Sharekhan Top Picks
The Sharekhan Top Picks is celebrating its 100th month since inception with a record of delivering a strong outperformance consistently. While the benchmark indices, the Nifty and Sensex, appreciated in the range of 1-1.5% in April, the Sharekhan Top Picks portfolio gave a handsome return of 7.2% in the same period. Despite the Large Cap bias of the Sharekhan Top Picks folio (65-70% in Large Cap index stocks), it comprehensively outperformed even the CNX Midcap index in April as well as over the longer timeframe of three years and five years. That’s not all, the performance of the Sharekhan Top Picks has been consistent with its track record of continued outperformance for eight consecutive years.
It was an all-round performance by the Sharekhan Top Picks last month. All 12 stocks (except Zee Entertainment), ended up registering positive gains for the month, with four stocks giving close to double-digit returns. This month again, Sharekhan is booking handsome gains in two companies – Bharat Electronics (BEL) and Indian Oil Corporation (IOCL). Both the companies were introduced into the Sharekhan Top Picks in December 2016. In the last five months, IOCL and BEL have appreciated by 44% and 27%, respectively.
To replace them, Sharekhan is introducing Petronet LNG (PLNG) and Power Grid Corporation (Power Grid). PLNG is more of a churn within the Oil & Gas sector. Valuation of PLNG appears relatively favourable to us post the sharp run-up in IOCL. On the other hand, Power Grid is the preferred pick pf Sharekhan in the Power sector, where the policy changes are expected to benefit the power transmission companies.
Blue Chip stock recommendations by Sharekhan
Godrej Industries (GIL) is recommended by Sharekhan because it has a diversified portfolio of established businesses such as FMCG, Real Estate and Agri, which have the potential to register strong double-digit growth in the short to medium term. GCPL (GIL has a 23.8% stake) and Godrej Properties (GIL has a 57.6% stake) constitute 87% of the company’s total market capitalisation. This indicates that other businesses such as Godrej Agrovet and the Chemical business and Nature’s Basket are available at a deep discount.
Godrej Agrovet (GAL), a subsidiary of GIL, is a diversified Agri company with presence in Animal Feed, Agri Inputs and Oil Palm businesses. GAL has a strong financial track record, with revenue and PAT (before exceptional items) growing at a CAGR of 18% and 22%, respectively over FY2011-FY2016. GAL’s implied market cap comes to ~Rs3,800 crore (assigning a discount of 20%) on the back of its trailing 12-month adjusted PAT of Rs215 crore, which is at a significant premium to its holding cost of Rs144 crore, says Sharekhan.
GIL is one of the largest players in the Oleo Chemicals and Surfactant segments with a judicious blend of domestic and international operations. Nature’s Basket is another emerging business under GIL’s portfolio (present in online and retail gourmet space) and has been growing consistently above 20% in recent times (FY2016 revenue at Rs270 crore).
With businesses such as FMCG and Real Estate attaining a critical scale, GIL is expected to witness a strong earnings growth trajectory. The high probability of value unlocking in GAL will further enhance GIL’s overall market value. Therefore, Sharekhan expects a potential upside of 15-20% in GIL’s stock price from the current level.
Grasim Industries, a flagship company of the Aditya Birla Group is among India’s largest private sector companies having core businesses of Cement (~70% of revenue with listed subsidiary UltraTech Cement), Viscose Stable Fibre (~20%) and Chemicals (~10%). The company has benefitted from improvement in its profitability in all of its three divisions with outlook continuing to be positive.
The timely acquisition of JP Group’s cement assets, continuous brownfield expansions and de-bottlenecking are likely to increase its cement capacity to over 95MT. The structural growth triggers like rising infrastructure investment and pick-up in rural demand are likely to help sustain a favourable growth outlook for the cement sector. The revival in VSF prices, absence of major capacity additions in China, low inventory and leverage of LIVA brand are likely to sustain VSF division’s profitability going forward. Further, the company will expand its Caustic Soda capacity from 840KTPA to 1048KTPA in FY2018, which should sustain its volume growth, says Sharekhan.
The current restructuring exercise of aligning high-growth businesses in Manufacturing (Cement, Textiles, Chemicals, Insulators, Solar etc) and Services (Financial Services and Telecom) provides a unique opportunity to investors to hold a well-diversified portfolio, which is expected to maintain strong growth momentum going forward across verticals. Overall, we expect Grasim Industries to reap benefits going forward, considering the revival in its core VSF division, strong demand and better realisations in Chemicals and sturdy growth outlook for the Cement business.
HDFC Bank has a pre-eminent presence in the retail banking segment (~50% of loan book) and has been able to maintain a strong & consistent loan book growth, gradually gaining market share. Going forward, economic recovery and improvement in consumer sentiment would be positive growth drivers for the bank’s loan growth, which will in turn drive its profitability.
Backed by a current account & savings account (CASA) ratio of 40%+ and a high proportion of retail deposits, the bank’s cost of funds remains among the lowest in the system, helping it to maintain higher net interest margin (NIM). In addition, the bank’s loan book growth is driven by high-yielding retail products such as personal loans, vehicle loans, credit cards, mortgages etc, mostly to own customers (which also positively impacts NIMs), says Sharekhan.
HDFC Bank has been maintaining near impeccable asset quality, with its NPA ratios consistently being among the lowest versus comparable peers. The bank has been able to maintain a robust asset quality due to its stringent credit appraisal procedures and negligible exposure to the troubled sectors.
HDFC Bank is well poised to tap the growth opportunities going ahead due to strong capital ratios, healthy asset quality and steady revival in consumer spending. Recent demonetisation would help the bank to gain more deposits. Also, as lending and transactions through formal routes increase, HDFC Bank would benefit since it is a leading private sector bank and it is likely that it will gain market share in this segment. The bank is likely to maintain a healthy RoE of 18-20% and RoA of 1.8% on a sustainable basis. Therefore, Sharekhan expects it to sustain the valuation premium that it enjoys vis-à-vis other private banks, says Sharekhan.
IndusInd Bank is among the fastest growing banks (25%+ CAGR over FY2012-FY2017), with a loan book of ~Rs1,092 billion and 1,000 branches across the country. About 55% of the bank’s loan book comprises retail finance, which is a high-yielding category, and is showing signs of growth.
Given the aggressive measures taken by the management, the deposit profile has improved considerably (CASA ratio of ~35%). Going ahead, the bank would follow a differentiated branch expansion strategy (5% branch market share in identified centers) to help in ensuring healthy growth in savings accounts and retail deposits.
IndusInd Bank has maintained its asset quality despite sluggish economic growth and higher proportion of retail finance in its loan book. The bank’s asset quality is among the best in the industry, with total stressed loans (restructured loans + gross NPAs) forming less than 1.50% of the loan book.
A likely revival in the domestic economy will further fuel growth in the bank’s consumer finance division while strong capital ratios will support future growth plans. Though demonetisation has raised questions regarding delinquencies in certain lending segments, the management expects the asset quality to remain under control. The stock should continue to trade at a premium valuation, underpinned by strong loan growth, quality management, high RoAs and healthy asset quality. Sharekhan has a ‘positive’ outlook on IndusInd Bank.
LIC Housing Finance
LIC Housing Finance (LICHF) is promoted by India’s largest insurance company Life Insurance Corporation of India (LIC). LICHF is among the top housing finance companies in India with over 10% share in the mortgage lending segment. Key segments in which LICHF operates is Individual Home Loans, Loan Against Property and Developer Loans. The company has over 230 marketing offices, and a strong network of DSA and Home Loan agents.
The government’s push for Affordable Housing by providing interest subsidy on small home loans could help LICHF to take up opportunities in this segment too. Demonetisation could also help the company, as housing prices are expected to remain stable, if not reduce.
Demonetisation has also brought the lending rates down, as a huge amount of liquidity suddenly rushed into the banking system. Therefore, banks have reduced lending rates on account of lower cost of funds and falling G-Sec yields. This in turn will help LICHF to borrow funds at a lower rate and hence cushion its margins.
Sharekhan expects LICHF to be among the better placed NBFCs to grab a sizable chunk of the growing housing demand amid a favourable interest rate environment, government’s push for “housing for all” and a strong pan-India network.
Maruti Suzuki India (Maruti) is India’s largest passenger vehicle (PV) manufacturer with a strong 47% market share. Over the last two years, the company has been able to gain market share due to new product launches, a vast distribution network (with an increased focus on the rural markets) and a shift in consumer preference to petrol models from diesel models.
The recently launched premium hatchback Baleno and the crossover Ignis have received a strong response, which will help Maruti to expand its market share in the segment. The compact sports utility vehicle (SUV) Vitara Brezza has also received an encouraging response. All the three new launches command a waiting period of 6-8 months each. Further, the recent entry in the light commercial vehicle (LCV) segment would also boost overall volumes.
Maruti’s parent company Suzuki Motor Corporation commissioned its greenfield plant in Gujarat in February 2017. The Maruti management expects to reach full capacity of 2.5 lakh units in Gujarat by the end of FY2018. The commissioning of the Gujarat plant would address supply concerns, besides helping the company to substantially cut the long waiting period on Ignis, Baleno and Vitara Brezza. We expect Maruti’s volume to grow at a CAGR of 10% between FY2017 and FY2019, which is higher than the 8% growth expected for the domestic Passenger Vehicle (PV) industry.
A sustained demand for Maruti’s existing models, coupled with the planned new launches would help the company to bolster volumes going ahead. Further, the commissioning of the new Gujarat plant is expected to ease supply concerns and substantially reduce the waiting period for the recent launches. Sharekhan expects the company to report 10% volume growth in FY2018. Maruti’s revenue and profit are likely to increase by 13% and 14%, respectively over FY2017-FY2019. We retain ‘Buy’ rating on Maruti.
Petronet LNG (PLNG) expanded its Dahej terminal’s nameplate capacity to 15mmt (from 10mmt) in August 2016, with a contracted volume of 16.8mmt along with the use or pay clause. This provides a clear earnings visibility and also de-risks PLNG’s business in case of lower volume off-take by the customers. We expect re-gasification volumes at Dahej to increase at a CAGR of 19% during FY2016-FY2018E to 15.8mmt, with the share of long-term and tolling volume at 90% vs 84% historical trend. The company plans to further increase the Dahej terminal’s capacity to 17.5mmt (from 15mmt currently) by FY2020.
Any resolution of pipeline connectivity issues in South India could improve capacity utilisation at PLNG’s Kochi terminal and drive earnings growth beyond FY2019 (compared to low utilisation rate of 5-7% currently). Every 1mmt increase in volume at Kochi could add around Rs3/share to PLNG’s EPS.
PLNG has a strong balance sheet with negative net debt and low working capital cycle. We expect strong earnings CAGR of 45% over FY2016-FY2018E along with an expansion in Return on Equity to 23.8% from 15.2% in FY2016.
Power Grid Corp
Power Grid Corporation of India (PGCIL) is India’s largest and the world’s second-largest power transmission utility, which derives revenue post capitalisation of the transmission line assets.
Higher asset capitalisation will boost PGCIL’s regulated equity base, on which it earns fixed returns, driving the company’s earnings growth momentum. We expect PGCIL’s regulated equity base to grow at a CAGR of 13% and translate into earnings CAGR of ~20% during FY2016-FY2019E.
PGCIL has a very healthy balance sheet, sustainable earnings visibility, positive cash flow from operations and stable return ratios. Š Nevertheless, after the infusion of equity through Follow-on Public Offer in FY2014, PGCIL is now well capitalised to fund its equity side of the future capex. Therefore, we don’t see any dilution risk as of now. PFCIL’s stable, low-risk business model and healthy assured returns provide cushion to long-term investors.
The spate of growth drivers and rub-off from the scheduled initial public offer of a private sector transmission company at possible lofty valuation should re-rate PGCIL.
Sharekhan expects Reliance Industries’ (RIL) GRM to remain strong at $10.9/11.7 per bbl in FY2018/FY2019 given the robust global oil demand growth outlook for 2017 at 1.3-1.4mbpd (International Energy Agency estimate). Moreover, a likely improvement in diesel cracks would help RIL to maintain a premium of $4-5/bbl over the Singapore Complex GRM. Ethylene margin is also expected to remain firm at $600-650/mt, led by healthy demand and likely delay in the commissioning of incremental capacities in CY2018.
RIL has commissioned the second phase of its Paraxylene (PX) expansion project, and the installation of RoGC and the downstream capacity expansion projects has also been completed, with pre-commissioning activities already underway. The Petcoke Gasification project is mechanically complete, with pre-commissioning activities expected to start in the next quarter. RIL’s Telecom business has ramped up its subscriber base to 10.9 crore as on March 31, 2017, and retention of 7.2 crore for the Prime membership is much ahead of street expectation.
Sharekhan expects EBITDA/PAT CAGR of 21%/9% over FY2017-FY2019E, driven by the commissioning of the core downstream projects in FY2018. Any positive surprise in terms of better-than-expected financials of the Telecom business would be an important rerating trigger for RIL going forward.
Sundram Fasteners (SFL) is the largest organised domestic player in the fasteners segment, commanding ~35% market share. The company manufactures products for CVs, Passenger Cars, Two Wheelers and Tractors. Fasteners constitute ~40% of sales while Motor Vehicle Parts & Accessories contributed the balance 60%.
SFL has substantially diversified its product portfolio over the past few years with the introduction of new products. This has helped the company to shield itself from over-dependence on fasteners, besides helping it to increase the content per vehicle. This has enabled SFL to significantly move up the value chain.
Exports too have exhibited traction and are expected to improve further, led by an uptrend in the US Passenger Vehicle market, enhanced supply of new products and overall market share gains. SFL’s topline is expected to clock an 11% CAGR between FY2017 and FY2019 as against the likely industry growth of ~8%.
SFL’s standalone OPM expanded impressively in Q3FY2017 and is expected to improve further to 19.3% by FY2019, aided by the impending strong growth in exports on the back of new client additions and higher share of value-added products (Powder Metal Parts and Shafts).
SFL completely divested its holding in the loss-making German subsidiary and booked an exceptional loss of Rs46 crore in FY2016. We expect the company’s subsidiaries to report a PAT of Rs14 crore in FY2017 as against a loss of Rs12.6 crore in FY2016.
A consistently strong performance and improved business prospects gives us ample confidence on the future prospects of SFL. We believe that sustained higher margins would result in the company’s return ratios remaining in excess of 25% going ahead. We have a ‘positive’ view on SFL.
Supreme Industries is a leading manufacturer of plastic products with a significant presence across Piping, Packaging, Industrial and Consumer segments.
Supreme Industries has emerged as one of the best proxy plays on the growing plastic consumption in India on the back of a diversified product portfolio, an extensive distribution network, improved capital structure and government thrust on building a better infrastructure.
Sharekhan remains positive on the introduction of value-added products and capacity expansion plans, which are largely funded by robust internal accruals. Supreme Industries enjoys superior return ratios with low gearing levels, and Sharekhan expects the company to maintain high return ratios going forward. Sharekhan believes that the impending GST rollout in the long run will be a boon for the established players like Supreme Industries.
Being among the key players in the domestic Cable TV industry value chain, Sharekhan expects the broadcasters to be the prime beneficiaries of the mandatory digitisation process initiated by the government. The broadcasters would benefit from higher subscription revenue at minimal incremental capex, as the subscriber declaration standard improves under the new digitisation regime.
Zee Entertainment Enterprises (ZEEL) continues to lead the Indian broadcasting industry in advertising revenue growth. ZEEL is one of the leading players in the Indian Cable TV broadcasting industry with a bouquet of 40+ TV channels across genres.
The ZEEL management has stated that it is comfortable with the OPM level of ~30%+ and will re-invest the gains back into the business. Improvement in margins will be led by the sale of the loss-making Sports business (already completed in FY2017, likely to add 300-350BPS in FY2018).
The recent acquisition of the general entertainment TV business of the Reliance Group will help ZEEL to expand its regional presence and facilitate a foray into the comedy genre in the Hindi speaking markets. The ZEEL management expects to achieve EBITDA breakeven by the time the consolidation of the acquisition is complete (H2FY2018).
The ZEEL management has increased its focus on digital, movies, and international operations to improve the content monetisation. The management’s intent to remain a pure play media company gives us confidence on the prudent capital allocation going forward. Sharekhan continues to see ZEEL as the prime beneficiary of the revival in the domestic macro-economic environment and ongoing digitisation efforts.