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  • Diwali 2018: Top stocks to invest and monthly outlook

    Publish date: November, 2018

    The ongoing Indian calendar year, Samvat 2074, has been quite disappointing for equity investors with the broader markets ending up just 4% (till date). Especially, the past two months have been brutal for equity market investors with steep correction after crisis-ridden IL&FS defaulted on its interest payment, triggering liquidity concerns among non-banking finance companies (NBFCs). The overall fall in markets was also accentuated by many other adverse factors such as increasing crude oil prices, tightening of monetary policy by US Fed, trade wars between US and China, falling rupee and widening current account deficit in India. Two key factors (crude and currency) have turned favourable because of which Nifty has pulled back from the recent low of 10,000.
    We can break down the outlook for Samvat 2075 into two halves. The first half - six months from now till the Central elections could be challenging but will also provide opportunity for long term investors to accumulate stocks from long term perspective. The second half could be a function of election outcome and markets reverting back to earnings growth and valuations. We also need to monitor and factor in the global events and global outlook on an ongoing basis while making the investment case for Indian equities. Due to its sheer outperformance US markets now account for more than 60% of global market capitalization while the emerging markets account for just ~22%. Though most emerging markets have corrected sharply they still run the risk of any sharp correction in the US markets.
    Global trade war and risk of further rate hikes by Fed are bigger headwinds for global equity markets. Global growth has been very strong for last three years providing the platform for healthy equites returns, especially in the US markets. If the US-China Trade war escalates and simultaneously crude remains at elevated levels then it could lead to global slowdown which will have its impact on global equity markets. US may impose full 25% import duty on goods worth USD 200 bn (from Jan’19). If this materializes then there could be another round of currency depreciation in emerging markets led by China (allowing Yuan to depreciate Vs USD).
    On the domestic front, consumption and government expenditure have been the major drivers for economy in the last two-three years. Corporate credit offtake still remains weak even though capacity utilization rates have improved for Corporate India. Consumption growth could be more rural driven going forward, led by higher MSPs and governments focus on increasing rural income. Given tight fiscal conditions and weak macros it is difficult to assume very high government expenditure. Also the liquidity constraint being faced by NBFCs could lead to some kind of slowdown in credit offtake in the second half of FY19.
    Local flows through SIPs has been the main saving grace for equity markets in India at a time when FIIs have been consistent sellers. The flows into mutual funds is broad based and spread across various market-cap orientation whereas the FII concentration is mainly in the large caps and larger mid caps. We expect the SIP culture to continue which should provide cushion to markets in any major fall. Assuming 3-4% of annual household savings gets channelized into equities could mean annual local inflows of ~USD 15 bn into equities. FII flows will be a function of global bond yields, currency and outlook on emerging markets.
    Second quarter earnings season is underway and we can expect full year earnings downgrades to be higher than earnings upgrades. This along with reduction in valuation multiples could lead to downside revision in many stock prices. It is ideal to build in a 4-5% reduction in consensus estimates to derive at the realistic valuation of Nifty and Sensex. After witnessing a 10% correction from the peak, Nifty valuation has come down to 16.6x one year Fw earnings (closer to the 10 year average). Though Nifty valuations have come closer to the 10 year average the scope of any hefty re-rating seems less likely (considering the spread of Bond yield & equity yield).
    Based on Bloomberg consensus estimates, the one year Fw PE of Mid Cap Index has now come down to 16.3x as compared to 16.6x of Nifty. Similar to Nifty there could be earnings downgrade risk in the estimates of Mid Cap Index, which could be more visible after Q2-FY19 results.
    On a bottoms up basis risk-reward ratio has turned attractive for large parts of the Indian market. Bottom-up valuations are supportive for most parts of the market and earnings outlook reasonable which draws some comfort. However, from a top down approach there are still challenges and uncertainties that will create hurdles for the market. We expect India’s currency and interest rates to be stable if oil prices were to remain around USD 75/bbl. Since valuations have moderated for both Nifty and mid caps market could become range wide for some time.
    To summarize, we remain cautious on the market due to global factors and macro headwinds. Investors need to have bottoms up approach and pick & choose good quality, beaten down stocks from respective sectors. To weather the on-going volatility which may remain till middle of next year (i.e. till Central elections), it is ideal to have higher allocation into safer large caps and good quality mid caps (with strong management pedigree, strong earnings growth and reasonable valuations). One can re-access the situation and re-shuffle their holdings post-election outcome. The next few months would provide good buying opportunity for Long term investors. Conservative investors may spread their buying across the next few months to average out any rise or decline in the market.

    Global growth (to slow down in CY18/CY19)
    Global growth for CY18 and CY19 is projected to remain steady at its CY17 level, but its pace is less vigorous than projected in April 2018 and it has become less balanced. Downside risks to global growth have risen in the past six months and the potential for upside surprises has receded. Global growth is projected at 3.7% for CY18 and CY19 (0.2% lower for both years than forecast in April 2018 by IMF). The downward revision reflects surprises that suppressed activity in early 2018 in some major advanced economies, the negative effects of the trade measures implemented or approved between April and mid-September, as well as a weaker outlook for some key emerging market and developing economies arising from country-specific factors, tighter financial conditions, geopolitical tensions, and higher oil import bills.

    US GDP growth and rate hike
    US GDP grew at a solid 4.2% pace in the second quarter of 2018, its best pace since 2014, boosting hopes that the economy is ready to break out of its decade-long slumber. The growth rate for Q2CY19 is also the third-best growth rate since the Great Recession. The US economy continued with its juggernaut even in the third quarter of CY18 growing ahead of expectation at 3.5% (versus expectation of 3.4%). The next big question is whether the growth spurt sustainable. We believe that going forward, the pace of expansion will slow as the effects of tax cuts made by the government fades, companies pull back in the face of foreign tariffs, trade war and a strong dollar and the Federal Reserve raises interest rates further.

    US GDP growth (%)

    US Fed hiked the interest rates by 25 bps, each in June 2018 and September 2018 meeting (strikingly removed the phrase “accommodative” monetary policy after keeping it for years); and almost confirmed one more hike in December 2018 meeting. This will be followed by three more interest rate hikes in 2019 and two more hikes in 2020. By then, Fed rate is expected to reach 3.50-3.75%, the highest level at least in a decade. This should trigger further spiking of bond yields globally, as central bankers across the world can't stay back for long without coming off their respective accommodative monetary policies.

    US-China Trade war (to hurt global economy)
    Since January, a sequence of US tariff actions on solar panels, washing machines, steel, aluminum, and a range of Chinese products, plus retaliation by trading partners has complicated global trade relations. In September end the US slapped a 10% tariff on USD 200 bn of goods coming from China. In response China responded with duties on USD 60 bn on US products. If there is no resolution till end of December then the 10% duty levied by US on USD 200 bn of Chinese goods will go up to 25% from the first day of 2019. Moreover, if China retaliates then US President has vowed to impose duties on a further USD 267 bn in Chinese imports.
    A full-blown trade war could be very bad for global trade in 2019. IMF in its latest report has warned that the protectionist measures could hinder business investment, disrupt global supply chains, slow the spread of productivity-boosting technologies and raise the price of consumer goods costing global economy US$430 billion or 0.5% growth by 2020. It has cut its GDP growth projections of China for next year to 6.2% (down 0.2% from three months ago).

    Brent crude prices (could remain firm; Manageable up to USD 80/bbl)
    The International Energy Agency (IEA), in its October Oil Market Report has moderated its global oil demand outlook. IEA now forecasts a growth of 1.3 million barrels per day (mbpd) for 2018 and 1.4 mbpd for 2019, respectively, a reduction of 110,000 mbpd for both years from previous predictions. This is due to a weaker economic outlook, trade concerns, higher oil prices and a revision to Chinese data.
    Among the most important supply-side factors weighing on pricing expectations are US shale oil production, global oil reserves and OPEC oil supply. US oil production has increased steadily over the past five years, reaching a record high of 11.2 million barrels per day (mbpd) in October 2018. But infrastructure within the biggest US shale producing area, the Permian basin, has not kept pace with rising output. This indicates that shale production is not increasing in near term. Also, core OPEC members are not doing ‘everything it takes’ to fill in the gap in supply declines from Iran estimated at 3.5 mpbd. Deceleration in the global oil industry’s reserves and the reserve replacement ratio is also concerning. The global reserve replacement ratio, measured as total oil and gas discoveries relative to production, declined to 11 percent in 2017 from over 50 percent in 2012, according to energy research firm Rystad Energy.
    For India, crude prices between USD 70-80/bbl is manageable and the economy can absorb it. Key risk to India comes when crude price goes above USD 80/bbl and sustains above that for a longer period of time.

    Crude Oil Movement ($/barrel)

    After a good FY18, both in terms of policy reforms such as Goods and Service Tax (GST) and Insolvency & Bankruptcy Code (IBC) along with capital market performance, FY19 is turning out to be a weak year for Indian markets. Indian stocks are currently jostling weak emerging markets, rising global interest rates, higher oil prices, depreciating INR & increasing global interest rate. From the economy perspective, the country is currently experiencing stable growth & lower levels of inflation but rising current account deficit. Also the economy is weathering challenges like weak private sector capex, lower than estimated GST revenues and direct tax collections, slow disinvestment and estimated cut in government expenditure to contain fiscal deficit to target of 3.3%.


    Economic Indicators for India

    GST collections and fiscal mathematics - Fiscal Deficit to remain under 3.5% in FY19
    Total GST collection was at Rs 1,007 bn in October (compared to Rs 944 bn in September). The increase in the GST revenues can be attributed to the festive season sale (October could see similar collections) and may not sustain beyond it. For 7MFY19, CGST would be around Rs 2.6 trillion with unallocated IGST at Rs 128 bn. SGST would likely be around Rs 3 trillion. The number of returns filed in October was similar to that in September at 6.7 mn.
    We note that the required run-rate for the rest of F005919 is around Rs 1.24 trillion. The government has reiterated its commitment to stick to the budgeted GFD/GDP of 3.3%. However, the GST run-rate poses significant challenges to the fiscal math. The government is looking to bridge the shortfall through higher-than-budgeted (1) direct taxes (somewhat possible) and (2) divestments (difficult). We believe without reduction in revenue expenditure it will be difficult to stick to the budgeted GFD/GDP, which is important from a macro-prudential basis. We maintain our FY19E GFD/GDP at 3.5% factoring around Rs 500-600 bn of lower CGST revenue, under achievement of disinvestment targets and some reduction in capital expenditure.

    Monthly GST revenue

    Direct taxes collection could potentially surprise in FY19
    Net collections in direct taxes was reported at Rs.4.44 trillion in first half of FY19 (+ 14% YoY) and formed 38.6% of the annual budget estimate of Rs.11.5 trillion. This is in line with the trend of six-monthly collections in the last two years. We believe that the overall growth in direct tax collections for H1 FY19 is not so encouraging, despite the steep increase in the growth rate in Corporate Advance Tax collections compared to last two years.
    However, we are not too perturbed as this is due to massive tax refunds issued in H1FY19 till date. The government refunded Rs.1.03 trillion in 6 months, which is more than 90% of the entire refunds of FY19. The government in its recent statement continued to reiterate that it is extremely confident in meeting its direct tax collection target of Rs11.5trn.

    Direct tax collection of the central government

    Current Account Deficit
    The trade deficit has softened to USD 14bn in the month of September which though on the higher side is substantially below its recent trend of USD 17-18bn seen in the previous two months. For H1FY19, the combined trade deficit is at USD 95bn (vs. USD 77bn in H1FY18). Our institutional team has increased the FY9E CAD/GDP figure to 3.2% based on revised average crude price of USD 80/bbl.

    Trade Summary data

    INR to the USD (could range between 70 & 77)
    Indian Rupee will be driven by the following factors: 1) State of capital flows between developed markets and EM; 2) Domestic growth outlook; 3) Financial sector stability; 4) Political stability and 5) Oil prices. So far in 2018, improving growth outlook in America allowed Fed to become aggressive in monetary policy tightening and that along with trade war caused capital flows to reverse direction from EM towards US markets. If capital flows reverse direction from US to EM, led by slowdown in US economic growth, then Rupee can be a beneficiary of the rising flows into EMs and India. Oil prices can remain elevated due to strong global growth and tight global oil supplies, which can continue to be drag on Rupee. Therefore, in base case scenario, a range of 70-77 can be seen in the pair over the next 12 months

    INR vs. USD

    State elections – harbinger to general elections
    In October, Election Commission of India (EC) announced polling schedule for Assembly elections in five states - Chhattisgarh, Madhya Pradesh, Mizoram, Rajasthan and Telangana. Chhattisgarh will vote in two phases, other states will vote in a single phase. Counting of votes in all the five states will be done on December 11. Past results in upcoming elections in 3 states – Rajasthan has witnessed alternate government formations, while MP and Chhattisgarh have been ruled by BJP for the past 15 years. We believe these elections are important, as they will be seen as an indication of people's mood towards the ruling party and could also be a precursor to the upcoming general election scheduled somewhere in Apr-May’19.

    Summary of upcoming state elections in CY18

    Weakness in the NBFC space to continue in near term
    The default by IL&FS on SIDBI loans in August 2018 (probably first such default by any large Financial Institution in Indian history) lead to credit rating downgrade by 16 notches (from AA to D) by ICRA. The downgrade led to contagion effect on the sentiment of money markets as they have to provide for mark-to-market on downgraded financial instruments. It is important to note that, the total borrowings of IL&FS currently stands above Rs.900 bn (nearly 1% of the entire Indian banking industry loan book), and the default on SIDBI by them negatively impacted the debt and money markets, with significant liquidity crisis bringing back unpleasant memories of Lehman Brothers bankruptcy episode of 2008.
    In a scenario of weak liquidity in money markets, the first pockets that will come under pressure would be NBFCs in general and Housing Financing Companies (HFCs) in particular. The key concern of investors at this point is the rollover of CP/NCDs as mutual funds seem to have taken a cautious stance on NBFCs. The current concern of debt markets largely pertains to wholesale and developer loans. While larger NBFCs may be able to manage liquidity challenges, the focus will shift to their ability to manage ALM in light of any new regulations that might come in from the regulator. Large NBFCs with strong parentage and retail focus will be best placed to ride this tough conditions.

    Summary of what is in favor of Indian equities?
    Slowing inflation (RBI may not hike rates in December 2018)
    Central Bank committed to keeping real rates positive
    A low and falling beta, which augurs well in a weak global equity market environment
    IMF expects India’s GDP growth at 7.3% in 2018 and 7.4% in 2019
    Strong domestic flows (SIP accounting for ~2/3rd of US$1.5 bn monthly flow)
    Progressive reforms (GST compliance expected to improve as rates come down)

    Summary of what is against Indian equities?
    Rising crude oil prices, which could put pressure on growth
    Depreciating Indian Rupee making imports costlier
    Weak Current Account Deficit threat to Fiscal Deficit
    Pre-election period which brings in a lot of uncertainties
    Increasing equity risk premium due to rise in bond yields
    Relatively rich mid-cap valuations (even after the recent drawdown)

    Corporate earnings (expect downgrades to future estimates)
    During 2014 to 2017, India benefited from strong macros (with very low Crude oil prices, comfortable levels of inflation, under-control dual deficits and benign interest rate scenario with accommodative monetary policies across the world). However, Indian micro scenario in terms of corporate earnings was not that comforting during this period with low single digit corporate earnings growth and multi-decade low levels of bank lending growth. However, starting FY18, while macros have started to face headwinds, there is a clear uptick in Indian corporate earnings. As per equity master, BSE 200 companies (excluding banks) reported sales growth of 14.1% in Q1FY19 and earnings growth of 9.8% YoY.

    Quarterly corporate earnings (BSE 200 Cos. excluding banks)

    Q2FY19 earnings has not started on a healthy note due to higher crude prices and depreciation of INR. Our Institutional team (KIE) expects 2Q-FY19 earnings of their coverage to be flat on a YoY basis. KIE is building in Nifty earnings growth of 18% in FY19E and 24% in FY20E. Based on Bloomberg Consensus earnings growth of Nifty works to 16% in FY19E and 21% for FY20E. The consensus EPS estimates of Nifty works to Rs.575 for FY19 and Rs.693 for FY20.

    Domestic flows (expected to remain strong in Samvat 2075)
    Larger awareness, discipline & stability in investments, small ticket investment size (investments can be as small as Rs.500 per month) and attractive past returns have resulted in strong investments in mutual funds through the SIP route. Recent data from AMFI highlighted that, contributions to SIP’s in 1HFY19 was reported at Rs.444.9 bn (+52% YoY). We expect the trend to continue over the next one year, providing the required support to Indian markets in any major fall. On a broader basis if we assume 3-4% of household savings to go into equities (which is the historical average) then annual inflows could average ~USD 15 bn. The flows many not be linear but over longer periods the average should reflect.
    YTD in this calendar year FIIs have sold stocks worth USD 5.7 bn whereas domestic Mutual Funds have bought stocks worth USD 15.92 bn. Other emerging markets like S.Korea, Taiwan, Indonesia & Thailand have seen YTD outflows ranging between USD 4bn to USD 10 bn.

    FII & Mutual Fund investment (Rs cr)

    DII investment vs. SIP flow (Rs bn)

    Nifty: 1 Yr forward PE chart

    Mid Cap Vs Nifty Valuations (1 Yr Fw PE chart)

    MSCI India VS MSCI EM (1 Yr FW PE Chart)

    We prefer the following sectors in SAMVAT 2075

    Banks (prefer large private sector banks)
    We believe that the IL&FS default (leading to low liquidity levels in the system) and rising interest rates in India will make it tougher for wholesale- funded institutions to raise capital. Funding cost for wholesale funded institutions is increasing – which will hamper growth, margins and potentially asset quality. The imminent slowdown in NBFC growth should benefit large private banks, which were constrained by liability growth trailing asset growth. The RBI's move to ease the mandatory liquidity coverage ratio (LCR) requirements for banks should further improve liquidity for banks. We expect large banks to accelerate loan growth and improve spreads (both assets and liabilities) over the next three years.
    Consumption (FMCG: strong volume growth & outlook)
    For FMCG (1) trade conditions have normalized across channels, (2) they are witnessing gradual improvement in demand and positive trend in urban and rural growth. Rural growth has outpaced urban demand; (3) have favourable GST regime ;( 4) are experiencing soft commodity prices and may exhibit margin expansion in H2FY19; (5) Management commentary has been positive. We expect most of the companies in the consumer space to report strong numbers in FY19.
    Consumer Durables (Big beneficiary of GST rate reduction)
    The growth in the Indian consumer durables industry continues to be driven by rising penetration. As the impact of various new initiatives (reduction in GST rates) by the Government start reaching to the larger population, we clearly see the aspiration of better living driving up demand for discretionary products like durables. E-commerce platforms have emerged as key catalysts by providing access beyond traditional distribution channels. We remain positive on room AC market, though in the near term there are challenges in terms of excess inventory and cost pressures.
    Information Technology (Currency to aid earnings growth)
    We remain positive on the Indian IT sector despite the outperformance of Nifty IT index till date in CY18. Companies are witnessing a pickup in growth in FY19 and are pricing in modest acceleration in FY20. The faster growth shown by midcap IT companies till now was mainly due to smaller base and lower exposure to legacy business. But going forward as industrialization of digital picks up, we believe large Indian IT companies and select midcap companies will be in a better position to capture market.
    Metals (larger players are better positioned)
    For ferrous, we believe that Improving domestic demand and strong macro factors should drive volume growth. This coupled with resolution on NCLT asset & expansions should drive incremental supply (top players to benefit as they gain incremental market share). Raw material prices are expected to be favorable (spreads to sustain). On the non-ferrous front, we believe aluminum stands to gain compared to other base metals, backed by supply disruption in China and increase in cost push. Expectation of higher government spending on infra in a pre-election year might giving some respite to domestic demand and prices, which could augur well for domestic metal companies.
    Oil and Gas (bullish on natural gas space)
    We estimated crude to be in the range of US$80 to $90 per barrel amidst uncertainties of increase in supply from Shale and OPEC, disruption of supply from Iran and strong global demand for crude. Higher crude prices and depreciating rupee is positive for upstream oil companies (like ONGC). However it is negative for Oil marketing companies (OMCs) in an election heavy year. This was also reflected in Rs.1/ltr cut in the retail fuel price and OMCs were asked to bear the burden, raising questions on deregulation of the sector and earnings uncertainty for OMCs. In the oil and gas space, we are bullish on the natural gas sector mainly because of better cost economics, government thrust on less polluting fuel, and increasing RLNG capacity.
    Pharma (Under owned with improving prospects)
    The sector should report improved earnings growth in the next one year driven by good specialty and complex approvals in US, decreasing compliance risk in the US, INR depreciation and strong prospects of the domestic market. The under-ownership of the sector also should correct as we move ahead.

    Fundamental Diwali picks – Samvat 2075

    Performance of our Fundamental Diwali picks of last year (Samvat 2074)

    ITC Ltd

    Investment Argument

    Cigarette volume increased by 7% in Q2FY19, which saw a significant improvement from 1% growth in Q1FY19 (and -7% in Q2FY18).
    EBIT growth in hotels (+267%, off a low base) and other FMCG (Rs 585 mn versus Rs 205 mn in 2QFY18) was encouraging and so was the EBIT performance of the paperboards (+13% YoY).
    For Agri business, ITC management has highlighted stable demand environment with visible signs of recovery, especially in the rural markets.
    In Personal care, the recently acquired ‘Nimyle’ range of herbal floor cleaners was extended to new markets even as it recorded robust growth in existing markets
    The stock is reasonably priced with cigarette business trading at sub-20X implied PE.
    We remain positive; ITC is the only large-cap stock in the sector where the current valuations factor in a less-than-super-optimistic view of the future.
    We value the cigarette business at 24X post-tax EBIT and the FMCG business as 5X EV/sales.


    Maruti Suzuki India Ltd

    Investment Argument

    We believe MSIL’s capacity will be booked for next three years as volumes can grow at 10%CAGR over this period.
    Gujarat plant will stabilize over the next one year, which will lead to improvement in EBITDAmargin for the company.
    Company indicated that once they reach production of 750,000 units in Gujarat, vendorlocalization levels will reach at Gurgaon levels, this could add 100 bps to the EBITDA margin.
    Raw material imports are 18% of sales in 2QFY19 (5% is direct imports and 13% is indirectimports). 5.7% of sales is royalty cost. 7% of net sales are exports. 60% of royalty paymentsare in JPY now and the rest 40% are in INR.
    The company added 315 new dealers in FY2018; of this, 140 dealers were added for thecommercial vehicle segment where Maruti has around 190 dealers currently.
    The company is guiding towards capex of Rs50 bn in FY2019E, which will be incurred towardsengine capacity expansion, product development, R&D, maintenance expenses and Rs10 bnspend towards acquisition of land for dealers.


    Vedanta Ltd

    Investment Argument

    The company’s zinc volume growth is expected to increase from 2HFY19 onwards led by commissioning of mines in India/RSA in 2Q/3QFY19—we expect strong increase in zinc earnings from 2H.
    We expect strong improvement in VEDL’s zinc earnings in 2HFY19 led by (1) ramp-up of Gamsberg project—VEDL expects 75 kt of volumes in 2HFY19 at low production cost of US$800-1,000/ton, (2) increase in Skorpion, BMM volumes at Zinc International as 1H was impacted by higher waste mining, low grades—this should aid in significant reduction in costs too.
    VEDL’s net-debt declined to Rs264 bn in September 2018 from Rs299 bn in June 30, 2018 (this excludes buyer’s credit of US$700-750 mn).
    The company earned operating cash flows of Rs38.9 bn during 2QFY19 while cash flows were also aided by working capital release of Rs23 bn. The capex for the quarter was Rs25.5 bn.
    VEDL expects FY2019E capex at US$1.5 bn largely towards oil & gas and zinc operations. The capex in FY2020E can increase to US$1.8 bn due to US$600 mn expected investment for Electrosteel Steels expansion and Lajigarh refinery expansion to 4 mtpa.
    The company declared interim dividend of Rs17/share.


    ICICI Prudential Life Insurance

    Investment Argument

    An underpenetrated market, an increasing share of financial assets in savings along withmarket leader LIC ceding market share lend long term structural growth to India’s privatelife insurance sector
    Strong bancassurance model – ICICI Prudential Life has substantial backing from ICICI Bank,with the banking channel contributing more than 50% of Annualized Premium Equivalent(APE)
    Persistency ratio has improved markedly across all buckets driven by improved sellingpractices, with 13th month persistency at 87.8% in FY18 (vs 82.4% in FY16) and 61st monthpersistency improving to 54.8% in FY18 from 46% in FY16
    ICICI Prudential Life has historically employed a ULIP heavy strategy, with ULIPscontributing 84.1% of FY17 APE. However, protection business APE was 7.7% of total APEin 2QFY19 (from 3.9% in FY17); illustrating management’s focus on sustaining momentumin the higher margin protection business


    Jubilant Foodworks Limited (JUBI)

    Investment Argument
    JUBI opened 23 net new Domino’s stores in Q2FY19 taking total count to 1,167. Storeexpansion pace has accelerated and is in line with management guidance of 75 stores inFY19
    SSG remains the single-most important variable that will determine the broad shape ofJUBI’s financials and the management is confident of continuously improving the same.
    The company is currently witnessing inflation in fuel and manpower costs, however RM costsenvironment (especially dairy products) is favorable. Additionally, there could be costsavings from ongoing productivity improvement program.
    Dunkin donuts (DD) drag on margins reduced to 50 bps for 2Q from 55 bps in 1QFY19. Thecompany reiterated it is on track for DD breakeven by 4QFY19E. It has also indicated thatongoing re-branding of Dunkin Donuts in the US would not impact India.
    Regarding anti-profiteering investigation, management informed that investigation ispending and it expressed confidence that its argument will be accepted.


    Quess Corp Ltd

    Investment Argument
    Quess, India’s leading integrated business service provider, has an exceptional financial trackrecord - Sales/PAT grown at a CAGR of 56%/110%, respectively during the last seven yearssupported by both organic and inorganic growth.
    The company alluded its focus on execution and balance sheet management to boost itslong term earnings growth.
    Operating margin improvement will be supported by better product mix, improvement inoperations of DIGIMAX solutions, turnaround of Monster and other efficiency improvement.The company expects an operating margin of 6% by Q4FY19end. Further, in the medium tolong term margin, it expects operating margin to improve to 8%.
    The staffing industry requires minimal capital investment but sees disproportionate increasein profitability and return ratios on gaining scale/volume. The company’s management isstrategically focusing on client acquisition, mining existing clients (catering wider services toexisting clients) to achieve scale and improving operating level efficiency.


    Supreme Industries Ltd

    Investment Argument
    Supreme Industries Ltd (SIL) is one of the major players in the plastic pipes business withestablished brand equity and diverse presence across other business segments such aspackaging, industrial products, plastic furniture, etc.
    SIL has track record of generating high ROCE of ~30-35% with low debt/equity and strongpositive operating cash flows driven by 1) efficient utilization of assets 2) diverse productsmix with increasing share of high margins value added products 3) better working capitalmanagement v/s its peers.
    SIL management has guided for 10% growth in volume with 14.5-15% EBITDA margin inFY19E driven by robust plastic demand across most of the segments and increasedcontribution from high margin value added products.
    SIL is increasing capacity across segments which would help in maintaining volume growth.It is adding 50,000 tonne per annum capacity every year in FY19E-FY21E with total capex ofRs 12-13 bn funded largely through internal accruals.
    The company is positive on composite cylinder business and expects order from domesticas well as international market in FY19E.
    We expect earnings to grow at faster pace in the longer run on improved volume growthoutlook for the company, focus on increasing share of value added products and its abilityto pass on increase in raw material prices.


    Definitions of ratings

    BUY - We expect the stock to deliver more than 12% returns over the next 12 months
    ACCUMULATE - We expect the stock to deliver 5% - 12% returns over the next 12 months
    REDUCE - We expect the stock to deliver 0% - 5% returns over the next 12 months
    SELL - We expect the stock to deliver negative returns over the next 12 months
    NR - Not Rated. Kotak Securities is not assigning any rating or price target to the stock. The report has been prepared for information purposes only.
    RS - Rating Suspended. Kotak Securities has suspended the investment rating and price target for this stock, either because there is not a Sufficient fundamental basis for determining, or there are legal, regulatory or policy constraints around publishing, 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.
    NOTE - Our target prices are with a 12-month perspective. Returns stated in the rating scale are our internal benchmark.

    Rating scale for 1 month portfolio

    Benchmark - Nifty
    Time horizon - 1 month
    Short term buys - Stocks expected to outperform the benchmark Nifty in the said time horizon

    Ratings and other definitions/identifiers
    Definitions of rating

    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 Our target prices are also on a 12-month horizon basis.

    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.

    Rusmik Oza
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    Arun Agarwal
    Auto & Auto Ancillary
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    Amit Agarwal
    Transportation, Paints, FMCG
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    Information Tech, Midcap
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    Kotak Securities Limited established in 1994, is a subsidiary of Kotak Mahindra Bank Limited. Kotak Securities is one of India's largest brokerage and distribution house.
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    Kotak Securities Limited is also a depository participant with National Securities Depository Limited (NSDL) and Central Depository Services (India) Limited (CDSL). Kotak Securities Limited is also registered with Insurance Regulatory and Development Authority as Corporate Agent for Kotak Mahindra Old Mutual Life Insurance Limited and is also a Mutual Fund Advisor registered with Association of Mutual Funds in India (AMFI). We are registered as a Research Analyst under SEBI (Research Analyst) Regulations, 2014.
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    We and our affiliates/associates, officers, directors, and employees, Research Analyst(including relatives) worldwide may: (a) from time to time, have long or short positions in, and buy or sell the securities thereof, of company (ies) mentioned herein or (b) be engaged in any other transaction involving such securities and earn brokerage or other compensation or act as a market maker in the financial instruments of the subject company/company (ies) discussed herein or act as advisor or lender / borrower to such company (ies) or have other potential/material conflict of interest with respect to any recommendation and related information and opinions at the time of publication of Research Report or at the time of public appearance. Kotak Securities Limited (KSL) may have proprietary long/short position in the above mentioned scrip(s) and therefore may be considered as interested. The views provided herein are general in nature and does not consider risk appetite or investment objective of particular investor; readers are requested to take independent professional advice before investing. This should not be construed as invitation or solicitation to do business with KSL. Kotak Securities Limited is also a Portfolio Manager. Portfolio Management Team (PMS) takes its investment decisions independent of the PCG research and accordingly PMS may have positions contrary to the PCG research recommendation. Kotak Securities Limited does not provide any promise or assurance of favourable view for a particular industry or sector or business group in any manner. The investor is requested to take into consideration all the risk factors including their financial condition, suitability to risk return profile and take professional advice before investing.
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    Kotak Securities Limited has financial interest in the subject company(ies) at the end of the month immediately preceding the date of publication of Research Report: Yes
    Our associates may have actual/beneficial ownership of 1% or more securities of the subject company(ies) at the end of the month immediately preceding the date of publication of Research Report.
    Research Analyst or his/her relatives has actual/beneficial ownership of 1% or more securities of the subject company(ies) at the end of the month immediately preceding the date of publication of Research Report: No.
    Kotak Securities Limited has actual/beneficial ownership of 1% or more securities of the subject company(ies) at the end of the month immediately preceding the date of publication of Research Report: No
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    Kotak Securities Limited. Registered Office: 27 BKC, C 27, G Block, Bandra Kurla Complex, Bandra (E), Mumbai 400051. CIN: U99999MH1994PLC134051, Telephone No.: +22 43360000, Fax No.: +22 67132430. Website: www.kotak.com/www.kotaksecurities.com. Correspondence Address: Infinity IT Park, Bldg. No 21, Opp. Film City Road, A K Vaidya Marg, Malad (East), Mumbai 400097. Telephone No: 42856825. SEBI Registration No: NSE INB/INF/INE 230808130, BSE INB 010808153/INF 011133230, MSE INE 260808130/INB 260808135/INF 260808135, AMFI ARN 0164, PMS INP000000258 and Research Analyst INH000000586. NSDL/CDSL: IN-DP-NSDL-23-97. Our research should not be considered as an advertisement or advice, professional or otherwise. The investor is requested to take into consideration all the risk factors including their financial condition, suitability to risk return profile and the like and take professional advice before investing. Investments in securities market are subject to market risks, read all the related documents carefully before investing. Derivatives are a sophisticated investment device. The investor is requested to take into consideration all the risk factors before actually trading in derivative contracts. Compliance Officer Details: Mr. Manoj Agarwal. Call: 022 - 4285 8484, or Email: ks.compliance@kotak.com.
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