Themes for 2017

Here’s wishing everyone a very happy 2017 ahead. 

2016 was an interesting year with unprecedented events occurring especially in the later part of the year. First we had the shocking BREXIT vote which voted for Britain to separate from Europe, much against conventional wisdom. Next was another stunner in Trump defeating Clinton, going against most predictions of an easy Clinton win. And not to be left behind, our honourable PM Modi outlawed high denomination 5000 and 1000 notes as a war against corruption, terrorism et al.

These events, occurring in quick succession have left the markets going nowhere in the last 6 months. So the recovery which was in sight in October was wiped out by Modi due to the demonetization effect and the predictions are now for at least 1 or 2 more quarters (3-6 months) for things to return to the normal as it existed in October. Whether that actually happens, only time will tell.

On the positive side, we had the GST Bill moving forward and hopes are still alive that it will see the light of the day sometime this year though not in April as everyone, except the opposition parties, wanted it.

This also means that there were at least 3 opportunities when markets in their usual fashion collapsed in response to global events, irrespective of the fact that these had no impact whatsoever in quite a few of the companies which were knocked out of shape. That has been the speciality of Indian markets for as long as I can remember and there is no sign that such knee-jerk reactions will end anytime soon.

The Sensex continues to hover around the 25K mark, about 20% down from the 30K mark that it touched sometime last year. However, as has been seen in recent years, returns of Sensex have not been a true reflection of the stock market returns as is widely perceived theoretically, text-book style. There were many opportunities and there were stocks which doubled or gave returns in excess of 25-50% in some cases. Quite a few companies gave bonus shares (ITC, Berger Paints, PFC, Bajaj Finance) indicating strong confidence of the management in servicing the growing equity, and some are on their way to announcing it. So as has been said in many fora, India continues to be a stock pickers’ market and there are enough opportunities in individual stories to still earn excellent return if money is put in fundamentally sound stocks with proven managements who have seen teh ups and downs of business cycles and more importantly navigated them successfully.

The key theme this year in 2017 would certainly be Digital India and less cash economy (India is still some years away from cash-less economy whatever pundits may say). So most of my choices this time around are centred around this theme.

Sterlite Technologies (ST)

This makes it to the list this year too going by the developments over the last few months which augur acche din for ST.

What I had written about this stock last year still holds good. But the recent developments that I am talking about are the govt’s massive push towards a Digital India and e-payments (and not an optional one at that) which would necessitate a strong demand for ST’s for a long time to come.

The second development is that a few months back, they have demerged their Power products and Transmission Grid business (manufacturing products such as power conductors and high voltage and extra high voltage cables and providing turnkey solutions for power industries) into a separate company, Sterlite Power Transmission (SPT), and intend to focus completely on telecom business which over last 5 years has grown about 28% annually. SPT is for now an unlisted company.

The third important development is the entry of Reliance Jio in India and ST’s major role in this environment.

In 2015, ST acquitted another company called Elitecore Technologies which is into network management, operations and billing support as well as customer management products. ST expects the acquisition to help it look beyond the infrastructure vertical and build new capacities to fully tap opportunities from projects like Digital India and smart cities in the local market, and to expand to markets where Elitecore has a strong presence. ST now has a full end-to-end offering and would be better placed in creating deeper and longer customer engagements.

ST supplies optical fibre to the country’s top carriers that include Bharti Airtel and Reliance Jio to enable their ambitious fibre-to-the-home (FTTH) network roll outs, in addition to the government-driven initiatives such as the Smart City and BharatNet. It is doing several pilots with telecom service providers. They have also supplied products for Jio, and hope to have a far deeper engagement with the telco in future. Airtel is also spending on fibre as part of Project Leap.

These initiatives as well as govt’s moves have created a strong platform for ST to take off from here. Expect this company to do well over the next few years as there are very few companies in India currently who can match it in its offerings.

Currently trading around 96, this can very well give returns anywhere from 25% upwards annually over the next few years, if all the above things play out as planned.

Bharat Electronics (BE)

With Digital India as the govt’s recent motto, BE is likely to be one of the major beneficiaries as they are one of the leading producers of digital devices such as PoS terminals, swipe card machines etc. As is the govt. norm, most of the orders from PSU banks and govt. entities would flow through to BEL for such devices.

The added kicker is its presence in the Defence sector where too major spending by the govt. would directly benefit BEL as it is the major supplier for such equipment, as the private sector is not fully open for such orders yet.

Currently trading at 1375, this again has a long way to go. It gave a 1:1 bonus issue last year and prior to that it was trading around 3000. So the magnitude of where it can go can very well be appreciated.

NBCC (India)

This is one of the few stocks in the real estate and construction sector which stands out. Being a govt company has its own advantages.

NBCC has been getting orders across the board resulting in a strong order book all up till 2021 which very few real estate and construction companies can claim at the current juncture.

The icing on the cake is the announcement of a bonus issue to be declared on 04-Jan-17.

Engineers India

This is one stock which has given excellent returns over the last 1 year, going against the market trend which has either remained flat or been negative.

But being in the hydrocarbon consultancy sector, EI‘s business largely depends on the oil sector. With OMCs (HPCL BPCL, IOC) giving a bullish outlook on their business and planning capex over the next few quarters due to lower subsidy burden due to market-linked oil prices, EI is assured of good business from them as it enjoys a healthy relationship with all of them. Besides, once the oil prices start stabilizing or even moving up slightly (considering that they had nearly touched the bottom a few months back, have just recovered some lost ground, but are still trading at half their prices a year or so back, this is not an impossible situation), its fortunes would again turn positive.

This is again a bonus candidate.

ICICI Bank

This is one stock which has been classified as a fallen angel due to its lacklustre performance over the last 2 years. Once considered as the no. 2 bank behind HDFC Bank, it has ceded this position to the likes of IndusInd Bank and Kotak Mahindra Bank, thru poor management of NPA  and hence concern over the lack of quality of its credit book/loans.

But it must be remembered that it still has sound management headed by Mrs. Chanda Kochhar who has proven credentials and sooner or later is bound to get her act together. And the other major bonus point with this bank is that it has a lot of sound businesses in its fully-owned subsidiaries – Mutual Fund where it is in the top 3 fund houses in the country and some of its schemes have been consistently topping the charts over the last few years, General/non-life Insurance business, Broking business, Home Finance and a few other minor ones which have ample scope for value-unlocking over the next few years. Due to the turbulence over the last few months, its newly listed life insurance business has also not commanded the kind of premium valuations that it most likely deserves. But with the Max Life-HDFC Life merger coming thru in the near future, this situation is bound to get corrected as it will provide a benchmark for the sector as a whole which was missing all this time.

Currently trading at 255, this surely has a long way to go even to get back to its earlier levels, and provides an excellent opportunity for investors to get in at an opportune time. This can well be called a contra or value buy in the current scenario and the patient ones who can wait it out for a year or two are likely to reap rich rewards at the end of that period.

Let’s now pause a bit to see how my picks did last year:

	Price as on 31-Dec-15	Price as on 30-Dec-16	Gain/loss
Axis Bank	449.50	450.00	0.11%
MCX	925.75	1266.55	36.81%
Sterlite Tech	96.65	96.15	-0.52%
Jamna Auto Industries	139.60	168.45	20.67%
Surya Roshni	142.50	174.40	22.39%
Sun TV	426.15	490.00	14.98%
DCB Bank	81.55	107.50	31.82%
Overall	2261.70	2753.05	21.72%

As seen from the above table, except for Axis Bank and Sterlite Tech, most of the stocks have done well giving a healthy overall return of close to 22% YoY.

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I still believe that Axis Bank is going thru a loss of form but needs just 1 knock to regain its old form, as they say in cricket. As to when that will come, the jury is still out. Again, I have faith is Shika Sharma’s management capability and this is a bet on that. She has steered it well over a long period and only over the last 2 years, it has floundered along with its close cousin ICICI Bank. But law of averages will catch up soon and its recovery should start from the overall economy’s turnaround.

I think enough has already been written about Sterlite Tech’s potential and let’s wait for it to unfold. So it figures in this year’s list as well.

All in all, a healthy return of more than 20%, which is way more than the indices and most of the MFs. So after a dismal 2015, here is something to celebrate and I hope that the celebrations continue this year as well. Here’s wishing all investors a very profitable 2017.

Happy investing in 2017!

Healthy future

Zenotech Labs is a specialty generic injectables company with a strong expertise in the area of bio-technology. Its predominantly high value injectables product portfolios serve niche therapy areas such as oncology and anaesthesiology. It is a subsidiary of Ranbaxy Labs and hence now of Daiichi Sankyo (DS) which bought out Ranbaxy in 2008. In January ’08, Ranbaxy had acquired nearly 47% in Zenotech @160/share. But in June ’08, Ranbaxy itself got acquired by DS. As per SEBI rules, DS made an open offer for Zenotech @ 113.62/share as per the prevailing rules of the highest of the 6 month or 2 week price following the announcement. Currently, Ranbaxy holds nearly 47% and DS holds the 20% it acquired in the open offer following Ranbaxy’s acquisition. The founders (Jayaram Chigurupati and his family) still hold nearly 26% in the company. The point to note is that the floating stock in the market is just about 10% (or even below it) and is below the acceptable limit of public shareholding. This also means that they will have to either delist the company or lower their stake by at least 15% or more, which is a significant amount in terms of number of shares as well as the cost.

This company has been in the news for all the wrong reasons over the last few years since Ranbaxy’s takeover. The main reason for this state of affairs is the dispute between Mr. Jayaram Chigurupati (JC), the founder and erstwhile promoter of Zenotech Labs, and DS regarding the open offer price. Zenotech and its founder challenged the open offer price with the argument that since Ranbaxy is now a subsidiary of Daiichi and by definition the 2 are Persons acting in Concert, the PAC definition can be applied retrospectively to the time when Ranbaxy acquired Zenotech. And since at that time Ranbaxy paid 160/share, 160 becomes the applicable price for Daiichi's open offer for Zenotech. Zenotech's argument won in the Securities Appellate Tribunal (SAT) in October 2009, much to the surprise of India’s legal & M&A community. However, DS appealed in the Supreme Court who overturned SAT ruling and cleared the open offer. 

However, last year, in a new twist to Ranbaxy-Zenotech takeover dispute, Zenotech Labs founder JC moved the Company Law Board (CLB) seeking permission to buy back shares from Ranbaxy and its Japanese owner Daiichi Sankyo. JC said he was willing to pay about Rs 130/share to take back Zenotech, which has been in rough weather after being acquired by Ranbaxy in 2007.

In July ‘12, JC filed a petition in the Andhra Pradesh High Court challenging the FIPB approval allowing Daiichi to acquire 20 per cent stake from Zenotech’s public shareholders. According to the petition, the FIPB failed in complying with the rule book by not seeking the Board resolution of Zenotech for foreign collaboration coming in the form of Daiichi. The FIPB approval had also allowed Daiichi to acquire another 20% stake of Zenotech through an offer to the public shareholders. In the current petition, Chigurupati is seeking setting aside of the approval and restraining Daiichi from exercising its voting rights in Zenotech, in addition to stopping the foreign company from making any structural changes to the ownership of Zenotech. He also accused Daiichi of mismanagement and non-payment of salaries forcing its 200-odd employees to quit.

In the latest development, Dr. Jayaram Chigurupati has ceased to be the MD of the Company upon completion of his term on September 30, 2012.

Looking at the above factors, this case bears a distinct resemblance to another company called DISA whose shares were also held up in court over a dispute regarding the open offer. Post the court decision, their shareholding increased to about 86.5% currently. So they also need to decide soon how they plan to stick to the 25% public shareholding norms.

Considering a strong parent in the form of Ranbaxy/DS and the low public shareholding, this should give good returns over a longer timeframe. There are 3 scenarios:

1.  The CLB/Ranbaxy/DS accept JC’s proposal to acquire the shares @130/share and delist the company. The current price is about 35. Huge windfall for the public shareholders as everybody will get this price and the company will be delisted.

2.   Court accepts JC’s petition that the 20% acquired by DS was wrong and he wins the case. In which case, what happens to the 20% that DS acquired is still unclear.

a.  If it is extinguished, Ranbaxy will end up having about 59% stake with the founder JC holding about 29% and the rest with the public, in the new shareholding structure.

b.  If the court asks DS to return the shares to the original holders from whom they were acquired, it would be similar to the option above. But then the question would be what happens to the money that DS paid to these shareholders for the 20% stake? No shareholder would be either willing or happy to return the money and get the shares back. There may be further litigations on this count unless the court takes a holistic view and lays down clear rules regarding handling of all possible options arising out of its decision.

c.  If it is bought by JC, he and Ranbaxy will become nearly equal shareholders with each holding about 45%.

d.  If it is bought by Ranbaxy, Ranbaxy will end up with 67% and JC’s share will remain the same i.e. about 26%.

In any of the above cases, they will then have to reduce their shareholding to stick to the 25% public holding norm. Again the price at which they do so will be a crucial factor.

e.  Or one may buy the other out. In that case, the price would be interesting since JC has already offered 130/share to buy Ranbaxy/DS share. Even if this looks farfetched and may not materialize, the price may well be at a premium to the current price. And as is seen in open offers, the price tends to shoot up immediately after the announcement and settled down close to the offer price.

3.   Court as well as CLB rejects JC’s proposal and upholds Ranbaxy/DS version. It will again be similar to the second option above whereby they will have to reduce their shareholding to stick to the 25% public holding norm.

In both options 2 and 3 above, if it boils down to either or both of the majority stakeholders reducing their holding, the price may be the clinching factor and this is where it gets risky. For, if everybody plays by the book, the price may not be attractive going by the average price over the last year or so.

However, over the longer term, once these issues are resolved, and Zenotech Labs gets back on track to doing what it does best (assuming it remains listed with either Ranbaxy/DS combine or JC at the helm), it would be back to its glory days a la Wockhardt. The only question is how long the longer term will stretch. The jury is still out at this point.

Once thing though, looks certain. Things can’t continue as they are now with public shareholding close to 10% and the June ’13 deadline not too far away. It is a question of who blinks first.

Colorful future

Kokuyo Camlin (formerly Camlin), owner of the well-known Camel and Camlin brands, is one of India's leading stationery companies with a wide product range and strong pan-India distribution network. Established in 1931 by D. P. Dandekar with a single product (ink powder), today it is a company manufacturing over 2000 products, including variants. Its wide distribution reach and quality products have made it household name in school and education stationery products. Camlin’s products have been used for generations and enjoy strong brand loyalty. It is a market leader in art materials product segment like crayons, sketch pens, water colors, oil pastels etc. besides school education products such as pencils, gel pens, erasers, sharpeners, maths sets/compass boxes and notebooks among others. It is also present in the office stationary segment (stamp pads, ink etc but primarily markers) as well as fine art and hobby products segment (glass colors, fabric colors etc). The company was the first to launch the Hobby Range of colors in India, and introduced color categories such as fine art colors, hobby colors and fashion colors. It has 4 manufacturing units, 3 in Maharashtra (Tarapur, Taloja & Vasai) and 1 in Jammu where the goods produced enjoy excise exemption leading to competitive pricing and higher profitability.

The company has ventured into pre-school business from the year 2009 and has commenced 3 pre-schools till date in and around Mumbai. The schools, branded as Alpha Kids, have received good response, in terms of number of enrolments. How they scale up this business remains to be seen.

Last year around this time of the year, Camlin promoters, the Dandekar family, sold a major part of their stake (20.3% out of the total 38%) crore to Kokuyo S & T Co Ltd., a leading company in Japan with over 100 years of experience in stationery and furniture products, design and construction of office and store interiors, mail order business, lifestyle retail and distribution having an annual turnover US$ 3.2 Billion. This was followed by an open offer to the other minority shareholders @110/share. Post the stake buy, the foreign promoter Kokuyo holds nearly 51% in the company and the erstwhile promoters the Dandekar family holds nearly 13%. So the promoter holding in the company is a robust 64% which gives a great comfort as an investor.

However, as in any business catering to a wide market, there are challenges. The company operates in an extremely competitive environment, wherein the size of the unorganized market is supposed to be about 40%-45%. The company faces tough competition from both the organized and the unorganized segments of the industry. The company’s business is also cyclical to a certain extent with Q1 (when the schools and colleges open) being the strongest and Q4 (when they close) being the weakest. However, as the company gets into the expansion mode with the financial and technology backing of its Japanese parent, it is poised to exploit several new opportunities and create & maintain its competitive edge in many of the new as well as existing products. Kokuyo may introduce own products such as Campus notebooks (where it is a strong player in Japan), Airofit scissors, Dotliner adhesive dispensers and its furniture line, as these will either be new products or brand diversifications. There are many high-growth areas such as schoolbags and notebooks where Camlin is not present and Kokuyo’s know-how is expected to help. At $2.2 billion or roughly Rs 10,000 crore, the Indian stationery market is big.  That the company has its task cut out is clear. The space has evolved over the last few years with the entry of new players like writing majors Cello, Reynolds, Linc and Luxor at one end and ITC with its Classmate brand of notebooks and allied products at the other. International brands, like Faber Castle and 3M, are also consolidating their presence here. Acquisitions of domestic companies by global brands are also on a rise: Societe BIC of France had acquired 40 per cent stake in Cello in 2009, the same year when Japan's Mitsubishi formed a joint venture with Linc Pens, and recently bought a stake in it. So it may not be a cakewalk for Camlin, its strong brand equity notwithstanding.

Rising disposable income, growth of the private sector and increasing government spending on primary education would increase the consumption of quality stationery products. The education and literacy drive of Government of India is creating the platform for growth in the stationery business. The biggest boost in the education sector has been the historic "Right of Children to Free and Compulsory Education Act, 2009". Camlin is all set to align its resources to gain advantage of various government initiatives on education such as 'Sarva Shiksha Abhiyaan'.

Camlin @38 is available right now at 33% (nearly 1/3^rd) of what the foreign promoter actually offered for the company. What the promoter bid for 54% odd levels of the total market-cap right now is available for 30%. M-cap/sales for the company is at a paltry 0.6x while most FMCG companies command it in excess of 2x+. So there is some catching up to do yet. Some time back, PE fund New Vernon is said to have picked up a small stake through open market deals. So here is a company with a strong Japanese promoter who brings in vast technological expertise to the table, and is looking to integrate its operational strength with the company's strength, where the balance-sheet clean up is already done. Things can only look up from here though short term challenges due to the deteriorating economic conditions remain. This provides an opportunity to accumulate the stock at attractive levels and wait for a turnaround.

Japanese firms appear to have finally learned their lessons in the Indian consumer market. After Sony and Panasonic were laid low by the Korean onslaught of LG and Samsung, they have quietly regrouped themselves and are now giving the Koreans a run. Similar is the case with Ranbaxy. A few years back, Dai Ichi Sankyo paid what then was thought to be an astronomical sum for buying out Singh brothers’ stake. However, they believed in the company’s core strength and did not mind the expensive buy. All was not rosy along the way, though. There were many regulatory issues faced by the company with the US drug authorities which affected them significantly resulting in the share price crashing from 600 levels to around 200. In the last year or so, it has slowly clawed back to around 500. A similar thing could happen with Camlin. It is in fact at the same level it was before the stake sale happened. From here on, an investor who has got patience and has a longer timeframe has hardly anything to lose because the insider himself is paying a very high premium valuation because they know what they will do with the company in the longer timeframe.