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Saturday, April 14, 2007
Global PE funds set to hit the road with $1.5 b kitty
Global private equity funds are set to drive on Indian roads. At least half a dozen PE firms, including Goldman Sachs, Lehman Brothers, Citigroup and few Gulf-based funds are keen on making a foray into the domestic road sector. Experts say funds worth $1-1.5 billion may be invested in the next 6-8 months. This would be the first time PE investments of such magnitude would flow into the sector.
“The road sector is witnessing unprecedented interest from global private equity majors. With returns expected to be good, PE investments to the tune of $1-1.5 billion is expected,” said Punj Lloyd chairman Atul Punj. Goldman Sachs recently picked up 5% stake in IL&FS Transportation Networks Limited (ITNL) for a consideration of $20 million. ITNL is a vehicle promoted by IL&FS to spearhead its initiative in the roads sector.
Industry experts say PE firms are in talks for investing in public-private partnerships (PPP) projects in which revenue stream has been fixed and identified. “They are scouting for a lot of deals in the road sector, which not only have a fixed and defined revenue stream but also have shorter gestation period,” said a leading investment banker.
Construction companies are in discussion with PE funds for jointly investing in road projects through the SPV route. Investment bankers say deals in southern and western parts of India are being discussed and some of these are in the range of $50-80 million. Several Gulf-based funds which have global expertise in managing road projects are also learnt to be interested in picking equity in Indian road projects.
Automatic approval of up to 100% FDI is allowed in the construction and maintenance of roads and bridges and in case of land transport support services such as the operation of highway bridges, toll roads and vehicles.
However, even after allowing 100% foreign direct investment in the sector, Indian roads till now have not attracted a lot of foreign investment. But with PE funds becoming gung-ho on this sector, investment may just start pouring into this sector.
Infosys: Momentum play
A good guidance from Infosys has more than offset a rather staid March quarter
Infosys’ March quarter numbers may have come in a tad below expectations with revenue growth at just 3.2 per cent quarter-on-quarter and a drop in the operating margins owing to an appreciating rupee.
But the Rs 13,893 crore technology major has more than made up for it with a good guidance for FY08. The Bangalore-based company has said it hopes to become a $4 billion company through a revenue increase of about 28-30 per cent in dollar terms, while targeting a bottom line growth of between 29 and 31 per cent over FY07.
The management appears confident about the operating environment, the continuing momentum in offshoring and believes that companies overseas will need to increasingly leverage the global delivery model in a bid to keep costs in check.
Thus, even after a hit on margins of around 300 basis points, thanks to 14-15 per cent increase in salaries offshore and 3-6 per cent onshore, and an additional hit of around 110 basis points owing to the rupee appreciation, Infosys should be able to maintain operating margins in FY08.
This would be possible thanks to lower expenses on sales and general administration arising from a higher scale of operations, better utilisation from the current levels of 74 per cent and lower losses from subsidiaries.
However, earnings per share (EPS) will be impacted by about 3 per cent owing to the dilution in equity resulting from the exercising of stock options.
Infosys’ PBO subsidiary, Infosys BPO, is expected to clock revenues of 925 crore in FY08 up around 40 per cent over FY07 with operating margins of between 23 per cent and 24 per cent. The consulting subsidiary, the management says, should turn around in FY08.
Revenues for the fourth quarter at 3.2 per cent to Rs 3,772 crore may seem muted, but the growth was a decent 5.1 per cent in dollar terms. Billing rates were up for both the onsite and offshore segments by 1.75 per cent and 1.37 per cent respectively and going ahead, the company should benefit from stable pricing.
The top 10 clients grew by more than 15.5 per cent. This is the fourth consecutive quarter of double-digit growth for the top ten clients, indicating that the company is able to mine its bigger clients.
However, operating profit dropped 100 basis points to 31.73 per cent and the operating profit remained flat at Rs 1197 crore.
Attrition has gone up marginally to around 13.7per cent, a problem that is likely to persist. At Rs 2,090, the stock trades at around 24 times estimated FY08 earnings and is attractively valued given that the company would have cash reserves of around Rs 8,500 crore by FY08 even after accounting for dividend payouts and capital expenditure.
Honeywell Automation: Labour pain
Honeywell Automation, which provides engineering and automation solutions to diverse industries such as oil and gas, infrastructure and the manufacturing sector, benefited from strong demand conditions in the March 2007 quarter, but it had to also grapple with higher operational costs.
As a result, operating profit grew merely 4.7 per cent y-o-y to Rs 22.3 crore in the March 2007 quarter compared with 21.9 per cent growth in net sales to Rs 189 crore. Operating profit margin also declined 190 basis points y-o-y to 11.8 per cent in the last quarter.
The pressure on margins in the last quarter was due to the rise in staff costs by 30.8 per cent y-o-y, coupled with adjusted raw material costs, as a percentage of net sales, rising 130 basis points y-o-y to 60 per cent. In contrast, in CY06, operating profit margin grew 300 basis points y-o-y to 13.3 per cent.
The Honeywell stock has declined 6.5 per during the past three months, which is broadly in tune with the fall in the BSE Mid-Cap Index. Going forward, demand conditions for the company’s repertoire of engineering and automation solutions are expected to remain strong.
However, its ability to manage operational costs will also be crucial. The stock closed at Rs 1,700 on Friday, which discounts trailing 12-month earnings 25.7 times, given the company’s growth prospects.
Stocks you can pick-up this week
Firstsource
cmp: Rs 75.25
target price: Rs 95
Merrill Lynch has initiated coverage on BPO firm Firstsource Solutions with a buy rating and a price target of Rs 95.
“FS’s key strengths are domain expertise, integrated offshore-onshore delivery and ability to complement organic growth through acquisitions/alliances, with a history of retaining acquired clients/people,” the Merrill note to clients said.
“Our 44% revenue CAGR over FY07-09 assumes mining of FS’s marquee client base eg BSkyB, Vodaphone, CapitalOne and new wins, also helped by inorganic moves like the partnership with US bank tech major, Metavante. We believe revenue visibility is high, given the annuity nature of BPO,” the note added.
PFC
cmp: Rs 107.25
target price: Rs 100
Kotak Securities has initiated coverage on PFC with an underperform rating and a price target of Rs 100, saying pressure on margins would make it unattractive relative to PSU banks.
“We expect buoyancy in the power sector to grow PFC’s loan book by 19% and operational income by 15% CAGR in FY06-09. However, the company is likely to generate a return on equity (RoE) of 12% close to its cost of equity, given the low spreads in its lending business,” the Kotak note to clients said.
“Key risks to PFC’s model are any slowdown in the reforms process, increase in competition and development of a vibrant debt market,” the note added.
Britannia Inds
cmp: Rs 1,245.40
target price: Rs 1568
Anand Rathi Securities has initiated coverage on Britannia Industries with an outperformer rating and a 12-month price target of Rs 1,568.
“We expect Britannia to record revenue CAGR of 20% over FY06 to FY09. Sharp rise in raw material prices forced many unorganised players to exit from the category,” the Anand Rathi note to clients said.
“On the other hand increased advertisement spends by organised players expanded the category, resulting in growth in volumes,” the note added, saying it expected the company to hold on to its market share in excess of 38%.
Indian Overseas
cmp: Rs 97.85
target price: Rs 124
HDFC Securities has initiated coverage on Indian Overseas Bank with an outperformer rating and a price target of Rs 124.
“The bank has one of the best net interest margins (3.91%) in the industry,” the HDFC Securities note to clients said. The brokerage has conservatively estimated a 27 basis point and 5 basis point decline in IOB’s NIM for FY08 and FY09.
“However, the bank is expected to comfortably maintain an undemanding RoE level of 18.73% in spite of the adverse business environment, which entitles it to be considered at a fair book value multiple of 1.5 times,” the note added.
Cinemax India
cmp: Rs 133.50
target price: Rs 193
Emkay Share & Stock Brokers has initiated coverage on Cinemax India with a buy rating and a price target of Rs 193.
“We believe with incremental seats addition of around 24,000 in the next two years and with marginal increase in average ticket price and conservative occupancy rate, Cinemax can comfortably drive ticket sales CAGR (compounded annual growth rate) of around 60% over FY07E (estimated)-09E, which drives growth in other business segment like gaming, F&B (food and beverages) and advertising,” the Emkay note to clients said.
“Cinemax being a part of renowned real-estate group is in better position to leverage the advantage and complete its scheduled futures plans,” the note added.
“However, the bank is expected to comfortably maintain an undemanding RoE level of 18.73% in spite of the adverse business environment, which entitles it to be considered at a fair book value multiple of 1.5 times,” the note added.
Cinemax India
cmp: Rs 133.50
target price: Rs 193
Emkay Share & Stock Brokers has initiated coverage on Cinemax India with a buy rating and a price target of Rs 193.
“We believe with incremental seats addition of around 24,000 in the next two years and with marginal increase in average ticket price and conservative occupancy rate, Cinemax can comfortably drive ticket sales CAGR (compounded annual growth rate) of around 60% over FY07E (estimated)-09E, which drives growth in other business segment like gaming, F&B (food and beverages) and advertising,” the Emkay note to clients said.
“Cinemax being a part of renowned real-estate group is in better position to leverage the advantage and complete its scheduled futures plans,” the note added.
Banks rake in profits at the cost of depositors profits worth Rs 4111 cr from depositors
Indian banks are raking undue profits worth Rs 4111 crore annually at the cost of their depositors parking funds in their savings bank accounts.
Profits are made by the banks, in fact, even without the knowledge of their savings bank account holders. It is a surprising, but a fact, that most banks do not pay any interest on a large chunk funds lying with them in the savings accounts.
Currently, the stated rate is 3.5 percent per annum. Owing to archaic interest computation principles and banks refusal to change over, the effective interest rate paid on savings bank deposits is a miniscule 2.8 percent.
It works like this: Banks pay interest on minimum balance lying in a savings account between 10th and end of the month.
If a customer deposits, say Rs 1000 into his savings account on July 11 and withdraws on August 31, he will not entitled to any interest from his bank despite the fact that the funds were lying with the bank for 51 days.
On the other-hand, if the customer puts in Rs 1000 on say April 10 and withdraws the same by the month end, i.e. 19 days, he or she may earn higher interest.
But, the data with RBI has shown that most banks continue to follow archaic interest computation methods thereby denying their customers the actual interest payable on savings bank deposits.
RBI Bulletin of March 2007 has reported that the banks have with them a humungous Rs 587,217 crore in the savings bank deposits during December 2005 – November 2006. Banks have made a moolah on the interest unpaid to its customers on these funds.
Banking Codes and Standards Board of India (BCSBI) Chairperson Kishori J.Udeshi has pointed to the ripping of consumers by banks across the country in an internal note. Uddeshi questioned, “In these days of electronic wizardry, is it necessary to continue to follow this methodology for the ease and convenience of banks at the cost of the depositors?”
The rip off constitutes a massive chunk of banks’ profits. During 2005-06, the scheduled commercial banks reported Rs 24,592 crore as net profits.
Another issue is why should the banks pay interest on the minimum balance and not the maximum? This again seems to be a case of high-handedness of banks against their vulnerable customers.
As per RBI norms, the banks charge highest interest rate on even a day’s overdraft availed by a customer. The contradiction seems to be bogging the bankers seeking to bring in ‘customer friendly ethics’ into Indian banking industry.
Dr Ashish Das, a Visiting Professor at the University of Akron, in his latest study has recommended switchover to computation of interest on savings bank deposits based on daily balances thereby allowing the customer to get the complete benefit of annual interest rate fixed by RBI.
In his study, Dr Ashish Das has also pointed out that the banks will have to put a stop to quarterly crediting of interest computed on monthly basis by banks. Most banks are taking longer to pay the interest amount to their customers which he is entitled to.
However, the Indian Banks Association (IBA) is not very comfortable with these suggestions. In fact, most banks have opposed the switchover citing the huge costs. Moreover, the banks are not willing to surrender a chunk of their profits in favour of their customers.
Further, there seems to be a case for hiking the nominal interest paid on savings deposits to 4 percent from prevailing 3.5 percent. Another alternative being floating serious bankers is the possibility of partial deregulation in the floor rates applicable to balances in savings bank accounts.
The recommendation of a section of banking establishment is that a lower ceiling be put on interest rate payable by banks to its customers on savings bank deposits.
Hike in interest rates and providing flexibility on savings bank interest rates has been hanging fire during last five years. Taking into consideration the then prevailing interest rate scenario, incumbent RBI Governor Dr Bimal Jalan reduced the rate by 0.5 percent to 3.5 percent in the Monetary and Credit policy presented on April 29, 2002.
From then on, there has been no change in the rate thereby allowing the banks to rake in undue profits on savings bank accounts deposits in last five years.
Current RBI Governor Dr Yaga Venugopal Reddy has resisted the move to restore the 4 percent interest rate on savings deposits in the monetary policy of 2006-07 owing to pressure from IBA.
According to sources, aggressive private and public sector bankers who are eager to show healthy balance sheets have already commenced lobbying against any revision even this time round. Dr Reddy is likely to take a view in the scheduled monetary policy review scheduled for April 24, i.e. ten days from now.
Trend analysis on interest rates applicable to savings bank deposits vis-à-vis prime lending rate, cash reserve ratio, repo and reverse repo rates and term deposit rates has shown that there is a case for revision this time round.
IT-BPO revenues expected to cross $48 billion in FY07
The Indian IT-BPO sector, both in exports and domestic business, is expected to register a growth of 28% in 2006-07 and revenues are likely to exceed $47.8 billion, nearly a 10-fold increase over the aggregate revenue in 1998. The direct employment offered by the sector is likely to cross 1.6 million. In 1998, the aggregate IT-BPO revenue was $4.8 billion.
According to Nasscom Strategic Review 2007, IT services exports accounting for 55-57% of total exports, are growing at 36% and expected to reach $18.1 billion in 2006-07. Newer areas of application and infrastructure management testing are gaining traction with their share in the business-mix growing rapidly.
BPOs continue to grow in scale and scope with firms increasingly adopting a vertical focused approach. Total BPO exports are expected to exceed $8.3 billion in 2006-07 growing by 32% Y-o-Y. Increasing traction in offshore product development and engineering services is supplementing India’s efforts in its own IP creation.
This group is growing at 22-23% and is expected to report $4.9 billion in exports in 2006-07. The domestic market is also picking up. The total size of the domestic market is expected to cross $15.9 billion in 2006-07 a growth of 21% Y-o-Y. Although this segment has been led by MNCs in the past few years, Indian firms are gradually gaining ground.
Service and software sector remain the mainstay of the sector. In 2006-07, export growth is likely to beat forecasts and exceed 32%.
While the US and UK remain the dominant markets, contributing 67% and 15% of total exports, respectively, firms are also keenly exploring new geographies for business development and to strengthen their global delivery footprint. Banking, financial services, insurance and technology are the main verticals accounting for the 60% of the total healthcare and transportation follow — also growing rapidly.
Indian IT Industry, as a proportion of gross domestic product, has grown from 1.2% in 1998 to an estimated 5.4% in 2006-07.
Sharekhan Investor's Eye dated April 13, 2007
PULSE TRACK
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Inflation falls below 6%
STOCK UPDATE
Infosys Technologies
Cluster: Evergreen
Recommendation: Buy
Price target: Rs2,520
Current market price: Rs2,088
Chinks in the armour
Result highlight
- For the fourth quarter of FY2007, the consolidated revenue of Infosys Technologies (Infosys) grew at a tepid rate of 3.2% quarter on quarter (qoq) and 43.8% year on year (yoy) to Rs3,772 crore. The company has not been able to meet the consensus estimate of a 5-6% sequential growth in the revenue and, for the first time, it could not achieve even the lower end of its own guidance. This essentially means that the company, known for its conservatism, couldn't manage even an unexpected 0.8% higher appreciation in the rupee (an average realisation of Rs43.75 against an assumption of Rs44.11).
- The sequential decline of 100 basis points in its operating profit margin (OPM) to 31.7% has been largely contributed by the adverse impact of the appreciation in the rupee, higher selling, general and administration (SG&A) expenses and the sequential decline in the utilisation rate. On the other hand, the 1.7% sequential improvement in the billing rates positively affected the margins.
- The other income more than doubled to Rs119 core (up from Rs59 crore in Q3FY2007) due to significantly higher yield on investments during the quarter. The translation loss was also limited to just Rs5 crore which is quite commendable given the 1.8% appreciation in the rupee and sundry debtors in excess of $500 million.
- Consequently, the consolidated earnings grew at a relatively higher rate of 3.8% to Rs1,020 crore (excluding the tax write-back of Rs124 crore related to overseas locations in earlier years). This is again lower than street expectation of around Rs1,040 crore.
- On the full year basis, the revenue and earnings grew by 45.9% and 51.6% respectively. The OPM declined by 90 basis points to 31.6% in FY2007. However, the jump of 167.6% in the other income component boosted the overall growth in the earnings and resulted in a 100-basis-point improvement in the net margin to 26.8% (excluding one-time items).
- In terms of the FY2008 guidance, the company has been able to meet the street expectations for the growth in dollar terms. It has guided for consolidated revenue of $3.95-4.02 billion (a growth of 28-30%) and an earnings per share (EPS) growth in the range of 25.7-27.7%. However, given the rupee appreciation, the consolidated revenue in rupee terms is guided to grow at a relatively much lower rate of 22.6-24.6% (Rs17,038-17,308 crore). The EPS growth in rupee terms is guided in the range of 20-22% (Rs80.3-81.6) which factors in the adverse impact of the exchange rate fluctuations and around 3% dilution in the equity base during the fourth quarter. The EPS growth guidance is lower than the street expectations.
- The guidance for Q1FY2008 is all the more muted with the earnings guided to remain flat and EPS guided to decline by 1.4% (due to dilution of equity). The consolidated revenues are guided to grow in the range of 3.3-3.7% sequentially.
- We have revised downwards the earnings estimate for FY2008 by around 7% to factor in the dilution of the equity capital and appreciation of the rupee. We maintain the Buy call on the stock with a revised price target of Rs2,520 (24x its FY2009 earnings estimate of Rs105 per share).
ITC
Cluster: Apple Green
Recommendation: Buy
Price target: Rs200
Current market price: Rs154
ITC ties up with Starwood
The speculation over the state of alliance between ITC-Welcomgroup and its international partner Starwood Hotels & Resorts has ended. The two companies have announced a tie-up under which Starwood Hotels & Resorts will bring its premium brand Luxury Collection to India. This new alliance will help ITC to climb up the value chain.
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