CAS Research Desk March, 2011

CAS Research Desk

March, 2011

Executive Summary

CAS Research Desk CAS Research Desk

Markets have been on a decline for the past two months. We’ve been damned with multiple concerns
like:‐
• Run‐away Inflation
• Corruption and Scams
• Current Account Deficit at highs
• Momentum driven hot money returning back to shores
With such headwinds galore, we’ve seen the markets correct from the 6300 levels to the current 5200
levels, a decline of ~17%. But at the same time individual stocks have lost anywhere close to 20% to
60%.
Going forward we expect markets to be range‐bound in the next 3‐6 months, however the long term
prospects still look good with a trend GDP growth of upwards of 8%.
Hence, we believe this correction is a buying opportunity in select large stocks which have long term
structural factors in their favor, strong business outlook and now attractive valuations.
Our report which follows, ‘5 stocks you can’t miss…’ tells exactly what you should buy at current levels
despite markets moving sideways.

Top Picks EW Code Recommendation Current Price *

Reliance Industries RELIND Buy 967

Tata Motors TATMOT Buy 1,097
BHEL BHAHEA Buy 2,010

M&M MAHMAH Buy 620

ITC ITCLTD Buy 171

*closing price as of February 28, 2011
1st March, 2011 2|P a g e

Tata Motors Limited (TATMOT)

Fundamental – BUY

Sector Target Mkt Cap (` Cr.) 52W High 52W Low
CMP ‐` 1,097 Automobiles ` 1360 ` 68,599 ` 1,382 ` 670

• With a strong macroeconomic recovery, the commercial vehicle (CV) industry is set to continue its
strong growth. Growth will be sustained and driven by structural factors such as infrastructure
development, heightened economic activity, agricultural growth, improved operating economics of
new trucks and legislations on emission, vehicle life and overloading. We expect overall M&HCV
volumes to grow by 20% in FY11, respectively, with the strong underlying growth.
• Tata Motors (TATMOT) is largest automobile company in India and is leader in all commercial vehicle
segments such as trucks and buses. The company is one of the key beneficiaries of increase in
infrastructure activity, recovery in commercial vehicle space and is well positioned to benefit from
the growth in the Indian economy. TATMOT is also set to benefit from the passenger vehicle
segment due to strong growth in the passenger car business, following the improved product
portfolio in future.
• In an up‐cycle, JLR’s high operating leverage turns a boon. With strong underlying demand for luxury
cars across the globe, including Europe and US, (Daimler, BMW recently raised guidance), we expect
JLR to continue operating at high utilization levels (the company has waiting periods for most
models ranging between 4 and 6 weeks; with supply side constraints; notably engines from Ford),
discounts are likely to remain low). In addition, we expect benefits from cost cutting measures to
flow through in H2FY11. While these may be partially offset by currency fluctuations (the GBP has
recently appreciated against USD), we expect profitability to sustain at high levels.
• TATMOT’s balance sheet strength has increased substantially, particularly with capital infusion
through the QIP recently. The consolidated net automotive D/E at 1.16x (post QIP issue) is now
within reasonable limits. Further, we note that JLR is now cash flow positive after taking into
account the high R&D expenditure. We expect strong earnings CAGR of 88% over FY10‐12E on the
back of strong top‐line growth (18% CAGR over FY10‐FY12E).
• TATA Motors management tone on the company’s profitability outlook was perceptibly positive. We
believe JLR margins are sustainable in the medium term. With a more manageable D/E of ~1.2x, a
stronger demand outlook and a sustainably high EBITDA margin, we believe potential returns
outweigh the risks (unfavorable currency movements, potential crisis in Europe). On our FY11E and
FY12E EPS estimate of ` 128 and 148, the stock is currently trading at a P/E of 8.5x and EV/EBITDA of
3.7x on FY11E basis and at a P/E of 7.4x, and EV/EBITDA of 3.3x on FY12E basis. Given these
attractive valuations and its growth prospects, we believe the stock offers upside potential in the
near term.
Income Statement (` Cr) Valuations
Year to March FY10 FY11E FY12E Year to March FY10 FY11E FY12E
Revenues 87,034 108,682 122,925
Diluted PE (x) 57.4 8.5 7.4
EBITDA 7,988 15,630 17,789
PBT 2,031 9,215 10,803 EV/Sales (x) 0.7 0.5 0.5
Net profit 1,025 7,805 9,022
EV/EBITDA (x) 7.3 3.7 3.3
EPS 19 128.0 148


Reliance Industries Ltd (RELIND)

Fundamental – BUY

CMP ‐ ` 967 Petrochemicals ` 1150 ` 3,15,635 ` 1,150 ` 885

• Global refining utilization is expected to improve with: crude demand likely to increase on global
recovery; and project slippages/deferrals. We believe refining margins have bottomed and are likely
to revive gradually. Moreover energy consumption in India from natural gas is set to rise due to
production increase from ~132 mmscmd in FY10 to around 230 mmscmd in FY12E. Based on the
demand of gas for power and fertilizers, we believe that an increase in the gas supplies can be easily
absorbed by the country. In fact, we believe that India may have an appetite for more gas supplies,
as the country’s GDP grows above 8.0% CAGR in the next decade which offers serious opportunities
in oil & gas sector.
• RELIND’s strength lies in its ability to build businesses of global size and scale and execute complex,
time‐critical, and capital‐intensive projects, which will prove advantageous in its huge plans in the
E&P sector, organized retailing, and SEZ infrastructure. Also, there could be a potential upward
revision to our estimated in‐place reserves. With its foray into consumer retailing and SEZ
infrastructure, we believe, it is an ideal company to play the India story.
• RELIND has the most complex refineries, with Nelson Complexity Index (NCI) of 9.93 for old refinery
and overall complexity of 14.0, expanding its ability to process inferior quality/heavy crudes and
produce superior product slate weighted towards light/middle distillates. This has largely helped
keep its refining margins at a relative premium to industry benchmarks and led the company
through the downturn when other global simple/less complex refiners bled.
• Our outlook on RELIND has improved, as we believe refining margins have bottomed and will
gradually inch upwards. We expect RELIND to report better margins in Q3FY11 owing to higher
polyester chain margins. Further, we expect the exploration activity to gain traction in CY10, and
expand the potential for news flow. On our FY11E and FY12E EPS estimate of ` 61.5 and ` 76.7, the
stock is currently trading at a P/E of 14.5x, EV/EBITDA of 7.3x and P/BV of 1.9x on FY11E basis and at
a P/E of 11.6x, EV/EBITDA of 6.2x and P/BV of 1.7x on FY12E basis. Given these attractive valuations
and its growth prospects, we believe the stock offers upside potential in the near term.
Income Statement (` Cr) Balance Sheet (` Cr)

Revenues 203,740 242,821 277,990 Shareholders’ funds 141,003 156,170 176,284
EBITDA 30,894 38,574 44,314 Borrowed funds 75,857 70,516 57,562
PBT 20,074 25,228 31,778 Sources of Funds 216,860 226,686 233,846
Net profit 24,424 20,305 25,290 Total fixed assets 177,225 175,057 180,531
EPS 48.2 61.5 76.6 Net current assets 26,522 31,945 33,631
Book Value

431.2 475.6 534.3 Uses of Funds 216,860 226,686 233,846
Growth Metrics % FY10 FY11E FY12E Valuations FY10 FY11E FY12E
Revenues 34.7 19.2 14.5 Diluted PE (x) 18.5 14.5 11.6
EBITDA 31.9 24.9 14.9 Price/BV (x) 2.1 1.9 1.7
Net profit 5.8 28.4 24.6 EV/Sales (x) 1.4 1.2 1.0
EPS

6.2 27.7 24.6
EV/EBITDA (x) 9.2 7.3 6.2

Bharat Heavy Electricals Ltd (BHAHEA)

Fundamental – BUY

CMP ‐ ` 2,010 Engineering ` 2650 ` 97,958 ` 2,694 ` 1,961

• Over the Eleventh and Twelfth plans (FY07‐17), India targets to add ~170 GW, creating huge
investment opportunities across the power value chain. Assuming a rough cut capex of ` 50 mn per
MW for generation, and similar spend for T&D in 1:1 ratio, the country is likely to invest ` 17 trillion
over 2007‐17. The fundamental growth across verticals of power is well documented. High growth,
long‐term visibility and sustainable returns make the sector an attractive investment option.
• Bharat Heavy Electricals (BHAHEA), being a leader and established EPC and BoP contractor for
power generation plants, is likely to benefit from the robust visibility in the power sector. Of the
above capacity addition, ~65% plus is estimated to be from thermal‐based power plants. This is a
positive for BHAHEA as its forte lies in setting up coal‐based power plants. BHAHEA has also
demonstrated its skill in hydro power projects. Further, to cater to the country’s ambitious future
power‐capacity addition programme, BHAHEA is also planning to increase its capacity to 20,000 MW
by March 2012 from the existing 15,000 MW.
• BHAHEA has a robust order book of ` 1580 bn (~5x FY10 revenues) as on September 2010, ensuring
strong revenue growth visibility for next ~3‐4 years. This could result in favorable earnings traction.
BHAHEA’s order backlog at Q2FY11 end was ~` 1,540 bn. The power sector contributed major
portion of new orders at 82% to ` 110 bn, representing 2,821 MW. During the current fiscal YTD,
BHAHEA has bagged total orders worth ` 313 bn, which could leave upsides to the management
guidance of ` 550 bn for FY11.
• Despite a strong negative sentiment prevailing in the domestic market for BHEL, given mega BTG
awards by Reliance and Lanco to Chinese players and import duty deferment, we remain positive on
the stock, given strong revenue visibility, strong ordering pipeline over the next few quarters and
expect it to beat the FY11 order intake guidance. On our FY11E and FY12E EPS estimate of ` 112 and
` 140, the stock is currently trading at a P/E of 18.0x P/BV of 4.9x and EV/EBITDA of 11.1x on FY11E
basis and at a P/E of 14.0x, P/BV of 3.9x and EV/EBITDA of 8.8x on FY12E basis. Given these
attractive valuations and its growth prospects, we believe the stock offers potential.

EBITDA 5,799 8,153 10,266 Borrowed funds 128 128 128
Book Value

325.2 411 525.2 Uses of Funds 16,045 20,246 25,837
Growth Metrics % FY10 FY11E FY12E Valuations FY10 FY11E FY12E
EBITDA 39.5 40.6 25.9 Price/BV (x) 6.2 4.9 3.9
EPS

37.7 27.4 25.3
EV/EBITDA (x) 15.4 11.1 8.8

Mahindra & Mahindra Ltd (MAHMAH)

Fundamental – BUY

CMP ‐ ` 620 Automobiles ` 900 ` 37,803 ` 827 ` 476

• Mahindra & Mahindra dominates the domestic tractors market, commanding 41% market share.
Three key structural factors—higher farm product prices, firmer labour wages (notably NREGA), and
greater commercial usage of tractors—have significantly increased rural incomes and brought
smaller farmers (owning <4 hectares of land) into the “tractor purchasing” ambit. These factors are
likely to drive long‐term tractor demand, which Mahindra & Mahindra (M&M) is well‐positioned to
capitalize on.
• MAHMAH is the leader in the UV segment and has managed to keep its market share above 55%
currently. MAHMAH, as the leader in the utility vehicle (UV) segment, is well entrenched with strong
brands. Further, incremental volumes could come from the LCV/ minivan segment, where we expect
the company to regain lost market share with the launch of its sub tonne Maxximo and Gio. The
automotive segment could post a volume growth of 21% CAGR between FY10 and FY12E.
• We believe, Ssangyong Motors acquisition is a strategic fit with MAHMAH’s ambitions of being a
global SUV player. Ssangyong’s current financial performance seems to suggest a turnaround.
MAHMAH expanding business portfolio has the potential to add value over the medium term. Apart
from the M&HCV space (JV with Navistar), other new businesses (two wheelers, defense or logistics)
require minimal investments. The returns over a three year period though could be substantial,
particularly considering MAHMAH’s impressive track record in unlocking value of subsidiaries.
• The steady Q3FY11 performance reinforces our belief in the robust growth prospects of the
company’s core business. Ex–subsidiaries (with a 20% holding company discount), MAHMAH
currently trades at 14.2x FY12E core EPS which looks attractive given its strong position in core
businesses, a strong balance sheet coupled with a sound management and company’s robust
growth potential.

Sources of Funds 10,951 13,710 16,113
PBT 2,795 3,352 3,701
Total fixed assets 2,739 3,847 4,858
Net profit 2,088 2,678 2,776
Investments 6,398 7,648 8,398
Book Value 135.2 178.5 213.2 Uses of Funds 10,951 13,710 16,113

Growth Ratios (%) Valuations
EBITDA 103.6 14.9 12 Price/BV (x) 4.9 3.7 3.1
PBT 99.1 19.9 10.4 EV/Sales (x) 2.2 1.8 1.5
Net profit 71.1 22.8 9.7 EV/EBITDA (x) 13.5 11.7 10.3
EPS

65.1 18.8 9.7
ROE (%) 31.5% 27.3% 23.6%

ITC Ltd (ITCLTD)

Fundamental – BUY

CMP ‐ ` 171 FMCG ` 200 ` 1,30,497 ` 182 ` 118

• ITC is one of the largest FMCG companies in India with businesses spanning cigarettes, hotels, paper
and packaging, and agri‐commodities. Recently, it has set up a branded foods division with products
such as staples, confectionery, and biscuits. Though the cigarettes division is still the major source of
revenue, other businesses have grown over the years, contributing ~49% to net sales and ~34% to
gross sales in FY10.
• Inelastic nature of demand. Cost inflation least likely to impact as compared to any other FMCG
company. Cigarettes volume growth (‐2.3% Y‐o‐Y YTD) can surprise positively in FY11. Volume
recovery was visible in Q2FY11 after sharp decline in Q1FY11 (due to 13% price hikes post FY11
budget announcement). Note that the recent price hike of ~12% in Bristol cigarettes (~10‐12% of
cigarette sales) should pass on the row material cost inflation which should be positive
• The e‐Choupal network established by ITC gives it a phenomenal sourcing edge, which can help it
transform into a retailing giant. The demand‐supply conditions are in favor of the paper businesses,
as the new supply will just be sufficient to meet the additional demand. With the Indian economy
slated to grow at about 8% for FY11E, we expect cigarettes volumes to continue to witness growth
momentum. The FMCG division is expected to scale up and turn profitable in FY13, contributing
positively to the bottom line, going forward.
• At CMP, stock is trading at 20x FY12E EPS estimates vs. FMCG sector average of 24x. Higher
cigarettes volume is potential trigger.

EPS 5.5 6.5 7.7 Investments 5,001 5,001 5,001
Book Value 19.1 22.4 26.5 Net current assets 1,696 4,951 8,823
Dividend per share

10.9 2.6 3.1 Uses of Funds 15,476 18,147 21,290

Growth Ratios (%) Valuations
EBITDA 24.1 17.0 17.8
PBT 25.3 17.2 17.5 Price/BV (x) 8.2 7.0 5.9
EPS 23.7 18.9 17.5 EV/EBITDA (x) 19.1 16.1 13.4
Revenues 15.6 14.0 17.1
ROE (%) 29.9% 32.0% 31.8%
EBITDA

24.1 17.0 17.8

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Tata Motors TATMOT Buy 1,097

BHEL BHAHEA Buy 2,010

ITC ITCLTD Buy 171

Income Statement (` Cr) Balance Sheet (` Cr)

Income Statement (` Cr) Balance Sheet (` Cr)

Income Statement (` Cr) Balance Sheet (` Cr)

Income Statement (` Cr) Balance Sheet (` Cr)

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