Weekly Stock Ideas

Shree Renuka Sugars
Research: Deutsche Bank
Rating: Buy
CMP: Rs 725

Deutsche Bank has initiated a coverage on Shree Renuka Sugars (SRES) with a ‘buy’ rating at a price target of Rs 776. SRES is one of the few sugar mills which will continue to post profits over the next two years despite a bleak sector outlook. A flexible and scalable business model aided by synergistic expansion makes SRES the best sugar mill in the country.

Located near the west coast of peninsular India, SRES has the advantage of a flexible business model over its north Indian counterparts. With a higher crop yield and an optimum business contribution from co-products, we expect SRES to be sufficiently shielded from cyclical variability of sugar as a commodity.

Backed by the timely and significant expansion in ethanol and power cogeneration, SRES will post an earnings CAGR of 59% (FY06-FY09E). Deutsche Bank sees neutral free cash flow from FY07E to FY09E with a consolidated earnings CAGR of over 30% (FY06-FY09E). Deutsche Bank values the recent engineering business’ EV of 1x one-year forward revenues at Rs 15 crore and 5x PE to overseas operations, leading to one-year target price of Rs 776/share. SRES is also likely to post significantly higher profits compared to all other sugar producers.

Ranbaxy
Research: Merrill Lynch
Rating: Buy
CMP: Rs 433

Merrill Lynch has maintained a ‘Buy’ on Ranbaxy with a price target of Rs 492 per share. Ranbaxy signed a definitive agreement to increase its stake in Hyderabad-based Zenotech Labs to 45% from the current 7%, involving an investment of ~$53 million. The deal makes strategic sense as it solidifies Ranbaxy’s presence in biopharma, oncology and specialty injectibles. The deal will accelerate Ranbaxy’s EPS growth from CY09E. In 1QFY07, Zenotech posted revenues of Rs 3.55 crore and loss of Rs 6.2 lakh. Zenotech’s agreement with Ranbaxy will involve the marketing of 14 injectible ANDAs for the US and Canada for which seven oncology US ANDA filings are expected shortly. Zenotech also has seven biologics and two monoclonal antibodies in the pipeline addressing a $21 billion market.

Like Zenotech, Ranbaxy also has strategic stakes in two other companies viz., Jupiter Biosciences (for peptides) and Krebs Biochem (for fermentation based products). Merrill Lynch estimates robust core earnings growth of 24% in CY07E and 32% in CY08E, driven by higher growth and EBITDA margin in the coming quarters from the US and emerging markets. Further, there is a possibility of 14-23%+ EPS upside in CY08E from generic Lipitor launch in Canada and possible unlocking of R&D value through spin-off.

Redington India
Research: CLSA
Rating: Buy
CMP: Rs 370

CLSA has initiated coverage on Redington with a `Buy’ recommendation and indicates a 27% upside. The company buys out the products from vendors on cash and lets its downstream channel partners (customers) avail the merchandise on credit. Hence, the inventories of products as well as the receivables from channel partners are on the company’s balance sheet. This allows the company to make better margins, albeit with higher capital employed. With the Indian IT market showing 20% CAGR, a 30% CAGR in Redington’s sales are driven by entry into new verticals and a 200-bps annual market share gain in IT.

A dedicated credit team spread across the country and an integrated IT backbone and prudential systems like credit against post-dated cheques only, have ensured that average bad debts are 0.09% and 0.03% of sales in India and Middle East. Inventory risk stems from technology obsolescence and price downturns. Although vendors try to buttress the downside on such occasions, inventory markdown is an uncertainty that cannot be completely insulated. We expect a 32% CAGR in EPS over next three years, while improving current ROAE of 19% by 400 bps.

Reliance Petroleum
Research: UBS
Rating: Buy
CMP: Rs 159

UBS initiates coverage of RPL with a `Buy’ rating and a price target of Rs 190. This year has seen lengthy delays in refining projects in Asia and a significant run-up in the cost of building new refining capacity. UBS believes that this suggests supply could remain tight in the long term and expects benchmark Reuters Singapore refining margins (GRMs) to be $7/bbl, $6.3/bbl and $5.7/bbl in ’07, ’08 and ’09 respectively.

With a Nelson Complexity Index of 14, RPL outperforms the benchmark GRMs by $8-9/bbl. Hence, even when Reuters Singapore refining margins fall to $4.5/bbl, RPL should still be able to earn GRMs upwards of $12/bbl and EPS of over Rs16. Driven by high refining margins and tax incentives on account of being located in a special economic zone, UBS forecasts RPL to generate operating cash flow and free cash flow of $11.6 billion and $9.3b billion respectively, over FY09-13. UBS forecasts free cash flow yield to increase to over 12% from FY10. Tax incentives could add $3.8billion over the first 10 years of RPL’s operations.

Puravankara Projects
Research: Citigroup Global
Rating: Buy
CMP: Rs 460

Citigroup has initiated coverage of the stock with a `Buy/Medium Risk’ rating and a target price of Rs 536, based on a 5% discount to the estimated core NAV of Rs 564. Puravankara has a strong brand and a proven record. Citigroup attributes a discount to the stock for the company’s overdependence on Bangalore (~73% of gross NAV) and residential projects.

Citigroup sees structural opportunities in the Indian property market, which faces near-term challenges that can be addressed by falling interest rates, lower prices or relaxation in regulations. There is the: 1)quality land bank of 107m sq ft, largely within the city limits of Bangalore; 2) a direct sales model, which tends to reduce speculative activity; and 3) in-house construction expertise. These factors should drive a three-year EPS CAGR of 65%, positioning it as a quality midscale developer. Puravankara’s large exposure to Bangalore and Chennai is an advantage over North India-based developers. South India appears to have lower supply risks, more reasonable property prices and lesser speculation.

Maruti Udyog
Research: Merrill Lynch
Rating: Buy
CMP: Rs 1,035

Merrill Lynch has reiterated its `Buy’ recommendation with a raised price target of Rs 1,240, implying 20% potential upside. Merrill Lynch views Maruti as driving growth for Indian auto majors, rather than a defensive entity facing competitive onslaught. Over FY07-10E, the company is expected to register a 20% EPS CAGR, the fastest in the autos space. Still, the stock trades at par with the sector, and a historic 30% discount to the market.

The stock is to re-rate to 15x FY09E EPS (earlier 13.5x), justified by 10% growth premium over the auto sector, and narrowing of P/E discount to the market in line with historical average. Merrill Lynch has also included a contribution of Rs 35/share, being Maruti’s 30% stake in the diesel engine unit. Merrill Lynch is raising EPS forecasts by 2.2% in FY08 and 2.8% in FY09, driven by stronger value mix, without meaningfully altering margin and volume assumptions and remaining above consensus, being 14% higher on FY09E. The markets are exaggerating competitive risks impacting Maruti’s profits. The company has demonstrated an ability to manage growth mainly through productivity improvements, much ahead of auto peers.