Samvat 2075 has been a tough year for the equity markets, except when looked through the prism of headline index. So while large-cap index (Nifty) was up by 8%, mid-cap index was down by 10% and small-cap index was down by 14%, one of the most divergent years as far as performance differential between indices is concerned. Even the large cap index (Nifty) was marked by concentrated performance with top 10 performers accounting for majority of the gains. ILFS crisis in Sept 2018, the financial sector has continued to see huge stress across NBFCs and banking sector this created liquidity crunch as resulted in economic slowdown.
But last year had some positives as well on global front Us-China trade deal happened, BJP again came in power with huge majority, Better monsoon season which will improve corporate earnings, FM announced big bang fiscal stimulus which will improve economic conditions, Corporate tax cut from 30% to 22% will boost investment in manufacturing sector and India will become biggest manufacturing hub of south Asia, 5 consecutive rate cuts from RBI will impact positively in coming time and mainly Govt’s target of 5 trillion dollar economy by 2025 will aim a better economic environment in coming time. In Samvat 2076 we are entering into Bull Market which will be a mother of all bull market and Diwali is not just a festival it has a strong connection with market trends and according to me it is a start of major trend have coincided with this period no of times ex. in 2008 biggest bear market bottomed out just a day before Diwali.
Diwali Picks Samvat 2076:
Hindusthan Unilever: (CMP 2145, Target 2425)
HUL, has been gaining momentum in its home and personal care segment by driving premiumization and market development. In the homecare space the company recently launched ‘Love & Care’ fabric wash a more premium product focusing on silks, fine cottons and woolen fabrics. To pass on benefits of corporate tax cut, HUL undertook price cuts in soaps (Lux and Lifebuoy) that have received positive response from trade channel and will thus drive the company to regain its lost share. Further, due to GST rate cut, HUL is also likely to gain share in the dish wash segment from unorganized players thereby aiding growth for its core categories. After acquisition of Indulekha in FY17, HUL acquired Adityaa Milk (ice cream) for Rs. 83cr. GSK Consumer is to be integrated in FY20 which would raise presence in foods (malted foods) and could aid 5-7% accretion to earnings upon successful integration of the merger. Health Foods is a Rs. 7,700cr category in India with just 14% rural penetration. HUL has 3x direct distribution reach over GSK Consumer.
ICICI Bank: (CMP 469, Target 590)
We believe that strong and well-capitalized private banks like ICICI Bank have tailwind benefits of supportive structural drivers, helped by peaking of the elevated NPA recognition phase and an improving growth outlook. ICICI Bank is well-placed to benefit from the slew of stimulus measures announced by the government and the regulator of late. We expect the bank to see a reduction in effective tax rate (ETR) that will provide earnings upsides, which will further improve profitability.
We continue to view ICICI Bank as a potential re-rating candidate on the back of improving trend in its asset quality. ICICI Bank has got a strong liability franchise, where current and savings account (CASA) deposits constitute nearly half of overall deposits, which help the bank manage its cost of funds and in turn sustain its net interest margins.
Titan: (CMP 1335, Target 1750)
Titan, a TATA group company, is the largest jewellery retailer in India which operates under “Tanishq” brand. It also has a presence in watches and eyewear segment. About 90% of its business comes from the jewellery segment, with 80% of the jewellery business consisting of gold jewellery and remaining diamond jewellery. Over the years, Titan has established itself as one of the most trustworthy consumer brand in jewellery, watches and eyewear. Jewellery business is one of the most fragmented and unorganized sector in India (Only 20% is organized).Titan stands to be one of the biggest beneficiary of the shift in demand from unorganized to organized sector due to its reputed name in the industry. Growing urbanization and rise in disposable income is driving demand for discretionary spending. The shift in demand from unorganized sector is clearly visible since demonetization/GST in the quarterly results of organized jewellery players like Tanishq. Moreover with increasing urbanization and jewellery becoming a consumption item rather than investment, there is a preference for branded jewellery. Expect its earnings to grow at a CAGR of 22%-25% over FY19-22E. It remains our preferred pick in retail FMCG space.
Colgate: (CMP 1519, Target 1900)
Colgate Palmolive (India) [Colgate] is India’s largest-selling domestic toothpaste brand with an almost 50% market share. Recent actions taken by the company such as entry into the natural’s category, enhanced focus on the kids and freshness categories and differentiated campaigns for existing products would help it regain lost market share of 800 bps from some new entrants such as Patanjali. The above moves and renewed strategies under the leadership of new MD-Mr. Ram Raghavan would help boost volume growth to 5-7% in H2FY2020 from 3-4% currently. The reduction in effective tax rate to 25.2% from 33% earlier would result in an earnings accretion of ~11% per annum, which can be ploughed back into the company to improve market share and overall growth (coupled with strong dividend payout). We expect Colgate’s earnings to clock a CAGR of 16% over FY2019-21. Improvement in market share and volume growth trajectory will be key re-rating triggers for the stock.
Muthoot Finance: (CMP 662, Target 820)
Muthoot Finance Ltd (MFL) is India’s largest, niche gold finance company with an AUM of ~Rs 358bn in Jun-2019. Headquartered in Kochi (Kerala), the company majority is owned by the Muthoot family (73.5% stake as of Jun-2019). It currently has 4,502 branches and presence across 29 states/union territory in the country. However, its footprint is concentrated mostly in the South with ~60% branches. While loans are typically disbursed with tenure of 6-12 months, most of the loans are repaid within six months – implying average duration of close to six months for the loans. MFL is one of the stronger NBFCs and has remained relatively unscathed in the current times due to its short tenure loans, self-liquidating portfolio and gold backing. Its consolidated AUM has risen 15.5% in Q1FY20, interest spread is 11.7% and NIM is 13.5%. Over the last few years, MFL has diversified into home finance, micro finance, insurance broking and asset finance verticals. The share of non-gold business has increased from 5% in FY17 to 12% at the end of FY19. While home finance subsidiary is facing headwinds from slippages/write-offs, the micro finance subsidiary is performing well. MFL has always maintained a diversified source of funding and never relied heavily on any one particular source of borrowing. It is looking to increase borrowings through the NCD and ECB route as bank funding has become tight due to the liquidity crisis and the general fear against NBFCs. It proposes to raise $2 billion in foreign currency or rupee denominated bonds from foreign markets through medium term note program to fund its business growth. This will further bring down its interest costs and expand its NIM while increasing risk of forex volatility. Gold prices have risen in recent times and crossed the highs achieved in 2012. Rising gold prices benefit the company as it can lend more for the same grammage of gold. Also it increases the margin of safety on active loans disbursed in the past. The group is taking various marketing initiatives to create awareness and build trust. It has been associated with Mr Amitabh Bachchan, CSK cricket team, Jaipur Kabaddi team, Greater Kailash Metro Station branding in New Delhi, etc. These associations lead to higher visibility for the company pan-India. Slowdown in economy, fall in gold prices, unavailability of finance and possibility of higher NPAs in subsidiaries are key concerns.
HDFC Life: (CMP 610, Target 830)
HDFC Life, as a JV between HDFC Ltd and Standard Life Aberdeen is amongst the largest life insurer of India with major focus on protection business. It is backed by strong parentage, superior brand, trust and well-diversified distribution network. When compared to peers, HDFC Life has a well diversified book with ULIP constituting 55% of total APE, Par – 18%, Non-Par – 15%, Term – 7% and Annuity – 5%. Majority of competition has ~75%+ ULIP share. Under-penetrated Life Insurance market and Financialisation of economy would lead to increasing share of life insurance in the customer’s wallet share. HDFC Life is well-placed to grab this opportunity with strong distribution network including Bancassurance, Brokers, Agency and others. Although there is no longer exclusive tie-up with HDFC Bank, we believe, it will continue to remain major partner with its large retail presence. In addition, there has been increasing awareness of protection vs ULIP amongst customers in which HDFC Life holds dominant market position. The company is well-positioned to grow its APE, VNB and profitability on steady state basis. Market-leading digital capabilities and ability for innovative, customer oriented products like HDFC Sanchay, shall enable the company to maintain its leading position in life insurance market.
Reliance: (CMP 1431, Target 1720)
Reliance Industries (RIL) is a diversified company with business interests across oil refining, petrochemicals, retail and digital services. The core businesses of refining and petrochemicals accounted for ~69% of consolidated EBITDA in FY2019. Earnings outlook for the refining business has improved considerably given a recent sharp recovery in refining margins, which we expect to sustain, backed by strong diesel crack spreads supported by the implementation of revised International Maritime Organisation (IMO) regulations for marine fuels from January 2020. We also expect petrochemical EBIT margin to remain high given the feedstock advantage. Efforts to deleverage consolidated balance sheet through divestments, target to increase share of high-growth consumer centric business (retail and digital services) to 50% in coming years (from 32% in Q1FY2020) and likely higher dividends and periodic bonuses as the company nears its target of being a zero net debt company by March 2021 addresses key concerns, especially regarding high debt. Likely reduction in debt and value unlocking from
retail and digital services businesses would be key re-rating catalyst for RIL. RIL to form digital subsidiary with Rs 1.08 lakh crore investment; Jio to be net debt-free Reliance Industries’ new digital subsidiary will also acquire its equity investment of Rs 65,000 crore in Reliance Jio Infocomm. Jio will become india’s apple, as they will start manufacturing high end Tab , mobile soon , slowly will come out from traditional oil also as future moving to data and electric.
IGL: (CMP 377, Target 490)
Incorporated in 1998, IGL took over the City Gas Distribution (CGD) project from GAIL (India) Ltd. IGL is a JV between GAIL (India) and BPCL where each of the two holds 22.5%. The company is in to retail gas distribution business and provides CNG to vehicles and PNG to domestic and commercial consumers in Delhi and NCR.IGL’s sales momentum remains strong in Q1 FY20 where in revenues have increased by 22.4% YoY to Rs.1576.1 crore with underlying volume growth of 13.4% YoY to 6.3mmscmd. CNG volumes came in at 4.7mmscmd in Q1-FY2 (up13.7%YoY) where as PNG volumes have increased by 12.4% YoY to 1.6mmscmd. CNG is economical as compared to other liquid fossil fuels such as petrol/diesel. This would continue to push the conversion of vehicles to CNG mode. Government has envisaged providing 1Crore connections by 2020 and has set aggressive targets for providing PNG connections. Inline of the same, the Company has also set high targets for PNG domestic connections. The government of India is in the process of developing smart cities. These cities will have a strong infrastructure of clean and efficient fuel which would add to the growth prospects of the Company. There is a concern for increased population in the country. In order to curb the same, judiciary, central and state governments are giving boost to eco-friendly fuel i.e. CNG and PNG. We expect the volume growth momentum to continue for the company as the company plans to invest Rs.11.7bn on capex in FY20 mainly on CNG stations, PNG pipelines and development of city gas distribution networks in new geographic areas. Going forward, we believe given the company’s good pricing power, IGL will continue to pass on any upward revision in domestic gas prices, thus, maintaining margins. At CMP the stock is trading at 24.9x FY20E EPS and 21.9x FY21E EPS. We recommend BUY on the stock with a target price of 450/share.
Kotak Bank: (CMP 1588, Target 1850)
Kotak Mahindra Bank (KMB) is part of the larger Kotak Mahindra Group led by Mr. Uday Kotak, Founder and Managing Director of the Bank. The group has a strong presence across financial services value chain. The bank has pan-India presence with 1,503 branches and 2,394 ATMs as on June, 2019. NIMs of KMB are amongst the best in the industry and have been in the range of 4-4.6% over the last 3 years. In Q1FY20, margin expansion to ~4.5% (+19bps YoY) can be attributed to better pricing, faster growth in higher yielding segments and a cut in SA deposit rates. The management expects better pricing power in certain high yielding segments which will help in sustaining NIMs. KMB has maintained benign asset quality with limited exposure to stressed sectors and conservative lending practices. Further improvement in asset quality since FY18 was seen with G/NNPAs at 2.2/0.7% in Q1FY20 (Slippages 1.45% ann). PCR stood at ~67% which provides comfort. Growth opportunity for the bank looks better, as it is able to get the pricing that it wants. NBFCs, which were under-cutting on pricing or diluting underwriting norms, have receded from the market and KMB has tightened its underwriting in segments like tractors/MSME/etc, whereas other banks have been aggressive and now face stress. KMB is well positioned due to higher capitalization (Tier I – 17.3%), a strong liability franchise (CASA 51%) and benign asset quality, which would allow it to gain further market share. The performance of non-banking businesses (life insurance, AMC business) remains strong on growth & profitability. The bank has been trading at rich valuations consistently due to its superior return ratios with RoA of 1.7%. Promoter stake dilution could be an overhang. However, we reckon this will be a minor blip in an otherwise strong earnings trajectory. Based on SOTP valuations, we arrive at a target price of Rs 1850.
Asian Paints: (CMP 1796, Target 2000)
Asian Paints Ltd (APNT) is India’s largest (53% market share) and Asia’s 3rd largest Paint Company. APNT has 27 paint manufacturing plants servicing customers in over 65 countries globally. APNT also has a widespread distribution network with 65,000+ dealer touch points. Of FY19 revenues, Decorative Paints had 83% contribution, International (12%), Industrials (3%) and Home Improvement (2%). Per capita paint consumption in India stands at 4kg annually vs Global average of 13-15kg annually. Given the low penetration, there is immense scope for growth in the decorative paints segment. Further, significant reduction of repainting cycle to 3 – 4 years from earlier 7-8 years will further aid volume growth for companies like Asian Paint. We note that Indian Paint industry will continue to outperform the building materials segment which has been impacted by the severe slowdown in Real Estate sector. The relative insulation of Paints sector is owing to 1) huge scope to grow penetration deeper into Tier 2/3 towns as well as rural areas, 2) Paint universe of dealers is 1.5 lakh touch points and APNT has 65,000+ dealers that has consistently increased 10% on annual basis to dealer network), 3) buoyancy in re-painting demand forming ~85% of paint demand (fuelled by higher demand for rental homes). APNT added 2 new capacities at Vizag & Mysuru of 3 lakh KL/annum in FY19. Ramping up of utilization levels coupled with change in product mix will enable APNT to report +13% volumes growth in FY20. Further with benign RM environment, APNT is expected to report expansion in its operating profitability by 100bps over FY19-21E. With pricing premium between unorganized (30% of paint industry) and organized players has now narrowed to 10% from earlier 20-25% owing to GST tax rate cut to 18% from 28% previously. This has allowed branded paint companies like APNT to capitalize on the demand from both B2B (institutional) and B2C (retail household) segments caused by this transition in post GST period. We remain constructive on the Indian Paints industry with our backing for Asian Paints the leader, owing to shifting consumption patterns, faster growth in rural areas and satellite towns (Tier 2/3 towns and rural areas) as against urban metros, distribution expansion opportunity, pricing power, product portfolio straddling across price / value chain and product premiumization. At CMP, stock trades at 50.5x FY21E EPS.
HCL Tech: (CMP 1134, Target 1300)
HCL Technologies Limited is an Indian multinational information technology (IT) service and consulting company headquartered in Noida, Uttar Pradesh is a next-generation global technology company that helps enterprises reimaging their businesses for the digital age. HCL technology products, services and engineering are built on four decades of innovation, with a world-renowned management philosophy, a strong culture of invention and risk-taking, and a relentless focus on customer relationships. Strong deal wins along with healthy outlook for BFSI and IMS is expected to drive growth going forward. Receding headwinds in BFSI, sustained momentum in IMS and ramp up of deal provide revenue visibility. The company signed 17 transformational deals in Q4. Deal pipeline has improved QoQ which leads to better revenue momentum/visibility in FY20. Management’s guidance of 14-16% growth is in line with peers, while its organic growth at 7-9% is marginally higher than last year’s growth of 6.5%. We expect steady improvement of revenue growth due to (a) record deals over past few quarters TCV (USD 2-3bn/quarter), (b) broad-based growth across key service segments and (c) IMS segment regaining momentum with 21% y-o-y growth. HCL Tech has completed the acquisition of 7 products from IBM out of which 5 products were earlier under IP partnership and 2 products are new. Company has already paid $ 81 crs on June 30, 2019, and will likely pay $ 81.25 Crs after one year. The deal also has an earn out component of $ 15 crs to be paid in three installments. This partnership will lead to goodwill of $ 92 crs and intangible asset of $ 125 crs adding to amortization. IBM product portfolio has EBITDA margin of 50%+ with amortization of ~20%, yielding EBIT margin of ~30%. We expect improvement in margin trajectory from H2FY20 led by revenue contribution from IBM deal, which is a high-margin business, waning seasonality impact of Mode 3 business that has lower IP revenue in Q4 and stronger growth in Mode 2 driving operating leverage. HCL Tech announced 1:1 Bonus after declaring Q2 results.
BAJAJ AUTO: (CMP 3129, Target 3500)
Bajaj Auto is the second-largest motorcycle manufacturer in India and fourth largest three-wheeler and two-wheeler manufacturer in the world. It has a domestic motorcycle market share of ~19%. The company is the largest 3-W company in India with a commanding market share of 61%. Dominant market share of sport bikes ~47% and entry & mid-segment bikes ~31%. Company has adopted aggressive pricing strategy to grow its market share in tough times. The company has presence in over 79 countries and exports account for 41% of total volumes. Currently when domestic auto markets are passing through a slowdown, exports provide cushion to its revenues. It has a very strong balance sheet to support its plans for growth. It has a negative cash conversion cycle, high return ratios and “cash and equivalents” of nearly 20% of its market capitalization. The company has entered into a partnership with Triumph Motorcycles UK for developing an electric 3 wheeler. In addition, the company has developed Electrical Vehicle (EV) prototypes for two-wheelers “Chetak” which is about launch in January 2020. We believe that the automobile sector may see a gradual comeback, driven by (1) financial stimulus by government, and (2) good monsoon. Bajaj Auto, being the second-largest motorcycle manufacturer of India with robust financial and diversified product mix is trading at an attractive valuation. We estimate 7% revenue CAGR and 8% PAT CAGR over FY19-21E. We recommend Buy on Bajaj Auto at the LTP and add on dips to Rs 2810 for Target Price of Rs 3500 till next Diwali.
BATA INDIA: (CMP 1763, Target 2100)
Bata India (Bata) is India’s largest retailer and manufacturer of footwear, selling 47 million pairs of footwear every year. It has recently transformed itself into a modern and branded footwear player from a conventional footwear player, improved its existing store layouts and introduced premium products, which have helped the company increase footfalls in the last few quarters. Bata has posted resilient performance in a slowing discretionary environment and going ahead, we expect decent performance with 6-8% same store sales growth (SSSG) in the near term driven by premiumisation. Bata will benefit significantly from the reduction in the corporate tax rate to 25.2% (the company was earlier paying tax at ~33-34%), which would result in earnings accretion of ~12-13%. The company will utilize the incremental cash flows to enhance promotions and to meet its guidance of adding 80-100 stores every year. We expect the company to clock revenue CAGR of 13% and earnings CAGR of 23% over FY2019-21E.