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Sunday, June 08, 2008

Market may remain subdued

Inflation-battered stock markets are unlikely to see any steady upsurge this week, considering the soaring global oil prices, unrelenting inflationary pressure and indications of RBI tightening the monetary policy further, analysts have said.

Investors should tread a cautious path since the week would begin with negative sentiments primarily owing to the repercussions of higher fuel price, analysts have said.

Last week's fuel price hike is expected to have a cascading effect on all commodities, products and services and is likely to stoke inflation to higher levels, they added.

The government on last Wednesday raised petrol price by Rs 5 a litre and that of diesel by Rs 3 a litre in an attempt to offset the mounting losses of state-owned refiners due to higher global crude prices.

Inflationary pressure is expected to continue, at least in the near term, they said. Inflation surged to 8.24 per cent for the week ended May 24 from 8.1 per cent in the previous week, despite a fall in prices of some essential commodities, fruits, vegetables spices.

Wholesale prices-based inflation stood at 5.15 per cent a year ago. The rate of price rise is expected to advance further after two weeks, when the June 5 increase in prices of petrol, diesel and cooking gas would be taken into account.

Hinting at a possible increase in cash reserve ratio (CRR)-- the amount banks are mandated to keep with the central bank-- or short-term rates, Reserve Bank of India Governor Y V Reddy last Thursday said the central bank would take all measures to curb inflation.

The next policy review meeting of RBI is on July 29.

The markets, after a hike fuel prices last week, declined by about 10 per cent. The benchmark Sensex on BSE dropped 843.39 points, or 5.14 per cent, to 15,572.18, while the S&P CNX Nifty fell 242.3 points, or 4.97 per cent, to 4,627.80 during the week ended June 6.

Foreign institutional investors' (FIIs) contribution in buying equities remained negative in the year 2008 (till June 6) as they made gross purchases of shares worth Rs 3,86,594 crore and sold the same valued at Rs 4,05,254.60 crore, indicating a deficit of Rs 18,660.60 crore.

However, mutual funds' record in purchasing equities was a bit better in June as they made gross purchases of shares (till June 4) worth Rs 1,932.30 crore and sold the same valued at Rs 1,788.10 crore, reflecting a net investment of mere Rs 144.20 crore.

Company Background - Idea Cellular

DEA Cellular Limited, a part of the Aditya Birla Group and an India's leading Global System for Mobile communication (GSM) Mobile Services operator was began its journey in the year 1995 as in the name of Birla Communications Limited for providing GSM-based services in the Gujarat and Maharashtra Circles. Later the company has licenses to operate in all 22 Service Areas. Presently, operations exist in 11 Service Areas covering Delhi, Maharashtra, Goa, Gujarat, Andhra Pradesh, Madhya Pradesh, Chattisgarh, Uttaranchal, Haryana, UP-West, Himachal Pradesh, UP-East, Rajasthan and Kerala. With a customer base of over 24 million, IDEA Cellular's footprint currently covers approximately 60% of India's telecom population. The company's operational 11 Service Areas are broken up into Established and New Service Areas. The established service areas are Delhi, Andhra Pradesh, Gujarat and Maharashtra, Haryana, Kerala, Madhya Pradesh and Uttar Pradesh (West) and the New Service Areas are Uttar Pradesh (East), Rajasthan and Himachal Pradesh.

Changed its name to Birla AT&T Communications Limited followed by joint venture between Grasim Industries and AT&T Corporation in the year 1996. After a year, in 1997, commenced its operations in the Gujarat and Maharashtra. Migrated to revenues share license fee regime under New Telecommunications Policy ('NTP') Circles in the year 1999. During the year 2000, the company merged with Tata Cellular Limited, thereby acquired original license for the Andhra Pradesh Circle. IDEA acquired RPG Cellular Limited and consequently the license for the Madhya Pradesh (including Chattisgarh) Circle in the year 2001, and in the same year changed its name from Birla AT&T Communications Limited to Birla Tata AT&T Limited. Obtained license for providing GSM-based services in the Delhi Circle. Again in year later, in 2002, the company altered its name to Idea Cellular Limited and launched 'Idea' brand name and commenced its commercial operations in Delhi Circle. During the year, the company reached one million subscriber mark consecutively in the year 2003, reached two million subscriber mark.

During the year 2004, the company acquired Escotel Mobile Communications Limited (subsequently renamed as Idea Mobile Communications Limited), reached the four million subscriber mark and the first operator in India to commercially launched EDGE services 2005. Reached the five million subscriber mark in the year 2005 and IDEA won an Award for the 'Bill Flash' service at GSM Association Awards in Barcelona, Spain. The Company became a part of the Aditya Birla Group in the year 2006, subsequent to the TATA Group transferred its entire shareholding in the Company to the Aditya Birla Group. In the same year 2006, IDEA acquired Escorts Telecommunications Limited (subsequently renamed as Idea Telecommunications Limited). The Company reached the 10 million subscriber mark and also launched New Circles for obtain more and more customers. IDEA has extended its reach to 500 towns in Andhra Pradesh in August of the year 2006. Received Letter of Intent from the DoT for a new UAS License for both Mumbai and Bihar Circles. ABNL, the parent of Aditya Birla Telecom Limited, agreed to transfer its entire shareholding in Aditya Birla Telecom Limited to the Company for the consideration of Rs. 100 million. In 2007, the company won an award for the 'CARE' service in the 'Best Billing or Customer Care Solution' at the GSM Association Awards in Barcelona, Spain.

The Initial Public Offering aggregating to Rs. 28,187 million and the company listed in both Bombay Stock Exchange and the National Stock Exchange during the year 2007. IDEA merged seven of its subsidiaries and reached the twenty million subscriber mark in the same year 2007. As on February 2008, IDEA Cellular Ltd tied up with Southern Biotechnologies Ltd to bio-diesel for operating IDEA's gensets at all towers in the Andhra Pradesh region. The Company with Geodesic, an innovator in communication, collaboration and entertainment applications on mobile and Internet platforms jointly announced the launch of 'Idea Radio', a truly differentiated mobile music service for IDEA customers in the same year 2008.

Customer Service and Innovation are the drivers of this Cellular Brand. A brand known for their many firsts, IDEA is only the operator to launch General Packet Radio Service (GPRS) and EDGE in the country. IDEA has seen phenomenal growth since its inception, the company's footprint idea is to first achieve critical mass, then drill deep instead of spreading thin, however, does not increasing geographic footprint only, it also drills deep and successfully attempts to provide excellent network coverage in all its circles of operations.

Reliance Communications, MTN deal almost through

Reliance Communication and South African telecom company MTN are close to signing a deal to merge the two entities. While the structure of the merged entity has been finalised, issues related to pricing and country-specific regulation are being thrashed out by the two sides.

According to sources close to the deal, both sides have agreed on a 35:100 swap formula whereby RCom shareholders will get 35 shares of the merged entity for every 100 RCom shares they hold.

Sources said the merger structure under discussion will not make either company a subsidiary of the other. RCom will get one of the top executive positions in the merged entity.
Within FDI limit

They also said the foreign direct investment norms in India will not come in the way as RCom has only 10 per cent foreign equity, giving the two companies ample room to structure the shareholding pattern. Current FDI rules permit foreign companies to hold up to 74 per cent stake in a telecom operator. When contacted, RCom officials declined to comment.

The proposed structure is broadly the same as the one offered by MTN to Bharti Airtel before Mr Anil Ambani evinced interest in partnering the African major. Bharti had walked away from the deal as it had hoped to make MTN a subsidiary.

Market analysts said the proposed structure made more sense to RCom as the company sought to improve its market share and average revenue per user by rolling out GSM-based mobile services. While MTN has over 68 million GSM-based customers across 21 countries in Africa and West Asia, Reliance has 45 million predominantly CDMA subscribers in India. RCom also has licences in Sri Lanka and Uganda.

If the deal goes through, the merged entity will be valued at an estimated $36 billion, with revenues of over $14 billion and an operating profit of nearly $6 billion. This is the second time that RCom is trying to woo MTN for a possible alliance, and this time sources close to the negotiations said the deal should be announced in a week.

Prism Cement

Though cement stocks have been battered in recent times on concerns about input pressures and pricing controls, select companies in the sector hold the potential to deliver reasonable earnings growth over the medium term and, thus, offer a good investment option (Rs 36).

Prism Cement, now trading at a price-earnings multiple of just five times its FY-08 earnings, is one such option. Promising growth prospects in the central region, strong operating efficiencies and ongoing capex suggest that the company may deliver reasonable earnings growth over the next five years.
Business overview

Prism Cement Ltd is a mid-sized cement manufacturer with an annual production capacity of 2.5 million tonnes, catering to markets in the Central and Northern regions. The uptick in the cement cycle saw the company managing a turnaround in 2004-05, following it up with a 53 per cent rise in operating profit in 2005-06 and 137 per cent rise in 2006-07.

Operating margins over this period expanded from 17.2 per cent to 37.5 per cent in 2006-07. With Prism Cement’s plant at Satna catering mainly to Uttar Pradesh and Madhya Pradesh, these two States together account for nearly 80 per cent of sales. A captive limestone mine at Hinauti and Sijahatta in Madhya Pradesh cater to the company’s raw material requirements.

The company’s operating margin for financial year ended June 2007 was over 43.6 per cent.

Margins for the latest March 2008 quarter saw a decline relative to the previous year on account of higher costs. Power and fuel costs rose by 35 per cent year-on-year and 15.6 per cent quarter-on-quarter.

This resulted in a slowdown in the rate of net profit growth (16 per cent against similar sales growth) in the March quarter.

However, this was reasonable in the light of substantial profit declines for Prism’s larger peers. Operating profit margins were maintained at a healthy 40 per cent levels for the quarter, against average margins of 30-35 per cent for peers.
Strength in margins

The company’s strength in margins can be attributed to efficiencies on the logistics and other overheads front. The markets served by the company (Uttar Pradesh, Madhya Pradesh and, to some extent, Bihar) are within 340-360 km from the Satna plant. The limestone mine is also near the plant.

The short lead distance to markets could turn out to be an advantage at a time when freight costs are likely to trend up, following the recent fuel price hike. Further, the company also uses six-stage pre-heaters and power rollers to reduce power consumption in cement grinding. The company supplements power supply from the State with captive power generated mainly through DG sets.

Consumption in the company’s target markets continue to show strong trends. During April, cement consumption showed a 17.6 per cent year-on-year growth in Uttar Pradesh and 9.6 per cent growth in Madhya Pradesh. The region saw an overall growth of 15 per cent y-o-y in April 2008 compared to 11.4 per cent in the South and 5 per cent in the North. With potential for strong infrastructure growth in Central India, the markets could see sustained growth in consumption (cement) over the next few years.

To cater to strong demand in the region, Prism has announced a two million tonne per annum brownfield clinker expansion at Satna to be commissioned in the second half of FY-10 and also a three million tpa green field clinker expansion at Kurnool, Andhra Pradesh, to be commissioned by the second half of FY-11.

The plant in Andhra Pradesh is expected to extend the company’s reach. These will together take capacity to at least 7.5 million tonnes by 2011, from the present 2.5 million tonnes. The company has not outlined the means of funding for these projects. However, having utilised its excess cash to clean up the debt on its balance-sheet, the company has been debt-free since 2007. Room to leverage on the back of substantial cash reserves, may allow expansion to be funded to a significant extent, through internal accruals.

Prism Cement had in last July announced venturing into insurance through a joint venture with QBE International, Australia’s largest general insurer. Given the competitive landscape for insurance, it may be best not to factor in payoffs from this venture at this juncture.

Punj Lloyd

The stock of Punj Lloyd has declined 20 per cent over the last four months. Weak market sentiment rather than any significant change in the company’s fundamentals appears to be behind the decline. The company’s financial results for the year ending March 2008 reinforce the company’s strong earnings prospects.

We reiterate a buy on the stock of Punj Lloyd. Investors who entered the stock at higher levels can also consider accumulating it on dips. At the current market price of Rs 273 the stock trades at 13 times its estimated consolidated earnings for FY-10.

A huge ramp-up in order book, entrenched position in key markets and presence in segments such as oil and gas, that hold huge business potential, underpin our recommendation.

The company’s recent financial performance also indicates that the company is no longer mired by the low-margin legacy orders of subsidiaries and is well-placed to move ahead.
Results update

For the year ended March 2008, Punj Lloyd recorded a 51 per cent growth in consolidated revenue to Rs 7,753 crore. Net profits, after adjusting for exceptional items, grew 68 per cent to Rs 331 crore. Operating profit margins improved to 8.2 per cent despite legacy orders (of subsidiaries) that carry low margins.

The net profit for the year was dented by Rs 67 crore as the company had to reverse profits booked on a project executed by its UK subsidiary in the third quarter. The auditors have pointed out that the company has not made provision for potential revenue loss of Rs 300 crore on the contract.

Punj Lloyd’s management has clarified that changes in design and scope of work have led to a cost increase. This has partly been accepted by the client and the balance of 15 million pounds (Rs 125 crore) is under negotiation. The company hopes to recover at least the costs on the contract and profits have not been factored into.

Even if the company is unsuccessful in its claim, we believe that it does pose a material risk to earnings or stock price as this project forms a miniscule portion of Punj Lloyd’s current order backlog.
Bigger order size

Punj Lloyd’s current order book of Rs 19,600 crore has grown five-fold over its size at the time of its IPO in December 2005. The company has also been striving to move to big ticket orders that would help achieve better economies and margins.

A recent project worth over Rs 2,000 crore bagged by the company suggests that it may be making headway in targeting orders valued at $1 billion or more.

The current order mix continues to be tilted in favour of projects related to the oil and gas sector, while civil and power infrastructure projects account for about 35 per cent.

Backed by its Singapore subsidiary, Sembawang, Punj Lloyd has now become more choosy in accepting infrastructure projects as this segment is less lucrative compared to the oil and gas sector. The infrastructure projects bagged by its Singapore subsidiary are large-sized orders. However, the infrastructure segment, at this point in time, appears more susceptible to margin pressures from rising commodity prices. However, the company has said that 90 per cent of its total orders have pass-through clauses on price and this may be a mitigating factor.

Punj Lloyd has made rapid strides not only in moving into new regions, but also in entering related business domains by acquiring the necessary capabilities through buyouts. Acquisitions and strategic stakes in companies have helped the company scale up its execution capabilities for large-sized orders and enter into new domains, within a short span of time. The company’s acquisitions have been primarily driven by the need to attain pre-qualification in new/larger projects.

To cite a few examples, the company’s stake in Pipavav Shipyard is expected to strengthen Punj Lloyd’s offshore business. The facilities of Pipavav can be leveraged for fabrication of offshore platforms and rigs for Punj Lloyd.

Similarly, the strength of its subsidiary, Sembawang, in designing and constructing residential complexes and townships, has encouraged Punj to sign a joint venture for real-estate development in the National Capital Region. A recent strategic stake in the UK-based Technodyne International (to support its terminal and tankage business) and tie-up with a Singapore-based company for Defence equipment also indicate that the company has been fast-tracking business opportunities through the alliance/strategic stake route. The company has been able to pursue this strategy while keeping its debt obligations within acceptable limits.

Punj Lloyd has also made plans to diversify into opportune businesses on its own. It has, for instance, started a subsidiary for providing onshore drilling services to oil and gas exploration and production companies.

The company expects delivery of two drilling rigs this fiscal. The move appears well-timed to tap into the demand created by increased drilling activity, after the New Exploration Licensing Policy.

Overall, Punj Lloyd’s strategic moves over the past year suggest that is systematically diversifying into businesses and geographies, much as the engineering major, L&T, has done.

The difference is only that L&T has added to its business portfolio mainly through the organic growth route while Punj has chosen the inorganic route to diversification. The latter is certainly a more aggressive and risky route to scaling up in size.