Category Archives: Uncategorized

Uday Kotak’s Letter to Shareholders

Key takeaways:

1) At the peak of global financial crisis, Fareed Zakaria asked me a question at the WEF in Davos – What is a good bank for the future? My answer was, a good bank needs 3 human qualities : prudence, simplicity and humility.

2) Unlike 2009 which was a V-shaped capital markets led recovery, I believe that this time around capital markets may not fund the real sector companies easily but instead fund the banks who may have to hold the can for the real sector. It is here that banks have to ask themselves whether their core business is lending or taking equity risks for debt rates of return.

3) On interest rates, I believe there will be a gradual reduction in cost of funds and lending rates. Reduction of deposit rates of say one year below 8% is a challenge. Particularly so because rates in small savings schemes continue to be above 8%.

4) On the other hand, bond markets are more benign and they will to some extent, enable recapitalization of banking system as a counter force to credit stress.

5) Three significant areas of opportunity:
   i) Digital
   ii) Affluent customers
   iii) Non urban areas (i.e any place outside top 50 cities)

6) New Banks : How will they affect us? They will increase the pace of competition for talent and customers. However, going by our experience of last 10 years, banking, particularly on the retail side, is much long haul than we expected when we began our journey. With increasing complexity, I wonder whether we would have plunged into banking today as decisively as we did 10 years ago.

Finolex Industries- Growth cum Deleveraging play

You may have a look at the profile and financials of the co’ here 

Going forward, this is what the management says about FY14.

In FY13, other expenses shot up by approx. 100crs and finance cost came down by 24crs. Major portion of the other expenses was towards settlement of derivative losses.

Q4 of FY13 indicates how FY14 might shape up. Company ended Q4 with an EPS of Rs 6.39. So if we assume raw-material prices to remain stable and interest cost to fall by 15-18crs, Finolex may end up FY14 with an EPS of around Rs 18 and with the co’ paying out 50% of its earnings as dividend, ROE shoots up to 24%. So despite the sharp run up in the stock price, there is scope for another 30%+ price appreciation. Not considering sale of land parcel.     

Arshiya International: Connecting Business Model & Leverage

This post is basically a writeup to make sense of the significant debt of Arshiya. The common view among Investors is “I like the business model of the company but not the stock due to high leverage”.

Let’s start with the business model of Arshiya. One can refer to this excellent presentation by the company on the same. The company plans to open FTWZ across different parts of the country i.e In Panvel (West), Khurja (North), Nagpur (Central) and Chennai (South). Panvel FTWZ is partly operational (5 warehouses) and expected to be fully operational by June’13. Khurja FTWZ is partly operational (3 warehouses) and expected to be fully operational by the end of FY14. Company is in the process of acquiring land in Nagpur.

Arshiya’s stock price has not gone anywhere this year as earnings have been stable for four consecutive quarters (around Rs 35crs) as Depreciation and Interest expenses increased more than the EBIDTA. But one should look at the QoQ growth in EBIDTA and it has grown by around 16% for past two quarters and margins have grown from 26% to 29%. FTWZs have strong EBIDTA margins of 70%+. Once Panvel and Khurja FTWZs are fully operational, the overall margins can shoot to 35%+ which will ensure earnings increasing more than depreciation and interest expenses. Management is trying to contain expenses wherever possible. For example, they entered into lease agreement with GATX for rakes and conversion of rupee loan of Rs 300crs into dollar loan which acts as a natural hedge since income from FTWZ are in foreign currencies. Link for Q2FY13 Investor updates.

One of the concerns of the investors have been the high equity dilution (23%) recently through issuance of warrants to promoters. The fact that the issuance is not to an ‘outsider’ and the return on equity isn’t diluted mean the concern is unwarranted. Promoters have already converted 22.5% of the total issue. Its a case of promoters being more optimistic on its business than shareholders. Enterprise value stands at Rs 3335 crs with Equity (at current price of Rs 122) being Rs 885 crs (assuming full conversion of warrants) and Debt of Rs 2450 crs. My sense is incremental debt should be minimal going forward as funds raised through warrants and cash generated from ongoing projects once fully operationalized should be sufficient enough for capex of Nagpur FTWZ.

I think at 4x FY14 earnings, debt is discounted more than required. Considering the business model, competitive advantage and growth, Arshiya’s stock should possibly trade atleast 6x earnings or 1x P/BV for a 16% ROE going forward assuming no additional dilution. Such stocks generally does well in a bull market and declining interest rates scenario which hopefully will pan out over the next one year.

Kenneth Andrade – Peter Lynch of India?

Updated as of 29th June,2014

One can argue whether he deserves the tag or not or its too early to attach the tag. Hence the Question mark in the title.

Kenneth manages popular fund IDFC Premier Fund. Premier Fund’s AUM has grown from around 200crs in 2006 to around 4400crs currently. Fund has delivered 20%+ CAGR since launch and 15%+ over last 3 years. Had he not went overboard on PSU stocks in 2012, his fund would have been in top quartile now.

Let’s look at some of the portfolio’s holdings. I tried to find out the avg. purchase price through bulk deals and avg. qtrly price found earliest in the shareholding pattern.

Strides Arcolab -» Had first acquired 4.38 lac shares @ 63 in Feb’09. Almost 15 bagger now. Exited.

Bata India -» Avg. price of 100 during the Dec’08 Qtr. That’s around 12 bagger in 5 and half years!

Page Industries -» Avg. Price of 400 during the June’07 Qtr. 18.5x now. 10%+ dividend yield on top of that.

Kaveri Seeds -» Avg. price of Rs 50 (adjusted for split). Around 14.5x since first entered.

VST Industries -» Acquired 2.22 lac shares @ 575 during Oct’10. More than 3x now. Exited.

Blue Dart Express -» Acquired 1.82% stake at an avg. price of 650 during the June’08 quarter. 6x now.

MRF ->> Avg. Price of Rs 10,000 during the Sept’12 Qtr. 2.3x now.

Coromandel International ->> Avg. Price of Rs 75 (adjusted for split) during Sept-Dec’08 Qtr. Around 3.5x now.

Doubled his returns in Hexaware and e-clerx. Both exited.

Other holdings like Asian Paints,GSK Consumer and STFC have delivered steady returns.Exited.

Pantaloon and IRB Infra are among the few stocks which didn’t played out for the fund.

P.S. Fine. We will attach the tag after the next bear market!

Disclosure: Have vested interest in the fund.

MT Educare : Quality Education Franchisee

You can read about the business model from here

What I like about the company :

1) Scalability. The company has grown at a revenue CAGR of 21% and Profit After Tax of 68% over the last 4 years. I believe they should continue to grow at the same pace in terms of revenues while earnings should be lower at around 40% over the next 2 years. They just have to increase capacity utilisation and some growth should come from new centers, pre-university tie-ups and IIT-JEE preparation courses.

2) Return ratios (ROE/ROCE) are impressive at around 30% though it should be lower this financial year due to the dilution of IPO.

3) The management has announced 50% dividend payout with dividend to be declared half-yearly.

4) Negative Working Capital as you can see in the investor presentation

5) Management wants to be asset-light as far as capex is concerned as one can read in this interview of the promoter Mahesh Shetty.

6) Coaching is a competitive business in Mumbai (Company derives major revenues from here) but still I observe most of the “branded” coaching institutes in Mumbai are able to increase fees by Rs 500-2000 per student every year depending on the stream/course.

At CMP of Rs 103 (Market Cap of 400crs), it trades at 16x FY14 earnings so not cheap from any perspective for its size but for a company with above features, it won’t come cheap. If it does, load on!

Importance of ROE

Kiran (@_kirand) wanted me to do a post on my fascination with the ROE ! I hope this post benefits other retail investors too.

Return on Equity (ROE) basically is Profit after tax/Shareholders Funds * 100 OR EPS/Book Value * 100. Numerator is a part of P&L statement and denominator part of Balance Sheet.

In DuPont analysis which breaks the component of ROE,

ROE = Net Profit Margin*Asset Turnover*Equity Multiplier

i.e ROE = (Net Profit/Sales) * (Sales/Assets) * (Assets/Equity)

In other words, it is a function of profitability,operating efficiency and financial leverage.

A Company cannot grow its earnings over the long term greater than its ROE. Either it has to raise debt or dilute equity. One reason why banks keep raising money through equity every 3-4 years. Even the retailers and most of the infrastructure players.

ROE can be boosted by debt taken at lower interest rates. Textile Companies get loan at subsidised rate of interest of around 7% or companies with forex loans. So the narrower the gap between ROE and ROCE, the better it is for shareholders. Even better would be ROCE > ROE which will be possible if a company doesn’t have any debt and/or negative working capital.

Small Equity base also helps to enhance ROE (Hawkins Cookers is a case in point, 0.5cr shares and payout of 60% so addition to denominator is minimal). All other things remaining constant, a Company doing buyback will result in ROE expansion.

ROE should always be looked in conjunction with dividend payout ratio. Higher the payout ratio, higher the ROE, higher the probability of PE re-rating and hence higher the stock price! Money would be made from earnings growth but wealth created from PE re-rating. Many stocks continue to be cheap inspite of high ROE simply because of low payout. Markets tend to doubt the genuineness of numbers if the payout is low.

PE re-rating (P/BV in case of banks) doesn’t necessarily come from ROE expansion. Scarcity value can also help in PE Re-rating. Look at HDFC Bank or for that matter consumer facing companies stock performance over the last few years. As they say Good things are rare and they don’t come cheap in life.

PE ratio can expand to a certain level after which stock price track earnings growth. So to assume HDFC Bank can deliver more than 18-20% returns from here would be unrealistic.

Companies having strong ROEs tend to fall less compared to others in a bear market. One would have seen ITC,Nestle and Infosys falling 18-20% while the index fell 50% in 2008.

I always admire management focused on ROE/ROCE. Blue Star, Crompton Greaves, Kotak, Titan to name a few (Read the Chairman’s letter of these co’s in their Annual Report to know why).

P.S. Special thanks to Mr. Basant Maheshwari from whom I learned the importance of ROE.

Geometric MD’s Letter to the Shareholders

Dear Shareholders,

Last year, we began a journey to Transform Geometric. I would like to spend most of this note talking about what this means for the Company and its shareholders,especially how this will play out in the current fiscal.

When I was asked to take up the responsibility of leading Geometric again on the 8th of April,2011, I spent a considerable amount of time meeting customers to understand their needs and expectations, while assessing how Geometric met these needs.

What became apparent is that our Company is blessed with a growing market. The engineering space has traditionally been a laggard when it came to outsourcing. Much of engineering was considered ‘core’ to any manufacturing company, and hence, not open to ‘outsiders’. This is changing slowly but surely. Companies are being driven to consider newer approaches by macro factors such as demographics, demands of markets in emerging economies, competition and technology. Indeed, the major PLM technology providers themselves, barring calendar 2009, have had stellar years with growth in double digits. So the addressable market is doing well and growing.

The question therefore is why has Geometric been unable to grasp this opportunity in its entirety. My analysis is that as a Company, we were unprepared to meet these growing needs. Our approach was based on “tell us what to do and we will do it.” Our cost structure was not competitive enough and we were too internally focused in terms of our organisation structure. Finally, our approach did not take into account the growing demand by customers for vendors to support them globally and not just in one country. 

We therefore sought the services of a leading management consultant to help us benchmark ourselves with respect to competition and global needs, at the same time helping us prepare a focused action plan. The exercise began in earnest in Oct’ 2011 and will continue throughout this year. The initial part of the exercise focused on costs, a necessary element to build momentum for change, while creating a pool of savings, which we could invest to fund our future growth.

In FY12, we sought to better integrate our software services and engineering services businesses with a view to enabling greater collaboration within the organisation and offer end-to-end services to our customers. I’m glad to say, this has led to an increase in cross-selling. While we saw continued growth in our key verticals, viz: automotive and industrial; last year also witnessed increased traction in other industries like aerospace,ship-building and oil and gas.

So what should shareholders expect at the end of FY13? I thought it important to laydown certain specific expectations for Geometric excluding our joint venture so that you can better judge how we, the management have performed in the next twelve months.

  1. Cost of Revenue (%) : In constant currency terms, we need to see that cost of revenue continues to see an improvement,despite increases in salary. This will signify continued improvement in pyramid management and more importantly, improvement in quality/productivity.
  2. G & A Costs: As a % of revenue these should decline by atleast 2% points, despite increase in space occupied due to an expansion in manpower.
  3. Scalable growth: We must see atleast 15% growth YoY on an average from our existing top-10 clients (excluding 3DPLM). By our fourth quarter, the run rate on the growth YoY for the comparable quarter should have exceeded the average signifying we have improved our traction.
  4. Target accounts: While we may not be able to share the names of new or very recent accounts, we have targeted for growth, ten key accounts from which we will generate dollar revenues of several million in the current fiscal. 
  5. Attrition: We have been losing talent at a rate slightly above that of the industry. By the last quarter, the attrition should be atleast 1-2% lower than the industry average as widely circulated.

There is however one caveat. Today, the uncertainty caused by the economic environment continues. For example, the Euro Zone remains a cause for concern and it is very clear that any upheavel in Europe will have global consequences. While, in my view, such a calamity will not affect the long term trend, it certainly will affect our performance in the current year. Nevertheless, the approach we follow will help us build a scalable enterprise, and will, therefore, be important over the longer term.


Manu M. Parpia

Managing Director & CEO

My view: If the management delivers on the above, then I think earnings should grow by atleast 25% in the current year which means at around 6.2x with 40% ROCE (in FY12) and improving payout ratio, the stock looks cheap.