For Private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES’ RATING SYSTEM AND OTHER DISCLOSURES. REFER TO THE END OF THIS MATERIAL. INDIA DAILY February 11, 2013 India 8-Feb 1-day1-mo 3-mo Sensex 19,485 (0.5) (0.9) 4.3 Nifty 5,904 (0.6) (0.8) 3.8 Global/Regional indices Dow Jones 13,993 0.4 3.7 9.2 Nasdaq Composite 3,194 0.9 2.2 9.9 FTSE 6,264 0.6 2.3 8.6 Nikkie 11,153 (1.8) 3.3 27.4 Hang Seng 23,215 0.2 (0.2) 8.6 KOSPI 1,951 1.0 (2.3) 2.4 Value traded – India Cash (NSE+BSE) 149 151 71 Derivatives (NSE) 976 1,019 1,121 Deri. open interest 1,327 1,367 1,465 Forex/money market Change, basis points 8-Feb 1-day 1-mo 3-mo Rs/US$ 53.7 5 (114) (129) 10yr govt bond, % 8.0 - (4) (30) Net investment (US$mn) 7-Feb MTD CYTD FIIs 1,196 3,039 7,135 MFs (0) (246) (1,104) Top movers -3mo basis Change, % Best performers 8-Feb 1-day 1-mo 3-mo SUEL IN Equity 25.0 (2.2) 29.3 61.0 ESOIL IN Equity 92.7 5.2 33.7 43.7 UNSP IN Equity 1917.3 (0.5) 1.0 40.9 UT IN Equity 35.2 (1.4) (8.1) 32.9 RCOM IN Equity 75.3 (0.1) (5.9) 31.1 Worst performers HDIL IN Equity 71.2 (1.7) (37.4) (31.8) MMTC IN Equity 511.5 (2.7) (18.3) (29.2) IVRC IN Equity 31.5 (1.3) (27.4) (23.7) RBXY IN Equity 428.8 (1.7) (14.0) (21.0) EDSL IN Equity 118.6 (1.6) (15.6) (20.4) Contents Daily Alerts Results Sun Pharmaceuticals: Taro and Lipodox drive performance Mahindra & Mahindra: Slight disappointment in automotive business Hindalco Industries: Aluminum disappoints United Breweries: Impacted by change in policy in Tamil Nadu Canara Bank: Growth in all the wrong areas Cadila Healthcare: Weak quarter, recovery expected in FY2014 Tata Communications: Good quarter with solid margin beat; sustainability the key. Retain REDUCE Bharat Forge: Sharp decline in revenues across business segments GSPL: In-line results BGR Energy Systems: Execution improves although margin miss and high interest cost nullify gain NCC: Weak operations belie improving trajectory of 1H; looking out for asset sales Results, Change in Reco Tata Chemicals: European and African operations disappoint Downgrade to ADD from BUY Company NMDC: Analyzing Karnataka e-auctions Apollo Hospitals: Strong capacity addition expected in FY2014
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For Private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES’ RATING SYSTEM AND OTHER DISCLOSURES. REFER TO THE END OF THIS MATERIAL.
INDIA DAILYFebruary 11, 2013 India 8-Feb 1-day1-mo 3-mo
Sensex 19,485 (0.5) (0.9) 4.3
Nifty 5,904 (0.6) (0.8) 3.8
Global/Regional indices
Dow Jones 13,993 0.4 3.7 9.2
Nasdaq Composite 3,194 0.9 2.2 9.9
FTSE 6,264 0.6 2.3 8.6
Nikkie 11,153 (1.8) 3.3 27.4
Hang Seng 23,215 0.2 (0.2) 8.6
KOSPI 1,951 1.0 (2.3) 2.4
Value traded – India
Cash (NSE+BSE) 149 151 71
Derivatives (NSE) 976 1,019 1,121
Deri. open interest 1,327 1,367 1,465
Forex/money market
Change, basis points
8-Feb 1-day 1-mo 3-mo
Rs/US$ 53.7 5 (114) (129)
10yr govt bond, % 8.0 - (4) (30)
Net investment (US$mn)
7-Feb MTD CYTD
FIIs 1,196 3,039 7,135
MFs (0) (246) (1,104)
Top movers -3mo basis
Change, %
Best performers 8-Feb 1-day 1-mo 3-mo
SUEL IN Equity 25.0 (2.2) 29.3 61.0
ESOIL IN Equity 92.7 5.2 33.7 43.7
UNSP IN Equity 1917.3 (0.5) 1.0 40.9
UT IN Equity 35.2 (1.4) (8.1) 32.9
RCOM IN Equity 75.3 (0.1) (5.9) 31.1
Worst performers
HDIL IN Equity 71.2 (1.7) (37.4) (31.8)
MMTC IN Equity 511.5 (2.7) (18.3) (29.2)
IVRC IN Equity 31.5 (1.3) (27.4) (23.7)
RBXY IN Equity 428.8 (1.7) (14.0) (21.0)
EDSL IN Equity 118.6 (1.6) (15.6) (20.4)
Contents
Daily Alerts
Results
Sun Pharmaceuticals: Taro and Lipodox drive performance
Mahindra & Mahindra: Slight disappointment in automotive business
Hindalco Industries: Aluminum disappoints
United Breweries: Impacted by change in policy in Tamil Nadu
Canara Bank: Growth in all the wrong areas
Cadila Healthcare: Weak quarter, recovery expected in FY2014
Tata Communications: Good quarter with solid margin beat; sustainability the key. Retain REDUCE
Bharat Forge: Sharp decline in revenues across business segments
GSPL: In-line results
BGR Energy Systems: Execution improves although margin miss and high interest cost nullify gain
NCC: Weak operations belie improving trajectory of 1H; looking out for asset sales
Results, Change in Reco
Tata Chemicals: European and African operations disappoint Downgrade to ADD from BUY
Company
NMDC: Analyzing Karnataka e-auctions
Apollo Hospitals: Strong capacity addition expected in FY2014
For private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES’ RATING SYSTEM AND OTHER DISCLOSURES, REFER TO THE END OF THIS MATERIAL.
Ex-Taro earnings below estimates
Sun Pharma’s reported net income at Rs8.8 bn (32% yoy) is 5% ahead of estimate. The beat at the profit level is primarily driven by strong performance at Taro. However, ex-Taro, profits at Rs5.6 bn (23% yoy) is 7% below estimates. While sales ex-Taro is marginally lower, margin at 36.5% is 190 bps lower than estimate (sequential decline of 250 bps). The analysis of core margin remains constrained given the difficulty in estimating Lipodox sales – we estimate Lipodox sales of US$40 mn for the quarter (at 95% margin). Taro and Lipodox appear to be the key drivers for the earnings performance. Taro price increases have sustained and with Sun receiving generic Doxil approval, this trend in earnings will stay for the near term.
Sun and Taro agree to terminate merger agreement
Sun Pharma and Taro have mutually agreed to terminate their merger agreement under which the minority shareholders in Taro were offered US$39.5/share (total cash consideration of US$600 mn). Given the market price of Taro (which was trading at close to US$50) and strong financial performance in recent quarters, the merger at the offer price appeared unlikely.
The termination does not have any impact on financials but a potential buyout of minorities would have been EPS accretive for Sun (even at a significant upside to the offer price).
The move may also strengthen the possibility of other deals that Sun Pharma may be considering. The management has reiterated that it is looking at potential opportunities and Taro minority buyout was not the only deal on the table.
Maintain REDUCE with increased TP at Rs750 (from Rs664 earlier)
Our TP is based on 22X one-year forward EPS. We increase FY2014/15E EPS by 5%/1% to factor the generic Doxil approval and recent acquisitions. Sun Pharma remains a strong franchise both in the US and branded markets but we believe current valuations for the core business remain stretched at 26X. In addition, US sales (including Taro and recent acquisitions) are likely to reach over US$1.3 bn (over 50% of sales) which may limit the organic growth potential for the business.
Sun Pharmaceuticals (SUNP)
Pharmaceuticals
Taro and Lipodox drive performance. Sun Pharma’s overall net profit is higher than estimates, but the beat is primarily on account of the strong performance by Taro. Price increases in Taro and Lipodox remain the key drivers for the earnings growth. We believe the stock is fully valued on the core business – 26X on FY2014E EPS. In addition, the high base in the US may limit organic growth potential. Maintain REDUCE with increased TP at Rs750 (from Rs664) due to roll-forward and generic Doxil approval.
Sun PharmaceuticalsStock data Forecasts/Valuations 2013 2014E 2015E
URL Pharma. Sun Pharma has closed the acquisition of non-Colcrys business of URL Pharma from Takeda (last week). The company did not provide any update on the consideration paid or expected sales from URL. Sun Pharma will continue to manufacture Colcrys for a specified period.
Sun remains optimistic on synergies from the URL Pharma business primarily from improving the operational efficiencies. Sun believes the volumes in URL can be significantly increased and Sun may need a few more quarters to evaluate the real potential in this entity. The technology/patents in URL can also be of interest to Sun Pharma. Sun Pharma has commented that the US pipeline for URL remains weak.
DUSA. Sun Pharma has offered a severance agreement to the senior management of DUSA. Sun may look to selectively retain the talent in this entity.
Doxil. Sun Pharma believes the multiple myeloma indication (which has been carved out in the Sun Label) may not be a significant part of Doxil sales. The company did not provide any indication of the current market size. Sun Pharma also indicated that it had limited visibility on further generic competition considering there are no litigations.
Caraco. Sun Pharma has not yet started receiving approvals from the Caraco facility post the resolution of the quality issues. The company expects approvals to start in the near term.
Pharmaceuticals Sun Pharmaceuticals
4 KOTAK INSTITUTIONAL EQUITIES RESEARCH
Taro. The strong performance in Taro is driven by price increase and product mix. The company did not rule out further price increase in the US portfolio.
Domestic formulations. The reported growth for the quarter is at 13.3% - impacted by change in treatment of sales returns and discounts (now being offset against sales as against cost line earlier). The change does not have any impact at the EBITDA level. The underlying growth in the domestic business is 19% for the quarter.
Sun Pharma growth rates have not been impacted significantly by the market slowdown in the past two months.
Tax rate guidance for FY2014 stands at 18-19%.
Core business remains fully valued
We present the analysis of sales and profits across Taro, Lipodox and the core business of Sun in Exhibit 2 .
We have estimated US$170 mn in Lipodox sales for FY2013 given the single-player market for a significant period. Our estimate of US$100 mn for FY2014 assumes J&J returning with full supplies through the year. We assume a decline in FY2015E to US$80 mn with potential entry of one or two generics. We believe generic entry in Doxil is likely to be phased given the complex nature of the drug.
Our assumption for Taro builds a 15% growth in FY2014 and 10% in FY2015E. However, we build in 330 bps contraction in margin for FY2014E. There could be upside to the margin assumption in case of no further generic competition – every 1% increase in Taro margin adds 0.6% to Sun Pharma EPS.
However, we believe our SOTP valued Taro at a peak multiple of 16X given at current Taro stock price (of US$50), the stock trades at <10X FY2013E EPS (of US$6.6).
We believe the core business of Sun Pharma deserves a premium – but at 26X one-year forward P/E we view the stock to be fully valued. We value the peer group (Cipla, Lupin) at 22X one-year forward EPS. Given the higher cash balance, Sun is likely to trade at a premium which we believe is adequately captured at current price (18% premium).
Sun Pharmaceuticals Pharmaceuticals
KOTAK INSTITUTIONAL EQUITIES RESEARCH 5
Exhibit 2: Sun Pharma – segment analysis, March fiscal year-ends, 2012-15E (Rs mn)
Approval of generic Doxil drives FY2014E EPS upgrade
We increase FY2014 EPS by 5.4% primarily due to the recent approval of generic Doxil. In addition, we also consolidate DUSA (US$50 mn in revenue and limited EPS impact) and URL Pharma (we assume US$80 mn in sales at 18% margin for FY2014E).
With generic Doxil approval, we no longer treat Lipodox sales as one-off and include it as part of the core EPS.
Exhibit 6: Change to sales estimates, March fiscal year-ends, 2013-15E (Rs mn)
For private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES’ RATING SYSTEM AND OTHER DISCLOSURES, REFER TO THE END OF THIS MATERIAL.
Operating margin remains stable sequentially driven by improvement in tractor margin
M&M + MVML net profit of Rs9,149 mn (+30% yoy, -7% qoq) was in line with our estimates primarily due to lower tax rate while reported EBITDA was 5% below our estimate. Net revenues of Rs102,426 mn (+25% yoy, +11% qoq) were in line with our estimates. Average selling prices increased by 14% yoy, attributed to (1) addition of XUV500 volumes and (2) 7% yoy increase in tractor net average selling prices.
Gross margins declined by 100 bps qoq driven by 100 bps qoq decline in automotive EBIT margins. Staff costs and other expenses were almost in line with expectations. Automotive EBIT margins declined by 100 bps qoq due to higher discounts on Scorpio/Xylo in Dec 2012 and higher share of lower-margin Quanto/Rexton in the product mix. Tractor EBIT margin improved by 70 bps qoq despite sluggish volume growth.
Tractor volume growth to remain muted over the next 12 months
We believe tractor volume growth is likely to remain sluggish over the next 12 months due to lack of opportunities for renting out tractors for non-agricultural purposes and subdued farmer profitability.
We have maintained our target price at Rs1,000 based on sum-of-the-parts methodology. We maintain our ADD rating on the stock due to inexpensive valuations and stable earnings growth. Inefficient capital allocation and subdued outlook on tractor volume growth make us less constructive on the stock.
Mahindra & Mahindra (MM)
Automobiles
Slight disappointment in automotive business. M&M missed our estimates by 5% at the EBITDA level in 3QFY13 driven by 100 bps qoq sequential decline in automotive EBIT margin. We believe new model launches, slightly inferior product mix and higher year-end discounts led to decline in margin. We are positively surprised by tractor EBIT margin holding up despite sluggish growth in the industry. We maintain our ADD rating due to inexpensive valuations and stable earnings growth (12% CAGR over the next two years).
Mahindra & MahindraStock data Forecasts/Valuations 2013 2014E 2015E
XUV500 continues to drive volume growth in the UV business
M&M passenger utility vehicle volumes grew by 27% yoy primarily driven by addition of Quanto and ramp-up of XUV500 volumes. Excluding XUV500 and Quanto, utility vehicle volumes grew by 4% yoy. We believe this is a concern area as growth could start tapering off from 1QFY14 onwards as base effect of XUV volumes stiffens. Despite concerns of increase in competitive intensity in lower-end SUV segment, Bolero volumes have grown by 12% yoy in 3QFY13. Scorpio volumes have declined by 3% yoy. XUV500 now forms 16% of utility vehicle volumes and around 17% of standalone automotive business revenues.
Automotive segment net revenues (including MVML) grew by 38% yoy primarily driven by 19% yoy increase in automotive segment volumes and 16% yoy increase in average selling prices. Average selling prices have increased primarily due to addition of XUV500 volumes. The company did not take any price increase in 3QFY13 but has taken an average 2% price hike in January 2013. Automotive EBIT margin declined by 100 bps qoq driven by addition of low-margin Quanto and Rexton in the product mix and high discounts in December on Xylo and Scorpio to clear off inventory. The company indicated that dealer inventory levels in automotive segment are around 3 weeks which is at normal levels.
We estimate domestic industry utility vehicle segment to grow at 12% yoy in FY2014 and expect Mahindra to retain its market share. We note that Ford Ecosport could be a major competitor to Mahindra but we expect it to take some market share from sedan segment as well, so we see limited impact on M&M from this product.
Exhibit 1: XUV500 continues to drive volume and revenue growth M&M utility vehicle quarterly volume mix trend, March fiscal year-ends, 2012-13YTD (units)
Tractor EBIT margins improve by 70 bps qoq despite slowdown in volume growth
Tractor volumes declined by 2% yoy in 3QFY13 while tractor revenues grew by 5% yoy due to 7% yoy increase in net average selling prices. The company has exhibited strong pricing power despite challenging conditions in the tractor segment. Tractor EBIT margin improved by 70 bps qoq to 15.5% driven by improvement in product mix. Tractor average selling prices increased by 7% yoy due to higher share of 41-50 hp segment in the product mix and 4% price increase effected in 9MFY13.
We expect tractor EBIT margin to remain in 14-15% range despite a muted outlook on tractor volume growth. Management has cut its guidance for tractor volume growth to -2% yoy in FY2013E from flat growth earlier. We estimate a -3% yoy growth in tractor volumes in FY2013E due to weak spatial distribution of South West monsoons.
Automobiles Mahindra & Mahindra
12 KOTAK INSTITUTIONAL EQUITIES RESEARCH
Exhibit 2: Less than 51 hp segment declining in tractor mix but 40-50 hp segment showing strong growth M&M domestic quarterly tractor volume mix, March fiscal year-ends, 2012-13YTD (units)
1QFY12 2QFY12 3QFY12 4QFY12 1QFY13 2QFY13 3QFY13Less than 30 hp 10,457 10,183 12,036 8,902 7,105 4,140 3,925 31-40 hp 32,098 24,285 27,468 18,889 25,220 20,995 28,785 41-50 hp 12,092 11,352 13,367 10,440 17,836 17,736 30,617 > 51 hp 11,202 11,574 12,883 11,609 9,420 4,507 2,093 Total volumes 65,849 57,394 65,754 49,840 59,581 47,378 65,420 Volume mix (%)Less than 30 hp 15.9 17.7 18.3 17.9 11.9 8.7 6.0 31-40 hp 48.7 42.3 41.8 37.9 42.3 44.3 44.0
41-50 hp 18.4 19.8 20.3 20.9 29.9 37.4 46.8 > 51 hp 17.0 20.2 19.6 23.3 15.8 9.5 3.2 Total 100.0 100.0 100.0 100.0 100.0 100.0 100.0
Source: TMA, Kotak Institutional Equities
3QFY13 results were impacted by sequential decline in automotive EBIT margin
M&M + MVML net profit of Rs9,149 mn (+30% yoy, -7% qoq) was in line with our estimates primarily due to lower tax rate while reported EBITDA was 5% below our estimate. Net revenues of Rs102,426 mn (+25% yoy, +11% qoq) were in line with our estimates. Average selling prices increased by 14% yoy, attributed to (1) addition of XUV500 volumes and (2) 7% yoy increase in tractor net average selling prices.
Gross margins declined by 100 bps qoq driven by 100 bps qoq decline in automotive EBIT margins. Staff costs and other expenses were almost in line with expectations. Automotive ASPs declined by 100 bps qoq due to higher discounts on Scorpio/Xylo in Dec 2012 and higher share of lower-margin Quanto/Rexton in the product mix.
The biggest positive surprise in the results was 70 bps qoq improvement in tractor EBIT margins aided by improvement in product mix and 1% price increase in October 2012. We expect tractor volume outlook to remain subdued over the next 12 months due to lack of opportunities for renting out tractors for non-agricultural purposes and subdued farmer profitability.
Other key highlights of the results
The company has corrected inventory in the tractor segment as capital employed in the tractor segment has declined by Rs4.3 bn qoq. Capital employed in the automotive segment has increased by Rs3.4 bn qoq which indicates inventory build-up during the quarter, which could also be attributed to ramp-up of Quanto and Rexton volumes—new model launches.
The company indicated that they have sold 12,000 Quanto vehicles and 800 Rexton SUVs, which is impressive in our view.
The company will start production at new tractor plant in Zaheerabad by end of FY2013. Dealer inventory level in tractor business is around 5 weeks, and 3 weeks in utility vehicle business.
The company did not provide much clarity on the financial performance of Mahindra Navistar and two-wheeler business which we believe continues to make losses.
Mahindra & Mahindra Automobiles
KOTAK INSTITUTIONAL EQUITIES RESEARCH 13
Exhibit 3: M&M + MVML numbers were lower than our estimates due to lower automotive margins M&M + MVML 3QFY13 results, March fiscal year-ends (Rs mn)
Exhibit 4: M&M standalone numbers were lower than our estimates due to lower automotive margins M&M standalone 3QFY13 results, March fiscal year-ends (Rs mn)
Exhibit 5: Automotive margins declined in the current quarter while farm equipment EBIT margins improved Standalone quarterly segmental performance, March fiscal year-ends, 2011-13YTD (Rs mn)
We have cut our tractor volume and utility vehicle volume assumptions by 2-4% in FY2014E, as we expect automotive volume growth to remain muted over the next 12 months due to economic weakness. We have thus cut our EBITDA margin assumptions to factor in lower volumes. We retain our target price of Rs1,000 based on sum-of-the-parts valuation methodology.
Exhibit 6: We have reduced our M&M+MVML EBITDA estimate by 6% in FY2014 due to lower volume assumptions Revised M&M+MVML EPS estimates, March fiscal year-ends, 2013-15E (Rs mn)
Exhibit 7: We value M&M at Rs1,000/share based on SOTP methodology M&M sum-of-the-parts valuation methodology
EPS MultipleValue per
share(Rs/share) (X) (Rs) Comment
M&M standalone + MVML 57.9 13.0 753 Based on 13X 12-month forward EPS less dividend income from subsSubsidiaries 235 Tech Mahindra 79 Based on KIE target price price of Rs1,000/shareMahindra Holidays 30 Based on current price of Rs282/shareM&M Financial Services Ltd 77 Based on current price price of Rs1,065/shareMahindra Lifespace Developers Ltd 11 Based on current market price of Rs 397/shareMahindra Forgings 3 Based on current price of Rs57/shareSsangyong Motors 34 Based on investment made by M&M in the firm of 463 mn dollarsSOTP-based value 988 Target price 1,000
Note(1) The subsidiaries have been valued at a holding company discount of 20%.
Exhibit 9: We estimate earnings to grow at 12% CAGR during 2013-15E M&M standalone profit and loss, balance sheet and cash flow statement, March fiscal year-ends, 2010-15E (Rs mn)
Exhibit 10: MVML profit to rise sharply as production at Chakan plant increases M&M + MVML profit and loss statement, March fiscal year-ends, 2012-15E (Rs mn)
2012 2013E 2014E 2015EVolumes 704,874 783,593 867,430 973,865 Avg realization 489,898 548,686 562,403 573,651 Gross sales 345,317 429,947 487,845 558,659 Excise duty 31,506 46,434 52,687 60,335 Net sales 313,811 383,512 435,158 498,324 Raw materials 223,947 274,211 314,184 357,796 Staff costs 17,946 20,638 23,734 27,294 Other expenses 30,306 36,367 40,731 45,618 Total expenses 272,199 331,216 378,649 430,709 EBITDA 41,613 52,296 56,509 67,615 Other income 4,735 5,445 6,099 6,831 Interest expense 2,874 3,000 2,600 2,100 Depreciation 6,699 7,938 9,514 10,729 Extraordinary income 1,083 — — — Profit before tax 37,858 46,804 50,494 61,616 Tax expenses 7,887 11,607 12,371 15,096 Profit after tax 29,970 35,196 38,123 46,520 Adj profit before tax 28,888 35,196 38,123 46,520 EPS FD 47 57 62 76 EPS FD ex subs dividends 44 54 58 71 Ratios (%)EBITDA margin (%) 13.3 13.6 13.0 13.6 Raw material cost as % of sales 71 72 72 72 Staff cost as % of sales 5.7 5.4 5.5 5.5 Other expenses as % of sales 9.7 9.5 9.4 9.2 Excise duty (% of sales) 9.1 10.8 10.8 10.8 Tax rate (%) 21 25 25 25 MVML profit 1,181 2,400 2,646 5,227 MVML profit/share 1.9 3.9 4.3 8.5
For private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES’ RATING SYSTEM AND OTHER DISCLOSURES, REFER TO THE END OF THIS MATERIAL.
3QFY13 standalone results: Lower than expected due to high costs and decline in premiums
Hindalco reported 3QFY13 EBITDA of Rs5.8 bn (-18.6% yoy, +13% qoq), lower than our estimate of Rs7.2 bn. Performance was impacted by (a) a sequential decline in aluminum ingot premiums; our interaction indicates lower realized physical premiums of US$30-40/ton (as opposed to stronger premiums reported by companies such as Alcoa) and (b) higher-than-expected aluminum production cost due to high raw material prices; aluminum production costs in 3QFY13 were US$1,825/ton (down US$50/ ton qoq). Aluminum volumes rose 8.6% qoq to 139 kt with a ramp-up at the smelters after operational disturbances in 2QFY13. Hindalco reported aluminum EBIT of Rs2.1 bn in 3QFY13 against Rs1.7 bn in 2QFY13.
Copper EBIT improves on higher volumes; net income includes one-off write-back of Rs1.4 bn
Copper EBIT was Rs2.3 bn (+4.3% yoy, +8% qoq), helped by higher cathode volumes of 84 kt (+8.3% qoq) but partially pulled down by a fall in acid realizations. Net income increased 20.8% sequentially to Rs4.3 bn, aided by a one-off write-back of Rs1.4 bn. We note that Hindalco’s interest cost increased to Rs1.7 bn (Rs0.3 bn in 2QFY13) due to reallocation of project-related debt to general corporate debt after the financial closure of Aditya in September 2012. Accordingly, treasury income increased from Rs1.3 bn in 2QFY13 to Rs1.7 bn in 3QFY13.
Mahan and Utkal to be commissioned in 1QFY14, trial runs commence at Hirakud FRP
The first leg of commissioning of the Mahan and Utkal projects has begun, and they will start full commissioning from 1QFY14. Hindalco has initiated trial runs for the Hirakud FRP facility. We highlight that Mahan will be commissioned in stages and volumes will increase incrementally over FY2014-16E. Utkal may not operate at higher capacities initially due to delayed commissioning of the conveyor-belt system and limited truck transport.
Low incremental EBITDA, higher depreciation and interest charge to affect performance
In the absence of stage-II clearance for the Mahan coal block and staged commissioning, additional EBITDA generation from the Mahan smelter in FY2014-15 is likely to be low. Additional depreciation and interest charges will lead to a decline in FY2014E-15E EPS. We will incorporate changes in our model after Novelis’ results. We maintain our SELL rating.
Hindalco Industries (HNDL)
Metals & Mining
Aluminum disappoints. Hindalco reported lower-than-estimated standalone EBITDA of Rs5.8 bn (-18.6% yoy) in 3QFY13. Decline in physical premiums and high production costs affected the aluminum business. Volumes increased in the aluminum and copper businesses and aided copper EBIT despite a decline in acid prices. Hindalco has begun to commission major green-field projects but we expect low profitability in initial years due to its use of non-captive coal and high fixed costs. We maintain our SELL rating.
Hindalco IndustriesStock data Forecasts/Valuations 2013 2014E 2015E
Hindalco’s performance is contingent, in our view, on stage-II forest clearance for the Mahan coal block and timely approvals for Talabira II and III coal blocks for the Aditya aluminum smelter. Without captive coal, EBITDA generation from these projects will be minimal at spot aluminum prices.
Commissioning of Mahan smelter may not aid FY2014 and FY2015 earnings
The Mahan smelter will be commissioned in stages over FY2014-15. Out of the 359 kt capacity at Mahan, aluminum production in FY2014 could be100-125kt with an additional ramp-up expected in FY2015 and FY2016. Lack of captive coal (in the absence of stage II clearance for Mahan coal block) will lead to higher costs in the initial phases. We expect costs (without captive coal) at Mahan smelter to be higher than current operational costs of US$1,825/ton by US$200-250/ton. As such, the incremental EBITDA from Mahan is expected to be minimal at Rs1.5-2.0 bn at spot aluminum LME prices. However, additional depreciation and interest charges (75% debt financed) of the Rs107 bn project cost may lead to negative earning contribution initially.
Utkal Alumina can be a value driver, full ramp-up contingent on conveyor
Utkal Alumina’s cash alumina costs are expected to be US$170-180/ton and a full ramp-up to 1.5 mtpa capacity can be a good value driver. At spot global prices of US$330/ton, the project has EBITDA potential of US$200-225 mn at full capacity. However, initially ore will be transported by truck as a conveyor system, based on gravitational pull is under construction. This may lead to lower production volumes in FY2014. Operationally, the conveyor system is superior as it ensures continuity against batch delivery by trucks and can handle higher volumes. The conveyor system is also cost-efficient and will lead to savings of US$4-5/ton of alumina.
FY2014 capex Rs70 bn, mainly related to Aditya
The company expects to incur capital expenditure of Rs70 bn in FY2014, mainly related to the Aditya smelter project and some leftovers from the Mahan smelter and Utkal Alumina. Hindalco has spent Rs95 bn on the Mahan project (Rs107 bn overall capex), Rs50 bn on Utkal Alumina (Rs72 bn total capex) and Rs70 bn in relation to the Aditya project (Rs132 bn total capex). We highlight that the Aditya Aluminium smelter cost is 30% higher than that of Mahan despite the same smelter and technology configuration being used.
Hindalco Industries Metals & Mining
KOTAK INSTITUTIONAL EQUITIES RESEARCH 21
Exhibit 1: Interim results of Hindalco (standalone), March fiscal year-ends (Rs mn)
For private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES’ RATING SYSTEM AND OTHER DISCLOSURES, REFER TO THE END OF THIS MATERIAL.
Change in procurement policy in TN impacts volumes
UBBL reported 3QFY13 revenues at Rs8.4 bn (-2.3% qoq); down 12.7% yoy on reported basis. 3QFY13 results are not comparable yoy as 3QFY12 numbers include 9M results of four entities which have been merged with the company. Adjusting for that, revenue was up in mid-single digit (6-7%). On a like to like basis, 3QFY13 EBITDA at Rs845 mn was flat yoy (reported 3QFY13 EBITDA is down 8% yoy). The company reported 3QFY13 PAT at Rs335 mn after a tax credit of Rs95 mn.
3QFY13 volumes at 29 mn cases were flat yoy. Volumes continue to be impacted due to change in procurement norms by state beverage corporation of Tamil Nadu. The state has started procuring beer from various companies through quota (based on capacity in the state) based allocations rather than demand in the market. Tamil Nadu is the second largest beer market in India after Andhra Pradesh (~18% of all India volumes). UBBL has been allocated 30% of state volume quota versus 65% market share prior to change in norms. Also, volume growth in West Bengal was flat as there has been a disruption in distribution on account of change in Government which would take some time to normalize. With the exception of these two markets, volume growth has been as per usual trends (+12-15% yoy) and the company has maintained market share.
EBITDA margins impacted by adverse mix
As per the management, 3QFY13 EBITDA is flat yoy on account of pressure on margins on adverse mix. Andhra Pradesh, which is the largest and least profitable market in India, grew 20% yoy in volume terms, thereby impacting margins. The company has not taken a price increase in Andhra in the past five years which has impacted profits in the state. The recent hike approved by the State Government is only on MRP (higher distribution margins for state beverage corporation) and has not increased realizations for companies.
Reduce estimates; retain SELL with an unchanged target price of Rs700
We have reduced our estimates. We retain SELL on expensive valuations with an unchanged target price of Rs700 (DCF-based).
United Breweries (UBBL)
Consumer products
Impacted by change in policy in Tamil Nadu. UBBL’s 3QFY13 results were below estimates as volume growth (flat yoy) continues to be impacted by change in Government procurement policy in Tamil Nadu to the one based on quotas rather than demand. EBITDA was flat yoy (like to like); margins were impacted by adverse mix as AP (largest; least profitable market) volumes grew 20% yoy. We have reduced our estimates. Retain SELL with an unchanged DCF-based target price of Rs700.
United BreweriesStock data Forecasts/Valuations 2013 2014E 2015E
Exhibit 1: Sales impacted by change in procurement norms by Tamil Nadu Government – volumes are down 50% yoy in TN Interim results of United Breweries, March fiscal year-ends (Rs mn)
Exhibit 2: Volumes impacted on change in procurement policy in Tamil Nadu Trend in quarterly volumes for UBBL, March fiscal year-ends (mn cases)
39
29.4 2935.6
45
30 29
0
10
20
30
40
50
1QFY
12
2QFY
12
3QFY
12
4QFY
12
1QFY
13
2QFY
13
3QFY
13
Source: Company, Kotak Institutional Equities
United Breweries Consumer products
KOTAK INSTITUTIONAL EQUITIES RESEARCH 27
Exhibit 3: Margins impacted by lower volumes and adverse mix Trend in EBITDA margins, UBBL, March fiscal year-ends (%)
Note: 3QFY12 numbers are not comparable
15.1
7.69.6
11.815.4
12.810.1
0
5
10
15
20
1QFY
12
2QFY
12
3QFY
12
4QFY
12
1QFY
13
2QFY
13
3QFY
13
Source: Company, Kotak Institutional Equities
Exhibit 4: Margins impacted by lower volumes and adverse mix Trend in EBITDA margins, UBBL, March fiscal year-ends (Rs per case)
37
19
32
4237
2932
0
10
20
30
40
50
1QFY
12
2QFY
12
3QFY
12
4QFY
12
1QFY
13
2QFY
13
3QFY
13
Source: Company, Kotak Institutional Equities
Exhibit 5: Company has been able to take commensurate price increase excluding Andhra Pradesh Trend in realizations for UBBL, March fiscal year-ends (Rs per case)
Note: 3QFY12 numbers are not comparable
244 249
331
268 272 286 289
100
150
200
250
300
350
1QFY
12
2QFY
12
3QFY
12
4QFY
12
1QFY
13
2QFY
13
3QFY
13
Source: Company, Kotak Institutional Equities
Exhibit 6: RM and packaging cost is under control Trend in RM and packaging costs for UBBL, March fiscal year-ends (Rs per case)
121124
135
111
118113
119
100105110115120125130135140
1QFY
12
2QFY
12
3QFY
12
4QFY
12
1QFY
13
2QFY
13
3QFY
13
Source: Company, Kotak Institutional Equities
Consumer products United Breweries
28 KOTAK INSTITUTIONAL EQUITIES RESEARCH
Exhibit 7: Trend in other expenses for UBBL, March fiscal year-ends (Rs per case)
Note: 3QFY12 numbers are not comparable
87106
169
126112
136 141
507090
110130150170190
1QFY
12
2QFY
12
3QFY
12
4QFY
12
1QFY
13
2QFY
13
3QFY
13
Source: Company, Kotak Institutional Equities
Exhibit 8: Trend in interest + depreciation for UBBL, March fiscal year-ends (Rs per case)
1215
28
21
13
20 22
0
5
1015
20
25
30
1QFY
12
2QFY
12
3QFY
12
4QFY
12
1QFY
13
2QFY
13
3QFY
13
Source: Company, Kotak Institutional Equities
Other highlights:
The company does not expect its share of market to go lower than 30% (prevalent right now) in Tamil Nadu. As per the management, it has lost market share to local players (3 breweries). One of these breweries has a tie-up with SAB Miller which would have increased its market share marginally.
The company has got a 20% price increase in Tamil Nadu. Retail price of beer has increased from Rs75 per bottle (650 ml) to Rs100 per bottle.
Volumes in Maharashtra, Karnataka and Andhra are up 15%, 10% and 20% yoy, respectively.
Gross debt as of 3QFY13 is Rs10 bn and cash is Rs650 mn.
As per the management, none of the banks or creditors of UB holdings and Mr Mallya can stake any claim over the ‘Kingfisher’ brand for use in the beverage (beer and water) segment. The right to use ‘Kingfisher’ brand for product segment of beverages (beer+water) rests with UBBL in perpetuity and there is no royalty which is payable to UB Holdings for the same.
Change in estimates
Exhibit 9: Change in estimates for UBBL, March fiscal year-ends (Rs mn)
New Old Change (%) New Old Change (%) New Old Change (%)
Exhibit 10: Summary financials: United Breweries Profit and loss account, cash flow statement and balance sheet for United Breweries, March fiscal year-ends (Rs mn)
For private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES’ RATING SYSTEM AND OTHER DISCLOSURES, REFER TO THE END OF THIS MATERIAL.
A weak revenue profile, outlook is worrisome; maintain REDUCE
Canara Bank reported another weak quarter with earnings growth declining 19% yoy on the back of higher provisions (25% yoy) and higher operating expenses (18% yoy). 40% of PBT has been contributed by treasury income but the bank has booked most of its gains from its high-duration AFS portfolio in recent quarters. As highlighted in our previous reports, Canara Bank is struggling to grow its loan book (0.3% yoy) as the target segment is skewed to corporate loans (>60% of loans) and is highly dependent on wholesale funds, which it is trying to correct.
We maintain our REDUCE rating and cut FY2014/15 estimates by 8-14%. We are valuing the bank at `415 (from `420 earlier) which implies 0.8X book and 5X EPS. Return ratios are weak (<13-15% RoE and earnings growth primarily on a weak base of the past few years). We are giving the benefit of NIM expansion (lower than previous estimates) which would drive earnings growth for FY2013-15E, but we are extremely concerned that the bank would refocus on growth under the new management. We are extremely worried on the quality of these exposures and the price at which they are underwritten.
Loan impairment ratios remain high; slippages led by SME and retail
Canara Bank continued its disappointing performance on loan impairment ratios. Slippages remained high at 2.4% (note that the upgradation of accounts that slipped in 1HFY13 is netted off with current slippages which implies that the gross slippages are higher than reported) and fresh restructuring at 1.6% of loans. The bulk of slippages emerged from the SME and retail portfolio for the quarter with a marginally better performance from the large corporate portfolio.
Gross NPLs are currently at 2.8% of loans while net NPLs are at 2.4% of loans. Provision coverage ratio including technical write-offs declined 150 bps qoq to 61% (16% excluding write-offs). We are building slippages at ~2.7% and loan-loss provisions at 1-1.3% for FY2012-14E to factor the possible regulation on dynamic provisions, higher restructuring, improvement in coverage ratio and normal slippages. Aggressive growth in loans as projected by the management in this environment could result in weak underwriting—a key risk in our view.
Canara Bank (CBK)
Banks/Financial Institutions
Growth in all the wrong areas. Strong growth in operating expenses (18% yoy) and provisions (25% yoy) on the back of high loan impairment ratios (slippages at 2.4% and fresh restructuring of 1.6%) marked the performance of the current quarter. 40% of PBT was from treasury income. Weak revenue growth is a concern (5% yoy) as loan growth has been slow (0.3% yoy); we expect strong loan growth with the management shifting focus—negative in our view. Consistent deterioration in liability and weak return ratios drive our REDUCE rating (TP at `415 from `420 previously).
Canara BankStock data Forecasts/Valuations 2013 2014E 2015E
Restructured loans decline qoq; fresh restructuring at 1.6% of loans
Overall restructured loans declined qoq despite fresh restructuring of 1.6% of loans primarily on the back of higher repayment from the large corporate portfolio (aviation sector). Of the `8.6 bn fresh restructuring during the quarter, two steel accounts accounted for ~45% share. Overall restructured loans are currently at ~7% of loans (facility-wise). Given the higher share of corporate loans, we would retain a cautious outlook.
Exhibit 2: Revised restructured loans are significantly lower than earlier reported estimates March fiscal year-ends, 3QFY11-3QFY13 (` bn)
Not much improvement in NIM; sharp improvement unlikely as growth takes precedence
NIM remained flat qoq at 2.4% as reduction in costs of deposits did not come through the quarter. Cost of deposits remained almost stable qoq at 7.8%. We note the liability franchise remains weak with bulk deposits at 27% (down from 29% in 2QFY13 and 44% in FY2012) and CASA ratio at 25% (a marginal improvement over the previous quarter as term deposits declined qoq). We note the improvement in CASA ratio is primarily driven by slower deposit growth (8% yoy with CD ratio) and better traction in savings deposits.
Canara Bank has one of the weakest liability profiles as compared to other large public banks and the focus on growth is not likely to result in sharp improvement as expected earlier.
Banks/Financial Institutions Canara Bank
32 KOTAK INSTITUTIONAL EQUITIES RESEARCH
Exhibit 3: CASA shows a decline on weak CA growth March fiscal year-ends, 2006-3QFY13 (%)
Loan growth flat yoy; expect a stronger performance in the near term
Overall loans grew 1% qoq (flat yoy) as the bank shifted its focus to (1) improving liability profile by shedding wholesale deposits, 27% of deposits (down from 29% in 2QFY13 and 44% in 4QFY12) and (2) reducing the share of loans to large corporate sector (59% as of Dec 2012). Agriculture loans grew 13% yoy, while retail and SME loans declined 15% yoy and 16% yoy respectively.
We are not too positive on the bank’s recent decision to accelerate growth from the current levels. We were a bit excited that the focus to improving liability had gained traction in recent quarters, but the new management has clearly indicated that growth would be its new and the most important agenda—something that we are negative of. We remain cautious of the pricing and quality of impending loan growth.
Exhibit 4: Loan growth has sharply slowed down in recent quarters Loans/deposit growth, March fiscal year-ends, 3QFY11-3QFY13 (%)
(7.0)
-
7.0
14.0
21.0
28.0
35.0
3QFY
11
4QFY
11
1QFY
12
2QFY
12
3QFY
12
4QFY
12
1QFY
13
2QFY
13
3QFY
13
Loan growth Deposit growth
Source: Company, Kotak Institutional Equities
Exhibit 5: Canara Bank has started to increase lending CD ratio, March fiscal year-ends, 3QFY11-3QFY13 (%)
60.0
63.0
66.0
69.0
72.0
75.0
3QFY
11
4QFY
11
1QFY
12
2QFY
12
3QFY
12
4QFY
12
1QFY
13
2QFY
13
3QFY
13
Source: Company, Kotak Institutional Equities
Canara Bank Banks/Financial Institutions
KOTAK INSTITUTIONAL EQUITIES RESEARCH 33
Strong treasury gains drive other income growth
Non-interest income grew 9% yoy led by strong treasury gains (60% yoy to `2.5 bn), even as all other components reported a subdued trend. Forex income grew 7% yoy, fee income declined 3% yoy and income from recoveries declined 13% yoy. We note that the bank has also taken high benefits through write-back of investment depreciation (`1.3 bn). Pre-tax income, excluding income from investments (treasury income and investment depreciation), would be down 54% yoy. We expect fee income growth at 3% CAGR for FY2012-14E.
Other highlights for the quarter
Overall capital adequacy is comfortable at 12.6% with tier-1 capital at 9.8%.
Cost-income ratio was at 46% compared to 50% in Sept 2012 as non-staff expenses declined during the quarter (-1% qoq, 19% yoy). Staff expenses increased 17% yoy (5% qoq).
Tax rate for the quarter continued to be low at 20% (18-23% over past 10 quarters) as the bank continues to take benefit from aggressive write-offs.
Exhibit 6: Key changes to our estimates Old and new estimates, March fiscal year-ends, 2013-15E (` mn)
New estimates Old estimates2013E 2014E 2015E 2013E 2014E 2015E 2013E 2014E 2015E
Net interest income 79,641 92,711 105,482 80,820 97,081 115,552 (1.5) (4.5) (8.7) Loan growth (%) 5 12 13 5 16 16 NIM (%) 2.1 2.3 2.4 2.1 2.3 2.4
Loan loss provisions 23,773 32,136 36,027 21,396 34,075 39,422 11.1 (5.7) (8.6) Other income 31,833 35,445 39,373 30,470 37,146 40,644 4.5 (4.6) (3.1)
Fee income 7,651 8,416 9,257 8,288 9,117 10,029 (7.7) (7.7) (7.7) Treasury income 6,500 6,500 7,000 3,500 5,500 5,500
For private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES’ RATING SYSTEM AND OTHER DISCLOSURES, REFER TO THE END OF THIS MATERIAL.
Significant miss on earnings
Cadila’s reported net income of Rs1 bn (31% yoy) is significantly lower than our estimate of Rs2 bn. The earnings miss was entirely driven by weak margin performance. Sales at Rs15.6 bn (15% yoy) was in line. EBITDA at Rs2.1 bn (-8% yoy) is 34% below estimate while margin at 13.6% (declined 350 bps yoy) is 700 bps below estimate. Tax rate at 36% (1HFY13: 27%; KIE estimate: 23%) was also significantly higher.
Core gross margin (excluding currency impact) at 65% is significantly lower than our estimate of 67.6%. The company attributed the weak margin to weak product mix (has launched AG in the US) and contraction in Docetaxel margin. The gross margin is expected to remain weak for one more quarter until launches gain steam in the US market.
Other expense at Rs5.8 bn (21% yoy) is 10% higher than estimate (Rs5.3 bn). The increase is due to (1) GDUFA provision of Rs100 mn, (2) higher marketing spends in domestic business (pharma/wellness) and (3) donations amounting to Rs60 mn to political parties and charity. R&D at 8.8% is also higher versus our estimate of 7.1%.
Near term to stay weak; US launches hold the key
The company expects weak margin performance to continue in 4QFY13 and recovery starting from 1QFY14. US launches remain key to improvement in EBITDA margin. Cadila has guided for 22 launches (own products) from India and two launches from Nesher in the US market for CY2013. The improved US product mix, growth in Brazil and benefit from cost-saving programs are expected to result in EBITDA margin of 19-20% in FY2014 (from 15.3% in FY2013).
Maintain ADD; reduce TP to Rs840 (from Rs940)
We reduce FY2013/14/15E EPS by 23%/11%/7%. We reduce multiple to 20X (from 22X earlier resulting in a reduced TP of Rs840). While near-term performance will remain weak, we stay positive on the monetization of the US pipeline over the next 1-2 years. We expect an improving trend in the US product mix driven by launches of limited competition opportunities.
Cadila Healthcare (CDH)
Pharmaceuticals
Weak quarter, recovery expected in FY2014. Cadila reported another weak quarter with a significant miss on margin. The lack of any significant launches in US remains the key issue and the company does not expect a recovery until FY2014. The weak earnings trend is likely to continue in the near term. We maintain ADD rating with reduced TP at Rs840 (from Rs940 earlier) – based on 20X (from 22X earlier) one-year forward EPS. We remain positive on the medium-term US pipeline which will drive the recovery in EBITDA margin. We have cut FY2013/14E EPS by 23% and 11% respectively.
Cadila HealthcareStock data Forecasts/Valuations 2013 2014E 2015E
Domestic formulations. Core growth (excluding biochem) in India formulations remained strong at 18% yoy. This is despite a weakness in the overall market growth for the quarter. The company has increased marketing spend due to new launches, which is also a reason for the higher other expense. Cadila expects domestic business growth rate to sustain at 18% for FY2014.
US formulations. Cadila launched 2 generics in the US which included one from Nesher (oxycodone). The company has filed for 18 ANDAs during the quarter (total of 30 for 9MFY13). There are 90 ANDAs pending approval (including the partner filings). Cadila expects to sustain the filings momentum in FY2014. The filings for the quarter also included first filings by the company in the dermatology segment (2 topicals).
Cadila expects to launch 22 products in US in CY2013 which will be mostly oral solids. The company expects to launch 2 products from Nesher in FY2014 which includes one controlled substance.
The US FDA inspection for the transdermal facility is expected this quarter. The company has filed for 2 patches so far with the first launch expected in FY2014.
Cadila Healthcare Pharmaceuticals
KOTAK INSTITUTIONAL EQUITIES RESEARCH 39
Latin America. Brazil sales declined by 16% yoy impacted by (1) backlog following the end of ANVISA strike in September 2012 and (2) issues with quota for controlled substance products. The backlog has been cleared in December 2012 and the company expects return to growth in 4QFY13. The company did not receive any approvals in Brazil during CY2012. Cadila expects Brazil sales to be 15-20% for FY2014.
Branded business is 65% of Brazil sales while generics constitute the rest. The company expects generics business to grow faster in the medium term.
During the quarter, the company received the first product approval in Mexico.
R&D. Cadila expects R&D expense to stay flat on an absolute basis for FY2014E.
Tax rate. The increase in tax rate for FY2013 has been due to AMT on partnership facility and no offset for losses in overseas subsidiaries. Tax rate is expected to be 25% for FY2014E. In the longer term, tax rate is expected to be closer to MAT.
Balance sheet details. Gross debt is at Rs2.3 bn while cash is Rs0.5 bn – there has been an increase of Rs0.2 bn in net debt (40% of debt is in foreign currency) from September 2012. The company does not have any outstanding hedges.
Capital expenditure. The capital expenditure for 9MFY13 is Rs6 bn with guidance for Rs6.5 bn for FY2013. Cadila has increased the guidance for FY2014 to Rs6.5 bn (from Rs5 bn earlier).
Sales mix remains under pressure
The overall sales for the quarter have been in line but the growth has been primarily on account of lower-margin businesses.
US sales at US$73 mn posted a sequential increase of US$6 mn but the increase was primarily due to launch of authorized generics (AG for Abbott; Azithromycin and Potassium chloride). AG gross margin is typically at 20% compared to 40-50% for the regular generics.
Overall JV sales (include Hospira, Nycomed and Bayer) at Rs1.3 bn (4% yoy) were in line. However, there has been a sharp reduction in Docetaxel margins which has been a key factor for the gross margin decline. The company expects the margin to remain at this level going forward.
Wellness posted an improved performance for the quarter with 28% yoy growth driven by launch of line extensions and aided by a weak base. The company has guided for Rs5 bn in sales for FY2014E.
Reduce FY2013E EPS by 23% and FY2014E EPS by 11%
We maintain our sales estimates for FY2014/15 while EPS has been reduced by 23%/11%/7% for FY2013/14/15E.
Domestic formulations. We expect sales growth at 16% yoy, lower than the company expectation of 18%. The reduced estimate will also partly account for the impact from the implementation of the drug pricing policy (estimated impact of Rs700 mn at the PAT level).
US. In US$ tems, sales is expected to grow to US$360 mn in FY2014 (28% yoy) driven by launches in both Nesher and Cadila. We expect US$80 mn addition for FY2015 at US$440 mn.
Pharmaceuticals Cadila Healthcare
40 KOTAK INSTITUTIONAL EQUITIES RESEARCH
Sales estimates, March fiscal year-ends, 2013-15E (Rs mn)
We expect gross margin to improve by 180 bps in FY2014 driven by US product mix. R&D margin is also expected to decline with absolute spend expected to stay flat in FY2014E. Overall, we expect EBITDA margin to recover to 19.2% which is at the lower end of the guided range of 19-20%.
Margin analysis, March fiscal year-ends, 2009-15E (Rs mn)
For private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES’ RATING SYSTEM AND OTHER DISCLOSURES, REFER TO THE END OF THIS MATERIAL.
3QFY13 – good quarter, even adjusted for 2QFY13 one-offs
TCOM reported a robust 3.8% qoq and 23% yoy growth in consolidated revenues to Rs44.3 bn, around 0.8% ahead of our estimate. Yoy growth was aided by around 7% Re depreciation versus the USD; however, the same had a negative impact on qoq growth. EBITDA of Rs6 bn (+37% qoq, +20% yoy) surprised positively coming in 12% ahead of our estimate. EBITDA margins of 13.6% represented a 330 bps qoq jump. We note that 2Q had a few cost one-offs; nonetheless even adjusted margins surprised. Our OPM expectation of 12.2% reflected the 2Q cost one-off adjustments. However, losses at the net level continued; the company reported a net loss of Rs2 bn for the quarter – this included Rs791 mn charge towards employee cost optimization. We note that the company had initiated headcount reduction in the middle of the Dec 2012 quarter.
Voice segment – good quarter led by sharp improvement in net realization and cost reduction
TCOM reported a 10% qoq and 4% yoy growth in net revenues for the global voice segment; net realization per minute grew 7.4% qoq while declining 11% yoy. Sequential fluctuations in net realization are expected; yoy movements reflect the underlying sustained net realization pressure on this business better. Nonetheless, we are encouraged with the 22% yoy growth in EBITDA reported in this segment as the company brought ex-interconnect operational costs for the segment down 10% yoy. Total minutes carried increased a healthy 17.2% yoy, led by a strong 19% growth in ILD traffic (substantially ahead of the market, in our view). NLD volumes declined 10% qoq while growing 5.6% yoy.
Data – solid qoq margin expansion the key highlight
Data business gross revenues of Rs17.4 bn represented a 4.1% qoq and 21% yoy growth. EBITDA at Rs3.6 bn (+38% qoq, +8.5% yoy) surprised positively as EBITDA margins expanded 500 bps qoq to 20.5% (still down 240 bps yoy, though). Strong qoq margin expansion was driven by favorable business mix, in our view – data segment revenue growth was driven by a strong 11% qoq growth in the Enterprise sub-segment even as the Carrier sub-segment (lower margin business, in our view) declined 1.8% qoq. On the negative side, data business remained EBIT-negative.
Tata Communications (TCOM)
Telecom
Good quarter with solid margin beat; sustainability the key. Retain REDUCE. Tata Communications (TCOM) reported a strong quarter of operating performance beating our EBITDA estimates by a solid 12%. We take our EBITDA estimates up by 3-5% for FY2013-15E but retain our cautious stance noting – (1) sticky high net debt; capex has been tracking ahead of our expectations, and (2) sustained weak performance at Neotel. Newsflow on surplus land monetization is yet to translate into even meaningful material milestones. Reiterate REDUCE with an end-FY2014E TP of Rs220/share.
Tata CommunicationsStock data Forecasts/Valuations 2013 2014E 2015E
Neotel (TCOM’s fixed-line business in South Africa) had a decent operational quarter with revenue growth of 6.3% qoq and 10.6% yoy to ZAR773 mn. EBITDA margin expanded a further 100 bps qoq to 11.3%.
Net debt (both standalone and consolidated) rises further
Consolidated net debt increased further to Rs120.4 bn (5X 3QFY13 annualized and 5.6X TTM EBITDA) at end-Dec 2012 from Rs116.1 bn at end-Sep 2012. Net debt increased at both standalone TCOM as well as Neotel.
Investment thesis – stock is essentially a surplus land play
We believe the stock fortunes are likely to revolve around developments (and market sentiments) on the surplus land monetization front.
Even as we rely on the assessment of our real estate analyst for the gross realizable value of the surplus land, we do exercise our judgment on ascribing a discount to this gross value. We currently ascribe a 40% discount to account for three factors – (1) potential capital gains tax, (2) dividend distribution tax, and (3) time value – it could take a while before the demerger, land sale, and proceeds distribution to shareholders happen.
In essence, there are four variables (gross realizable value and the three factors discussed above) that go into estimation of surplus land value per TCOM share. The most important of these is of course the gross realizable value of the land – this is where Street sentiments would play a large role in determining the stock’s movements.
We note that TCOM’s core business – (1) forms only a part of the overall SOTP, and (2) needs to deliver improvement in cash flow generation for a higher kicker to fair value. Exhibit 1 gives our SOTP for TCOM. Nearly Rs126 (57%) of our SOTP-based fair value of Rs220/share comes from TCOM’s surplus real estate assets.
We also highlight a critical factor pertaining to TCOM’s core business equity fair value estimate – the high financial leverage for TCOM. We note that core business equity value is just about 16.1% of the core business EV given the presence of substantial net debt on the company’s books. Our core business equity value is highly sensitive (both ways – upside as well downside) to the FCF the company generates given high financial leverage. Exhibit 3 presents the sensitivity of our SOTP fair value for TCOM to core business EBITDA and target EV/EBITDA multiple.
Exhibit 4 gives the sensitivity of our SOTP fair value for TCOM to surplus real estate valuation and assumed % net monetization.
Exhibit 1: Our sum-of-the-parts target price for TCOM is Rs220/share
Estimated value Value in SOTP(Rs bn) (Rs/share) (Rs bn) (Rs/share) Comments
1. Core businessEnterprise value (EV) 136 479 136 479 Based on 5.5X EV/EBITDA multiple on FY2014E EBITDANet cash/(debt) (115) (402) (115) (402) Equity value 22 77 22 77 2. InvestmentsTATA Teleservices (TTSL) 5 16 5 16 9% stake at Rs50 bn equity valueTotal 5 16 5 16 3. OthersSurplus real estate 60 210 36 126 60% of estimated market value of surplus landTotal 60 210 36 126 Grand total [1]+[2]+[3] 86 303 62 219 12-month forward target price is Rs220/share
Net realization per min (Rs/min) 0.211 0.261 0.236 0.216 0.232 EBITDA per min (Rs/min) 0.093 0.119 0.124 0.084 0.124 Operating costs per min (Rs/min) 0.117 0.142 0.112 0.132 0.109
Global Data Solutions (Rs mn)Gross revenues 13,321 14,375 15,980 16,703 17,389 Net revenues 10,706 11,229 12,547 12,866 13,081 EBITDA 3,466 3,293 2,784 2,588 3,573 EBIT 363 (168) (1,213) (1,599) (618) EBITDA margin (%) 26.0 22.9 17.4 15.5 20.5 EBIT margin (%) 2.7 (1.2) (7.6) (9.6) (3.6) GR by segment (%)Service Provider / Carrier 54.0 52.0 52.0 53.0 50.0 Enterprise 46.0 48.0 48.0 47.0 50.0 GR by service line (%)Network services 74.0 74.0 72.0 71.0 71.0 Managed services 26.0 26.0 28.0 29.0 29.0 GR by geography (%)India 49.0 47.0 48.0 50.0 52.0 Rest of the world 51.0 54.0 52.0 50.0 48.0 Tata Communications Banking InfraSolutions Ltd. (TCBIL)Gross Revenue (Rs mn) 409 460 713 833 999 Total ATMs managed 4,949 5,693 12,609 13,127 13,244 Total POS managed 6,662 3,524 9,430 10,915 7,756 Debt profile Core business (US$ mn)Gross debt 1,605 1,631 1,650
Average cost of loans (%) 5.07 4.99 4.85 Cash and cash equivalent 84 57 95 Net debt 1,521 1,574 1,555 Neotel (ZAR mn)Gross Debt 5,212 5,254 5,575 Net debt 5,129 5,170 5,477
Source: Company, Kotak Institutional Equities
For private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES’ RATING SYSTEM AND OTHER DISCLOSURES, REFER TO THE END OF THIS MATERIAL.
Sharp fall in revenues across business segments impacts 3QFY13 results
Bharat Forge standalone revenues declined by 29% yoy in 3QFY13 driven by a sharp slowdown in industrial capex in India, US and Europe. Domestic revenues declined by 23% yoy while export revenues declined by 33% yoy in 3QFY13. Tonnage sales declined by 32% yoy while revenues declined by 28% yoy offset by higher contribution of machining sales in the product mix (50% of total revenues in 3QFY13 versus 45% in 3QFY12).
Capacity utilization in standalone operations declined to 50% in 3QFY13 (versus 65% in 2QFY13) while capacity utilization at overseas plants remained at 40-50%, indicating sharp slowdown across business segments. The company was also cautious in its outlook on revenue growth in FY2014 and expected flat or a decline in revenues in standalone operations. Inventory destocking in both domestic and export markets by the company’s customers will continue to impact revenues over the next few quarters.
Subsidiaries reported a loss of Rs 250 mn in 3QFY13 (Rs 216 mn loss in 2QFY13) largely driven by poor performance in China operations. The company indicated that European subsidiaries are at break-even levels in context of profit before tax. The company has closed its US operations and took a charge of Rs260 mn in the quarter pertaining to Bharat Forge US subsidiary. China subsidiary reported Rs115 mn loss in 3QFY13.
We maintain our REDUCE rating on the stock
We have revised our earnings estimates downwards by 18-27% over FY2013-15E driven by 12-17% cut in our revenue assumptions. We have also reduced our EBITDA margin assumptions by 40-80 bps due to negative operating leverage. We maintain our REDUCE rating on the stock and cut our target price to Rs200 based on sum-of-the-parts valuation methodology (see Exhibit 8) from Rs270 earlier.
Bharat Forge (BHFC)
Automobiles
Sharp decline in revenues across business segments. Bharat Forge standalone revenues declined by 29% yoy in 3QFY13. The company was impacted by sharp decline in commercial vehicle sales in India and export markets while its non-auto business was under pressure due to slowdown in industrial capex in power, mining and oil and gas sectors. We maintain our REDUCE rating on the stock as we expect revenue growth to remain under pressure. We cut our target price to Rs200 (from Rs270 earlier).
Bharat ForgeStock data Forecasts/Valuations 2013 2014E 2015E
Revenues decline sharply due to sharp slowdown in industrial capex
Bharat Forge standalone revenues declined by 29% yoy in 3QFY13 driven by a sharp slowdown in industrial capex in India, US and Europe. The company was impacted by sharp decline in commercial vehicle sales in India and export markets while its non-auto business was under pressure due to slowdown in industrial capex in power, mining and oil and gas sectors. Tonnage sales declined by 32% yoy while revenues declined by 28% yoy offset by higher contribution of machining sales in the product mix (50% of total revenues in 3QFY13 versus 45% in 3QFY12). Domestic revenues declined by 23% yoy while export revenues declined by 33% yoy in 3QFY13.
EBITDA margins in the standalone business (at 21.2% in 3QFY13) declined by 420 bps yoy despite improvement in product mix driven by negative operating leverage. Gross margins declined by only 80 bps yoy but manufacturing expenses and staff costs rose sharply as percentage of sales due to sharp decline in revenues. The company indicated that standalone operations are operating at 50% capacity utilization and break-even point has been reduced to 30% in standalone operations.
The company was also cautious in its outlook on revenue growth in FY2014 and expected flat to decline in revenues in standalone operations. Inventory destocking in both domestic and export markets by company’s customers will continue to impact revenues over the next few quarters.
Exhibit 1: Sales of Class 8 trucks in US is on a downward trend since past few months Monthly sales units and yoy change (%), US class 8 truck market
Exhibit 4: Non-auto revenues declined sharply (-28% yoy) in 3QFY13 Standalone non-auto revenues, March fiscal year-ends, 2010-13YTD (Rs mn)
500
1,000
1,500
2,000
2,500
3,000
3,500
4,000
1QFY
10
2QFY
10
3QFY
10
4QFY
10
1QFY
11
2QFY
11
3QFY
11
4QFY
11
1QFY
12
2QFY
12
3QFY
12
4QFY
12
1QFY
13
2QFY
13
3QFY
13
(Rs mn)
Source: Company, Kotak Institutional Equities
Subsidiaries unlikely to turn around anytime soon
Subsidiaries reported a loss of Rs250 mn in 3QFY13 (Rs216 mn loss in 2QFY13) largely driven by poor performance in China operations. The company indicated that European subsidiaries are at break-even levels at the profit before tax level. The company has closed its US operations and took a charge of Rs260 mn in the quarter pertaining to Bharat Forge US subsidiary. China subsidiary reported Rs115 mn loss in 3QFY13. We believe subsidiaries will remain under pressure due to subdued outlook of commercial vehicle sales in US and Europe coupled with high fixed cost structure. We estimate subsidiaries to makes losses over the next two years.
Exhibit 5: Consolidated results disappoint driven by subdued performance of the standalone as well as overseas subsidiaries Consolidated interim results, March fiscal year-ends (Rs mn)
We revise our earnings estimates by 18-27% over FY2013-2015
We have revised our earnings estimates downwards by 18-27% over FY2013-15E driven by 12-17% cut in our revenue assumptions. We have also reduced our EBITDA margin assumptions by 40-80 bps due to negative operating leverage. We maintain our REDUCE rating on the stock and cut our target price to Rs 200 based on sum-of-the-parts valuation methodology (see Exhibit 8) from Rs 270 earlier driven by cut in our earnings estimates. We do not ascribe any value to Bharat Forge-Alstom joint venture due to very slow progress of the project (earlier we ascribed Rs 24/share to the project which was expected to start operations in FY2014).
Automobiles Bharat Forge
54 KOTAK INSTITUTIONAL EQUITIES RESEARCH
Exhibit 6: We revise our standalone EPS estimates by ~18-27% downwards for FY2013-15E Revised standalone EPS estimates, March fiscal year-ends, 2013-15E (Rs mn)
New estimates Old estimates % change2013E 2014E 2015E 2013E 2014E 2015E 2013E 2014E 2015E
Exhibit 8: We value Bharat Forge at Rs200/share based on SOTP methodology Bharat Forge sum-of-the-parts valuation table
EBITDA Multiple EV(Rs mn) (X) (Rs mn) (Rs/share)
12 m forward standalone EBITDA 7,427 8.0 59,420 250 12 m forward overseas EBITDA 531 4.0 2,126 9 Less: consolidated net debt 14,215 60 Equity value 47,330 199 Target price 200
Source: Kotak Institutional Equities estimates
Bharat Forge Automobiles
KOTAK INSTITUTIONAL EQUITIES RESEARCH 55
Exhibit 9: We expect profitability of the standalone business to remain under pressure due to subdued demand outlook Bharat Forge standalone profit and loss, balance sheet and cash flow statement, March fiscal year-ends, 2009-15E (Rs mn)
Exhibit 10: We expect profitability of the consolidated business to remain under pressure due to subdued demand outlook Bharat Forge consolidated profit and loss, balance sheet and cash flow statement, March fiscal year-ends, 2009-15E (Rs mn)
For private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES’ RATING SYSTEM AND OTHER DISCLOSURES, REFER TO THE END OF THIS MATERIAL.
Decline in operating profits led by lower gas volumes
GSPL reported 3QFY13 EBITDA at `2.39 bn (-6.5% qoq and -5.6% yoy), modestly higher than our estimate of `2.35 bn. The decline in operating profits reflects lower gas transmission volumes. Implied transmission tariff was higher at `1.04/cu m versus `0.99/cu m in 2QFY13 and `0.9/cu m in 3QFY12, our expectation was `0.99/cu m. Gas transmission volumes were lower at 27.3 mcm/d versus 28.6 mcm/d in 2QFY13 and 32.8 mcm/d in 3QFY12. Reported net income declined to `1.19 bn in 3QFY13 versus `1.33 bn in 2QFY13 and `1.26 bn in 3QFY12.
Use-or-pay agreements protect earnings currently; risk exists from renewal of contracts
We highlight that GSPL has reported a modest 4% decline in gas transmission segment revenues and 7% decline in operating profits in 9MFY13 despite a sharp 17% yoy decline in volumes. The company has presumably benefited from use-or-pay contracts. However, we expect the benefit to subside gradually as and when the contracts are renegotiated. Interestingly, GSPL’s transmission segment revenues have declined modestly by 4% since 1QFY12 despite 26% decline in gas transmission volumes in the same period.
Gas volumes will likely improve in the long term
We expect GSPL’s Gujarat pipeline network to benefit from increase in gas supply in the long term led by (1) higher LNG imports from proposed expansion of Dahej and Hazira terminals and (2) potential recovery in domestic gas supply assuming incremental production from ONGC’s marginal fields and KG D-6 satellite fields.
Retain our ADD rating with a revised TP of `83
We retain our ADD rating on the GSPL stock noting moderate upside to our revised DCF-based target price of `83 (`85 previously). We model average transmission tariff of `0.8/cu m in the long term which results in reasonable CROCI of 12%. We have revised FY2013E, FY2014E and FY2015E EPS to `8.8, `8.3 and `8.1 from `8.5, `8.1 and `8 to reflect (1) lower transmission volumes, (2) higher tariffs in FY2013-14E and (3) other minor changes. We model gas transmission volumes for FY2013E, FY2014E and FY2015E at 28.5 mcm/d, 27.5 mcm/d and 30 mcm/d versus 29 mcm/d in 9MFY13 and 34 mcm/d in FY2012.
GSPL (GUJS)
Energy
In-line results. GSPL reported net income at `1.19 bn (-10.4% qoq and -5.7% yoy) in 3QFY13, modestly higher than our estimate of `1.16 bn led by higher implied transmission tariff at `1.04/cu m. Gas transmission volumes declined further to 27.3 mcm/d. We retain our ADD rating on the GSPL stock given inexpensive valuations at 8.4X FY2014E EPS. Our revised DCF-based TP of `83 (`85 previously) factors in low transmission tariffs and moderate improvement in gas volumes in the long term.
GSPLStock data Forecasts/Valuations 2012 2013E 2014E
Financial highlights. GSPL reported 3QFY13 EBITDA at `2.39 bn versus `2.56 bn in 2QFY13 and `2.54 bn in 3QFY12. The decline in EBITDA reflects lower transmission volumes at 27.3 mcm/d (-4.7% qoq and -16.8% yoy) which were partially offset by higher implied transmission tariffs at `1.04/cu m (+5% qoq and +16% yoy). The company reported operating loss of `48 mn from sale of electricity versus operating profit of `62 mn in 2QFY13 and operating loss of `68 mn in 3QFY12.
Lower transmission volumes. GSPL reported lower gas transmission volumes at 27.3 mcm/d in 3QFY13 versus 28.6 mcm/d in 2QFY13 and 32.8 mcm/d in 3QFY12; our estimate was 27.5 mcm/d. Exhibit 2 shows that transmission volumes of GSPL and GAIL have declined over the past few quarters reflecting decline in KG D-6 gas production.
Exhibit 2: GSPL’s transmission volumes continue to decline Gas volumes for GSPL, RIL and PLNG, March fiscal year-ends, 2012-13YTD (mcm/d)
1QFY12 2QFY12 3QFY12 4QFY12 1QFY13 2QFY13 3QFY13Transmission volumes of GSPL 36.8 35.2 32.8 31.1 31.1 28.6 27.3 Transmission volumes of GAIL 117.2 118.6 119.0 115.6 109.8 105.6 NALNG imports from PLNG's Dahej terminal 39.7 39.8 42.7 40.2 37.8 40.2 41.9 Gas supply from RIL's KG D-6 block 48.6 45.3 40.9 35.8 32.2 28.5 24.0
Higher implied transmission tariffs. GSPL’s 3QFY13 implied gas transmission tariff increased to `1.04/cu m versus `0.99/cu m in 2QFY13 and `0.9/cu m in 3QFY12. The company has presumably benefited from use-or-pay contracts.
Key assumptions behind earnings model of GSPL
Gas transmission volumes. We have reduced our FY2013E, FY2014E and FY2015E gas transmission volumes to 28.5 mcm/d, 27.5 mcm/d and 30 mcm/d versus 29.5 mcm/d, 29 mcm/d and 31.5 mcm/d previously. We model a gradual increase in GSPL’s transmission volumes to 40 mcm/d by FY2018E reflecting moderate improvement in gas supply led by (1) proposed expansion of Hazira terminal by 1.4 mtpa in CY2013 and Dahej terminal by 5 mtpa in 4QCY15 and (2) incremental gas production from ONGC’s marginal fields by FY2014-15 and RIL’s KG D-6 satellite fields by FY2016-17 (see Exhibit 3).
Exhibit 3: We expect moderate increase in gas supply led by higher LNG imports Supply of natural gas in India, March fiscal year-ends, 2010-18E (mcm/d)
Gas transportation tariffs. We model gas transportation tariffs at `0.99/cu m for FY2013E and `0.97/cu m for FY2014E. We have assumed lower tariffs of `0.85/cu m in FY2015E and `0.8/cu m from FY2016E onwards assuming finalization of regulated tariffs by PNGRB; we highlight that the regulator has fixed ‘provisional’ tariffs in September 2012. Our assumptions result in reasonable CROCI of 12% in FY2015-22E in line with regulated returns of 12%.
Now + 1-year + 2-yearsDiscount rate (%) 12.0 12.0 12.0 Total PV of free cash flow 34,348 35,338 36,018Terminal value assumptionGrowth to perpetuity (%) — — —FCF in 2022E 4,697 4,697 4,697Exit FCF multiple (X) 8.3 8.3 8.3 Exit EV/EBITDA multiple (X) 3.8 3.8 3.8 Terminal value 39,141 39,141 39,141 PV of terminal value 13,884 13,884 13,884 Total value of operating business 48,232 49,222 49,902
Net debt 8,882 5,743 1,949Equity value 39,350 43,479 47,953 Shares outstanding (mn) 563 563 563 Value of Gujarat pipeline network (Rs) 70 77 85 Value of investments (Rs) 6 6 6 Fair value of GSPL (Rs) 76 83 91
For private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES’ RATING SYSTEM AND OTHER DISCLOSURES, REFER TO THE END OF THIS MATERIAL.
Execution improves although margin miss and high interest cost nullify gain; PAT down 24% yoy
BGR reported better-than-expected execution of Rs8 bn in 3Q (flat yoy, 15% ahead of Rs7 bn estimate) after a dismal 1H (18% yoy decline). Sharp decline in EBITDA margin (13.7%; down 140 bps yoy) and substantial increase in interest cost (Rs503 mn; up 26% qoq and 38% yoy) led to a 24% yoy decline in PAT to Rs414 mn (in line with estimates). For the nine months ending Dec 2012, the company’s sales have declined 11% (Rs20 bn) with broadly flat margin (14.3%). High interest cost (up 32% yoy) has further marred PAT (down 30% yoy to Rs1.1 bn).
Slow progress on bulk tender capacities and less bidding interest in incremental orders worry
Our recent interaction with BGR suggests limited progress made by the JV towards setting up manufacturing facilities for its bulk-tender order wins (LoA given a year ago). The company did not put price bids for OPGCL and Tanda, potentially on contract-specific issues. We also highlight recent agreement between Hitachi (BGR’s JV partner) and Mitsubishi to pool and merge their thermal power businesses, which further puts the technology agreement with BGR for super-critical equipment at risk.
BGR reported a sequential decline in backlog to Rs136 bn versus Rs140 bn as of end-Sep 2012, implying lack of any major order win in 3Q (~Rs4 bn of inflows). Note that backlog remains shallow after excluding the bulk tender order wins (~Rs70 bn contribution). BGR has completed its Mettur project (commissioned in Aug 2012) and is close to completing the 2X 600 MW Kalisindh project (Rs51 bn capex or about 85% of work completed by Jun 2012 as per CEA reporting).
Reiterate REDUCE with a TP of Rs260/share on weak business prospects (execution, orders)
We cut our estimates to Rs25 and Rs28 for FY2013E and FY2014E from Rs28/Rs34. Reiterate REDUCE rating with a TP of Rs260 on (1) potentially sedate FY2014E execution (delaying execution of bulk tender which forms majority of backlog), (2) lack of pipeline/bidding for incremental orders and (3) macro issues plaguing the sector, which may continue to delay inflows.
BGR Energy Systems (BGRL)
Industrials
Execution improves although margin miss and high interest cost nullify gain. Sharp margin miss and very high interest cost nullified gain of better execution in 3Q (flat yoy versus 15% decline expected), leading to an in-line PAT (Rs414 mn, down 24% yoy). We remain cautious on risk to (1) execution (going slow on bulk tender capacities despite getting LoA a year back) and (2) ordering prospects (not putting price bids for limited available opportunities, Hitachi-Mitsuibishi global tie-up). Backlog has declined qoq (Rs136 bn) and remains shallow excluding bulk tender contribution. Retain REDUCE.
BGR Energy SystemsStock data Forecasts/Valuations 2013 2014E 2015E
Improves on execution although margin miss & high interest cost nullify gain
Sharp sequential improvement in execution. BGR reported stronger-than-expected execution of Rs8 bn in 3Q (flat yoy), 15% ahead of our estimate of Rs7 bn. Sales grew 29% on a sequential basis.
Sharp margin decline on higher raw material cost. EBITDA margin at 13.7% declined sharply on a yoy (down 260 bps) and qoq basis (140 bps decline) and was lower than our expectation of14.5%. The margin decline was primarily led by higher material cost (at 75.5% of sales in 3Q). This led to an in-line EBITDA of Rs1.1 bn (down 16% yoy).
High interest cost further mars results. The company’s interest cost increased further in 3Q to Rs503 mn (increasing 26% qoq and 38% yoy) leading to a sharp 24% yoy decline in PAT to Rs414 mn.
9M results. 9M sales at Rs20 bn have contracted by 11% with small decline in EBITDA margin (14.3% versus 14.6% in 9MFY12). High interest cost, up 32% yoy, has resulted in a sharp 30% decline at PAT level (Rs1.1 bn versus Rs1.6 bn in 9MFY12).
Exhibit 1: BGR Energy Systems - 3QFY13 results - Key numbers (Rs mn)
% change3QFY13 3QFY13E 3QFY12 2QFY13 vs est. yoy qoq 9MFY13 9MFY12 % change
Slow progress on bulk tender capacities, less bidding interest in new orders worry
Our recent interaction with BGR suggests limited progress made by the JV towards setting up manufacturing facilities for its bulk-tender order wins (LoA given a year ago). The company has shown less interest in bidding for incremental orders (did not put price bids for OPGCL and Tanda despite being technically qualified) in current scenario of limited opportunities (see exhibit below. We also highlight recent agreement between Hitachi (BGR’s JV partner) and Mitsubishi to pool and merge their thermal power businesses, which further puts the technology agreement with BGR for super-critical equipment at risk.
BGR Energy Systems Industrials
KOTAK INSTITUTIONAL EQUITIES RESEARCH 65
Exhibit 3: 8 GW of near-term opportunity Details of key EPC/BTG thermal projects in advanced stages
CapacityProject Status Agency (MW) Nature Clearances Remarks/constraintsProjects with environemtal clearance
Banaharpalli U3,4 BHEL awarded L1 OPGCL 1,320 BTG
Coal: Manoharpur/Dipside Manoharpur (in No Go zoneEC: Received in Feb 2010Land required only for ash pond (expansion project), no diversion of forest land is required
Submitted request for tapering linkage
Suratgarh U7,8 BHEL declared L1 RRUVNL 1,320 EPC
Coal: Parsa Kente mines/imported (70:30)Land: has been acquiredEC: Received in May-12FC: Stage I approved None
Chhabra U5,6 BHEL declared L1 RRUVNL 1,320 EPC
Coal: Parsa Kente mines/imported (70:30)Land: has been acquiredEC: Received in May-12 (only for one unit as second unit lacks coal supply
EC received for only 1 unit
Neyvelli Tendered NLC 1,000 TG
Lignite: Take supply from resturcturing of existing NLC minesEC:Issued in Oct-10 None
Tanda L&T likely L1 (boiler) NTPC 1,320 NA Coal: North Kapampura minesEC: Issed in Apr 11
Close to being tendered
Bhusawal U-6 Tendered MAHAGENCO 660 EPC
Coal: WCL LoA (1 mtpa)/Machakata mines (rapering linkage)Land: has been acquiredEC: Achieved in Nov-12
Machakata to make minimum 2 years
Total 6,940 Projects with ToRs issued
Khargone Tendered NTPC 1,320 EPC
Coal: SECL EC: TOR achieved in Dec-10, EIA prepared, public hearing completed in Jan-12Land: In-principle commitment
EC likely to be awarded with PH has happened with certain pre-conditions decided for granting clearance
Total 1,320 Total near-term opprtunity 8,260
Source: Industry sources, Kotak Institutional Equities
BGR reported a sequential decline in backlog to Rs136 bn versus Rs140 bn as of end-Sep 2012, implying lack of any major order win in 3Q (~Rs4 bn of inflows). Note that backlog remains to be shallow after excluding the bulk tender order wins (~Rs70 bn contribution). BGR has completed its Mettur project (commissioned on Aug 2012) and is close to completing the 2X 600MW Kalisindh project (Rs51 bn capex or about 85% of work completed by Jun 2012 as per CEA reporting).
Reiterate REDUCE on weak business prospects (execution, orders)
We retain our estimates to Rs28 and Rs34 for FY2013E and FY2014E. Reiterate REDUCE rating with a TP of Rs260 on (1) potentially sedate FY2014E execution (delaying execution of bulk tender which forms majority of backlog), (2) lack of bidding interest for incremental orders and (3) macro issues plaguing the sector, which may delay inflows.
Industrials BGR Energy Systems
66 KOTAK INSTITUTIONAL EQUITIES RESEARCH
Exhibit 4: Financials of BGR Energy, March fiscal year-ends, 2009-14E (Rs mn)
For private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES’ RATING SYSTEM AND OTHER DISCLOSURES, REFER TO THE END OF THIS MATERIAL.
Sales miss and higher-than-expected interest costs lead to disappointing PAT
NCC reported disappointing 3QFY13 revenues of Rs11.8 bn, down 6.4% yoy on client-side delays which impacted revenues by Rs2 bn. The management cited some pick-up in execution in these projects and guided for a full-year revenue growth of 15% in FY2013E (14% registered in 9M). EBITDA margin (7.2%) declined by 110 bps qoq on negative operating leverage. Disappointing revenues and EBITDA margin led to a low net PAT of Rs108 mn. The company reported high other income of Rs494 mn for the quarter on Rs120 mn from profit on sale of some real estate assets.
Balance sheet improves on asset sales; unlikely to meet PPAs for 75% of power by end-FY2013E
NCC reported Rs1 bn reduction in debt levels to Rs25.2 bn at end-3QFY13, attributed to real estate asset monetization (Rs550 mn in 3QFY13; another Rs450 mn expected in 4QFY13) and better debtor collection period. The management is also in the process of selling some of its road BOT assets as well though cited no significant progress so far (expects to sell at least one road BOT project by the end of the fiscal) – it expects to reduce the standalone debt further by about Rs2 bn.
The company has not achieved any significant progress on signing PPAs so far; it has currently been shortlisted for 700 MW in Andhra Pradesh. The company has to achieve PPAs for 75% of the power (990 MW) by end-FY2013E as per the lender’s condition.
Inflows remain weak in 3Q leading to backlog decline; though expects Rs23-25 bn inflows in 4Q
NCC reported weak inflows of Rs9.6 bn in 3QFY13 which led to a sequential decline in order backlog to Rs188 bn (versus Rs196 bn at end-2QFY13). The management expects inflows to pick up in 4QFY13 citing opportunities in buildings, electrical, international and water & environment segments. The management cited visibility of orders of Rs18 bn (based on L1 status) and expects to win a further Rs6-7 bn orders, thereby expects a total of Rs23-25 bn of inflows in 4QFY13E.
Retain ADD with an unchanged target price of Rs55/share
We revise our estimates to Rs2.4 and Rs2.4 (from Rs2.4 and Rs3) for FY2013E and FY2014E respectively. Retain ADD (unchanged TP of Rs55) on attractive valuations for construction business (adjusted for investment in subsidiaries) with a strong and well-diversified backlog.
NCC (NJCC)
Construction
Weak operations belie improving trajectory of 1H; looking out for asset sales. NCC reported disappointing sales (down 6% yoy) and EBITDA margin (negative operating leverage), leading to a low net PAT (Rs108 mn) and weak inflows at Rs9 bn. Management guidance of 15% full-year revenue growth and Rs20 bn+ inflow in 4Q may be missed. Most of EBITDA is consumed by interest at current interest cost and thus reducing balance sheet size (assets sales and Wcap reduction) remains key. Debt reduced by Rs1 bn on real estate asset sales; it expects another Rs2 bn reduction by end-FY. Retain ADD.
NCCStock data Forecasts/Valuations 2013 2014E 2015E
Lower-than-expected revenues and margins lead to disappointing net PAT
Revenue decline (6%) attributed to client-side project delays
NCC reported disappointing 3QFY13 revenues of Rs11.8 bn, declining by about 6.4% on a yoy basis (against our estimate of a 15% growth). The sedate revenues were attributed to client-side delay in certain projects (2-3 projects) as they got held up on delay in disbursements by the lenders which led to lower 3QFY13 revenues to the tune of about Rs2 bn. The management cited some pick-up in execution in these projects and guided for a full-year revenue growth of about 15% in FY2013E (about 14% registered in 9MFY13). We build full-year standalone revenues of Rs60 bn in FY2013E which implies a yoy growth of about 14%.
Margins also disappoint on negative operating leverage
NCC also reported lower-than-expected EBITDA margin of 7.2% (against our estimate of 8.5%). EBITDA margin declined by about 110 bps sequentially primarily on negative operating leverage – higher employee and other expenses as a percentage of sales (though has remained relative flat qoq on an absolute basis).
Sharp PAT miss despite higher-than-expected other income (on real estate asset sales)
The disappointing revenues and EBITDA margin led to a sharp miss at the net PAT level – reported 3QFY13 net PAT of Rs108 mn (versus our estimate of Rs237 mn). The company reported high other income of Rs494 mn for the quarter versus our estimate of about Rs250 mn on the back of Rs120 mn from profit on sale of some real estate assets. The company has finalized sales of real estate assets to the tune of about Rs1 bn of which about Rs550 mn was recognized in 3QFY13 and another Rs450 mn would be recognized in 4QFY13E.
NCC reported consolidated revenues of Rs15.2 bn in 3QFY13, relatively flat on a yoy basis. EBITDA margin expanded by about 60 bps yoy (to 11.5% in 3QFY13 from 10.9% last year), leading to a 5% yoy growth in EBITDA. NCC reported a 3QFY13 consolidated net PAT of Rs83 mn against a loss of Rs130 mn in 3QFY12.
NCC’s subsidiaries cumulatively recorded revenues of about Rs3.3 bn and a net profit of Rs16 mn in 3QFY13.
Exhibit 3: Revenues and net PAT of key subsidiaries in 3QFY13 (Rs mn)
Revenues PATNCC International, Muscat 2,138 69 Nagarjuna Contracting LLC. Dubai 240 6 NCC Urban Infra 515 10 OB Infra 221 (14) Western UP Tollways 143 (108) NCC Infra Mauritius 49 16 Brindavan Infra 50 15 Bangalore Elevated Tollway 85 (35) Pondichery-Tindivanam 15 (36) Total subsidiaries 3,260 16
3QFY13
Source: Company
Construction NCC
70 KOTAK INSTITUTIONAL EQUITIES RESEARCH
Debt reduction of Rs1 bn in 3Q on asset sales and better debtor collections
NCC reported some sequential improvement in the balance sheet with about Rs1 bn reduction in debt levels to Rs25.2 bn at end-3QFY13 (from about Rs26.2 bn from end-2QFY13). The reduction in debt levels was attributed to real estate asset monetization (Rs550 mn in 3QFY13; another Rs450 mn expected in 4QFY13) and better debtor collection period.
The management is also in the process of selling some of its road BOT assets as well though cited no significant progress so far. They expect to sell at least one road BOT project by the end of the fiscal. The company also cited intent to sell stake in the Himachal Sorang project (close to declaring CoD). All put together, the management expects to reduce the standalone debt further by about Rs2 bn by end-FY2013E on the back of these stake sales.
Power: May not achieve pre-condition of 75% PPAs by end-FY2013
NCC is developing a 2X660 MW thermal power project in Krishnapatnam and has already invested about Rs4 bn of equity in the project (about similar contribution from its partner as well). The company has tied up debt funds to the tune of Rs53 bn for the project of which about Rs12 bn of debt has already been released. As a part of the debt agreement, the lender had put a condition to achieve PPA for 75% of the power (990 MW) within 12 months from the first date of debt disbursement, i.e. by end-FY2013E.
However, the company has not achieved any significant progress on signing PPAs so far (had been shortlisted for 400 MW in Karnataka but the bids were cancelled). The company has currently been shortlisted for 700 MW in Andhra Pradesh and is also in talks with the Uttar Pradesh Government to sign PPAs.
Toll collections across road projects remain sub-par
The company indicated weak tolling revenues from its three operational projects including (1) Western UP tollway (remains lower at to Rs1.8-2 mn per day versus Rs2.4 mn per day earlier on recent ban on mining by Supreme Court), (2) Pondicherry project (Rs0.4 mn per day versus initial expectation of Rs0.8 mn per day) and (3) Bangalore project (Rs2-2.2 mn per day versus breakeven cost of Rs2.5 mn per day; though this is a substantial improvement versus initial toll collection levels of about Rs1.4 mn per day.
Exhibit 4: NCC - status of BOT projects as of September 30, 2012
Cost NCC Equity Equity investedProject Partners (Rs mn) (Rs mn) (Rs mn) COD StatusRoadsBrindavan Infrastructure Annuity Maytas, KMC 2,475 150 150 Jun-06 Operational, revenue generation for last 4 yearsBangalore Elevated Toll Maytas, Soma 9,903 1,597 1,597 Apr-10 Toll collection improved to about Rs2-2.2 mn/dayOB Infra Annuity KMC 6,000 940 940 Jun-09 Operational; annuities being received regularlyWestern UP Tollway Toll Maytas, Gayatri 7,566 796 875 Apr-11 Toll rev. of Rs1.8-2 mn/day; impacted by mining banPondicherry-Tindivanam Toll Maytas 3,646 322 510 Dec-11 Collection of Rs0.3 mn/day vs initial est. of Rs0.8 mnTotal roads 29,590 3,805 4,072 PowerHimachal Sorang Merchant Maytas 8,900 1,470 1,277 Mar-13 85% completeNCC Power PPA/ Merchant Gayatri 70,470 9,690 3,635 Mar-15 Financially closed; notice to proceed to EPC contractorHimalayan Green PPA/ Merchant SMEC Intl 19,600 3,626 91 Project cancelled by Sikkim govtTotal power 98,970 14,786 5,003 Total 128,560 18,591 9,075
Revenue model
Source: Company
Sedate inflows in 3QFY13 lead to decline in backlog
NCC reported weak order inflows of Rs9.6 bn in 3QFY13 against average quarterly inflows of Rs12-13 bn in FY2012 (adjusted for the large in-house power project order worth Rs52 bn). The weak inflows led to a sequential decline in order backlog to Rs188 bn (versus Rs196 bn at end-2QFY13).
NCC Construction
KOTAK INSTITUTIONAL EQUITIES RESEARCH 71
However, the management expects order inflows to pick up in the next few quarters citing opportunities in buildings, electrical, international and water & environment segments. The management cited strong visibility of orders to the tune of Rs18 bn (based on L1 status) and it expects to win a further Rs6-7 bn orders, thereby it expects a total of about Rs23-25 bn of inflows in 4QFY13E.
The order backlog remains well-diversified across various segments including buildings + roads + oil & gas (29% of backlog), power (32%), water & environment (16%), irrigation (10%) and international (8%). We expect power segment to incrementally increase its share in total revenues for the company on execution of the in-house power project (Rs5 bn of sales in 9M).
Exhibit 5: Segmental break-up of NCC's revenues and order backlog for 9MFY13
3QFY13-end order backlog (Rs188 bn)
Mining2%
International8%
Power32%
Irrigation10%
Metals1% Electrical
2%
Water & environment, railways
16%
Buildings, roads, O&G29%
3QFY13 revenues incl. international (Rs14.4 bn)
Buildings, roads, O&G42%
Water & environment, railways
20%
Electrical6%
Metals2%
Irrigation4%
Power7%
International17%
Mining2%
Source: Company, Kotak Institutional Equities
Order backlog visibility dips to below 2.5 years
The reported order backlog of Rs188 bn provides a revenue visibility of about 2.4 years based on forward four-quarter revenues.
Exhibit 6: NCC backlog has visibility of 2.4 years based on forward four-quarter revenues Order backlog, order booking and visibility (X) of NCC, 2QFY04-3QFY13
We revise our earnings estimates to Rs2.4 and Rs2.4 from Rs2.4 and Rs3 for FY2013E and FY2014E respectively.
We retain our SOTP-based target price of Rs55/share comprised of (1) standalone construction business valuation of Rs19/share based on target P/E multiple of 8X 12-month forward earnings, (2) Rs4/share from the international construction subsidiaries based on 3X 12-month forward earnings, (3) Rs23/share contribution from book value of BOT projects (0.75X FY2012-end book value), and (4) Rs9/share from book value of real estate investments (0.5X FY2012-end book value).
Exhibit 7: Derivation of SOTP-based target price for NCC
Equity inv. ValuationProject/Business (Rs mn) (Rs mn) Rs/share Valuation methodologyStandalone construction business 4,923 19 8X 1-yr forward earningsInternational subsidiary 959 4 3X 1-yr forward earningsInvestments in real estate 4,600 2,300 9 0.5X FY2012-end bookInvestments in BOT assets 7,802 5,852 23 0.75X FY2012-end bookTotal 54.7
We retain ADD rating based on (1) relatively attractive valuations, (2) market capitalization lower than equity committed in BOT projects (about Rs12.5 bn), (3) market price implies almost nil value for standalone construction business (adjusted for value from BOT and other subsidiaries; has invested about Rs19 bn in equity investments and loans & advances to subsidiaries), (4) reasonably well-diversified order backlog and visibility.
NCC Construction
KOTAK INSTITUTIONAL EQUITIES RESEARCH 73
Exhibit 8: Profit model and balance sheet of NCC, March fiscal year-ends, 2007-15E (Rs mn)
For private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES’ RATING SYSTEM AND OTHER DISCLOSURES, REFER TO THE END OF THIS MATERIAL.
Domestic soda ash operations deliver; Europe and Africa disappoint
TTCH reported 3QFY13 consol revenue at Rs42 bn (+11% yoy; flat qoq). Reported 3QFY13 consol EBITDA at Rs5.4 bn (-4% yoy;-19% qoq) was lower than our estimates led by disappointment in European and African operations. The company reported 3QFY13 PAT at Rs2.24 bn which was boosted by Rs654 mn of other income (including exchange loss of Rs501 mn and restructuring expense of Rs310 mn for European operations). Highlights of various business segments:
Domestic soda ash business continues to benefit from a weak Rupee which has enhanced competitiveness versus Chinese imports. 3QFY13 PBIT in the standalone inorganic chemicals segment improved to Rs1.8 bn from Rs1.64 bn in 2QFY13. 3QFY13 PBIT margins (inorganic chemicals) at 23.9% are highest in the past two years. As per the company, Chinese companies are selling soda ash at cash cost of production in export markets which means that prices could increase from current levels, benefitting the company.
Consolidated operations disappointed led by European and African operations. Europe soda ash operations continue to experience production issues (equipment related) and Magadi operations were impacted by heavy rains. 3QFY13 EBITDA in Europe at Rs330 mn was down 56% qoq. 3QFY13 EBITDA margin in GCIP at US$ 48 per ton was flat qoq and was lower than our expectations. As per the management, even as volumes are 100% sold for next year (GCIP) pricing is down 1-2% (yoy) due to lower prices in South-East Asian markets.
As per the management, IMACID would continue to work at low levels of profitability. Conversion margins have shrunk as prices of Rock Phosphate have fallen to a lesser extent versus Phos. acid (finished product). Pricing power is shifting to producers of Rock Phosphate.
Reduce estimates; downgrade to ADD with a revised target price of Rs370
We have reduced our estimates for FY2013E and FY2014E led by lower profitability assumptions in the overseas operations, primarily Europe and US. We have downgraded the stock to ADD (BUY earlier) in view of the low upside potential at the current levels with a revised price target of Rs370 (Rs360 previously).
Tata Chemicals (TTCH)
Others
European and African operations disappoint. TTCH’s 3QFY13 results were below estimates. Even as standalone operations continue to deliver as a depreciated Rupee keeps enhancing competitiveness of domestic soda ash operations, European and African operations continue to disappoint. GCIP margins were below estimates but higher volumes more than made up for it. We have cut our estimates; downgrading to ADD (BUY previously) with a revised target price of Rs370 (Rs360 previously).
Tata ChemicalsStock data Forecasts/Valuations 2013 2014E 2015E
India soda ash operations continue to deliver; outstanding subsidies in the fertilizer segment increase to Rs15 bn
India soda ash business continues to deliver, buoyed by a depreciated Rupee. Segment margins in the inorganic chemicals (soda ash + salt) business segment at 23.9% were the highest in the past two years. Domestic soda ash business is doing well on improved competitive positioning versus Chinese imports led by a depreciated Rupee. As per the management, as long as Rupee remains upwards of Rs50 (per US$), profitability should remain at attractive levels. Also, as per the management, Chinese soda ash players are selling at their cash cost of production in the export market which seems to suggest that soda ash prices could increase from the current levels.
Fertilizer business segment profits at Rs1.05 bn were down from Rs1.66 bn in 2QFY13 despite similar volumes. 2QFY13 segment profits were boosted by Rs450 mn of prior-period subsidy. The business continues to be bogged down due to delay in subsidy payments by the Government. Outstanding subsidy has increased to Rs15 bn which means higher working capital requirements. As per the management, subsidy dues could be cleared by the Government with fresh subsidy allocations in the coming budget.
With the Government announcing the new urea investment policy, the company is investing into brownfield capacity expansion of 1.2 mn tons at Babrala (site of existing urea plant). The company has all the approvals in place.
Exhibit 3: India operations continue to deliver Operating parameters for the India business, Tata Chemicals, March fiscal year-ends
European and African operations continue to disappoint
Soda ash operations in Europe and Magadi (Africa) continue to disappoint with very low levels of profitability. 3QFY13 EBITDA in Europe (soda ash) fell to Rs370 mn from Rs750 mn in 2QFY13 on account of equipment-related production problems. In Magadi, the company has not been able to scale up production, partially due to the impact of heavy rains. As per the management, it is in the last stages of executing the business plan in Magadi (change in fuel source from oil to coal) which should see the plant switching to a cheaper fuel and ramping up production and hence, profitability.
Tata Chemicals Others
KOTAK INSTITUTIONAL EQUITIES RESEARCH 77
Exhibit 4: European and African operations continue to disappoint Operating parameters for European and African operations, Tata Chemicals, March fiscal year-ends
IMACID: Continues to operate at very low levels of profitability
IMACID continues to operate at very low levels of profitability. As per the management, the situation would continue as conversion spreads between Rock Phosphate and Phos. acid have declined as prices of Rock Phosphate have fallen to a lesser extent versus prices of Phos. acid (finished product).
Exhibit 5: IMACID will continue operating at marginal levels of profitability Operating parameters for IMACID, Tata Chemicals, March fiscal year-ends
GCIP’s 3QFY13 EBITDA margin at US$48 per ton was flat qoq even as volumes surprised positively (+15% yoy; +11% qoq). We were expecting higher margins sequentially as the company had opened a new mine face in 2QFY13 which had increased expenses even as production could not be increased in the same quarter, thereby impacting margins. GCIP’s volumes remain sold out for the current calendar year even as pricing is down ~2% on a blended basis, essentially due to lower prices in South-East Asia.
Others Tata Chemicals
78 KOTAK INSTITUTIONAL EQUITIES RESEARCH
Exhibit 6: EBITDA margins were lower than expectations – impact of lower realizations Operating parameters for GCIP, Tata Chemicals, March fiscal year-ends
Consolidated debt and cash are at Rs67 bn and Rs16 bn levels as of 3QFY13.
The company has fairly low inventory of MOP (500 tons) and complex (NPK) fertilizers (30,000 tons).
Urea project in Gabon is awaiting financial closure for which Olam (majority shareholder) is responsible. As per the company, financial closure could happen by March 2013.
Sales of pulses under the I-Shakti brand would increase at 80-100% (volumes) for the next two years from a very low base. The company is not comfortable with growth levels higher than this.
The company’s pension liabilities have increased by Rs1.25 bn in FY2013 which have not been accounted for in the P&L and have been passed through the balance sheet instead (deducted from reserves and surplus). 3QFY13 PAT is higher by Rs854 mn as a result.
Change in estimates
We have reduced our earning estimates for FY2013E and FY2014E led by lower margin assumptions in Europe, Africa and GCIP. We have downgraded the stock to ADD from BUY in view of low upside with regard to our target price at Rs370 (Rs360 previously).
Exhibit 7: Change in estimates for Tata Chemicals, consolidated, March fiscal year-ends (Rs mn)
New Old Change (%) New Old Change (%) New Old Change (%)
For private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES’ RATING SYSTEM AND OTHER DISCLOSURES, REFER TO THE END OF THIS MATERIAL.
Strong e-auction volumes from Karnataka to act as a hedge to Chhattisgarh performance
Analysis of Karnataka e-auction data for NMDC throws up auctioned volumes of 6.6 mn tons (+53% yoy) over April 2012-January 2013. At the current run rate of ~650kt/month, NMDC may clock ~8 mn tons of sales from Karnataka in FY2013E, higher than our earlier estimate of ~6 mn tons. The higher volumes can be attributed to faster (though partial) ramp-up of the Kumarswamy mines. On the other hand, performance in the Chhattisgarh mines was weak; NMDC’s total sales in 9MFY13 declined 13% yoy to 18 mn tons. We believe Chhattisgarh volumes declined due to (1) evacuation bottlenecks, (2) lower sales to long-term customers due to inflexible erstwhile quarterly pricing and (3) heavy rains in 2QFY13.
Karnataka grades are lower than mine grades; some impact (negative) on realizations
Iron ore grades (Fe content) for Karnataka e-auction sales have been lower than mine-reserve grades and impacted NMDC’s realizations. According to e-auction data, the average grade for iron ore fines and lumps was 61% and 63%, lower than Karnataka mine grade of 64%. Dilution in grade could be due to faster ramp-up in production. Lower grades also had a bearing on realizations with average realization for fines and lumps at Rs2,476/ton and Rs4,854/ton over April 2012-January 2013. This is lower than current Chhattisgarh prices of Rs2,600/ton and Rs5,080/ton. However, at an auction in February 2013, average fines sales price increased to Rs3,000/ton. We note that 12% Forest Development Tax levied in Karnataka could have affected prices by increasing the total procurement cost for steel mills.
Higher volumes, improved Karnataka e-auction realizations can drive strong 4QFY13
We expect strong 4QFY13 performance, aided by (1) higher volumes and (2) improvement in Karnataka e-auction prices. A meltdown in global prices in September and October 2012 and NMDC’s erstwhile inflexible quarterly pricing led to imports replacing part of NMDC’s sales. A rebound in global prices and monthly price adjustments will ensure competitiveness against imports. We make marginal adjustments to our estimates. We revise target price to Rs185 from Rs190 earlier and retain BUY rating. Key risk to our call: participation in Government divestment program. We understand that NMDC has set aside Rs40 bn, as per media reports, or Rs10/share (5% of our fair value) for such purpose.
NMDC (NMDC)
Metals & Mining
Analyzing Karnataka e-auctions. Our analysis of NMDC’s Karnataka e-auction data reveals (1) a visible and higher-than-expected increase in volumes, (2) grade dilution compared to mine reserve grade (which could be due to faster volume ramp-up) with some impact on realizations and (3) preference for fines. A faster ramp-up in Karnataka (monthly e-auction rate of ~650kt, + 42% from FY2012) reduces evacuation concerns from Chhattisgarh. After lackluster volumes in 3QFY13, we expect strong performance in 4QFY13. Valuations at 3.9X FY2014E EBITDA are attractive. Retain BUY.
NMDCStock data Forecasts/Valuations 2013 2014E 2015E
Out of total YTD e-auction quantity of 6.8 mn tons (including February 2013 auctions), ~26% have been lump sales – lower than NMDC’s average of 37% in FY2012. We believe the availability of higher pelletization capacity in Karnataka (with JSW Steel) could be the main reason. The low preference for lumps is also evident in the premium that the booking price fetched over the floor price. While the auction premiums for fines were ~18% over the floor prices (Rs2,480/ton versus Rs2,090/ton), the premiums for lumps were lower at 5% over the floor price (Rs4,850/ton versus Rs4,620/ton) (see Exhibits 1 and 3).
JSW Steel accounts for 70% of e-auctioned volumes
JSW Steel brought 4.7 mn tons (70%) of the total e-auctioned quantity 6.8 mn tons (from NMDC) in YTD auctions. The company made 84% (3.9 mn tons) of its purchases in iron ore fines and 0.8 mn tons in lumps (see Exhibits 8 and 9). The average ex-mine price paid by JSW for iron ore fines was Rs2,560/ton and for iron ore lumps was Rs4,860/ton, which were comparable to other steel mills in the State. Note that the ex-mine price does not include royalty (10%), VAT (5%) and Forest Development Tax (12%).
February auction prices encouraging for NMDC
NMDC realized Rs3,000/ton for 128kt of iron ore fines auctioned in February 2013 with Fe content of ~61% (see Exhibit 1). The e-auction price was higher than prices in Chhattisgarh (~Rs2,600/ton, ex-mine). The higher realization could be reflective of shrinking stockpiles and delay in restart of mines in Karnataka. E-auction prices for lumps were at Rs4,361/ton for Fe content of 63%.
Rebound in global prices and monthly price adjustment to aid sales
A rebound in global prices after a slump in September-October 2012 and NMDC’s shift to more responsive monthly price-setting and combination of import-parity prices for lumps and domestic market-linked fines will aid Chhattisgarh’s sales performance. Currently lumps are priced at import-parity prices, which are at netback from imported cost to long-term customers such as Essar Steel. We note that the company lost some sales due to lower global lump iron-ore prices between September and November 2012 (see Exhibit 10), as the total delivered cost of its lumps worked out to US$150-160/ton, higher than imported prices of US$125-140/ton during the period.
NMDC Metals & Mining
KOTAK INSTITUTIONAL EQUITIES RESEARCH 83
Exhibit 1: NMDC's iron ore fines prices have seen an uptick in the February 2013 auction Karnataka e-auction prices for NMDC's iron fines (Rs/ton)
500
1,000
1,500
2,000
2,500
3,000
3,500
Apr
-12
May
-12
Jun-
12
Jul-1
2
Aug
-12
Sep-
12
Oct
-12
Nov
-12
Dec
-12
Jan-
13
Feb-
13
50
55
60
65
70
75
80
Floor Price -fines (Rs/ton) Booking price - fines (Rs/ton) Fe Content (%) - (RHS)
Source: Department of Mines and Geology- Karnataka, Kotak Institutional Equities
Exhibit 2: Karnataka e-auction realizations have been lower than declared Chhattisgarh prices Chhattisgarh fines prices compared with Karnataka e-auction fines prices (Rs/ton)
500
1,000
1,500
2,000
2,500
3,000
3,500
Apr
-12
May
-12
Jun-
12
Jul-1
2
Aug
-12
Sep-
12
Oct
-12
Nov
-12
Dec
-12
Jan-
13
Feb-
13
(800)
(600)
(400)
(200)
-
200
400
600Chhattisgarh prices - fines (Rs/ton) Karnataka prices - lumps (Rs/ton)
Premium/(Discount) (%) (RHS)
Source: Company, Department of Mines and Geology- Karnataka, Kotak Institutional Equities
Metals & Mining NMDC
84 KOTAK INSTITUTIONAL EQUITIES RESEARCH
Exhibit 3: NMDC lumps were generally sold at floor prices at the Karnataka e-auction Karnataka e-auction prices for NMDC's iron ore lumps (Rs/ton)
Source: Department of Mines and Geology- Karnataka, Kotak Institutional Equities
Exhibit 6: Karnataka e-auction sales indicate a quarterly run-rate of ~2 mn tons in FY2013 against 1.3 mn tons in FY2012 Karnataka iron ore sales (mn tons), March fiscal year-ends
Source: Company, Department of Mines and Geology, Karnataka, Kotak Institutional Equities
Exhibit 7: Chhattisgarh iron ore sales declined in 9MFY13 Chhattisgarh iron ore sales (mn tons), March fiscal year-ends
0.0
2.0
4.0
6.0
8.0
1Q 2Q 3Q
Actual Chhattisgarh sales (FY2012) - (mn tons)
Derived Chhattisgarh sales (FY2013) (mn tons)*
Note: (1) Chhattisgarh sales derived from total sales – Karnataka e-auctions. Not adjusted for time difference for e-auction deliveries.
Source: : Company, Department of Mines and Geology, Karnataka, Kotak Institutional Equities
Metals & Mining NMDC
86 KOTAK INSTITUTIONAL EQUITIES RESEARCH
Exhibit 8: ~70% of iron ore sales were made to JSW Steel Karnataka e-auction sales to major customers over April-January (mn tons)
E-auction purchases (mn tons)
0
1
2
3
4
5
6
JSW Steel -Fines
JSW Steel -lumps
Total - Fines Total - lumps
Source: Department of Mines and Geology, Karnataka, Kotak Institutional Equities
Exhibit 9: JSW Steel paid Rs2,560/ton for fines and Rs4,860/ton for lumps Karnataka e-auction sales to major customers, April-January (mn tons)
-
1,000
2,000
3,000
4,000
5,000
6,000
JSW Steel -Fines
JSW Steel -lumps
Others -Fines
Others -lumps
Source: Department of Mines and Geology, Karnataka, Kotak Institutional Equities
Exhibit 10: NMDC's lump ore costs were higher than imported iron ore between July and December 2012 Comparative analysis of the cost of NMDC's iron ore lumps and imported iron ore at Essar Steel's plant
For private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES’ RATING SYSTEM AND OTHER DISCLOSURES, REFER TO THE END OF THIS MATERIAL.
Execution stays on track
Apollo Hospitals reiterated its capacity addition plans in Chennai, which is likely to be a key growth driver in FY2014. REACH hospitals in Trichy, Nashik and Nellore are also expected to become operational in FY2014. Operational trends in the key clusters have been broadly sustained: Case-mix driven growth in Chennai and capacity addition/improved utilization in tier-II hospitals. Hyderabad performance remains subdued – the company expects the rationalization plan and addition of doctors to drive growth in FY2014. Apollo believes 3Q is seasonally weak, given the festive season.
EBITDA margin: Apollo to sustain upward trend
The theme at the EBITDA margin level, expected to play out the over the next few years will be the case-mix improvement in mature hospitals and improved utilization and operating leverage in new/upcoming hospitals. Margin expansion will have to be balanced with improvement in return ratios.
Through FY2013, we have seen this trend play out with increased utilization, mainly in tier-II cities (Bhubaneshwar, Karaikudi, Karimnagar and Madurai), case-mix improvement in Chennai and improving profitability of retail pharmacies, resulting in 28 bps improvement in standalone EBITDA. On an annual basis, the extent of EBITDA margin expansion can vary (based on expansion plans). We believe Apollo is likely to sustain the upward trend in EBITDA margin. We expect 70 bps expansion in EBITDA margin in FY2014 and 30 bps for FY2015.
We maintain our ADD rating and increase our target price to Rs870 (from Rs820)
We are constructive on the stock with a target price of Rs870 – 15X one-year forward EV/EBITDA. We increase FY2014E/15E EPS by 3-4% driven by higher sales. Apollo has stayed on track on its capital expansion program and operational metrics on the recent bed additions have been in line with expectations. The structural growth in healthcare services and earnings visibility, driven by the expansion plan provide valuation support. Despite the structural growth, we expect local dynamics to have a significant impact on the success in individual hospitals/cities.
Apollo Hospitals (APHS)
Pharmaceuticals
Strong capacity addition expected in FY2014. Apollo Hospitals is expected to add 1,000 operational beds over the next 12 months. The capacity addition in Chennai is targeted at new facilities and rationalizing existing capacities. We expect the company to sustain the upward trend in EBITDA margin. We maintain our ADD rating and increase our target price to Rs870 (from Rs820). We expect 28% EPS growth over FY2013-15 – strong earnings visibility to provide valuation support.
Apollo HospitalsStock data Forecasts/Valuations 2013 2014E 2015E
Proton-therapy center in South Chennai. Apollo will establish a dedicated oncology centre at its upcoming facility in South Chennai (expected in FY2015). The project was earlier expected to be a multi-disciplinary super-specialty center.
The overall bed capacity for the facility has been scaled down to 200 (from 350) and the total cost of the project increased to Rs6.2 bn (from Rs2.9bn). The cost includes Rs4.2 bn (to be invested over the next three years) in setting up the proton-therapy center. Out of the total cost, the equipment is expected to cost Rs3 bn. The equipment will allow for targeted radiation treatment of cancerous tissues with limited impact on healthy tissues. The first patient treatment in the proton centre is expected in FY2017. Project IRR for the center is expected to be 18-20%: Investment will be back-ended with availability of vendor financing.
The proton treatment will be at a significant premium (at Rs1.5-2.0 mn) to existing treatment options (Rs0.6-0.7 mn) and Apollo targets 35% of the utilization from international patients (the cost will be a third or quarter of the cost in the West).
Over a period, Apollo may look to move its existing cancer facilities to the new unit.
Retail pharmacy. The contribution of private label has increased from 3% to 5% yoy. This has contributed to improvement in pharmacy margins. Same-store sales growth also remains strong at 18-20% yoy. Apollo expects to add 200 stores on a net basis next year – 250 gross additions. There is no specific update on the strategic partner for the pharmacy business. The company targets 100 bps expansion in EBITDA margin on an annual basis. Apollo is also evaluating a proposal to hive off this business into a wholly owned subsidiary.
Sale of stake in Apollo Health Street. In December 2012, Apollo sold 39.4% stake in Apollo Health Street (Healthcare BPO; associate entity) to Sutherland Global Services for Rs2 bn. The transaction is expected to be closed this month. There will be no gain/loss in P&L due to the transaction and the proceeds will be used to fund capital expansion.
New facilities to be commissioned over the next 12 months. Apollo is scheduled to add over 1,000 operational beds over the next 12 months. This includes new hospitals in Ayanambakkam, a women’s and children’s hospital in Chennai, two hospitals in Bangalore and units in tier-II cities (Bangalore, Trichy, Nellore and Nashik).
RoCE target. The pre-tax RoCE in existing units vary between 8% and 35%. The target RoCE on a consolidated basis is 20-22%.
Chennai: Capacity expansion to aid strong earnings growth
Chennai’s occupancy rate of 78% leaves limited opportunity to improve utilization. Besides, this cluster has stayed focused on case-mix improvement in FY2013, which has negatively impacted the operating beds (declined by 23) while delivering ARPOB increase of 12% (in 9MFY13).
The capacity in Chennai will see an uptick in FY2014 due to
Ayanambakkam (on the outskirts of Chennai) where operations will commence 4QFY13 with initial bed capacity of 100 beds, which will be scaled up to 200.
A new outpatient center expected to be set up (close to the main hospital in Chennai) which will allow 100 more beds in the main hospital. This project is likely to be completed over the next 6-8 months. The rationale is to free-up capacity in the main hospital.
Expansion in the Chennai main hospital (30 beds) and setting up of the women’s and children’s hospital (will allow 40 additional beds in the Chennai main hospital), resulting in increased operational beds.
Apollo Hospitals Pharmaceuticals
KOTAK INSTITUTIONAL EQUITIES RESEARCH 91
Structural growth opportunity but watch out for local dynamics
The healthcare services segment in India has strong macro tailwinds, which should drive growth over the medium term. Given the structural growth story, valuations are likely to be stretched. We believe the period of strong capital expansion (addition of about 3,000 beds in the next three years) will support valuation. We value the stock at 15X one-year forward EV/EBITDA.
While we do not contest the structural growth opportunity, we believe actual earnings growth may be impacted by local dynamics. The success of REACH hospitals is a reflection of the underlying macro opportunity for hospital services in India. The additional capacity has been accompanied by strong volume growth, healthy occupancy rates and steady ARPOB growth.
In contrast, Hyderabad is impacted by overcapacity, local issues offsetting favorable macro trends. Apollo (despite being an early entrant) has not been able to replicate the operating performance of the Chennai cluster. Apollo has been reworking its strategy and plans to recruit established doctors and rationalize operations (reduce exposure to Government programs) to turn around the operations.
Key assumptions for standalone hospitals, March fiscal year-ends, 2012-15E, (Rs mn)
Mon Tue Wed Thu Fri Sat4-Feb 5-Feb 6-Feb 7-Feb 8-Feb 9-FebBank of Baroda Carborundum Universal Apollo Tyres ACC BEML Indraprastha GasJ&K Bank NHPC Cipla Ambuja Cements BGR Energy Systems Tata CommunicationsJain Irrigation Uco Bank Godrej Indsutries Apollo Hospitals Bharat ForgeJK Cement United Bank of India IRB Infrastructure Aurobindo Pharma Cadila HealthcareJubilant Foodw orks Manappuram Finance Balaji Telefilms Canara BankREC MOIL CEAT City union BankState bank of Mysore Speciality Restaurants Hathw ay Cables Cox n KingsUnited Spirits TBZ Hotel Leela Emami
Kotak Institutional Equities Research coverage universeDistribution of ratings/investment banking relationships
Source: Kotak Institutional Equities As of December 31, 2012
Percentage of companies covered by Kotak Institutional Equities, within the specified category.
Percentage of companies within each category for which Kotak Institutional Equities and or its affiliates has provided investment banking services within the previous 12 months.
* The above categories are defined as follows: Buy = We expect this stock to deliver more than 15% returns over the next 12 months; Add = We expect this stock to deliver 5-15% returns over the next 12 months; Reduce = We expect this stock to deliver -5-+5% returns over the next 12 months; Sell = We expect this stock to deliver less than -5% returns over the next 12 months. Our target prices are also on a 12-month horizon basis. These ratings are used illustratively to comply with applicable regulations. As of 31/12/2012 Kotak Institutional Equities Investment Research had investment ratings on 173 equity securities.
19.7%22.0%
35.3%
23.1%
4.0% 4.6%1.7% 2.3%
0%
10%
20%
30%
40%
50%
60%
70%
BUY ADD REDUCE SELL
Ratings and other definitions/identifiers
Definitions of ratings
BUY. We expect this stock to deliver more than 15% returns over the next 12 months.
ADD. We expect this stock to deliver 5-15% returns over the next 12 months.
REDUCE. We expect this stock to deliver -5-+5% returns over the next 12 months.
SELL. We expect this stock to deliver <-5% returns over the next 12 months.
Our target prices are also on a 12-month horizon basis.
Other definitions
Coverage view. The coverage view represents each analyst’s overall fundamental outlook on the Sector. The coverage view will consist of one of the following designations: Attractive, Neutral, Cautious.
Other ratings/identifiers
NR = Not Rated. The investment rating and target price, if any, have been suspended temporarily. Such suspension is in compliance with applicable regulation(s) and/or Kotak Securities policies in circumstances when Kotak Securities or its affiliates is acting in an advisory capacity in a merger or strategic transaction involving this company and in certain other circumstances.
CS = Coverage Suspended. Kotak Securities has suspended coverage of this company.
NC = Not Covered. Kotak Securities does not cover this company.
RS = Rating Suspended. Kotak Securities Research has suspended the investment rating and price target, if any, for this stock, because there is not a sufficient fundamental basis for determining an investment rating or target. The previous investment rating and price target, if any, are no longer in effect for this stock and should not be relied upon.
NA = Not Available or Not Applicable. The information is not available for display or is not applicable.
NM = Not Meaningful. The information is not meaningful and is therefore excluded.
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