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STRATEGY NOTE
India | Equity Strategy
India 19 May 2014
India Equity StrategyWhat Next? Growth Reset
EQU
ITY STRATEG
Y IND
IA
Govindarajan Chellappa *Equity Analyst
+91 22 4224 6111 [email protected] Nahar *
Equity Analyst+91 22 4224 6113 [email protected]
Nilesh Jasani §Equity Analyst
+65 6551 3962 [email protected] Agarwal, CFA *
Equity Analyst+91 22 4224 6112 [email protected]
Arya Sen *Equity Analyst
+91 22 4224 6122 [email protected] Goyal, CFA §
Equity Analyst+65 6551 3965 [email protected]
Lavina Quadros *Equity Analyst
+91 22 4224 6116 [email protected] Karfa *
Equity Analyst+91 22 4224 6118 [email protected]
Rajasa Kakulavarapu *Equity Analyst
+91 22 4224 6115 [email protected] Fitkariwala *
Equity Associate+91 22 4224 6125 [email protected]
Swagato Sourya Ghosh *Equity Associate
+91 22 4224 6114 [email protected]
* Jefferies India Private Limited § Jefferies Singapore Limited
MCI (P) 035/07/2013
Key Takeaway
The surprisingly clear and overwhelming mandate for BJP and its alternatevision of economic policies throws up a unique opportunity to enforce amuch needed mend to the pattern of economic growth. We expect the newgovernment to focus on fiscal consolidation through subsidy control and enablecapital formation through proactive administration and policy changes. Weexpect markets to yield c15% returns over the next one year led by domesticcyclical sectors.
Change in growth pattern inevitable: The turn in India’s growth pattern post-GFC,partly due to global factors and mostly due to domestic policy matters, resulted in aconsumption boom and deceleration in capacity formation, especially in infrastructure.This resulted in elevated fiscal imbalance, deterioration of an even otherwise weak externalbalance and persistent inflation. A change in growth pattern through slower consumption,especially government consumption and higher investments in infrastructure, is aprecondition for any sustainable acceleration in growth. The extraordinary mandate in thefavour of BJP/NDA eases the path to reforms in a manner unprecedented in recent history.BJP has a majority of its own in the Lower House of Parliament and with allies, has enoughnumbers to not heed to the vested interests in its own formation. While the NDA lacksthe numbers in the Upper House, it has a majority of the combined houses, which wouldmatter if certain legislation are rejected by the Upper House. As such, the political mandateis overwhelming.
How soon and quick can the recovery be? We expect “data holiday” to give rise toa spectacular statistical acceleration in the fast moving economic indicators like industrialproduction around the year-end aided by the current low base. Beyond the statisticalrecovery, improvement in business sentiment, heightened policy activity, a reactivatedgovernment and administrative machinery and the ongoing liquidity inflows should providea major cyclical fillip too to the economy even as the central bank stays stagnant on policyrates. We consequently make numerous changes to our estimates, target prices and ratings.We have raised FY16E estimates for over 27 companies, mostly in the domestic cyclicals, by1-101%. We have also upgraded four companies, again mostly in cyclicals, and downgradedone company.
Domestic cyclicals is the place to be in: Bottom-up fundamental analysts always findit difficult to forecast extent of turns in the economy and as such current forecasts two-years out are relatively irrelevant in times like these. A look at historical forecasts suggeststhat at points of recovery, analysts tend to underestimate one-year forward earnings aswell as growth in the second year. We believe returns in most stocks will be a function ofacceleration in earnings momentum beyond current forecasts rather than valuations basedon current forecasts. A look at ownership levels, valuations and forecasts relative to historywould suggest the maximum upside would possibly be in financials, especially in publicsector banks and industrials. These are our preferred investments now, with L&T, Axis Bank,BOB, ICICI Bank and NTPC being our top picks. While we are underweight consumptionat this juncture, we like Maruti for a cyclical recovery and like only ITC from the defensivesectors. We like ONGC as a play on subsidy reforms, Reliance for bottom-up cyclical recoveryand Tata Steel for increasing asset utilisation.
Jefferies does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that Jefferies may have aconflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investmentdecision. Please see analyst certifications, important disclosure information, and information regarding the status of non-US analysts on pages 125 to130 of this report.
Key Charts
Exhibit 1: Growth pattern pre and post GFC
Source: MOSPI
Exhibit 2: Share of consumer staples and industrials in Nifty
market cap
Source: Bloomberg
Exhibit 3: Fund raising could increase to deleverage…
Source: CMIE, Bloomberg, Jefferies estimates
Exhibit 4: …as leverage for corporate sector has increased
Source: CMIE, Bloomberg, Jefferies estimates
Exhibit 5: T+2 earnings could see significant upgrades in
case of a recovery
Source: Factset, Jefferies estimates
Exhibit 6: India PE valuations are at historical average
Source: Factset, Jefferies
0
2
4
6
8
10
12
14
16
18
Private consumption Government
consumption
GFCF
Growth CAGR (%)
FY03-08 FY08-13
0
2
4
6
8
10
12
Staples Industrials
0.0
0.5
1.0
1.5
2.0
2.5
3.0
FY01FY02FY03FY04FY05FY06FY07FY08FY09FY10FY11FY12FY13FY14
Domestic Equity Raising as % of total Market Cap
1.0
1.1
1.2
1.3
1.4
1.5
1.6
FY97 FY99 FY01 FY03 FY05 FY07 FY09 FY11 FY13
Leverage (CE/Networth)
(40)
(30)
(20)
(10)
0
10
20
30
40
2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013
MSCI India
FY1 Change in 1YR FY2 Change in 2YR
5
7
9
11
13
15
17
19
21
23
25
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
India 12M Fwd PE Avg.
Equity Strategy
India
19 May 2014
page 2 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Top picks
Exhibit 7: OW Financials, Industrials; UW Staples & IT
Sectors Stance Top stocks
Financials OW OW Axis Bank, ICICI Bank, SBI, Bank of Baroda
Industrials OW OW L&T, Cummins
Consumer Discretionary MW OW Maruti Suzuki
Energy MW OW Reliance, ONGC
Materials MW OW Tata Steel
Utilities MW OW Tata Power, NTPC
Healthcare MW OW Sun Pharma
Information Technology UW OW TCS
Consumer Staples UW
Telecom MW
Source: Jefferies
Exhibit 8: Top picks
P/E P/B
Company Name BB Code Rating Target Price
(Rs)
Price
(Rs)
FY15E FY16E FY14E FY15E
Axis Bank AXSB IN Buy 2,180 1,755 11.3 8.7 2.3 2.0
Bank of Baroda BOB IN Buy 1,140 934 7.6 5.7 1.3 1.1
ICICI Bank ICICIBC IN Buy 1,720 1,465 14.7 11.8 2.5 2.2
ITC ITC IN Buy 411 356 28.3 24.5 10.5 9.9
Larsen & Turbo LT IN Buy 1,640 1,426 18.8 16.4 2.8 2.6
Maruti Suzuki MSIL IN Buy 2,501 2,158 19.0 15.4 3.1 2.7
NTPC NTPC IN Buy 150 132 12.0 11.2 1.3 1.2
ONGC ONGC IN Buy 440 383 10.2 9.6 2.2 2.0
Reliance RIL IN Buy 1,236 1,075 13.6 13.7 1.9 1.8
Tata Steel TATA IN Buy 540 440 9.2 7.9 1.2 1.1
Source: Company Data, Jefferies estimates, closing prices as of 16 May 2014
Equity Strategy
India
19 May 2014
page 3 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Table of Contents KEY CHARTS ................................................................................................................................ 2 TOP PICKS ................................................................................................................................... 3 TABLE OF CONTENTS ................................................................................................................... 4 CLEAR, UNAMBIGUOUS MANDATE .............................................................................................. 6
A mandate for an alternate economic vision ................................................................................ 6 The solution lies in government policies, partially ........................................................................ 9
IT’S A T+2 MARKET .................................................................................................................... 12 WHAT’S IN THE PRICE? .............................................................................................................. 14 TOP-DOWN VIEW ...................................................................................................................... 16
Financials .................................................................................................................................... 17 Industrials ................................................................................................................................... 19 Consumer Discretionary ............................................................................................................. 21 Energy ......................................................................................................................................... 23 Materials ..................................................................................................................................... 25 Utilities ....................................................................................................................................... 27 Healthcare .................................................................................................................................. 29 Information Technology ............................................................................................................. 31 Consumer Staples ....................................................................................................................... 33 Telecommunication Services ...................................................................................................... 35
BOTTOM-UP VIEW .................................................................................................................... 37 Financials – Go Long on Cycle and Governance .......................................................................... 38 Industrials – From Announcements to Orders to Execution… .................................................... 48 Autos – Poised for recovery ........................................................................................................ 55 Energy: Reforms to Continue, Faster Decision-Making in E&P ................................................... 60 Metals & Mining - Well Leveraged to a Macro Recovery ............................................................ 63 Steel – domestic demand boost .............................................................................................. 64 Mining – will the supply-side issues be addressed? ................................................................ 66 Cement Sector: Demand Outlook Improves ............................................................................... 72 Pharma – Prefer India Focus Over US ......................................................................................... 80 Consumer Sector – Trend Reversal ............................................................................................. 83 Real Estate – Sentiment Change Round the Corner but Issues Persist ....................................... 90
TOP PICKS ................................................................................................................................. 94 Axis Bank (AXSB IN, Buy) – Positive on Cyclical Recovery ........................................................... 95 Bank of Baroda (BOB IN, Buy) – Best within SOEs, governance change is positive ..................... 99 ICICI Bank (ICICIBC IN, Buy) – Positive on cyclical recovery ...................................................... 103 ITC (ITC IN, Buy) ........................................................................................................................ 107 L&T (LT IN, Buy): Still some way to go… .................................................................................... 110 Maruti Suzuki (MSIL IN, Buy) .................................................................................................... 113 NTPC (NTPC IN, Buy): PLF recovery buffer left in estimates… ................................................... 117 ONGC (ONGC IN, Buy) – Biggest Beneficiary of Reforms .......................................................... 120 Reliance (RIL IN, Buy) – Core Businesses Turning Around ........................................................ 121 Tata Steel Ltd. (TATA IN , Buy) .................................................................................................. 122
Equity Strategy
India
19 May 2014
page 4 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 1: Ratings/Target Price/Earnings changes in our coverage
Ticker Rating Target Price FY15E EPS FY16E EPS
Company Old New Old New Old New Old New
ONGC ONGC IN BUY BUY 355.0 440.0 37.3 37.6 39.5 40.0
Oil India Limited OINL IN BUY BUY 580.0 670.0 64.4 64.4 70.5 70.5
Bharat Petroleum Corporation Limited BPCL IN HOLD HOLD 400.0 560.0 25.2 45.9 n/a 46.0
Reliance Industries RIL IN BUY BUY 1,124.0 1,236.0 79.1 79.1 78.2 78.2
GAIL GAIL IN BUY HOLD 388.0 410.0 38.6 38.6 41.0 41.0
Indraprastha Gas Ltd. IGL IN BUY BUY 333.0 371.0 31.7 31.7 36.5 36.5
Coal India Limited COAL IN HOLD HOLD 281.0 305.0 27.7 26.7 30.4 28.1
JSW Steel Limited JSTL IN BUY BUY 1,168.0 1,406.0 92.2 95.8 123.0 127.2
India Cements ICEM IN HOLD HOLD 56.0 76.0 3.8 4.5 7.5 9.8
NMDC Ltd NMDC IN BUY BUY 149.0 178.0 16.8 16.8 17.0 17.6
Steel Authority of India Ltd. SAIL IN UNPF UNPF 54.0 63.0 5.7 4.5 6.2 5.4
NTPC NTPC IN BUY BUY 140.0 150.0 11.5 11.0 12.3 11.8
Larsen & Toubro LT IN BUY BUY 1,415.0 1,640.0 52.4 52.4 57.2 59.9
Bharat Heavy Electricals Limited BHEL IN UNPF UNPF 160.0 185.0 9.7 9.7 8.8 8.8
Power Grid Corporation of India Limited PWGR IN BUY BUY 135.0 150.0 9.9 9.9 11.5 11.5
Tata Power TPWR IN BUY BUY 100.0 105.0 7.0 6.1 7.6 6.7
Adani Ports and Special Economic Zone ADSEZ IN UNPF UNPF 160.0 180.0 9.8 10.3 10.4 11.1
Siemens Limited SIEM IN HOLD HOLD 610.0 730.0 12.0 12.0 13.3 14.1
ABB Limited ABB IN UNPF UNPF 570.0 650.0 10.3 10.3 13.1 15.3
Cummins India Limited KKC IN BUY BUY 620.0 670.0 24.0 22.7 26.3 26.5
Crompton Greaves Limited CRG IN UNPF UNPF 100.0 130.0 7.4 7.4 9.1 10.0
Thermax Limited TMX IN UNPF UNPF 510.0 650.0 29.7 29.7 31.9 36.1
Voltas Limited VOLT IN UNPF UNPF 100.0 140.0 7.5 7.5 8.3 9.3
Sun Pharmaceutical Industries Ltd SUNP IN BUY BUY 710.0 715.0 29.2 28.0 32.2 33.5
Cipla CIPLA IN BUY BUY 480.0 475.0 22.8 21.4 28.1 26.6
Ranbaxy Laboratories Ltd. RBXY IN BUY BUY 568.0 572.0 32.9 28.9 30.4 27.1
Dr. Reddy's Laboratories DRRD IN HOLD HOLD 2,500.0 2,550.0 132.4 132.4 147.4 147.9
Lupin Ltd. LPC IN HOLD HOLD 910.0 880.0 45.4 42.7 51.7 48.0
Titan Company TTAN IN BUY BUY 257.0 355.0 9.3 9.9 11.7 12.7
TTK Prestige TTKPT IN UNPF HOLD 2,991.0 3,393.0 120.0 111.0 150.0 138.0
Jubilant Foodworks JUBI IN HOLD HOLD 1,035.0 1,202.0 30.3 28.6 40.6 38.7
ITC Limited ITC IN BUY BUY 393.0 411.0 12.6 14.5 12.6 14.5
Tata Motors TTMT IN HOLD HOLD 392.0 415.0 49.7 52.0 52.2 53.4
Maruti Suzuki India Limited MSIL IN BUY BUY 2,282.0 2,501.0 113.7 113.7 134.2 140.1
Mahindra & Mahindra Limited MM IN UNPF BUY 804.0 1,296.0 59.5 62.6 66.1 76.8
Hero MotoCorp HMCL IN BUY BUY 2,354.0 2,738.0 143.2 141.4 169.8 169.6
Bajaj Auto Limited BJAUT IN HOLD HOLD 2,322.0 2,178.0 136.0 118.9 148.3 130.3
Ashok Leyland AL IN HOLD HOLD 19.0 25.5 -0.1 -0.4 0.5 1.1
Bharat Forge BHFC IN HOLD HOLD 287.0 428.0 19.1 19.5 23.7 27.2
DLF Limited DLFU IN UNPF UNPF 125.0 140.0 7.0 7.0 10.0 10.0
Godrej Properties Limited GPL IN HOLD HOLD 181.0 207.0 16.0 16.0 20.0 20.0
Prestige Estates Projects Limited PEPL IN BUY BUY 199.0 217.0 10.0 10.0 14.0 14.0
Sobha Developers Limited SOBHA IN BUY BUY 372.0 485.0 24.0 24.0 32.0 32.0
Axis Bank AXSB IN BUY BUY 1,800.0 2,180.0 152.9 154.8 198.7 201.8
Bank of Baroda BOB IN BUY BUY 1,080.0 1,140.0 122.2 122.2 162.6 162.6
ICICI Bank ICICIBC IN BUY BUY 1,470.0 1,720.0 99.9 99.9 123.9 124.2
Indus Ind Bank IIB IN BUY BUY 615.0 680.0 34.5 34.5 44.7 44.7
Kotak Mahindra Bank KMB IN HOLD HOLD 800.0 910.0 39.9 40.1 53.6 54.0
HDFC Bank HDFCB IN BUY BUY 870.0 960.0 45.9 45.9 57.2 57.2
Punjab National Bank PNB IN UNPF HOLD 690.0 865.0 130.2 127.8 154.7 170.9
State Bank of India SBIN IN UNPF BUY 1,325.0 2,875.0 161.8 162.8 243.4 274.0
Housing Development Finance Corp HDFC IN HOLD HOLD 910.0 935.0 39.7 40.1 48.0 48.6
Source: Jefferies estimates, Company Data
Equity Strategy
India
19 May 2014
page 5 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Clear, unambiguous mandate The final numbers of the 2014 Lok Sabha (Lower House) are out and this is what they
signify:
BJP has a majority of its own in the Lower House (winning 282 out of 543 seats).
The ability of allies to arm-twist the government is therefore limited. This has
been a commonly stated excuse for policy mishaps in the recent past.
The NDA has won 335 seats. The ability of the alternate power centres within
the BJP to arm twist the prime minister is limited. This has been an unstated
reason for policy paralysis in the previous governments.
The NDA has 62/250 seats in the Upper House (Rajya Sabha). Every legislative
bill will have to be passed by both the houses. However, in case of a conflict:
In case of finance bills, Lower House’s view prevails.
In case of legislative changes, there is a joint sitting of both the houses.
The NDA has over 50% of the combined seats.
The lack of majority in the upper house is seen as a risk to policy-making, but
that clearly isn’t relevant any longer.
Suffice it to say that except in case of occasional constitutional amendments, that require
two-thirds majority of parliament, the NDA has the numbers to pursue its agenda.
A mandate for an alternate economic vision The poll promise of the BJP, as stated in its manifesto and through speeches, is in marked
contrast to the policies and electoral pitch of the outgoing UPA. The BJP, in short,
promises to drastically improve provision of basic infrastructure, such as providing 24X7
electricity to all households, roads to all villages, water connection to all farmlands and
households, broadband network etc., in addition to talking about ambitious projects such
as river linking. This contrasts with the UPA’s emphasis on subsidies, entitlements and
dole outs. This is not to say there is no overlap – NDA is unlikely to eliminate subsidies
and UPA wasn’t entirely defocussed from infrastructure creation – but the emphasis is
markedly different.
The alternate economic vision is an imperative as well. There has been a drastic change in
India’s growth pattern from pre-GFC to post GFC. In addition, to the extraneous factors
like drying up of external sources of funding, the manner of government’s response to
GFC has had a large bearing on the growth pattern. Like many other countries, India had
a large stimulus program post GFC but most, if not all, was designed to boost
consumption rather than create productive assets. Cut in tax rates and increased subsidies
accounted for bulk of the stimulus measures, which coincided with three major populist
moves – implementation of NREGA, farm loan waiver, rapid increase in crop procurement
prices and implementation of sixth pay commission which resulted in significantly higher
wages for government employees. The resultant impact has been felt across the fiscal
situation, external account and inflation.
The election has given BJP enough
seats to pass most legislation on its
own in the Lok Sabha and with its
allies in the Rajya Sabha
BJP’s economic vision emphasis is on
improving infrastructure and growth
vs. UPA’s emphasis on subsidies,
entitlements
UPA’s response to the GFC – tax
incentives, subsidies and populist
moves – sharply altered the growth
pattern, worsened the twin deficit
and led to rise in inflation
Equity Strategy
India
19 May 2014
page 6 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
The need for change in growth pattern
While the average GDP growth rate slowed down post GFC, all the slowdown has been in
investments. Government consumption actually accelerated while private consumption
grew at a pace similar to before.
Exhibit 9: Growth pattern pre and post GFC
Source: MOSPI
This pattern of growth is neither sustainable, nor desirable. Unless investments accelerate,
consumption will also slow down, resulting in further deceleration in the economy.
Rapid rise in fiscal deficit – it’s the quality that’s worrisome
Tax collection slowed down significantly post GFC, mostly due to tax incentives and cuts.
On the other hand, subsidies have ballooned. The government has tried to cut down the
fiscal deficit recently but cutting down expenditure, which we don’t think is sustainable.
Refer to our note ‚What next? No.1 Fiscal confession‛ for a detailed discussion on the
current situation but suffice it to say that fiscal situation is unsustainable
Exhibit 10: Fiscal situation – pre and post GFC
(% of GDP) FY04 FY08 FY14RE
Total receipts 12.3% 11.7% 9.4%
Revenue receipts 9.3% 10.9% 9.1%
- Net tax 6.6% 8.8% 7.4%
- Non Tax 2.7% 2.1% 1.7%
Capital receipts 3.0% 0.9% 0.3%
Total Expenditure 16.6% 14.3% 14.0%
Subsidies 1.6% 1.4% 2.3%
Interest 4.4% 3.4% 3.4%
Other revenue expenditure 6.8% 7.1% 6.7%
Capital expenditure 3.8% 2.4% 1.7%
Fiscal deficit 4.3% 2.5% 4.6%
Revenue deficit 3.5% 1.1% 3.3%
Source: MOSPI
Note from the table above that all the increase in fiscal deficit is due to rise in subsidies
and fall in tax collections. The higher government spending isn’t creating productive
assets in any manner.
0
2
4
6
8
10
12
14
16
18
Private consumption Government consumption GFCF
Growth CAGR (%)
FY03-08 FY08-13
A need to revert to pre-GFC growth
pattern – one which is investment
driven
Lower taxes and higher subsidies
have been the key reason for rising
fiscal deficit
Expenditure cuts have been mostly
focussed on the much needed
capital expenditure side
Equity Strategy
India
19 May 2014
page 7 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Leading to persistently high inflation
Rising fiscal deficit and rural wages with no concurrent increase in productivity or
productive capacity of the economy have resulted in persistently high inflation. The
government and the central bank have been working to solve the demand side of the
equation but no efforts have been made yet to address the supply issues.
Exhibit 11: Rural wages have outpaced inflation in recent years
Source: CMIE, Jefferies
And rising external imbalances
India’s recent consumption boom, along with slowdown in investments (especially in
mining activity,) had led to current account deficit (CAD) ballooning to extraordinarily
unsustainable levels from marginally unsustainable levels. While there has been cut-back
of late, they have been due to draconian controls on gold imports as well as slowdown in
non-oil imports. The underlying issues remain unresolved.
Exhibit 12: CAD movement
(in USD mn) FY08 FY09 FY10 FY11 FY12 FY13 9MFY13 9MFY14
CAD -15,737 -27,915 -38,181 -45,945 -78,155 -88,163 -71,519 -31,056
Trade Deficit -91,467 -119,519 -118,203 -130,593 -189,759 -195,656 -150,276 -116,941
Petroleum crude & products -51,281 -64,584 -58,796 -64,502 -99,467 -113,694 -77,180 -78,493
Gold,Silver and Jewellery -5,494 -11,427 -16,779 -36,590 -44,919 -35,782 -23,568 -16,184
Electronics -17,712 -17,831 -17,190 -19,483 -25,348 -23,808 -17,710 -18,154
Capital Goods -33,113 -25,677 -24,578 -23,256 -30,096 -26,176 -21,868 -12,029
Coal, coke & briquettes -6,358 -9,930 -8,861 -9,550 -17,281 -15,687 -12,705 -11,526
Metals 1,753 -3,505 -1,678 27 -7,706 -10,768 -8,027 -4,432
Agriculture 11,473 9,919 5,620 11,358 20,360 21,903 14,159 17,705
Textile 20,594 20,937 20,457 24,666 28,619 28,025 20,001 23,866
Others -11,329 -17,421 -16,398 -13,264 -13,920 -19,670 -23,379 -17,694
Invisibles 75,731 91,605 80,022 84,648 111,604 107,493 80,028 85,885
Software Services 36,942 43,736 48,237 53,266 60,956 63,504 46,399 49,253
Remittances 41,706 44,567 52,056 53,124 63,469 64,342 48,554 49,282
Others -2,917 3,302 -20,271 -21,742 -12,821 -20,354 -14,925 -12,650
Source: RBI, CMIE, Jefferies
0
50
100
150
200
250
300
350
Sep-03 Sep-04 Sep-05 Sep-06 Sep-07 Sep-08 Sep-09 Sep-10 Sep-11 Sep-12 Sep-13
Men Rural Wages CPI - Rural Labor
Policy driven rural wage growth and
rising fiscal deficit has resulted in
persistently high inflation
Recent CAD correction due to
temporary measures as underlying
issues still remain
Equity Strategy
India
19 May 2014
page 8 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
The solution lies in government policies, partially Change in growth pattern by reviving investment cycle, encouraging increase in financial
savings and (indirectly) slowing consumption is an imperative for the new government, in
our view. The political instinct of the new government matches this imperative. We expect
policy and administrative changes in this direction. The efforts of the new government
will be to kick start the investment cycle through fiscal, administrative, political and legal
measures. We have listed several such possible measures in the note titled ‚What next? 7.
Modinomics‛.
Statistical recovery is easy
Statistical recovery in economic growth indicators like industrial production is almost a
given. Most fast moving indicators are at or near multi-year lows and some have already
shown signs of inching upwards. The low base could cause some of the data points such
as IIP, auto volumes, project announcements etc to accelerate massively from hereon.
Exhibit 13: IIP growth has been muted for past few
quarters
Source: CMIE, Jefferies
Exhibit 14: ... so has GDP growth
Source: CMIE, Jefferies
Exhibit 15: Project announcements are at its lows
Source: CMIE, Jefferies estimates
Exhibit 16: Steel production is seeing some improvement
Source: CMIE, Jefferies
-10
-5
0
5
10
15
20
25
Oct-02 Apr-04 Oct-05 Apr-07 Oct-08 Apr-10 Oct-11 Apr-13
IIP growth (%) 3m m.a. (%)
0
2
4
6
8
10
12
Dec-03 Dec-05 Dec-07 Dec-09 Dec-11 Dec-13
GDP growth (%)
0
1
2
3
4
5
6
7
8
9
Mar-02 Mar-04 Mar-06 Mar-08 Mar-10 Mar-12 Mar-14
New Investment Projects (Rs tn)
0
5
10
15
20
25
Finished Steel Production Growth % 3M M.A.
Expect measures to revive
investment cycle
Equity Strategy
India
19 May 2014
page 9 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 17: Railway freight traffic growth remains weak
Source: CMIE, Jefferies estimates
Exhibit 18: CV tonnage growth has seen a sharp and
longest decline in past 20 years
Source: CMIE, Jefferies estimates
Cyclical recovery probable
Heightened foreign inflows and return of business confidence will also likely result in a
sharp cyclical recovery that could last a few years. Given the buoyancy in the equity
markets, it will not be long before companies with debt-heavy balance sheets and
ambitious project plans hit the market to raise equity.
Exhibit 19: Fund raising has been muted in recent years…
Source: CMIE, Bloomberg, Jefferies estimates
Exhibit 20: ...especially as % of total market capitalization
Source: CMIE, Bloomberg, Jefferies estimates
Exhibit 21: Leverage for corporate sector has increased ….
Source: CMIE, Jefferies estimates
Exhibit 22: …led by industrials and utilities
Source: CMIE, Jefferies estimates
-4
-2
0
2
4
6
8
10
12
14
16
18
Feb-04 Feb-06 Feb-08 Feb-10 Feb-12 Feb-14
Railway Freight growth (%) 3m m.a.
-60%
-40%
-20%
0%
20%
40%
60%
FY90 FY93 FY96 FY99 FY02 FY05 FY08 FY11 FY14
Growth in tonnage addition
0
200
400
600
800
1,000
1,200
1,400
1,600
FY01FY02FY03FY04FY05FY06FY07FY08FY09FY10FY11FY12FY13FY14
Domestic equity raised (in Rs bn)
0.0
0.5
1.0
1.5
2.0
2.5
3.0
FY01FY02FY03FY04FY05FY06FY07FY08FY09FY10FY11FY12FY13FY14
Domestic Equity Raising as % of total Market Cap
1.0
1.1
1.2
1.3
1.4
1.5
1.6
FY97 FY99 FY01 FY03 FY05 FY07 FY09 FY11 FY13
Leverage (CE/Networth)
0.0
0.5
1.0
1.5
2.0
2.5
Indu Util Tel India
ex fin
Mat Disc Oil Ph Stap IT
Median Leverage (x) FY13 Leverage (x)
Expect fund raising activity to
increase
Equity Strategy
India
19 May 2014
page 10 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
But it isn’t just lack of funding that is holding back cyclical recovery in investments. Policy
paralysis, the phrase loosely used to describe the inaction of various parts of the
administration, including policy makers and policy implementers, has played its part in
slowing down activity levels. A cursory glance at various projects stuck at various levels of
completion would suggest a large number of issues that can be put down to policy
paralysis. They range from viable projects stuck for want of one signature to projects
being made unviable due to administrative delays.
A change in the process of administration, an acclaimed strength of the incoming prime
minister, could materially change the pace of project implementation as well as
confidence of investors to start new projects. With the kind of mandate the new
government has got, policy paralysis could easily turn into policy deluge. If the new
government gets the right bureaucrats in the right position, moribund bureaucracy could
become proactive decision makers.
Structural growth story is still in doubt
Structural growth, however, is still a question mark and will depend on whether the
underlying polity has actually moved on to accept free market economics. This is a
necessary precondition for fixing the broken profit model for new investors of big
projects.
For the moment, we only assume a sharp statistical and cyclical recovery in domestic
cyclical sectors.
Policy paralysis to policy deluge
Equity Strategy
India
19 May 2014
page 11 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
It’s a T+2 market Except in the recent past, ‘Slowdown Kings; (the set of high quality, cash flow rich
companies mostly from consumer staples, IT, pharma, two-wheelers and a few others)
have significantly outperformed the domestic cyclical stocks. If one takes a step back and
looks at the impact the change in growth pattern since 2008 has had on stocks from
various sectors, the shift in relative values of various sectors is quite big. It is best
demonstrated by two domestic sectors – consumer staples and industrials. The following
chart displays the share of these two sectors to the total Nifty market capitalisation – the
data points are visually, if not statistically, inversely correlated. And we would look at
absolute market values, rather than multiples, to make the case as shift in growth patterns
flow through to the values through earnings more than multiples.
Exhibit 23: Share of consumer staples and industrials in Nifty market cap
Source: Bloomberg
While domestic cyclical stocks have rallied hard since late 2013, it would be erroneous to
call for a halt. We are arguing for a course correction in the growth pattern and these
changes tend to last for a few years.
However, it is one thing for macro-analysts and economists to expect a sharp recovery in
sectors linked to domestic economic cycles but completely another for analysts and
investors to factor them into forecasts. A recovery post a prolonged period of slowdown
argues for a sharper recovery than usual but analysts used to earnings disappointments in
the recent past are unlikely to rush in to upgrade forecasts even if they believe in
economic recovery. We call this publishing bias – analysts, after all, have to justify the
forecasts they publish based on bottom up data rather than top down analysis.
A look at historical earnings expectations brings out the publishing bias of analysts. In
almost every year and for every sector, forecasts for two-year forward earnings tend to get
upgraded/downgraded over a two-year period more than forecasts for one-year forward
earnings. Put another way, not only do analysts underestimate (or overestimate) earnings
for year 1 but also underestimate (or overestimate) growth in year 2 at the beginning of
year 1.
0
2
4
6
8
10
12
FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 Current
Staples Industrials
Changing growth pattern has
reflected in relative sector weightings
The extent of a recovery is usually
underestimated in analyst estimates
Equity Strategy
India
19 May 2014
page 12 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 24: T+2 earnings could see significant upgrades in
case of a recovery
Source: Factset, Jefferies estimates
Exhibit 25: Earnings change history for L&T
Source: Factset, Jefferies estimates
Exhibit 26: Earnings change history for SBI
Source: Factset, Jefferies estimates
Exhibit 27: Earnings change history for Grasim
Source: Factset, Jefferies estimates
The market is likely to price in the possibility of reversion to trend growth and above and
the concomitant earnings upgrades before they actually occur. Thus, cyclical sectors will
necessarily look expensive at this juncture on traditional valuation metrics. Instead, we
would look at what is priced in to the stocks at this juncture, an exercise we do in the next
section.
(40)
(30)
(20)
(10)
0
10
20
30
40
2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013
MSCI India
FY1 Change in 1YR FY2 Change in 2YR
(50)
0
50
100
150
200
250
2002200320042005200620072008200920102011201220132014
FY1 Change in 1YR FY2 Change in 2YR
(30)
(20)
(10)
0
10
20
30
40
50
2002200320042005200620072008200920102011201220132014
FY1 Change in 1YR FY2 Change in 2YR
(60)
(40)
(20)
0
20
40
60
80
100
120
140
2002200320042005200620072008200920102011201220132014
FY1 Change in 1YR FY2 Change in 2YR
Equity Strategy
India
19 May 2014
page 13 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
What’s in the price? In this section, we look at what is implied in the stock prices of various cyclical companies.
In the case of manufacturing companies, we use sales and EV/sales for the evaluation and
in case financials, we look at BV and RoE. Since the slowdown is well captured in the P&Ls
of the manufacturing companies, acceleration in growth is the key stock price driver. In
the case of banks, the current valuations are similar to or lower than the respective
median and thus have valuation support.
Manufacturing companies: It’s all about growth – Our sample includes 19 large
companies under coverage in autos, industrials and cement. We assume debt remains
constant from now through the 3-year forecast period to arrive at the possible returns. We
assume that valuations revert to their median levels in three years and calculate what is
the required sales growth for the same.
Only four companies are trading at a (EV/Sales) valuation lesser than the last 15-
year median.
The implied three-year growth rate to justify current stock price (assuming 12%
hurdle rate and valuations trending to median in 2 years) is higher than the
median growth rate for 12 companies. Cement stocks, L&T, Hero, M&M, BHEL
and Crompton have lower than median growth expectations.
From a cyclical bottom, one ought to look at implied growth rate relative to
maximum, rather than medium. In that respect, most companies still factor in a
recovery slower than what is generally seen from bottom of the cycle to top.
Exhibit 28: Required sales growth for median valuations is below median for
most companies
EV/Sales (x) Sales growth (%)
Company Name Ticker Max Median Current Implied Median Max
Ashok Leyland AL IN 1.2 0.7 1.0 25.0 12.9 29.7
Bharat Forge BHFC IN 5.1 1.4 1.8 45.3 20.8 42.2
Bajaj Auto BJAUT IN 2.4 1.9 2.2 18.1 14.9 31.3
Hero HMCL IN 2.1 1.3 1.5 19.8 19.5 44.4
Mahindra MM IN 1.9 1.3 1.5 18.4 19.9 34.2
Maruti MSIL IN 1.7 0.9 1.2 25.5 16.1 26.0
ACC ACC IN 3.3 1.8 2.0 12.9 11.3 21.5
Ambuja ACEM IN 4.6 2.3 2.9 20.1 15.7 29.4
Grasim GRASIM IN 2.3 1.1 1.0 10.1 16.9 36.8
India Cements ICEM IN 2.8 1.4 1.1 -0.5 9.9 38.1
Ultratech UTCEM IN 2.9 2.0 2.8 28.1 29.0 41.7
L&T LT IN 4.0 1.7 2.4 15.4 16.2 32.0
BHEL BHEL IN 5.2 1.9 1.3 -6.4 13.2 29.1
Siemens SIEM IN 2.8 1.7 2.3 20.7 13.1 61.8
ABB ABB IN 3.9 1.9 2.2 15.0 7.0 39.8
Cummins KKC IN 3.4 2.3 3.3 27.1 15.6 30.8
Crompton
Greaves
CRG IN 2.0 1.1 0.8 -0.5 10.0 50.9
Thermax TMX IN 2.6 1.2 1.5 22.3 15.3 42.5
Voltas VOLT IN 2.6 0.8 0.9 19.1 15.5 30.3
Source: Factset, Jefferies estimates
Growth the key for manufacturing
companies
Banks have valuation support
Most companies factoring a recovery
slower than what is generally seen
from bottom of the cycle to top
Equity Strategy
India
19 May 2014
page 14 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Financials – Our sample includes 13 large banks, 8 of which are under our coverage. We
use P/BV and RoE instead of EV/Sales and growth, respectively.
7 of the 13 banks are trading at PB valuations above historical median.
The required RoE to justify current stock price (assuming 12% hurdle rate and
valuations trending to median in 2 years) is lower than median RoE for all the
banks.
Exhibit 29: Required RoE for median valuations is below median for most
companies
P/B (x) RoE (%)
Company Name Ticker Max Median Curren
t
Required Median Max
Axis Bank Ltd. AXSB IN 4.1 2.3 1.9 5.3 37.4 24.9
Bank Of Baroda BOB IN 1.9 1.0 1.1 13.5 26.4 17.7
Bank Of India BOI IN 2.2 1.2 0.7 -8.7 32.0 19.0
Canara Bank CBK IN 1.7 1.0 0.7 -3.9 33.7 21.5
Federal Bank Ltd. FB IN 1.8 1.1 1.2 14.4 26.5 17.1
H D F C Bank Ltd. HDFCB IN 4.8 3.6 3.7 16.5 31.6 22.0
I C I C I Bank Ltd. ICICIBC IN 3.1 1.8 2.2 16.7 28.4 17.8
Indusind Bank Ltd. IIB IN 3.3 2.6 2.8 18.0 27.9 16.1
Kotak Mahindra Bank Ltd. KMB IN 6.7 2.9 3.2 18.4 26.4 16.7
Punjab National Bank PNB IN 1.9 1.2 1.0 -0.5 35.5 26.8
State Bank Of India SBIN IN 2.8 1.5 1.7 8.3 22.0 18.6
Union Bank Of India UNBK IN 1.6 1.1 0.7 -8.4 35.0 23.8
Yes Bank Ltd. YES IN 4.7 2.3 2.2 14.6 26.9 25.7
Source: Factset, CMIE, Jefferies
Equity Strategy
India
19 May 2014
page 15 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Top-down View
Equity Strategy
India
19 May 2014
page 16 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Financials Financials have seen the most stable RoEs in the last few years even though there is
enough evidence of stress in the system. The stable numbers, however, mask the
massively different performance of its constituents. State owned banks have seen a rapid
deterioration in their fundamentals while private banks have been remarkably resilient.
The salience of the sector has only been increasing as seen in the weightage in the index
as well as in institutional portfolios. This is partly because of many new entrants into the
index.
The underlying business fundamentals have borne the brunt of all that has gone wrong
with the Indian macro. By corollary, this sector would benefit the most in case of a cyclical
upturn in the economy. Given its importance to the economy, we also expect governance
reforms in the state-owned banks. We recommend financials, especially state-owned
banks, as the top overweight. Of the stocks we cover, we recommend BOB, Axis Bank,
ICICI Bank and SBI.
Exhibit 30: EPS integer to improve from current levels
Source: CMIE, Jefferies estimates
Exhibit 31: RoEs has been in a stable band
Source: CMIE, Jefferies estimates
Exhibit 32: NIMs have been impacted in recent years
Source: CMIE, Jefferies estimates
Exhibit 33: Public sector banks have lost to private sector
Source: Bloomberg, Jefferies
0
50
100
150
200
250
300
350
400
450
Finance EPS
0
5
10
15
20
25 Financials RoE (%)
2.0
2.2
2.4
2.6
2.8
3.0
3.2
FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13
Net interest income margins (%)
0
10
20
30
40
50
60
70
80
90
100
FY03 FY05 FY07 FY09 FY11 FY13 Current
% share in Banks market cap
Public Private
Equity Strategy
India
19 May 2014
page 17 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 34: EPS integer has seen downgrades
Source: Factset
Exhibit 35: Weight in Nifty has improved steadily
Note: Weight is market cap based without considering free float; Source: Bloomberg, Jefferies
Exhibit 36: Institutional holding has steadily increased
Source: CMIE, Jefferies estimates
Exhibit 37: Weight in institutional portfolio at its peak
Source: Bloomberg, Jefferies
Exhibit 38: PE Valuation at its average
Source: Factset
Exhibit 39: Valuations relative to MSCI India
Source: Factset
200
250
300
350
400
450
500
550
600
Nov-11 Mar-12 Jul-12 Nov-12 Mar-13 Jul-13 Nov-13
2011 2012 2013
2014 2015
0
5
10
15
20
25
Financials weight in Nifty (%)
10
15
20
25
30
35
40
45
50
55
Institutional Holding in Financials
0
5
10
15
20
25
30
35
40
Mar-04 Mar-06 Mar-08 Mar-10 Mar-12 Mar-14
Weight in FII portfolio (%) Weight in DII portfolio (%)
0
1
2
3
4
5
6
0
5
10
15
20
25
30
35
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
Finance 12M Fwd PE Finance 12M Trailing PB - rhs
0.0
0.2
0.4
0.6
0.8
1.0
1.2
1.4
1.6
1.8
0.0
0.2
0.4
0.6
0.8
1.0
1.2
1.4
1.6
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
12M Fwd PE rel. to India 12M Trailing PB rel. to India - rhs
Equity Strategy
India
19 May 2014
page 18 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Industrials Having invested in expanding balance sheets in anticipation of sustained growth,
Industrials have borne the brunt of the slowdown in investment cycle since GFC. The
consequent fall in asset utilization, expanding working capital and higher interest costs,
have led to a fall in RoEs to all-time lows.
Institutional ownership is at its high even as its contribution to the market’s total value is
near all-time lows. Valuations on reported forecasts do not look cheap but watch out for
sharp earnings upgrades as this is the space that could see the sharpest cyclical recovery
in growth, margins and RoEs. Earnings forecasts are still being cut and current estimates
do call for sales growth but at a pace lesser than median and off a very low base.
We retain overweight. L&T is our preferred pick in the sector.
Exhibit 40: Sales growth is much below historical peaks
Source: CMIE, Jefferies estimates
Exhibit 41: PBT margins declining sharply
Source: CMIE, Jefferies estimates
Exhibit 42: Industrial EPS expected to recover from recent
declines
Note: EPS for MSCI Industrials index; Source: Factset, Jefferies estimates
Exhibit 43: Fwd RoEs are expected to recover to their
historical median
Source: CMIE, Jefferies estimates
-10
-5
0
5
10
15
20
25
30
35
40
45
FY03 FY05 FY07 FY09 FY11 FY13 FY15E
Sales growth (%)
0
2
4
6
8
10
12
14
16
FY03 FY05 FY07 FY09 FY11 FY13
PBT Margins (%)
0
10
20
30
40
50
60
70
80
Industrials EPS0
5
10
15
20
25
FY03 FY05 FY07 FY09 FY11 FY13 FY15E
Industrials RoE (%)
Equity Strategy
India
19 May 2014
page 19 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 44: There has been no earnings growth for past
three years
Source: Factset
Exhibit 45: Industrial weight in Nifty is at its lowest
Note: Weight is market cap based without considering free float; Source: Bloomberg, Jefferies
Exhibit 46: Institutional holding in sector at historical
highs
Source: CMIE, Jefferies estimates
Exhibit 47: Weight in institutional portfolio
Source: Bloomberg, Jefferies
Exhibit 48: Valuations are below their historical average
Source: Factset
Exhibit 49: Valuations relative to MSCI India
Source: Factset
30
50
70
90
110
130
Nov-11 Mar-12 Jul-12 Nov-12 Mar-13 Jul-13 Nov-13
2011 2012 2013
2014 2015
0
2
4
6
8
10
12
Industrials weight in Nifty (%)
20
22
24
26
28
30
32
Mar-04 Mar-06 Mar-08 Mar-10 Mar-12 Mar-14
Institutional Holding in Industrials
0
5
10
15
20
25
Mar-04 Mar-06 Mar-08 Mar-10 Mar-12 Mar-14
Weight in FII portfolio (%) Weight in DII portfolio (%)
0
1
2
3
4
5
6
7
8
9
10
0
5
10
15
20
25
30
35
40
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
Industrials 12M Fwd PE Industrials 12M Trailing PB - rhs
0.0
0.5
1.0
1.5
2.0
2.5
3.0
0.0
0.2
0.4
0.6
0.8
1.0
1.2
1.4
1.6
1.8
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
12M Fwd PE rel. to India 12M Trailing PB rel. to India - rhs
Equity Strategy
India
19 May 2014
page 20 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Consumer Discretionary Consumer discretionary spends remained relatively strong post GFC led stimulus and the
sector actually witnessed its best growth in the FY09-12 period. The sudden acceleration
in growth post GFC also helped boost utilisation levels as most companies (autos
primarily) had slowed down capacity addition during the GFC. Only recently has the sales
slowed down. Margins and RoEs are close to cyclical highs and thus the scope for massive
upgrades is limited.
The sectors weight in the market is near highs as is institutional ownership. Valuations are
lower than median, largely due to change in composition within the sector. Earnings
forecasts have been consistently upgraded. Given the nature of the customers, we think
the recovery in consumer discretionary could be amongst the earliest. We stay neutral on
this space. Maruti is our preferred play in this segment.
Exhibit 50: Sales growth is much below historical peaks
Source: CMIE, Jefferies estimates
Exhibit 51: PBT margins though is at its peak
Source: CMIE, Jefferies estimates
Exhibit 52: EPS integer has seen steady growth
Note: EPS for MSCI Industrials index; Source: Factset, Jefferies estimates
Exhibit 53: Fwd RoEs are expected to remain stable
Source: CMIE, Jefferies estimates
0
5
10
15
20
25
30
35
FY03 FY05 FY07 FY09 FY11 FY13 FY15E
Sales growth (%)
0
2
4
6
8
10
12
FY03 FY05 FY07 FY09 FY11 FY13
PBT Margins (%)
0
10
20
30
40
50
60
70
80
90
Discretionary EPS0
5
10
15
20
25
30
FY03 FY05 FY07 FY09 FY11 FY13 FY15E
Consumer Discretionary RoE (%)
Equity Strategy
India
19 May 2014
page 21 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 54: EPS integer is seeing some upgrades
Source: Factset
Exhibit 55: Weight in Nifty is at its peak
Note: Weight is market cap based without considering free float; Source: Bloomberg, Jefferies
Exhibit 56: Institutional holding in sector at historical
highs
Source: CMIE, Jefferies estimates
Exhibit 57: Weight in institutional portfolio
Source: Bloomberg, Jefferies
Exhibit 58: Valuations are below their historical average
Source: Factset
Exhibit 59: Valuations relative to MSCI India
Source: Factset
30
40
50
60
70
80
90
Nov-11 Mar-12 Jul-12 Nov-12 Mar-13 Jul-13 Nov-13
2011 2012 2013
2014 2015
0
1
2
3
4
5
6
7
8
9
FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY15
Consumer Discretionary weight in Nifty (%)
20
22
24
26
28
30
32
34
36
38
Mar-04 Mar-06 Mar-08 Mar-10 Mar-12 Mar-14
Institutional Holding in Disc
0
2
4
6
8
10
12
14
Mar-04 Mar-06 Mar-08 Mar-10 Mar-12 Mar-14
Weight in FII portfolio (%) Weight in DII portfolio (%)
0
1
2
3
4
5
6
7
0
5
10
15
20
25
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
Discretionary 12M Fwd PE Discretionary 12M Trailing PB
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
0.0
0.2
0.4
0.6
0.8
1.0
1.2
1.4
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
12M Fwd PE rel. to India 12M Trailing PB rel. to India - rhs
Equity Strategy
India
19 May 2014
page 22 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Energy The energy sector has seen massive volatility in sales growth, especially since GFC. It is
hard to draw a conclusion from consolidated numbers as the sector is composed of
disparate companies. However, policy matters have had a meaningful impact on all the
companies and resolution of these issues, be it gas pricing, quantum and share of
petroleum subsidy burden, coal pricing issues, link all these companies to the policies of
the new government.
The policy muddle of the last few years has resulted in falling weight in institutional
portfolios though the weight of the sector in the market remains elevated. We are quite
optimistic on policy and subsidy reforms. While we remain equal weight on the sector, we
recommend owning Reliance and ONGC.
Exhibit 60: Sales growth is expected to decline
Source: CMIE, Jefferies estimates
Exhibit 61: So are PBT margins
Source: CMIE, Jefferies estimates
Exhibit 62: EPS integer sees steady improvement
Note: EPS for MSCI Industrials index; Source: Factset, Jefferies estimates
Exhibit 63: Fwd RoEs to remain stable
Source: CMIE, Jefferies estimates
-5
0
5
10
15
20
25
30
35
FY03 FY05 FY07 FY09 FY11 FY13 FY15E
Sales growth (%)
0
2
4
6
8
10
12
FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14E
PBT Margins (%)
0
20
40
60
80
100
120
140
Energy EPS
0
5
10
15
20
25 Energy RoE (%)
Equity Strategy
India
19 May 2014
page 23 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 64: EPS integer has seen upgrades
Source: Factset
Exhibit 65: Weight in Nifty has remained stable
Note: Weight is market cap based without considering free float; Source: Bloomberg, Jefferies
Exhibit 66: Institutional holding has improved in recent
year
Source: CMIE, Jefferies estimates
Exhibit 67: Weight in institutional portfolio near its lows
Source: Bloomberg, Jefferies
Exhibit 68: Valuations at its historical lows
Source: Factset
Exhibit 69: Valuations relative to MSCI India
Source: Factset
70
80
90
100
110
120
130
140
150
Nov-11 Mar-12 Jul-12 Nov-12 Mar-13 Jul-13 Nov-13
2011 2012 2013
2014 2015
0
5
10
15
20
25
30
Energy weight in Nifty (%)
10
12
14
16
18
20
22
24
Institutional Holding in Energy
0
5
10
15
20
25
Mar-04 Mar-06 Mar-08 Mar-10 Mar-12 Mar-14
Weight in FII portfolio (%) Weight in DII portfolio (%)
0
1
1
2
2
3
3
4
4
5
0
5
10
15
20
25
30
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
Energy 12M Fwd PE Energy 12M Trailing PB - rhs
0.0
0.2
0.4
0.6
0.8
1.0
1.2
1.4
1.6
1.8
0.0
0.2
0.4
0.6
0.8
1.0
1.2
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
12M Fwd PE rel. to India 12M Trailing PB rel. to India - rhs
Equity Strategy
India
19 May 2014
page 24 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Materials Materials companies have seen a massive deterioration in the underlying growth, which
remain depressed, as well as margins, which are near all-time lows. The metal companies
are worse off than cement, both due to the problems in the Indian economy as well as
due to issues with oversized foreign acquisitions. Bloated balance sheets have pulled
down PBT margins as well as RoEs. The cement companies have significantly better
balance sheets but have seen almost a similar slowdown in sales and margins.
The sector is still seeing cuts in earnings forecasts but that will likely change post the
elections, especially for the domestic businesses. The sector’s weight in the broader
market is at a historical mean. We are neutral on the sector. Tata Steel is our top pick.
Exhibit 70: Sales growth to remain stable
Source: CMIE, Jefferies estimates
Exhibit 71: PBT margins though near their bottom
Source: CMIE, Jefferies estimates
Exhibit 72: EPS integer to see some improvement
Note: EPS for MSCI Industrials index; Source: Factset, Jefferies estimates
Exhibit 73: Fwd RoEs are expected to remain stable
Source: CMIE, Jefferies estimates
-20
0
20
40
60
80
100
FY03 FY05 FY07 FY09 FY11 FY13 FY15E
Sales growth (%)
0
5
10
15
20
25
30
FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14E
PBT Margins (%)
0
10
20
30
40
50
60
70
80
90
Materials EPS
0
5
10
15
20
25
30
35
40 Materials RoE (%)
Equity Strategy
India
19 May 2014
page 25 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 74: EPS integer has seen downgrades
Source: Factset
Exhibit 75: Weight in Nifty is at average historical average
Note: Weight is market cap based without considering free float; Source: Bloomberg, Jefferies
Exhibit 76: Institutional holding in sector at historical
highs
Source: CMIE, Jefferies estimates
Exhibit 77: Weight in institutional portfolio at lows
Source: Bloomberg, Jefferies
Exhibit 78: Valuations at historical average
Source: Factset
Exhibit 79: Valuations relative to MSCI India
Source: Factset
40
50
60
70
80
90
100
110
120
Nov-11 Mar-12 Jul-12 Nov-12 Mar-13 Jul-13 Nov-13
2011 2012 2013
2014 2015
0
2
4
6
8
10
12
14
Materials weight in Nifty (%)
10
15
20
25
30
35
Mar-04 Mar-06 Mar-08 Mar-10 Mar-12 Mar-14
Institutional Holding in Materials
0
2
4
6
8
10
12
14
16
18
20
Mar-04 Mar-06 Mar-08 Mar-10 Mar-12 Mar-14
Weight in FII portfolio (%) Weight in DII portfolio (%)
0
1
2
3
4
5
6
0
2
4
6
8
10
12
14
16
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
Materials 12M Fwd PE Materials 12M Trailing PB - rhs
0.0
0.2
0.4
0.6
0.8
1.0
1.2
1.4
1.6
1.8
2.0
0.0
0.1
0.2
0.3
0.4
0.5
0.6
0.7
0.8
0.9
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
12M Fwd PE rel. to India 12M Trailing PB rel. to India - rhs
Equity Strategy
India
19 May 2014
page 26 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Utilities Utilities have seen a significant slowdown in growth post GFC, with the fiscal that has just
passed being the worst. The resultant fall in asset utilisation and further regulatory
mishaps through muddled tariff policies have led to fall in margins. The fall in margins
and RoEs have been limited by the fixed-RoE business model of some of the constituents.
However, earnings estimates are still being cut. While recovery in growth matters,
regulatory certainty will be a bigger driver of this sector. Resolution of tariff issues for few
of the power utilities will be a key task for the incoming government.
For reasons stated above, utilities weight in the market has seen a significant fall recently
as has its weight in institutional investors’ portfolios. We recommend overweight on this
sector on expectations of policy clarity. We recommend NTPC and Tata Power.
Exhibit 80: Sales growth expected to decline
Source: CMIE, Jefferies estimates
Exhibit 81: So have PBT margins
Source: CMIE, Jefferies estimates
Exhibit 82: EPS integer to see some improvement
Note: EPS for MSCI Industrials index; Source: Factset, Jefferies estimates
Exhibit 83: Fwd RoEs are expected to remain stable
Source: CMIE, Jefferies estimates
0
5
10
15
20
25
30
FY03 FY05 FY07 FY09 FY11 FY13 FY15E
Sales growth (%)
0
5
10
15
20
25
FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14E
PBT Margins (%)
0
10
20
30
40
50
60
Utilities EPS
0
2
4
6
8
10
12
14 Utilities RoE (%)
Equity Strategy
India
19 May 2014
page 27 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 84: EPS integer has seen substantially downgrades
Source: Factset
Exhibit 85: Weight in Nifty has declined in recent years
Note: Weight is market cap based without considering free float; Source: Bloomberg, Jefferies
Exhibit 86: Institutional holding in sector at historical
highs
Source: CMIE, Jefferies estimates
Exhibit 87: Weight in institutional portfolio at lows
Source: Bloomberg, Jefferies
Exhibit 88: Valuations below historical average
Source: Factset
Exhibit 89: Valuations relative to MSCI India
Source: Factset
30
35
40
45
50
55
60
65
Nov-11 Mar-12 Jul-12 Nov-12 Mar-13 Jul-13 Nov-13
2011 2012 2013
2014 2015
0
2
4
6
8
10
12
14
16
Utilities weight in Nifty (%)
10
12
14
16
18
20
22
24
26
28
Dec-04 Dec-06 Dec-08 Dec-10 Dec-12
Institutional Holding in Utilities
0
2
4
6
8
10
12
Mar-04 Mar-06 Mar-08 Mar-10 Mar-12 Mar-14
Weight in FII portfolio (%) Weight in DII portfolio (%)
0
2
4
6
8
10
12
0
5
10
15
20
25
30
35
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
Utilities 12M Fwd PE Utilities 12M Trailing PB - rhs
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0
4.5
0.0
0.2
0.4
0.6
0.8
1.0
1.2
1.4
1.6
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
12M Fwd PE rel. to India 12M Trailing PB rel. to India - rhs
Equity Strategy
India
19 May 2014
page 28 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Healthcare While it is inherently a bottom-up sector, the macro has helped pharmaceutical
companies as weak currency has boosted growth and margins in the recent past. Margins
are at their all-time highs for almost all the companies, though the change in composition
has helped the sector average. RoEs for the sector are near highs and the sector continues
to see earnings upgrades.
Along with the other defensive sectors, the share of pharma companies in the total market
value has increased significantly since GFC. Institutional ownership is also near historic
highs. Currency is likely to turn into a headwind rather than a tailwind. Valuations are
near historic averages. We stay neutral on the sector. Sun Pharma and Cipla continue to
be our top pick.
Exhibit 90: Sales growth expected to decline
Source: CMIE, Jefferies estimates
Exhibit 91: PBT margins though to improve
Source: CMIE, Jefferies estimates
Exhibit 92: EPS integer sees steady improvement
Note: EPS for MSCI Industrials index; Source: Factset, Jefferies estimates
Exhibit 93: Fwd RoEs to moderate
Source: CMIE, Jefferies estimates
0
5
10
15
20
25
30
35
40
FY03 FY05 FY07 FY09 FY11 FY13 FY15E
Sales growth (%)
0
5
10
15
20
25
30
FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14E
PBT Margins (%)
0
10
20
30
40
50
60
70
80
Pharma EPS
0
5
10
15
20
25
30 Health Care RoE (%)
Equity Strategy
India
19 May 2014
page 29 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 94: EPS integer has seen upgrades
Source: Factset
Exhibit 95: Weight in Nifty has increased in recent years
Note: Weight is market cap based without considering free float; Source: Bloomberg, Jefferies
Exhibit 96: Institutional holding in sector is stable
Source: CMIE, Jefferies estimates
Exhibit 97: Weight in institutional portfolio near peaks
Source: Bloomberg, Jefferies
Exhibit 98: Valuations at historical average
Source: Factset
Exhibit 99: Valuations relative to MSCI India
Source: Factset
30
40
50
60
70
80
90
Nov-11 Mar-12 Jul-12 Nov-12 Mar-13 Jul-13 Nov-13
2011 2012 2013
2014 2015
0
1
2
3
4
5
6
7
8
9
10
Health Care weight in Nifty (%)
10
15
20
25
30
35
Dec-04 Dec-06 Dec-08 Dec-10 Dec-12
Institutional Holding in Health Care
0
1
2
3
4
5
6
7
8
9
Mar-04 Mar-06 Mar-08 Mar-10 Mar-12 Mar-14
Weight in FII portfolio (%) Weight in DII portfolio (%)
0
1
2
3
4
5
6
7
8
0
5
10
15
20
25
30
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
Pharma 12M Fwd PE Pharma 12M Trailing PB - rhs
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0
4.5
0.0
0.2
0.4
0.6
0.8
1.0
1.2
1.4
1.6
1.8
2.0
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
12M Fwd PE rel. to India 12M Trailing PB rel. to India - rhs
Equity Strategy
India
19 May 2014
page 30 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Information Technology IT sector has seen sharp recovery in growth in the recent past due to recovery in demand
primarily in North America. Favourable currency has helped rupee revenues as well as
margins. High cash balances with the companies have dented RoEs but not significantly.
Forecasts are still being increased. However, post the election results currency is likely to
be a headwind rather than tailwind.
Being one of the favourite themes of 2012 and 2013, the weight of the sector in the
market has increased significantly. Institutional ownership has also increased meaningfully
in the recent past. Valuations for the sector are neither expensive, nor cheap. We are
underweight on the sector. TCS is our preferred pick.
Exhibit 100: Sales growth expected to decline
Source: CMIE, Jefferies estimates
Exhibit 101: PBT margins at its peak
Source: CMIE, Jefferies estimates
Exhibit 102: EPS integer sees steady improvement
Note: EPS for MSCI Industrials index; Source: Factset, Jefferies estimates
Exhibit 103: Fwd RoEs are expected to improve
Source: CMIE, Jefferies estimates
0
10
20
30
40
50
60
70
80
90
100
FY03 FY05 FY07 FY09 FY11 FY13 FY15E
Sales growth (%)
20
21
22
23
24
25
26
27
FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14E
PBT Margins (%)
0
10
20
30
40
50
60
70
80
IT EPS
0
5
10
15
20
25
30
35
40 Information Technology RoE (%)
Equity Strategy
India
19 May 2014
page 31 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 104: EPS integer has seen steady upgrades
Source: Factset
Exhibit 105: Weight in Nifty has increased in recent years
Note: Weight is market cap based without considering free float; Source: Bloomberg, Jefferies
Exhibit 106: Institutional holding in sector is stable
Source: CMIE, Jefferies estimates
Exhibit 107: Weight in institutional portfolio near peaks
Source: Bloomberg, Jefferies
Exhibit 108: Valuations at historical average
Source: Factset
Exhibit 109: Valuations relative to MSCI India
Source: Factset
30
40
50
60
70
80
Nov-11 Mar-12 Jul-12 Nov-12 Mar-13 Jul-13 Nov-13
2011 2012 2013
2014 2015
0
5
10
15
20
25
Information Technology weight in Nifty (%)
10
15
20
25
30
35
40
Dec-04 Dec-06 Dec-08 Dec-10 Dec-12
Institutional Holding in Information Technology
0
5
10
15
20
25
Mar-04 Mar-06 Mar-08 Mar-10 Mar-12 Mar-14
Weight in FII portfolio (%) Weight in DII portfolio (%)
0
1
2
3
4
5
6
0
5
10
15
20
25
30
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
IT 12M Fwd PE IT 12M Trailing PB - rhs
0.0
0.5
1.0
1.5
2.0
2.5
3.0
0.0
0.2
0.4
0.6
0.8
1.0
1.2
1.4
1.6
1.8
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
12M Fwd PE rel. to India 12M Trailing PB rel. to India - rhs
Equity Strategy
India
19 May 2014
page 32 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Consumer Staples Consumer staples companies have seen reasonably high growth post GFC as most of the
stimulus measures were favourable to their businesses. Rural sales have stayed strong due
to high nominal and real wage growth. Its only recently has the slowing rural real wage
growth started impacting the growth rates. We also note that the margins in the sector
are at their all-time highs and unlikely to increase any further. As such, we think sustaining
the high growth rates and margins will be hard and the sector will be the most impacted
by the change in growth pattern from being consumption led to being investment led.
The sector’s weight in the market has increased substantially since 2009 as high quality
and high cash flow companies (the case with most consumer staples companies)
significantly outperformed the market. The ownership levels are at near peak as are
absolute and relative valuations. We maintain Underweight on the sector. ITC is the only
large cap stock that we recommend at this moment.
Exhibit 110: Sales growth to recover but much below its
peak
Source: CMIE, Jefferies estimates
Exhibit 111: PBT margins though is at its peak
Source: CMIE, Jefferies estimates
Exhibit 112: EPS integer has seen steady growth
Note: EPS for MSCI Industrials index; Source: Factset, Jefferies estimates
Exhibit 113: Fwd RoEs are expected to improve
Source: CMIE, Jefferies estimates
0
5
10
15
20
25
30
FY03 FY05 FY07 FY09 FY11 FY13 FY15E
Sales growth (%)
0
5
10
15
20
25
FY03 FY05 FY07 FY09 FY11 FY13
PBT Margins (%)
0
5
10
15
20
25
Staples EPS20
22
24
26
28
30
32
34
36
FY03 FY05 FY07 FY09 FY11 FY13 FY15E
Consumer Staples RoE (%)
Equity Strategy
India
19 May 2014
page 33 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 114: EPS integer has seen downgrades
Source: Factset
Exhibit 115: Weight in Nifty has increased substantially
Note: Weight is market cap based without considering free float; Source: Bloomberg, Jefferies
Exhibit 116: Institutional holding in sector at historical
highs
Source: CMIE, Jefferies estimates
Exhibit 117: Weight in institutional portfolio at peak
Source: Bloomberg, Jefferies
Exhibit 118: Valuations are at their historical peaks
Source: Factset
Exhibit 119: Valuations relative to MSCI India
Source: Factset
0
5
10
15
20
25
Nov-11 Mar-12 Jul-12 Nov-12 Mar-13 Jul-13 Nov-13
2011 2012 2013
2014 2015
0
5
10
15
20
25
Consumer Staples weight in Nifty (%)
25
27
29
31
33
35
37
39
Mar-04 Mar-06 Mar-08 Mar-10 Mar-12 Mar-14
Institutional Holding in Staples
0
2
4
6
8
10
12
14
16
18
Mar-04 Mar-06 Mar-08 Mar-10 Mar-12 Mar-14
Weight in FII portfolio (%) Weight in DII portfolio (%)
0
2
4
6
8
10
12
14
0
5
10
15
20
25
30
35
40
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
Staples 12M Fwd PE Staples 12M Trailing PB
0
1
2
3
4
5
6
7
8
9
0.0
0.5
1.0
1.5
2.0
2.5
3.0
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
12M Fwd PE rel. to India 12M Trailing PB rel. to India - rhs
Equity Strategy
India
19 May 2014
page 34 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Telecommunication Services Telcos have borne the brunt of competition and corruption scandals. While the sector has
seen some improvement in the competitive environment, the problems of the past still
weigh down the profitability of the sector. Overseas acquisitions and recent new entrants
have also weighed down the sentiment on the sector. However, we think policy issues are
now behind the sector as most of the processes have been set right with the active
involvement of the courts. The pace of earnings downgrades have subsided.
The weight of the sector in the total has come off significantly from its peak and is now is
at near all-time lows and so is its weight in institutional portfolios. Valuations seem
elevated but we note that that is due to depressed earnings. Maintain neutral stance.
Exhibit 120: Sales growth expected to decline
Source: CMIE, Jefferies estimates
Exhibit 121: PBT margins to remain stable
Source: CMIE, Jefferies estimates
Exhibit 122: EPS integer to improve from current levels
Note: EPS for MSCI Industrials index; Source: Factset, Jefferies estimates
Exhibit 123: Fwd RoEs to improve
Source: CMIE, Jefferies estimates
-20
0
20
40
60
80
100
120
140
160
180
200
FY03 FY05 FY07 FY09 FY11 FY13 FY15E
Sales growth (%)
0
5
10
15
20
25
30
FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14E
PBT Margins (%)
0
1
2
3
4
5
6
7
8
9
Telecom EPS
0
5
10
15
20
25 Telecommunication Services RoE (%)
Equity Strategy
India
19 May 2014
page 35 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 124: EPS integer has seen downgrades
Source: Factset
Exhibit 125: Weight in Nifty has seen sharp decline
Note: Weight is market cap based without considering free float; Source: Bloomberg, Jefferies
Exhibit 126: Institutional holding has been stable
Source: CMIE, Jefferies estimates
Exhibit 127: Weight in institutional portfolio near its lows
Source: Bloomberg, Jefferies
Exhibit 128: PE Valuation is near its peak
Source: Factset
Exhibit 129: Valuations relative to MSCI India
Source: Factset
0
1
1
2
2
3
3
4
4
Nov-11 Mar-12 Jul-12 Nov-12 Mar-13 Jul-13 Nov-13
2011 2012 2013
2014 2015
0
2
4
6
8
10
12
14
Telecommunication Services weight in Nifty (%)
10
15
20
25
30
35
Institutional Holding in Telecommunication Services
0
1
2
3
4
5
6
7
8
9
10
Mar-04 Mar-06 Mar-08 Mar-10 Mar-12 Mar-14
Weight in FII portfolio (%) Weight in DII portfolio (%)
0
1
1
2
2
3
3
4
4
5
5
0
5
10
15
20
25
30
35
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
Telecom 12M Fwd PE Telecom 12M Trailing PB - rhs
0.0
0.2
0.4
0.6
0.8
1.0
1.2
1.4
1.6
0.0
0.5
1.0
1.5
2.0
2.5
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
12M Fwd PE rel. to India 12M Trailing PB rel. to India - rhs
Equity Strategy
India
19 May 2014
page 36 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Bottom-up View
Equity Strategy
India
19 May 2014
page 37 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Financials – Go Long on Cycle and Governance We are positive on banks post the massive mandate for NDA (BJP+), which
would allow the government to take quick decisions and put economic
growth back on track, and is +ve for loan growth and asset quality.
Governance change at SOE banks is likely and on the back of large valuation
gap, SOE banks could materially outperform. Our top picks – Axis Bank, ICICI
Bank and Bank of Baroda are predicated on cyclical recovery & governance
change.
Cyclical turnaround is positive for loan growth: GDP growth is expected to clock
6.5% in FY16 from ~4.5% in FY14. More importantly, the new project announcements
too seem to have bottomed around decadal lows, and the trend can only improve. We
forecast system loan growth at 18% for FY15 and 19% for FY16 (from sub-14% in FY14) or
roughly a 3x (average of last 18 years) nominal-loans-to-GDP multiplier.
Governance change in SOE banks a must and massively positive: With SOE banks
controlling 70%+ of assets, not being able to lend owing to slender capital is not an
option, if India has to grow. Recapitalisation options are few and the Government has to
dilute its stake in favour of deeper pockets. As we have analysed in our earlier reports and
as suggested by a recent RBI Committee, the bank boards need to be empowered, which
should take them closer to private sector banks, and lower the corporate governance
discount associated with SOE banks. And if required, the government can even bring
legislative changes easily, now that they have a majority in the Lower House. SOE Banks
trade at a massive discount to their private sector peers and to that extent, they can
materially outperform the broader sector.
Interest rates to come off: Notwithstanding the near-term risk from weaker monsoons
and higher food prices, we believe interest rates should be much lower over the medium
term. This will further enable consumption and drive the investment cycle. In the near
term, though, we do not expect any significant rate cuts.
Asset quality to improve: On the back of economic pickup and lower interest rates,
corporate interest burden should reduce and profitability should improve creating a
cyclical tailwind for banks’ asset quality. More importantly, banks’ true equity book
discounts the current NPAs and slippages from restructured assets. A cyclical recovery will
not only lower impaired assets, but lower the book value adjustments.
Upgrading stocks and top picks: We are extremely positive on banks, on the back of
cyclical recovery and need for governance reform at SOE banks. We upgrade State Bank of
India (SBIN IN) to Buy from UNPF and Punjab National Bank (PNB IN) to Hold from UNPF.
Within our coverage, the top picks are Axis Bank (AXSB IN), ICICI Bank (ICICIBC IN) and
Bank of Baroda (BOB IN). HDFC Bank (HDFCB IN), IndusInd Bank (IIB IN) and State Bank of
India (SBIN IN) are the other Buy rated stocks, while Kotak Bank (KMB IN) and HDFC
Limited (HDFC IN) are rated Hold along with Punjab National Bank (PNB IN). Details of
earnings and PT change can be found in Exhibit 1 inside.
Equity Strategy
India
19 May 2014
page 38 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Changes to estimates/ratings/PTs – and valuation
rationale
Exhibit 130: Rating, Price target and Earnings changes –
Source: Jefferies estimates; * standalone, #consolidated
Exhibit 131: Valuation comps of stocks under coverage
Source: Jefferies estimates
Banks New Rating Old Rating New PT Old PT Year NII PPOP PAT Advances Deposits EPS BVPS
FY15E 0.6% 1.0% 1.2% 0.0% 0.0% 1.2% 0.2%
FY16E 1.0% 1.4% 1.6% 0.0% 0.0% 1.6% 0.5%
FY15E 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%
FY16E 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%
FY15E 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%
FY16E 0.2% 0.3% 0.3% 0.0% 0.0% 0.3% 0.1%
FY15E 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%
FY16E 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%
FY15E 0.0% 0.6% 0.7% 0.0% 0.0% 0.7% 0.1%
FY16E 0.0% 0.8% 0.8% 0.0% 0.0% 0.8% 0.2%
FY15E 0.9% 0.3% 0.2% -1.0% 1.2% 1.0% 8.0%
FY16E -0.3% 0.2% 0.3% 0.5% 2.0% 1.1% 7.9%
FY14E -0.2% -0.1% 0.4% -1.5% -1.5% 0.4% 0.0%
FY15E -0.7% -0.3% 0.6% -1.5% -1.5% 0.6% 0.2%
FY16E 8.2% 7.5% 12.6% -1.5% -1.5% 12.6% 2.2%
FY15E 2.1% 6.2% -1.8% -0.4% 1.9% -1.8% -7.8%
FY16E 10.4% 14.1% 10.5% -0.4% 1.9% 10.5% -3.9%
FY15E 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%
FY16E 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%
SBIN
*PN
B
910
BUY UNPF 2,875 1,545
HOLD UNPF 865 690
HOLD 935
BO
BA
XSB
HD
FCB
ICIC
IBC
*H
DFC
*
BUY
BUY
HOLD
BUY BUY 1,140 1,080
BUY
BUY 1,720 1,470
1,800
BUY 960 870
BUY 2,180
IIB BUY BUY 680 615
KM
B#
HOLD HOLD 910 800
Name BB ticker Rating Target CMP Up / down Mkt Cap
(Rs) (Rs) (%) (Rs bn)
FY15 FY16 FY15 FY16 FY15 FY16 FY15 FY16 FY15 FY16
Axis Bank AXSB IN BUY 2,180 1,755 24.2 826 11.3 8.7 2.0 1.6 1.8 1.9 17.3 19.2 1.3 1.6
HDFC Bank HDFCB IN BUY 960 805 19.3 1,932 17.5 14.1 3.9 3.2 2.0 2.0 22.3 23.2 1.1 1.4
ICICI Bank ICICIBC IN BUY 1,720 1,465 17.4 1,693 14.7 11.8 2.2 2.0 1.8 1.9 14.6 16.2 1.8 2.3
IndusInd Bank IIB IN BUY 680 562 21.0 296 16.3 12.6 2.9 2.4 1.8 1.9 18.6 20.1 0.6 0.6
Kotak Bank KMB IN HOLD 910 906 0.5 698 36.9 32.8 5.1 4.5 1.9 1.9 14.2 14.0 0.1 0.1
Kotak - consol KMB IN HOLD 910 906 0.5 698 22.6 16.8 3.24 2.7 2.3 2.6 15.0 17.3 0.1 0.1
BOB BOB IN BUY 1,140 934 22.0 401 7.6 5.7 1.1 0.9 0.7 0.8 13.4 15.8 2.7 3.4
PNB PNB IN HOLD 865 918 -5.8 332 7.2 5.4 1.07 0.9 0.8 0.9 12.0 14.2 1.1 1.1
SBI SBIN IN BUY 2,875 2,417 18.9 1,805 14.9 8.8 1.9 1.5 0.6 0.9 9.7 14.7 1.4 1.9
SBI - consol SBIN IN BUY 2,875 2,417 18.9 1,805 11.1 6.8 1.46 1.2 0.6 0.9 10.6 15.6 1.4 1.9
HDFC HDFC IN HOLD 935 886 5.6 1,382 22.1 18.2 2.0 1.8 2.6 2.7 20.8 23.0 1.8 1.8
Private Banks
PSU Banks
NBFC
Dividend Yield
(x) (x) (%) (%) (%)
P/E P/BV RoA RoE
Equity Strategy
India
19 May 2014
page 39 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Valuation / Risks
Axis Bank (AXSB IN, Buy). We have upped the PT from Rs1,800 to Rs2,180. This is
driven by <2% change in earnings and upping the valuation multiples. We believe a
strong government at the center will be able to pull through many stuck reforms and
blockades to industrial and infrastructure capex. This is cyclically positive for corporate-
heavy stock. At our PT, the stock is valued at 2.4x forward book and 14.1x forward
earnings. This compares to last 5yr and 8yr averages of 2.0x/11.6x and 2.9x/16.8x
respectively. Key risks: (1) Poor economic pickup, (2) worsening asset quality.
HDFC Bank (HDFCB IN, Buy). We have upped the PT from Rs870 to Rs960. We have
not made any change to earnings and the move is owing to change in valuation
multiples. We believe a strong government at the center is positive for industrial growth
and this will eventually play out with job stability, and drive consumption and consumer
loan growth, albeit with a slight lag. At our PT, the stock is valued at 4.3x forward book
and 18.0x forward earnings. This compares to last 5yr and 8yr averages of 3.5x/19.7x and
3.9x/19.8x respectively. Key risks: (1) Poor economic pickup, (2) job losses resulting in
worsening asset quality
ICICI Bank (ICICIBC IN, Buy). We have upped the PT from Rs1,470 to Rs1,720. There
is only a minor change in earnings of 0.3% and the move is owing to change in valuation
multiples. We believe a strong government at the center will be able to pull through
many stuck reforms and blockades to industrial and infrastructure capex. This is cyclically
positive for corporate heavy stock. At our PT, the stock is valued at 2.5x forward book and
17.2x forward earnings. This compares to last 5yr and 8yr averages of 1.8x/16.0x and
2.2x/16.3x respectively. Key risks: (1) Poor economic pickup, (2) worsening asset quality
IndusInd Bank (IIB IN, Buy). We have upped the PT from Rs615 to Rs680. We have
not made any change to earnings and the move is owing to change in valuation
multiples. We believe a strong government at the center will be able to pull through
many stuck reforms and blockades to industrial and infrastructure capex. This is cyclically
positive for the CV cycle, which is a substantial portion of the book; while IIB is also
exposed to the consumer space, which should pick up pace over time. At our PT, the
stock is valued at 3.4x forward book and 19.7x forward earnings. This compares to last
5yr and 8yr averages of 2.5x/14.9x and 1.1x/8.2x respectively. Key risks: (1) Poor
economic pickup, (2) worsening asset quality especially in the CV businesses
Bank of Baroda (BOB IN, Buy). We have upped the PT from Rs1,080 to Rs1,140. We
have not made any change to earnings and the move is owing to change in valuation
multiples. We view the possibility of governance model change at SOE banks very
positively. More importantly, a majority government in BJP should face much less
pressure in initiating key legislative changes, if required to drive the necessary changes. At
our PT, the stock is valued at 1.5x forward book and 9.3x forward earnings. This compares
to last 5yr and 8yr averages of 1.1x/6.2x and 0.9x/6.4x respectively. Key risks: (1) Lack of
board governance structure, (2) Impending change in management, (3) slowing growth
and worsening of asset quality.
State Bank of India (SBIN IN, Buy). We do a double upgrade of SBIN to BUY from
UNPF, and have upped the PT from Rs1,545 to Rs2,875. We have upped FY16 earnings by
12.6% predicated on a cyclical recovery. Further, we view the possibility of governance
model change at SOE banks very positively. More importantly, a majority government in
BJP should face much less pressure in initiating key legislative changes, if required to drive
the necessary changes. At our PT, the stock is valued at 1.9x forward book and 13.2x
forward earnings on consolidated basis. This compares to last 5yr and 8yr averages of
1.4x/8.6x and 1.2x/8.7x respectively. Key risks: (1) Lack of board governance structure,
(2) Inability to manage expense ratio, (3) slowing growth & worsening of asset quality.
Equity Strategy
India
19 May 2014
page 40 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Kotak Bank (KMB IN, Hold). We have upped the PT from Rs800 to Rs910. We have
not made any change to earnings and the move is owing to change in valuation
multiples. KMB will benefit from an improvement in the financial sector with exposure to
lending, insurance, AMC, but most importantly the investment banking and advisory
service, which has the potential to propel the RoE significantly in a positive economic
cycle. At our PT, the stock is valued at 3.3x forward book and 22.7x forward earnings. This
compares to last 5yr and 8yr averages of 2.8x/19.7x and 3.3x/23.5x respectively. Key
risks: (1) Continued loan growth slowdown and fee income is negative, (2) Economic
uptick and improvement in investment banking/advisory service is positive.
HDFC Limited (HDFC IN, Hold). We have upped the PT from Rs910 to Rs935. We have
made a minor change to earnings (~0.1%) and balance of the change is owing to the
change in PT of its subsidiary, HDFC Bank. At our PT, the stock is valued at 4.8x forward
book and 23.3x forward earnings. This compares to last 5yr and 8yr averages of
4.6x/22.9x and 6.2x/21.9x respectively. Key risks: (1) Lack of loan growth and higher
interest rate regime will be negative, (2) Pickup in housing investment is positive.
Punjab National Bank (PNB IN, Hold). We upgrade PNB to HOLD from UNPF, and
have upped the PT from Rs690 to Rs865. On the back of weak FY14 earnings, we have cut
FY15 earnings by 1.8%, while giving it the benefit of cyclical upswing resulting in 10.5%
improvement in FY16 earnings. Further, we view the possibility of a governance model
change at SOE banks very positively. More importantly, a majority government in BJP
should face much less pressure in initiating key legislative changes, if required to drive the
necessary changes. At our PT, the stock is valued at 1.5x forward book and 6.8x forward
earnings. This compares to last 5yr and 8yr averages of 1.1x/5.7x and 1.4x/8.3x
respectively. Key risks: (1) Lack of board governance structure, (2) slowing loan growth
and continued worsening of asset quality.
Equity Strategy
India
19 May 2014
page 41 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Go long on cycle and governance
We are extremely positive on bank stocks post the massive mandate for NDA (BJP+),
which would allow the government to take quick decisions and put economic growth
back on track. This is extremely positive for loan growth, and over time, for asset quality.
Further, a governance change at SOE banks is almost a certainty and on the back of a
large valuation gap, SOE banks could materially outperform. Our top picks – Axis Bank
(AXSB IN), ICICI Bank (ICICIBC IN) and Bank of Baroda (BOB IN) are predicated on cyclical
recovery and governance change.
Cyclical turnaround is positive for loan growth
GDP growth is expected to clock 6.5% in FY16 from ~4.5% in FY14. More importantly, the
new project announcements too seem to have bottomed around decadal lows and the
trend can only improve. We forecast system loan growth at 18% for FY15 and 19% for
FY16 (from sub-14% in FY14) or roughly a 3x (average of last 18 years) nominal-loans-to-
GDP multiplier.
Exhibit 132: Cyclical recovery to fuel loan growth
Source: Jefferies estimates, IMF
Exhibit 133: Pegging loan to GDP multiple on historical
avg.
Source: Jefferies estimates, RBI
Exhibit 134: Project announcements have bottomed
Source: Jefferies estimates, CMIE
6.5%
19%
10%
15%
20%
25%
30%
35%
40%
4%
5%
6%
7%
8%
9%
10%
Jan
-97
Jan
-98
Jan
-99
Jan
-00
Jan
-01
Jan
-02
Jan
-03
Jan
-04
Jan
-05
Jan
-06
Jan
-07
Jan
-08
Jan
-09
Jan
-10
Jan
-11
Jan
-12
Jan
-13
Jan
-14
Jan
-15
Jan
-16
Real GDP (% yoy) Loans (% yoy, RHS)
3.0x
1.0x
2.0x
3.0x
4.0x
5.0x
6.0x
7.0xJa
n-9
7
Jan
-98
Jan
-99
Jan
-00
Jan
-01
Jan
-02
Jan
-03
Jan
-04
Jan
-05
Jan
-06
Jan
-07
Jan
-08
Jan
-09
Jan
-10
Jan
-11
Jan
-12
Jan
-13
Jan
-14
Jan
-15
Jan
-16
Loan growth to Real GDP growth (x) Average (x)
-100%
-50%
0%
50%
100%
150%
-
5,000
10,000
15,000
20,000
25,000
Sep
-99
Mar-
00
Sep
-00
Mar-
01
Sep
-01
Mar-
02
Sep
-02
Mar-
03
Sep
-03
Mar-
04
Sep
-04
Mar-
05
Sep
-05
Mar-
06
Sep
-06
Mar-
07
Sep
-07
Mar-
08
Sep
-08
Mar-
09
Sep
-09
Mar-
10
Sep
-10
Mar-
11
Sep
-11
Mar-
12
Sep
-12
Mar-
13
Sep
-13
Mar-
14
New Announcements (Rs bn, rolling 4 qtrs) Growth (% yoy) - RHS
Equity Strategy
India
19 May 2014
page 42 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Governance change in SOE banks a must and massively
positive
With SOE banks controlling 70%+ of assets, not being able to lend owing to slender
capital is not an option, if India has to grow. Recapitalisation options are few and the
Government has to dilute its stake in favour of deeper pockets. As we have analysed in our
earlier reports and as suggested by a recent RBI Committee, the bank boards need to be
empowered, which should take them closer to private sector banks and lower the
corporate governance discount associated with SOE banks. And if required, the
government can even bring legislative changes easily, now that they have a majority in
the Lower House. SOE Banks trade at a massive discount to their private sector peers and
to that extent, they can materially outperform the broader sector.
Interest rates to come off in the medium term
Notwithstanding the near-term risk from weaker monsoons and higher food prices, we
believe interest rates should be much lower over the medium term. This will further
enable consumption and drive the investment cycle. In the near term, though, we do not
expect any significant rate cuts.
As shown in the following exhibit, the spread of lending rate to AAA-rated corporate over
the real GDP growth is significantly high, almost akin to an overheated economy, which is
certainly not the case. This therefore suggests interest rates have significant room for
correction over the medium term.
Exhibit 135: Interest rates significantly higher than real GDP growth
Source: Jefferies, RBI
Asset quality to improve
On the back of economic pickup and lower interest rates, corporate interest burden
should reduce and profitability should improve, creating a cyclical tailwind for banks’
asset quality. More importantly, banks’ true equity book discounts the current NPAs and
slippages from restructured assets. A cyclical recovery will not only lower impaired assets,
but lower the book value adjustments.
Current consensus suggests pick up in sector margin and RoEs
The current consensus numbers already build in an improvement in corporate margin
and profitability across some of the stressed sectors – we view this as positive for asset
quality in the medium term.
-6.0%
-4.0%
-2.0%
0.0%
2.0%
4.0%
6.0%
Sep
-04
Jan
-05
May-
05
Sep
-05
Jan
-06
May-
06
Sep
-06
Jan
-07
May-
07
Sep
-07
Jan
-08
May-
08
Sep
-08
Jan
-09
May-
09
Sep
-09
Jan
-10
May-
10
Sep
-10
Jan
-11
May-
11
Sep
-11
Jan
-12
May-
12
Sep
-12
Jan
-13
May-
13
Sep
-13
1 year borrowing rate (AAA corporate) less GDP growth
Equity Strategy
India
19 May 2014
page 43 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 136: Margins picking up – Industrials
Source: Jefferies estimates, Factset
Exhibit 137: Profitability picking up – Industrials
Source: Jefferies estimates, Factset
Exhibit 138: Margins picking up – Materials
Source: Jefferies estimates, Factset
Exhibit 139: Profitability picking up – Materials
Source: Jefferies estimates, Factset
Exhibit 140: Margins picking up – Utilities
Source: Jefferies estimates, Factset
Exhibit 141: Profitability picking up – Utilities
Source: Jefferies estimates, Factset
0
2
4
6
8
10
12
14
16 Industrials PBT Margins (%)
0
5
10
15
20
25Industrials RoE (%)
0
5
10
15
20
25
30 Materials PBT Margins (%)
0
5
10
15
20
25
30
35
40 Materials RoE (%)
0
5
10
15
20
25 Utilities PBT Margins (%)
0
2
4
6
8
10
12
14 Utilities RoE (%)
Equity Strategy
India
19 May 2014
page 44 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 142: Falling corporate leverage should help impaired assets
Source: Jefferies estimates, company data
The adjustments to the book value to lower
The true book value of the banks has undergone significant erosion from the rising NPA
levels and the worries stemming from slippages from restructured assets. While this is the
right way to approach the asset quality issues, it is important to be cognizant that an
improvement in cycle will lower impairment ratios considerably and therefore the growth
in adjusted book value could exceed the growth in reported book value.
Exhibit 143: Impaired assets as % of Equity – historical perspective
Source: Jefferies estimates, company data
Exhibit 144: Restructuring in SOE Banks
Source: Jefferies estimates, Factset
Exhibit 145: Restructuring in Old Pvt Banks
Source: Jefferies estimates, Factset
2.0%
4.5%
7.0%
9.5%
12.0%
14.5%
17.0%
1.0x
1.1x
1.2x
1.3x
1.4x
1.5x
1.6x
FY97 FY98 FY99 FY00 FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13
correlation = 95% (with a years lag)
Leverage (x) Impaired assets - RHS
96.0%89.4%
70.9%
56.2%
37.7%32.2%
26.4%
39.3%
52.1%46.3%
59.2%
71.4%
Mar-02 Mar-03 Mar-04 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09 Mar-10 Mar-11 Mar-12 Mar-13
Gross NPA Std RA GNPA+Std RA
105.7%
93.7%
76.8%
65.8%
46.3%39.5%
34.4%
51.5%
77.2%70.4%
90.2%
111.8%
Gross NPA Std RA GNPA+Std RA
106.2%
92.6%
79.5%
66.1%
45.4%
34.3%25.6%
41.7%45.5%38.4%
44.6%48.9%
Gross NPA Std RA GNPA+Std RA
Equity Strategy
India
19 May 2014
page 45 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 146: Restructuring in Private Banks
Source: Jefferies estimates, Factset
Exhibit 147: Restructuring in Foreign Banks
Source: Jefferies estimates, Factset
Exhibit 148: Impaired assets as % of common equity (as of Q3FY14)
Source: Jefferies estimates, company data
Exhibit 149: Adjusted book value* is less than 50% of reported book, on average (as of Q3FY14)
Source: Jefferies estimates, company data *assuming 100% of net NPA and 30% of restructured assets are adjusted
106.8%
137.9%
84.8%
46.7%
27.1%27.6%21.0%25.9%21.0%15.6%16.1%15.5%
Gross NPA Std RA GNPA+Std RA
26.5%
22.2%21.2%
12.5%
8.9%7.4%
6.3%
14.2%
11.4%
6.6% 6.9% 7.8%
Gross NPA Std RA GNPA+Std RA
239.0%
214.4%
185.0%
159.0%
123.6%123.2%120.3%119.0%114.3%108.9%106.2% 98.4% 97.9% 91.1% 89.1% 86.4% 85.8% 82.5% 78.0% 70.3%
26.1%
UNTDB CBOI UCO ANDB DBNK ALBK BOMH IOB PNB SNDB VJYBK OBC INBK CRPBK UNBK IDBI CBK BOI BOB SBIN JKBK
Net NPA NOSRA
-68.1%
3.9%12.5%
23.0%32.2% 38.7% 41.6% 47.7% 48.7% 50.9% 51.4% 52.0% 53.7% 54.4% 55.0% 56.7% 57.9% 58.4% 59.5% 63.6%
91.0%
-40%
-20%
0%
20%
40%
60%
80%
100%
UNTDB CBOI UCO ANDB ALBK IOB BOMH PNB DBNK OBC VJYBK SNDB UNBK CRPBK SBIN INBK CBK IDBI BOI BOB JKBK
Adj. BV Adjustments
Equity Strategy
India
19 May 2014
page 46 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Valuation – ample support for SOE Banks
We believe valuation, especially at SOE banks (on reported book value basis) to be terribly
cheap and at a large discount to their private bank peers. In the medium term, we expect
the valuation gap to come off in line with the last cycle seen between 2003-08.
Exhibit 150: SOE Banks trading at a large price-to-book discount to Private Banks
Source: Jefferies estimates, company data
Exhibit 151: CNXBANK index trading marginally above historical price-to-
earnings discount with the broader market (NIFTY)
Source: Jefferies estimates, Bloomberg
Exhibit 152: Price-to-book versus RoE (coverage)
Source: Jefferies estimates
Exhibit 153: Price-to-earnings versus EPS growth
(coverage)
Source: Jefferies estimates
40%60%80%
100%120%140%160%180%200%220%240%260%280%
Ap
r-0
6
Jul-
06
Oct
-06
Jan
-07
Ap
r-0
7
Jul-
07
Oct
-07
Jan
-08
Ap
r-0
8
Jul-
08
Oct
-08
Jan
-09
Ap
r-0
9
Jul-
09
Oct
-09
Jan
-10
Ap
r-1
0
Jul-
10
Oct
-10
Jan
-11
Ap
r-1
1
Jul-
11
Oct
-11
Jan
-12
Ap
r-1
2
Jul-
12
Oct
-12
Jan
-13
Ap
r-1
3
Jul-
13
Oct
-13
Jan
-14
Ap
r-1
4
P/B discount for SOE Banks versus Private Banks
-17.5%
-7.1%
-27.9%
-50%
-40%
-30%
-20%
-10%
0%
Jan
06
Ap
r 0
6Ju
l 0
6O
ct 0
6Ja
n 0
7A
pr
07
Jul
07
Oct
07
Jan
08
Ap
r 0
8Ju
l 0
8O
ct 0
8Ja
n 0
9A
pr
09
Jul
09
Oct
09
Jan
10
Ap
r 1
0Ju
l 1
0O
ct 1
0Ja
n 1
1A
pr
11
Jul
11
Oct
11
Jan
12
Ap
r 1
2Ju
l 1
2O
ct 1
2Ja
n 1
3A
pr
13
Jul
13
Oct
13
Jan
14
Ap
r 1
4Discount Average +1 sd -1 sd
AXSB
HDFCB
ICICIBC
IIB
KMB-P
KMB-C
BOBPNB
SBIN-P
SBIN-C HDFC
0.0
1.0
2.0
3.0
4.0
5.0
6.0
10.0 15.0 20.0 25.0
Pri
ce
to
bo
ok
(F
Y1
5,
x)
Average RoE FY15-16 (%)
AXSB
HDFCBICICIBC
IIB
KMB-P
KMB-C
BOB
PNB
SBIN-P
SBIN-C
HDFC
0.0
5.0
10.0
15.0
20.0
25.0
30.0
35.0
40.0
10.0% 15.0% 20.0% 25.0% 30.0% 35.0% 40.0%
Pri
ce
to
ea
rnin
gs
(x)
EPS CAGR (FY14-16)
Equity Strategy
India
19 May 2014
page 47 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Industrials – From Announcements to Orders to Execution… The binary event of May 2014 has positively surprised with a complete NDA
majority. Slow decision-making and lower access to equity markets have held
up progress in the industrials/utility sectors for the last five years. We believe
rising corporate confidence will lead to announcements, which are at a multi-
year low, picking up over the next 12 months. We believe L&T, NTPC,
Cummins, Power Grid and Tata Power still offer upside.
Project announcements need little to pick up from multi-year lows: New
project announcements are down by 20% YoY in FY14. In absolute terms,
announcements are as low as 2002-2004 levels, and at levels in the '90’s, inflation
adjusted. Corporates have been waiting in the wings for a decisive election, to go ahead
with plans on the drawing board. As highlighted in our strategy report dated 16th May
2014 (‚What Next? 7. Modinomics‛), companies are likely to tap financial markets till
markets remain buoyant, boosting project announcements from them.
CCI project clearances could lead to execution pick-up as corporate
confidence returns: The government set up a Cabinet Committee on Investment (CCI)
and Project Monitoring Group (PMG) to fast-track clearances for stalled projects above
Rs10 bn. The PMG, headed by Anil Swarup, accepted 300+ projects with investment
value of Rs18trn for review. Over the last 12 months, CCI has cleared 100+ projects
valued at over Rs5 trn. CCI had indicated that the project execution of cleared projects
would be impacted by viability questions in case of a fractured mandate post elections.
Given the strong election result, we have factored some pick-up in execution on the
ground in our estimates over the next 18-24 months.
Power sector reforms expected to emerge strongly: Enough noise has been made
about the ailing power sector, especially private sector enterprises that are facing
substantial losses. We believe reforms, especially on tariff hike and SEB restructuring,
which are already underway, will be expedited. As power demand sees gradual recovery,
and deficit levels move up, over the next 12 months, we believe focus on this sector will
remain strong.
Stock S'election' the key for returns (Exhibit 1-2): Cyclical recovery is reflected in
our earnings expectations for companies, as we raise execution and growth assumptions
to reflect a more positive execution environment. However, we believe one should prefer
companies that will deliver earnings in-line or better than expectations (L&T, NTPC,
Cummins, Powergrid and Tata Power) and avoid companies where the run-up factors in
more than their fair share of recovery (Crompton Greaves, Voltas, Thermax, ABB, Adani
Port).
Equity Strategy
India
19 May 2014
page 48 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 154: Valuation Snapshot
Ticker Company Mkt. Cap. Reco CMP Target Price VOI Upside P/E (x) P/B (x)
(USD mn) (Rs) (Rs/shr) (Rs/shr) (%) FY14E FY15E FY16E FY14E FY15E FY16E
Nifty stocks
NTPC IN NTPC 18,392 BUY 132 150 14 10.0 12.0 11.2 1.3 1.2 1.1
LT IN L&T 22,518 BUY 1,426 1,640 443 15 20.6 18.8 16.4 2.8 2.6 2.3
BHEL IN BHEL 9,608 UP 232 185 (20) 19.1 23.8 26.3 1.8 1.7 1.6
PWGR IN Power Grid 10,583 BUY 119 150 26 13.9 12.0 10.3 1.9 1.7 1.6
TPWR IN Tata Power 4,155 BUY 91 105 16 30.8 14.8 13.6 2.0 2.1 1.8
Mkt Cap > USD1 bn
ADSEZ IN Adani Port 7,948 UP 225 180 26 (20) 21.2 19.2 17.9 4.4 3.6 3.1
SIEM IN Siemens 4,996 HOLD 828 730 (12) 81.4 69.2 58.9 7.1 6.8 6.5
ABB IN ABB 3,153 UP 878 650 (26) 105.0 84.9 57.3 6.9 6.6 6.1
KKC IN Cummins 2,653 BUY 565 670 19 26.2 24.9 21.3 6.1 5.6 5.1
CRG IN Crompton 1,818 UP 171 130 10 (24) 35.0 21.8 16.1 2.8 2.6 2.3
TMX IN Thermax 1,638 UP 811 650 (20) 34.6 27.3 22.4 4.8 4.3 3.7
VOLT IN Voltas 1,002 UP 179 140 (22) 29.5 24.0 19.2 3.3 3.0 2.7
Source: Jefferies estimates, company data
Exhibit 155: Estimate Changes (Rs)
Ticker Company New TP Old TP Chg (%) New EPS estimate Old EPS estimates EPS estimate chg
(%)
TP Basis (new v/s old)
FY14E FY15E FY16E FY14E FY15E FY16E FY14E FY15E FY16E
NTPC IN NTPC 150 140 6.6 13.2 11.0 11.8 12.7 11.5 12.3 4.2 -4.6 -4.3 1.3x P/B FY16E v/s 1.2x P/B FY16E earlier, earnings
changes post 4QFY14 driven by other inc, not EBITDA
LT IN L&T 1,640 1,415 15.9 47.6 52.4 59.9 47.6 52.4 57.2 0.0 0.0 4.7 20x P/E FY16E v/s 17x FY16E earlier
BHEL IN BHEL 185 160 15.8 12.1 9.7 8.8 12.1 9.7 8.8 0.0 0.0 0.0 Lower COE and working capital assumptions
PWGR IN Power Grid 150 135 11.1 8.6 9.9 11.5 8.6 9.9 11.5 0.0 0.0 0.0 2.0x P/B FY16E v/s 1.8x FY16E earlier
TPWR IN Tata Power 105 100 4.9 2.9 6.1 6.7 3.4 7.0 7.6 -12.3 -12.3 -12.3 Lower COE assumptions; EPS change due to rights
completion done in April 2014
ADSEZ IN Adani Port 180 160 12.0 9.4 10.3 11.1 9.8 10.4 11.3 9.1 5.6 6.1 Lower COE assumptions; higher other income post
4QFY14 results
SIEM IN Siemens 730 610 19.6 10.2 12.0 14.1 10.1 12.0 13.3 0.4 -0.4 6.0 2x EV/sales FY16E v/s 1.5x EV/sales FY16E earlier
ABB IN ABB 650 570 14.0 8.4 10.3 15.3 8.4 10.3 13.1 0.0 0.0 16.7 4.5x P/B FY16E v/s 4x P/B FY16E earlier
KKC IN Cummins 670 620 8.0 21.6 22.7 26.5 21.6 24.0 26.3 0.0 -5.6 0.8 6x P/B FY16E v/s 5.5x P/B FY16E earlier
CRG IN Crompton 130 100 30.1 4.6 7.4 10.0 4.6 7.4 9.1 0.0 0.0 10.2 12x P/E FY16E v/s 10x FY16E earlier
TMX IN Thermax 650 510 27.5 23.4 29.7 36.1 23.4 29.7 31.9 0.0 0.0 13.3 18x P/E FY16E v/s 16x FY16E earlier
VOLT IN Voltas 140 100 39.8 6.1 7.5 9.3 6.1 7.5 8.3 0.0 0.0 12.8 15x P/E FY16E v/s 12x FY16E earlier
Source: Jefferies estimates, company data
Equity Strategy
India
19 May 2014
page 49 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Ownership and Valuation Patterns…
Slow decision-making, bureaucracy and lower access to equity markets has held up
progress in the industrials/utility sectors for the last 5 years. Earnings growth has dropped
dramatically, with some companies seeing 70%+ declines in earnings from peak levels.
This was reflected in valuations seeing a sharp correction. As expected, this trend was also
mirrored in ownership levels. Interestingly, since September 2013, both ownership levels
and valuations have moved upwards in anticipation of a good election result, reflecting in
capex cycle recovery. Going forward, we remain stock specific as we believe company-
specific earnings will begin to dominate over the basket trade at some point.
Exhibit 156: Industrials 12-month Forward PE valuation
Source: Jefferies estimates, company data
Exhibit 157: Utilities 12-month Forward PE valuation
Source: Jefferies estimates, company data
Exhibit 158: Institutional Holdings in Industrials
Source: Jefferies estimates, company data
Exhibit 159: Institutional Holdings in Utilities
Source: Jefferies estimates, company data
0
5
10
15
20
25
30
35
40
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
Industrials 12M Fwd PE Avg.
0
5
10
15
20
25
30
35
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
Utilities 12M Fwd PE Avg.
10
15
20
25
30
35
10
12
14
16
18
20
22
24
26
28
Equity Strategy
India
19 May 2014
page 50 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Excerpts from report dated 13th March 2014, ‚S'election' the Key….‛
Gujarat has clearly progressed on infrastructure (Exhibit 7): The prospect of
Narendra Modi coming in with a majority at the centre has excited markets. Data on
development in Gujarat vs. the rest of India supports this enthusiasm. However, we
believe the speed of any such progress is being overestimated. Even in Gujarat, the State
Electricity Boards (SEBs) turned around only post FY05-06 i.e. nearly 5 years after Modi
became Chief Minister. Relatively, ports and power have seen a bigger thrust compared to
roads. It is also important to note that growth accelerated only post his first 5 years in
power, and did not start at express rates from Day 1.
Proportion of commissioned assets very critical: Given the prolonged nature of the
downturn from FY08-14E, we analysed companies on 6 parameters, to find out where
business models may be permanently damaged. Gross debt:equity, interest coverage,
cash conversion, asset basket, execution and corporate governance were the metrics we
tracked. Of these, we believe the asset basket, which reflects the proportion of operational
assets to overall asset portfolio, is very critical. This is important, as any uptick in the
economy or equity markets will benefit companies with low asset utilisation, and where
projects under implementation can be executed with some help from secondary markets.
Industrials – cyclical basket, close to top end of early valuation re-rating, in
context of previous cycle: In FY03, just before the beginning of the previous economic
recovery cycle, 1-year forward P/B valuations nearly doubled and then stabilised/dropped
for 9-12 months before their next move. We used P/B for our analysis as it removes the
noise of volatile earnings and estimates. In the last 6 months, the valuations of L&T,
Thermax, Crompton Greaves, Voltas and ABB have clearly performed this move already.
Hence, within industrials we are positive on L&T and Cummins, where earnings should
follow through, and remain cautious on the rest, where valuations capture a fair share of
the potential economic recovery.
Exhibit 160: infrastructure growth in Gujarat vs. India during the term of Narendra Modi as CM of Gujarat
2002 2008 2013 CAGR 02-08 CAGR 08-13 CAGR 02-13
GDP (USD bn)
India 412 649 914 7.9 7.1 7.5
Gujarat 25 47 72 11.0 8.9 10.0
Ports (mnt)
India 459 532 745 2.5 7.0 4.5
Gujarat 199 261 459 4.6 12.0 7.9
Power (GW)
India 103 143 223 5.6 9.3 7.3
Gujarat 9 11 26 4.3 18.7 10.6
Roads (mn km)
India 1.4 1.7 2.8 2.6 10.4 6.1
Gujarat 0.1 0.1 0.2 0.4 2.6 1.4
Source: Jefferies estimates, Government websites, CMIE
Exhibit 161: P/B valuation for Industrial goods companies
PB Chg (%)
Aug-13 Mar-14 Aug-03 Mar-04 Aug 2013-March2014 Aug 2003-March 2004
L&T 1.3 2.5 2.3 4.3 96 89
BHEL 0.9 1.4 1.2 2.6 61 120
Adani Port 2.1 3.1 N/A N/A 47 N/A
ABB 3.5 5.8 2.4 3.9 66 67
Siemens 3.7 5.6 2.1 5.1 54 148
Cummins 3.9 5.1 2.3 3.0 31 31
Crompton Greaves 1.3 2.3 1.1 2.0 81 91
Thermax 3.1 4.0 1.5 2.2 30 44
Voltas 1.2 2.4 1.3 1.7 101 35
Source: Jefferies estimates, company data
Equity Strategy
India
19 May 2014
page 51 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 162: Scorecard of Industrial and Utility companies; Implications of last column - companies with a green circle
are financially healthy with strong business models despite downturn. Blank circles would need asset sales or equity
fund raising to get back into shape. Red circles would need a haircut on debt from bankers to survive.
Company Gross D:E Interest
Coverage
Cash
Conversion Asset Basket Execution
Corporate
Governance
Cumulative
Score
NTPC
Power Grid
Tata Power
Reliance
Power
Adani Power
JSW Energy
JP Power
NHPC
IRB
ITNL
IVRCL
Nagarjuna
Construction
Sadbhav
Engineering
Gammon
Infra
Simplex
Infrastructure
Adani Ports
Gujarat
Pipavav
Essar Ports
Marg
Construction
L&T
Reliance Infra
JaiPrakash
Associates
Adani
Enterprises
GMR
GVK
Source: Jefferies, company data; Cumulative score – 0-20 red and 25-40 green
Equity Strategy
India
19 May 2014
page 52 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 163: Parameters considered for Scorecard
Gross debt:equity
(x)
Net debt:equity
(x)
Interest
coverage
ratio (x)
Conversion Ratio
FY12 FY13 FY12 FY13 FY12 FY13 FY12 FY13
Power
NTPC 0.7 0.7 0.4 0.5 7.7 8.1 19 22
Power Grid 2.3 2.6 2.2 2.5 3.2 3.2 58 59
Tata Power 3.0 3.5 2.6 3.3 2.4 1.8 8 9
Reliance Power 0.8 1.4 0.7 1.2 4.2 3.0 49 26
Adani Power 6.0 8.8 5.4 8.4 1.0 -0.1 7 -15
JSW Energy 1.6 1.5 1.5 1.4 1.5 2.4 13 19
JP Power 2.9 3.2 2.7 3.1 1.5 1.3 39 30
NHPC 0.6 0.6 0.4 0.3 8.5 7.2 58 57
Road
IRB Infra 2.4 2.4 1.8 2.0 2.2 2.1 25 27
ITNL 3.3 3.6 3.2 3.4 2.1 1.7 10 9
IVRCL 2.0 2.3 1.9 2.2 0.8 0.5 1 -1
NCC 1.8 1.3 1.7 1.2 1.1 1.2 5 4
Sadbhav Engg 2.9 3.7 2.7 3.6 2.3 0.9 7 6
Gammon Infrastructure
Projects
4.3 5.2 4.0 5.1 0.9 1.1 13 27
Simplex Infrastructure 1.7 2.0 1.7 2.0 1.6 1.3 3 3
Ports
Adani Ports 3.6 1.8 3.4 1.7 4.1 4.0 63 62
Gujarat Pipavav Port - Dec
Y/E*
0.8 0.3 0.8 0.2 1.7 2.1 29 31
Essar Ports 2.3 1.9 2.2 1.8 1.6 1.8 40 40
Marg Construction 6.8 14.0 6.5 13.5 1.8 0.3 5 24
* taken standalone
numbers
Conglomerates
L&T 1.6 1.8 1.2 1.5 7.3 4.4 10 9
Reliance Infrastructure 0.7 0.8 0.6 0.7 2.4 2.1 11 16
JaiPrakash Associates 4.0 4.4 3.7 4.2 1.5 1.2 11 10
Adani Enterprises 3.4 2.9 3.0 2.5 2.4 1.3 8 7
GMR Infrastructure 4.3 5.0 3.7 4.3 0.6 0.8 5 6
GVK Power 4.0 5.4 3.4 4.7 1.1 0.6 12 1
Source: Jefferies, company data
Equity Strategy
India
19 May 2014
page 53 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 164: Asset Basket of the companies (%)
Commissioned Under implementation for FY14E-18E (5
years)
Planned for
future
Power
NTPC 39 29 32
Power Grid 37 42 21
Tata Power 68 15 17
Reliance Power 12 65 23
Adani Power 87 13 0
JSW Energy 26 46 28
JP Power 18 25 57
NHPC 13 17 70
Road
IRB Infra 52 48 0
ITNL 33 43 24
IVRCL 23 77 0
NCC 27 73 0
Sadbhav Engg 55 45 0
Gammon Infrastructure Projects 35 39 26
Simplex Infrastructure 0 100 0
Ports
Adani Ports 70 15 15
Gujarat Pipavav Port - Dec Y/E* 53 32 15
Essar Ports 39 20 42
Marg Construction 24 76 0
Conglomerates
L&T 29 71 0
Reliance Infrastructure 26 61 13
JaiPrakash Associates 21 18 61
Adani Enterprises 81 16 3
GMR Infrastructure 41 32 27
GVK Power 19 74 7
Source: Jefferies, company data
Equity Strategy
India
19 May 2014
page 54 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Autos – Poised for recovery The auto industry has gone through one its worst periods of demand. We
expect sharp cyclical recovery in all segments, though truck demand could
grow the most, followed by cars and then two-wheelers. History suggests two-
wheelers will recover earlier than cars. Competitive dynamics across the space
have worsened through the slowdown and could remain a headwind, except
in small cars. Valuations are comfortable but not cheap. We like Maruti,
Mahindra and Hero.
Two-wheelers most stable but could still accelerate: As is to be expected, two-
wheeler demand has eased but not collapsed. However, recent growth rates have been
lower than trend and will likely recover along with rest of the economy. Two-wheelers
will also likely be the first segment to recover. We forecast two-wheeler demand to grow
9.5% in FY15E and 11.3% in FY16E. Scooters will likely continue to outpace motorcycles,
though by smaller margins. While the acceleration to growth may not be immense, its
impact on pricing and margins can be more meaningful. Competitive environment in the
industry has been as severe as it ever has been with Honda consistently gaining share,
primarily at the expense of Bajaj but marginally at the expense of Hero as well. Hero
remains our preferred stock in the segment as it is better positioned in the domestic
market and has margin levers.
Passenger vehicles have seen the longest slowdown: PV demand has remained flat
over the last 3 years and has undergone its longest period of slowdown. Urban demand
has been weaker than rural demand, small cars worse than large cars and UVs, diesels
have outperformed petrol over this period. Some of this is reversing but the total demand
is still weak. We forecast PV demand to grow 8% in FY15E and 20% in FY16E. Competitive
dynamics have eased marginally in small cars and will likely be benign over the next 2-3
years while competition in sedans and UVs is likely to intensify. Maruti is our preferred
stock in the segment as it is best poised to benefit from recovery in small petrol car
demand off a very low base.
Commercial vehicles have seen the sharpest slowdown: On a capacity added basis
(tonnage), the CV market has declined 42% in FY12-14 period, the sharpest in recent
memory. Truck operators' profitability remains weak as utilization levels are low.
However, this could recover sharply as industrial activity picks up, which is our base case
over the next 2 years. We forecast domestic CV industry to grow 8.1% in FY15E and 22%
in FY16E, with the sharpest pick up forecast in medium and heavy trucks (c30% growth in
FY16E). Ideally, such a sharp pickup in demand should lead to margins expanding to close
to previous peaks. We think the increase in competitive intensity, with the aggression seen
from Mahindra, Eicher-Volvo, Bharat Benz, would prevent such an outcome. We therefore
remain neutral on this space.
Tractor demand strong and could remain okay in near-term: We have long
argued that the Indian tractor market is too large to sustain, an argument that still holds
valid for us in the medium term. However, in the short-term, the industry will likely grow
7% pa in FY14-16E as it benefits from recovery in construction activity. Overall, our view
on autos is neutral as the sector hasn’t seen as much of a de-rating as other domestic
cyclicals have.
Equity Strategy
India
19 May 2014
page 55 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 165: LT growth trends in autos– truck demand could grow the most, followed by cars and then two-wheelers
Source: Jefferies, company data, CMIE
Exhibit 166: Long term demand trend in PVs ('000 units)
Source: Jefferies, company data, CMIE
Exhibit 167: UV as % of the PV market
Source: Jefferies, company data, CMIE
-60%
-40%
-20%
0%
20%
40%
60%
FY93 FY95 FY97 FY99 FY01 FY03 FY05 FY07 FY09 FY11 FY13 FY15E
2-w PVs Trucks Tractors
0
500
1,000
1,500
2,000
2,500
3,000
3,500
FY92 FY94 FY96 FY98 FY00 FY02 FY04 FY06 FY08 FY10 FY12 FY14 FY16E
0%
5%
10%
15%
20%
25%
FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14
UV as % of PV
Small cars have performed worse
than large cars and UVs, and diesels
have outperformed petrol
PV demand has remained flat over
the last 3 years and has undergone
its longest period of slowdown
Equity Strategy
India
19 May 2014
page 56 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 168: Market share trend in PVs
Source: Jefferies, company data, CMIE
Exhibit 169: Two-wheeler long term demand trend
Source: Jefferies, company data
Exhibit 170: Market share trends in two-wheelers
Source: Jefferies, company data
0%
10%
20%
30%
40%
50%
60%
FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14
Maruti M&M
0
2
4
6
8
10
12
14
16
18
20
FY92 FY94 FY96 FY98 FY00 FY02 FY04 FY06 FY08 FY10 FY12 FY14 FY16E
(mn units)
0%
10%
20%
30%
40%
50%
60%
FY02 FY04 FY06 FY08 FY10 FY12 FY14
Bajaj Hero Honda
Honda has gained share, primarily at
the expense of Bajaj but marginally
at the expense of Hero as well
Recent growth rates have been lower
than trend and will likely recover
along with rest of the economy
Maruti is our preferred stock in the
segment as it is best poised to
benefit from recovery in small petrol
car demand off a very low base
Equity Strategy
India
19 May 2014
page 57 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 171: Scooters as % of two-wheelers
Source: Jefferies, company data, CMIE
Exhibit 172: Long term growth in CV tonnage (‘000 MT)
Source: Jefferies, company data, CMIE
Exhibit 173: Market share trends in CVs
Source: Jefferies, company data, CMIE
0%
5%
10%
15%
20%
25%
30%
FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14
Scooter as % of TW
0
500
1000
1500
2000
2500
3000
3500
4000
4500
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014
0%
10%
20%
30%
40%
50%
60%
70%
FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14
AL TTMT
Scooters will likely continue to
outpace motorcycles, though by
smaller margins
On a capacity added basis (tonnage),
the CV market has declined 42% in
FY12-14 period, the sharpest in
recent memory
Increase in competitive intensity in
CVs could prevent the typical
improvement in profitability
associated with a demand recovery
Equity Strategy
India
19 May 2014
page 58 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 174: Tractor demand trends (units)
Source: Jefferies, company data
Exhibit 175: Competitive intensity in PVs (HHI Index)
Source: Jefferies, company data, CMIE
Exhibit 176: Competitive intensity in two-wheelers (HHI Index)
Source: Jefferies, company data, CMIE
-
100,000
200,000
300,000
400,000
500,000
600,000
700,000
800,000
-
0.05
0.10
0.15
0.20
0.25
0.30
0.35
FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14
PV HH
0.23
0.24
0.25
0.26
0.27
0.28
0.29
0.30
0.31
0.32
FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14
TW HH
In the short-term, the tractor
industry will likely grow 7% pa in
FY14-16E as it benefits from recovery
in construction activity
Competitive dynamics have eased
marginally in small cars and will
likely be benign over the next 2-3
years while competition in sedans
and UVs is likely to intensify
Competitive environment in the
industry has been as severe as it ever
has been with Honda consistently
gaining share
Equity Strategy
India
19 May 2014
page 59 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Energy: Reforms to Continue, Faster Decision-Making in E&P We expect election impact to be positive for oil & gas sector as reforms that
are underway, such as diesel subsidy elimination and gas price hike, are likely
to continue and decision-making, particularly in E&P, is likely to be
expedited. While not our base case, the real boost would come if the new
government were to take up more bold steps such as full elimination of fuel
subsidy or privatisation of PSUs. ONGC remains our top pick followed by
Reliance.
Fuel subsidy reforms to continue - Elimination of diesel subsidies by FY16. We
expect fuel subsidy reforms which have been going on over the past 18 months to
continue under the new BJP government. The policy of small diesel price hikes of Rs0.5
per liter is likely to be continued given its acceptability and success so far. This should lead
to elimination of diesel subsidy by FY16, reducing the overall fuel subsidy burden to
Rs750-800bn, from Rs1,610bn in FY13. Upstream and oil marketing companies which
bear a part of the fuel subsidy burden should be the key beneficiaries.
Gas price hike likely to go through post elections. We expect the gas price hike to
go through under the new government. Although some members of the BJP have
indicated the possibility of a review in the Rangarajan formula, we believe there is little
downside risk to our base case assumption of US$5.7/mmbtu to ONGC and Oil India and
US$8 to Reliance vs US$4.2 currently. We believe ONGC and Oil India would be the
biggest beneficiaries of the gas price hike followed by Reliance.
Expect faster decision making on key E&P issues. A number of key decisions are
pending in the E&P sector such as policy on PSC extension, resolution of DST issues,
approvals for budgets and investment proposals, new PSC model for future NELP rounds.
We expect decision making on these and other issues to be expedited under the new
government. Cairn India and Reliance are likely to be the key beneficiaries if the new
government delivers.
What more could the new government do? While not our base case, the new
government could potentially do more to boost the oil & gas sector such as: 1) deregulate
LPG and kerosene over time to fully eliminate fuel subsidies, 2) privatisation of oil PSUs,
particularly some of the oil marketing companies; 3) roll-out of city gas distribution across
more cities in India; 4) work towards improving gas availability and infrastructure in the
country in the near and long term; 5) improve production efficiency of the public sector
upstream companies
ONGC our top pick; Downgrade GAIL to Hold. ONGC remains our top pick in the
sector, as we expect it to be one of the biggest beneficiaries of reforms in the sector and
valuations are still relatively attractive. We prefer BPCL amongst OMCs, although we note
that it has already moved up 59% YTD. We prefer Reliance over Cairn among the private
sector companies. We downgrade GAIL to Hold as we see limited upside from current
levels given the many uncertainties for the stock.
Equity Strategy
India
19 May 2014
page 60 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Chart 1: We expect complete elimination of diesel subsidy by FY16E
Source: Jefferies estimates, company data
Table 1: Calculation of domestic natural gas price based on Rangarajan formula Benchmark Price (US$/mmbtu) Wt. (%) Comments
Henry Hub 3.7 20 Based on CY13 actual price data
NBP 10.6 27 Based on CY13 actual price data
Japan imports netback price 9.5 3 Assuming cif price of US$14/mmbtu
Rasgas LNG - netback price 8.5 29 Based on CY13 actual price data
Other LNG imports to India - netback price 10.0 21 Assuming cif price of US$14/mmbtu
Domestic gas price 8.4 100
Scenarios
Domestic gas price assuming price of other Indian imports at US$15/mmbtu 8.6
Domestic gas price assuming price of other Indian imports at US$13/mmbtu 8.2
Source: Jefferies estimates, Bloomberg
Table 2: Sector Valuation P/E P/B ROE (%)
Company BB
Ticker
Mktcap
(US$bn)
Shares o/s
(mn)
Rating TP (Rs) CMP
(Rs)
FY14E FY15E FY16E FY14E FY15E FY16E Div yield
(%)
FY14E FY15E FY16E
ONGC ONGC IN 55.7 8,555 Buy 440 384 13.2 10.2 9.6 2.2 2.0 1.7 2.5 14.8 17.1 16.3
Oil India OINL IN 5.8 601 Buy 670 567 10.2 8.8 8.0 1.8 1.6 1.4 3.2 15.7 16.3 16.1
BPCL BPCL IN 6.8 723 Hold 560 552 13.9 12.0 n/a 2.4 2.2 1.9 2.3 15.5 16.1 14.7
Reliance Industries RIL IN 59.1 3,231 Buy 1,236 1,079 15.5 13.6 13.8 1.9 1.8 1.6 0.9 11.3 11.5 10.4
Cairn India CAIR IN 11.0 1,910 Hold 370 341 5.5 6.4 6.5 1.4 1.1 1.0 3.7 20.7 15.7 13.6
GAIL GAIL IN 8.8 1,268 Hold 410 410 10.2 10.6 10.0 1.8 1.6 1.5 2.8 15.8 13.8 13.3
Indraprastha Gas IGL IN 0.7 140 Buy 371 315 11.4 9.9 8.6 3.0 2.5 2.1 1.9 21.6 20.9 20.2
PLNG PLNG IN 1.8 750 Hold 134 141 14.8 14.1 10.3 2.4 2.1 1.9 1.4 14.3 13.6 16.1
Source: Jefferies estimates, company data, closing prices as of 16 May 2014
0
400
800
1,200
1,600
2,000
FY13 FY14 FY15E FY16E
Under-recovery (Rs bn) in Kerosene Domestic LPG Diesel
Equity Strategy
India
19 May 2014
page 61 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Key Changes
Table 3: Changes in Rating/Target price/EPS estimates (Rs) New New New EPS Old Old Old EPS % change EPS
Company Rating TP FY14E FY15E FY16E Rating PT FY14E FY15E FY16E TP FY14E FY15E FY16E
ONGC Buy 440 29.2 37.6 40.0 Buy 355 30.0 37.3 39.5 24 (3) 1 1
Oil India Buy 670 55.7 64.4 70.5 Buy 580 55.7 64.4 70.5 16 - - -
BPCL Hold 560 39.6 45.9 46.0 Hold 400 24.9 25.2 n/a 40 59 82 n/a
Reliance Industries Buy 1,236 69.6 79.1 78.2 Buy 1,124 69.6 79.1 78.2 10 - - -
Cairn India Hold 370 62.2 53.6 52.2 Hold 370 62.2 53.6 52.2 - - - -
GAIL Hold 410 40.2 38.6 41.0 Buy 388 40.2 38.6 41.0 6 - - -
Indraprastha Gas Buy 371 27.5 31.7 36.5 Buy 333 27.5 31.7 36.5 11 0 0 0
Petronet LNG Hold 134 9.5 10.0 13.6 Hold 134 9.5 10.0 13.6 - - - -
Source: Jefferies estimates, company data
Table 4: Key changes & rationale Company Comments
ONGC Change in TP driven by increase in P/E to 11x from 9.5x and roll forward of valuation basis to FY16E EPS
Oil India Change in TP driven by increase in P/E to 9.5x from 9x and roll forward of valuation basis to FY16E EPS
BPCL Change in earnings driven by lower government subsidy contribution and lower petrol losses; Increase in TP based on 1.3x on FY15E BPS against 0.9x on FY14E BPS earlier
Reliance Industries Change in TP driven by change in multiple for petrochemical to 7x against 6x earlier & non-core businesses valued at book against 0.8x earlier
Cairn India No change in TP
GAIL Downgrade to Hold as we believe the stock is fairly valued with limited upside from current levels; Change in TP driven by roll forward of valuation basis to FY16E
Indraprastha Gas Change in TP driven by reduction in CoE to 12.5% from 13.5% earlier
Petronet LNG No change in TP
Source: Jefferies estimates, company data
Equity Strategy
India
19 May 2014
page 62 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Metals & Mining - Well Leveraged to a Macro Recovery The steel and mining sectors are well positioned to benefit from a change in
government. Not only would demand pick-up lead to pricing power but also
the streamlining of approvals and auctioning of mines would give steel
producers much better visibility on raw material availability. The mining
sector could benefit from investments in logistics, streamlining of approval
process and private participation in coal mining. Tata Steel, NMDC and JSW
are our top picks.
Steel – domestic demand boost: On the back of the positive outcome in the general
elections, we expect GDP growth to accelerate to 5.5% in FY15E and 6.5% in FY16E and
consequently and revise our domestic steel consumption growth assumption higher to
3.5% (3.0% earlier) in FY15E and 7.0% (6.0% earlier) in FY16E. While the domestic steel
consumption growth was only 0.6% YoY in FY14, the finished steel production growth
recorded a much healthy 4.3% YoY growth in FY14 as India turned a net exporter helped
by the rupee depreciation. However, with the rupee beginning to appreciate, there is a
growing concern that imports would start rising once again, thereby putting pressure not
only on domestic prices but also the producer volumes. We believe that a pick-up in
domestic demand is expected to offset the falling exports and steel production is expected
to continue at a strong pace. Given our expectation of INR at Rs60/USD and a pick-up in
domestic consumption demand, we remain confident that the current steel spreads in the
domestic markets would also sustain.
Mining - will the supply-side issues be addressed? The mining sector in India has
been hampered by logistics bottlenecks and coal allocation scams and mining bans. Lack
of investment in improving the rail infrastructure has impacted mining companies ability
to increase production besides also putting pressure on the road infrastructure in India
and increasing the logistics cost for most power producers. If the new government could
bring focus on railway investment, faster completion of the two Freight corridors and take
up the execution of a few critical railway lines on a priority basis, India could substantially
reduce its huge material import bill ($20bn in FY14E) thereby lowering its current account
deficit. While Coal India would benefit from the improvement in railway infrastructure and
the streamlining of the approval process, it could also be negatively impacted by the
auctioning of new mines by the Government.
Our top picks in the sector: Tata Steel remains our top pick in the metal sector as its
India business is set to see strong volume growth in FY15 and FY16 as infrastructure
related activity under the new government picks up. The stock is currently trading at one
year forward EV/EBITDA multiple of 6.1x and a one-year forward P/BV multiple of 0.9x,
which we believe provides an attractive entry point. NMDC remains our top pick in the
mining sector as the company could see strong earnings upside if the new government
streamlines environmental and forest clearance process and invests in infrastructure
heavily, which would debottleneck both NMDC’s production and evacuation. The stock is
trading at 5.4x 1-yr rolling EV/EBITDA multiple against the historical average of 6.3x and
at 2.1x 1-yr forward book value against the historical average of 2.6x. Valuations coupled
with dividend yield of c7% make the stock attractive at current levels.
Equity Strategy
India
19 May 2014
page 63 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Steel – domestic demand boost We expect domestic steel demand growth to pick up in the coming months on the back
of increased economic activity under the governance of BJP-led NDA party. This demand
growth should drive volumes for steel producers in FY15 and FY16 as opposed to FY14,
when exports were the main growth drivers. On the back of our domestic demand
growth assumptions, we maintain our non-consensus view that sustaining margins at
current levels should not be an issue while the consensus expectation is for a fall in
domestic prices given the supply pressure from new capacities.
A strong election result creates possibility of a volume recovery in FY16E…
The steel sector has been struggling for the last two years due to slowing economic
activity. Domestic steel consumption in FY14 grew by only 0.6% YoY in FY14 after a
lacklustre 3.3% YoY growth in FY14 as infrastructure-related spending came to a near halt
due to the policy paralysis at the centre.
However, the decisive mandate received by the BJP-led NDA party in the general elections
yesterday has created the possibility of an economic revival. BJP, in its 2014 election
manifesto, has stated its intention of kick-starting the economic growth by focusing on
infrastructure creation and building 100 new ‘Smart Cities’. As highlighted in our recent
note ‚What Next? No. 6 Smart Cities‛ published on 6th May 2014, this creation of 100 new
smart cities could trigger a US$2 trillion investment opportunity which by itself could add
~1-1.5% to the GDP growth over the next 30 years. On the back of the positive outcome
in the general elections, we now expect GDP growth to accelerate to 5.5% in FY15E and
6.5% in FY16E and consequently also revise our domestic steel consumption growth
assumption higher to 3.5% (3.0% earlier) in FY15E and 7.0% (6.0% earlier) in FY16E.
Exhibit 177: Steel demand growth picked up slightly in
April 2014…
Source: Bloomberg, JPC, Jefferies
Exhibit 178: …after remaining below trend for the last two
years
Source: Bloomberg, JPC, Jefferies
…and negate the risk from rising imports on the back of appreciating rupee
While the domestic steel consumption growth was only 0.6% YoY in FY14, the finished
steel production growth recorded a much healthy 4.3% YoY growth in FY14 as India
turned a net exporter helped by the rupee depreciation. FY14 imports saw a 31% YoY
decline while exports were up 4% YoY helped by the INR depreciation and an
improvement in global HRC prices turning India into net exported or 0.2mn tonnes in
FY14 against net import of 2.6mn tonnes in FY13.
However, with the rupee beginning to appreciate, there is a growing concern that
imports would start rising once again, thereby putting pressure not only on domestic
prices but also the producer volumes. We believe that a pick-up in domestic demand is
expected to offset the falling exports and steel production is expected to continue at a
strong pace. Against our domestic steel consumption growth estimates of 3.5% for FY15
and 7.0% for FY16, we expect the producer volume growth to be 3.6% YoY in FY15 and
6.5% in FY16.
-15%
-10%
-5%
0%
5%
10%
15%
4,500
4,900
5,300
5,700
6,100
6,500
6,900
Apr-13 Jun-13 Aug-13 Oct-13 Dec-13 Feb-14 Apr-14
Finished Steel Consumption YoY Change (%) - RHS 0%
5%
10%
15%
20%
FY01 FY03 FY05 FY07 FY09 FY11 FY13 FY15E
Production growth strong in FY14
due to surge in exports
Domestic steel consumption growth
3.5% in FY15E and 7.0% in FY16E
Equity Strategy
India
19 May 2014
page 64 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 179: Steel Production grew 4.3% YoY in FY14
Source: Bloomberg, JPC, Jefferies
Exhibit 180: …on the back of strong exports (mn MT)
Source: Bloomberg, JPC, Jefferies
Sustaining margins at current levels shouldn’t be an issue
The increase in domestic prices over the last few months and appreciation of the INR to
~Rs60 levels (vs. its August lows of Rs68/USD) coupled with international prices
remaining flat has led to the domestic prices moving back into premium over the import
parity prices. Domestic prices have in the past usually remained at a 5-10% premium to
import parity prices barring in 2014 when they slipped into a discount to import parity
prices as domestic steel consumption stagnated. We maintain our non-consensus view
that sustaining domestic prices at current levels should not be an issue while the
consensus expectation is for a fall in domestic prices given the supply pressure from new
capacities. Given our expectation of INR at Rs60/USD and a pick-up in domestic
consumption demand, we remain confident that the current steel spreads in the domestic
markets to sustain.
Exhibit 181: Import landed prices have gone below
Rs40,000 per tonne levels
Source: Bloomberg, Jefferies
Exhibit 182: Domestic prices are at a 9% premium
compared with the historical average of 1% discount
Source: Bloomberg, Jefferies
In addition, steel producers should also benefit from a benign raw material prices. Steel
producers have already seen some margin expansion recently due to falling raw material
prices and if the steel prices do hold up at current levels then there can be further margin
upsides. Coking coal contract prices have been on the declining trend which should be
positive for steel makers’ margins. The 2Q2014 coking coal contract has been settled at
US$120/MT as against US$172/MT for the 2Q2013 period. And with the appreciation of
the INR to below Rs60 levels, coking coal prices have given huge relief in terms of input
cost pressures. Also, domestic iron ore prices have been largely stable in the months even
as international iron ore prices have seen a sharp decline recently to levels of US$105/MT.
0%
2%
4%
6%
8%
10%
12%
14%
FY08 FY09 FY10 FY11 FY12 FY13 FY14E FY15E FY16E
0
1
2
3
4
5
6
FY08 FY09 FY10 FY11 FY12 FY13 FY14E FY15E FY16E
20,000
25,000
30,000
35,000
40,000
45,000
Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14
China HRC Landed Price Domestic HRC-40.0%
-20.0%
0.0%
20.0%
40.0%
Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14
Import parity prices are at a 9%
discount
Coking coal prices providing input
cost relief
Equity Strategy
India
19 May 2014
page 65 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 183: Declining trend in international coking coal
prices continue
Source: Bloomberg, Jefferies
Exhibit 184: Domestic iron ore prices have been stable
Source: Bloomberg, Jefferies, Company Data
.Mining – will the supply-side issues be addressed? The mining sector in India has been hampered by logistics bottlenecks and coal allocation
scams and mining bans. Lack of investment in improving the rail infrastructure has
impacted mining companies ability to increase production besides also putting pressure
on the road infrastructure in India and increasing the logistics cost for most power
producers. If the new government could bring focus on railway investment, faster
completion of the two Freight corridors and take up the execution of a few critical railway
lines on a priority basis, India could substantially reduce its huge material import bill
($20bn in FY14E) thereby lowering its current account deficit.
Further, investigations into the coal allocation scam and the Supreme Court directed
illegal iron-ore mining bans have also constrained India’s mineral output. With a new
government in place, we believe that one of the first steps it would take is to lay down a
transparent policy for auctioning mining concessions thereby encouraging private sector
participation in the sector.
Coal India
Coal India’s output has suffered due to a number of external factors viz., a) delay in forest
and environment clearances, b) poor rake availability, c) absence of railway logistics at
some of its critical mines, and d) rehabilitation and resettlement issues. Leaders of the BJP
party have talked about the need for streamlining the environmental and forest clearance
process and investing in infrastructure to kick-start the economy. Coal India could be a big
beneficiary
If the new government can speed up the execution of the three ambitious inter-state rail
corridor projects dedicated to coal evacuation, then majority of Coal India’s supply
bottleneck would be reduced. The three corridors are the c100km Tori-Shivpur-
Hazaribagh line (CCL), the Gopalpur-Manoharpur line (IB Valley) coupled with the
Kalinga-Angul link in Talcher (MCL) and a new rail line in the Mand-Raigarh coalfield
(SECL). But these projects have moved at a very slow pace till now and the total cost of
setting up the three projects has escalated from Rs20bn when they were initially planned
before the beginning of the Eleventh Plan period in 2007 to Rs70bn now. These three rail
lines together can free up 300mn MT of coal supply locked due to logistical constraints.
While Coal India would benefit from the improvement in railway infrastructure and the
streamlining of the approval process, it could also be negatively impacted by the
auctioning of new mines by the Government due to:
5,000
7,500
10,000
12,500
15,000
17,500
100
150
200
250
300
350
Sep-09 Sep-10 Sep-11 Sep-12 Sep-13
Coking Coal (Rs/tonne) - RHS Coking Coal ($/tonne)
$30
$60
$90
$120
$150
$180
2000
3000
4000
5000
6000
7000
Jun-12 Sep-12 Dec-12 Mar-13 Jun-13 Sep-13 Dec-13 Mar-14
NMDC Fines (Rs) NMDC Lumps (6-40 mm) (Rs)Int Fines Prices ($) - RHS
Lack of investment in improving the
rail infrastructure has impacted
mining companies
Equity Strategy
India
19 May 2014
page 66 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Competition from the private sector: Coal India has had a near monopoly
in coal production over the years and caters to 80% of India’s annual coal
production. However, the entry of the private sector gets into coal mining could
be negative for Coal India over the longer-term. Private players with significantly
lower cost of mining (vs. Coal India’s high wage bills) could impact the demand
for Coal India’s supplies eventually. This however, is at best a long-term risk
given the large coal imports (170mn tonnes in FY14E) into India but
nevertheless a key risk that we have seen playing out in other sectors where
private players have been allowed to come in.
Cost of new mine acquisition: Hitherto, Coal India used to get the mines free
of cost from the Government. However, once the Central Government starts
auctioning coal mines, we expect Coal India would also be required to pay for
any new mine allocations which would lower its RoIs from the earlier levels and
also use up much of its Rs610bn (Rs96/share) cash on hand.
In the near term however, we see significant risk of an earnings disappointment. Coal
India has benefited from the economic slowdown as demand for FSA coal from the power
sector (low margin) has reduced which has enabled the company to sell more in e-
auction (high margin). An improving economic growth would once again trigger demand
from the power sector and with little headroom to increase output given the logistics
constraints, Coal India’s profitability might take a big hit. Given the fair valuations
(currently trading at 8.6x 1-yr rolling EV/EBITDA multiple against historical average of 8.7x
and 5x one-year forward book value against historical average of 4.8x), there is little room
for upside in the stock.
NMDC
As pick-up in domestic steel demand leads to higher iron ore demand in FY15 and FY16,
NMDC is all set on a strong growth path if it can address its despatch bottlenecks. If the
new government can streamline environmental and forest clearance process and invest in
infrastructure heavily, then both NMDC’s production and evacuation stand to see
debottlenecking. We forecast domestic steel consumption growth to be 3.5% in FY15E
and 7.0% in FY16E. On the back of this strong demand iron ore volumes can see similar
strong growth and NMDC given its scale and quality of iron ore mined, can substantially
benefit from it. Coupled with this if logistical bottlenecks like issue of rake availability and
ramping up of Essar pipeline are taken care of, then volumes from NMDC’s Chattisgarh
operations can see significant upside. Management has guided for 35mn MT of dispatch
volumes in FY15 (vs 30.5mn MT in FY14).
The Supreme Court judgement on Odisha mining ordering for temporary closure of 26
mines in Orissa which had been operating on ‘deemed second or subsequent renewal’,
can be another big positive for NMDC as it would stop dumping from fringe players
which would lead to stability in pricing going forward and the steel producers who had
captive mines in Odisha would be forced to purchase iron ore from the market which
would provide further upside to prices.
The stock is trading at 5.4x 1-yr rolling EV/EBITDA multiple against historical average of
6.3x and at 2.1x 1-yr forward book value against historical average of 2.6x. Valuations
coupled with dividend yield of c7%, make the stock really attractive at current levels.
Equity Strategy
India
19 May 2014
page 67 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Estimate and Target price changes
Exhibit 185: Earnings Estimate Changes
EBITDA (Rs mn) EPS (Rs)
FY2015E FY2016E FY2015E FY2016E
Old New % Chng Old New % Chng Old New % Chng Old New % Chng
Steel
Tata Steel* 183,465 183,465 - 213,742 213,742 - 47.8 47.8 - 55.8 55.8 -
JSW Steel 94,542 95,875 1.4 105,782 107,327 1.5 92.2 95.8 3.9 123.0 127.2 3.4
SAIL 56,733 50,941 (10.2) 72,176 68,225 (5.5) 5.7 4.5 (21.7) 6.2 5.4 (13.1)
Mining
Coal India 189,000 180,701 (4.4) 214,000 194,527 (9.1) 27.7 26.7 (3.7) 30.4 28.1 (7.4)
NMDC 81,000 84,502 4.3 86,000 92,159 7.2 16.8 16.8 (0.0) 17.0 17.6 3.3
Source: Jefferies estimates *Tata Steel numbers already updated in our note published on 15th May 2014
Exhibit 186: Target Price Changes Summary
New Rating Old Rating New TP Old TP Comment
Tata Steel BUY BUY 540 540 -
JSW Steel BUY BUY 1,406 1,168 Roll Forward to FY16
SAIL UNPF UNPF 63 54 Roll Forward to FY16
Coal India Limited HOLD HOLD 305 281 Roll Forward to FY16
NMDC Ltd BUY BUY 178 149 Roll Forward to FY16
Source: Jefferies
Exhibit 187: Jef. vs Consensus Estimates
FY15E FY16E
EBITDA (Rs mn) Jef Est Cons Est % Dev Jef Est Cons Est % Dev
Steel
Tata Steel 183,465 178,903 2.5 213,742 194,727 9.8
JSW Steel 95,875 96,094 (0.2) 107,327 102,734 4.5
SAIL 50,941 64,067 (20.5) 68,225 79,009 (13.6)
Mining
Coal India 180,701 187,489 (3.6) 194,527 208,328 (6.6)
NMDC 84,502 81,136 4.1 92,159 85,083 8.3
EPS (Rs)
Steel
Tata Steel 47.9 44.9 6.7 55.9 52.5 6.5
JSW Steel 95.8 97.8 (2.0) 127.2 110.4 15.3
SAIL 4.5 6.3 (29.6) 5.4 6.8 (21.2)
Mining
Coal India 26.7 26.5 0.7 28.1 29.0 (3.0)
NMDC 16.8 16.8 0.1 17.6 17.3 1.3
Source: Jefferies estimates, Bloomberg
Equity Strategy
India
19 May 2014
page 68 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Valuation
Exhibit 188: Global steel sector valuation comparison
Ticker Rating TP Price Mcap EV D/E EV/EBITDA (x) P/BV (x) ROE (%)
lcy lcy USD mn USD mn (x) 12 13E 14E 12 13E 14E 12 13E 14E
Tata Steel TATA IS BUY 540 441 7,314 17,145 1.1 8.3 6.2 5.7 1.3 1.1 1.1 (19) 10 11
JSW Steel JSTL IS BUY 1,406 1,177 4,861 9,203 1.0 8.5 6.2 5.8 1.5 1.4 1.3 6 9 11
SAIL SAIL IS UP 63 78 5,513 8,875 0.3 10.0 9.9 7.6 0.8 0.7 0.7 6 5 6
JSPL JSP IS NC NC 270 4,218 9,944 0.8 10.2 7.6 6.5 1.1 1.0 0.9 9 11 12
India Avg 0.8 9.4 7.9 6.6 1.1 1.0 0.9 2 8 9
Thyssen TKA GY BUY 23.5 22 17,258 22,460 1.0 6.4 13.3 7.3 5.2 4.3 3.9 6 (50) 9
Arcelormittal MT NA BUY 15.0 12 26,641 48,456 0.4 7.5 8.2 6.1 0.6 0.5 0.6 0 (4) 3
Posco 005490 KS NC NC 310,500 26,442 50,739 0.4 8.5 9.3 8.3 0.6 0.6 0.6 6 4 4
Nippon Steel 5401 JP HOLD NC 277 25,945 52,469 0.5 17.0 8.4 7.7 1.0 0.9 0.9 0 8 9
JFE 5411 JP HOLD NC 1,876 11,361 26,053 1.1 11.4 8.0 7.0 0.7 0.6 0.6 3 7 8
Angang 347 HK HOLD 5.8 5 3,462 6,070 0.6 24.2 6.8 5.2 0.6 0.6 0.6 (9) 1 2
Baoshaan 600019 CH BUY 5.8 4 10,225 21,101 0.4 7.8 7.1 6.2 0.6 0.6 0.5 4 6 6
Nucor Corp NUE US NC NC 52 16,605 20,018 0.3 12.0 13.0 9.6 2.2 2.2 2.1 7 7 9
Gerdau GGBR4 BZ NC NC 14 10,428 17,024 0.4 9.1 8.0 6.7 0.9 0.8 0.8 5 6 6
Severstal CHMF RX NC NC 306 7,386 10,913 0.5 5.1 5.3 5.1 1.1 1.1 1.0 10 1 9
Global Avg 0.6 10.9 8.8 6.9 1.3 1.2 1.2 4 (1) 7
Source: Bloomberg, Jefferies, Closing prices as of 16th May,2014, consensus estimates for NC companies * 2013E implies year ended Sep-13/Dec-13/Mar-14/Jun-14 and 2014e implies year ended Sep-14/Dec-14/Mar-15/Jun-15
Exhibit 189: Global mining sector valuation comparison
Ticker Rating TP Price Mcap EV D/E EV/EBITDA (x) P/BV (x) ROE (%)
lcy lcy USD mn USD mn (x) 12 13E 14E 12 13E 14E 12 13E 14E
NMDC NMDC IN Buy 178 162 10,964 7,370 (0.8) 5.6 5.5 5.1 2.3 2.2 2.0 24 22 21
Coal India COAL IS Hold 305 345 37,266 26,752 (1.4) 7.7 8.8 8.1 4.5 5.1 4.5 39 35 36
Rio Tinto RIO LN Buy 4,100 3,287 103,486 127,225 0.3 8.0 6.7 6.0 2.2 2.2 1.9 13 22 20
AngloAmerican AAL LN Hold 1,550 1,562 36,703 52,492 0.2 6.8 5.8 6.2 1.0 1.2 1.0 8 8 7
BHP Bilton BLT LN Buy 2,200 1,953 183,981 216,535 0.3 6.7 6.5 6.3 2.2 2.0 1.8 19 17 16
Vale VALE3 BZ Hold 14 30.4 71,026 95,174 0.3 6.2 4.5 4.7 1.0 1.0 1.1 15 18 15
Fortescue FMG AU Y NA 6 4.6 13,358 21,995 1.6 3.5 3.6 4.2 1.7 1.3 1.1 48 32 23
Cliffs l CLF US NC NC 16.9 2,583 7,058 0.7 5.6 4.7 8.0 0.5 0.5 0.4 (1) 14 1
Kumba KIO SJ NC NC 37,004 11,520 12,284 0.2 5.2 4.2 4.4 7.9 5.7 4.5 79 86 65
Source: Bloomberg, Jefferies, Closing prices as of 16th May,2014, consensus estimates for NC companies * 2013E implies year ended Sep-13/Dec-13/Mar-14/Jun-14 and 2014e implies year ended Sep-14/Dec-14/Mar-15/Jun-15
Equity Strategy
India
19 May 2014
page 69 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 190: Tata Steel is trading at 6.1x 1-yr rolling
EV/EBITDA multiple against historical average of 5.2x
Source: Jefferies, company data, Bloomberg
Exhibit 191: Tata Steel is trading at 0.9x 1-yr forward book
value against historical average of 1.4x
Source: Jefferies, company data, Bloomberg
Exhibit 192:JSW Steel is trading at 6.4x 1-yr rolling
EV/EBITDA multiple against historical average of 6x
Source: Jefferies, company data, Bloomberg
Exhibit 193: JSW Steel is trading at 1.2x 1-yr forward book
value against historical average of 1.2x
Source: Jefferies, company data, Bloomberg
Exhibit 194:SAIL is trading at 10.6x 1-yr rolling EV/EBITDA
multiple against historical average of 6.6x
Source: Jefferies, company data, Bloomberg
Exhibit 195: SAIL is trading at 0.7x 1-yr forward book value
against historical average of 1.6x
Source: Jefferies, company data, Bloomberg
-
2
4
6
8
10
12
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
-
0.5
1.0
1.5
2.0
2.5
3.0
3.5
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
2
4
6
8
10
12
Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14
-
0.5
1.0
1.5
2.0
2.5
3.0
3.5
Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14
-
2
4
6
8
10
12
14
Apr-03 Apr-05 Apr-07 Apr-09 Apr-11 Apr-13
-
1
2
3
4
5
Apr-03 Apr-05 Apr-07 Apr-09 Apr-11 Apr-13
Equity Strategy
India
19 May 2014
page 70 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 196:Coal India is trading at 8.6x 1-yr rolling
EV/EBITDA multiple against historical average of 8.7x
Source: Jefferies, company data, Bloomberg
Exhibit 197: Coal India is trading at 5x 1-yr forward book
value against historical average of 4.8x
Source: Jefferies, company data, Bloomberg
Exhibit 198:NMDC is trading at 5.4x 1-yr rolling EV/EBITDA
multiple against historical average of 6.3x
Source: Jefferies, company data, Bloomberg
Exhibit 199: NMDC is trading at 2.1x 1-yr forward book
value against historical average of 2.6x
Source: Jefferies, company data, Bloomberg
4
6
8
10
12
14
Nov-10 May-11 Nov-11 May-12 Nov-12 May-13 Nov-13 May-14
2
3
4
5
6
7
Nov-10 May-11 Nov-11 May-12 Nov-12 May-13 Nov-13 May-14
2
4
6
8
10
12
Jan-11 Jun-11 Nov-11 Apr-12 Sep-12 Feb-13 Jul-13 Dec-13 May-14
1
2
3
4
5
Jan-11 Jun-11 Nov-11 Apr-12 Sep-12 Feb-13 Jul-13 Dec-13 May-14
Equity Strategy
India
19 May 2014
page 71 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Cement Sector: Demand Outlook Improves Our concerns on the sector stem from the lack of pricing power due to weak
demand growth and low capacity utilisation. While the BJP-led government
raises the possibility of a demand revival as the infrastructure and housing
related spending picks up, persisting low utilisation levels in the mid-70s
would restrict the gains. With the sharp rally in cement stocks YTD, we
believe most of the upside is already factored. Maintain our cautious view on
the sector.
A strong election result creates possibility of a volume recovery in FY16E: On
the back of the positive outcome in the general elections, we now expect GDP growth to
accelerate to 5.5% in FY15E and 6.5% in FY16E and consequently also revise our cement
volumes growth assumption higher to 7% (6% earlier) in FY15E and 10% (8% earlier) in
FY16E. As a result, we have revised our volume growth assumptions for the stocks under
our coverage. However, we still continue to build the volume growth for the larger
cement companies to be lower than the industry volume growth (as has been seen over
the last 2 years) as the larger players have to sacrifice some volumes in order to maintain
the production discipline in the industry. Consequently, against an industry volume
growth of 7% in FY15E we are building a 5-6% growth for our coverage stocks and
against 10% industry growth in FY16E we are building in a 7-9% volume growth for the
coverage stocks.
60mn tonnes of capacity addition to restrict the gains: Cement industry has seen
large capacity additions over the last 5 years which has pushed the effective utilization
from a peak to 103% to multi-year lows of 73% in FY14E. Consequently, earnings and
EBITDA/MT for the sector has taken a beating as the industry lost its pricing power.
Average EBITDA/MT dropped to Rs600/MT in FY14 from over Rs1000/MT in FY07 which
coupled with the increase in the cost of setting up new capacities (US$120-140/MT today)
has led to a sharp fall in the RoEs. Cement companies need to be making an EBITDA/MT of
in excess of Rs1500/MT for new capacity additions to earn a 12% cost of capital. However,
with the overcapacity situation expected to persist (75% utilization levels expected in
FY15E), the ability of cement companies to pass on the cost inflation has been limited.
Therefore while a sharp improvement in volume growth will definitely help cement
companies take on some price hikes, we do not expect cement companies profitability to
near the 12% cost of capital (based on replacement cost) anytime soon.
Recent outperformance means stocks are fairly valued: The cement stocks have
seen a sharp rally in 2014YTD (up by 20-40% YTD) and have outperformed the Sensex
(up 13% YTD). Cement stocks are currently trading at a significantly higher 1-year forward
EV/ EBITDA multiple when compared to the historic average. Given that we are possibly
coming out of a downcycle and consequently the earnings of cement companies are
depressed, there could be an argument for the stocks to trade at higher than average
multiples. However, both on a current multiple and on FY16E numbers, the stocks are
trading more than +1 std deviation away from the historical averages, which we believe
leaves little room for further upside. Consequently, while we like the sector over the long-
term, we maintain our cautious stance on the sector given the current high valuations and
would rather wait for a correction in valuations before entering the sector.
Equity Strategy
India
19 May 2014
page 72 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
A strong election result creates possibility of a volume recovery in FY16E…
The Cement sector has been struggling for the last two years due to the twin problems of
weak demand and low capacity utilization on the back of continuing capacity additions.
Cement demand in FY14 is estimated to have grown by only 3% YoY as infrastructure
related spending came to a near halt due to the policy paralysis at the Centre and rural
demand also taking a breather on the back of a high persistent inflationary environment.
With Industry utilization levels dropping to 73% in FY14, cement companies lost all
pricing power leading to c30% decline in EBITDA/MT and 19-30% fall in FY14 earnings.
However, the decisive mandate received by the BJP led NDA party in the general elections
yesterday has created the possibility of an economic revival. BJP, in its 2014 election
manifesto, has stated its intention of kick-starting the economic growth by focusing on
infrastructure creation and building 100 new ‘Smart Cities’. As highlighted in our recent
note ‚What Next? No. 6 Smart Cities‛ published on 6th May 2014, this creation of 100 new
smart cities could trigger a US$2 trillion investment opportunity which by itself could add
~1-1.5% to the GDP growth over the next 30 years. On the back of the positive outcome
in the general elections, we now expect GDP growth to accelerate to 5.5% in FY15E and
6.5% in FY16E and consequently also revise our cement volumes growth assumption
higher to 7% (6% earlier) in FY15E and 10% (8% earlier) in FY16E.
Exhibit 200: Cement industry growth set to pick up from
FY15…
Source: Jefferies Estimates
Exhibit 201: …with an improvement in GDP growth
Source: Jefferies Estimates
As a result, we have revised our volume growth assumptions for the stocks under our
coverage. However, we still continue to build the volume growth for the larger cement
companies to be lower than the industry volume growth (as has been seen over the last 2
years) as the larger players have to sacrifice some volumes in order to maintain the
production discipline in the industry. Consequently, against an industry volume growth
of 7% in FY15E we are building a 5-6% growth for our coverage stocks and against 10%
industry growth in FY16E we are building in a 7-9% volume growth for the coverage
stocks.
Exhibit 202: Changes to volume and realization assumptions
Volume (mn MT) Realisation (Rs/MT)
CY2014E/FY2015E CY2015E/FY2016E CY2014E/FY2015E CY2015E/FY2016E
Name Old New % YoY Old New % YoY Old New % YoY Old New % YoY
ACC 24.6 24.7 5 26.2 26.4 7 4,841 4,840 6 5,067 5,122 6
Ambuja 22.0 22.1 5 23.2 23.6 7 4,489 4,516 7 4,708 4,793 6
Ultratech 43.2 43.8 6 46.1 47.7 9 5,020 5,028 7 5,277 5,326 6
India Cements 10.6 10.7 6 11.3 11.4 7 4,802 4,808 6 5,035 5,096 6 Source: Jefferies estimates
8 8 8
15
(2)
10 9
6
8
10 10 10
9
12
6
8
6
3.0
7.0
10.0
-4
0
4
8
12
16
FY97 FY00 FY03 FY06 FY09 FY12 FY15E
Industry growth rate (%) Historical cagr (%)
0%
4%
8%
12%
16%
FY99 FY01 FY03 FY05 FY07 FY09 FY11 FY13 FY15E
3-yr rolling GDP growth 3-yr rolling cement demand growth
Equity Strategy
India
19 May 2014
page 73 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
…~60mn tonnes of capacity addition to restrict the gains
Cement industry has seen large capacity additions over the last 5 years which has pushed
the effective utilization from a peak to 103% to multi-year lows of 73% in FY14E.
Consequently, earnings and EBITDA/MT for the sector has taken a beating as the industry
lost its pricing power. Average EBITDA/MT dropped to Rs600/MT in FY14 from over
Rs1000/MT in FY07 which coupled with the increase in the cost of setting up new
capacities (US$120-140/MT today) has led to a sharp fall in the RoEs. Cement companies
need to be making an EBITDA/MT of in excess of Rs1500/MT for new capacity additions to
earn a 12% cost of capital. However, with the overcapacity situation expected to persist
(75% utilization levels expected in FY15E), the ability of cement companies to pass on the
cost inflation has been limited.
Cement players have resorted to production discipline from time to time in order to earn
some economic returns but the same has been fraught with frequent disruptions due to
the different financial needs of various players. Therefore while a sharp improvement in
volume growth will definitely help cement companies take on some price hikes, we do
not expect cement companies profitability to near the 12% cost of capital (based on
replacement cost) anytime soon.
Exhibit 203: Over capacity situation is expected to continue
for some more time
Source: Jefferies Estimates
Exhibit 204: …which will keep margins under pressure
(EBITDA/tn for ACC + ACEM + ICEM)
Source: Jefferies Estimates
As a result of our changes to volume growth and pricing assumptions, our FY16E earnings
estimates have increased by 8-10% for ACC, ACEM, UTCEM and Grasim and by 30% for
ICEM (due to its higher operating and financial leverage). Earnings are expected to grow
19% and 14% in CY14 and CY15 respectively for ACC. For Ambuja they are expected to
increase 18% and 19% for CY14 and CY15 respectively. Ultratech will see it’s FY14 and
FY15 earnings grow by 23% and 32% respectively.
Exhibit 205: Earnings Estimate Changes
EBITDA (Rs mn) EPS (Rs)
CY2014E/FY2015E CY2015E/FY2016E CY2014E/FY2015E CY2015E/FY2016E
Name Old New % Chng Old New % Chng Old New % Chng Old New % Chng
ACC 17,649 17,735 0 21,128 22,738 8 69.1 69.5 1 72.6 79.0 9
Ambuja 20,399 21,129 4 25,084 27,423 9 9.5 9.8 4 10.6 11.7 10
Ultratech 44,866 46,040 3 54,084 58,523 8 93.7 96.4 3 115.4 126.8 10
India Cements 8,040 8,378 4 9,844 10,852 10 3.8 4.5 19 7.5 9.8 30
Grasim 56,280 57,451 2 69,736 74,575 7 254.9 260.8 2 317.4 342.3 8
Source: Jefferies estimates
100 103 103
100
95
84
79
76 73 73
75
60
70
80
90
100
110
FY06 FY08 FY10 FY12 FY14E FY16E
0
200
400
600
800
1,000
1,200
FY94 FY97 FY00 FY03 FY06 FY09 FY12 FY15E
Equity Strategy
India
19 May 2014
page 74 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 206: Target Price Changes Summary
New Rating Old Rating New TP Old TP Comment
ACC Limited HOLD HOLD 1,400 1,254 Increasing target premium from -15% to -5%
Ambuja HOLD HOLD 218 203 Increasing target premium from 15% to 25%
Grasim BUY BUY 3,532 3,196
India Cements HOLD HOLD 76 53 Increasing target premium from -55% to -50%
Ultratech HOLD HOLD 2,346 2,186 Increasing target premium from 15% to 25%
Source: Jefferies
We are 12-14% ahead of consensus for FY16E
Our estimates for FY16E are now 11-14% ahead of consensus estimates for ACC, ACEM
Grasim and Ultratech and 35% ahead of consensus for ICEM.
Exhibit 207: Jef. vs Consensus Estimates
CY14E/FY15E CY15E/FY16E
EBITDA (Rs mn) Jef Est Cons Est % Dev Jef Est Cons Est % Dev
Ambuja 21,129 20,617 2 27,423 24,966 10
ACC 17,735 17,364 2 22,738 21,709 5
Ultratech 46,040 47,206 (2) 58,523 56,593 3
India Cements 8,378 7,669 9 10,852 9,048 20
Grasim 57,451 58,950 (3) 74,575 70,965 5
EPS (Rs.)
Ambuja 9.2 8.6 7 11.7 10.2 14
ACC 63.5 57.5 10 79.0 70.5 12
Ultratech 96.4 91.2 6 126.8 110.9 14
India Cements 4.5 4.1 10 9.8 7.2 35
Grasim 260.8 253.7 3 342.3 307.1 11
Source: Jefferies estimates, company data
Recent outperformance means stocks are fairly valued
While the cement stocks have seen a sharp rally in 2014YTD (up by 20-40% YTD) and
have outperformed the Sensex (up 13% YTD), the earnings have failed to keep pace
thereby pushing up the valuations for the sector which implies that most of the potential
positive from the general elections is already factored in.
Exhibit 208: Most cement stocks have underperformed
the market in the last 12 months
Source: Bloomberg, company data, Jefferies estimates
Exhibit 209: But YTD the stocks have outperformed…
Source: Bloomberg, company data, Jefferies estimates
Cement stocks are currently trading at a significantly higher 1-year forward EV/EBITDA
multiple when compared to the historic average. Given that we are possibly coming out
of a downcycle and consequently the earnings of cement companies are depressed, there
could be an argument for the stocks to trade at higher than average multiples. However,
both on a current multiple and on FY16E numbers, the stocks are trading more than +1
std deviation away from the historic averages, which we believe leaves little room for
further upside. Consequently, while we like the sector over the long-term, we maintain
-20 -10 0 10 20 30 40 50
ICEM
MC
GRASIM
ACC
UTCEM
SENSEX
ACEM
SRCM
0 5 10 15 20 25 30 35 40 45
GRASIM
SENSEX
ACEM
MC
ACC
UTCEM
ICEM
SRCM
Equity Strategy
India
19 May 2014
page 75 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
our cautious stance on the sector given the current high valuations and would rather wait
for a correction in valuations before entering the sector.
Exhibit 210: 1 yr fwd EV/EBITDA comparison
Current Average +1std dev -1std dev FY15EV/EBIDTA FY16EV/EBIDTA
ACC 12.5 9.8 13.3 6.3 14.2 11.1
Ambuja 13.1 9.4 12.3 6.4 14.5 11.2
Ultratech 13.9 7.8 10.9 4.7 13.8 10.8
ICEM 6.1 10.6 20.4 0.7 6.6 5.1
Source: Jefferies estimates, company data
Exhibit 211: Valuation Summary
Rating PT Price MCap EV EV/ MT EPS (Rs) P/E(x) EV/EBITDA (x) P/BV(x)
$mn $mn US $ FY14E FY15E FY14E FY15E FY14E FY15E FY14E FY15E
ACC Ltd Hold 1,400 1,430 4,560 4,189 140 47 57 31 25 18 14 3.4 3.2
Ambuja Hold 218 224 5,893 5,210 186 6 9 36 26 20 15 3.7 3.4
Grasim Buy 3,532 3,069 4,785 5,459 n.a. 212 254 14 12 7 5 1.3 1.2
Ultratech Hold 2,346 2,334 10,871 10,862 186 78 91 30 26 18 14 3.7 3.3
India Cements Hold 76 80 418 954 68 1 4 90 19 9 7 0.6 0.6
Shree Cements NC NC 6,200 3,668 3,462 239 278 356 22 17 12 9 4.0 3.3
Ramco Cement NC NC 240 970 1,414 113 6 12 40 21 13 10 2.3 2.1
Mangalam NC NC 143 65 61 31 18 34 8 4 3 2 0.7 NA
Dalmia Cement NC NC 259 357 878 73 14 28 18 9 8 6 0.7 0.7
Orissa Cement NC NC 182 176 287 43 20 24 9 8 3 4 0.7 NA
Birla Corp NC NC 315 412 361 39 17 28 19 11 8 6 1.0 0.9
JK Cements NC NC 254 302 460 62 7 17 34 15 9 5 1.1 1.0
Century NC NC 419 662 1,475 173 4 16 105 26 10 8 1.7 NA
Heidelberg NC NC 47 181 336 56 (2) 1 n.m 45 17 8 1.3 1.2
JK Lakshmi NC NC 132 264 425 80 7 10 19 14 9 6 1.2 1.1
Sagar Cement NC NC 182 56 90 22 12 14 15 13 11 7 1.1 NA
Kesoram NC NC 66 122 918 127 NA NA NA NA NA NA NA NA
Prism Cement NC NC 55 468 769 137 (4) (1) n.m n.m 26 11 NA NA
Source: Bloomberg; Price as of 16th May 2014
Valuation and key risks
ACC: We maintain Hold on ACC and value it at 5% discount to replacement cost to arrive
at revised TP of Rs1400 (Rs1254 earlier). Risks: negative surprise in cement prices and
cement volumes.
Ambuja: We maintain Hold on ACEM and value it at 25% premium to replacement cost
to arrive at revised TP of Rs218 (Rs203 earlier). Key downside risks are subdued demand
growth and negative surprises in prices. Key upside risks are better than expected demand
and pricing.
Ultratech: We maintain Hold on Ultratech and value it at 25% premium to replacement
cost to arrive at revised TP of Rs2,346 (Rs2,186 earlier). Key downside risks to our
estimates and price target are: 1) subdued demand growth; 2) negative surprises in
prices; and 3) adverse impact on the industry long-term profitability on account of the
negative CCI order on cartelization. Key upside risks are 1) better than expected demand
and 2) better than expected pricing.
India Cements: We maintain Hold on ICEM and value it at 50% discount to replacement
cost to arrive at revised TP of Rs76 (Rs53 earlier). Key downside risks are: 1) subdued
demand growth; 2) negative surprises in prices; 3) inability to pass on the unexpected
cost increases.
Grasim: We maintain our Buy rating with a revised PT of Rs3,532 (Rs3,196 earlier) based
on 6x EV/EBITDA to VSF business, 5x multiple to chem business. Risks: 1) negative surprise
in cement and VSF prices, 2) inability to pass on unexpected cost pressures, and 3) delays
in commissioning of new plants.
Equity Strategy
India
19 May 2014
page 76 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Valuation charts
EV/tonne vs. Replacement cost valuations
Exhibit 212: ACC is trading at US$127/tonne against
historical average of US$98/tonne
Source: Bloomberg, company data, Jefferies estimates
Exhibit 213: Ambuja is trading at US$173/tonne against
historical average of US$136/tonne
Source: Bloomberg, company data, Jefferies estimates
Exhibit 214:UTCEM is trading at US$167/tonne against
historical average of US$114/tonne
Source: Bloomberg, company data, Jefferies estimates
Exhibit 215: ICEM is trading at US$58/tonne against
historical average of US$87/tonne
Source: Bloomberg, company data, Jefferies estimates
-
50
100
150
200
250
300
Jan-96 Jan-99 Jan-02 Jan-05 Jan-08 Jan-11 Jan-14
ACC (EV/fwd t)
-
50
100
150
200
250
300
Jan-96 Jan-99 Jan-02 Jan-05 Jan-08 Jan-11 Jan-14
Ambuja (EV/fwd t)
30
60
90
120
150
180
210
Aug-04 Aug-06 Aug-08 Aug-10 Aug-12
Ultratech (EV/tonne)
-
50
100
150
200
250
Jan-96 Jan-99 Jan-02 Jan-05 Jan-08 Jan-11 Jan-14
ICEM (EV/tonne)
Equity Strategy
India
19 May 2014
page 77 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
1-year forward P/E multiples
Exhibit 216: ACC is trading at 20.7x 1-yr rolling P/E
multiple against historical avg of 23x (last 10-yr avg
14.8x)
Source: Bloomberg, company data, Jefferies estimates
Exhibit 217: Ambuja is trading at 22.1x 1-yr rolling P/E
multiple against historical avg of 15x
Source: Bloomberg, company data, Jefferies estimates
Exhibit 218: UTCEM is trading at 23.3x 1-yr rolling P/E
multiple against historical avg of 13.6x
Source: Bloomberg, company data, Jefferies estimates
Exhibit 219: ICEM is trading at 14.3x 1-yr rolling P/E
multiple against historical avg of 10.2x
Source: Bloomberg, company data, Jefferies estimates
5
10
15
20
25
30
Jan-01 Jan-03 Jan-05 Jan-07 Jan-09 Jan-11 Jan-13
5
10
15
20
25
30
35
Jun-95 Jun-98 Jun-01 Jun-04 Jun-07 Jun-10 Jun-13
0
5
10
15
20
25
30
0
100
200
300
400
Apr-93 Apr-97 Apr-01 Apr-05 Apr-09 Apr-13
Price 6x 9x 12x 15x
Equity Strategy
India
19 May 2014
page 78 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
1-year forward EV/EBITDA multiples
Exhibit 220: ACC is trading at 12.5x 1-yr rolling
EV/EBITDA multiple against historical avg of 11.2x (last
10-yr avg 9.8x)
Source: Bloomberg, company data, Jefferies estimates
Exhibit 221: Ambuja is trading at 13.1x 1-yr rolling
EV/EBITDA multiple against historical avg of 9.4x
Source: Bloomberg, company data, Jefferies estimates
Exhibit 222: UTCEM is trading at 13.9x 1-yr rolling
EV/EBITDA multiple against historical avg of 7.8x
Source: Bloomberg, company data, Jefferies estimates
Exhibit 223: ICEM is trading at 6.1x 1-yr rolling
EV/EBITDA multiple against historical avg of 10.6x
Source: Bloomberg, company data, Jefferies estimates
3
6
9
12
15
18
Jan-01 Jan-03 Jan-05 Jan-07 Jan-09 Jan-11 Jan-13
0
4
8
12
16
20
Jun-95 Jun-98 Jun-01 Jun-04 Jun-07 Jun-10 Jun-13
2
4
6
8
10
12
14
16
0
20
40
60
80
100
120
Apr-93 Apr-97 Apr-01 Apr-05 Apr-09 Apr-13
EV 3x 5x 7x 9x
Equity Strategy
India
19 May 2014
page 79 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Pharma – Prefer India Focus Over US Post a strong US driven FY14 we expect growth drivers to shift to EM as lack of
significant launches, increased competition and currency appreciation
impact US business. Election results are, in our view, negative for US business
and positive for domestic business. We expect India business growth to revive
going forward. Our preference remains for Cipla on its EM driven growth and
turnaround in business.
US business growth to decline after strong FY14 - FY14 saw strong growth in US
business revenues and margins for most companies led by launch of limited competition
products. FY15 though would see muted growth and margins come under pressure for
most US focused companies, in our view. There are no significant launches in FY15 for
most of our coverage; and with increased competition in key products (Tricor, Trilipix,
Cymbalta, Doxil, Dacogen, Vidaza), margins and revenues would come under pressure.
Lupin is the most at risk, in our view.
EM and India growth to improve - We expect the focus on EM including India to
increase as growth revives in these markets. India growth would, in our view, revive in
FY15 led by both economic recovery and also as the impact of the pricing policy is in the
numbers. The benefit would be more for large cap companies with presence in acute
therapy and rural/semi-urban areas. These areas were the most impacted in the past year.
Further, if the new government initiates any large scale projects to increase healthcare
coverage in rural areas it would boost growth over the medium term. The key beneficiary
would be Cipla, Ranbaxy, in our view, given their presence in these areas.
Rising R&D to pressure margins; benefits uncertain - R&D expenses are increasing
across the sector with R&D as % of sales breaching 10% for DRRD and LPC. This is one of
the highest R&D spend among global generic peers. The R&D spend is expected to
remain elevated over the medium term, which would pressure margins. More importantly
the increased investment for DRRD and Lupin is in biosimilars or NCEs where risks are high
and returns would accrue only in the long term. Further, Lupin is playing catch-up to
Indian and global peers in all of its targeted therapies, which could limit benefits.
Election impact marginally negative for the sector - The 2014 election results are
marginally negative for the pharma sector, in our view. Given the decisive mandate,
currency could appreciate from current levels creating headwinds for the US business,
which would pressure margins and reported sales growth. The results though could be a
positive for the domestic business if the new government announces any reforms
especially those aimed towards increasing healthcare coverage. The reforms would be
beneficial for companies with significant presence in semi-urban and rural areas. Cipla
and Ranbaxy could be the beneficiary, in our view.
Prefer companies with India and EM focused as US growth slows - Going
forward, we prefer companies with India and EM focus given the expected slowdown in
US, currency appreciation and revival in domestic growth. Any reform announcement on
boosting healthcare access would provide boost to domestic focused company especially
Cipla. Our preferred pick remains Cipla while we are most cautious on Lupin given the
valuations
Exhibit 224: Valuations Table
P/E P/B
Price TP Rating FY14 FY15E FY16E FY14E FY15E
Sun Pharma 614 715 Buy 22.6 21.9 18.3 7.3 5.8
Cipla 388 477 Buy 21.6 18.2 14.6 3.0 2.7
Dr Reddy 2,407 2550 Hold 18.9 18.2 16.3 4.5 3.7
Lupin 959 880 Hold 23.4 22.4 20.0 6.2 5.0
Ranbaxy 452 572 Buy 217.3 81.7 26.2 5.9 4.3
Source: Company Data, Jefferies estimates
Equity Strategy
India
19 May 2014
page 80 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 225: FY14 saw launch of large number of limited
competition generics boosting growth
Source: USFDA, Jefferies estimates
Exhibit 226: Going forward though US growth to see sharp
deceleration even as EM growth remains strong
Source: Company Data, Jefferies estimates
Exhibit 227: R&D spend is expected to see sharp
acceleration going forward impacting margins
Source: Company Data, Jefferies estimates
Exhibit 228: R&D spend for Lupin/DRRD the highest among
peers
Source: Company Data, Jefferies estimates
Exhibit 229: Valuations are at historical average
Source: Factset, Jefferies estimates
Exhibit 230: ...both PE and PB
Source: Factset, Jefferies estimates
0
5
10
15
20
25
30
35
40
0
5
10
15
20
25
30
FY10 FY11 FY12 FY13 FY14
Limited competition approval for Indian companies Share (%) - rhs
0
10
20
30
40
50
US EM
Earnings growth FY12-14 CAGR (%)
Earnings growth FY14-16 CAGR (%)
5.0
5.5
6.0
6.5
7.0
7.5
8.0
FY09 FY10 FY11 FY12 FY13 FY14 FY15E FY16E
R&D as % of sales
0
2
4
6
8
10
12
Hikma Valeant RBXY CIPLA SUNP TEVA MYLAN LPC DRRD
R&D spend (as % of sales)
10
12
14
16
18
20
22
24
26
28
30
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
Pharma 12M Fwd PE Avg.
2
3
4
5
6
7
8
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
Pharma 12M Trailing PB Avg.
Equity Strategy
India
19 May 2014
page 81 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Earnings change
Post the election, we have made some changes to our macro assumptions. We have
changed our currency assumption of USDINR to 60/$. We have increased domestic
growth in FY16/FY17 to 16%. We have reduced risk premium to 4.5% from 5.5% earlier.
Exhibit 231: Cipla earnings changes
FY15 FY16
Old New Old New
Assumptions Currency @ 60; India growth improves to 17% vs 16% in FY16
Sales 123,579 120,761 143,636 140,669
EBITDA 28,715 27,208 34,317 32,673
PAT 18,284 17,154 22,579 21,341
EPS 22.8 21.4 28.1 26.6
TP 480 477
Source: Company Data, Jefferies estimates
Exhibit 232: Dr Reddy’s earnings changes
FY15 FY16
Old New Old New
Assumptions Currency @ 60; FY16 India growth improved to 16% vs 14.9%
Sales 148,417 148,417 166,353 166,564
EBITDA 32,854 32,854 36,716 36,823
PAT 22,520 22,520 25,066 25,149
EPS 132 132 147 148
TP 2,500 2,550
Source: Company Data, Jefferies estimates
Exhibit 233: Lupin earnings changes
FY15 FY16
Old New Old New
Assumptions Currency to 60; India growth at 16% vs 15% earlier
Sales 135,108 131,484 154,972 150,199
EBITDA 33,013 31,226 36,935 34,469
PAT 20,363 19,157 23,197 21,535
EPS 45.4 42.7 51.7 48.0
TP 910 880
Source: Company Data, Jefferies estimates
Exhibit 234: Sun Pharma earnings changes
FY15 FY16
Old New Old New
Assumptions Currency @ 60; Added Gleevec exclusivity
Sales 184,499 178,224 203,237 204,702
EBITDA 79,521 76,177 84,031 86,967
PAT 60,447 57,894 66,721 69,371
EPS 29 28 32 33
TP 710 715
Source: Company Data, Jefferies estimates
Exhibit 235: Ranbaxy earnings changes
FY15 FY16
Old New Old New
Assumptions Currency @ 60; India growth improves to 16.2% vs 15%
Sales 148,992 143,147 149,080 143,719
EBITDA 25,740 23,446 23,788 21,799
PAT 14,104 12,381 13,041 11,597
EPS 33 29 30 27
Core EPS 8 6 20 17
TP 568 572
Source: Company Data, Jefferies estimates
Equity Strategy
India
19 May 2014
page 82 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Consumer Sector – Trend Reversal We believe the consumption cycle is in the incipient stages of a slowdown.
The policy-driven redistribution of wealth redistribution, which has bolstered
low end consumption in recent years, is behind us. Discretionary
consumption, on the other hand, is showing signs of bottoming out. With the
new government in place, investment-driven policies are likely to take centre
stage, enhancing the reversal in consumption pattern that has already set in.
Reversal of trends: Lower end consumer demand has been extremely strong through
the last five years while consumption by the middle-income group has slowed down. An
extended period of largely policy-driven wealth redistribution from the middle income
group to net food producers and to rural & urban laborers has played a key role. Income
growth for the middle class in the last three years has probably lagged inflation in cost of
living. We believe this pattern of consumption growth is unsustainable. We are already
seeing signs of these trends reversing with rural wage inflation in real terms starting to
fade.
Discretionary bottoming out, Staples at risk: Staples segments have been the
biggest beneficiaries of the pattern of consumption so far, as can be seen in the
tremendous growth in sales of consumer staples companies over the last few years. The
inflationary environment in the past few years has also equipped consumer staples
companies with considerable pricing power. On the other hand, most discretionary items
across categories have slowed to varying degrees. In recent months, however, we are
beginning to see these trends reversing. Management commentary across consumer
companies indicates a significant slowdown in rural demand, while discretionary
consumption is showing signs of bottoming out.
Valuations and stock views: Although valuations in consumer staples, relative to the
market have come off in recent months, the premium (~100%) is still well above the levels
seen during the 2005-2007 period (0-20%) as well as long term historical average
(~60%). Given our expectation of subdued earnings momentum, we see further
downside risk to valuations. Within the sector, we prefer discretionary stocks that provide
greater scope for positive earnings surprises. Titan (TTAN IN, Buy) remains our top pick in
the discretionary space. We upgrade TTK Prestige (TTKPT IN, Hold) where early signs of
demand revival are visible, but the path to earnings recovery is likely to be slow. ITC (ITC
IN, Buy) is our top pick in the staples segment
Exhibit 236: Summary table of stock recommendations
Price TP Mkt Cap EPS P/E
Company Rating Rs./share Rs./share Rs. Bn FY15E FY16E FY15E FY16E
ITC Buy 357 411 2,790 12.6 14.5 28.3 24.6
HUL Hold 581 595 1,255 18.0 19.8 32.3 29.3
Asian Paints UNPF 536 476 514 15.8 19.8 34.0 27.0
Titan Buy 307 355 273 9.9 12.7 31.1 24.2
GCPL UNPF 833 662 283 25.4 31.0 32.8 26.9
Marico Hold 228 225 147 8.3 10.2 27.5 22.4
Jubilant FoodWorks Hold 1161 1,202 76 28.6 38.7 40.6 30.0
TTK Prestige Hold 3,200 3,393 37 110.8 137.9 28.9 23.2
Source: Jefferies estimates
Equity Strategy
India
19 May 2014
page 83 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Consumer Sector
We believe the consumption cycle is in the incipient stages of a slowdown. An extended
period of mostly policy-driven wealth redistribution from the middle income group to net
food producers and to rural & urban labourers, has led to extremely strong growth in
consumption, especially at the lower end. On the other hand, discretionary consumption
across categories has suffered to varying degrees in recent years. We believe this pattern
of consumption is set to reverse. We are already witnessing signs of reversal, with rural
wage inflation in real terms starting to fade. Management commentary across consumer
companies also indicates a significant slowdown in rural demand. With the new
government in place, investment-driven policies are likely to take centre stage, enhancing
the change in consumption pattern that has already set in.
Reversal of trends
The biggest improvement in prospects for rural labourers occurred in 2006, when the
government started a rural employment guarantee scheme (NREGA), even as
employment opportunities in alternate sectors like construction slowed down. In
addition, farmers’ relative terms of trade have improved significantly in the last few years.
Food price inflation has offset ex-food inflation, implying higher profitability for farmers in
general. The urban middle class, on the other hand, has seen unfavourable terms of trade.
Inflation (food and labour) was tolerable until such time that overall growth in the
economy was strong. However, with the recent slowdown, this has no longer been the
case. It is quite likely that income growth for the middle class in the last three years has
lagged inflation in cost of living.
As a result, lower end consumer demand has been very strong through the last five years
while consumption by the middle-income group has slowed down. The high wage
growth for the lower income group has also resulted in consistently high food inflation.
We believe this pattern of consumption growth is unsustainable, and are already seeing
signs of these trends reversing.
Exhibit 237: Rural wage growth has been strong in recent
years
Source: CSO, Company data, Jefferies
Exhibit 238: …and has likely outpaced corporate wages in
real terms
Note: TCS salary growth is used as proxy of Corporate wage growth; Source: CSO, Company data, Jefferies
0.0
5.0
10.0
15.0
20.0
25.0
FY08 FY09 FY10 FY11 FY12 FY13 FY14 YTD
Rural Wage growth (%) Real Rural wage growth (%)
(4)
(2)
0
2
4
6
8
Corporate employee Rural labor
FY09-13 Real Wage CAGR(%)
Rural labourers and farmers have
benefited in recent years, while
urban middle class has had to bear
the higher cost of labour and food
The policy-driven redistribution of
wealth redistribution, which has
bolstered low end consumption in
recent years, is behind us.
Equity Strategy
India
19 May 2014
page 84 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 239: Split of consumption in rural...
Source: NSSO
Exhibit 240: ...and urban
Source: NSSO
Discretionary bottoming out, Staples at risk
Staples segments have been the biggest beneficiaries of the pattern of consumption so
far, as can be seen in the tremendous growth in sales of consumer staples companies over
the last few years. On the other hand, most discretionary items across categories have
slowed to varying degrees. In recent months, however, we are beginning to see these
trends reversing. Management commentary across consumer companies indicates a
significant slowdown in rural demand, while discretionary consumption is showing signs
of bottoming out. We expect the slowdown in low end consumption to deepen through
the year, and expect discretionary items to revive as and when the investment cycle
improves.
Exhibit 241: Growth rates across segments
Source: Jefferies estimates, company data
0%
10%
20%
30%
40%
50%
60%
70%
Income levels
Food & HPC
Others
0%
10%
20%
30%
40%
50%
60%
70%
80%
Income levels
Food & HPC
Others
0% 5% 10% 15% 20% 25% 30% 35% 40% 45%
Staples
Cons. Durables
Paints/Chemicals
Retail
QSR
5-yr CAGR FY14E
Management commentary across
consumer companies indicates a
significant slowdown in rural
demand, while discretionary
consumption is showing signs of
bottoming out
Equity Strategy
India
19 May 2014
page 85 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 242: Growth trends in the FMCG sector
Source: Jefferies, company data
Exhibit 243: Recent growth trend in staples – relatively
resilient
Source: Jefferies estimates, company data
Exhibit 244: SSSG trends in retail businesses – signs of
bottoming out
Source: Jefferies estimates, company data
Pricing power and margins at risk
Gross margins in the FMCG sector have been fairly strong all through the period of slow
demand so far. The inflationary environment in the past few years has also equipped
consumer staples companies with considerable pricing power. As a result, most consumer
companies managed to hold onto margin gains, despite an increase in ad spends and
weakening premiumisation trend. We believe pricing power is at risk in the face of a
prolonged slowdown and rising input costs.
0%
5%
10%
15%
20%
25%
2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013
0%
4%
8%
12%
16%
20%
2Q12 4Q12 2Q13 4Q13 2Q14 4Q14
-20%
-10%
0%
10%
20%
30%
40%
2Q12 3Q12 4Q12 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14
Titan - Watches Titan - Jewellery Shoppers
Pricing power could be at risk in the
face of a prolonged slowdown
Equity Strategy
India
19 May 2014
page 86 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 245: EBITDA margins in staples companies have
remained strong…
Source: Jefferies, company data
Exhibit 246:...even though ad spends have risen
Source: Jefferies, company data
Valuations and stock views
Valuations in the consumer sector continue to be expensive relative to historical levels.
While valuations on a relative basis have come off in recent months, the premium is still
well above historical average. Given our expectation of subdued earnings momentum in
the staples sector, we see further downside to valuations. Our preference for discretionary
stocks is premised on the stage of consumption cycle (early stages of revival), providing
greater scope for positive earnings surprises.
Exhibit 247: Valuations in the staples sector
Source: Jefferies estimates, company data
10%
12%
14%
16%
18%
20%
22%
Mar-02 Mar-04 Mar-06 Mar-08 Mar-10 Mar-12 Mar-14
6%
7%
8%
9%
10%
11%
12%
13%
14%
15%
Mar-02 Mar-04 Mar-06 Mar-08 Mar-10 Mar-12 Mar-14
20 22 24 26 28 30 32 34 36
Nestle
Colgate
HUL
GSK
Dabur
GCPL
ITC
Marico
Emami
5-yr avg Current P/E
Current valuations for most staples
companies is significantly above last
5-year averages
Equity Strategy
India
19 May 2014
page 87 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 248: Valuation premium of the staples sector relative to MSCI India
Source: Factset
Exhibit 249: Valuations for retail companies
Source: Jefferies estimates, company data
Exhibit 250: Valuations in paints/chemicals segment
Source: Jefferies estimates, company data
-40%
-20%
0%
20%
40%
60%
80%
100%
120%
140%
160%
180%
Aug-03 Aug-04 Aug-05 Aug-06 Aug-07 Aug-08 Aug-09 Aug-10 Aug-11 Aug-12 Aug-13
Premium Avg
15 25 35 45 55 65 75
Shoppers*
JUBI*
Bata
Titan
5-yr avg Current P/E
15 20 25 30 35 40
Asian Paints
Berger
Pidilite
Kansai
Akzo
5-yr avg Current P/E
Valuation premium to market has
come off in recent months, but still
remains considerably higher than
historical average
Valuations for discretionary
companies are also fairly high, but
the early stages of revival provide
scope for positive earnings surprises
Equity Strategy
India
19 May 2014
page 88 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 251: Valuations in consumer durables
Source: Jefferies estimates, company data
Titan (TTAN IN, Rs307, Buy, TP Rs355)
We remain positive on Titan as we believe the worst of demand weakness and regulatory
action may be behind us. Jewellery demand has been much below trend for nearly two
years now, impacted by general weakness in demand as well as an adverse regulatory
environment. Titan’s revenues grew c.11% p.a. during FY13-14, much below the 20-35%
p.a. growth in the 3-5 years prior to that. We believe Titan’s key segments should recover
some time in the next 12 months, aided in part by gradual easing of regulatory measures.
Meanwhile, the company’s efforts on retail expansion continue at a strong pace (c.14-
15% p.a.), which should help Titan gain market share. We forecast Titan’s revenues and
earnings to grow 20-23% p.a. over FY15E-16E, but believe the risk to this assumption is
on the upside given the growth potential in the industry. We raise our earnings 6-9% on
the back of stronger-than-expected performance in 4Q14 and increase our medium term
growth assumptions. We roll forward our DCF-based TP and cut our COE assumption by
50bps. We now value Titan at Rs.355/share (28x FY16E EPS).
ITC (ITC IN, Rs357, Buy, TP Rs411)
In a demand environment that will likely remain weak especially for staples categories, we
expect ITC's retail sales growth also to be slow next year. However, despite the likelihood
of a third consecutive year of tax increases (we factor in 10% duty hike with 1.5% volume
growth), we believe ITC’s profits should remain resilient. The new small size cigarette
category has contributed meaningfully to this growth, in our view, and is likely to emerge
as a key driver for share gains from the illicit market in the medium term. We value ITC at
an SOTP-based TP of 411, based on 28x FY16E earnings for the cigarette business.
Exhibit 252: Changes to company earnings, target prices and stock views
New
Rating
Old
Rating
New TP Old TP Change FY15E EPS
(+/-)
FY16E EPS
(+/-)
Valuation
method
Change in valuation inputs
ITC IN Buy Buy 411 393 5% 0% 0% SOTP Roll over to FY16E
TTAN IN Buy Buy 355 257 38% 6% 9% DCF Roll over to FY16E, earnings raised, COE cut
TTKPT IN Hold U/P 3,393 2,991 13% -8% -9% DCF Roll over to FY16E, earnings cut, 50bps COE cut
JUBI IN Hold Hold 1,202 1,035 16% -6% -5% DCF Roll over to FY16E, earnings cut, 50bps COE cut
APNT IN U/P U/P 476 445 7% 0% 0% DCF 50bps cut in COE
Source: Jefferies estimates
10 12 14 16 18 20 22 24 26 28
TTK
Whirlpool
Bajaj Electricals
Havells
5-yr avg Current P/E
Equity Strategy
India
19 May 2014
page 89 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Real Estate – Sentiment Change Round the Corner but Issues Persist The positive election results could provide the much needed sentiment
change for the sector but unaffordable property prices and elevated interest
rates would keep demand subdued until recovery becomes a full blown one.
Even then execution, churn and strong b/s will remain the key to success.
Sobha PEPL and Oberoi remain our top pick while DLF Is our top
Underperform.
A much needed sentiment change: Most developers (barring the Bangalore
developers) have reported a 20-30% decline in presales in FY14 as buyers have deferred
their decisions to purchase homes and the leasing in the commercial sector has remained
muted on the back of a slowing economic growth. Given the positive outcome in the
general elections and if GDP growth were to accelerate from hereon we could see a
pickup in both housing and commercial demand which could lead to a re-rating of the
sector.
Unaffordable property prices and elevated interest rates remain a dampener:
Both property prices and interest rates in India remain at elevated levels which have forced
end users to stay away. The ability of developers to cut prices is low given the high land
cost and rising construction costs while a persisting high inflation level is also making it
difficult for the RBI to cut interest rates anytime soon. The recovery therefore will depend
on the timing of when the economy grows and the positive cycle of job creation and
larger wage hikes starts to kick in followed by an eventual cut in interest rates. Unless that
happens the initial spurt driven by investors in expectation of price increases would be
difficult to sustain.
100 new ‘Smart Cities' in BJP's manifesto- A US$0.8 trillion opportunity: BJP,
has stated its intention of kick-starting the economic growth by focusing on infrastructure
creation. As highlighted in our recent note ‚What Next? No. 6 Smart Cities‛ published on
6th May 2014, the creation of 100 new smart cities could trigger a US$0.8 trillion
investment opportunity in the real estate sector through addition of c1.7mn household
units every year. To put it into context the annual absorption in the top seven cities in
India where most of the organised real estate development takes place is only ~0.3-0.4mn
units. However, given the large upfront investment required, only the developers with a
strong balance sheet and execution capability will be able to benefit from such an
opportunity.
Execution, churn and balance sheet management remain the key to success:
Execution capability has already become an important differentiating factor and could
become even more so especially as the economy grows and other sectors start vying for
the same pool of manpower for completing the projects. Developers which have little/ no
backlog of older projects and those with inhouse execution capability would be at an
advantage. Cash flows and churn would continue to remain important an important tool
for value creation from minority shareholders. Developers with a strong balance sheet
would also be in a position to benefit from the new opportunities that are likely to be
presented.
Sobha, PEPL and Oberoi remain our top pick: We like Sobha for its inhouse
execution capability, positive cashflows and growing presence in multiple cities and PEPL
for its faster churn, strong presales growth and growing rental income. We also like
Oberoi for its Mumbai city-centre landbank and strong b/s. DLF is our top UNPF as we
expect the company would need to raise equity to reduce debt given its ~Rs4bn quarterly
negative operating c/f generation and our dislike for its model of focusing on margins
rather than volumes.
Equity Strategy
India
19 May 2014
page 90 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 253: Jef. vs Consensus Estimates
FY15E FY16E
EBITDA (Rs mn) Jef Est Cons Est % Dev Jef Est Cons Est % Dev
DLF Limited 37,743 36,464 4 45,071 43,507 4
GPL 6,304 5,883 7 7,992 10,158 (21)
Oberoi Realty 8,763 8,054 9 12,359 11,644 6
Prestige Estates 9,952 9,506 5 12,801 11,634 10
Sobha Developers 7,176 7,335 (2) 8,355 8,576 (3)
EPS (Rs)
DLF Limited 6.8 6.4 6 9.8 9.2 7
GPL 16.1 15.1 7 20.2 17.8 13
Oberoi Realty 18.2 17.0 7 25.4 24.5 3
Prestige Estates 14.1 13.5 5 19.4 17.7 9
Sobha Developers 31.9 33.7 (5) 39.4 40.8 (3)
Source: Jefferies estimates, company data
Exhibit 254: Target Price Changes Summary
New Rating Old Rating New TP Old TP Comment
DLF Limited UNPF UNPF 140 125 Roll Forward to March 2015NAV
GPL HOLD HOLD 207 181 Roll Forward to March 2015NAV
Oberoi Realty* BUY BUY 258 258 -
Prestige Estates BUY BUY 217 199 Roll Forward to March 2015NAV
Sobha Developers BUY BUY 485 372 Roll Forward to March 2015NAV
Source: Jefferies *Target price for Oberoi Realty updated in our recent note dated 12th May, 2014
Exhibit 255: Most real estate stocks have underperformed
the market in the last 12 months
Source: Bloomberg, company data, Jefferies estimates
Exhibit 256: But YTD most of the stocks have
outperformed or performed in line with the market
Source: Bloomberg, company data, Jefferies estimates
(40)
(20)
0
20
40
60
(20)
0
20
40
60
Equity Strategy
India
19 May 2014
page 91 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 257: Valuation Summary
Rating PT Price MCap EPS (Rs) P/E(x) EPS Growth (%) P/B(x) RoE(%)
$mn FY14E FY15E FY14E FY15E FY14E FY15E FY14E FY15E FY14E FY15E
DLF UNPF 140 170 5,143 4 6 40 27 2 48 1.1 1.0 3 4
GPL Hold 207 219 743 9 12 25 19 (48) 36 2.3 2.0 10 11
Oberoi Realty Buy 258 225 1,258 9 17 24 13 (38) 79 1.7 1.5 7 12
Prestige Estates Buy 217 184 1,096 10 13 18 14 19 32 2.1 1.9 12 14
Sobha Buy 485 426 710 25 34 17 13 13 35 1.8 1.7 11 13
IBREL UNPF 52 78 564 8 10 9 8 126 22 0.4 0.4 5 6
Unitech Hold 33 19 863 1 1 22 16 (27) 37 0.4 0.4 2 3
HDIL Hold 53 84 598 5 12 18 7 172 154 0.3 0.3 3 5
Source: Bloomberg; Price as of 16th May 2014
Valuation Charts
Exhibit 258: DLF is trading at 23% discount to our NAV
against its historical average of 0.5% premium
Source: Bloomberg, Jefferies estimates
Exhibit 259: DLF is trading at 1.1x forward book against its
historical average of 1.8x forward book
Source: Bloomberg, company data, Jefferies estimates
Exhibit 260: GPL is trading at 17% discount to our NAV
against its historical average of 15% discount
Source: Bloomberg, Jefferies estimates
Exhibit 261: GPL is trading at 1.8x forward book against its
historical average of 3.6x forward book
Source: Bloomberg, company data, Jefferies estimates
-60%
-40%
-20%
0%
20%
40%
60%
NAV (Disc)/Prem Average NAV (Disc)/Prem
0
1
2
3
4
Fwd P/BV Mean
-40%
-20%
0%
20%
Jan-10 Jul-10 Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 Jan-14
NAV (Disc)/Prem Average NAV (Disc)/Prem
0
1
2
3
4
5
Jan-10 Jul-10 Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 Jan-14
Fwd P/BV Average fwd P/BV
Equity Strategy
India
19 May 2014
page 92 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 262: Oberoi is trading at 30% discount to our NAV
against its historical average of 31% discount
Source: Bloomberg, Jefferies estimates
Exhibit 263:Oberoi is trading at 1.5x forward book against
its historical average of 1.9x forward book
Source: Bloomberg, company data, Jefferies estimates
Exhibit 264: Prestige is trading at 40% discount to our NAV
against its historical average of 50% discount
Source: Bloomberg, Jefferies estimates
Exhibit 265:Prestige is trading at 1.8x forward book
against its historical average of 1.7x forward book
Source: Bloomberg, company data, Jefferies estimates
-60%
-50%
-40%
-30%
-20%
-10%
0%
Oct-10 Apr-11 Oct-11 Apr-12 Oct-12 Apr-13 Oct-13 Apr-14
NAV (Disc)/Prem Average NAV (Disc)/Prem
1.0
1.5
2.0
2.5
3.0
Oct-10 Apr-11 Oct-11 Apr-12 Oct-12 Apr-13 Oct-13 Apr-14
Fwd P/BV Average fwd P/BV
-80%
-60%
-40%
-20%
0%
Oct-10 Apr-11 Oct-11 Apr-12 Oct-12 Apr-13 Oct-13 Apr-14
NAV (Disc)/Prem Average NAV (Disc)/Prem
0
1
2
3
4
Oct-10 Apr-11 Oct-11 Apr-12 Oct-12 Apr-13 Oct-13 Apr-14
Fwd P/BV Average fwd P/BV
Equity Strategy
India
19 May 2014
page 93 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Top Picks
Equity Strategy
India
19 May 2014
page 94 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Axis Bank (AXSB IN, Buy) – Positive on Cyclical Recovery We believe an equitable balance sheet mix, strong CASA support and large
Tier 1 buffer are the stepping stones to the next level of profitability. Its
strong capability in project financing and any turnaround in capex cycle
make AXSB the ideal beta stock. Still, asset quality pressure is likely to remain
elevated but with high provision coverage ratio and a sizeable contingency
provision buffer, the risk to profitability emanating from asset quality is
mostly covered. Axis Bank is our top pick in the sector.
Balance sheet set for next stage of growth. AXSB has managed a decent
turnaround in its balance sheet with the share of retail assets and retail deposits rising
sharply to 32% of total loans and 75% of total deposits, respectively. Within retail assets,
the focus has moved to better yielding products and the share of mortgages has come off
to 63%. CASA ratio has improved to 45% on period end basis and 39% of daily average
basis, an improvement of 1% yoy. The balance sheet mix change is amply visible in the
composition of fees, where the share of retail fees has improved to 32%.
Asset quality to remain largely under control. AXSB guides for Rs65bn in total
impairments for FY15, following its guidance of Rs60bn for FY14, against which it
delivered Rs56.9bn, which we believe is extremely positive. Further, it has built a
contingency buffer of 34bps of loans, which should help reduce pressure on profitability.
Profitability and capital are big pluses. Profitability ratios are strong with RoA of
1.8% and RoE of 18.2% in FY14. AXSB is adequately capitalised with Tier 1 of 12.62%.
Branch expansion continues with 23% newer branches in FY14.
Estimate and PT changes. We have tweaked earnings estimates upwards for FY15 and
FY16 by 1.2%/1.6% respectively. This is primarily driven by a marginal improvement in
NIM (2-3bps) and a reduction in expense ratio (30/40bps). This translates to an EPS CAGR
of 23.5% over FY14-16. We have upped price target to Rs2,180 (from Rs1,800).
Valuation / Risks. We value AXSB using a blended equal weighted average of price-to-
book, price-to earnings and DCF. Our Cost of Equity assumption is based on 8% risk-free
rate and 4.5% risk premium and beta of 1.15. At our PT, the stock is valued at 2.4x
forward book and 14.1x forward earnings. This compares to last 5yr and 8yr averages of
2.0x/11.6x and 2.9x/16.8x respectively. Key risks: (1) Poor economic pickup, (2)
worsening asset quality
Exhibit 266: Financial Snapshot
Rs Bn FY11A FY12A FY13A FY14A FY15E FY16E
NII 66 80 97 120 138 169
Core PPOP 59 71 85 108 124 154
Net profit 34 42 52 62 73 95
Loans 1,424 1,698 1,970 2,301 2,780 3,445
Deposits 1,892 2,201 2,526 2,809 3,441 4,249
RoA 1.68% 1.68% 1.70% 1.78% 1.75% 1.86%
RoE 20.16% 21.22% 20.51% 18.23% 17.30% 19.19%
PE 21.5 17.2 14.8 13.3 11.3 8.7
PB 4.0 3.4 2.6 2.3 2.0 1.6
Source: Jefferies estimates, company data
Equity Strategy
India
19 May 2014
page 95 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 267: Valuation methodology based on triangulation
Methodology Weight Valuation
Adj. book value (Q4FY15E) 927.0
P/BV multiple 1.69x
Value per share 1,570 33% 523
Earnings per share (12m to Q4FY15E) 154.8
P/E multiple 14.00x
Value per share 2,167 33% 722
DCF 2,813 33% 938
Blended value per share (rounded) 2,180
Source: Jefferies estimates
Exhibit 268: Loan book mix has improved
FY14A FY13A FY12A FY11A FY10A FY09A
Net advances 100% 100% 100% 100% 100% 100%
Agri 7.8% 7.5% 10.2% 12.2% 12.2% 10.1%
Industry 59.9% 65.1% 67.7% 68.3% 67.8% 70.2%
SME & MSME 15.4% 15.2% 14.0% 15.0% 17.5% 19.7%
Large & mid corp 44.4% 49.9% 53.6% 53.3% 50.3% 50.5%
Retail 32.4% 27.4% 22.1% 19.5% 20.0% 19.7%
Housing 20.4% 17.8% 16.6% 13.3% 14.1% 12.8%
Personal 2.6% 1.9% 1.3% 2.7% 1.9% 2.4%
Cards 0.6% 0.5% 0.4% 0.4% 0.4% 0.8%
Non-scheme 1.9% 1.4% 0.9% 1.0% 0.8% 1.0%
Auto Loans 3.9% 3.8% 2.9% 2.1% 2.7% 2.8%
Source: Jefferies, company data
Exhibit 269: Fee income composition – contribution from all verticals
FY14A FY13A FY12A FY11A FY10A
Fee income 100% 100% 100% 100% 100%
Large & mid corporate 30% 32% 36% 35% 30%
Treasury & debt capital market 22% 21% 20% 21% 19%
Agri & SME 7% 6% 6% 6% 8%
Business banking 8% 8% 9% 10% 13%
Capital market 1% 1% 1% 2% 2%
Retail business 32% 31% 27% 26% 29%
Source: Jefferies, company data
Exhibit 270: Liability profile has improved
Source: Jefferies, company data
19.9% 19.2% 22.9% 21.1% 22.8% 19.5% 18.1% 19.1% 17.3%
20.1% 20.6%22.8% 22.0%
24.0%21.6% 23.5% 25.2% 27.7%
25.1%17.1%
18.3% 19.9%19.0%
17.7%21.7%
23.6%30.0%
65.1%
57.0%
64.0% 63.0%65.7%
58.8%63.3%
67.9%
75.0%
FY06A FY07A FY08A FY09A FY10A FY11A FY12A FY13A FY14A
Demand Savings Retail TD CASA+Retail
Equity Strategy
India
19 May 2014
page 96 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 271: Corporate book rating
Source: Jefferies, company data
Exhibit 272: SME book rating
Source: Jefferies, company data
Exhibit 273: Impaired asset formation should slow
Source: Jefferies estimates, company data
Exhibit 274: High provision coverage ratio
Source: Jefferies estimates, company data
Exhibit 275: Profitability ratios improving
Source: Jefferies estimates, company data
Exhibit 276: High Tier 1 capital
Source: Jefferies estimates, company data
5% 10% 7% 8% 9% 11%
22% 18% 25% 19% 16% 15%
54% 47% 43%40%
37% 35%
16% 22% 23%30%
32% 30%
3% 3% 2% 3% 6% 9%
FY09A FY10A FY11A FY12A FY13A FY14A
AAA AA A BBB <BBB or unrated
1% 2% 5% 5% 6% 7%12% 13%
18% 18% 16% 15%
64% 62%59% 57% 58% 58%
15% 13%11% 12% 12% 13%
8% 10% 7% 9% 8% 7%
FY09A FY10A FY11A FY12A FY13A FY14A
SME 1 SME 2 SME 3 SME 4 SME 5 to 8
6.1%7.7%
4.9% 4.6% 4.2% 3.9%5.1% 4.6%
0.0%
7.0%
1.2%3.2%
5.2% 6.2%5.2%
1.0%
6.1%
14.7%
6.1%
7.8%
9.3%10.0% 10.3%
5.7%
FY0
9A
FY1
0A
FY1
1A
FY1
2A
FY1
3A
FY1
4A
FY1
5E
FY1
6E
Slippages* Restructured assets* Stressed assets*
40%
50%
60%
70%
80%
90%
100%
FY0
8A
FY0
9A
FY1
0A
FY1
1A
FY1
2A
FY1
3A
FY1
4A
FY1
5E
FY1
6E
Provision coverage (ex. AUCA) Provision coverage (incl. AUCA)
15%
17%
19%
21%
23%
25%
27%
1.0%
1.1%
1.2%
1.3%
1.4%
1.5%
1.6%
1.7%
1.8%
1.9%
2.0%
FY0
5A
FY0
6A
FY0
7A
FY0
8A
FY0
9A
FY1
0A
FY1
1A
FY1
2A
FY1
3A
FY1
4A
FY1
5E
FY1
6E
RoA RoE (RHS)
6%
8%
10%
12%
14%
16%
18%
FY0
6A
FY0
7A
FY0
8A
FY0
9A
FY1
0A
FY1
1A
FY1
2A
FY1
3A
FY1
4A
FY1
5E
FY1
6E
Tier 1* (%) CRAR* (%)
Equity Strategy
India
19 May 2014
page 97 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 277: Adjusted price-to-book (historical)
Source: Jefferies estimates, company data, Bloomberg
0.7x
2.1x
1.5x
2.7x
0
500
1,000
1,500
2,000
2,500
3,000
Mar-
06
Jul-
06
No
v-0
6
Mar-
07
Jul-
07
No
v-0
7
Mar-
08
Jul-
08
No
v-0
8
Mar-
09
Jul-
09
No
v-0
9
Mar-
10
Jul-
10
No
v-1
0
Mar-
11
Jul-
11
No
v-1
1
Mar-
12
Jul-
12
No
v-1
2
Mar-
13
Jul-
13
No
v-1
3
Mar-
14
Price Min Median - 1 sd Median Median + 1 sd
Equity Strategy
India
19 May 2014
page 98 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Bank of Baroda (BOB IN, Buy) – Best within SOEs, governance change is positive BOB is the best in class within SOE banks, given its better Tier 1 position and
an ever better asset quality position, expense ratio management and
underlying profitability. More importantly, we view the probable change in
governance structure at SOE banks as positive. BOB is our top pick within the
SOE bank space.
Governance change optionality not in price. As we have analysed in our earlier
reports and as suggested by a recent RBI Committee, the bank boards need to be
empowered, which should take them closer to private sector banks and lower the
corporate governance discount associated with SOE banks. And if required, the
government can even bring legislative changes easily, now that they have a majority in
the Lower House. SOE Banks trade at massive discount to their private sector peers and to
that extent, they can materially outperform the broader sector.
Asset quality – best within SOEs, and pressure diminishing. BOB has reported
progressively better asset quality numbers, much better than sector peers. We view this as
extremely positive as BOB would exit the downturn with the least amount of damage to
its loan book. The primary reason we believe is the composition of loan book with a third
in lower risk foreign loans (of which 50% if buyer’s credit), and very low exposure to the
large and mid-corporate sector. BOB is also focusing on improving its share of SME/MSME
assets, although as a proportion its exposure to retail has come off.
One of the better capitalised SOEs. BOB’s Tier1 at 9.3% is one of the better ones
within the SOE space. We believe this provides strong base to grow the loan book without
worrying about dilution risks.
Estimate and PT changes. We make no changes to estimates, having upgraded the
stock recently to a Buy. We up the PT further to Rs1,140 from Rs1,080.
Valuation / Risks. We value BOB using a blended equal weighted average of price-to-
book, price-to earnings and DCF. Our Cost of Equity assumption is based on 8% risk-free
rate and 4.5% risk premium and beta of 1.15. At our PT, the stock is valued at 1.5x
forward book and 9.3x forward earnings. This compares to last 5yr and 8yr averages of
1.1x/6.2x and 0.9x/6.4x respectively. Key risks: (1) Lack of board governance structure,
(2) Impending change in management, (3) slowing growth and worsening of asset
quality.
Exhibit 278: Financial Snapshot
Rs Bn FY11A FY12A FY13A FY14A FY15E FY16E
NII 88 103 113 120 147 182
Core PPOP 65 80 84 86 108 135
Net profit 42 50 44 45 52 70
Loans 2,287 2,874 3,282 3,970 4,692 5,669
Deposits 3,054 3,849 4,739 5,689 6,707 8,084
RoA 1.33% 1.24% 0.90% 0.75% 0.74% 0.82%
RoE 21.48% 19.04% 14.59% 13.00% 13.43% 15.77%
PE 8.6 7.7 8.6 8.7 7.6 5.7
PB 1.8 1.5 1.3 1.3 1.1 0.9
Source: Jefferies estimates, company data
Equity Strategy
India
19 May 2014
page 99 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 279: Valuation methodology based on triangulation
Methodology Weight Valuation
Adj. book value (Q4FY15E) 775.7
P/BV multiple 1.56x
Value per share 1,210 33% 403
Earnings per share (12m to Q4FY15E) 122.2
P/E multiple 8.00x
Value per share 978 33% 326
DCF 1,230 33% 410
Blended value per share (rounded) 1,140
Source: Jefferies estimates
Exhibit 280: Loan mix in favour of SME/MSME, exposure to large and mid-size corporates falling
FY14A FY13A FY12A FY11A FY10A FY09A
Net Advances - Global 100% 100% 100% 100% 100% 100%
International 31.4% 31.7% 29.7% 25.9% 24.8% 24.2%
Domestic 68.6% 68.3% 70.3% 74.1% 75.2% 75.8%
Agriculture & Allied 7.0% 8.6% 9.9% 10.6% 12.2% 11.7%
Industry 35.9% 39.1% 39.0% 39.1% 38.0% 34.7%
SME / MSME 13.9% 13.5% 11.8% 11.8% 11.9% 10.1%
Large & mid 22.0% 25.6% 27.2% 27.3% 26.1% 24.6%
Retail 11.4% 11.3% 12.2% 13.9% 13.7% 13.6%
Housing/Mortgage 4.9% 4.9% 4.9% 5.5% 5.9% 5.8%
Personal 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%
Education 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%
Other Retail 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%
Others 14.3% 9.3% 9.1% 10.4% 11.4% 15.8%
Source: Jefferies, company data
Exhibit 281: CASA ratio to improve
Source: Jefferies estimates, company data
Exhibit 282: NIMs have likely bottomed
Source: Jefferies estimates, company data
8.7
%
8.0
%
7.5
%
7.6
%
8.0
%
7.4
%
7.3
%
6.4
%
7.1
%
7.3
%
7.5
%
33
.3%
30
.6%
28
.5%
27
.3%
27
.6%
27
.0%
25
.9%
24
.0%
24
.6%
25
.3%
25
.9%
42
.0%
38
.7%
35
.9%
34
.9%
35
.6%
34
.4%
33
.2%
30
.4%
31
.8%
32
.6%
33
.4%
FY0
6A
FY0
7A
FY0
8A
FY0
9A
FY1
0A
FY1
1A
FY1
2A
FY1
3A
FY1
4A
FY1
5E
FY1
6E
Demand Saving
2.0%
2.2%
2.4%
2.6%
2.8%
3.0%
3.2%
3.4%
4.0%
4.5%
5.0%
5.5%
6.0%
6.5%
7.0%
7.5%
8.0%
FY0
6A
FY0
7A
FY0
8A
FY0
9A
FY1
0A
FY1
1A
FY1
2A
FY1
3A
FY1
4A
FY1
5E
FY1
6E
Yield on assets* Cost of funds* NIM (RHS)
Equity Strategy
India
19 May 2014
page 100 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 283: Impaired asset formation coming down
Source: Jefferies estimates, company data
Exhibit 284: Provision coverage should improve
Source: Jefferies estimates, company data
Exhibit 285: Profitability has bottomed
Source: Jefferies estimates, company data
Exhibit 286: Ample Tier 1 capital for near term
Source: Jefferies estimates, company data
Exhibit 287: Branch expansion continues
Source: Jefferies, company data
1.3%1.9%0.8%0.7%1.5%1.3%1.2%1.8%2.3%2.1%2.4%3.0%2.9%3.0%2.7%2.0%1.3%
0.9%0.5%
0.4%1.6%
1.5%1.0%1.4%
4.1%
8.7%
1.3%1.6%2.4%
6.0%
2.8%2.0%
1.4%1.8%
2.1%2.3%
1.2%
2.3%3.0%
2.2%2.6%
5.9%
11.0%
3.5%4.0%
5.5%
9.0%
5.8%4.7%
3.4%3.2%
Q4
FY1
0A
Q1
FY1
1A
Q2
FY1
1A
Q3
FY1
1A
Q4
FY1
1A
Q1
FY1
2A
Q2
FY1
2A
Q3
FY1
2A
Q4
FY1
2A
Q1
FY1
3A
Q2
FY1
3A
Q3
FY1
3A
Q4
FY1
3A
Q1
FY1
4A
Q2
FY1
4A
Q3
FY1
4A
Q4
FY1
4A
Slippages* Restructured assets*
0
20
40
60
80
100
120
140
160
180
40%
45%
50%
55%
60%
65%
70%
75%
80%
85%
90%
FY0
6A
FY0
7A
FY0
8A
FY0
9A
FY1
0A
FY1
1A
FY1
2A
FY1
3A
FY1
4A
FY1
5E
FY1
6E
PCR PCR (incl. AUCA) Credit cost (RHS)
6%
8%
10%
12%
14%
16%
18%
20%
22%
24%
0.7%
0.8%
0.9%
1.0%
1.1%
1.2%
1.3%
1.4%
FY0
5A
FY0
6A
FY0
7A
FY0
8A
FY0
9A
FY1
0A
FY1
1A
FY1
2A
FY1
3A
FY1
4A
FY1
5E
FY1
6E
RoA RoE (RHS)
6%
7%
8%
9%
10%
11%
12%
13%
14%
15%
16%FY
05
A
FY0
6A
FY0
7A
FY0
8A
FY0
9A
FY1
0A
FY1
1A
FY1
2A
FY1
3A
FY1
4A
FY1
5E
FY1
6E
Tier 1* (%) CRAR* (%)
2700 2704 2732 2853 2926 31003364
39044276
4874
170 0 0 0
1179 13151561
2012
2630
6254
0 0 0 0 0 0 0 0 0 0
FY05A FY06A FY07A FY08A FY09A FY10A FY11A FY12A FY13A FY14A
Branches ATMs No. of cities
Equity Strategy
India
19 May 2014
page 101 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 288: Adjusted price-to-book (historical)
Source: Jefferies estimates, company data, Bloomberg
0.5x
1.0x
0.7x
1.2x
100
300
500
700
900
1,100
1,300
Mar
06
Mar
07
Mar
08
Mar
09
Mar
10
Mar
11
Mar
12
Mar
13
Mar
14
Price Min Median - 1 sd Median Median + 1 sd
Equity Strategy
India
19 May 2014
page 102 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
ICICI Bank (ICICIBC IN, Buy) – Positive on cyclical recovery
While the recent quarter saw large asset quality impairments, we believe this
is unlikely to be the trend. A well-seasoned corporate book, and thrust on
retail assets means credit cost will be at a similar level as last year. The aim
clearly seems to be bringing capital in to the domestic bank where the
margins are higher – capital repatriation whether by dividends from foreign
subsidiaries or recognising FX translating gains from foreign branches – is
RoE positive. We expect standalone RoE of 16% in FY16 and consolidated RoE
of 16-17%. High Tier 1 is another positive; its subsidiaries have turned
dividend payers, putting less recapitalization pressure on the bank.
Retail asset pickup and CASA is positive. ICICI Bank has come around to grow its
retail assets once again with the share of retail assets at 39%, but growing mostly in
secured products like mortgage and auto loans. The share of CASA has also stabilised at
43% for the last few years and that should help protect NIM volatility going forward.
Asset quality to remain largely under control. Q4FY14 saw large addition to
impaired assets, although most of that was guided to. But we don’t believe this is the start
of a new trend. Further, management remains optimistic of lesser asset quality risks going
forward. We build in credit cost of 90bps for FY15/FY16. We also expect the impaired
asset formation ratio to come off from 3% in FY14 to 2.5% in FY15 and 1.4% in FY16.
Profitability uptick and ample Tier 1 to drive the growth. ICICI Bank is sitting
with 12.8% Tier 1 capital providing ample headroom to fuel growth without worrying
about a near term capital raising. Further, we expect profitability ratios to continue to
improve with FY16 RoA at 1.9% and RoE at 16.2%.
Estimate and PT changes. We make a very marginal change of 0.3% in FY16 earnings
owing to a small change in our expense ratio assumptions. We up PT to Rs1,720.
Valuation / Risks. We value ICICIBC using SOTP. We value the standalone bank ex of
equity investment in subsidiaries at 2.6x book, foreign subsidiaries at 1.5x book, Life
insurance using Appraisal Value (EV+18.8x NBAP), General Insurance at 15x earnings. At
our PT, the stock is valued at 2.5x forward book and 17.2x forward earnings. This
compares to last 5yr and 8yr averages of 1.8x/16.0x and 2.2x/16.3x respectively. Key
risks: (1) Poor economic pickup, (2) worsening asset quality
Exhibit 289: Financial Snapshot
Rs Bn FY11A FY12A FY13A FY14A FY15E FY16E
NII 90 107 139 165 207 263
Core PPOP 93 104 127 156 188 234
Net profit 52 65 83 98 116 144
Loans 2,164 2,537 2,902 3,387 4,134 5,064
Deposits 2,256 2,555 2,926 3,319 3,995 4,828
RoA 1.35% 1.44% 1.66% 1.76% 1.79% 1.89%
RoE 9.60% 11.10% 12.90% 13.70% 14.62% 16.23%
PE 32.5 26.2 20.4 17.3 14.7 11.8
PB 3.3 3.0 2.7 2.5 2.2 2.0
Source: Jefferies estimates, company data
Equity Strategy
India
19 May 2014
page 103 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 290: Sum of the parts valuation methodology Valuation basis (in mns) FX rate Stake Multiple per share
Domestic banking Book value (adj) Rs. 6,65,708 1.00 100.0% 2.6x 1,305
Foreign bank subsidiaries
UK Book value $662 62.00 100.0% 1.5x 53
Canada Book value CAD 990 63.00 100.0% 1.5x 81
Russia Book value $57 62.00 100.0% 1.5x 5
Domestic subsidiaries
Life Appraisal value Rs. 2,27,966 1.00 74.0% EV + (15% margin, 18.8x multiple, APE growth FY13-15: 15% CAGR) 145
General PAT (12m rolling) Rs. 3,544 1.00 74.0% 15.0x 34
AMC Avg. AuM Rs. 11,57,560 1.00 51.0% 5.0% 26
HFC Book value Rs. 16,921 1.00 100.0% 2.0x 29
Isec PD PAT (12m rolling) Rs. 1,452 1.00 100.0% 15.0x 19
Isec PAT (12m rolling) Rs. 1,001 1.00 100.0% 15.0x 13
Venture AuM $2,000 62.00 100.0% 8.0% 9
Value of subsidiaries 413
Fair value for ICICI Bank 1,720
Source: Jefferies estimates
Exhibit 291: Loan book mix – retail back in focus
FY14A FY13A FY12A FY11A FY10A
ADVANCES, NET 100% 100% 100% 100% 100%
Priority sector 0.0% 0.0% 0.0% 9.7% 10.0%
Retail 39.0% 37.0% 38.0% 38.7% 43.0%
Housing 20.9% 19.8% 19.2% 24.9% 25.8%
Personal 1.2% 0.6% 0.4% 1.1% 2.6%
Cards 1.0% 0.9% 1.0% 1.3% 2.2%
Vehicle loan 8.2% 8.9% 10.5% 10.4% 11.6%
CV 3.7% 5.1% 7.0% 6.8% 6.9%
Auto 4.5% 3.8% 3.5% 3.6% 4.3%
Two-wheeler 0.0% 0.0% 0.0% 0.0% 0.4%
Others 5.5% 4.6% 4.2% 1.0% 0.9%
Corporate & Commercial 34.5% 37.7% 34.6% 26.1% 22.0%
SME 4.4% 5.2% 6.0% 4.8% 4.0%
Corporates 30.1% 32.5% 28.6% 21.3% 18.0%
International 26.5% 25.3% 27.4% 25.5% 25.0%
Source: Jefferies, company data
Exhibit 292: CASA has shaped up well
Source: Jefferies estimates, company data
Exhibit 293: NIM should hold up
Source: Jefferies estimates, company data
10
.0%
9.3
%
10
.1%
9.9
%
15
.3%
15
.4%
13
.7%
12
.6%
13
.0%
13
.0%
13
.2%
12
.7%
12
.5%
16
.0%
18
.8% 2
6.3
%
29
.6%
29
.8%
29
.3%
29
.9%
29
.9%
30
.1%
22
.7%
21
.8%
26
.1%
28
.7%
41
.7%
45
.1%
43
.5%
41
.9%
42
.9%
42
.9%
43
.3%
FY0
6A
FY0
7A
FY0
8A
FY0
9A
FY1
0A
FY1
1A
FY1
2A
FY1
3A
FY1
4A
FY1
5E
FY1
6E
Demand Saving
2.0%
2.2%
2.4%
2.6%
2.8%
3.0%
3.2%
3.4%
4.0%
4.5%
5.0%
5.5%
6.0%
6.5%
7.0%
7.5%
8.0%
8.5%
9.0%
FY0
5A
FY0
6A
FY0
7A
FY0
8A
FY0
9A
FY1
0A
FY1
1A
FY1
2A
FY1
3A
FY1
4A
FY1
5E
FY1
6E
Yield on assets* Cost of funds* NIM (RHS)
Equity Strategy
India
19 May 2014
page 104 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 294: Fee income to pick up
Source: Jefferies estimates, company data
Exhibit 295: Decent provision coverage ratio
Source: Jefferies estimates, company data
Exhibit 296: Total impaired assets to decline
Source: Jefferies estimates, company data
Exhibit 297: Reflecting in lower formation ratio
Source: Jefferies estimates, company data
Exhibit 298: Profitability to improve
Source: Jefferies estimates, company data
Exhibit 299: Amply capitalised
Source: Jefferies estimates, company data
1.2%
1.3%
1.4%
1.5%
1.6%
1.7%
1.8%
1.9%
2.0%
FY0
5A
FY0
6A
FY0
7A
FY0
8A
FY0
9A
FY1
0A
FY1
1A
FY1
2A
FY1
3A
FY1
4A
FY1
5E
Fee as % of avg. IEA
0
50
100
150
200
250
50%
55%
60%
65%
70%
75%
80%
85%
FY0
6A
FY0
7A
FY0
8A
FY0
9A
FY1
0A
FY1
1A
FY1
2A
FY1
3A
FY1
4A
FY1
5E
FY1
6E
Provision coverage Total credit cost (RHS)
36.950.6
64.2
28.7 29.9 37.247.3 55.5
70.515.8
11.1
51.9
12.1
35.9 18.1
61.1 45.0
-2.0
52.761.7
116.1
40.7
65.855.3
108.4100.5
68.5
FY08A FY09A FY10A FY11A FY12A FY13A FY14A FY15E FY16E
Slippages Restructured assets
1.8% 2.1%2.7%
1.3% 1.1% 1.2% 1.3% 1.4% 1.4%
0.8% 0.5%
2.2%
0.6% 1.3%0.6%
1.7%1.1%
0.0%
2.5% 2.5%
4.8%
1.9%
2.4%
1.8%
3.0%
2.5%
1.4%
FY08A FY09A FY10A FY11A FY12A FY13A FY14A FY15E FY16E
Slippages* Restructured assets*
6%
8%
10%
12%
14%
16%
18%
20%
0.9%
1.1%
1.3%
1.5%
1.7%
1.9%
2.1%
FY0
5A
FY0
6A
FY0
7A
FY0
8A
FY0
9A
FY1
0A
FY1
1A
FY1
2A
FY1
3A
FY1
4A
FY1
5E
FY1
6E
RoA RoE (RHS)
6%
8%
10%
12%
14%
16%
18%
20%
22%
FY0
5A
FY0
6A
FY0
7A
FY0
8A
FY0
9A
FY1
0A
FY1
1A
FY1
2A
FY1
3A
FY1
4A
FY1
5E
FY1
6E
Tier 1* (%) CRAR* (%)
Equity Strategy
India
19 May 2014
page 105 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 300: Adjusted price-to-book (historical)
Source: Jefferies estimates, company data, Bloomberg
0.6x
1.9x
1.4x
2.3x
0
200
400
600
800
1,000
1,200
1,400
1,600
1,800
Mar
06
Mar
07
Mar
08
Mar
09
Mar
10
Mar
11
Mar
12
Mar
13
Mar
14
Price Min Median - 1 sd Median Median + 1 sd
Equity Strategy
India
19 May 2014
page 106 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
ITC (ITC IN, Buy) ITC’s revenue growth is likely to remain weak in FY15E, given the subdued
demand environment evident in staples categories and the added likelihood
of tax increases for a third year in a row. However, we believe ITC’s earnings
trajectory should remain resilient despite the headwinds in the near future,
given the nature of price elasticity in the category and ITC’s pricing power.
ITC remains our top pick in staples.
Taxes likely to be raised again
Cigarette taxes have gone up > 20% p.a. (per stick) in the last two years, mostly led by
hikes in central excise duties as well as increase in state VAT rates. Given the dire fiscal
situation that the new government is set to tackle, we believe cigarette taxes will be raised
yet again for a third consecutive year. Possibly in a similar expectation, ITC has raised
prices of some its cigarette brands by 15-20% in early April. We factor in an excise duty
increase of 10% in FY15E.
Volumes to remain weak but profit growth should be resilient
ITC’s cigarette volume growth has understandably weakened in the past two years on
account of the steep tax increases. The impact, however, was particularly severe in FY14
(volumes down 2.5-3%) under the added weight of a broader slowdown in consumption,
in our view. This ties in with historical trends which show a remarkable correlation
between ITC’s cigarette retail sales and other consumption growth metrics such as PFCE
or nominal GDP. Given our view that the slowdown in staples categories is likely to last
over the next one year, we expect the growth in ITC’s cigarette retail sales also to remain
below trend growth in FY15E. Profitability, however, should remain resilient in the near
term, supported by low price elasticity of the segment, strong competitive positioning
and a cost structure that is largely immune to volume trends. We expect ITC’s profits to
grow at a steady pace 15-16% over FY15E-16E.
Long term concerns
Demand for cigarettes in India has grown at c.1-1.3% p.a. in the past three decades, only
slightly ahead of the global demand, unlike the vastly superior growth in most other
consumer items. Taxation, absolute and relative (to alternate tobacco products), has
played its part. Prevalence of smoking is also down, in line with global trends. While ITC
has managed strong earnings growth due to share gains, price increases and mix and will
likely do so in the near term, long-term risks are real.
Valuation/Risks
We tweak our earnings and roll forward our SOTP-based TP to FY16E. We now value ITC
at Rs.411/share (28x FY16E cigarette profits). Maintain Buy. Risks: a) slowdown more
severe than anticipated; b) introduction of ad valorem taxes at the centre or sharp increase
state-level ad valorem taxes; and c) meaningful deterioration in product mix.
Exhibit 301: ITC summary financials
Rs bn FY13 FY14E FY15E FY16E
Revenues 289.2 330.7 379.1 444.9
EBITDA 103.3 117.7 139.1 160.6
Margin 35.7% 35.6% 36.7% 36.1%
PAT 74.2 85.9 100.2 115.4
EPS (Rs./share) 9.4 10.8 12.6 14.5
P/E (x) 38.0 33.0 28.3 24.5
BVPS (Rs./share) 28.2 31.8 35.9 40.5
P/B (x) 12.7 11.2 9.9 8.8
ROE 33.3% 34.1% 35.2% 35.9%
Source: Jefferies estimates, company data
Given our view that the slowdown in
staples categories, is likely to last
over the next one year, we expect
the growth in ITC’s cigarette retail
sales also to remain below trend
growth in FY15E
Demand for cigarettes in India has
grown at c.1-1.3% p.a. in the past
three decades, only slightly ahead of
the global demand, unlike the vastly
superior growth in most other
consumer items
Equity Strategy
India
19 May 2014
page 107 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 302: Sharp increase in taxes in recent years
Source: Central and state government budgets
Exhibit 303: Growth in ITC's cigarette retail pricing (indexed to FY05)
Source: Jefferies estimates, company data
Exhibit 304: ITC's cigarette retail sales correlated with growth in PFCE
Source: CMIE, company data, Jefferies estimates
0%
5%
10%
15%
20%
25%
30%
35%
FY00 FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09* FY10 FY11 FY12 FY13 FY14
Tax increase LT average
0
50
100
150
200
250
300
350
FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14E
Net ASP Excise duty Trade margin VAT
0%
5%
10%
15%
20%
25%
FY96 FY98 FY00 FY02 FY04 FY06 FY08 FY10 FY12 FY14E
ITC retail sales growth PFCE growth
ITC’s cigarette retail sales have been
remarkably correlated with PFCE in
the past
Cigarette taxes have gone up >20%
p.a. in the last two years
Equity Strategy
India
19 May 2014
page 108 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 305: Growth in cigarette volumes in the last few decades (CAGR)
Source: FAO, WHO, Ministry of Commerce, Company Data, Jefferies estimates
Exhibit 306: ITC's share of organized industry volumes
Source: Jefferies estimates, company data
Exhibit 307: Changes to estimates
Previous New Change
Rs bn FY15E FY16E FY15E FY16E FY15E FY16E
Cigarette segment
Volumes (bn sticks) 90.9 96.1 87.3 92.3 -4.0% -3.9%
Revenues 328.7 371.4 326.5 368.9 -0.6% -0.7%
EBIT 112.1 129.0 112.7 129.5 0.5% 0.4%
EBIT margin 34.1% 34.7% 34.5% 35.1% 39 bp 39 bp
Total
Revenues 381.3 447.4 379.1 444.9 -0.6% -0.6%
EBITDA 138.5 160.0 139.1 160.6 0.4% 0.4%
Margin 36.3% 35.8% 36.7% 36.1% 35 bp 33 bp
PAT 99.8 115.0 100.2 115.4 0.4% 0.3%
EPS (Rs) 12.6 14.5 12.6 14.5 0.4% 0.3%
Source: Jefferies estimates
0.0%
1.0%
2.0%
3.0%
4.0%
5.0%
6.0%
7.0%
1950-60 1960-70 1970-80 1980-90 1990-00 2000-10
India World
50%
55%
60%
65%
70%
75%
80%
85%
1991 1994 1997 2000 2003 2006 2009 2012
Cigarette volumes in India have
grown only slightly ahead of global
volumes in the last three decades
ITC’s volume growth has been much
ahead of industry as it has
consistently gained share in the last
several years
Equity Strategy
India
19 May 2014
page 109 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
L&T (LT IN, Buy): Still some way to go… Larsen & Toubro (L&T) is India’s unparalleled leader in engineering,
procurement construction (EPC) driven by infrastructure spend and capex –
integral to India’s GDP growth. With the election euphoria, the company has
given strong absolute returns, apart from being an outperformer. Project
announcements, sector reforms and fund raising by corporates for capex at
the macro level will keep valuations stable for the company. However, we
believe monetisation of subsidiaries in a buoyant environment at better
valuations is the angle that keeps risk:reward favourable. We maintain Buy,
with a revised TP of Rs1,640, valuing the core E&C business at 20x PE FY16E,
vs. 17x earlier.
Dhamra Port sale completed (Exhibit 13): L&T has sold its Dhamra Port asset on
the east coast, to Adani Port (ADSEZ IN, Rs223, Underperform) for Rs55 bn. L&T had a
stake of 50% in the project, and has sold the asset at a P/B of over 2.5x on its initial
investment. Increasing investments in subsidiaries had put pressure on L&T’s standalone
ROEs during FY08-13, leading to some valuation de-rating. We expect this de-rating cycle
to reverse over the next 12-18 months, as ROEs show signs of trending upwards with
monetisation of long gestation projects. FIPB approval of Rs10 bn investment in L&T IDPL
and listing of road assets in Singapore give further credibility to scope of monetisation.
Raised 11% revenue CAGR of FY13-16E marginally to 13% (Exhibit 14): Ex-
hydrocarbon, L&T’s order flow has risen at a CAGR of 3% during FY11-13, and order book
at a CAGR of 19%. L&T’s revenue CAGR has a 4-quarter lag to its order book. Ex-
hydrocarbon, its order book has seen a sharp spike and risen by 30% in 2Q and 3QFY14.
Given our sector outlook of better execution pick-up as corporates gain confidence in a
buoyant environment, we have marginally raised our revenue CAGR expectations.
Comprehensive play on any potential recovery (Exhibit 15-16): L&T’s scale and
balance sheet strength is reflected in its 15-20% ROEs, with peers at sub-10%. In addition,
lower leverage at under 0.5x vs. peers closer or above 2.0x gives it the benefit of
increasing market share in both good and difficult environments. L&T’s diversified
presence has seen its order book rising across cycles, driven by different segments. Hence,
it remains the most comprehensive play on any potential recovery in the capex cycle.
Valuations give additional comfort on risk/reward (Exhibits 17-19): Our
estimate of a 9% EPS CAGR during FY13-16E (12% CAGR during FY14-16E) factors in
20%+ order flow CAGR in FY12-14E and deteriorating working capital, from 22% to 25%
of sales. We maintain Buy with a revised TP of Rs1,640 valuing the core E&C at 20x PE
FY16E (5% discount to historical average PE) vs. 17x FY16E earlier. Risks: 1) Slowdown in
Middle East.
Exhibit 308: Financial summary
(Rs mn) FY11 FY12 FY13 FY14E FY15E FY16E
Opening order book 1,002,390 1,302,170 1,442,300 1,536,040 1,975,263 2,446,608
Net Sales 439,049 531,705 515,709 572,777 641,856 738,296
EBITDA 55,985 62,639 55,787 64,724 72,530 83,427
EBITDA (%) 12.8 11.8 10.8 11.3 11.3 11.3
Adjusted PAT 36,671 43,968 42,431 44,372 48,842 55,786
EPS (Rs) 39.4 47.2 45.5 47.6 52.4 59.9
EPS Growth (%) 20.9 19.9 (3.5) 4.6 10.1 14.2
ROCE (%) 24.1 21.6 20.2 18.4 18.0 18.6
RONW (%) 18.3 18.7 15.6 14.4 14.4 14.8
PE (x)* 25.0 20.8 21.6 20.6 18.8 16.4
PBV (x)* 4.2 3.6 3.1 2.8 2.6 2.3
EV/EBITDA (x)* 16.0 14.8 16.7 14.7 13.0 11.2
Source: Jefferies estimates, company data
Equity Strategy
India
19 May 2014
page 110 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 309: incremental investment in subsidiaries to reduce going forward (Rs mn)
FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14E FY15E FY16E
L&A to
subsidiaries 3,446 2,986 3,488 23,581 32,719 48,692 51,208 46,653 55,000 58,000 63,000
Investments-
Liquid 11,549 19,440 26,396 33,841 57,408 74,008 90,847 105,227 117,227 129,227 141,227
Overall 14,995 22,426 29,884 57,422 90,127 122,701 142,056 151,880 172,227 187,227 204,227
Incremental 3,568 7,430 7,459 27,537 32,705 32,574 19,355 9,824 20,347 15,000 17,000
% of balance
sheet 24.3 28.4 22.6 30.1 35.8 41.9 40.3 39.7 39.7 39.9 39.9
Incremental % of
balance sheet 5.8 9.4 5.7 14.4 13.0 11.1 5.5 2.6 4.7 3.2 3.3
Incremental % of
PAT 45.1 54.1 36.6 103.4 107.8 88.8 44.0 23.2 45.9 30.7 30.5
ROE (%) 19.8 26.4 26.6 24.2 19.7 18.3 18.7 15.6 14.4 14.4 14.8
ROCE (%) 25.0 29.6 30.4 31.1 29.5 24.1 21.6 20.2 18.4 18.0 18.6
Core ROCE (%) 32.5 40.4 40.5 42.6 44.2 39.5 36.7 33.6 30.5 29.9 31.0
Source: Jefferies estimates, company data
Exhibit 310: Revenue growth typically lags order flow growth by 4 quarters
Source: Jefferies estimates, company data
Exhibit 311: L&T’s market share in hydrocarbons
Source: Jefferies estimates, company data
-10
0
10
20
30
40
50
60
70
order book ex-hydrocarbon growth (% YoY) Revenue growth 4 qtr lag (% YoY)
L&T's market share,
57%
Other Players, 43%
Equity Strategy
India
19 May 2014
page 111 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 312: L&T’s market share in other capex
Source: Jefferies estimates, company data
Exhibit 313: SOTP Valuation
Particulars Stake Value (Rs/share) Old value Basis
L&T Parent 1,198 786 20x PE FY16E excl. hydrocarbon v/s 17x PE FY16E
L&T Hydrocarbon 69 63 10x PE FY16E v/s 10x PE FY15E
L&T InfoTech 100 90 74
10x PE FY16E - around 35% discount to HCL Tech target PE v/s 10x
PE FY15E earlier
L&T Finance Holdings 82 99 91 20% hold co discount to CMP of Rs82 - implied ~1.7x FY16E P/B
L&T IDPL 97 94 79
Valued IDPL at 50% premium to Rs186/share - price L&T increased
stake in FY11-12 - implied P/B is ~2x FY16E; v/s 26% premium
earlier
L&T-MHI BTG 51 3 3 Valued investment at 1x P/B - BTG outlook remains difficult
Other investments 89 43
Valued at 1.5x book as on March 2015; multiple expansion as
monetisation visibility improves
Target Price 1,640 1,140
Source: Jefferies estimates, company data
Exhibit 314: PE Valuation
Source: Jefferies estimates, company data, Bloomberg
Exhibit 315: PB valuation chart
Source: Jefferies estimates, company data
L&T's market
share, 31%
Other Players,
69%
0
15
30
45
60
Apr-03 Apr-05 Apr-07 Apr-09 Apr-11 Apr-13
Rolling PE Mean PE Median
0
3
6
9
12
15
Apr-03 Apr-05 Apr-07 Apr-09 Apr-11 Apr-13
Rolling PBV Mean Median
Equity Strategy
India
19 May 2014
page 112 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Maruti Suzuki (MSIL IN, Buy) We believe Maruti is the best play on economic recovery in India as the car
industry, which has gone through its longest slowdown in FY11-14, could be
amongst the earliest to recover. The shift from diesels to petrol continues,
boosting Maruti’s market share but hurting margins. Steady indigenisation
should help reduce volatility, but demand recovery remains key to margin
improvement. Maintain Buy.
Well positioned for a cyclical recovery
The car industry, especially small cars, has seen nearly 3 years of decline and looks poised
for recovery given the significant latent demand. Competitive intensity has eased in small
cars and should remain benign over the next few years. However, the sedan segment
could continue to face competitive pressure in the medium term. Maruti gained 300bps
market share in FY14 as the market shifted back to petrol cars (diesel cars 53% of industry
compared to 58% in FY13) as well as due to successful new car launches. With a solid
launch pipeline in place relative to its peers, we believe Maruti is well positioned for a
cyclical recovery. We raise our FY16E volume estimate by 4% and now forecast Maruti’s
volumes to grow 15%pa in FY14-16E. Exports declined sharply (-16%) in FY14 due to
slowdown and changes in regulations in certain end markets. We forecast a 15% growth
of a low base.
Margin outlook mixed, currency-induced volatility should moderate
Product mix shift in favour of petrol cars will likely keep Maruti’s margins under pressure
in the near term. Demand recovery, therefore, is key to margin improvement, in its impact
on capacity utilization (currently low at 70% assembly, 65% powertrain) and discount
levels (up ~40% in FY14). At the same time, steady progress on indigenisation should
mitigate currency-led volatility to some extent. Maruti has cut down component imports
from 19% in end FY13 to 16% in end FY14 and will likely continue to benefit from the
resultant cost savings. Currency remains benign and we expect EBITDA margins to
increase 60bps each year over FY14-16E.
High capex plans despite recent arrangement
Maruti has guided to capex of Rs40b, despite new capacity being put up by Suzuki. The
high capex spend for marketing infrastructure is surprisingly high and we are unsure how
much of this is recurring in nature.
Valuation/Risks
We incorporate the above changes to our assumptions and raise FY16E earnings by 4%.
We now value Maruti at Rs.2501/share, based on 18x core earnings plus cash (vs.17x
earlier and 20% premium to its long term historic average). Key risks: Currency volatility.
Exhibit 316: Maruti summary financials
Rs bn FY13 FY14E FY15E FY16E
Revenues 435.9 438.4 499.2 581.1
EBITDA 42.3 52.3 62.6 75.9
Margin 9.7% 11.9% 12.5% 13.1%
PAT 23.9 29.3 34.3 42.3
EPS 79.2 96.9 113.7 140.1
P/E (x) 27.2 22.2 18.9 15.4
BVPS 615.0 697.4 800.7 930.5
P/B (x) 3.5 3.1 2.7 2.3
ROE 12.9% 13.9% 14.2% 15.1%
Source: Jefferies estimates, company data
The car industry, especially small
cars, has seen nearly 3 years of
decline and looks poised for recovery
given the significant latent demand
Shift in product mix will hurt
margins in the near term. Demand
recovery remains key to margin
improvement
Equity Strategy
India
19 May 2014
page 113 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 317: Diesel vehicles as % of total industry
Source: Jefferies estimates, company data
Exhibit 318: Maruti's domestic volume and market share
Source: Jefferies estimates, CMIE, company data
Exhibit 319: Capacity utilisation trend
Source: Jefferies estimates, company data
0%
10%
20%
30%
40%
50%
60%
70%
FY08 FY09 FY10 FY11 FY12 FY13 FY14
35%
37%
39%
41%
43%
45%
47%
49%
0
200
400
600
800
1,000
1,200
1,400
1,600
FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14 FY15E FY16E
MSIL domestic volumes ('000 units) Market share
50%
60%
70%
80%
90%
100%
110%
FY08 FY09 FY10 FY11 FY12 FY13 FY14E FY15E FY16E
The shift from diesel to petrol and
Maruti’s launch pipeline should drive
Maruti’s volumes and market share
in the next few years
Dieselization trend has started to
reverse
A recovery in demand should help
Maruti’s profitability given the low
capacity utilization levels currently
Equity Strategy
India
19 May 2014
page 114 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 320: Trend in gross profit and EBITDA per car (Rs.)
Source: Jefferies estimates, company data
Exhibit 321: EBITDA per car build-up over FY13-16E (Rs./vehicle)
Source: Jefferies estimates, company data
Exhibit 322: Maruti 12m fwd P/E
Source: Jefferies estimates, company data, Bloomberg
Exhibit 323: Maruti 12m trailing P/B
Source: Jefferies estimates, company data, Bloomberg
0
20,000
40,000
60,000
80,000
100,000
120,000
FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14E FY15E FY16E
GP/Car EBITDA/Car
0
10,000
20,000
30,000
40,000
50,000
60,000
70,000
FY13 EBITDA Pricing/mix R.M. costs Other costs FY16E EBITDA
0
5
10
15
20
25
Apr-03 Oct-04 Apr-06 Oct-07 Apr-09 Oct-10 Apr-12 Oct-13
P/E Mean -1 Std.Dev +1 Std.Dev.
0
1
2
3
4
5
6
Apr-03 Oct-04 Apr-06 Oct-07 Apr-09 Oct-10 Apr-12 Oct-13
P/B Mean -1 Std.Dev +1 Std.Dev.
Equity Strategy
India
19 May 2014
page 115 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 324: Changes to estimates
New Previous Changes to est
FY15E FY16E FY15E FY16E FY15E FY16E
Volumes (mn) 1.31 1.53 1.31 1.48 0% 4%
Growth 13% 17% 13% 13%
Rs bn
Net Sales 499.2 581.1 499.2 567.1 0% 2%
Growth 14% 16% 15% 14%
EBITDA 62.6 75.9 62.6 73.4 0% 3%
Margin 12.5% 13.1% 12.5% 13.0% 0 bp 11 bp
PAT 34.3 42.3 34.3 40.5 0% 4%
EPS 113.7 140.1 113.7 134.2 0% 4%
Growth 17% 23% 17% 18%
Source: Jefferies estimates
Equity Strategy
India
19 May 2014
page 116 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
NTPC (NTPC IN, Buy): PLF recovery buffer left in estimates… New CERC norms announced in February 2014, reward above-average
operational performance, where NTPC has a good track record. However,
NTPC is now also a play on economic and power demand recovery, as rise in
PLF levels implies higher incentives. We believe power sector reforms,
anticipation of power demand recovery and news flow on state electricity
board (SEB) reforms will help valuations. At 1.1x P/B FY16E, regulated ROE of
15.5% and 11% earnings CAGR during FY15-19E, we maintain Buy with a
revised TP of Rs150, as we marginally revise our multiple to 1.3x P/B FY16E
from 1.2x P/B FY16E earlier.
Power demand recovery – potential upside of 6% (Exhibit 25): With the new
regulation, NTPC is now also a play on economic and power demand recovery. Earlier,
NTPC did not benefit from a pick-up in power demand. Here on, if there is downside to
power demand, NTPC will be unaffected as Annual Fixed Charges are linked to PAF, but if
power demand recovers, it will enjoy incentives, which are linked to PLF. It earns a flat
rate of Rs0.5/unit, over and above 85% PLF. For now we assume incentives based on
FY14E plant performance (year of flat power demand growth vs. long-term average of
6%). However, we see potential upside of 6% on earnings as power demand recovers.
Lower capacity addition adjusted – FY17E-19E to see spurt at 75% CAGR
(Exhibit 32): NTPC has seen delays in capacity addition vs. its plans, which has been
one of our primary concerns. For our assumptions, we have factored in delay in Koldam,
and indefinite postponement of the Bongaigaon plant (750 MW) given civil unrest.
Additionally, based on our vendor checks, we believe FY17E-19E will see a spurt in
capacity accretion at over - 16,300 MW. These mainly include the bulk tender bids, and
even two-year delays in the Orissa plant, which has been ordered out but is facing land
acquisition delays. Capacity addition spurt will lead to earnings CAGR pick up.
Operational track record healthy - 62% capacity consistently above 85% PLF
in last decade (Exhibit 25-29): Four operational parameters are viewed as
‚controllable‛ by the CERC – Station Heat Rate (calorific value reqd. to make one unit of
power), Secondary Fuel Oil Consumption, Auxiliary Energy Consumption (units
generated internally used by the plant) and loan re-financing. NTPC has earned
controllable parameters linked incentives consistently over the last decade. This also
reflects in the company’s PAF and PLF levels. We believe CERC changes have stressed on
NTPC maintaining and improving its operational norms. The company’s past track record
is therefore important and gives us comfort it will be in a position to execute the same.
Maintain Buy (Exhibit 33): At 1.1x P/B FY16E, regulated ROE of 15.5% and 11%
earnings CAGR during FY15-19E, we maintain Buy with a revised TP of Rs150, as we
marginally revise our multiple to 1.3x P/B FY16E (40% discount to historical average PB)
from 1.2x P/B FY16E earlier.
Exhibit 325: Financial Summary (Rs mn)
Y/E March FY11 FY12 FY13 FY14E FY15E FY16E
Net Sales 548,818 609,130 639,192 696,166 743,272 829,010
Growth (%) 18 11 5 9 7 12
EBITDA 125,848 126,790 153,296 174,454 162,432 178,768
EBITDA (%) 23 21 24 25 21.9 21.6
Adjusted PAT 78,647 85,792 103,695 108,971 90,645 97,210
EPS (Rs) 9.5 10.4 12.6 13.2 11.0 11.8
EPS Growth (%) (9.2) 9.1 20.9 5.1 (16.8) 7.2
ROCE (%) 13.3 11.9 14.0 11.0 9.3 9.2
RONW (%) 12.1 12.2 13.5 13.1 10.3 10.5
PE (x)* 13.8 12.6 10.5 10.0 12.0 11.2
PBV (x)* 1.6 1.5 1.3 1.3 1.2 1.1
EV/EBITDA (x)* 10.8 11.1 9.7 9.2 10.1 10.1
Source: Jefferies estimates, company data
Equity Strategy
India
19 May 2014
page 117 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 326: NTPC’s PLF has consistently been above All India levels
Source: Jefferies estimates, company data
Exhibit 327: NTPC’s PLF has consistently been above All India levels
Source: Jefferies estimates, company data
Exhibit 328: PLF of NTPC Coal Plants
Source: Jefferies estimates, company data
Exhibit 329: PLF of NTPC Coal Plants
Source: Jefferies estimates, company data
Exhibit 330: PLF of NTPC Coal Plants
Source: Jefferies estimates, company data
Exhibit 331: PLF of NTPC Coal Plants
Source: Jefferies estimates, company data
4.0
5.0
6.0
7.0
8.0
9.0
10.0
11.0
12.0
0
200
400
600
800
1,000
1,200
1,400
Demand Supply deficit (%)
0.0
20.0
40.0
60.0
80.0
100.0
FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13
NTPC Coal PAF NTPC Coal PLF All India PLF
50
60
70
80
90
100
110
Dadri Thermal Farakka STPP
Kahalgaon Talcher Kaniha STPP
50
60
70
80
90
100
110
Talcher TPS Tanda TPS
Sipat STPP Singrauli TPS
50
60
70
80
90
100
110
Ramagundam TPP Rihand STPP
Simhadri TPS Unchahar TPS
50
60
70
80
90
100
110
Vindhyachal TPS Korba STPP
Badarpur TPS Mauda TPS
Equity Strategy
India
19 May 2014
page 118 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 332: Approximate incentive split for NTPC (Rs mn)
Incentives FY13 FY14E FY15E FY16E FY17E FY18E FY19E
Likely PAF/PLF incentives 7,179 15,134 3,408 3,408 3,408 3,408 3,408
MW eligible 3,215 4,635 7,077 7,546 7,966 10,441 11,062
Rs mn/MW 0.6 0.6 0.8 0.8 0.8 0.9 1.0
Special allowance 1,899 2,895 5,308 6,019 6,757 9,419 10,613
Fuel Efficiency/UI charges/Other incentives 12,459 9,331 3,732 3,732 3,732 3,732 3,732
Total 21,538 29,361 13,494 14,257 15,424 18,087 19,893
Source: Jefferies estimates, company data
Exhibit 333: FY15E-19E CAGR to recover to 11% levels
Source: Jefferies estimates, company data
Exhibit 334: Plant-wise capacity addition for FY15E-19E
FY15E FY16E FY17E FY18E FY19E Plant MW Plant MW Plant MW Plant MW Plant MW
Barh-II 660 Vindhyachal – V 500 Kudgi 800 Mauda-II 1,320 Nabinagar TPS 1,980
Nabinagar JV 500 Kudgi 800 Barh-I 1,320 Solapur STPP 1,320 Rajasthan Vidyut Nigam 1,320
Kanti - Subsidiary 195 Nabinagar JV 500 Meja JV TPP 1,320 Darlipali 1,600
Koldam 800 Raghunathpur II 1,320 Gajmara 1,600
Barh-I 660 Kudgi 800
Tapovan Hydel 520 Lara 1,600 Overall 1,355 3,780 2,120 7,680 6,500
Source: Jefferies estimates, company data
Exhibit 335: NTPC’s sharp de-rating prices in lower earnings CAGR
Source: Jefferies estimates, company data
-20.0
-15.0
-10.0
-5.0
0.0
5.0
10.0
15.0
20.0
25.0
0
20
40
60
80
100
120
140
160
FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14E FY15E FY16E FY17E FY18E FY19E
PAT YoY Growth
0
1
2
3
4
5
Nov-04 Nov-05 Nov-06 Nov-07 Nov-08 Nov-09 Nov-10 Nov-11 Nov-12 Nov-13
Rolling PBV Mean Median
Hike in capacity addition targets
improved valuations in this period
De-rating driven by slippage in execution
and deteriorating health of SEBS
Acknowledgement of fuel risk
and regulation changes led to
further de-rating in the stock
Equity Strategy
India
19 May 2014
page 119 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
ONGC (ONGC IN, Buy) – Biggest Beneficiary of Reforms ONGC remains our top pick in the Indian oil & gas sector, as we expect it to be
the biggest beneficiary of reforms. ONGC is a major beneficiary of the gas
price hike that is likely to go through post elections, in our view. We expect
elimination of diesel subsidy through small price hikes to lead to re-rating of
the stock as it should cap upside to ONGC’s subsidy burden. We raise ONGC’s
fair value to Rs440 from Rs 355 previously.
Biggest Beneficiary of gas price hike. We expect the gas price hike to go through
post elections. ONGC would be the biggest beneficiary of gas price hike, in our view. In
our base case, we assume ONGC’s realized gas price to be only US$5.7/mmbtu vs
US$8/mmbtu as per the Rangarajan formula. Even in this case, ONGC’s EPS improves by
Rs5/share; if ONGC were to get the full gas price hike, our FY15/16 EPS estimate would
rise to Rs44/47 from Rs38/40 currently.
Elimination of diesel subsidy should lead to re-rating of the stock. We expect
the small diesel price hikes to continue under the new government, which could
completely eliminate diesel subsidy by as early as February, 2015. In our base case, we
conservatively expect the entire benefit of under-recovery reduction to accrue to
government finances and ONGC (and upstream) subsidy share to be capped at the
current level of Rs650bn. Even in this case, we expect the stock to re-rate as one of the
biggest reasons for ONGC’s historical discounted valuations has been its subsidy share
risk. In a positive case, ONGC’s subsidy contribution could decline in line with reduction
in under-recovery, leading to FY15/16 EPS rising to Rs46/57 from our base case.
Scepticism remains high on benefits to ONGC. Scepticism on benefits to ONGC
from the gas price hike and subsidy reforms remains high. However, we note that 1) the
government has historically ‚allowed‛ ONGC’s to grow its earnings despite rising subsidy
burden and 2) the gas price hike upside is too large to be completely and permanently
appropriated by the government.
Production remains a concern. ONGC’s production has been declining over the past
10 years and the company has often missed against guidance/target. Continued miss
against production growth targets is the biggest concern on ONGC.
Raise price target to Rs 440. We raise price target for ONGC to Rs440 from Rs355
previously based on 11x FY16 EPS. We expect elimination of diesel subsidies to drive a re-
rating of the stock from its historic median range of 9-10x. Key risks: 1) policy 2) adverse
decision in Gujarat royalty case 3) production issues.
Table 5: Significant upside possible for ONGC from gas price hike and subsidy
reforms Rs/share Base case Full upside of gas price hike Upside of subsidy reduction Combined upside
FY15 EPS 37.6 44.2 45.9 52.8
FY16 EPS 40.0 46.7 56.8 64.0
Source: Jefferies estimates, company data
Table 6: Key Financials INR FY13A FY14E FY15E FY16E
Rev (B) 1,615 1,818 1,983 2,076
EBITDA (B) 562 593 714 762
Net Profit (B) 242 249 321 342
BV/Share 178 196 220 245
P/B 2.2 2.0 1.7 1.6
ROE (%) 15.9 14.8 17.1 16.3
DPS 9.5 9.6 12.3 13.0
Div. Yield (%) 2.5 2.5 3.2 3.4
EPS 28.3 29.2 37.6 40.0
P/E 13.6 13.2 10.2 9.6
Source: Jefferies estimates, company data
ONGC is out top pick in the sector;
we raise price target to Rs440
ONGC is likely to be the biggest
beneficiary of gas price hike, which
we expect to go through post
elections
Elimination of diesel subsidy should
lead to re-rating of the stock even if
upstream subsidy contribution
remains flat
ONGC’s FY16 EPS could more than
double to Rs54 if it gets full benefit
of gas and diesel price hikes
Equity Strategy
India
19 May 2014
page 120 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Reliance (RIL IN, Buy) – Core Businesses Turning Around We recently upgraded Reliance to Buy as we expect core earnings to double
over the next 4 years, driven by upside from large downstream investments,
gas price hike and gradual recovery in domestic upstream output. While
earnings growth is back-ended with a sharp surge in FY17 and telecom is a
drag, we believe the turnaround in downstream is underappreciated and will
drive significant upside over the next 2 years as we move closer to start. We
raise Reliance’s fair value to Rs1236 from Rs1124 previously.
Downstream investments to drive significant earnings upside. We expect
Reliance's ongoing large downstream investments of US$13bn in pet coke gasifier and
petrochemical expansions including the off-gas cracker to add US$3bn to EBITDA and Rs
34 per share to EPS by FY17 with incremental ROCE of 20%. We expect the pet coke
gasifier to add US$2.5/bbl to GRM starting in FY17; petrochemical expansions should add
US$1.9bn to EBITDA with over 60% of potential upside coming from off-gas cracker & PX.
Upstream – Bottomed out but recovery to be slow. Reliance's domestic upstream
output has likely bottomed though material increase could take till FY18 when new fields
in KG-D6 would be brought under production. In the near term, a gas price hike – likely
post elections - and new discoveries could be the key upside triggers.
Telecom a drag, Shale & retail to improve. We expect telecom to be a drag over the
next few years as Reliance takes time to ramp up and fixed costs are likely to be high with
US$6bn already invested. The decline in FY16E EPS is mainly to factor in telecom losses.
Reliance's other major investments are in shale (US$7bn invested) and retail (US$1.6bn).
We expect strong earnings improvement in both these businesses over the next 3-4 years.
Raise price target to Rs1236. We raise our price target for Reliance Industries to
Rs1236 from Rs1124 previously driven by higher multiple for its petrochemical business
(7x EV/EBITDA vs. 6x earlier) which is in line with global peers and lower discount for its
non-core investments (0.9x book vs. 0.8x earlier). Key risks: 1) downstream margins 2)
currency 3) delays and cost over-runs in new projects 4) adverse regulation particularly in
domestic upstream.
Table 7: Segment-wise performance over FY14-18E EBITDA
(US$bn)
EPS
(Rs/share)
Capex (US$bn)
Segment FY14 FY18E FY14 FY18E FY13-17 Comments
Refining 2.9 4.3 28 42 4.0 Pet coke gasifier in FY17 likely to add US$2.5/bbl to GRM
Petchem 1.8 3.7 18 38 9.0 Off-gas cracker and other expansions
Domestic upstream 0.6 2.2 3 18 4.8 Gas price increase in FY15; volume increase in FY18
Others (0.2) (0.5) 19 26 n/a
Standalone 5.1 9.7 68 124 17.8
Shale 0.6 1.6 3 8 7.8 Production to reach 350BCFe by FY18 from 150 in FY14
Telecom - 1.0 - 1 6.0 18% data market-share, 6% voice market-share by FY18
Retail & others 0.0 0.6 (1) 6 1.9 Retail revenues at US$8bn in FY18 from 2.4bn in FY14
Consolidated 5.8 12.9 70 139 15.7
Source: Jefferies estimates, company data
Table 8: Key Financials INR FY14A FY15E FY16E FY17E
Rev (B) 4,345 4,605 4,631 4,840
EBITDA (B) 348 403 439 650
Net Profit (B) 225 256 253 370
BV/Share 615 688 755 853
P/B 1.8 1.6 1.4 1.3
ROE (%) 11.3 11.5 10.4 13.4
DPS 9.5 10.2 11.0 14.7
Div. Yield (%) 0.9 0.9 1.0 1.4
EPS 69.6 79.1 78.2 114.3
P/E 15.5 13.6 13.8 9.4
Source: Jefferies estimates, company data
We expect RIL’s core earnings to
double over the next 4 years, driven
by upside from large downstream
investments, gas price hike and
some recovery in gas output
We estimate EBITDA to double from
US$6bn to US$13bn over FY14-18E
Pet coke gasifier and petrochemical
expansions should add US$3bn to
EBITDA against capex of US$13bn
Telecom likely to remain a drag and
is the key reason behind a possible
decline in EPS in FY16
Equity Strategy
India
19 May 2014
page 121 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Tata Steel Ltd. (TATA IN , Buy) Tata Steel’s India business is set to see strong volume growth in FY15 and
FY16 as infrastructure related activity under the new government picks up.
Improvement TSE’s performance would largely stem from internal cost saving
measures. Debt levels should start to taper from FY16 onwards on improving
cash flows and asset sales. Maintain Buy.
Growth opportunity aplenty for India business: Tata Steel’s India business volumes
grew 14% YoY in FY14 although India’s total apparent steel consumption grew by only
0.6% YoY. With the domestic steel demand expected to pick up in FY15 and FY16 as a
result of increased infrastructure related activity under the new government, we believe
Tata Steel stands to benefit from a higher volume growth for its India business.
Management has guided for FY15 finished steel deliveries to be 9.2mn MT (+8% YoY) as
the recently commissioned Jamshedpur expansion achieves full utilization. Thereafter
volume growth in FY16 would be driven by the completion of Kalinganagar greenfield
project in Q4FY15.
Internal efficiency measures holds the key in European business: Eurozone is
beginning to show signs of a recovery and key steel consuming sectors like automotive,
machinery and construction have started witnessing growth. While this volume growth
coupled with the recent fall in input costs (coking coal and iron ore) should ideally be
supportive of increase in steel spreads, the same might not really happen given the
overcapacity in Europe. Therefore management expects improvement in performance for
TSE to largely stem from internal cost saving measures and expects to try and break even
at EBIT level in FY15 against a loss of Rs1.6bn in FY14. Savings in operating costs equalled
GBP200mn in FY14 and management expects these initiatives to continue in FY15.
Temporary closure of Orissa mines should have no impact beyond six months:
The Supreme Court has ordered for temporary closure of 26 mines in Orissa which had
been operating on ‘deemed second or subsequent renewal’ and has asked the State Govt.
to decide on the renewal of these mines within six months considering captive miners on
a priority basis. Seven of these mines belong to Tata Steel which could impact its
production/profitability given that 75% of Tata Steel’s domestic iron ore consumption
comes from its Orissa mines. Management believes that the mines have all the requisite
clearances Environment Clearance, Forest Clearance etc., and therefore the matter should
get resolved shortly. While this could have some short-term impact for Tata Steel, we are
not unduly worried as the issue here is not about illegal mining but only of renewal.
Net debt to peak in FY15 on improving cash flows and asset sales: Management
expects a maximum debt increase of ~Rs40bn in FY15 with peak net debt of ~Rs700bn
(presently Rs665.7bn). We believe there could be positive surprise to this debt number on
the back of improving cash flows from operations and proceeds from recent Rs39bn asset
sales viz., Mumbai land (11.55bn) and Dhamra port (Rs27.5bn being its share).
Our top pick in the Steel space: The stock is currently trading at one-year forward
EV/EBITDA multiple of 6.1x and a one-year forward P/BV multiple of 0.9x which we
believe provides an attractive entry point. Our EBITDA estimates are higher than
consensus by 10% for FY16E. Maintain Buy with a target price of Rs540. Key downside
risks: Slower-than-expected revival in European and India steel demand.
Exhibit 336: Key Financials INR FY13A FY14E FY15E FY16E
Rev (B) 1,347 1,486 1,526 1,585
EBITDA (B) 123 164 183 214
Net Profit (B) (70.6) 35.9 46.4 54.2
BV/Share 352 417 449 486
ROE (%) (19.2) 9.8 11.1 11.9
EPS (72.7) 37.0 47.8 55.8
P/E n.a. 11.9 9.2 7.9
P/B 1.3 1.1 1.0 0.9
Source: Jefferies estimates, company data
Equity Strategy
India
19 May 2014
page 122 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 337: Tata Steel India to drive total volume growth
Source: Company data, Jefferies estimates
Exhibit 338: Margin upside for the group would stem from
TSE’s performance improvement
Source: Company data, Jefferies estimates
Exhibit 339: Consolidated EBITDA to see steady growth
Source: Company data, Jefferies estimates
Exhibit 340: Net debt to peak in FY15
Source: Jefferies estimates, company data
Exhibit 341: Free cash flow generation from FY16e
Source: Jefferies estimates, company data
-30%
-20%
-10%
0%
10%
20%
30%
0
5
10
15
20
25
30
FY09 FY10 FY11 FY12 FY13 FY14E FY15E FY16E
Tata Steel India Sales (mn MT) Tata Steel excluding India Sales (mn MT)
YoY Domestic Sales Growth (%) - RHS YoY Total Sales Growth (%) - RHS
0
3,000
6,000
9,000
12,000
15,000
18,000
FY08 FY09 FY10 FY11 FY12 FY13 FY14E FY15E FY16E
Tata Steel India EBITDA/tonne (Rs) Total EBITDA/tonne (Rs)
-80%
-40%
0%
40%
80%
120%
0
50
100
150
200
250
FY10 FY11 FY12 FY13 FY14E FY15E FY16E
EBITDA (Rs bn) YoY Growth (%) - RHS
0.5
1
1.5
2
2.5
100
300
500
700
900
FY11 FY12 FY13 FY14E FY15E FY16E
Net Debt (Rs bn) Gearing Ratio (x) - RHS
(200)
(150)
(100)
(50)
0
50
100
FY11 FY12 FY13 FY14E FY15E FY16E
Free Cash flow after investing activities (Rs bn)
Equity Strategy
India
19 May 2014
page 123 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Exhibit 342: Tata Steel valuation summary
Particulars FY16E Comments
India-
FY16E EBITDA (Rs mn) 158,209
Target Multiple (x) 6.0 In line with global steel valuation multiples
India EV (Rs mn)- (A) 949,255
Tata Steel Europe-
FY16E EBITDA (Rs mn) 46,200
Target Multiple (x) 5.0 At a discount to Tata Steel India valuation to factor in the low margin business
Tata Steel Europe EV (Rs mn)- (B) 231,000
Tata Steel Asia and others-
FY16E EBITDA (Rs mn) 9,333
Target Multiple (x) 4.5
Tata Steel Asia and others EV (Rs mn)- (C) 41,998
Target EV (Rs mn)- (A+B+C) - (D) 1,222,253
Less:
Net debt- FY16E (Rs mn)- (E) (726,800)
Add:
Capital work in progress FY15E (Rs mn) - On the 3mn MT Kalinganagar Steel plant in Orissa
Discount applied (%) 35%
Implied cwip value (Rs mn)- (F) -
Steel Business Equity value (Rs mn)- (D+E+F) 495,453
Add:
Investments in Listed entities 44,311 Holdings in Tata Power and Tata Motors
Applied discount (%) 35%
Value of investments- post discount 28,802
Equity value (Rs mn)- SOTP 524,255
fully diluted shares o/s (mn) 971
Equity value- Per share (Rs) 540
Source: Jefferies estimates, company data
Exhibit 343: Tata Steel is trading at 6.1x 1-yr rolling
EV/EBITDA multiple against historical average of 5.2x
Source: Jefferies, company data, Bloomberg
Exhibit 344: Tata Steel is trading at 0.9x 1-yr forward book
value against historical average of 1.4x
Source: Jefferies, company data, Bloomberg
-
2
4
6
8
10
12
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
-
0.5
1.0
1.5
2.0
2.5
3.0
3.5
Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
Equity Strategy
India
19 May 2014
page 124 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Analyst CertificationI, Govindarajan Chellappa, certify that all of the views expressed in this research report accurately reflect my personal views about the subjectsecurity(ies) and subject company(ies). I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specificrecommendations or views expressed in this research report.I, Piyush Nahar, certify that all of the views expressed in this research report accurately reflect my personal views about the subject security(ies) andsubject company(ies). I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specific recommendationsor views expressed in this research report.I, Nilesh Jasani, certify that all of the views expressed in this research report accurately reflect my personal views about the subject security(ies) andsubject company(ies). I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specific recommendationsor views expressed in this research report.I, Anand Agarwal, CFA, certify that all of the views expressed in this research report accurately reflect my personal views about the subjectsecurity(ies) and subject company(ies). I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specificrecommendations or views expressed in this research report.I, Arya Sen, certify that all of the views expressed in this research report accurately reflect my personal views about the subject security(ies) and subjectcompany(ies). I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specific recommendations or viewsexpressed in this research report.I, Atul Goyal, CFA, certify that all of the views expressed in this research report accurately reflect my personal views about the subject security(ies) andsubject company(ies). I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specific recommendationsor views expressed in this research report.I, Lavina Quadros, certify that all of the views expressed in this research report accurately reflect my personal views about the subject security(ies) andsubject company(ies). I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specific recommendationsor views expressed in this research report.I, Nilanjan Karfa, certify that all of the views expressed in this research report accurately reflect my personal views about the subject security(ies) andsubject company(ies). I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specific recommendationsor views expressed in this research report.I, Rajasa Kakulavarapu, certify that all of the views expressed in this research report accurately reflect my personal views about the subjectsecurity(ies) and subject company(ies). I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specificrecommendations or views expressed in this research report.I, Ankit Fitkariwala, certify that all of the views expressed in this research report accurately reflect my personal views about the subject security(ies) andsubject company(ies). I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specific recommendationsor views expressed in this research report.I, Swagato Sourya Ghosh, certify that all of the views expressed in this research report accurately reflect my personal views about the subjectsecurity(ies) and subject company(ies). I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specificrecommendations or views expressed in this research report.Registration of non-US analysts: Govindarajan Chellappa is employed by Jefferies India Private Limited, a non-US affiliate of Jefferies LLC and isnot registered/qualified as a research analyst with FINRA. This analyst(s) may not be an associated person of Jefferies LLC, a FINRA member firm, andtherefore may not be subject to the NASD Rule 2711 and Incorporated NYSE Rule 472 restrictions on communications with a subject company, publicappearances and trading securities held by a research analyst.
Registration of non-US analysts: Piyush Nahar is employed by Jefferies India Private Limited, a non-US affiliate of Jefferies LLC and is not registered/qualified as a research analyst with FINRA. This analyst(s) may not be an associated person of Jefferies LLC, a FINRA member firm, and therefore maynot be subject to the NASD Rule 2711 and Incorporated NYSE Rule 472 restrictions on communications with a subject company, public appearancesand trading securities held by a research analyst.
Registration of non-US analysts: Nilesh Jasani is employed by Jefferies Singapore Limited, a non-US affiliate of Jefferies LLC and is not registered/qualified as a research analyst with FINRA. This analyst(s) may not be an associated person of Jefferies LLC, a FINRA member firm, and therefore maynot be subject to the NASD Rule 2711 and Incorporated NYSE Rule 472 restrictions on communications with a subject company, public appearancesand trading securities held by a research analyst.
Registration of non-US analysts: Anand Agarwal, CFA is employed by Jefferies India Private Limited, a non-US affiliate of Jefferies LLC and is notregistered/qualified as a research analyst with FINRA. This analyst(s) may not be an associated person of Jefferies LLC, a FINRA member firm, andtherefore may not be subject to the NASD Rule 2711 and Incorporated NYSE Rule 472 restrictions on communications with a subject company, publicappearances and trading securities held by a research analyst.
Registration of non-US analysts: Arya Sen is employed by Jefferies India Private Limited, a non-US affiliate of Jefferies LLC and is not registered/qualified as a research analyst with FINRA. This analyst(s) may not be an associated person of Jefferies LLC, a FINRA member firm, and therefore maynot be subject to the NASD Rule 2711 and Incorporated NYSE Rule 472 restrictions on communications with a subject company, public appearancesand trading securities held by a research analyst.
Registration of non-US analysts: Atul Goyal, CFA is employed by Jefferies Singapore Limited, a non-US affiliate of Jefferies LLC and is not registered/qualified as a research analyst with FINRA. This analyst(s) may not be an associated person of Jefferies LLC, a FINRA member firm, and therefore maynot be subject to the NASD Rule 2711 and Incorporated NYSE Rule 472 restrictions on communications with a subject company, public appearancesand trading securities held by a research analyst.
Registration of non-US analysts: Lavina Quadros is employed by Jefferies India Private Limited, a non-US affiliate of Jefferies LLC and is notregistered/qualified as a research analyst with FINRA. This analyst(s) may not be an associated person of Jefferies LLC, a FINRA member firm, andtherefore may not be subject to the NASD Rule 2711 and Incorporated NYSE Rule 472 restrictions on communications with a subject company, publicappearances and trading securities held by a research analyst.
Registration of non-US analysts: Nilanjan Karfa is employed by Jefferies India Private Limited, a non-US affiliate of Jefferies LLC and is not registered/qualified as a research analyst with FINRA. This analyst(s) may not be an associated person of Jefferies LLC, a FINRA member firm, and therefore maynot be subject to the NASD Rule 2711 and Incorporated NYSE Rule 472 restrictions on communications with a subject company, public appearancesand trading securities held by a research analyst.
Equity Strategy
India
19 May 2014
page 125 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Registration of non-US analysts: Rajasa Kakulavarapu is employed by Jefferies India Private Limited, a non-US affiliate of Jefferies LLC and is notregistered/qualified as a research analyst with FINRA. This analyst(s) may not be an associated person of Jefferies LLC, a FINRA member firm, andtherefore may not be subject to the NASD Rule 2711 and Incorporated NYSE Rule 472 restrictions on communications with a subject company, publicappearances and trading securities held by a research analyst.
Registration of non-US analysts: Ankit Fitkariwala is employed by Jefferies India Private Limited, a non-US affiliate of Jefferies LLC and is notregistered/qualified as a research analyst with FINRA. This analyst(s) may not be an associated person of Jefferies LLC, a FINRA member firm, andtherefore may not be subject to the NASD Rule 2711 and Incorporated NYSE Rule 472 restrictions on communications with a subject company, publicappearances and trading securities held by a research analyst.
Registration of non-US analysts: Swagato Sourya Ghosh is employed by Jefferies India Private Limited, a non-US affiliate of Jefferies LLC and isnot registered/qualified as a research analyst with FINRA. This analyst(s) may not be an associated person of Jefferies LLC, a FINRA member firm, andtherefore may not be subject to the NASD Rule 2711 and Incorporated NYSE Rule 472 restrictions on communications with a subject company, publicappearances and trading securities held by a research analyst.
As is the case with all Jefferies employees, the analyst(s) responsible for the coverage of the financial instruments discussed in this report receivescompensation based in part on the overall performance of the firm, including investment banking income. We seek to update our research asappropriate, but various regulations may prevent us from doing so. Aside from certain industry reports published on a periodic basis, the large majorityof reports are published at irregular intervals as appropriate in the analyst's judgement.
Company Specific DisclosuresFor Important Disclosure information on companies recommended in this report, please visit our website at https://javatar.bluematrix.com/sellside/Disclosures.action or call 212.284.2300.
Meanings of Jefferies RatingsBuy - Describes stocks that we expect to provide a total return (price appreciation plus yield) of 15% or more within a 12-month period.Hold - Describes stocks that we expect to provide a total return (price appreciation plus yield) of plus 15% or minus 10% within a 12-month period.Underperform - Describes stocks that we expect to provide a total negative return (price appreciation plus yield) of 10% or more within a 12-monthperiod.The expected total return (price appreciation plus yield) for Buy rated stocks with an average stock price consistently below $10 is 20% or more withina 12-month period as these companies are typically more volatile than the overall stock market. For Hold rated stocks with an average stock priceconsistently below $10, the expected total return (price appreciation plus yield) is plus or minus 20% within a 12-month period. For Underperformrated stocks with an average stock price consistently below $10, the expected total return (price appreciation plus yield) is minus 20% within a 12-month period.NR - The investment rating and price target have been temporarily suspended. Such suspensions are in compliance with applicable regulations and/or Jefferies policies.CS - Coverage Suspended. Jefferies has suspended coverage of this company.NC - Not covered. Jefferies does not cover this company.Restricted - Describes issuers where, in conjunction with Jefferies engagement in certain transactions, company policy or applicable securitiesregulations prohibit certain types of communications, including investment recommendations.Monitor - Describes stocks whose company fundamentals and financials are being monitored, and for which no financial projections or opinions onthe investment merits of the company are provided.
Valuation MethodologyJefferies' methodology for assigning ratings may include the following: market capitalization, maturity, growth/value, volatility and expected totalreturn over the next 12 months. The price targets are based on several methodologies, which may include, but are not restricted to, analyses of marketrisk, growth rate, revenue stream, discounted cash flow (DCF), EBITDA, EPS, cash flow (CF), free cash flow (FCF), EV/EBITDA, P/E, PE/growth, P/CF,P/FCF, premium (discount)/average group EV/EBITDA, premium (discount)/average group P/E, sum of the parts, net asset value, dividend returns,and return on equity (ROE) over the next 12 months.
Jefferies Franchise PicksJefferies Franchise Picks include stock selections from among the best stock ideas from our equity analysts over a 12 month period. Stock selectionis based on fundamental analysis and may take into account other factors such as analyst conviction, differentiated analysis, a favorable risk/rewardratio and investment themes that Jefferies analysts are recommending. Jefferies Franchise Picks will include only Buy rated stocks and the numbercan vary depending on analyst recommendations for inclusion. Stocks will be added as new opportunities arise and removed when the reason forinclusion changes, the stock has met its desired return, if it is no longer rated Buy and/or if it underperforms the S&P by 15% or more since inclusion.Franchise Picks are not intended to represent a recommended portfolio of stocks and is not sector based, but we may note where we believe a Pickfalls within an investment style such as growth or value.
Risk which may impede the achievement of our Price TargetThis report was prepared for general circulation and does not provide investment recommendations specific to individual investors. As such, thefinancial instruments discussed in this report may not be suitable for all investors and investors must make their own investment decisions basedupon their specific investment objectives and financial situation utilizing their own financial advisors as they deem necessary. Past performance ofthe financial instruments recommended in this report should not be taken as an indication or guarantee of future results. The price, value of, andincome from, any of the financial instruments mentioned in this report can rise as well as fall and may be affected by changes in economic, financialand political factors. If a financial instrument is denominated in a currency other than the investor's home currency, a change in exchange rates mayadversely affect the price of, value of, or income derived from the financial instrument described in this report. In addition, investors in securities suchas ADRs, whose values are affected by the currency of the underlying security, effectively assume currency risk.
Equity Strategy
India
19 May 2014
page 126 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Other Companies Mentioned in This Report• ABB Limited (ABB IN: INR877.95, UNDERPERFORM)• ACC Limited (ACC IN: INR1,430.15, HOLD)• Adani Ports and Special Economic Zone (ADSEZ IN: INR225.00, UNDERPERFORM)• Ambuja Cements Limited (ACEM IN: INR224.35, HOLD)• Ashok Leyland (AL IN: INR26.90, HOLD)• Axis Bank (AXSB IN: INR1,755.00, BUY)• Bajaj Auto Limited (BJAUT IN: INR1,931.70, HOLD)• Bank of Baroda (BOB IN: INR934.15, BUY)• Bharat Forge (BHFC IN: INR458.35, HOLD)• Bharat Heavy Electricals Limited (BHEL IN: INR231.60, UNDERPERFORM)• Bharat Petroleum Corporation Limited (BPCL IN: INR552.10, HOLD)• Cairn India (CAIR IN: INR340.65, HOLD)• Cipla (CIPLA IN: INR388.25, BUY)• Coal India Limited (COAL IN: INR345.40, HOLD)• Crompton Greaves Limited (CRG IN: INR171.10, UNDERPERFORM)• Cummins India Limited (KKC IN: INR565.50, BUY)• DLF Limited (DLFU IN: INR169.70, UNDERPERFORM)• Dr. Reddy's Laboratories (DRRD IN: INR2,406.90, HOLD)• GAIL (GAIL IN: INR409.70, BUY)• Godrej Properties Limited (GPL IN: INR219.20, HOLD)• Grasim Industries Limited (GRASIM IN: INR3,068.60, BUY)• HCL Technologies (HCLT IN: INR1,365.15, BUY)• HDFC Bank (HDFCB IN: INR804.70, BUY)• Hero MotoCorp (HMCL IN: INR2,397.65, BUY)• Housing Development & Infrastructure Ltd (HDIL IN: INR83.90, HOLD)• Housing Development Finance Corp. Ltd. (HDFC IN: INR885.80, HOLD)• ICICI Bank (ICICIBC IN: INR1,465.30, BUY)• Indiabulls Real Estate Limited (IBREL IN: INR78.25, UNDERPERFORM)• India Cements Limited (ICEM IN: INR80.15, HOLD)• Indraprastha Gas Ltd. (IGL IN: INR315.45, BUY)• IndusInd Bank Limited (IIB IN: INR561.95, BUY)• Infosys (INFO IN: INR3,177.55, BUY)• ITC Limited (ITC IN: INR356.95, BUY)• JSW Steel Limited (JSTL IN: INR1,177.20, BUY)• Jubilant Foodworks (JUBI IN: INR1,160.90, HOLD)• Kotak Mahindra Bank Limited (KMB IN: INR905.65, HOLD)• Larsen & Toubro (LT IN: INR1,427.70, BUY)• Lupin Ltd. (LPC IN: INR958.65, HOLD)• Mahindra & Mahindra Limited (MM IN: INR1,114.70, UNDERPERFORM)• Maruti Suzuki India Limited (MSIL IN: INR2,152.15, BUY)• NMDC Ltd (NMDC IN: INR161.90, BUY)• NTPC (NTPC IN: INR131.60, BUY)• Oil India Limited (OINL IN: INR567.05, BUY)• ONGC (ONGC IN: INR384.15, BUY)• Petronet LNG Ltd. (PLNG IN: INR140.55, HOLD)• Power Grid Corporation of India Limited (PWGR IN: INR119.50, BUY)• Prestige Estates Projects Limited (PEPL IN: INR184.00, BUY)• Punjab National Bank (PNB IN: INR917.95, UNDERPERFORM)• Ranbaxy Laboratories Ltd. (RBXY IN: INR452.15, BUY)• Reliance Industries (RIL IN: INR1,079.25, BUY)• Siemens Limited (SIEM IN: INR839.05, HOLD)• Sobha Developers Limited (SOBHA IN: INR425.75, BUY)• State Bank of India (SBIN IN: INR2,417.20, UNDERPERFORM)• Steel Authority of India Ltd. (SAIL IN: INR78.15, UNDERPERFORM)• Sun Pharmaceutical Industries Ltd (SUNP IN: INR613.50, BUY)• Tata Consultancy Services (TCS IN: INR2,160.75, BUY)• Tata Motors (TTMT IN: INR449.85, HOLD)• Tata Power (TPWR IN: INR90.90, BUY)• Tata Steel Ltd. (TATA IN: INR440.90, BUY)• Tech Mahindra (TECHM IN: INR1,822.55, BUY)• Thermax Limited (TMX IN: INR815.20, UNDERPERFORM)• Titan Company (TTAN IN: INR307.00, BUY)• TTK Prestige (TTKPT IN: INR3,182.90, UNDERPERFORM)• Ultratech Cement Limited (UTCEM IN: INR2,334.15, HOLD)• Voltas Limited (VOLT IN: INR178.30, UNDERPERFORM)• Wipro (WPRO IN: INR502.80, HOLD)
Equity Strategy
India
19 May 2014
page 127 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Distribution of RatingsIB Serv./Past 12 Mos.
Rating Count Percent Count Percent
BUY 901 49.78% 246 27.30%HOLD 762 42.10% 126 16.54%UNDERPERFORM 147 8.12% 5 3.40%
Equity Strategy
India
19 May 2014
page 128 of 130 , Equity Analyst, +91 22 4224 6111, [email protected] Chellappa
Please see important disclosure information on pages 125 - 130 of this report.
Other Important Disclosures
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to the publication of a research report containing such rating, recommendation or investment thesis. Any comments or statements made herein arethose of the author(s) and may differ from the views of Jefferies.
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Equity Strategy
India
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Please see important disclosure information on pages 125 - 130 of this report.