Wednesday, December 16, 2009

Market Mantra: Valuation By Time Parameter

"Old Time, that greatest and longest established spinner of all!.... his factory is a secret place, his work is noiseless, and his hands are mutes." ~ Charles Dickens

In this post, we'll see how the ticking time gradually killed the valuations of some of the renowned stocks based on some negative impact which led to under-performance of these stocks on the bourses, even as the over-all market valuations are quite near to those witnessed at the peak of the bull run last time. Read on...

The Adventurous Journey

A year back when equity markets the world over were at the helm of extreme pessimism, who would have imagined that the benchmark index Nifty, which witnessed a trough of 2500, would be at 5000 plus levels as early as December 2009. But, that's how stock markets work, contrary to imagination of most of the market participants. The recover in itself is not surprising but the 'pace' of its journey has certainly stumped most of them including the ones involved in the forecasting job- the Analyst community.

Market's Collective Wisdom

In this post, the discussion will revolve around how markets have valued some of the prominent stocks from various different sectors and industries, spanning the journey from previous bull market to the recently witnessed great recession and from there back to current spate of revival and recovery on the equity bourses. What are the aspects that the markets have taken a prior notice of, before giving the right kind of valuation fit for respective individual companies discussed below.

Factors Determining the Valuations

While deciding the kind of valuation that each of these individual companies deserve, markets have taken into account as to how these listed companies have fared all through it's journey from optimistic bullish times to pessimistic slowing times of global recession. How has these companies managed their all-important 'Cash' reserves? How has these companies fared in the process of cost-cutting and rationalization during the slow-down times? What is the impact on their 'Order Book' due to slowing global demand?

How has some of these companies managed their 'Leveraged Buy-outs' which were executed during the times when liquidity was flush in the system? Have these companies entered into M&A deals which did not warrant high valuations? How capable are these companies in servicing their debt taken to fund their expansion plans? Are they in position to bring down their borrowing costs?

Some other factors that goes into valuing the companies during the journey from bullish to bearish times and back to bullish times are the test that the 'Management' of the company goes through in passing slow-down phases. That's not all, markets also take note of the change in fundamentals of the industry in which the individual companies may be operating in. Say, for example, the Telecom sector - the prospects for the individual companies have worsened after cluttering of new entrants in the space leading to 'Price Wars'.

Now, we shall directly deal with selected few individual companies and see what math has been worked out by the markets in determining the valuation for these companies on the Indian bourses:

1) Suzlon Energy: This much touted stock from the renewable energy space got a rude treatment from the markets based on its performance. The company, which is involved in wind power generation, had taken a huge debt to fund the buy-out of firms like Hansen Transmission and REpower.

The woes continued for the company with the instances of blade cracks on more than one occasion during the operation of the wind turbines. The company had to provide for blade retrofit & replacement compensation to the clients. The markets clearly gave a thumbs-down to this inefficient management and repetitive product accessory-related woes experienced by the company all this while. This stock, whose all-time highs lays some where between Rs.400 to 500 levels, is currently quoting around Rs.80 on the bourses way below its all-time highs.

2) Punj Lloyd: This company which is one of the biggest Engineering & Construction player after L&T, and specializes in laying pipes and building oil and gas storage tanks and terminals, got no better treatment from the bourses. The stock corrected from its all-time high of Rs.600 to a trough level of Rs.70 when Nifty bottomed out at 2500. However, during the rise of the benchmark index from 2500 to 5000, this fast-growing mid-cap engineering stock could merely double with currently quoting at Rs.200 on the bourses, as against its all-time highs of Rs.600. The company's results got negatively impacted due to litigation between its UK based subsidiary Simon Carves and SABIC Petrochemicals.

While comparing the stock with L&T, the markets have given thumbs-down to Punj Lloyd with respect to the fact that most of the L&T operations are domestic oriented. So, during the global recession, it is but quite obvious that Punj Lloyd was largely impacted with it's wide presence across the slow-down infected globe. Also, during the ongoing recovery, India has shown sharp recovery (and hence better recovery in stock price of L&T) as compared to other developed and developing markets where Punj loyd has more prominence. Thus markets have tagged a few genuine reasons for the under-performance of stock price of Punj Lloyd vis-a-vis L&T; like slow global recovery than in India, decline in oil consumption & consequently its capex requirement due to low real demand for oil and gas, among others.

3) Alok Industries: This company is a leading textile manufacturer whose order book is full and providing good revenue visibility. The company has also witnessed a sustained growth in its revenues and profits. This stock had witnessed an all-time high of around Rs.100-105 during the peak of the bull run at Nifty 6000 levels. However, currently the stock is quoting at around Rs.20 since quite a long time. A sharp run-down in the stock price as compared to it's all-time highs.

The stock has everything positive about it; right from catering to major retailer like Wal-Mart and having domestic presence in form of H&A stores in the retail segment. However, the major aspect that is going contrary for the company's stock valuation is it's High Debt-Equity Ratio. Though, with the recent Right issue by the company, the high debt ratio is likely to moderate to some extent. Most of the company's interest liabilities for its long-term debt is subsidized under textile promotion scheme. But, certainly, markets have clearly given a thumbs-down to a good business model of alok Industries due to its High Debt-Equity Ratio.

4) Aban Offshore: Oil services firm Aban Offshore which lets out oil rigs for hire bought Norway's Sinvest three years ago in 2006. The company has about Rs.16000 crore of debt on its books with exorbitant high debt-equity ratio. The markets have given an extreme thumbs down to this company when compared to its all time highs of Rs.5000 to 6000 during the bull run as against Rs.1200 quoting currently.

Apart from this, the global slowdown & collapse in crude oil prices led to fall in capex towards oil exploration activities leading to slump in letting-out rigs to oil companies. This slump in demand for its services along with high interest rates payable towards acquisition of Sinvest led to fall in income for the company.

5) Tata Steel: On acquiring Corus, Tata Steel went on to be the world's 6th largest Steel maker. The Indian steel maker had acquired Corus for about a whooping $13 billion two years back in a bid to have a global presence. However, the subsequently following global crisis led to demand destruction for steel in reduced demand in sectors like automobiles and construction, particularly adversely affecting Corus performance & operations. Tata Steel incurred a consolidated net loss of Rs.2710 crore in the quarter ended September 2009. The stock made an all-time high of Rs.900-1000 during the peak of the bull run & is now quoting around Rs.550, indicating a steep discount to the peak prices then.

6) Bharti Airtel & Reliance Comm: Bharti Airtel, along with Reliance Communications, are the stocks from the Telecom sector which are under-performing big time on the bourses due to the intense 'Price Wars' among the telecom operators. During the previous bull run, when these stocks were distinct out-performers the record subscriber additions & rising ARPU's were the major attraction.

However, as time passed the Tier 1 cities have almost turned 100% wireless by now, more so leaving the scope of expansion only in the rural India & somewhat Tier 2 and 3 cities. Not to mention the upcoming Mobile Number Portability which will intensify the competition. This all reflects well in the current low valuations even in rising markets. Reliance Communications whose all-time highs lay around Rs.800 is quoting at a fraction of its peaks at Rs.180 currently.

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