8 stocks with strong fundamentals to buy for 2019

8 high-quality stocks with strong fundamentals and good track record are recommended for buy for 2019

Recent correction reduced the premium equity valuations

In the latest research report, IIFL has stated that currently, the market is trading at ~6% premium to its 10-year average P/E ratio compared to a premium of ~12% a month ago. Further, due to recent correction, the Nifty 50 is now trading below +1 std dev P/E ratio.

Besides, recovery in economic scenario and commodity prices are favorable tailwinds for corporate earnings growth. In FY19, corporate earnings may still grow at ~14% against a previous expectation of ~20% growth due to worsening macros. This is still better that the single digit growth rates of past couple of years.

It is also stated that the current correction has given an opportunity to investors to invest in good quality businesses at reasonable valuations after a long spell of over-valuation. Investors should focus on sustainability of earnings growth than percentage of growth while investing in current round of market uncertainty.

Investors are advised that as smallcaps and midcaps are down by more than 30%, one can start to bottom fish in good quality companies but avoid averaging stocks whose fundamentals have deteriorated significantly.

8 stocks with strong fundamentals to buy for 2019
Stock CMP (Rs) Target Price (Rs) Gain (%)
Aarti Industries 1265 1517 19.9
Biocon Ltd 644 786 19.3
Kotak Mahindra Bank 1177 1380 17.2
MindTree Ltd 806 1081 34.2
Mphasis Ltd 1023 1328 29.8
Motherson Sumi Systems 245 293 20
Petronet LNG 213 256 20
Reliance Industries 1047 1310 25




(1) Aarti Industries (Aarti) [CMP: Rs 1,265; Target: Rs 1,517; Upside: 19.9%]

● Aarti is one of the leading Indian manufacturers of benzene-based specialty chemicals (~78% of FY18 revenue), pharmaceuticals (~15%) and home & personal care segments (~7%).

● Aarti’s business model is backed by presence across the value chain (final & intermediate products) and strong base in export markets (~48% of FY18 revenue). We expect volume growth of 12-15% over FY18-20E.

● Aarti’s multi-year project (10-years and 20-years supply contract) wins worth Rs 14,000cr (FY18) provides long term visibility to generate robust earnings.

● Aarti being a net exporter (~26% of FY18 revenue), is a beneficiary in the rupee depreciation scenario. However, benefits of rupee weakness will flow through in FY20E, after the existing hedges roll off. We expect revenue CAGR of ~18% with EBITDA margin expansion by ~140bps and PAT CAGR of ~24% over FY18-20E.

● Aarti’s play across integrated value-chain, long term orders, strong customer relationships and consistent return ratios justify our valuation multiple. We recommend BUY with target price of Rs 1,517, valuing at ~23x FY20E EPS.

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(2) Biocon Limited [CMP: Rs 644; Target: Rs 768; Upside: 19.3%]

● Biocon is developing several biosimilars with its two commercial partners, Mylan and Sandoz. Its pipeline with Mylan has started to see approvals and launches which will aid Biocon’s PAT growth by 5-6x over next five years. Additionally, pipeline with Sandoz will create further growth opportunity for Biocon.

● Biocon/Mylan have received USFDA approvals for Trastuzumab (Ogivri)/Pegfilgrastim (Fulphila) in US and Insulin Glargine (Semglee) in Europe. Ogivri and Fulphila are expected to be launched in Europe over next few months following recent positive CHMP opinion. Fulphila has been launched in US in Q2FY19, while Ogivri launch is expected in H2FY19E.

● Biocon’s research subsidiary, Syngene, has tailwinds like rupee depreciation and rising penetration of R&D outsourcing in pharmaceutical R&D spend. Syngene’s revenue/PAT is expected to grow at 27%/30% CAGR over FY18-20E on the back of new client additions, foray in API manufacturing and strong outlook on biologics.

● We expect Biocon to report PAT CAGR of 114% over FY18-20E and recommend Buy with target price of Rs 768 (27x FY20E EPS).

(3) Kotak Mahindra Bank (KMB) [CMP: Rs 1,177; Target: Rs 1,380; Upside: 17.2%]

● Kotak Mahindra Bank is expected to register strong loan growth at 20% CAGR over FY18-20E largely due to robust increase in corporate and retail segment lending.

● Higher savings deposit will further aid CASA ratio (~50.2% current), helping the NIM to be maintained in the range of 4.4-4.6% (best in the industry) over FY18-20E.

● KMB is expected to deliver 27% earnings CAGR over FY18-20E led by a well-capitalised balance sheet, granular book, controlled opex through digitalization and superior asset quality. Its SMA-2 balance is lowest in the banking industry.

● KMB continues to be at the forefront of gaining market share in its key businesses. Subsidiaries’ contribution to increase to 40% of consolidated net profit by FY20E (36% in Q1FY19).

● The bank would continue to benefit from market share gains and superior profitability & capitalisation vs. peers. At CMP, KMB trades at 3.9x/3.3x FY19E/20E P/BV. We value KMB at SOTP-based valuation of Rs 1,380 (3.3x FY20E P/BV) + Rs 209 for subsidiaries) and recommend Buy with target price of Rs 1,380.

(4) MindTree Ltd. [CMP: Rs 806; Target: Rs 1,081; Upside: 34.2%]

● Mindtree, India’s eighth largest IT services company, has strong digital capabilities. The stock has corrected almost 30% since Sep’18 and trades at attractive valuations vs. peers despite better revenue and EPS growth profile.

● In our view, the correction has factored in the concerns related to recent softness/macros and we reckon that Mindtree is likely to outperform peers like LTI, Mphasis and Hexaware. Our belief is based on the company’s strong digital capabilities, which resonates well with clients, resulting in higher digital deal sizes.

● Our view is also based on the fact that its large client (in Top 10) issues have bottomed out. Its Top, Top-5 and Top-10 clients have added ~50% of the incremental revenues over the past eight quarters. Led by high growth in top clients, we expect overall revenue CAGR of 23% and EBITDA margin improvement of ~300bps (FY18-20E).

● Mindtree trades at ~15% discount vs. peers, which is unjustified. We value the stock at 18x FY20E EPS (~5% discount) and recommend Buy with target price of Rs 1,081.

(5) Mphasis Ltd. [CMP: Rs 1,023; Target: Rs 1,328; Upside: 29.8%]

● Mphasis, a mid-sized IT company (part of Blackstone group), is likely to post industry leading growth on the back of traction in Direct core and HP channel.

● Direct core accounts for 78%/55% to Direct International/Overall revenues. Direct International deal TCV in H1FY19 reached USD363mn vs. USD551mn in FY18 of which, new-gen services made up ~77%. Significant deal wins in new-gen services (across accounts and new clients) provide good revenue visibility and hence, we expect Direct core USD revenue CAGR of ~14% over FY18-20E.

● HP channel (~28% of overall revenues) has turned into a valuable contributor after years of underperformance and steady mining of the channel is likely to aid USD revenue CAGR of ~13% over FY18-20E.

● We project overall revenue and PAT CAGR of 17% and 23% respectively with margins improving by ~200bps over FY18-20E to 18.3%. We value Mphasis at 20x FY20E EPS and recommend Buy with target price of Rs 1,328.

(6) Motherson Sumi Systems (MSSL) [CMP: Rs 245; Target: Rs 293; Upside: 20%]

● Motherson Sumi, auto ancillary player, derives revenues from standalone wiring harness (14%), mirrors (SMR- 22%), polymers (SMP- 43%), global wiring harness (PKC- 16%) and others (5%). Company has successfully acquired / integrated 21 companies till date. Hence, it is set to achieve FY20E revenue target of $18bn ($10bn FY18) via combination of organic ($12-13bn revenues) and inorganic ($5-6bn) initiatives.

● PKC reported EBIT margin of 6.7% in Q1FY19 (Q1FY18 – 4.6%) and likely to reach 10% by FY20E led by robust growth of N. America Class 8 truck volumes. SMP EBITDA margin is projected to expand 260bps over FY18-20 to 8.5% on declining start-up cost and capacity ramp-up at 3 upcoming plants. SMR margin to remain steady at ~12%.

● Currently, MSSL faces headwinds such as rising input costs, low client profitability due to ongoing tariff war and slowing passenger vehicle growth in India.

● At CMP, MSSL trades at 15x FY20E EPS (35% discount to avg. 10yr forward PE) and we believe the recent correction is overdone (30% over past 6 months). We expect consolidated revenue, EBITDA and PAT to register 16%, 29% and 47% CAGR respectively over FY18-20E. We value MSSL at 18x FY20E EPS and recommend Buy with a target price of Rs 293.

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The sharp correction in the stock market has thrown up a number of opportunities to buy good stocks. These are stocks of strong fundamental quality, with good managements and track record

(7) Petronet LNG (PLNG) CMP: Rs 213; Target: Rs 256; Upside:20%

● Petronet LNG, is set to benefit from ~17% capacity expansion at Dahej terminal to 17.5mmt by FY19E from current 15mmt. We expect this to aid incremental Dahej volumes of ~48tbtu to ~864tbtu by FY20E.

● Kochi terminal will see an improvement in its capacity utilization to 40% over FY18- 20E (~12% in FY18), as Gail India has accelerated construction of the Kochi-Mangalore gas pipeline (completion expected by Q4FY19E).

● Company does not face the risk of upcoming competition as almost 100% of PLNG’s capacity has use-or-pay contracts along with the competitive tariffs.

● We expect revenue and PAT CAGR of ~16% and ~19% over FY18-20E respectively. The stock trades at 10.8x FY20E EPS with discount valuation (~21%) to its 3-year average. We recommend Buy on the stock (13x FY20E EPS) with a target price of Rs 256.

(8) Reliance Industries (RIL) [CMP: Rs 1,047; Target: Rs 1,310; Upside:25%]

● Reliance Industries is expected to witness improvement in petrochemicals segment with Refinery off-gas cracker (ROGC) being commissioned and strong polyester & fiber intermediates demand.

● International Maritime Organization (IMO) regulation is expected to aid diesel demand benefiting complex refineries like RIL. We expect GRM to be in range of $11- 11.5/bbl over FY19E-20E.

● RIL’s largest petcoke gasification unit at Jamnagar is under commissioning, which is expected to bring full benefit of bottom-of-the-barrel conversion to its refining business. This is likely to improve GRM by up to $2/bbl gradually over FY19E-21E.

● JIO continues to surprise with robust subscriber additions and steady improvement in profitability. We estimate steady state Revenue Market Share (RMS) of ~43% for JIO.

● We expect revenue and PAT CAGR of ~27% and ~18% over FY18-20E respectively. We recommend Buy with SOTP target price of Rs 1,310 (Refining – 7.5x EV/EBITDA, Petrochemical – 7.5x, E&P – 6x, JIO – 21x, Retail – 22.5x).

Click here to download the IIFL Diwali 2018 Research report




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