Down But Not Out

The Sensex took a beating in January 1998 and fell from a high of 3739 points to 3224 points by the end of the month. And along with the Sensex, came a landslide with several growth stocks rolling down. The Sensex has since started a mild upward climb but many of the stocks have not.

In this issue, the Smart Investor picks some of these growth stocks which could go up once the market gains momentum. These are stocks which have grown in spite of a recessive market and are hence likely to be able to sustain growth for the next two or three years.

 

These are stocks which have a past track record of high growth with reasonably high profit margins. Their margins are improving and are also making fresh investments in fixed assets. One has to be cautious to make sure that this growth is funded conservatively and that the company ensures a high return on capital employed and net worth. Mostly these companies fund a large part of their growth through internal accruals.

The exercise started with a list of about 2700 companies which have declared results for the first half ended September 1997. We first eliminated all small value stocks by taking only companies which had at least Rs 15 crore of sales in September 1997. This is because small companies move only at the fag end of a bull market. In current market conditions, they are not likely to see action for a long while.

We then eliminated all companies where the operating profit margins had declined compared to the same period in the half year ended September 1996. The list was further pruned to exclude all companies whose return on networth is less than 20 per cent. We were then left with 41 companies. Thinly traded companies and those with very low share prices were removed. Essentially, only stocks which are highly valued by the market in the recent past were taken. Finally, we then chose five companies with branded products which we thought could sustain growth for at least two or three years. All these companies also have very low debtors. In the worst case, debtors remains steady or goes down steadily.

These five companies are Hero Honda, Punjab Tractors, NIIT, Crisil and Carrier Aircon. All of them have nearly the largest market share in an industry where growth potential is high. Two more companies which ride piggyback are Munjal Showa which supplies shock absorbers mainly to Hero Honda and Swaraj Engines which is a supplier to Punjab Tractors. All these five companies except NIIT have a very low debt-equity ratio and a very high interest coverage ratio. They also have large operating cash flows compared to their gross fixed assets. This ensures enough cash to fund significant expansions.

We have left out some companies like TVS-Suzuki which satisy all of these conditions because its new scooter capacity is expected to go on-stream in September 1998 and will add to expenses. There is some uncertainty here. The scooter market is already segmented and is also growing very slowly. We have also left Infosys because the company is embarking into uncharted territories by choosing to list overseas where it could re-rated in comparison. We notice that many of the rapidly growing pharma stocks like Orchid Chemicals, lost a percentage point or two in operating profit margins and decided to leave them out.

Hero Honda

This manufacturer of 100 cc motorcycles has more than doubled its market capitalisation in the last one year. The stock which was trading at a high of Rs 898 in January 1998 has now fallen over 20 per cent to Rs 714. This fall can only be attributed to the stock market because the company is increasing production steadily every month this year. If the stock just goes back to the original level an investor gains 25 per cent.

In the period April to December 1997, when the overall motorcycle market grew 14 per cent, Hero Hondas sales have grown 57 per cent in number terms. This has resulted in the company cornering a 36 per cent market share as compared to 26.23 per cent last year. This has been at the expense of Escorts whose numbers have fallen in absolute terms and Bajaj which has sold the same number of motorcycles as last year. TVS Suzuki too grew 29 per cent.

Hero Honda expanded capacity in January 1997 by opening a spanking new facility at Gurgaon. This plant can produce 100,000 vehicles per annum. Only sixty per cent of this capacity will be utilised this year. This plant is a completely flexible plant in which different vehicles can be manufactured and capacity can also be increased if some parts are farmed to outside sources.

We will end the year with a total sale of about 400,000 vehicles, says Virendra Uppal, the companys deputy general manager-sales. With this the company has surpassed its own projections. Next year, the Daruhera plant itself is expected to roll out 400,000 vehicles.

Munjal Showa

Munjal Showa is a Hero Honda-pillion rider. The stock which has fallen 25 per cent from Rs 260 in early January, trades at Rs 195 now. This could be a good play on Hero Honda for those who cannot dish out a minimum of Rs 35,700 for a market lot of 50 shares.

The Munjal family has a 36-per cent stake in the company with Showa holding 20 per cent. The company caters to 100 per cent of the needs of Hero Honda, supplies to whom contributed to 50 per cent of the companys turnover in 1996-97.

Besides two wheelers shock absorbers, Munjal Showa also manufactures shock absorbers for cars. It caters to about 10 to 15 per cent of both front and rear struts for the Maruti 800 cc model and the van. The remaining twenty per cent of Hero Hondas turnover comes from supplies to Kinetic Honda, Kawasaki-Bajaj and Hero Motors. Munjal Showa is now acquiring new clientele in the four wheeler market.

Punjab Tractors

The tractor market is segmented based on horse power. The Swaraj brand tractors are 30 hp and above 50 hp. The market trend is also moving towards higher power tractors. The company has sold 28,890 tractors during the first nine months of 1997-98 recording a growth of 21.6 per cent over last year. This has resulted in its market share climbing to 16 per cent from 14.9 per cent last year.

Punjab Tractors has a Rs 100-crore expansion plan to increase its capacity to 60,000 from the current 36,000 and it is expected to be completed by March 1999. There is very high demand for this brand for tractors and it is evident from the fact that farmers pay in advance.

The scrip now trades at Rs 708 a good 37 per cent below the price that it traded in the first week of January 1998. One reason is that tractor sales have slowed down in the last three months. But industry sources believe that the year will end with a ten per cent growth.

Swaraj Engines

This company rides piggyback on Punjab Tractors and makes the engines for the Swaraj brand of tractors. It currently trades at Rs 360 which is the level to which it has fallen from Rs 525 in January 1998. Again a 30 per cent fall.

Like Punjab Tractors, even this company has also been growing at over 30 per cent in the last three years. This company too has no significant borrowings and is largely funded through internal accruals. The company has a return on capital employed (ROCE) as high as 68.4 per cent and 9 days of debtors.

Carrier Aircon

This MNC in which Carrier Corporation of USA has a 51-per cent stake is trading at Rs 221. The stock is trading at Rs 221 fell only about 10 per cent with the falling market.

The company has been helped by the reduction in excise duties of air-conditioners and has grown 50 per cent in 1995-96 and about 30 per cent in 1996-97. The growth is much slower this year but the penetration of ACs in India is still marginal. The reducing duties is bringing the cost of the organised sector ACs close to that of the unorganised sector which has over 50 per cent of the market share.

Carrier has a presence in all segments of the AC market. It claims that is has a 25 per cent market share in the overall AC market and about 32 per cent in the window AC market and 40 per cent in the split AC market.

Crisil

This credit rating company, in which Standard and Poors has taken a 10 per cent stake, is currently trading at Rs 394. This is a good 19 per cent less than the price of Rs 487 in January.

The companys main income comes from credit rating. In the first half this year it has rated 288 instruments against 204 last year. In volume terms, it was an increase of 104 per cent. The Indian debt markets are still nascent and there is a lot of scope for Crisil.

NIIT

This scrip is steadily hovering around Rs 685. The company has been maintaining a steady growth of over 40 per cent in turnover since the stock got listed. Its operating profit margins have been maintained at around 35 per cent for four years and its return on net worth at around 40 per cent.

The company is in several businesses. One of them is classroom training in the country through its own centres and through its franchisees. This business is likely to witness a steady growth as infotech (IT) applications in the country or software exports increases. The companys system spews out more students than the entire engineering college system put together does. The subsidised colleges cannot afford to keep pace with the changes in IT.

Its second business is is both onsite and offshore software projects. Another business is the systems integration business both in the domestic market and the overseas market. Another significant revenue contributor is the companys computer-based training products. It has developed many titles which it owns. It also develops training material for clients. Worldwide training is a large business and is growing. The scrip still has good potential.