Diwali Dhamaka 2017

Here’s wishing everyone a great Diwali and a prosperous new year ahead. As compared to last year, though the market did see new highs, the much needed correction also happened some time back. Fortunately, the fall was not as huge as that witnessed in earlier instances. Of course, in the volatile world that we live in, with geo-political tensions (India-China, N. Korea etc.) keeping the market on its toes, this trend is likely to continue. So rather than tracking the market highs and lows, the returns would be much higher if one were to focus on stock picks which either have not participated in the market rally or have come down due to extraneous factors, not of their doing.

There were 2 major nation-shaking events since last Diwali – the much talked about Demonetization and in recent times, the GST. While the benefits of both these moves will be evident only much later, they have at least laid the foundation for some sound economics. While the govt. did go ahead with both these things without adequate preparation, as was experienced and proved in their aftermath, both these things did show the govt’s resolve to go ahead with bold actions irrespective of the short-term consequences. This is a much refreshing change after the policy paralysis experienced over the last decade before the current govt.

As I have been mentioning over the last 3 Diwali blogs, it never pays to get carried away in the stock market, in either direction, especially in India. So any serious dip in quality stocks with proven managements should be considered as an opportunity to buy into those shares at lower prices, thus increasing the chances of reaping better gains, than would otherwise have been obtained.

As they say in sports, Form is temporary but Class is permanent. Though there may be near-term blips in the impacted companies’ performance, it is unlikely to last beyond a couple of quarters and then the real benefits of things like GST will kick-in. And I can bet that the upside will be far greater than the current downside, as these things have a far-reaching impact which will surely be seen over the coming years.

In the last 1 year, though the mid and small caps have rallied hugely, and are quoting at valuations higher than what would be warranted, it is not something to really worry about. The Indian market has now formed a new normal. And the primary reason for this is the constant inflow of SIP money that most retail investors have started pouring into equity MFs form their bank savings accounts. If fund managers are regularly getting 5000 cr. of steady money into equities, and there is nothing to indicate that this is going to stop anytime soon, what else can they do? It is by design and not choice that the Indian markets will continue their steady upmove with reasonable valuations being re-defined. Companies like Page Ind., Jubilant Food etc. always enjoyed higher than average market valuations even among the same category of stocks and continue to do so. The only difference is that the other mid and small caps will also catch up with them under the new definition of what is a reasonable valuation.

So given that this is a buyer’s market now, where should u place your bets? The focus this year will be on pedigreed companies with proven managements and great businesses, ones which are far more likely to withstand the market volatility than some of the others. Also, I have attempted to identify stocks which may be beneficiaries of corporate moves and improvement in their prospects. Needless to say, management quality, business domain and growth prospects should always be primary factors while deciding on buying any stock.  Some of the stocks have indeed run up, but as I have said above, are quoting at fair valuations, under the new definition of fair.

South Indian Bank (SIB)

This is a south-based bank which has recently declared bad results with a fall of 96% in YOY net profit. However these were due to a one-off provision. In spite of this, the operational performance improved significantly with double digit growth in business and OP.  Slippages were normalised to 2.2% levels versus 4.5% in the past 8 quarters. They have continued to build more granular portfolio with focus on SME/retail along with CASA improvement (up 20% YoY to 24.6%). Their focus on cross-sell (benefits of centralised processing, tie ups with Kotak Life and SBI Life) supported core operating profit which surged >50% YoY.

This is one of the cheapest banks currently (the other being Karnataka Bank) with a P/ABV of 1.6. The other major factor in favour of this is the prospect of consolidation among the old private sector smaller banks going forward.  In the last few years, banks like Lord Krishna Bank, Bank of Madura etc have been acquired by the bigger private sector banks like HDFC and ICICI. With increasing competition, and govt’s push to consolidate PSBs, this trend should accelerate. And the prime candidates will be banks like these with strong growth parameters.

This bank is going the way of Federal Bank. In Diwali Dhamaka 2015, I had written about the dismal performance of Federal Bank over the last few quarters and how it was hammered down to 55 due to a bad quarter, in spite of a credible management looking to get its house in order. You can read it here. Today it is quoting close to a whopping 125, and looking good for more.

Currently quoting around 32 levels, SIB has every chance of going the same way. It can easily give a conservative 25% return till next Diwali.

Balmer Lawrie Investments (BLI)

Holding companies have given bumper returns this year (2017) because of the steep discounts to the investments in their execution companies they were quoting at. Some of them are from good corporate houses and in many cases the companies which they are holding are on a high growth path and doing well. These discounts have either shrunk or the investee companies have done exceedingly well. For e.g. Bombay Burmah Trading Corp (BBTC) , holding company of Bombay Dyeing and Brittania, has gone up nearly 3 times in the last 1 year while Vindhya Tele the Birla group holding company with stakes in cement giant Birla Corp and Universal Cables, has nearly doubled.

BLI is a govt. company and is a holding company of Balmer Lawrie Co. (BLC), with nearly 62% holding in it. Balmer Lawrie Co.  is a transnational diversified conglomerate with presence in both manufacturing and service sectors.  It is a market leader in Steel Barrels, Industrial Greases & Specialty Lubricants, Corporate Travel and Logistics Services. It also has significant presence in most other businesses, it operates, viz, Leather Chemicals, Logistics Infrastructure etc. In its 150 years of existence.

With the govt. on a divestment spree, it won’t be long before BLI makes it to its list. It is quoting at nearly 48% discount to its value in BLC.  BLI has given a commitment to RBI that it will divest its holding in BLC and dissolve the holding company. This may happen sooner rather than later. Interestingly, BLI is one of the few companies which has not joined this rally of holding companies since the beginning of this year and its time is yet to come.

Currently quoting at about 400, this can surely go up by 20-25% once the divestment is announced.

Aditya Birla Capital (ABC)

This is the child of the much-awaited restructuring of the Adiitya Birla group companies, listed and unlisted. It involved the merger of Aditya Birla Nuvo (ABN), which over the years transformed from a  rayon manufacturer (it was the erstwhile Indian Rayon) to a holding company with stakes in Telecom, and Financial Services (including Insurance) of the AB group. 

Under the restructuring, ABN was merged into Grasim Industries, the manufacturing arm of the group (Viscose fibre and Cement), and then the financial services arm was carved out as AB Capital.

This high pedigreed company is into all types of financial services and in the top few of most of the leading types. For e.g. its AMC division (AB Sun Life AMC, a JV with Sun Life of Canada), is one of top 5 AMC in the country and boasts of some of the top performing schemes currently running. Also, the AMC has been in existence for over 2 decades now (its flagship balanced fund is still called Aditya Birla Sun Life ’95 fund, since it was started in 1995) and thus has proven its credentials in no uncertain manner. Besides it CIO, Mahesh Patil, is one of the most respected fund managers currently in the industry.

AB Sun Life Insurance, again a JV with Sun Life of Canada, is in the top 5 insurance companies in India currently.

ABC has also recently forayed into health insurance and also runs an NBFC (Aditya Birla Money), though its operations currently are limited. Housing Finance is another area which is currently not explored.  Besides all the above retail focussed financial services, it is also into corporate finance in areas like PE, ARC etc. With all these businesses doing well and opportunities to get into unexplored areas, there is enough evidence to believe that ABC will have a long term sustainable above industry growth rate.

Another potential that ABC possesses to reward its shareholders is thru value unlocking in its many unlisted businesses. Insurance is on top of this list with its peer groups ICICI and HDFC already off the block in getting their insurance operations listed. AMC (MF) is another business which can potentially be listed (Reliance is already off the mark in this respect).

A truly buy-and-forget stock, all things considered.

Automotive Axles (AA)

This is a Kalyani group company which is a JV with Meritor inc. of USA. AS the name suggests, this is a market leader in Axles for commercial, off-road as well as defence vehicles. It supplies axles and brakes to most of the auto manufacturers in India. The company is a zero debt company and is performing exceedingly well. Auto-ancillary companies have had a fantastic run in the last few years and are valued at about 30 times earnings while this is still trading at sub-30 levels in spite of higher growth. With the CV cycle expected to pick up in the second half of the year, this will be one of the biggest beneficiaries. The other trigger for this is the defence orders. Its parent Meritor has an all-terrain suspension solution technology for the defence vehicles. They may consider bringing it here in the near future, triggered by the Make In India defence program.

So all in all, a sound management, high-tech products and ample opportunities make this a great pick to have. Kalyani Steels and Bharat Forge, from the same stable, have done wonders in the last 2 years and look set for more. This can go the same way, if one is patient.

Piramal Enterprises (PE)

After AB Capital, this is another company with a high pedigree in the form of its head Ajay  Piramal, an acknowledged astute businessman in the Indian industry with an uncanny knack to get into the right businesses and even more importantly, to exit from them at the right price.

 In 2010, PE completed the sale of its domestic formulations business an unprecedented value of ~9x sales and ~30x EBITDA. In May 2013, it acquired 10% equity stake in Shriram Transport Finance. Later in April 2014, they acquired 20% equity stake in Shriram Capital Limited, a financial services company and in June 2014, 9.9% stake in Shriram City Union Finance Limited, the retail focused Non-banking Financial Company (NBFC) of the Shriram Group. And in recent times, a deal between IDFC group is in the works

PE is the flagship company of Piramal Group and has a leading position in the business verticals it is present in i.e. Healthcare, Financial Services and Information Management.

Recently they have entered into another lucrative business of Housing Finance. They have recently announced a QIP and Rights issue for garnering about 7K crore. With these funds, they should grow their book to about 1 lakh crore. The other major advantage of this move would be to bring complementary businesses together. They are already into Construction and Realty in the form of Piramal Realty.  The funding of this business thru HF is certainly a great fit.

They are also in a niche business of Information Management. Decision Resources Group, a subsidiary of Piramal Enterprises Ltd., is a cohesive portfolio of companies that offers best-in-class, high-value information and insights on important sectors of the healthcare industry. Clients rely on this analysis and data to make informed, knowledgeable decisions.

With all these things in place, this is again a stock which has only created value for its shareholders consistently over the years. They have a track record of approx. 23% revenue CAGR since the late 80s, which very few Indian companies can match.

The impending rights issue is something which one should look forward to. Not only can one buy more shares, probably at a cheaper rate, but also a certain portion is assured for shareholders.  Mind you, the ratio of the rights shares offered to existing shareholders is not likely to be generous, but one can certainly apply for more than the allotted quota and expect to gain some more than the eligible number.

The other major trigger that is on the horizon over the year is the impending re-structuring that Ajay Piramal has advocated. This is quite likely to be value-accretive, the way most demergers and restructurings in recent times have been (Aditya Birla Nuvo, Reliance Capital etc.)

Before concluding, let’s quickly look at the performance of last year’s recommendations:

Stock	Last Diwali	Current	Difference	%
Jain Irrigation DVR	61.45	62.10	0.65	1.06%
L&T Finance	106.80	205.65	98.85	92.56%
Kokuyo Camlin	96.30	97.60	1.30	1.35%
Aksh Optifibre	27.25	25.25	-2.00	-7.34%
Aditya Birla Fashion & Retail	160.30	148.95	-11.35	-7.08%
Overall	452.10	539.55	87.45	19.34%

  All prices in Rs.

So since last Diwali, this portfolio has given a return of 19.34% nearly 16% more than the Sensex return of 16.7% since then. It is not a stupendous performance by any yardstick, but certainly a decent one, given the circumstances. But it must also be borne in mind that L&T Finance itself has carried the returns on its shoulders single-handedly, while the others hardly performed. This is not a good sign. However, I believe that this set of stocks, including L&T Finance, certainly has the potential to perform well going forward and should certainly be retained and even averaged by adding more at the current levels as their growth prospects remain strong.

Rome was not built in a day, so also wealth is not created in a year. A multi-bagger stock is called one, only after it has returned many-fold over a few years (Honeywell, Manappuram Finance etc. are some examples). Else, it might just remain a 1-year wonder. And there are enough stocks in this 1-year wonder category.  Just to prove how long term investing pays, just look at the picks I had written about in Diwali Dhamaka 2015, in the table below:

	Diwali  '15	This Diwali	Diff.	Gains/Loss
Federal Bank	55.00	125.85	70.85	128.82%
ICICI Bank	265.00	301.29	36.29	13.69%
Eros	275.00	221.65	-53.35	-19.40%
Motherson Sumi	189.00	533.10	344.10	182.06%
L&T	906.00	1722.98	816.98	90.17%
Ashok Leyland	88.90	128.20	39.30	44.21%
Overall	1778.90	3033.07	1254.17	70.50%

  All prices in Rs.  & adjusted for Bonus as declared during the period

  (L&T, Motherson S & ICICI Bank have declared bonus during this period)

This portfolio has returned a whopping 70.5% in the 2 year period or a CAGR of about 30% in this period. I am sure that if you sit down with a calculator, you will get similar figures for the picks in the year prior as well, as all of them are excellent stocks worthy of holding for the long term.

 The current set of mid-cap stocks will hopefully return even better figure next year.

HAPPY INVESTING