A Research Report on Value Investing

A Research Report on Value Investing

By Mohnish Motwani v.e.s.i.m.s.r

ACKNOWLEDGEMENT

“Let us rise up and be thankful, for if didn’t learn a lot today, at least we learned a little, and if we didn’t learn a little, atleast we didn’t get sick, and if we got sick, atleast we didn’t die; so, let us all be thankful” Buddha I personally learned a lot in this very little time, so would like to thank all those who made this project possible. I would like to thank my college coll ege for giving me an opportunity to work on this topic. I would also like to thank my Project mentor Mr.Hemant Joshi for spending his valuable time with me and giving me his valuable insights and perspectives which greatly enhanced this project. Also I would like to thank Mr. Nupur Gupta who guided me throughout the project and helped in successful completion of the project.

Regards, Mohnish Motwani MMS (Finance) V.E.S.I.M.S.R

Executive Summary

Will Rogers once gave a very famous quotation that "I am more concerned about the return of my money m oney than the return on my money.” This seems to be the biggest concern for all the investors in the current scenario. Therefore today in this kind of market, instead of focusing on how much money we can make in the stock market, investors should focus rather on how not to lose money in the stock market. And if we start doing that, if we start becoming obsessive about not losing money in the stock market we will automatically start making decisions which will help us to make money in the stock market. This approach is well explained by the investment paradigm known as ‘ Value Investing’.

Value investing is the most conservative way to invest your money as value investing is all about curtailment of risk, how not to lose money in the market. Therefore this report tries to throw some light over the concept of value investing. The report is divided into two partsFirst section starts with some insight on value investing, its principles and strategies. Then it speaks about the two most notable value investors starting with ‘ Benjamin Graham’ who gave us the concept of value investing in the year 1928 and was known to be the Father of value investing . Later the section speaks about ‘ Warren Buffet’ who is the best investor in the world and also known to be the best student of Benjamin Graham. Second section presents an Investment argument on 5 stocks from different sectors which have selected after eliminating 45 stocks using value investing principles and strategies. It also gives a detailed summary on the basis of selection of these stocks.

Index

Topic Acknowledgement Executive Summary Section 1 – Value Investing Introduction Explaining Value Investing A note on Benjamin Graham Investment Principles of Benjamin Graham Examples of value investments A note about Warren E. Buffett Warren Buffett’s Investment Philosophy Buffett’s Tenets Section 2 – Research Reports Value Methods Selection of stocks using filters 1. ITC LTD 2. Bank of Baroda ltd. 3. Reliance Communication ltd. 4. Lupin Pharmaceuticals ltd. 5. Praj Inds ltd Bibliography

Page No. 2 3 6 7 10 11 14 16 17 19 22 24 28 37 43 49 59 65

Section 1- Value investing

Introduction PROBLEM

To select a stock for investing which is really value buy in this current market scenario and which will be least affected from the recession and give a good return in the long term. AIM

The aim of this project will be to carry out an analysis of 5 selected sectors and suggest one stock from each sector which will provide high return to the investors on their investments. Value investing model will be used to identify such stocks. METHODLOGY

1. Explaining the concept of value investing. 2. A note about Benjamin Graham & his investment principles. 3. A note about Warren Buffett & his investment philosophy 4. Selecting 5 different sectors which contain 10 stocks each. 5. Applying value method filter on this stocks and finally selecting 1 stock from each sector. 6. Preparing equity research report of those 5 stocks.

Value Investing What Does V alue Investing Mean? The strategy of selecting stocks that trade for less than their intrinsic values. Value investors actively seek stocks of companies that they believe the market has undervalued. They believe the market overreacts to good and bad news, resulting in stock price movements that do not correspond with the company's long-term fundamentals. The result is an opportunity for value investors to profit by buying when the price is deflated. Typically, value investors select stocks with lower-than-average price-to-book or price-to-earnings ratios and/or high dividend yields. The big problem for value investing is estimating intrinsic value. Remember, there is no "correct" intrinsic value. Two investors can be given the exact same information and place a different value on a company. For this reason, another central concept to value investing is that of "margin of safety". This just means that you buy at a big enough discounts to allow some room for error in your estimation of value. Also keep in mind that the very definition of value investing is subjective. Some value investors only look at present assets/earnings and don't place any value on future growth. Other value investors base strategies completely around the estimation of future growth and cash flows. Despite the different methodologies, it all comes back to trying to buy something for less than it is worth.

Who is a value investor? The Conventional Definition: A value investor is one who invests in low price-book value or low price-earnings ratios stocks. The Generic Definition: A value investor is one who pays a price which is less than the value of the assets in place of a firm.

The Different Faces of Value Investing Today Passive Screeners: Following in the Ben Graham tradition, you screen for stocks that have characteristics that you believe identify undervalued stocks. Examples would include low PE ratios and low price to book ratios.

Contrarian Investors: These are investors who invest in companies that others have given up on, either because they have done badly in the past or because their future prospects look bleak.

Activist Value Investors: These are investors who invest in poorly managed and poorly run firms but then try to change the way the companies are run.

Stock picking strategies Value investing is one of the best known stock-picking methods. In the 1930s, Benjamin Graham and David Dodd, finance professors at Columbia University, laid out what many consider to be the framework for value investing. The concept is actually very simple: find companies trading below their inherent worth. The value investor looks for stocks with strong fundamentals - including earnings, dividends, book value, and cash flow - that are selling at a bargain price, given their quality. The value investor seeks companies that seem to be incorrectly valued ( undervalued) by the market and therefore has the potential to increase in share price when the market corrects its error in valuation.

Value, Not Junk! Before we get too far into the discussion of value investing, let's get one thing straight. Value investing doesn't mean just buying any stock that declines and therefore seems "cheap" in price. Value investors have to do their homework and be confident that they are picking a company that is cheap given its high quality. It's important to distinguish the difference between a value company and a company that simply has a declining price. Say for the past year Company A has been trading at about $25 per share but suddenly drops to $10 per share. This does not automatically mean that the company is selling at a bargain. All we know is that the company is less expensive now than it was last year. The drop in price could be a result of the market responding to a fundamental problem in the company. To be a real bargain, this company must have fundamentals healthy enough to imply it is worth more than $10 - value investing always compares current share price to intrinsic value not to historic share prices.

Value Investing at Work One of the greatest investors of all time, Warren Buffett, has proven that value investing can work: his value strategy took the stock of Berkshire Hathaway, his holding company, from $12 a share in 1967 to $70,900 in 2002. The company beat the S&P 500's performance by about 13.02% on average annually! Although Buffett does not strictly categorize himself as a value investor, many of his most successful investments were made on the basis of value investing principles.

Buying a Business, not a Stock We should emphasize that the value investing mentality sees a stock as the vehicle by which a person becomes an owner of a company - to a value investor profits are made by investing in quality companies, not by trading. Because their method is about determining the worth of the underlying asset, value investors pay no mind to the external factors affecting a company, such as market volatility or day-to-day price fluctuations. These factors are not inherent to the company, and therefore are not seen to have any effect on the value of the business in the long run.

Contradictions While the efficient market hypothesis (EMH) claims that prices are always reflecting all relevant information, and therefore are already showing the intrinsic worth of companies, value investing relies on a premise that opposes that theory. Value investors bank on the EMH being true only in some academic wonderland. They look for times of inefficiency, when the market assigns an incorrect price to a stock.

Value investors also disagree with the principle that high beta (also known as volatility, or standard deviation) necessarily translates into a risky investment. A company with an intrinsic value of $20 per share but is trading at $15 would be, as we know, an attractive investment to value investors. If the share price dropped to $10 per share, the company would experience an increase in beta, which conventionally represents an increase in risk. If, however, the value investor still maintained that the intrinsic value was $20 per share, s/he would see this declining price as an even better bargain. and the better the bargain, the lesser the risk. A high beta does not scare off value investors. As long as they are confident in their intrinsic valuation, an increase in downside volatility may be a good thing

Warren Buffett is widely considered to be one of the greatest investors of all time, but if you were to ask him who he thinks is the greatest investor he would probably mention one man: his teacher, Benjamin Graham . Graham was an investor and investing mentor who is generally considered to be the father of security analysis and value investing. Benjamin Graham was born in London in 1894, the son of an importer. His family migrated to America when Ben was very young and opened an importing business. They did not do well, Graham’s father dying not long after moving to America and his mother losing the family savings in 1907 during an economic crisis. Graham, a star student, managed to get to Columbia University and, although offered a teaching post there after graduation, took a job as a chalker on Wall Street with New burger, Henderson and Loeb. Before long, his natural intelligence won out when he began doing financial research for the firm and he became a partner in the firm. He was soon earning over $500,000 a year, a huge sum; not bad for a 25 year old. In 1926, Graham formed an investment partnership with another broker called Jerome Newman. He also started lecturing at night on finance at Columbia, a relationship that was to continue until his retirement in 1956. The Crash of 1929 almost wiped Graham out but the partnership survived with the assistance of friends and the sale of most of the partners’ personal assets. At one stage, Graham’s wife was forced to return to work as a dance teacher. Graham was soon back on his feet but he had learned valuable lessons that would soon be brought home to investors in his books. In 1934, Benjamin Graham together with David Dodd, another Columbia academic, published the classic Security Analysis which has never been out of print. Despite the crash, the book proposed that it was possible to successfully invest in common stocks as long as soun d investment principles were applied. Graham and Dodd introduced the concept of ‘intrinsic value’ and the wisdom of buying stocks at a discount to that value. Warren Buffett studied under Graham at Columbia and approached him for a job in his investment firm. Graham declined but Buffett was persistent, and Graham finally yielded, giving Buffett a job in the firm. This was the start Buffett needed and he has never failed to acknowledge what he learned from Ben Graham. It is interesting that one of the Graham Newman investments was GEICO, which, as you probably know, was an early acquisition of Berkshire Hathaway and which remains today a major investment vehicle in the Buffett Group. In 1949, Graham wrote “The Intelligent Investor ”, considered the Bible of value investing. That book too has never been out of print. Benjamin Graham died in 1976, with the reputation of being the ‘ Father of Security Analysis .’

The 3 Most Timeless Investment Principles Benjamin Graham’s main investment principles were Principle No.1: Always Invest with a Margin of Safety

Margin of safety is the principle of buying a security at a significant discount to its intrinsic value, which is thought to not only provide high-return opportunities, but also to minimize the downside risk of an investment. In simple terms, Graham's goal was to buy assets worth $1 for $0.50. He did this very, very well. To Graham, these business assets may have been valuable because of their stable earning power or simply because of their liquid cash value. It wasn't uncommon, for example, for Graham to invest in stocks where the liquid assets on the balance sheet (net of all debt) were worth more than the total market cap of the company (also known as "net nets" to Graham followers). This means that Graham was effectively buying businesses for nothing. While he had a number of other strategies, this was the typical investment strategy for Graham. This concept is very important for investors to note, as value investing can provide substantial profits once the market inevitably re-evaluates the stock and ups its price to fair value. It also provides protection on the downside if things don't work out as planned and the business falters. The safety net of buying an underlying business for much less than it is worth was the central theme of Graham's success. When chosen carefully, Graham found that a further decline in these undervalued stocks occurred infrequently. While many of Graham's students succeeded using their own strategies, they all shared the main idea of the "margin of safety". Principle No.2: Expect Volatility and Profit from it

Investing in stocks means dealing with volatility. Instead of running for the exits during times of market stress, the smart investor greets downturns as chances to find great investments. Graham illustrated this with the analogy of "Mr. Market", the imaginary business partner of each and every investor. Mr. Market offers investors a daily price quote at which he would either buy an investor out or sell his share of the business. Sometimes, he will be excited about the prospects for the business and quote a high price. At other times, he is depressed about the business's prospects and will quote a low price.

Because the stock market has these same emotions, the lesson here is that you shouldn't let Mr. Market's views dictate your own emotions, or worse, lead you in your investment decisions. Instead, you should form your own estimates of the business's value based on a

sound and rational examination of the facts. Furthermore, you should only buy when the price offered makes sense and sell when the price becomes too high. Put another way, the market will fluctuate - sometimes wildly - but rather than fearing volatility, use it to your advantage to

get bargains in the market or to sell out when your holdings become way overvalued. Here are two strategies that Graham suggested to help mitigate the negative effects of market volatility:

1. Dollar-Cost Averaging Dollar-cost averaging is achieved by buying equal dollar amounts of investments at regular intervals. It takes advantage of dips in the price and means that an investor doesn't have to be concerned about buying his or her entire position at the top of the market. Dollar-cost averaging is ideal for passive investors and alleviates them of the responsibility of choosing when and at what price to buy their positions. 2. Investing in Stocks and Bonds Graham recommended distributing one's portfolio evenly between stocks and bonds as a way to preserve capital in market downturns while still achieving growth of capital through bond income. Remember, Graham's philosophy was, first and foremost, to preserve capital, and then to try to make it grow. He suggested having 25-75% of your investments in bonds, and varying this based on market conditions. This strategy had the added advantage of keeping investors from boredom, which leads to the temptation to participate in unprofitable trading (i.e. speculating). Principle No.3: Know What Kind of Investor You Are Graham advised that investors know their investment selves. To illustrate this, he made clear distinctions among various groups operating in the stock market. Active vs. Passive Graham referred to active and passive investors as "enterprising investors" and "defensive investors".

You only have two real choices: The first is to make a serious commitment in time and energy to become a good investor who equates the quality and amount of hands-on research with the expected return. If this isn't your cup of tea, then be content to get a passive, and possibly lower, return but with much less time and work. Graham turned the academic notion of "risk = return" on its head. For him, "Work = Return". The more work you put into your investments, the higher your return should be. If you have neither the time nor the inclination to do quality research on your investments, then investing in an index is a good alternative. Graham said that the defensive investor could get an average return by simply buying the 30 stocks of the Dow Jones Industrial Average in

equal amounts. Both Graham and Buffett said that getting even an average return - for example, equaling the return of the S&P 500 - is more of an accomplishment than it might seem. The fallacy that many people buy into, according to Graham, is that if it's so easy to get an average return with little or no work (through indexing), then just a little more work should yield a slightly higher return. The reality is that most people who try this end up doing much worse than average. In modern terms, the defensive investor would be an investor in index funds of both stocks and bonds. In essence, they own the entire market, benefiting from the areas that perform the best without trying to predict those areas ahead of time. In doing so, an investor is virtually guaranteed the market's return and avoids doing worse than average by just letting the stock market's overall results dictate long-term returns. According to Graham, beating the market is much easier said than done, and many investors still find they don't beat the market. Speculator Vs. Investor Not all people in the stock market are investors. Graham believed that it was critical for people to determine whether they were investors or speculators. The difference is simple: an investor looks at a stock as part of a business and the stockholder as the owner of the business, while the speculator views himself as playing with expensive pieces of paper, with no intrinsic value. For the speculator, value is only determined by what someone will pay for the asset. To paraphrase Graham, there is intelligent speculating as well as intelligent investing - just be sure you understand which you are good at.

1. Du Pont-General Motors

The Du Pont-General Motors arbitrage provides a good example of a typical Graham play. The Du Pont Corporation, which controlled huge assets and dominated more than a handful of industries, had used its surplus cash to acquire a large block of GM stock. But despite these holdings, Du Pont sold on the stock exchange for no more than the value of its GM shares alone. Graham noticed this oddity and reasoned that either the market was overvaluing the GM shares or it was ignoring the worth of Du Pont’s own operations. Graham decided to bet on the probability that the market would over time correct for this imbalance. So he bought Du Pont common stock and simultaneously sold short seven times as many shares of General Motors. The market soon vindicated Graham’s expectations as `DuPont’s share price soared. Graham sold his Du Pont shares and closed out the short position in GM. Of course, this arrangement carried no risk: if the imbalance had been corrected by a decline in the price of GM, Graham would have profited by exercising the short position.22 Activities like this one have subsequently become standard tools in the “value investor’s” repertoire. 2. Northern Pipe Line

The story of Graham’s investment in the Northern Pipe Line illustrates how the underlying value present in a stock may ultimately be realized. After reading an intriguing ICC annual report on railroads, Graham requested additional information about what data the pipeline companies were required to submit. He received a 50-page document full of key financial information of which most investors were not aware. Further research revealed that each of the eight oil pipeline companies possessed substantial amounts of investment-grade railroad bonds that, in some cases, exceeded the total market value of the pipeline company itself. It seemed to Graham that there was no reason for the companies to continue holding the bonds in reserve, and he felt that this situation represented an ideal example of a company trading at a price far less than its true asset value. The most attractive of these pipeline companies was Northern Pipe Line, trading at $65 but holding a hidden pile of high-grade bonds equal to $95 per share. Graham battled against the corporate establishment, initially to no avail. The company president told him that “the pipeline business is a complex and specialized business about which you know very little, but in which we have spent a lifetime. We know better than you what is best for the company....If you don’t approve of our policies, you should sell your shares.”23 Of course, shareholder advocates have long heard similar responses. Graham, who by then had become the company’s largest outside shareholder, refused to cave in. After much effort, he attended the 1928 Northern Pipe Line annual meeting with proxies for 38 percent of the shares and successfully obtained two board seats. Graham finally forced a special $70 per share distribution to shareholders — and his total profit exceeded $100 per share, nearly a 54 percent return on investment. The other pipeline companies eventually followed the same course with their own distributions. This transaction was classic Graham: he was interested only in undervalued assets; he did not care what the company actually did or if management was capable.

Graham’s message

Graham’s basic message was that the stock market can be a highly illogical place, where greed and fear — rather than rationality — often prevail and where buyers and sellers from time to time behave in a herd-like manner. A famous passage made the point: “In other words,” wrote Graham and Dodd, “the market is not a weighing machine, on which the value of each issue is recorded by an exact and impersonal mechanism, in accordance with its specific qualities. Rather should we say that the market is a voting machine, whereon countless individuals register choices which are the product partly of reason and partly of emotion?”40 The disciplined investor, according to Graham and Dodd, does not blindly follow the crowd but instead searches for stocks selling for less than their intrinsic value and then waits for the market to recognize and correct the disparity.

Conclusion Graham's basic ideas are timeless and essential for long-term success. He bought into the notion of buying stocks based on the underlying value of a business and turned it into a science at a time when almost all investors viewed stocks as speculative. Graham served as the first great teacher of the investment discipline, as evidenced by those in his intellectual bloodline who developed their own. If you want to improve your investing skills, it doesn't hurt to learn from the best; Graham continues to prove his worth in his disciples, such as Warren Buffett, who have made a habit of beating the market.

Warren Edward Buffett, who made most of his money from investments, is the world’s secondrichest man. He was born on August 30, 1930 to his father Howard, a stockbroker turnedCongressman. Warren Buffett, for the first time, purchased stocks at the age of eleven. From this trading experience, he learned one of the basic lessons of investing: patience is a virtue. Warren Buffett earned his bachelor’s degree from the University of Nebraska-Lincoln and his master’s degree from Columbia University. During his graduate study, Warren learned profound investment principles, especially the principle of intrinsic business value, from Ben Graham, who wrote Security Analysis and The Intelligent Investor books. Warren also worked for Ben Graham. It was during this time that the difference between the Graham and Buffett philosophies began to emerge. Ben simply wanted numbers by looking only at the balance sheet and income statement, whereas Warren was predominately interested in a company’s management as a major factor when deciding to invest. After building his personal capital up to $140,000, Warren returned Omaha and began his next move. Warren Buffett applied value-investing principles to build Berkshire Hathaway. Currently, the portfolio of Berkshire Hathaway comprises of utilities (MidAmerican Energy Holdings), insurance (Geico, General Re), apparel (Fruit of the Loom), flight services (Flight Safety, Net Jets) as well as a fairly large amount of American Express, Coca-Cola, Gillette, and Wells Fargo). In June 2006, Warren Buffett announced to give around 80 percent of his $44 billion fortune in annual installments to the Bill and Melinda Gates Foundation for as long as the couple lives. The Gates Foundations activities are concentrated on world health (fighting such diseases as malaria, HIV/AIDS, and tuberculosis) and on improving U.S. libraries and high schools.

1. Economic reality, not accounting reality Warren Buffett stated that financial statements prepared by accountants conformed to rules that might not adequately represent the economic reality of a business. Accounting reality was conservative, backward-looking, and governed by generally accepted accounting principles (GAAP). However, investment decisions should be based on the economic reality of a business. Under GAAP, intangible assets such as patents, trademarks, special managerial expertise, and reputation would be carried at little or no value, but they might be very valuable in economic reality. GAAP measured results in terms of net profit, whereas, in economic reality, the results of a business where its flows of cash. Warren Buffett also defined economic reality at the level of business itself, not the market, the economy, or the security. 2. The opportunity cost Warren Buffett compared an investment opportunity against the next best alternative, the lost opportunity. He made his business decisions by framing his choices as either/or decisions rather than yes/no decisions. In addition, he employed the p otential rate of return from investing in the common stocks of other companies as an important standard of comparison in testing the attractiveness of an acquisition. He also used the comparison of an investment against other returns available in the market as a significant benchmark of performance. 3. The time value of money Warren Buffett defined intrinsic value as the discounted value of the cash that can be obtained from a business during its remaining life. To calculate intrinsic value, it is necessary to exhibit a highly subjective figure that will change when estimates of future cash flows are modified and interest rates alter. In spite of its uncertainty, intrinsic value is important because it is the only logical way to assess the relative attractiveness of investments and businesses. 4. Measure performance on the basis of gain in intrinsic value, not accounting profit Warren Buffett’s long-term economic goal is to maximize Berkshires average annual rate of gain in intrinsic business value on a per-share basis. He does not measure the economic significance or performance of Berkshire by its size, but by per-share progress. In addition, he will be disappointed if the rate of per-share progress does not exceed that of the average large American corporation.

5. Risk and discount rates Warren Buffett defined risk as the possibility of loss or injury. His company used almost no debt financing. To avoid risk, he also put a heavy weight of investments on certainty by focusing on companies with predictable and stable earnings. Thus, the idea of a risk factor does not make sense to him so that he utilized a risk-free discount rate such as the rate of return on the long-term (for example, 30-year) U.S. Treasury bond. 6. Diversification Warren Buffett suggested that investors typically purchased far too many stocks rather than waiting for one exceptional company. Investors should pay attention to only businesses that they understand. Therefore, the need for diversification decreases substantially. 7. Invest on the basis of information and analysis with respect to Ben Graham, Warren Buffett agreed that, instead of following Mr. Market’s opinion, it would be wiser for investors to form their own ideas of the value of their holdings, based on full reports from the company about its operation and financial status. Warren Buffett did not believe in the stock market. When he invested in stocks, he invested in businesses. He behaved according to what is rational rather than according to what is fashionable. He didn’t try t o time the market (i.e., trade stocks based on expectations of changes in the market cycle). Instead, he employed a strategy of patient, long-term investing. 8. Alignment of agents and owners to explain his ownership interest in Berkshire Hathaway, Warren Buffett claimed that he is a better businessman because he is an investor. And he is a better investor because he is a businessman. More than 50 percent of the family net worth of four of Berkshires six directors contained shares in Berkshire Hathaway. Moreover, the senior managers of Berkshire Hathaway subsidiaries held shares in the company, or were compensated under incentive plans that related to the potential returns from an equity interest in their business unit.

Business Tenets: • The business the company is in should be simple and understandable. • The firm should have a consistent operating history, manifested in operating earnings that are stable and predictable. • The firm should be in a business with favorable long term prospects.

Management Tenets: • The managers of the company should be candid. As evidenced by the way he treated his own stockholders, Buffett put a premium on managers he trusted. • The managers of the company should be leaders and not followers.

Financial Tenets: • The company should have a high return on equity. Buffett used a modified version of what he called owner earnings Owner Earnings = Net income + Depreciation & Amortization – Capital Expenditures • The company should have high and stable profit margins.

Market Tenets: • Use conservative estimates of earnings and the riskless rate as the discount rate. • In keeping with his view of Mr. Market as capricious and moody, even valuable companies can be bought at attractive prices when investors turn away from them.

Be like Buffett? • Markets have changed since Buffett started his first partnership. Even Warren Buffett would have difficulty replicating his success in today’s market, where information on companies is widely available and dozens of money managers claim to be looking for bargains in value stocks. • In recent years, Buffett has adopted a more activist investment style and has succeeded with it. To succeed with this style as an investor, though, you would need substantial resources and have the credibility that comes with investment success. There are few investors, even among successful money managers, who can claim this combination. • The third ingredient of Buffett’s success has been patience. As he has pointed out, he does not buy stocks for the short term but businesses for the long term. He has often been willing to hold stocks that he believes to be undervalued through disappointing years. In those same years, he has faced no pressure from impatient investors, since stockholders in Berkshire Hathaway have such high regard for him.

1. Price to Book ratios: Buy stocks where equity trades at less than or at least a low multiple of the book value of equity. 2. Price earnings ratios: Buy stocks where equity trades at a low multiple of equity earnings. 3. Return on Capital Employed (ROCE): A ratio that indicates the efficiency and profitability of a company's capital investments. 4. Return on Equity (ROE) : The amount of net income returned as a percentage of shareholders equity. Return on equity measures a corporation's profitability by revealing how much profit a company generates with the money shareholders have invested.

1. Price/Book Value 

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A low price book value ratio has been considered a reliable indicator of undervaluation in firms. The empirical evidence suggests that over long time periods, low pricebook values stocks have outperformed high price-book value stocks and the overall market.

2. Price/Earnings Ratio Screens 

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Investors have long argued that stocks with low price earnings ratios are more likely to be undervalued and earn excess returns. For instance, this is one of Ben Graham’s primary screens. Studies which have looked at the relationship between PE ratios and excess returns confirm these priors.

3. Return on Capital Employed - ROCE 

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ROCE should always be higher than the rate at which the company borrows; otherwise any increase in borrowing will reduce shareholders' earnings. ROCE is used in finance as a measure of the returns that a company is realizing from its capital employed. It is commonly used as a measure for

comparing the performance between businesses and for assessing whether a business generates enough returns to pay for its cost of capital. Calculated as:

4. Return on Equity - ROE 

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The ROE is useful for comparing the profitability of a company to that of other firms in the same industry. Investors may also calculate the change in ROE for a period by first using the shareholders' equity figure from the beginning of a period as a denominator to determine the beginning ROE. Then, the endof-period shareholders' equity can be used as the denominator to determine the ending ROE. Calculating both beginning and ending ROEs allows an investor to determine the change in profitability over the period. Calculated as:

Good Companies are not necessarily Good Investments 

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Any investment strategy that is based upon buying well-run, good companies and expecting the growth in earnings in these companies to carry prices higher is dangerous, since it ignores the reality that the current price of the company may reflect the quality of the management and the firm. If the current price is right (and the market is paying a premium for quality), the biggest danger is that the firm loses its luster over time, and that the premium paid will dissipate. If the market is exaggerating the value of the firm, this strategy can lead to poor returns even if the firm delivers its expected growth. It is only when markets under estimate the value of firm quality that this strategy stands a chance of making excess returns.

Selection of stocks using filters

The following companies have been short listed for carrying out Value investing research FMCG

1. 2. 3. 4. 5. 6. 7. 8. 9. 10.

Dabur Britannia HUL ITC Marico Godrej consumer Colgate Palmolive Tata Tea Gillete Nestle

CAPITAL/ENGINEERING

1. 2. 3. 4. 5. 6. 7. 8. 9. 10.

L&T BHEL Punj Lloyd Siemens Thermax Alstom Projects Everest Kanto Praj Inds. Walchannagar Crompton greaves

BANKS

1. 2. 3. 4. 5. 6. 7. 8. 9. 10.

SBI Axis HDFC Bank BOB ICICI Federal IndusInd DCB Kotak Corporation

PHARMA

1. Lupin 2. Glaxo 3. Aventis

4. 5. 6. 7. 8. 9. 10.

Ranbaxy Piramal Wockhardt Cipla Matrix Cadila Divis

TELECOM

1. 2. 3. 4. 5. 6. 7. 8.

Idea Bharti Rcom Mtnl Onmobile Tata Com Tulip Com Nettlinx

Using the first Filter P/E (3 stocks with high P/E ) was eliminated and following stocks was shortlisted FMCG

1. 2. 3. 4. 5. 6. 7.

Britannia ITC Marico Godrej consumer Colgate Palmolive Tata Tea Gillete

CAPITAL/ENGINEERING

1. 2. 3. 4. 5. 6. 7.

L&T BHEL Siemens Thermax Praj Inds. Walchannagar Crompton greaves

BANKS

1. 2. 3. 4. 5. 6. 7.

SBI Axis HDFC Bank BOB ICICI Federal Corporation

PHARMA

1. 2. 3. 4. 5. 6. 7.

Lupin Glaxo Aventis Piramal Wockhardt Cadila Divis

TELECOM

1. 2. 3. 4. 5. 6.

Idea Bharti Rcom Mtnl Tulip Com Nettlinx

Using the second filter Price/Book (further 3 stocks with high price to book value ) was eliminated. Following stocks were shortlisted FMCG

1. 2. 3. 4.

Britannia ITC Tata Tea Gillete

CAPITAL/ENGINEERING

1. 2. 3. 4.

L&T Siemens Praj Inds Walchannagar

BANKS

1. 2. 3. 4.

BOB ICICI Federal Corporation

PHARMA

1. 2. 3. 4.

Lupin Aventis Wockhardt Cadila

TELECOM

1. 2. 3. 4.

Rcom Mtnl Tulip Com Nettlinx

Using the third filter ROCE (2 companies with low ROCE) from each sector were eliminated. FMCG

1. ITC 2. Gillete CAPITAL/ENGINEERING

1. Siemens 2. Praj Inds. BANKS

1. 2. 3. 4.

BOB ICICI Federal Corporation

PHARMA

1. Lupin 2. Aventis TELECOM

1. Rcom 2. Mtnl

Finally using the last filter ROE one stock from each sector was selected for further research 1. FMCG-ITC 2. CAPITAL/ENGINEERING-PRAJ INDS 3. BANK-BOB 4. PHARMA-LUPIN

5. TELECOM-RCOM

ITC LTD.

AS ON 5

TH

MARCH 2009

PRICE- Rs.170.55 RECOMMENDATION- BUY 52 WEEK RANGE- Rs.232.4/132.05

INVESTMENT ARGUMENT Increasing contribution from noncigarette FMCG business ITC has been very aggressive in launching new products in the FMCG space, which now contributes around 17% to the top line from 12% in 2006. Margins improved drastically as prices of key raw material palm oil have cooled off sharply.

KEY SHARE DATA

MARKET CAP- Rs 62,179.91Crs.

Strong pricing power due to dominant market share in the cigarettes. Fastest growing company in the processed food sector.

FACE VALUE- Rs.1 EQ. CAPITAL- Rs.376.86Crs. BSE- 500875 NSE- ITC

Cigarette business continues to be a major contributor to ITC’s top line. The ITC continues to sustain its leadership position in the cigarette industry. Excellent long term potential in its rural initiative of EChoupal and Choupal Sagar.

BOOK VALUE- Rs.31.81

Hotels and Paperboard businesses have achieved self sustenance levels. SHAREHOLDING PATTERN 0% 15% 47% 38%

PROMOTERS FII INSTITUTIONS PUBLIC/BODY CORPORATES

Lifestyle retailing: Lifestyle retailing reported sales growth of 15% in the quarter Valuations- Currently the stock is trading at 3.6X FY08BV, 20.5X FY08EPS and 0.85X Intrinsic value. Therefore the stock is highly undervalued, so I recommend a BUY with a long term perspective.

ITC LTD. COMPANY BACKGROUND

Company description ITC is an associate of BAT (British American Tobacco) controls more than 2/3rd of the cigarette market in India.ITC has emerged as a diversified conglomerate with leading presence in Paperboards, Hotels and Processed foods. EChoupal, the agri rural initiative of the company has been widely appreciated for its foresight in harnessing the potential in the rural market.

Sector view Many analysts have a cautious view on the sector on the back of  inflationary tendency in the economy, which might impact volumes as well as profit margins of companies.  Companies with low competitive pressures and broad product portfolios will be able to better withstand any slowdown in a particular segment. Longer-term prospects are bright, given rising incomes and low penetration. 

ITC LTD. SEGMENT RESULTS FMCG – Cigarettes

Cigarette business registered a sales growth of 10.5% to Rs 3901.5 crores with volumes showing a decline of 3.5% after sales of non-filter cigarettes, which formed 19% of total volumes, were discontinued. This was after an increase in excise duty on non-filter cigarettes in the 2008 Union budget. This resulted in consumers shifting to cheaper options thus impacting the overall cigarette volumes. The Company increased the prices of some of its brands. The PBIT grew by 18% to Rs 1134.1 crores as the margins expanded by 190 bps to 29.1%. Going forward, we expect cigarette volumes to decline further as a result of increasing headwinds such as imposing of VAT, increase in excise duty and ban on smoking in public places. Other FMCG business

The ‘Other FMCG’ business registered a growth of 11.7% in sales to Rs 722.3 crores.The losses of the business increased by 97% to Rs 127 crores mainly due to newer business. The margins declined by 760 bps YoY. Branded Packaged Foods

This segment witnessed modest growth due to slowdown in urban demand due to the economic downturn. High raw material costs and input prices impacted margins during the quarter. Lifestyle Retailing

The economic slowdown and weak consumer sentiment has adversely affected growth. The business is re-negotiating rental costs and rationalizing unviable stores to improve store margins. Personal Care Products

The business continued to register healthy growth and improved its footprint among the national branded players through its range of personal care products under the brands ‘ Fiama Di Wills’, ‘Vivel Di Wills ’, ‘Vivel’ and ‘Superia’. The product portfolio was further enhanced with

the launch of the ‘Vivel’ Ultrapro range of anti-dandruff shampoo. High raw material cost and increase in advertising spend has impacted the operating performance of the division.

CONT... Hotels

Hotel business recorded a decline of 13.7% in revenues to Rs 270.5 crores and a fall of 34% in PBIT to Rs 91.1 crores with margins declining by 10.2% to 33.7%. Economic slowdown and terror attacks in Mumbai resulted in a sharp drop in traffic triggering a significant slide in occupancies and average room rates. Construction activity in respect of the super deluxe luxury hotel projects at Bangalore and Chennai is progressing satisfactorily as per the respective project plans. Paperboards, Specialty Papers & Packaging

Revenues of this business increased by 10.9% to Rs 669.9 crores. High raw material costs and high depreciation impact of new investments in the pulp and paper machine facilities resulted in a 6.1% fall in PBIT to Rs 111.1 crores while margins declined by 300 bps to 16.6%. Agriculture Business

Agri business reported a decline of 6.2% in revenues to Rs 621.5 crores due to lower soya volumes and rationalisation of the agri-commodity portfolio. PBIT increased by 80% to Rs 50.2 crores on increase in margins by 390 bps to 8.1%.

ITC LTD. FINANCIAL HIGHLIGHTS





Net Sales grew by 10.9% Y-o-Y in Dec08Qtr to Rs 3833 crore, Operating Profit grew by 14.9% to Rs 1378 crore and net profit grew by 8.7% to Rs 903 crore. During the quarter under review, net sales grew by 11.1% to Rs 3833.3 crores. Slowdown in the hotel segment and lower growth in cigarettes resulted in slower growth in revenues. Operating profit grew by 9.6% to Rs 1378 crores, while the margins maintained a flat trend. PAT grew by 8.7% to Rs 903.2 crores.



Cigarette business registered a sales growth of 10.5% to Rs 3901.5 crores with volumes showing a decline of 3.5% after sales of nonfilter cigarettes, which formed 19% of total volumes, were discontinued. The PBIT grew by 18% to Rs 1134.1 crores as the margins expanded by 190 bps to 29.1%.



The ‘Other FMCG’ business registered a growth of 11.7% in sales to Rs 722.3 crores. The losses of the business increased by 97% to Rs 127 crores mainly due to newer business. The margins declined by 760 bps YoY.



Hotel business recorded a decline of 13.7% in revenues to Rs 270.5 crores and a fall of 34% in PBIT to Rs 91.1 crores with margins declining by 10.2% to 33.7%. Economic slowdown and terror attacks in Mumbai resulted in a sharp drop in traffic triggering a significant slide in occupancies and average room rates.



Revenues of this business increased by 10.9% to Rs 669.9 crores. High raw material costs and high depreciation impact of new investments in the pulp and paper machine facilities resulted in a 6.1% fall in PBIT to Rs 111.1 crores while margins declined by 300 bps to 16.6%.



Agriculture business reported a decline of 6.2% in revenues to Rs 621.5 crores due to lower soya volumes and rationalization of the agricommodity portfolio. PBIT increased by 80% to Rs 50.2 crores on increase in margins by 390 bps to 8.1%.

ITC LTD. KEY HIGHLIGHTS Key Developments: Buoyed by the success in personal care products (PCP) in 2008, ITC Ltd is planning to enter into anti dandruff shampoo category through Vivel brand. Anti dandruff shampoo is one of the fastest growing categories of PCP with annualize growth of 16%. 





At a time when liquidity crunch and global meltdown appears to have deterred almost all companies across different segments to put their future growth plans on hold, ITC is looking to spice up its spices business in a big way. The company is planning to set up modernized processing infrastructure in Rajasthan for grading, sorting and cleaning of seed spices like cumin, coriander and pepper.

The proposed integrated ‘cleaning-cum-sorting’ facility will enable ITC supply clean and graded seed spices procured from the mandis of Rajasthan, Gujarat and Madhya Pradesh to a growing and discerning domestic and international customers. The mechanized processing is intended to create value for customers in terms of supply of consistent hygienic products, adhering to specific quality specifications. The new facility will be in addition to ITC’s spices cleaning, grinding, packing and steam sterilization facility at Guntur.



Launch of Vivel Shampoo.



Exit from the non-filter cigarette segment.

Key investment risks A high indirect tax regime could dampen cigarette growth. 



Higher than expected losses in New FMCG business will impact profitability.



The requirement of pictorial health warnings on tobacco products.

ITC LTD. FINANCIALS INCOME STATEMENT Mar ' 08

Mar ' 07

Mar ' 06

14,032.20

12,313.83

9,798.33

Material consumed

6,275.33

5,484.52

4,130.04

Manufacturing expenses

383.42

318.32

295.25

Personnel expenses

745

630.15

541.4

Selling expenses

1,044.40

803.29

627

Adminstrative expenses

1,266.57

1,116.23

853.39

Expenses capitalised

-112.75

-42.52

-15.78

Cost of sales

9,601.97

8,309.99

6,431.30

Operating profit

4,430.23

4,003.84

3,367.03

Other recurring income

479.82

300.14

273.22

Adjusted PBDIT

4,910.05

4,303.98

3,640.25

Financial expenses

24.61

16.04

21.1

Depreciation

438.46

362.92

332.34

Other write offs

-

-

-

Adjusted PBT

4,446.98

3,925.02

3,286.81

Tax charges

1,480.97

1,263.07

1,027.57

Income: Operating income Expenses

Adjusted PAT

2,966.01

2,661.95

2,259.24

Non recurring items

36.68

-23.92

-70.02

Other non cash adjustments

117.41

61.94

46.13

3,120.10

2,699.97

2,235.35

3,767.63

3,262.03

2,846.76

Equity dividend

1,319.01

1,166.29

995.12

Preference dividend

-

-

-

Dividend tax

224.17

198.21

139.58

Retained earnings

2,224.45

1,897.53

1,712.06

Reported net profit Earnigs before appropriation

ITC LTD. FINANCIALS QUATERLY RESULTS Dec ' 08

Sep ' 08

Jun ' 08

Mar ' 08

Sales

3,858.65

3,862.67

3,899.70

3,934.39

Operating profit

1,378.04

1,215.39

1,127.12

1,044.67

0.45

2.78

1.41

2.7

1,475.15

1,323.06

1,240.06

1,205.65

2.39

2.13

1.99

1.95

Dec ' 08

Sep ' 08

Jun ' 08

Mar ' 08

97.56

110.45

114.35

163.68

-48.03

-108.24

-48.37

53.05

1,298.39

1,435.94

1,336.20

1,322.40

212.95

237.67

218.11

191.07

1,017.30

1,081.91

1,266.64

1,323.20

144.2

133.99

126.11

121.49

Taxation

427.74

386.35

365.28

348.52

Net profit / loss

903.21

802.72

748.67

735.64

Equity capital

377.15

377.02

376.86

376.86

37500.75

37456.05

37429.64

37415.01

Agg.of non promotoholding (%)

99.43

99.35

99.32

99.28

OPM (%) GPM (%)

35.71 37.29

31.47 33.3

28.9 30.89

26.55 29.42

NPM (%)

22.83

20.2

18.65

17.95

Interest Gross profit EPS (Rs) Quarterly results in details Other income Stock adjustment Raw material Employee expenses Other expenses Depreciation

Agg.of non-prom. shares (Lacs)

ITC LTD. VALUATIONS Calculation of intrinsic value: Year

2004-05

2005-06

2006-07

2007-08

4.91

6.08

7.19

8.29

EPS (Rs)

CAGR: 4.91 (1 + x)3 = 8.29

x = 0.19 x = 19% EPS1 = 4.91(1+ 0.19) = 9.87 st

P/E:Share price as on 31 March, 2008 = 206.35

P/E = 206.35 / 8.29 = 24.89 P/E value (Projected EPS × current P/E) = 245.7 Book value per share = 32 th Current market price (market price as on 6 March, 2009)

1st method

= 192.4

2nd method

1/3 of P/E value

81.91

60% of P/E value

147.43

1/3 of Book value

10.67

10% of book value

3.2

1/3 of current market price

56.85

30% of current price value

51.71

Total (in Rs)

149.42

Total (in Rs)

201.8

BANK OF BARODA LTD.

AS ON 6

TH

MARCH 2009


KEY SHARE DATA

MARKET CAP- Rs 7,078.49Cr FACE VALUE- Rs.10 EQ. CAPITAL- Rs.365.53Crs. BSE- 532134 NSE- BANKBARODA BOOK VALUE- Rs.302.3

SHAREHOLDING PATTERN

9% 18% 54% 19%

PROMOTERS

FII

INSTITUTIONS

PUBLIC

INVESTMENT ARGUMENT

Bank of Baroda’s (BoB) focus has shifted to growth from treasury, and re‐branding and reshaping of the business is more or less complete. Bank of Baroda has improved its NII performance where it has been laggard in last few quarters. It was done by reducing reliance on bulk deposits as well as expanding yield on advances. NIM of 3.3% was surprising. Even if management expects to maintain it around 3.2% in coming quarters, it is believed that margins will settle down slightly above 3% mark. Expectations are that the loan growth will be in the region of 23-24% on the back of overseas expansion. Cost to income ratio is also expected to be in the region of 45% mark after accounting for increased wage provisions. Core fee income growth is expected to be above 20%. Aggressive loan disbursement in overseas markets is worrisome for us even though management sounds confident. Similarly higher than expected provisions on international investments is another concern. Superior asset quality still remains a key factor in the valuation. Valuations- Currently the stock is trading at 0.6X FY08BV, 6X FY08EPS and 0.7X Intrinsic value. Therefore the stock is highly undervalued, so I recommend a BUY with a long term perspective.

BANK OF BARODA LTD. COMPANY BACKGROUND

Bank of Baroda is the fifth largest bank in India. It has total assets in excess of Rs.

1.78 lakh crores, or Rs. 1,780 bn., a network of over 2800 branches and offices, and about 1000+ ATMs. Bank of Baroda offers a wide range of banking products and financial services to corporate and retail customers through a variety of delivery channels and through its specialised subsidiaries and affiliates in the areas of investment banking, credit cards and asset management. Starting in 1908 from a small building in Baroda to its ne w hi‐rise and hi‐tech Baroda Corporate Centre in Mumbai is a saga of vision, enterprise, financial prudence and corporate governance. Company History Maharajah of Baroda Sir Sayajirao Gaekwad III founded the bank on July 20, 1908 in the princely state of Baroda, in Gujarat. Bank of Baroda started its operation in the year 1908 in Baroda though its Corporate Centre is in Mumbai now. Its mission is "to be a top ranking National Bank of International Standards committed to augment stake holders' value through concern, care and competence". The Bank was brought into existence by a Ordinance issue on 19th July, by the Central Government. The Bank is a Government of India Undertaking and carries on all types of banking business including foreign exchange. The Ordinance was replaced by the Banking Companies (Acquisition and Transfer of Undertaking) Act, 1969.

BANK OF BARODA LTD. KEY HIGHLIGHTS Marginal CASA improvement very positive: The most impressive thing about BOB’s Q3FY09 result was sequential improvement in CASA. CASA improved by 25 bps to 36.10% in Q3FY09 from 35.85% in Q2FY09. This was completely against industry trend where most of the banks reported significant drop in CASA sequentially. It seems that the bank has been able to use its extensive branch network, which cannot be said with respect to other banks. Improvement in margins very positive: BOB has been able to show continuous improvement in NIMs as NIMs for the 3rd quarter FY09 improved to 3.3% as compared to 2.8% in Q2FY09 and 3.0% in Q3FY08. Margins improved due to better cost of fund management and improved yield on advances. Improvement in margins was indeed very positive. The bank expects it to maintain the margins around 3.2% in coming quarters but I expect margins to stabilize slightly above 3.0% mark. Improvement in asset quality continues: The bank has done very well on asset quality front. It has continued improvement in asset quality by maintaining lower delinquencies as well as very aggressive recoveries. Gross NPAs improved to 1.50% in Q3FY09 as compared to 1.62% in Q2FY09 and 2.11% in Q3FY08. Capital adequacy ratio comfortable at 13.20% at the end of 3rd quarter: CAR for the 9 month ended December 31, 08 stood at 13.20%, out of which tier I ratio is 8.50%. The bank still has headroom to raise Rs. 75 bn in tier I and tier II ratio. Tier I ratio improved due to ploughing back of profits and reduced risk weight on selected advances by RBI. Fee income growth is expected to remain strong: Core fee income growth (commission, exchange, and brokerage) during Q3FY09 was 26%. We expect core fee income growth to remain strong in the region of 21-22% in coming quarters. Considering the aggressive expansion in overseas market, it should be able to achieve said growth targets for fee income.

BANK OF BARODA LTD. VALUATIONS

Calculation of intrinsic value: Year

2004-05

2005-06

2006-07

2007-08

23.08

28.83

28.18

39.41

EPS (Rs)

3 CAGR: 23.08 (1 + x) = 39.41

x = 0.1941 x = 19.41% EPS1 = 39.41(1+ 0.1941) = 47.06 P/E:Share price as on 31st March, 2008 = 280.45

P/E = 280.45 / 39.41 = 7.12 P/E value (Projected EPS × current P/E) = 334.89

Book value per share = 303.18

Current market price (market price as on 6th March, 2009)

1st method

= 192.4

2nd method

1/3 of P/E value

111.63

60% of P/E value

200.93

1/3 of Book value

101.06

10% of book value

30.32


64.13


57.72

Total (in Rs)

276.82

Total (in Rs)

288.97

BANK OF BARODA LTD. KEY FINANCIALS

INCOME STATEMENT Mar ' 08

Mar ' 07

Mar ' 06

13,133.81

9,548.59

7,293.92

1,803.76

1,644.06

1,523.79

33.18

25.7

25.64


1,301.33

907.42

1,064.20

Cost of sales

3,138.28

2,577.18

2,613.63

Operating profit

2,093.87

1,544.86

805.2

Other recurring income Adjusted PBDIT

688.58 2,782.44

488.78 2,033.64

387.93 1,193.13

Financial expenses

7,901.67

5,426.56

3,875.09

Depreciation

232

194.28

111.13

Adjusted PBT

2,550.44

1,839.35

1,082.00

771.63

627.8

287.64

1,435.16

1,013.62

1,050.37

0.37

12.85

-0.3

-

-

-223.11

Reported net profit

1,435.52

1,026.46

826.96

Earnigs before appropriation Equity dividend

1,435.52 340.94

1,026.46 252.46

826.96 207.68

Retained earnings

1,094.58

774.01

619.28

Income: Operating income Expenses Personnel expenses Selling expenses

Tax charges Adjusted PAT Non recurring items Other non cash adjustments

BANK OF BARODA LTD. KEY FINANCIALS

QUATERLY FINANCIALS Dec ' 08

Sep ' 08

Jun ' 08

Mar ' 08

Sales

4,108.00

3,550.98

3,293.82

3,331.07

Operating profit

2,795.21

2,545.01

2,304.14

2,137.44

Interest

2,646.16

2,417.21

2,236.81

2,302.57

Gross profit

1,345.64

845.63

860.19

814.45

17.49

10.81

10.15

7.56

Dec ' 08

Sep ' 08

Jun ' 08

Mar ' 08

Other income

846.49

475.92

512.55

554.63

Employee expenses

667.27

463.46

462.72

421.15

-

-

-

-

Other expenses

295.42

300.6

246.65

347.53

Provisions made

350.1

241.91

280.31

424.95

-

-

-

-

356.24

208.43

209.02

113.06

Net profit / loss

639.3

395.29

370.86

276.44

Extra ordinary item

69.07

-

-

-

365.53

365.53

365.53

365.53

1682.67

1682.67

1682.66

1682.66


46.19

46.19

46.19

46.19

OPM (%)

68.04

71.67

69.95

64.17

GPM (%)

27.16

21

22.6

20.96

NPM (%)

12.9

9.82

9.74

7.11

EPS (Rs)

Quarterly results in details

Excise

Depreciation Taxation

Equity capital Agg.of non-prom. shares (Lacs)

Reliance Communications Ltd.

AS ON 6

TH

MARCH 2009


KEY SHARE DATA

MARKET CAP.- Rs 28,462.93cr FACE VALUE- Rs.5 EQ. CAPITAL- Rs.1032.01Crs. BSE- 532712 NSE- RCOM BOOK VALUE- Rs.120.35


15% 10% 8% 67%

PROMOTERS

FII

INSTITUTIONS

PUBLIC

INVESTMENT ARGUMENT GSM Strategy- Reliance communications has launched its GSM services in the month of January this year. The subscriber numbers have been strong at 5 million (GSM and CDMA) in the first month itself which is much above market expectations driven by both first time subscribers users and existing wireless users. The management further expects to maintain subscriber acquisition momentum as services have been rolled out in all circles and town/population coverage is being rapidly expanded. Operating Margin - Management expects operating margins to remain around the current range the next 2-3 quarters. Management is confident of its dual strategy and sees positives from participation in the large GSM market, leverage of GSM/CDMA to create unique propositions. Reduction in FY09 capex from Rs 30bn to Rs 25bn was achieved largely from lower equipment costs and supplementary access to USO-funded towers for nationwide expansion. Profitability- As the network is operationalized, a part of the existing capital work-in process of Rs 19bn, will be capitalized in the gross block resulting in higher depreciation expenses going forward. Tax rate has been low due to telecomrelated tax benefits and deferred tax benefits. These benefits are likely to continue going forward. Valuations- Currently the stock is trading at 1.1X FY08BV, 11X FY08EPS and 0.37X Intrinsic value. Therefore the stock is highly undervalued, so I recommend a BUY with a long term perspective.

Reliance Communications Ltd. COMPANY BACKGROUND

A dream come true The Late Dhirubhai Ambani dreamt of a digital India — an India where the common man would have access to affordable means of information and communication. Dhirubhai, who single-handedly built India’s largest private sector company virtually from scratch, had stated as early as 1999: “Make the tools of information and communication available to people at an affordable cost. They will overcome the handicaps of illiteracy and lack of mobility.” It was with this belief in mind that Reliance Communications (formerly Reliance Infocomm) started laying 60,000 route kilometres of a pan-India fibre optic backbone. This backbone was commissioned on 28 December 2002, the auspicious occasion of Dhirubhai’s 70th birthday, though sadly after his unexpected demise on 6 July 2002. Reliance Communications has a reliable, high-capacity, integrated (both wireless and wireline) and convergent (voice, data and video) digital network. It is capable of delivering a range of services spanning the entire infocomm (information and communication) value chain, including infrastructure and services — for enterprises as well as individuals, applications, and consulting.

Today, Reliance Communications is revolutionising the way India communicates and networks, truly bringing about a new way of life.

Reliance Communications Ltd. Key Highlights











Expect 3G rollover cost to be lower than other players as its current GSM network requires s/w update and additional slot to be compatible with 3G. GSM additions of 5,000,000 subscribers in January 2009 were the highest ever. RCOM is in last phase of its investment cycle and expects to be FCF positive by FY11. However, FCF target can be extended depending on the intensity of upcoming tariff war and bidding for 3G license. Tenancy rates of RTIL towers is currently at 1.7x with a capacity of 4.0x. Company is actively seeking deals with new telecom operators to lease the towers. FYO9 capex reduced from 30,000 cr to 25,000 cr

Concerns 



Realized forex losses of Rs 1.2bn for 9M of FY09 are attributed to vendor payments. A substantial portion of the current vendor payments of Rs 12bn are not hedged and could result in forex losses going forward. The profitability of Global Business is expected to be partially impacted by global recessionary trends, but remain stable at 24% levels.

Reliance Communications Ltd. Valuations Calculation of intrinsic value: Year EPS (Rs)

2006-07

2007-08

11.78

12.53

CAGR: 11.78 (1 + x)1 = 12.53

x = 0.0637 x = 6.37% EPS1 = 11.78(1+ 0.0637) = 13.32

P/E:Share price as on 31st March, 2008 = 509.75

P/E = 509.75 / 12.53 = 40.6 P/E value (Projected EPS × current P/E) = 542.22



1st method

= 137.9

2nd method

1/3 of P/E value

180.74

60% of P/E value

325.33

1/3 of Book value

40.12

10% of book value

12.03


45.97


41.37

Reliance Communications Ltd. Total (in Rs)

266.82

Total (in Rs)

378.74

KEY FINANCIALS INCOME STATEMENT Mar ' 08

Mar ' 07

14,792.05

12,756.30

15.15

16.48

4,144.21

3,358.34

858.65

684.4

Selling expenses

1,067.76

1,399.88


2,532.99

1,784.19

Cost of sales

8,618.76

7,243.29

Operating profit

6,173.29

5,513.01

28.68

169.61

6,201.97

5,682.62

870.05

456.55

Depreciation

1,843.66

1,836.12

Adjusted PBT

3,488.26

3,389.95

Tax charges

1,393.66

1,043.38

Adjusted PAT

2,094.60

2,346.57

Non recurring items

491.85

62.28

Reported net profit

2,586.45

2,408.85

Earnigs before appropriation

4,881.35

2,414.50

Equity dividend

154.8

102.23

Dividend tax

26.31

17.37

Income:

Operating income Expenses Material consumed Manufacturing expenses Personnel expenses

Other recurring income Adjusted PBDIT Financial expenses

Reliance Communications Ltd. Retained earnings

4,700.24

2,294.90

KEY FINANCIALS Quarterly results Dec ' 08

Sep ' 08

Jun ' 08

Mar ' 08

3,334.22

3,545.65

3,557.97

3,455.35

Operating profit

867.48

1,183.70

1,190.43

1,279.06

Interest

569.91

119.26

248.74

328.04

Gross profit EPS (Rs)

362.08 1.92

1,065.97 2.27

942.78 1.68

952.6 2.48

Dec ' 08

Sep ' 08

Jun ' 08

Mar ' 08

64.51

1.53

1.09

1.58

226.27

216.01

222.87

218.19

-

-

-

-593.66

2,240.47

2,145.94

2,144.67

2,551.76

-

-

-

-

617.81

527.56

529.43

467.46

3.9

5

2

-26.29

Net profit / loss

397.04

468.74

347.38

511.43

Extra ordinary item

656.67

-64.67

-63.97

-

Equity capital

1,032.01

1,032.01

1,032.01

1,032.01


6992.16

6992.16

6992.16

6992.16


33.88

33.88

33.88

33.88

OPM (%)

26.02

33.38

33.46

37.02

GPM (%)

10.65

30.05

26.49

27.56

NPM (%)

11.68

13.21

9.76

14.79

Sales

Quarterly results in details Other income Employee expenses Admin and selling expenses Other expenses Provisions made Depreciation Taxation

LUPIN PHARMACEUTICALS LTD.

AS ON 6

TH

MARCH 2009

PRICE- Rs.577 RECOMMENDATION- BUY 52 WEEK RANGE- Rs.782/485

KEY SHARE DATA

MARKET CAP.- 4778.59crs FACE VALUE- Rs.10 EQ. CAPITAL- Rs.82.08Crs. BSE- 500257 NSE- LUPIN BOOK VALUE- Rs.159.12


11%

23% 51% 15%

PROMOTERS

FII

INSTITUTIONS

PUBLIC

INVESTMENT ARGUMENT Strong product pipeline for the US market Lupin has emerged as one of the fastest growing companies in the US (revenue CAGR of 237% over FY05-FY08) despite being a late market entrant. Manufactures niche products with high entry barriers Lupin focuses on niche offerings for the US and other regulated markets. it has been able to capture a significant market share for key products such as ceftriaxone, cefdinir and cefprozil . Captive API sourcing alleviates pricing pressure For non-antibiotics, which have grown at a fast pace, Lupin has been able to garner market share. Frontrunner in branded formulation sales in the US Lupin is the first to identify branded generics as an alternative to the highly competitive plain vanilla generic segment. Successfully transitioning to chronic therapy in India Lupin has been amongst the fastest growing companies in the domestic formulations space, recording revenue CAGR of 25% over FY05-FY08 as compared to the industry growth of 12% over the same period. Higher-margin chronic segment contributed 23% to sales in FY08 The chronic segment which includes cardio-vascular system (CVS) and diabetes products now contributes 24% to sales as against 16% in FY05. Lupin has significantly reduced its exposure to the low-margin anti-TB space, which accounts for only 17% of sales as a gainst 33% in FY05. Domestic formulations a key revenue driver Valuations- Currently the stock is trading at

3.6X FY08BV, 10.7X FY08EPS and 1.1X Intrinsic value. Therefore the stock is highly undervalued, so I recommend a BUY with a long term perspective.

LUPIN PHARMACEUTICALS LTD. COMPANY BACKGROUND

Established in 1968, Lupin develops and markets a wide range of generic & branded formulations and APIs in multiple markets across the world. The company has gained recognition as the world’s largest manufacturer of tuberculosis drugs. Over the years, Lupin has moved up the value chain from intermediates and APIs to build a robust formulations business. It has a significant presence in the cephalosporin, cephalosporin, cardiovascular (prils and statins), diabetology, asthma and NSAID therapy segments. Over the last four years, the company’s business mix has improved with 70% of its revenues coming from formulations and 30% from APIs. Lupin has a wide onshore and offshore presence with its products available in close to70 countries. In terms of overall revenues, the overseas business constitutes close to 55%, while the balance comes from the domestic market. The US is Lupin’s largest market overseas where it has developed a robust branded and generic business. The company’s manufacturing facilities are approved by international regulatory agencies such as the USFDA, UK MHRA, TGA Australia, WHO, and MCC South Africa. Lupin incurs ~6 –7% –7% of sales on R&D and has an intellectual pool of over 400 scientists focused on NCE and NDDS programmes. The company has been successful in monetizing its research capabilities by licensing out intellectual property related rights to Servier for €40mn. Industry overview India: Among the fastest growing pharma markets India’s pharmaceutical market is valued at ~US$ 7.8bn and has grown at an estimated CAGR of 12% over the past four years. The chronic segment has posted a 16% CAGR over this period, while the acute space exhibited a growth of 12%. According to industry research, the domestic market is expected to grow to US$ 20bn by 2015 and will figure among the top 10 pharmaceutical markets of the world. This growth will be led by increasing disposable incomes, a growing middle-class, expansion of medical infrastructure, greater penetration of healthcare insurance, adoption of the product patent regime, and the rising incidence of chronic and lifestyle diseases. Rural areas in India are expected to contribute one-third one-third of the country’s consumption growth gr owth over the next two years. Fragmented and highly competitive The domestic pharmaceutical industry is centered on branded generics and is intensively competitive. The top 10 players account for only 36% of the market share and the industry remains highly fragmented. The introduction of a new patent regime in 2005 has implied that the growth from new products will slow considerably in the coming years. Companies are looking at other avenues for growth such as in-licensing in-l icensing tie-ups with multinational companies and a wider geographical reach.

LUPIN PHARMACEUTICALS LTD. FINANCIAL HIGHLIGHTS













Revenues for the quarter have moved up by 36 % to Rs 9.8 bn. The revenue growth has been driven by 22 % growth in domestic formulations business and formulations exports exports to regulated markets which have grown by 70 % to Rs 4990 mn. US revenues have shown strong numbers of Rs3200 mn while Japan clocked Rs 1319 mn revenues. The operating margins of the company were lower at 17.9 % as against 20.7 % estimated by us. The lower margins had been due to lower gross margins, higher staff and other expenses on back of Kyowa and other acquisitions done by the company recently. The company's profits were higher by 10.5 % to Rs 1178 mn due to higher interest, depreciation and taxes. Reported Profits are lower by 35 % to Rs 1165 mn on account of one time sale of Perindropril which was accounted in the corresponding quarter quarter of the previous year. The company's revenues for the 9 month period were up by 40 % to Rs 27890 mn. The revenues have netted off forex loss of Rs 550 mn for thenine month period. The key growth drivers have been domestic formulations and formulations formulations exports which have doubled to Rs 12.2 bn for the nine month period on back of US revenues of Rs 7500 mn and Japan revenues of Rs 3200 mn for the nine month period. Operating margins for the nine month period have moved up from 16.2 % to 19.2 %. Improvement in gross margins has been the sole driver of increase in operating margins. The company's profits for the nine month period have moved up by 57 % to Rs 3737 mn. Reported profits for the nine month period were up 10.2% to Rs 3442 mn after accounting for 295 mn of VRS in the current 9 month period while the company had a onetime Perindropril income in the corresponding period of the previous year.

LUPIN PHARMACEUTICALS LTD. KEY HIGHLIGHTS

1. Strong product pipeline for the US market Lupin has emerged as one of the fastest growing companies in the US (revenue CAGR of 237% over FY05-FY08) despite being a late market entrant. We believe product offerings in niche areas, vertical integration in key products and a presence in branded formulations have been key growth contributors for the company in the competitive US market. 2. Manufactures niche products with high entry barriers Lupin focuses on niche offerings for the US and other regulated markets. In the antibiotics space, the company offers sterile injectible products which require dedicated facilities and a complex manufacturing process. process. Given these entry barriers to competitors, it has been able to capture a significant market share for key products such as ceftriaxone, cefdinir and cefprozil from its portfolio of 15 products. 3. Captive API sourcing alleviates pricing pressure For non-antibiotics, which have grown at a fast pace, Lupin has been able to garner market share and absorb the intense pricing pressure mainly due to vertical integration in key products. The company sources its own API for most products which is a crucial advantage in a highly competitive market. As a result, Lupin has the highest sales per product amongst its peer group for the US market. 4. Frontrunner in branded formulation sales in the US With the entry of second and third tier Indian pharmaceutical pharmaceutical companies into the US market, pricing pressure has intensified. Lupin has harvested rich dividends by being one of the first to identify branded generics as an alternative to the highly competitive plain vanilla generic segment After Ranbaxy’s Sotret , Lupin is only the second Indian company to have a presence in the branded generic US market. The company launched its fir st branded product, Suprax Dry Suspension (cefixime), in 2004 – 2004 –05. 05. Suprax is targeted at the paediatric segment and is marketed through a 50-people sales team covering ~10,000 paediatricians. The key differentiator between Suprax and competing drugs like azithromycin and cefdinir are its taste masking properties. Over the years the company has also launched line extensions in the form of Suprax Double Strength suspension powder (in 2007) and Suprax 400mg tablets (in 2008). Revenues from this brand have grown to ~US$ 37mn in FY08 (55% prescription growth and 52% sales growth), a remarkable achievement in three years.

5. Successfully transitioning to chronic therapy in India Lupin has been amongst the fastest growing companies in the domestic formulations space, recording revenue CAGR of 25% over FY05-FY08 as compared to the industry growth of 12% over the same period. Initially focused on antibiotics, which contributed ~60% of domestic pharmaceutical sales, the company has gradually shifted its business mix towards the chronic segment, thereby improving its margins.

6. Higher-margin chronic segment contributed 23% to sales in FY08 The chronic segment which includes cardio-vascular system (CVS) and diabetes products now contributes 24% to sales as against 16% in FY05. Lupin has significantly reduced its exposure to the low-margin anti-TB space, which accounts for only 17% of sales as against 33% in FY05. For FY08, Lupin outperformed the market in key areas of asthma, diabetes and CVS. We estimate revenue CAGR of 15.8% to Rs 14.7bn in the domestic market over FY08FY11 on the strength of new product launches and consolidation of marketing share for existing products. 7. Domestic formulations a key revenue driver The company's deliberate shift from being a TB dominated company to a company having greater focus on segments outside price control and those in the chronic segments has paid dividends. Key therapy areas include Diabetics, Cardiovasculars, Respiratory, Oncology, Wound Management and CNS. In all the chronic segments the company grew twice the industry. The company has banked on niche product introductions such as Gemifloxacin an advanced quinolone, Engraf a biotech product for wound management, Percin (Purlifloxacin) a superior fluroquinolone used in management of respiratory, urinary and gastro-intestinal tract infections. These niche products help in differentiation and enable the company to extend its franchise in the medical fraternity. The company's products in key segments of Anti-infectives and Cephs, CVS+ Diabetes, Anti TB and Asthma rank among the top 3. The company has a policy of using marketing teams based on therapy segments like its peers. Lupin currently has a MR staff strength of 2500 people. The company's top 10 products comprise 27 % of the company's domestic formulations business. 





LUPIN PHARMACEUTICALS LTD. KEY STRATEGIES

Acquisitions an entry strategy for new markets: 1. Japan : Lupin acquired 90 % stake in Kyowa in October 2007. Lupin has paid USD 60 mn for the USD 63 mn company. The company has Rs 2bn yen denominated debt on its books. Kyowa, manufactures and markets a range of generics in Japan. Kyowa has a rich product portfolio in the Psychiatry and Neurological therapeutic categories as well as in Cardiovascular, Respiratory & Allergies and Digestive system. The company received 10 product approvals in April 2008 including Amlodipine and Risperidone. Both the products are gaining market share. Japan's generic market is 6 % currently and is expected to ramp upto 10-12 % in a span of 3 years. 2. Germany: Lupin further consolidated its operations in Europe in Q2 FY09 with the acquisition of Hormosan, a German generics company specialized in the CNS segment. Hormosan had revenues of Euro 6.8 mn for the year ended December 2007. Lupin has reported its first strategic win in the German market through Hormosan in the first quarter having received the results of the AoK tender where it has been offered 1 product in all 5 regions of Germany covering all Aok insured persons. The AoK tender is currently under judicial review. 3. Australia : Lupin has acquired management stake in Generic Health Australia. Revenues are around USD 8 10 mn. The company is marginally profitable. Lupin has already filed for 16 dossiers of generic products which have a market size of AUD 850 mn. And has approvals for 14 of these. We believe the current generics market of AUD 3bn in Australia would double in the next couple of years. 4. Pharma Dynamics South Africa Lupin has acquired a majority stake of 50 % plus in Pharma Dynamics South Africa. The company has not disclosed the acquisition amount. The revenues are to the tune of USD 20 mn. The company is expected to grow by 30-35 % per annum. The company has strong presence in marketing in fast growing segments we believe these acquisitions have enabled the company to gain access to critical markets and will serve as valid strategic entry for key markets.

5. Rubamin acquisition: Lupin acquired 100 % stake in Rubamin a contract manufacturing company in September 2007. It has now called Novodigm. The company used to do business with global pharmaceutical and specialty chemical companies in US, Europe, Japan and other parts of the world. Novodigm now wants to be a part of the entire value chain in the CRAMS space. Lupin is now focusing on expanding the business of Novodigm through alliances, JVs and strategic partnerships. We have factored revenues of Rs 528 mn in FY 2009E and Rs 750mn in FY 2010E. This business would be margin accretive in a time span of two years.

Hedging: The company at any point of time does not hedge more than 30-35 % of its revenues at any point of time. The company has not entered into exotic derivative contracts and majority of revenues are hedged in dollars. However currently the company does not forsee rupee rate beyond Rs 55 and hence has hedged more revenues at current rates. The company would have forex loss or gain depending upon the rate at the end of each quarter.

FCCB implications: Lupin is treating FCCBs as equity. Hence, the company is not taking the same as Debt and has not accounted FCCBs translation loss every quarter. The conversion price is Rs 567 and has been done at a fixed price of Rs 46.26 to a dollar. 30 % of the company FCCBs has been converted to debt.

LUPIN PHARMACEUTICALS LTD. FINANCIALS INCOME STATEMENT Mar ' 08

Mar ' 07

Mar ' 06

Operating income Expenses

14,032.20

12,313.83

9,798.33

Material consumed Manufacturing expenses

6,275.33 383.42

5,484.52 318.32

4,130.04 295.25

Personnel expenses

745

630.15

541.4

Selling expenses

1,044.40

803.29

627


1,266.57

1,116.23

853.39

Expenses capitalised Cost of sales

-112.75 9,601.97

-42.52 8,309.99

-15.78 6,431.30

Operating profit

4,430.23

4,003.84

3,367.03


479.82 4,910.05

300.14 4,303.98

273.22 3,640.25

Financial expenses Depreciation Other write offs

24.61 438.46 -

16.04 362.92 -

21.1 332.34 -

Adjusted PBT Tax charges Adjusted PAT Non recurring items

4,446.98 1,480.97 2,966.01 36.68

3,925.02 1,263.07 2,661.95 -23.92

3,286.81 1,027.57 2,259.24 -70.02

Other non cash adjustments Reported net profit

117.41 3,120.10

61.94 2,699.97

46.13 2,235.35


3,767.63

3,262.03

2,846.76

Equity dividend Preference dividend Dividend tax Retained earnings

1,319.01 224.17 2,224.45

1,166.29 198.21 1,897.53

995.12 139.58 1,712.06

Income:

LUPIN PHARMACEUTICALS LTD. FINANCIALS

QUATERLY RESULTS

Dec ' 08

Sep ' 08

Jun ' 08

Mar ' 08

Sales

3,858.65

3,862.67

3,899.70

3,934.39

Operating profit

1,378.04

1,215.39

1,127.12

1,044.67

0.45

2.78

1.41

2.7

1,475.15 2.39

1,323.06 2.13

1,240.06 1.99

1,205.65 1.95

Dec ' 08

Sep ' 08

Jun ' 08

Mar ' 08

97.56 -48.03

110.45 -108.24

114.35 -48.37

163.68 53.05

1,298.39

1,435.94

1,336.20

1,322.40

Interest Gross profit EPS (Rs)

Other income Stock adjustment Raw material Power and fuel Employee expenses Other expenses Depreciation

-

-

-

-

212.95 1,017.30 144.2

237.67 1,081.91 133.99

218.11 1,266.64 126.11

191.07 1,323.20 121.49

Taxation Net profit / loss

427.74 903.21

386.35 802.72

365.28 748.67

348.52 735.64

Equity capital Agg.of non-prom. shares (Lacs)

377.15

377.02

376.86

376.86

37500.75

37456.05

37429.64

37415.01

Agg.of non promotoholding (%) OPM (%)

99.43 35.71

99.35 31.47

99.32 28.9

99.28 26.55

GPM (%)

37.29

33.3

30.89

29.42

NPM (%)

22.83

20.2

18.65

17.95

LUPIN PHARMACEUTICALS LTD. VALUATIONS Calculation of intrinsic value: Year EPS (Rs)

2004-05

2005-06

2006-07

2007-08

21.02

45.52

37.6

54.02

CAGR: 21.02 (1 + x)3 = 54.02

x = 0.3697 x = 36.97%

EPS1 = 73.9911

Share price as on 31st March, 2008 = 493.90 P/E = 493.90 / 54.02 = 9.14 P/E value (Projected EPS × current P/E) = 676.4948 Book value per share = 160.46 Current market price (market price as on 5TH Mar, 2009) = 577 1st method

2nd method

1/3 of P/E value 225.4983

60% of P/E value 405.8969

1/3 of Book value 53.49

10% of book value 16.046

1/3 of current market price 192.33

30% of current price value 173.1

Total (in Rs) 471.3183

Total (in Rs) 595.0429

PRAJ INDUSTRIES LTD.

AS ON 6

TH

MARCH 2009


KEY SHARE DATA

MARKET CAP- Rs 883.22Cr FACE VALUE- Rs.2 EQ. CAPITAL- Rs.36.63Crs. BSE- 522205 NSE- PRAJIND BOOK VALUE- Rs.19.13


22% 55%

8% 15%

PROMOTERS FII INSTITUTIONS PUBLIC/BODY CORPORATES

INVESTMENT ARGUMENT Praj Industries(PIL) reported a 11.8% growth in topline to Rs 154.8 crore in Q1FY09 as against Rs 138.5 crore in Q1FY08. This is mainly from rising revenues in engineering services. The revenue from ethanol distillery projects contributed 85% to the topline, whereas brewery projects contributed 15%. It is believed that the volatality in crude oil prices have increased the viability of ethanol as an alternative fuel. Simultaneously a sharp decline in corn prices in the United States has intensified the viability for Ethanol production. Domestically, 10% mandatory blending with petrol would be the major demand driver for the company. We believe 10% mandatory blending itself would bring more than Rs 3000 crore of investment, which would directly benefit Praj industries. The emerging opportunity from lignocellulosic (non-food grain) feedstock is huge, though commercially the company will benefit from this technology only after 2010. Valuations- Currently the stock is trading at 2.5X FY08BV, 5.7X FY08EPS and 0.31X Intrinsic value. Therefore the stock is highly undervalued, so I recommend a BUY with a long term perspective.

PRAJ INDUSTRIES LTD. COMPANY BACKGROUND Praj is a global Indian company that offers innovative solutions to significantly add value in bio-ethanol, bio-diesel, brewery plants and process equipment & systems for customers, worldwide. Praj is a knowledge based company with expertise and experience in Bioprocesses and engineering. It has one of the largest resource bases in the industry with over 450 references across all five continents. Led by an accomplished and caring leadership, Praj is a socially responsible corporate citizen. Praj, which is the founding member of Global Growth Companies (part of World Economic Forum), is listed on the Bombay and National Stock Exchanges of India. Energy equations around the world are changing rapidly, making renewable energy sources a part of every nation’s energy policy. Biofuels has been acknowledged as a proven alternative to fossil fuels like petrol (gasoline) and diesel for transportation. Praj has been creating innovative technology platforms to make biofuels a sustainable and attractive choice for all stakeholders for the past 25 years. Apart from making agri-linkages stronger, biofuels work towards mitigation of greenhouse gases for a cleaner, greener environment. Business Lines

Alcohol/Fuel Ethanol Plants



Biodiesel Plants



Brewery Plants



Bio nutrients



Customized Engineering and Manufacturing



Agri-services

PRAJ INDUSTRIES LTD. KEY HIGHLIGHTS

Praj’s net revenue grew by 16.5% Y-o-Y to INR 2100.5 million in 3QFY09. Net revenue is expected to grow by 10% in FY10 based on following ethanol demand drivers: EU Parliament has adopted mandate of 10% biofuels blending in all transport fuels by the year 2020, thereby entailing opportunity of additional 12-14 billion litres capacity for ethanol. USA has pre-poned its Renewable Fuels targets of 11 billion gallons from 2012 to 2009. This move is expected to support the capacity build-up. New orders



The company has received an order worth Rs 120 crore from Vivergo Fuels, UK for the supply of key equipments through its subsidiary, BioCnergy Europa B. V. The plant is designed to produce approximately 400 million litres of fuel ethanol a year (1,200,000 litres per day). The company has also bagged an order worth approximately Rs 42 crore from Maple Etanol S.R.L., Peru, a subsidiary of Maple Energy plc.

Pantaleon Group of Guatemala, one of Central America’s largest sugar groups, has given Praj Industries an order worth Rs 110 crore to supply the technology and equipment for two ethanol plants one of 450,000 LPD (litre per day) and another of 300,000 LPD (litre per day). Concerns EBITDA margin of PIL was impacted by 130 bps Y-o-Y to 19.7% due to increase in raw material and employee cost. We believe the benefit of softening raw material prices to start kicking in from next quarter and expect PIL to post EBITDA margin of 23.1% in FY09 and 24.5% in FY10. 





The company has not yet got any breakthrough in Brazil, due to weak ethanol demand environment and difference in design norms. The company expects the demand to pick up in next couple of quarters.

PRAJ INDUSTRIES LTD. Valuations Calculation of intrinsic value: Year

2005-06

2006-07

2007-08

3.01

10.31

8.38

EPS (Rs)

CAGR: 3.01 (1 + x)2 = 8.38

x = 0.66.85 x = 66.86% EPS1 = 8.38(1+ 0.6685) = 13.98 P/E:Share price as on 31st March, 2008 = 136.15

P/E = 136.15 / 8.38 = 16.25

P/E value (Projected EPS × current P/E) = 227.17



1st method

= 48.15

2nd method

1/3 of P/E value

75.72

60% of P/E value

136.3

1/3 of Book value

6.37

10% of book value

1.91


16.05


14.45

Total (in Rs)

98.15

Total (in Rs)

152.66

PRAJ INDUSTRIES LTD. KEY FINANCIALS INCOME STATEMENT Mar ' 08

Mar ' 07

Mar ' 06

701.63

592.3

261.76

406.45

386.89

172.41

Manufacturing expenses

40.24

27

13.6

Personnel expenses

49.76

28.62

17.13

8.87

6.59

3.65

52.12

35.37

19.42

Cost of sales

557.44

484.46

226.21

Operating profit

144.19

107.84

35.55

8.93

5.8

1.22

153.12

113.64

36.77

Financial expenses

0.03

3.11

2.99

Depreciation

5.54

3.16

2.65

Adjusted PBT

147.55

107.37

31.13

18.48

23.84

7.49

129.08

83.53

23.63

Non recurring items

28.05

3

1.26

Other non cash adjustments

-3.58

-

-0.48

Reported net profit

153.54

86.53

24.41


233.46

113

41.12

36.25

22.62

10.22

6.16

3.17

1.43

191.05

87.2

29.47

Income: Operating income Expenses Material consumed

Selling expenses Adminstrative expenses


Tax charges Adjusted PAT

Equity dividend Dividend tax Retained Earning

PRAJ INDUSTRIES LTD. KEY FINANCIALS

Quarterly statements Dec ' 08

Sep ' 08

Jun ' 08

Mar ' 08

210.05

200.2

154.76

212.62

46.85

32.14

29.81

67.87

0.08

-

-

-

56.63

37.68

31.84

66.4

2.58

1.65

1.35

3.2

Dec ' 08

Sep ' 08

Jun ' 08

Mar ' 08

9.86

5.54

2.03

-1.46

-

-

-

0.46

121.07

106.97

78.11

39.37

-

-

-

-

16.11

17.51

14.18

13.68

-

-

-

-

26.02

43.58

32.66

91.25

2.2

1.93

1.73

1.59

7.12

5.57

5.36

8.89

47.31

30.18

24.75

58.66

-

-

-

2.74

36.69

36.69

36.65

36.63


-

-

1441.92

1441.15


-

-

78.69

78.68

OPM (%)

22.3

16.05

19.26

31.92

GPM (%)

25.75

18.31

20.31

31.45

NPM (%)

21.51

14.67

15.79

27.78

Sales Operating profit Interest Gross profit EPS (Rs) Quarterly results in details Other income Stock adjustment Raw material Power and fuel Employee expenses Excise Other expenses Depreciation Taxation Net profit / loss Extra ordinary item Equity capital

A Research Report on Value Investing

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