Value picks

Vishal Chhabria / Mumbai March 30, 2009, 0:58 IST

A tough economic environment and consequent price decline offer an opportunity to buy stocks with reasonable growth prospects at cheaper valuations.

The downturn in economic and corporate growth, both on the domestic front and globally, has led to a sharp decline in stock prices across the board in the last one year. Thanks to the capitulation and weak sentiments in the markets, many stocks are quoting below their respective book values or intrinsic worth. Although business prospects have deteriorated to an extent, the impact is unlikely to weaken the underlying strengths of these companies. In such cases, while the downside is typically limited, there also tends to be a buying opportunity. Because good companies are capable of delivering decent performance even under tough conditions, they would be the first to bounce back when things look up.

In a bid to identify such companies, The Smart Investor crunched numbers to shortlist stocks that are quoting below one time their respective book value. Says a fund manager, "Price to book value is a good matrix and broadly, a figure of less than one indicates that there is value in the stock." Additional filters like profit growth in the last 12 months, debt-equity ratio of about one and market capitalisation and sales (each, with a minimum of Rs 100 crore) were applied to weed out the weaker and smaller companies. While a dividend paying track record provides comfort, companies with the ability to sustain an improvement in book value - consistently grow profits that get added to the reserves (net-worth) - were considered. That's because, it is particularly in such cases that stock valuations can be sustained (if not improved) in the long run.

The final list includes companies - a majority of whom are among the top players in their respective industries - with healthy prospects and ability to deliver good returns in the long run. Read on to know more on the picks.

Bartronics
A good mix of technology and efforts to scale up its businesses in terms of capacities, geographical presence and products offerings has enabled Bartronics India to grow at a fast pace. A smaller base, too, has helped it grow at a compounded annual growth rate (CAGR) of 100 per cent in revenues and 220 per cent in profits during FY2003-08. Even for FY09, revenues are seen growing by 85 per cent year-on-year (y-o-y) to Rs 500 crore (Rs 417 crore in nine months ended December 2008).

The company's inventory and supply chain management products and solutions find application in different industries and hold promising future thanks to increasing applications in retail and manufacturing sectors. The company has recently extended its product offering through its partnership with US-based Intelleflex Corporation for RFID(radio frequency based identification)-based solutions for the Indian market.

Notably, its smart cards business also holds promise and finds wide application in data capturing and identification. The company has a manufacturing capacity of 80 million cards per annum. While in FY08, it sold 31 million cards (Rs 93 crore in revenues), for FY09 and FY10, the company is expected to achieve higher sales on the back of strong order book of Rs 140 crore. Also, the average realisation (Rs 30 per card) and volumes, so far, has been low due to high dependence on a single vertical (telecom).

The company is eyeing orders from the government and banking sectors, which should help in improving pricing power and volumes going ahead. With the introduction of 3G cards itself, the realisation will jump by 40-50 per cent. The expected introduction of 'master' banking cards (consolidated card assisting multi-banking transactions) in 2010 should also help improve realisations. Thus, both margins and volumes are seen improving in this business. The company is operating in fast growing segments and has a strong order book of Rs 1,100 crore (four times its FY08 revenue and executable over the next two years), which provides good growth visibility.

BEML
BEML is a multi-product and multi-technology company. Its vast product range primarily caters to the needs of three segments, namely mining and construction (like hydraulic excavators, bulldozers, dump trucks), defence (field artillery tractor, tank transportation trailers, weapon loading equipment, armoured recovery vehicle) and railways and metro (metro trains, rail coaches, D-EMUs, wagons). BEML's other three divisions are technology (design and engineering solutions), trading (third party products) and exports.

Little wonder, the current economic slowdown and high input prices (besides higher wages) has impacted its performance in the recent quarter. While topline growth has slowed, margins have also slipped. However, net profits haven't declined thanks to higher other income.

Positively, receipt of a few high value orders recently has propped up its order book. In February 2009, BEML bagged a Rs 1,672.50 crore order from Bangalore Metro Rail Corporation for supply of 150 metro coaches (orders for another 63 is in pipeline). This is in addition to an Rs 1,365 crore metro coach order from Delhi Metro. Since new metro projects (Chennai, Mumbai) are coming up, BEML with the advantage of a local manufacturing base should gain.

BEML has also been active in terms of strengthening its vast portfolio by entering into joint ventures with foreign players. On March 19, it tied-up with France-based NFM Technologies (second largest globally) to produce Tunnel Boring Machine in India. Likewise, an agreement with Indonesia-based Sumber Mitra Jaya (30 per cent stake by BEML) for contract mining opportunities in India was also signed recently; total number of foreign partners is now 20.

To sum up, given the humungous investments planned in infrastructure, power, mining, steel, cement, transportation (air, road and rail) and urban infrastructure as well as focus on defence capex, the demand for BEML's offerings is likely to remain robust (equipment cost as a percentage of project costs range 4-15 per cent).

BEML expects revenues to grow at a CAGR of 11-12 per cent to Rs 5,000 crore by 2013-14. In light of the underlying potential, this is a modest target and should be achieved beforehand. On the flip side, analysts believe its past record has not been very impressive, which is also one reason for this stock to quote at relatively lower valuations. For now, in 2008-09, BEML is expected to clock revenues of Rs 2,800 crore and currently has an order book of over Rs 5,000 crore. With cash profits of Rs 250 crore a year and negligible debt on books, the stock can deliver steady returns in the long run, while it offers a decent dividend yield too.

Gateway Distriparks
For the largest player in the container freight station (CFS) segment at Mumbai's JNPT and with a significant presence in other ports, weak demand from India's key trading partners has resulted in decline in volumes and revenues. In the December quarter, exports from India have registered negative growth, while import growth has moderated. The volume decline has meant that Gateway, (operates CFSs at Mumbai, Chennai, Vizag and Kochi) will finish FY09 with single digit growth y-o-y to about 4 lakh TEUs (twenty-foot equivalent units) compared with a 49 per cent y-o-y growth in FY08.

In addition to CFSs (over half of revenues), Gateway also has a presence in the rail freight (35 per cent of revenues) and cold chain (7 per cent) businesses. While profits at the operating level will come from its core CFS business (contributes 90 per cent to Ebidta), revenue growth in FY10 will be driven by its rail freight/inland container depot business. While its rail business (with 14 rakes operational) is currently loss-making, its advantages over road transport, large volumes and connectivity to industrial hubs is expected to translate into increased revenues for the largest private rail freight operator in the country. A strong presence in the CFS business and an expanding rail freight infrastructure with good business prospects will help the company post improved growth rates in the long term. And obviously, any improvement in economic growth rates will provide a trigger for this stock. Expect returns of about 15-20 per cent over the next 15 months.

IVRCL Infrastructures
The fall in interest rates and commodity prices and the improving availability of funds are some good signs for infrastructure and construction companies. Nonetheless, it is prudent to be selective. Among companies, analysts prefer IVRCL Infrastructures & Projects, a leading player in the water and irrigation segments (account for over 60 per cent of total revenue), which has better visibility in terms of continuous flow of orders and is less leveraged (debt-equity of 0.7 times). As about 90 per cent of these projects are government-sponsored, the company has been a key beneficiary of increased capital expenditure on irrigation projects.

The company generates about 30 per cent of revenues from the transportation sector, wherein the order book stood at about Rs 1,257 crore in December 2008. The company is constructing three road projects on a BOT basis (worth Rs 1,080 crore), which are expected to be commissioned by May 2009. Analysts value these projects at about Rs 20 per share of IVRCL, based on future cash flows.

IVRCL's total order book is about Rs 15,000 crore, which is four times its FY08 revenue and provides good visibility. Thus, revenues should grow at 30 per cent, while earnings are likely to increase by 25 per cent over the next two years. Besides its core business, the company also has an exposure in the real estate business through its subsidiary IVR Prime (62.3 per cent stake) and industrial water treatment and environment equipment segment through a 70 per cent controlling stake in Hindustan Dorr Oliver, (a listed domestic company). Meanwhile, based on estimated FY10 projections, IVRCL Infrastructure's stock is trading at a PE of 6.4 times and 0.87 times its book value of Rs 155 per share.

Simplex Infrastructures
About 30 per cent of Simplex Infrastructure's Rs 10,200 crore total order book (3.6 times FY08 revenue) comprises orders from West Asian countries. Also, within the total order book, about 50 per cent is from the private sector, including 20 per cent from industrial sectors. These are some concerns being cited by analysts with the stock is down 72 per cent in the last one year. However, the 84-year old engineering and construction company has superior execution capabilities, high operating margins and a less leveraged balance sheet (debt-equity ratio of about one currently), which makes it a good investment case.(Click for table)

Moreover, these concerns are already factored into the share price and valuations-the stock is currently trading at four times its estimated earnings and 0.5 times estimated book value for FY10. These valuations are low, as historically (during FY97-FY08) the stock has traded at an average price-to-book value of 1.3 times (and high of 7.5 times).

Importantly, fundamentally, things are now progressing on a positive note. Led by improvement in working capital, the company has repaid part of its debt recently which should lead to better profitability. Also, the fall in commodity prices would add to the operating margins, which is seen at about 10 per cent in FY10 compared to 9.7 per cent in FY09 and 9.5 per cent in FY08.

Although, there could be some slowdown in orders in the short-term (about six months), the company is confident of maintaining revenue growth of about 25 per cent over the next two years on the back of a strong order book. Additionally, the company's diverse presence across sectors like power, marine, industrial, roads, railways, bridges, urban infrastructure and housing provides comfort. Its recent foray into mining, onshore drilling and power T&D segments could prove to be future growth drivers and provides stability in the event of any slowdown in a particular segment or geography. (Click for table)

Sintex Industries
Despite the economic slump, Sintex Industries has been able to maintain its growth. The company's Q3FY09 sales were up by 30 per cent followed by 22 per cent growth in net profit. The company has been growing consistently in the past led by investments in fast growing businesses and partly due to acquisitions. Sintex manufactures plastic products such as custom mouldings and, prefabricated and monolithic structures, which are widely used in different industries, household and construction of temporary and permanent housing. The company has also extended its product portfolio covering sectors like aerospace, wind power, defence and consumer durables by way of acquiring new technologies and companies in the overseas markets (five companies in last 15-18 months).

While margins contracted to 13.2 per cent (down 340 basis point y-o-y) on account of high raw material prices and inventory losses (Rs 25-30 crore) in Q3FY09, they should improve in the coming quarters due to the 30-40 per cent correction in petrochemical prices (main raw material) and absence of inventory losses.

Overall, in the near term, there could be some concerns regarding its international operations given the slowdown in global markets (especially automotive plastic segment). However, the company is still expected to maintain a healthy revenue growth of about 25 per cent over the next two years. Notably, valuations are attractive as the stock is trading at 0.55 times its estimated book value and 3.9 times its estimated earnings for FY10.

Tanla Solutions
For this mobile value added service (MVAS) player, which gets over three quarters of its revenues from UK and Ireland, the recession in these markets have dampened the business outlook in the near term.

The company offers telecom infrastructure solutions through its four segments---products, network aggregation (SMS, MMS), professional services (infrastructure management) and mobile payments (smart phones) in about 28 markets around the world. Though the UK market is growing at just 10 per cent, VAS contributes to nearly a fifth of total mobile usage. With a shift to higher usage of 3G and mobile internet on the rise, Tanla with a 5 per cent market share in the UK market should benefit. For Q3FY09, except for the mobile payments segments, all others reported a decline of over 20 per cent q-o-q (sequential) due to a combination of slowing growth, regulatory changes in UK and weakening of the British pound.

The company is expanding into the Indian market and has deployed the 3G platform for MTNL and launched the missed call alert for Aircel among other projects. While Tanla is debt free and sitting on a cash of about Rs 150 crore, its debtors at Rs 278 crore and an increase in debtor days to 119 days in Q3 are causes for concern. The management, however, believes that this will come down going ahead and Ebidta margins, which have dropped (768 bps q-o-q) to 38 per cent, should stabilise on higher transaction volumes and cost cutting efforts. The stock which has corrected substantially over the year and on the back of robust growth prospects should fetch returns of about 40 per cent over the next one year.

Tata Chemicals
Acquisitions of soda ash makers (UK-based Brunner Mond in FY06 for Rs 800 crore and US-based General Chemical Industrial Products in March 2008 for $1.05 billion) have placed Tata Chemicals in the big league. It has not only emerged as the world's second largest producer of soda ash (capacity of 5.5 million tonne), but it now has an enhanced presence in US, UK and Africa. Soda Ash forms a large part of the chemicals division (sodium bi-carbonate and edible salt are the other major contributors), while crop nutrition (urea, DAP; mainly domestic focus) accounts for the rest.

Notably, while the chemicals business accounts for 40 per cent of consolidated revenues, it enjoys higher Ebidta margins (about 20 per cent) giving it a 55 per cent share in profit. With the overall economic environment having turned weak - prime users of soda ash are glass, soap, detergent, paper and textile industries - realisations and volumes have been under pressure. However, analysts expect Ebdita margins to remain stable in FY10 helped by a sharp decline in input prices (coal and coke; locally) and better realisations in the US (new long-term contracts at higher prices). Notably, majority of Tata Chemicals' production is of low-cost 'natural' soda ash (balance is produced through 'synthetic' route) and is supported by reserves in the US and Kenya. In the edible salt business, the company has been gaining ground and is expected to sustain profitability and growth.The crop nutrition business was impacted by lower realisation of DAP even as input prices were higher, which is also reflecting in its Q3 FY09 performance.

A shutdown at its Uttar Pradesh-based fertiliser plant to stabilise operations of the expanded capacity (up by 33 per cent to 1.16 million tonnes per annum) also impacted operations. Going ahead, lower input costs and higher capacity (and benefits of new urea policy) in the fertiliser business will mean better margins. Also, as the gas supply from Reliance Industries KG-basin is made available, margins should perk up in FY10.

With expansions scaled down, the cost will come down by 28 per cent to Rs 400 crore, which can be funded through annual cash generation of over Rs 1,000 crore. This should also help lower debt further. Operationally, although revenues are expected to decline in FY10 (due to lower realisation), expansion in margins and lower debt should help sustain net profit at FY09 levels; in FY11, it should rise. Expect the stock to deliver good returns