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Midcap/Smallcap Recommendations

Newsletter Dated Monday, March 06, 2006

5Paisa Newsletter

S.No. Scrips BSE Code Recommended Rate Target Rate.
1. Mangalore Chemicals 530011 13.75 18.00
2. Oil Country 500313 15.75 20.00
3. Cheslind Textiles 521056 21.05 27.00
4. Shreyans Industries 516016 25.45 32.00
5. UCO Bank 532505 26.55 34.00

Newsletter Dated Monday, March 06, 2006

Midcaps Newsletter

S.No. Scrips BSE Code Recommended Rate Target Rate.
1. Jagsonpal Pharma (FV Rs. 5) 507789 32.05 41.00
2. Essar Steel Ltd. 500627 38.85 49.00
3. Zodiac-JRD-MKJ 512587 50.05 64.00
4. Su-Raj Diamonds 507892 63.35 80.00
5. Neyveli Lignite 513683 76.15 96.00

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Sharekhan Budget Analysis

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Equitymaster Budget Analysis

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Budget 2006 - Update

Feel the FM has done well with Budget as he has not fingered with ant of the tax proposals. Increase in MAT by 2.5% could be considered negative in the short run for companies like Bharati but in my opinion nothing should be read as negative because these companies though may have to cough up 2.5% across the board, will get tax credit in the year in which they actually make profits and the period of such credit has been raised from 5 to 7 years. In any case, if the so called co is not likely to make real profits then there is no fun investing in such companies even if MAT is 0. Therefore the issue of MAT is inconsequential as far as Budget is concerned. Other negative is raising 2% service tax which I feel is more taxing but for industry it is sacrifice at the cost of growth of the country.

Positive ones are reduction in excise duty, custom duty, no fingering with capital gains and above all sticking with fiscal responsibility act for maintaining 3.8% fiscal deficit which is loved by FII across the board and will help bring more FDI. In fact, revised fiscal deficit for 05-06 from 4.3 to 4.1% was a real surprise from the FM. In order to maintain 3.8% fiscal deficit more and more revenue generation was must and FM has projected 30% rise in corporation tax and 16% hike in income tax and 48% from service tax which in my opinion is much achievable figures in comparison to previous year where doubts were cast on the sustainability of 4.3% fiscal deficit due to dynamic expectations. This one analysis is more than sufficient to keep FII interest alive in the Indian market.

Even the short term borrowing of the Govt has been reduced by Rs 8636 crs which is really heartening and welcome sign. Deficit financing is an indicator of weak economy. The Budget overall is oriented in the right direction and going forward in next three years practically everything will be net based and the speed at which efforts are being made are laudable and place in India ahead of US. This will re-rate all internet based companies in India and take them to new sky. Hardly a genuine internet company is listed on the exchange except Chamatkar.net India Ltd. Rediff and Sify the two leaders in the industry are listed on Nasdaq. Indiabulls and Indiainfoline are having different modules and cashing on franchise valuations which are not a real capitalisation method.

We maintain our initial target of 10800 before deciding the further trend. From tomorrow B gr shares will find takes as all fence sitters will jump into the band wagon.

Hindu Business Line - Investment World

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Sharekhan Investor's Eye

Esab India
Cluster: Vulture’s Pick
Recommendation: Buy
Price target: Rs575
Current market price: Rs480

Price target revised to Rs575

Result highlights

• ESAB India's (ESAB's) Q4CY2005 net profit of Rs8.3 crore is in line with our expectations. The net sales for the quarter stood at Rs59.4 crore registering a growth of 17.5% driven by a very healthy 19.2% growth in the revenues of the consumables division. The revenues of the equipment division also recorded an impressive growth of 10.7%.
• However the operating profit margins (OPMs) for the quarter have declined by 460 basis points on account of the overall increase in all the expenditure heads. The raw material cost as a percentage of sales has increased from 51.5% to 53%. The other expenditure as a percentage of sales has increased from 14.5% to 15.1%. The employee cost has also increased by 23% during the quarter. Consequently the operating profit for the quarter was down 8.3%.
• The earnings before interest and tax (EBIT) margins of the consumables division declined by 280 basis points and the EBIT margins of the equipment division declined by 890 basis points.
• With a 12% decline in the depreciation, the net profit for the quarter was up 16.6% and stood at Rs8.3 crore. The company has declared a special dividend of 260% and on the face value of the share of Rs10 the same works out to Rs26 per share. At the current market price (CMP) of Rs480 the dividend yield works out to a handsome 5.4%.
  

Bajaj Auto
Cluster: Apple Green
Recommendation: Buy
Price target: Rs3,200
Current market price: Rs2,622

Price target revised to Rs3,200
We are upgrading our earnings estimates on Bajaj Auto on the back of a strong operational performance in Q3FY2006 and the expected success of its new launches. We maintain our BUY recommendation on the stock and are revising the price target to Rs3,200.

Sharekhan Investor's Eye

JK Cement
Cluster: Cannonball
Recommendation: Buy
Price target: Rs225
Current market price: Rs170

Price target revised to Rs225

Key highlights

• JK Cement, one of the leading cement producers in north India, is proactively expanding its capacity of grey cement from 3.5 million tonne per annum (mtpa) to 4mtpa and the capacity of white cement from 0.3mtpa to 0.4mtpa. We believe this is in line with the demand surge in the northern region.
• One of the hindrances to JK Cement’s growth has been its high power cost, which stood at Rs780 per tonne in FY2005. However, the company’s plans to set up a 20-megawatt (MW) captive thermal power plant and a 13.2MW waste heat recovery system should lower the cost of power. Moreover, a 6MW captive power plant (CPP) is also planned to be set up at the Gotan facility. The company would be able to generate electricity at a much lower cost that should lead to annual savings of Rs70 crore.
• Amongst its peers JK Cement has the highest leverage to cement prices, ie in a scenario of rising cement prices the company would register the highest growth in its earnings before interest, depreciation, tax and amortisation (EBIDTA) as compared to its peers.
• At the current market price (CMP) of Rs170 the stock is discounting its FY2007E (diluted) earnings by 23.6x and its FY2008 earnings by 11.4x. The stock is trading at an enterprise value (EV)/tonne of US$72 on its FY2008 capacity (after factoring in the equity dilution on account of the public issue). We believe the valuations are attractive and do not factor in the huge earnings growth (earnings to grow at a compounded annual growth rate of 113% over FY2006-08) and JK Cement’s transformation to a very cost efficient cement producer. We maintain our Buy recommendation on the stock with a revised price target of Rs225.

Sharkehan Special - Ticket to ride—Indian Railways

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Sharekhan Investor's Eye

HCL Technologies
Cluster: Ugly Duckling
Recommendation: Buy
Price target: Rs670
Current market price: Rs602

Price target revised to Rs670
Overall, HCL Technologies appears to be well poised for the vast opportunity in the large outsourcing deals that are due for renewal over the next couple of years. The innovative offerings and its ability to generate large outsourcing deals from the mid-market segments is also encouraging. The move towards value-based pricing seems to be the right strategy going forward. But this will test the company's ability to deal with the higher risk involved in such a strategy. In the near term, the company is expected to show a robust performance in the second half of the current fiscal, on the back of a healthy order book and the ramp-up in the BPO business.

We maintain our Buy recommendation on the stock with the revised one-year target price of Rs670, which is 17x its FY2008 estimated earnings. This amounts to an appreciation of 11.3% from the current level.

Satyam Computer Services
Cluster: Apple Green
Recommendation: Buy
Price target: Rs900
Current market price: Rs753

Price target revised to Rs900
Satyam Computer Services (Satyam) has shown a consistent performance in the past few quarters. It has also taken inorganic initiatives to built capabilities in niche areas and expand into newer geographies. Though the Satyam scrip has been re-rated on the back of its improved performance, there are triggers for further re-rating of the stock. The two key potential triggers are the ability to catch up with its peers in terms of bagging large-sized outsourcing deals and the possible turnaround in the performance of its subsidiaries.

JM Financial
Cluster: Ugly Duckling
Recommendation: Buy
Price target: Rs516
Current market price: Rs435

JMSPL merger impact
We attended the extraordinary general meeting (EOGM) of JM Financial (JMFL) with respect to the merger of JM Securities Private Limited (JMSPL) with JMFL. We present here the key takeaways from the meeting.

Cipla
Cluster: Cannonball
Recommendation: Buy
Price target: Rs600
Current market price: Rs543

Cipla benefits from bird-flu
Tamiflu could provide a good positive for Cipla. We will wait for more visibility about the market size and revenues generated from Tamiflu before we factor the incremental revenues in our estimates.

For Cipla we estimate a net profit of Rs847 crore for FY2008. At the current market price of Rs543, the stock is trading at 19.2x its FY2008 earnings estimate. Considering the company's strong growth prospects and the de-risked business model, we are basing our price target on our FY2008 estimates. We believe that due to the partnership model that Cipla uses, it can benefit from the future generic approvals of its partners and this is the hidden potential for the company. Hence we believe that Cipla should command a FY2008 multiple of 21x. Keeping in mind the huge growth potential of the company we reiterate our Buy recommendation on Cipla with the price target of Rs600.

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SECTOR UPDATE

Information Technology

Improved growth visibility
A combination of internal and external factors has considerably improved the growth visibility of the domestic front-line companies. Over the past couple of years, the domestic companies have not only enhanced their range of service offerings, but also attained a critical scale of operations and maturity in some of the new offerings like consulting, remote infrastructure management and business process outsourcing (BPO). Thereby making them well poised to exploit the vast emerging opportunities in large-sized multi-year outsourcing deals that will be renewed over the next couple of years. Moreover, the growth guidance recently declared by Cognizant has also set a reasonably healthy benchmark for growth over the next four quarters.

JK Cement - FPO

Focusing on reducing power cost

The price band tries to factor in benefits of lower power cost more than a year in advance

JK Cement (JKC) is one of the largest cement manufacturers in north India and second largest white cement producer in India. The company has two grey cement plants in Rajasthan, with production capacities of 2.8 million tonnes and 0.75 million tonnes per annum, respectively, and a white cement plant in Rajasthan with a capacity of 0.30 million tonnes per annum.

Catering to the northern region (13% market share for grey cement), JKC holds leadership position in Haryana, with a market share of 18.4% (nine months ended December 2005). Its other markets are Delhi, Rajasthan and Punjab, where it ranks in the top six players.

JKC’s cement manufacturing facilities and operations were originally owned and operated by JK Synthetics (JKSL), which had two businesses: man-made fibre and cement. In 1990s, the man-made fibre division accumulated losses while the cement division was still profitable. Under the rehabilitation scheme, JKSL’s cement division was demerged into JK Cement from 4 November 2004.

The proceeds of the current issue are to be used to (a) install waste heat recovery power plant of 13.2 MW capacity; (b) set up a 20-MW pet coke-based captive power plant; (c) replace a 7.5-MW steam turbo-generator set at its existing captive power plant with a 10- MW steam turbo-generator set; (d) increase the grinding capacity; and (e) scale up the white cement plant capacity by 0.10 million tonnes to 0.40 million tonnes.

Strengths

1. JKC has a presence in the lucrative northern region. The demand for the region in the first nine months (April-December 2005) has grown by 8% and is expected to grow at the same rate in FY07 as well.
2. On implementation of the proposed projects by June 2007, the total captive power capacity of the company will increase by 43.2 MW, resulting in a substantial saving in power cost, which is currently one of the highest among cement plants.

Weaknesses

1. We expect a capacity build-up in the northern region of about 8-10 million tonnes by FY 2008, thereby reducing the demand-supply gap, which could pressurise prices. This is the year when JKC’s power costs will come down. So the benefit of lower power cost may not inflate profit to the extent perceived now.
2. Promoters (Gaur Hari Singhania and Yadupati Singhania) have a poor track record.
3. JKC does not own or have registered trademarks and logo under which it operates and sells its cement.
4. JKSL owes Rs 62 crore to JKC. Its recovery is doubtful.

Valuation

JKC will not enjoy any significant volume growth in future. For earnings growth, it will be solely dependent on better price realisation in FY 2007 and fall in power cost in FY 2008.

The scrip currently trades around Rs 170 with a 52-week High/Low of Rs 101 to Rs 200. At the offer price band of Rs 145 – Rs 155, JKC’s PE works out to 60 – 65 x H1 FY 2006 annualised earning on the post-issue equity. TTM PE for the Cement -- North sector is 29. Market leaders of the northern region and highly cost-efficient players Shree Cement and Gujarat Ambuja are trading at a TTM PE of 30.3 and 26.5, respectively.

Nitco Tiles IPO

Look behind the shine

Sourcing from China is not a sustainable USP

Nitco Tiles provides flooring solutions. Its range of tiles is at various price points. The company’s products include mosaic tiles, ceramic floor tiles, vitrified tiles, paving tiles and imported marbles. It currently has an installed capacity of 0.8 million sq meters of mosaic tiles and 4.03 million sq meters of ceramic tiles.

Even while other manufacturers of vitrified tiles were fighting to block imports from China, Nitco went ahead and tied up for sourcing 15 lakh sq meters of vitrified tiles from a Chinese manufacturer. In fact, this is the main USP of the company. Imports of vitrified tiles from China attract a preferential import rate of 6.45%, without anti-dumping duty. As a result, Nitco derives an EBIDTA margin of 18% compared to 13% for tiles manufactured by the company in India.

Nitco has a distribution network of 550 direct dealers and about 5,000 outlets across India for retail sales. Its ratio of institutional to retail sales is 1:1.

The proceeds from the current issue are to be utilised to (a) expand the existing ceramic floor tiles capacity by 2.28 million sq. meters. to 6.31 million sq. meters by June 2006, (b) acquire/ set up a wall-tile capacity of 1.75 million sq. meters by April 2007, (c) install six wind mills to be completed by March 2006. The assessed funds requirement is Rs 95 crore, but the company is raising Rs 140 to Rs 168 crore.

Strengths

Increased thrust on housing and retailing augurs well for the tiles sector.

Weaknesses

1. The sector is dominated by the unorganised sector due to the easy availability of raw materials and low capex.
2. Nitco Tiles’s sourcing advantage is not a sustainable advantage and other players are likely to catch up in some way or the other. Or the government may plug the loophole, which is helping the company avoid the anti-dumping duty.
3. With additional capacities planned by industry players, prices of tiles are expected to decline. Increased imports from China are directly or indirectly affecting prices.
4. Nitco Tiles is not as strong as competitors in the retail segment.
5. There was a negative cash flow from operating activities in FY 2005 on increased inventory due to the build-up of imported tiles from China.

Valuation

Unlike other players, Nitco Tiles’s manufacturing sales is very small. Traded (mainly sourced form China) sales accounted for 65% of total sales in the first-half of FY 2006.

In FY 2005, manufactured sales fell 3% to Rs 97.22 crore and traded sales shot up 63% to Rs 105.13 crore. These traded sales are driving the company’s financials.

With a price band of Rs 140 – 168, Nitco Tiles’s PE on FY 2005 EPS ( post-issue equity) works out to 41.4 – 49.7 times and 16.7 – 20.1 times H1 FY 2006 annualised earning on the post-issue equity.. Comparable players like Kajaria Ceramics trade at a TTM PE of 11: Murudeshwar gets a multiple of 8.