% growth, while Margo soap registered a strong growth of 48% during the quarter. Recently relaunched Henko Stain Champion and Henko Matic registered a 39% growth each during the quarter. The key disappointment for the quarter was the single-digit growth in Maxo (mosquito repellant) affected by lower rainfalls.
- The gross margins were down by 100BPS due to higher input prices and change in sales mix. The advertisement spends has gone up by 49% (largely due to relaunch of Henko), which affected the OPM by 302BPS YoY to 9.1%. The management has indicated of achieving better gross margins in H2FY2015 due to drop in key input prices (including palm oil and packaging cost). The improvement in gross margins is likely to directly flow in the OPM, resulting in a better OPM in H2FY2015 in comparison with H1FY2015.
- We have revised downwards our earnings estimates by 5% each for FY2016 and FY2017 to factor in higher than earlier estimated advertisement spends. Also, we have model in marginally lower revenue growth in mosquito repellant segment.
- Since our recommendation of partial profit booking in the stock (on September 10, 2014), JLL's stock price has corrected by about 20%. The stock is currently trading at 21x its FY2016E EPS of Rs11.6. We maintain our Hold recommendation with a revised price target of Rs285 (valuing stock at 22x its FY2017E earnings).
Zydus Wellness
Recommendation: Hold
Price target: Rs665
Current market price: Rs616 Performance to improve in FY2016; upgraded to Hold with a revised price target of Rs665 Key points - Zydus Wellness posted a much better performance in comparison with some of the earlier quarters. The net revenues grew by ~6% to Rs102.8 crore as against the revenue decline of 6% in Q1FY2015 and ~3% in Q4FY2014. The single-digit revenue growth can be attributed to sustain double-digit growth in the Sugarfree brand. Nutralite brand grew in low single digit, while Everyuth continues to underperform for the company.
- The gross margins were maintained at 69.8% on a Y-o-Y basis and declined on a sequential basis due to change in the revenue mix. Nutralite's contribution to the overall revenues was higher on a sequential basis, which has lower gross margins in comparison with other brands. The scrubs category growth stood at 15%, where Zydus Wellness' Everyuth brand has a strong market positioning. The peel-off category growth rate stood at 6.7%. In face wash category, aggressive competitions from multinationals affected Everyuth's performance in the domestic market.
- The operating margins were lower by 107BPS YoY due to higher employee cost. The PAT growth stood at 8%, mainly on account of higher other income and lower incidence of tax.
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