Friday, August 29, 2008

Infosys Axon Deal- The times they are a changing

I had in my earlier post on Infosys commented on the investment policy that Infosys had laid out in its balance sheet by laying out a hurdle rate of twice the average cost of capital.

I had also commented on Infosys either needs to lower its hurdle rate to the cost of capital else return capital to shareholders. Clearly the times they are a changing :-).

I think the Axon deal is a positive for Infosys as opposed to earning interest on ICICI fixed deposits.

This will enable them to build a strong foothold in the SAP domain and move up the value chain. The deal is valued at 20 times current year earnings. Infosys will clearly be able to up the margins on Axon by increasing the offshoring content. I personally have dealt with Infosys as a organisation and am confident in the management ability to assimilate this deal and handle a smooth transition.

To me this is a flavour of things to come for the big 3 in the IT sector. Though TCS and Wipro have historically been relatively more aggressive in inorganic growth, I see Infosys utilising the spare cash on it balance sheet more aggressively.

Tuesday, August 26, 2008

DLF - To raise capital

"DLF, the country's largest property developer, plans to seek shareholder approval to raise as much as Rs 10,000 crore from institutional investors over the next 12 months, the company said in a notice to shareholders
The company will place a special resolution for a qualified institutional placement (QIP) before shareholders at its annual general meeting (AGM) on September 30, the company said. DLF may sell shares to investors within 12 months of getting the approval"
I had in my earlier post on 3rd July on DLF questioned the logic of the management in announcing a share buyback when clearly the core business was slowing and capital was scarce for real estate companies.
Now a month down the line the management is back trying to take approval from shareholders a to raise about Rs 10,000 crores of capital from institutional investors by doing a QIP. What can i say?
I had speculated in my earlier post that no significant buyback will take place and i will stick to that speculation.

Sunday, August 24, 2008

Piramal Glass – Till debt does us apart

I was running through the Piramal Glass balance sheet and here are some observations. The company has operations in India, Srilanka and a plant in the US. The US operations are bleeding and clearly some of the acquisitions have been pretty expensive.

The company has a networth of Rs 155 crores against which it has a debt of Rs 1041 crores. Debt – Equity ratio of 6.7:1. Now that is a hell lot of debt on the books.

The company made a loss of 22 crores last year on a turnover of 817 crores. Marginally improved over last year where it made a loss of 37 crores. Operations generated a cash flow of 17 crores against which they paid a interest of 64 crores. So effectively they had to borrow money just to pay interest. They added about 336 crores of debt on the balance sheet.

Power & fuel constitute a significant chunk of the cost, almost 17% of sales. This will go up further this year hitting bottomline. About 510 crores worth of loans are repayable this year which effectively means that they would get funded at a higher cost increasing interest expenses.

On running through the balance sheet, the thought which came to my mind was that these guys are in some serious trouble. I then went to the BSE site and looked at the Q1 results.

It just keeps getting worse. Q1 loss of 11.4 crores as opposed to a FY 08 loss of 22 crores. Q1 interest cost has ballooned to 25 crores against a full year interest of 64 crores last year. Power & Fuel costs have gone up to 21% of sales.

This is a classic case of misplaced overleveraged acquisitions which can bleed a company dry.

But the best part is still to come, the company paid a dividend of 15% to the shareholders because the standalone results don’t reflect the loss. Paid out of borrowed money of course.

The stock is currently ruling at around the 145-150 levels against a book value of Rs 90 which is shrinking every year. The stock price has come down from the Rs 400 mark where it was hovering around six month back.

It would be interesting to watch how they dig themselves out of this hole.

Saturday, August 23, 2008

Balaji Telefilms & Star Group Divorce

Few days back Balaji Telefilms announced parting of ways with the Star group with this press release.

Balaji Telefilms will have to acquire 25.99% stake that Star holds at a aggregate price of Rs 190 per share within a period of 240 days. In the event that the promoters Ekta Kapoor and family are unable to buy the stake, then Star has a option to sell this stake to a third party.

The press has been agog with all kinds of rumours as to who will buy Star’s stake. It started with ADAG and Eros and then followed up with PE funds like 3i, New Silk Route, Kotak etc.

The interesting part is the shareholding structure. Ekta Kapoor & family own 40% of the company. If ADAG or Eros were to acquire Star’s entire stake, it will result in the open offer getting triggered for 20% and could result in there stake being higher than Ekta Kapoor’s ( 25.99%+20% = 45.99%). It would be true if any of the private equity funds were to do the same.

The most likely scenario would be this stake being distributed across a few investors and not being acquired by a single investor. It would be interesting to see how things play out.

Monday, August 18, 2008

Arbitrage Trade Gone Wrong ( Almost) - Dabur Pharma

I spotted a potential arbitrage opportunity last month in Dabur Pharma and invested on that basis. Let me list down the chain of events.

1) Dabur Pharma got acquired by Fresenius as the Burman’s exited the business. Fresenius made a open offer for the stock at Rs 76.5 per share.
2) The open offer opened in June 20th and ended on July 09th
3) Fresenius before the open offer by way of share purchase agreement bought 73.27% stake in the company.
4) 25th July - The post open offer status was communicated to the exchanges. The company had managed to garner 17.62% shares in the open offer and had increased its holding to 90.89%.
5) The stock ended 25th July at around Rs 61.50 which was a Friday and the announcement was done post market hours.

Investment Rationale

Having garnered 90.89% stake, as per SEBI norms the company would have to delist its shares as the public shareholding was less than 10%. There were two possible possibilities here

1) Option 1 - Fresenius choses to delist Dabur Pharma in which case the remaining shareholders have to be provided a exit at the last open offer price of Rs 76.50. This was a clean 24% return on investment in a 2-3 month horizon.

2) Option 2 - Fresenius choses not to delist Dabur Pharma in which case it would have to sell its stake so as to bring it below 90%.

I betted that Option 1 is what Fresenius would go with. While putting together the initial share purchase agreement Fresenius assiduously went about acquiring shares from all possible significant shareholding group and not just the promoters. It acquired stake from IFC ( International Finance Corporation) and also acquired all ESOP’s that were issued to employees something that it didn’t have to go about doing.

Also Fresinius already had a 100% subsidiary in India called Fresenius Kabi India Pvt Ltd so it made logical sense to go that route.

I bought the stock on Monday / Tuesday in the price range of Rs 61.50 – Rs 62.5.

Events post that

1) 11th August - The erstwhile board of directors along with the CEO resigned and a new board was elected driven by Fresenius
2) 11th August - The new board on the same day acknowledged receipt of a proposal from Fresenius Kabi AG to jointly develop business, increase operational efficiencies and provide access to markets for products manufactured by Dabur Pharma.
3) On the same day in a press conference in Delhi Rainer Baule the CEO of Fresenius Kabi stated that Fresenius will invest 30 million Euros in Dabur Pharma to double capacity. He also said that the company will sell 1% of its stake to a strategic investor to keep Dabur Pharma listed.

There went my arbitrage trade though there is still no official announcement on this. Luckily the stock went up post this announcement and currently hovers around the Rs 68 -69 mark. I have a 1 month compliance issue before I can sell the stock and intend to sell post that.

Though the fundamental story might be good and the stock could potentially go higher but that is a independent assessment. I wouldn’t want to rationalise a arbitrage call into a fundamental call because the arbitrage story might not play out.

Abbott India - Buyback Update

I had in my previous post stated about the pending buyback offer. The buyback offer through the tender has commenced from today and will be on till Sept 2nd. The link to the details and forms are available here.

The company is buying back 7,97,500 shares at a price of Rs 630 per share. The management has gone for a lower buyback price compared to Rs 650 offered in the previous buyback. The paid up equity capital will reduce from Rs 14.47 crores to Rs 13.68 crores.

I wouldn’t be surprised if another buyback is announced post completion of this one as the parents philosophy is to aggressively buyback shares worldover.

Saturday, August 9, 2008

ITC Bingo - 2

In my previous post, as was rightly pointed out to me I had missed out on 2 business divisions in ITC

9) ITC Infotech
The company registered a total income of about Rs 400 crores on a consolidated basis and a bottom line of about Rs 10 crores. Not exactly a great set of numbers considering the peer group

10) Education & Stationary Products
The company registered a growth of 72% last year in terms of topline albeit on a small base. Its two flagship brands are “Classmate” for the student community and “PaperKraft” for the discerning working executive.

Some observations on ITC
1) Branding - The company has always managed to create a slight premium positioning for its brands. So whether it is the hotels business or Wills Lifestyle or Fiama Lifestyle. This has enabled the company to address the mass maket effectively whenever it has moved the brand down. It is relatively easier to move a brand from the premium segment to the mass market as opposed to the other way around.
2) The company boasts of a phenomenonal distribution network like HUL and hence is able to leverage that as it keeps expanding its product portfolio.
3) The E-choupal initiative is a great asset to have both from a sourcing as well as sales perspective for most of the divisions. This could potentially become one of the most attractive pieces in the ITC portfolio.
4) Management is clearly working aggressively in expanding the non tobacco portfolio and it wouldn’t surprise me if ITC sells off the tobacco business on a 10-15 year horizon and becomes a huge FMCG player taking on the MNC players like HLL, P& G, Nestle etc
5) Financial ratios like RONW might lower in the near future as the company invests money aggressively in building the FMCG business.

Investment Call
ITC to me is clearly a long term call on a 5- 10 year ( Not 2-3 years) horizon in which the company will transform itself. It is a compounding story which might compound at 15-18% a year unless something drastic comes up on the tobacco regulation front.

The stock however is currently available at 23 times last years EPS of 8.35. I would wait for it to reach lower levels before I buy the stock.

Wednesday, August 6, 2008

ITC - Bingo

I like the way ITC is evolving after running through its annual report. The company has been continuously de-risking itself from the tobacco business into other areas over the last few years.

The tobacco business continues to be the cash cow in the portfolio that generates the cashflow to be invested into the other business segments. The net income of the company has grown from Rs 4353 crores in 2001 to about Rs 14558 crores in 2008. I have taken net income as cigarettes have very high excise duties and levies and tends to skew the topline.

The interesting part is that Non cigarette income has grown from Rs 900 corores which was about 20% of Net turnover to about Rs 7300 crores which is over 50% of the net turnover.

ITC effectively today has a bigger non tobacco business than the tobacco business. It’s a dramatic metamorphosis of such large corporation. The company is doing some very interesting things in the agri domain which could potentially become a huge play for the corporate sector as Indian agriculture open ups.

A brief snapshot of the various business divisions and the brand portfolio that the company has built.

1) Cigarettes / Tobacco
The company is clearly the numero uno in this business and is the cash cow for the company. The company has no great competition in the domain and will maintain its marketshare in this business. The biggest challenge arises from the fact that finance ministers love cigarettes or atleast the revenues that come out of it. So it remains the favourite whipping boy in terms of taxes being levied.

2) FMCG - Food
a) Branded Packaged Foods
The company has built up a significant share in this segment. Both Aashirwad and Sunfeast are 1000 crore brands. The company launched the “Bingo” range of chips last year and is beginning to give Lays a run for its money.
b) Confectionaries
The confectionaries business grew by 40% last year. The company has 2 strong brands Minto and Candyman in the segment.
c) Ready to Eat Segment
The company sells products like Sunfeast Pasta, Aashirvaad Instant Mixes and has a strong export business where it markets under the “ Kitchens of India” brand.

3) Personal Care
The company entered the personal care business last year and has brands like Fiama Di Wills, Vivel Di Wills, Vivel & Superia. This is a 20,000 crore market with HUL being the big daddy of this business.

4) Hotels
It has emerged as the second largest hotel chain in India offering over 90 hotels across 77 destinations under 4 different brand propositions – ITC Hotels, Welcom Hotel, Fortune, Welcome Heritage & the Sheraton Franchisee aggregating about 6000 rooms. Turnover crossed the 1000 crore mark this year.

5) Lifestyle Clothing
The company has managed to carve a niche in the premium segment of the lifestyle retailing segment with the Wills Lifestyle range. The company has added a popular segment brand John Players to expand its portfolio.

6) Paperboards & speciality Paper
The paperboard segment delivered a growth of 13% last year with revenues of Rs 2364 crores

7) Safety Matches / Aroma Sticks
The company is the largest manufacturer of safety matches after it acquired Wimco Ltd. It also has a strong presence in the incense sticks segment with brands like Mangaldeep.

8) Agri Trading
This is clearly ITC’s pioneering work in terms of addressing and working closing the Indian agricultural economy. Its e-choupal model is a acknowledged case study in this domain and is today replicated by other organsiations. The divisions performance got hampered due to the ban on exports of agri commodities. However the company has constantly expanded its portfolio from tobacco to high value frozen foods, potatoes, spices, staples etc.

Will continue in my next post in terms of my take on ITC and whether it is a good bet at current prices.

Friday, August 1, 2008

Sachin Tendulkar, Rahul Dravid, Rakesh Jhunjhunwala

What does Sachin Tendulkar have to do with Investing? I think a lot and to me forms the basis of how I approach investing.

Sachin Tendulkar is a phenomenonal batsman and a thinking cricketer. He clearly the best batsman this country has produced if the not the world. I think he was born gifted and has a amazing sense of timing and hand eye co-ordination. He showed it, way early in his career and progressed by building on it. He is, as I would say a “natural”.

Every single Indian who picks up a bat aspires to be like Sachin Tendulkar. Mother pray and fathers bray in coaxing their litters into wielding the willow. But for every Tendulkar, there are a million who fall by the wayside and are left selling credit cards and writing blogs :-).

Let me examine another cricketer - Rahul Dravid. I wouldn’t by any stretch of imagination call him a natural. Dravid is the hard working, technically correct cricketer who puts in a lot of effort and displays tenacity. He unfortunately is not gifted with the raw natural talent that Sachin has ( This is true for 99.99% of us ). So he has made that up with sheer hard work and getting down to the basics. I would put Anil Kumble in a similar bracket as Dravid.

Dravid will not be as great as Sachin but he has left his indelible mark on Indian cricket.

The problem is that all of us aspire to be like Sachin when we are as talented as Dravid, if not worse. We walk in believing that we are potential god’s gift to mankind and leave the field with dreams shattered and egos hurt.

The key to success is to realise whether you have the natural talent of Sachin and if not, to change tack and become like the hardworking Dravid. Strategy No 2 clearly has a higher probability of success.

So what does this have to do with stockmarkets?
I think most people behave very similar when it comes to the stockmarkets. We all believe that we are the Sachin Tendulkars of the market with inborn insights and natural stock picking abilities.
There are people who have those abilities and I have met people like that. People who have the right instincts in terms of timing the market or the ability to look at a trading screen and see patterns. I have met people who can look at a balance sheet’s and come up with amazing insights.

Unfortunately these people constitute just 0.01 % of the population that exists in the stockmarkets. The remaining 99.99 % of us are not born with natural instincts. And a significant chunk of this population enters the market believing that they are the next Rakesh Jhunjhunwala’s of the world.

They leave disheartened and disillusioned by the experience and unfortunately some a lot poorer.

The way I look at the markets for myself is to position myself as a Dravid ( Knowing fairly well that I m not a Sachin). Nudging here and there, scoring those singles and twos and hopefully a few fours and sixes along the way.

The key to scoring runs is to retain your wicket or your portfolio to play the next day.