Investor's Eye: Update - GlaxoSmithKline Consumer Healthcare, Bharat Heavy Electricals; Switch Ideas - Agri-inputs; Viewpoint - Tech Mahindra, Power Finance Corporation, Ranbaxy Laboratories

 

Investor's Eye [February 05, 2014]  Sharekhan www.sharekhan.com

Summary of Contents  STOCK UPDATE GlaxoSmithKline Consumer Healthcare Recommendation: Hold Price target: Rs4,600 Current market price: Rs4,356 Double-digit volume growth sustained, premium valuation restricts upside  Key points GSK posted an industry leading performance, driven by a healthy 13% growth in the volume sales when most of the other FMCG companies are reporting a considerable moderation in the demand due to the tough macro economic conditions. The double-digit volume growth in Q4CY2013 follows an equally healthy volume sales growth of 12% in Q3CY2013.  Along with a healthy revenue growth, the company has managed its profitability quite well. The stringent cost cutting initiatives negated the impact of the inflation in the raw material prices; the OPM sustained at 7%, in line with Q4 of last year (a seasonally weak quarter for the margin). We believe that GSK's strong presence in the malted food drinks with a portfolio of strong brands and a focus on introducing new variants (on a regular interval), along with an improvement in the distribution reach (especially in rural India) would help the company to maintain the volume growth in the range of 9-11% in the coming years.  We have broadly maintained our earnings estimates for FY2014 and FY2015. We expect GSK's revenues and earnings to grow at a CAGR of 15% and 16% respectively over FY2014-16. Despite a better earnings visibility and a strong balance sheet (one of the cherry dividend payer), the current valuations of 28.8x its FY2015E earnings does not provide much room to enter into the stock. Hence, we maintain our Hold recommendation with a revised price target of Rs4,600 (26x its FY2016E earnings).   Bharat Heavy Electricals Recommendation: Hold Price target: Rs180 Current market price: Rs161 Price target revised to Rs180; retain Hold  Key points Q3FY2014 results were weak but marginally ahead of the Street's expectations. Importantly, we do not expect any downgrade in our earnings estimate for BHEL after the results, unlike the steep downgrades in the past few quarters, given the order inflow outlook of the company and the efforts to contain the cost and working capital. However, the macro economic situation and the scenario in the power sector are still not supportive for any material improvement in the immediate term.  The net sales declined by 16% YoY and 4% QoQ to Rs8,462 crore in Q3FY2014. The OPM was 9.6% (lower by 489BPS YoY but higher by 682BPS QoQ). The adjusted PAT was reported at Rs695 crore, 41% lower YoY and almost doubled sequentially.  We have fine tuned our FY2014 and FY2015 estimates and introduced our FY2016 estimate in this note; we see that after three years of decline, the earnings could improve in FY2016. We have rolled over our multiple to FY2016 and raised its price target to Rs180, but retain our Hold rating.  SWITCH IDEAS Agri-inputs Current market price: Tata Chemicals, Rs254; UPL, Rs190 Switch from Tata Chemicals to UPL  Key points Tata Chemicals (book out)-expected performance to remain weak in the immediate future Tata Chemicals has reported yet another quarter of weak performance. Though the US and Indian operations were stable, but the restructuring in Europe and the continued issues in Kenya dented the performance this time. Consequently, the adjusted profit after tax declined by 29% during the third quarter of FY2014. The company's diverse presence in numerous geographies has turned out to be a bane rather than a boon, resulting in an inconsistent performance track record. The overall performance gets overshadowed by issues in some geography or the other, eg a few quarters ago it faced production issues in IMACID (a joint venture company).  The situation is not likely to change in the near term. That is because a further restructuring in Europe (the management hinted that an additional write-off of close to 7 million euros in the European plant restructuring) followed by a similar exercise in Kenya (the high cost of power and royalty payment issues) is expected to impact its financial performance in the next couple of quarters. In India also, the agri-inputs business is facing issues in terms of the subsidy payments, which is not likely to get resolved soon. The demand environment for its key product, soda ash, is also not supportive. The soda ash business is continuously facing a pricing pressure on the back of a muted demand and the overcapacities in China. Tata Chemicals also had to shut down 50% of its capacities in Europe due to a lack of demand.  Tata Chemical fully priced; switch to UPL: Though the recent initiatives taken to turn Europe and Africa profitable are a step in the right direction, the benefits would reflect only with a lag of three to four quarters. Given the commoditised nature of the business and inconsistent track record, we believe that the stock is fully valued at close to 9.5x FY2015 estimate and enterprise value (EV)/EBITDA of 5.2x FY2015 estimate. Especially, considering the fact that the financial performance would remain subpar in the immediate future. We suggest switching to UPL which has shown a strong performance, the management's confidence (two buybacks in past three years) and has a relatively better growth outlook. Please refer to our recent update on UPL (CMP: Rs190, price target: Rs238; upside: 25%).   VIEWPOINT Tech Mahindra Earnings momentum intact; retain positive bias Key points Tech Mahindra reported an industry leading revenue growth rate of 4.4% QoQ for second quarter in a row at $791 million in Q3FY2014. The volume growth came in at 3.4% QoQ (which is at the top of its comparable peers). It won 11 large deals during the quarter with a TCV of $220 million (all incremental wins).  For the quarter, the OPM remained broadly stable at 23.2% despite higher project transition cost for the quarter and an onsite shift. The operating metrics performance remains impressive, with a 11.5% Q-o-Q growth in the North Americas, a 7.3% Q-o-Q growth in the top five clients and a decent growth in the key industry verticals.  The company sees FY2015 to be a better year as compared with FY2014. The management's view is well supported by a healthy deal pipeline ($720 million TCV) and headcount additions (2,165 net additions). Valuation: Our prognosis of a step-up in the consensus earnings upgrades and a re-rating for Tech Mahindra is playing out well, in the last six months the consensus earnings upgrades for FY2015 has seen an over 20% upward revision. The upgrades and re-rating was driven by an improvement in the company's delivery execution and aptly supported by an improved demand environment. At the CMP of Rs1,838, the stock trades at 12x and 10.6x FY2015 and FY2016 consensus earnings estimates respectively; at around 15% discount to HCL Technologies (largely due to an upgrade in the estimates of Tech Mahindra). We maintain our positive bias on Tech Mahindra and expect the stock to see a further upside in next 12 months, and could trade up to Rs2,200-2,250 levels at 13x FY2016 earnings estimate (a 10% discount to our HCL Technologies target multiple of 14.5x). Key risks: a pertinent slowdown in the telecom vertical; a negative implication of the proposed immigration bill in the USA.   Power Finance Corporation Strong earnings growth, weakness in the power sector remains an overhang Key points PFC continued to report a strong growth in profits (up 37.3% YoY to Rs1,534 crore), driven by a strong growth in the net interest income (up 29% YoY) and lower foreign exchange losses. The net interest margins moderated a bit on a Q-o-Q basis but remained at elevated levels (4.93% in Q3FY2014). Overall, the loan growth was healthy (up 19.7% YoY), even though it was slower than the past few quarters. The asset quality was largely stable on a Q-o-Q basis and the restructured loans were 0.1% of the loans. The rescheduled loans (extension of DCCO) increased to 0.65% of the advances. Going ahead, the provisions may rise (partly due to an increase in the NPAs and the restructured loans), but a strong earnings will adequately cover for it. The imminent concerns relating to the power sector (the weak financial position of state discoms, fuel supply and the politics of a reduction in the power tariffs) has impacted the outlook on the stock which trades at 0.7x FY2015 book value; since the company has a large exposure to the state electricity boards (SEBs) and the power generation segment. In addition to its financial performance, the re-rating of the stock is directly linked to the developments in the power sector (any improvement in the health of the SEBs and/or the power generation business are key triggers).    Ranbaxy Laboratories Q4 results a breather  Key points Healthy growth in the base business: Ranbaxy Laboratories (Ranbaxy) reported a remarkable improvement in the base business in Q4CY2013, with the net sales growing by 10% (excluding an impact of the one-off revenues in Q4CY2012) and the operating profit margin (OPM) expanding to 8.2% as compared with a negligible (0.5%) OPM in Q4CY2012. The growth during this quarter was driven by the North American (5% at constant-currency terms) and Indian businesses (8%). However, the other markets witnessed a decline during the quarter.  Provisioning for inventory write-offs impacts bottom line: The company provided for Rs257.4 crore towards the inventory write-offs (mostly related to some first to file [FTF[ foregone by the company), which impacted the bottom line to report a net loss of Rs159.3 crore during the quarter. However, after adjusting for the exceptional items and the net foreign exchange (forex) gains of Rs103.6 crore (against forex loss of Rs180 crore), the adjusted net loss stood at Rs5.5 crore as compared with a net loss of R126.6 crore in Q4CY2012. 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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