Shriram Transport Finance Complay Ltd (STFC) - RBI Policy Update

RBI's monetary policy announced on May 3rd had created a lot of confusion on whether STFC's securitized assets would continue to be treated as priority sector loans. (Read the probable impact of it here)

On RBI's policy statement on July 1, 2011, it has clarified that investments made by banks in securitized assets that are originated by banks or other eligible financial institutions shall continue to be classified as priority sector.

This means that any bank's investments in securitized assets will be eligible  for classification under priority sector  only if it was eligible to be classified as priority sector advances before their securitization.

So, for STFC, this is good news, as their cost of borrowing is unlikely to go up.

However, the underlying concern of slowing of growth is still there. So, although the stock may not go below 600, it may be difficult for it to gallop away beyond the 720-750 range in the near future.

Portfolio Review: Half-Yearly

H1 2011 comes to an end. Sensex started the year at and is today at 18763. During this period., India's primary index has lost 8.51%.

My portfolio fund which I started last year has returned a meagre 6.44% during this period. From a relative performance view, the portfolio has outperformed Sensex by 14.96%. But then, you cannot eat relative performance, can you :-(

Here are the highlights of the portfolio activities during this period. 

• Added a few stocks to the portfolio - Astral Polyteknik, Elecon Engineering, GEI Industrial, Manjushree Technopak, Pidilite and Titan
• Booked profits in Supreme Infrastructure
• Enhanced cash levels of portfolio from nearly 0 to over 10%

Click on this link for current portfolio details

GEI Industrial Systems - A Business Worth Looking At

Company Overview

GEI Industrial Systems Ltd is a Bhopal headquartered company that was started in 1970 and operates mainly in the industrial heat transfer segment. It was formed in 1970 as General Engineering Industries. Originally, it was formed as an ancillary unit of BHEL. The company is engaged in machining, fabrication activities and specializing in manufacture of air-cooled heat exchangers and finned tubes. It has a technical tie-up with Birwelco, UK, for design and performance guarantee of the products to be manufactured by the company. Its group companies are GEI Godavari Engineering, GEI Foods Pvt Ltd and GEI FHM Consultatnts.

GEI's client list includes BHEL, Tata Electric Company, HPCL, ONGC, Bharat Pumps and Compressors, IPCL (Baroda), Reliance Industries, Toyo Engineering, UHDE KTI, Mangalore Refineries, Davy Power Gas, Chemtex, etc.

Main Business

GEI Industrial Systems Ltd is a leader in Heat Transfer Technology . GEI is currently engaged in design engineering and specialized manufacture of Aircooled heat exchangers and Aircooled heat condensers in which it has a monopoly. The products manufactured by GEl find application in Power Generations, Oil-Gas Production, Gas Processing, Oil Petroleum Refining and Petrochemicals.The Company has also moved into design, engineering, manufacturing, installation and commissioning of extended surface heat transfer equipment and systems.

• Air cooled steam condenser
• Air cooled heat exchanger
• Finned Tubes
• EPC projects

GEI has inked a technical alliance with Innospin of Switzerland to produce air-cooled condensers for mega thermal power projects, especially supercritical power projects. As a result, the company, which is manufacturing and supplying condensers for up to 150 MW power projects, will get technical support for 660-MW and above rating power plants. The average ticket size for the air-cooled condenser order for a supercritical power project is Rs 125-Rs 150 crore. 

With the tie-up, GEI is set to be the only Indian company that will be equipped to locally manufacture and supply air- cooled steam condensers to new and up-coming super-critical thermal power stations. This will enable the company to tap the huge opportunity offered by mega thermal power projects.

Financials

	FY11	FY10	FY09	FY08	FY07
Sales	353.24	250.78	238.04	211.18	123.99
Other Income	5.84	0.67	1.05	-1.41	0.42
Op Profit	62.94	36.06	32.95	33.22	18.63
PAT	28.9	14.87	10.37	8.97	5.3
EPS	17.39	9.22	7.16	6.18	3.88
OPM(%)	17.82%	14.38%	13.84%	15.73%	15.03%
NPM(%)	8.18%	5.93%	4.36%	4.25%	4.27%
Asset turnover(avg)	0.87	1.15	1.70	1.89	1.58
RoA(%)	7.15%	6.82%	7.41%	8.04%	6.75%
Financial Leverage	2.04	2.09	1.85	1.67	1.87
RoE(%)	14.62%	14.26%	13.70%	13.40%	12.59%

 

Investment Thesis

• GEI is the market leader in air cooled heat exchangers and condensers. With the scarcity of water in India and the world, more and more power plants are moving to air cooling as opposed to water cooled plants.
• Having realized the harmful side-effects of water used in condensing technology, indian states have started banning the use of water. Tamil Nadu, Chattisgarh and Rajasthan have already banned water-cooled condensers.
• Huge investments slated in India in the power and oil & gas sector
• Maintenance cost of Air Cooled units is 25% of those of Water Cooled Systems
• In house finned tube manufacturing to reduce operating expenses
• Very strong order book. It stood at Rs.400 crores as on March31,2011.
• Insiders buying at a substantial premium to current market price. Promoters have granted warrants to themselves at a price of Rs 250 convertible within 18 months (from May 24, 2011). CMP was around 170-180 at the time. Banyan Tree (an Aditya Birla private equity fund) has been granted cumulative convertible preference (CCP) shares (each convertible at Rs 250 per share within 18 months of allotment).
• The company is increasing its capacity to manufacture air-cooled condenser or equivalent BoP equipment from 3,000 MW to 5,000 MW at a cost of Rs 105 crore. The capex is partly funded from the proceeds from issue of CCPs or warrants.
• The company expects consolidated net revenue of Rs 550 cr in Fy12.

Valuation

• Stable or improving margins – both at operating and net levels
• Current PE is 10 (at CMP of ~Rs.175)
• 3-year Sales growth has been 26.46%; 5-year Sales growth has been 25.03%
• 3-year PAT growth has been 41.04%; 5-year PAT growth has been 33.25%
• 3-year EPS growth as been 33.44%; 5-year EPS growth has been 26.92%
• Assuming a modest growth of 10%, FY12 EPS is expected to be around 19.1
• The table below gives the likely prices for the possible PE ratios.

	FY11	FY12E
PAT	28.9	31.79
EPS	17.38	19.12
PE(pessimistic)=10	173.84	191.22
PE(most likely)=15	260.76	286.83
PE(optimistic)=18	312.91	344.20

 

Conclusion

• By March 2012, price expectation is Rs.190-340. The stock has been trading between a range of around 170 and 215-230 in the last one year.
• For a short term view, look to reduce positions around that 215 to 230 mark.
• For long term investors, look to hold for a good appreciation over a 1-2 year period.

Book Review: The Only Three Questions That Count by Ken Fisher

I picked up this book because of two reasons, one because I had read few of his articles in Forbes, but primarily because he is the son of the legendary Phil Fisher.

The book looks at three questions that every investor needs to ask himself. They are:
Q1. What do you believe that is actually false (wrong)?
Q2. What can you fathom that others find unfathomable?
Q3. What the heck is my brain doing to blindside me now?

Question 1 delves into variant perception. That is, what do you think that is different from the consensus. Because the only way to make money is when you are right and the majority is wrong.

Question 2 delves into your personal strategic competitive advantage. What is your differentiator? Or in Warren Buffet's language, what is your circle of competence? Unless you have a definite competitive advantage, it is going to be very difficult to make better than average returns.

Question 3 digs deeper into behavioral psychology. As an investor, you have to be very very careful of how the inherent biases are affecting your decision making. Fear, greed, loss aversion and other such biases are always at work and investors have to be on their conscious guard against them. (For a great book on psychology of various biases you can read - Influence by Robert Cialdini.)

The book is interesting in parts. But it actually does not contain anything new. Also, I got the overwhelming feeling that the author was trying to impress upon the reader that he is some hotshot money manager. His continuous stress on the Price/Sales ratio, which supposedly the author had pioneered keeps getting bombarded at the reader as if it was the discovery of the 8th wonder of the world.

Overall, a mediocre book which you can decide to pass.

Interviews of Charlie Munger

Monetary Policy Impact on Shriram Transport Finance Complay Ltd (STFC)

This monetary policy announced on May 3rd has a new guideline whereby all loans by banks to NBFCs will now NOT be considered under priority sector lending (PSL). This has impacted the stock price of Shriram Transport Finance Complay Ltd (STFC) greatly. The stock has been hammered down by nearly 25% in the last few days. 
Let us quickly look at the facts:-

• 20% of the companies funds come from banks. The rest is from retail and institutional borrowing.
• The company foresees a slowdown in CV (commercial vehicle) sales in the next 3-6 months as interest rates rise.
• Since the company primarily lends to used CV owners (70% of the loans are for used vehicles), there is a lag when the slowdown would impact the company. 
• It is possible that the slowdown may hit in the next financial year and the company may grow at 10% instead of the 15%-20% it hopes to do now.
• The company does not expect any significant impact on NIMs after the monetary policy
• FY12 Q1 results would need to be keenly watched for possible future direction of the company.
• The stock may not breach the 52 week low of about 530. I would be really surprised to see it go down much below 600.

Even if I assume a slowdown and a 10% growth for FY12, the expected FY12 EPS would be about Rs. 60. The expected price at an approximate PE band of 12-14 would result in an approximate price of 720-840.

I think STFC may be providing a good risk-reward situation for long term investors.

One Stock Portfolio - A thought experiment

Suppose you have a fairly large amount to invest in the stock market. Assume that the amount is a significant amount of your networth. And also assume that you can invest only in one stock. What would you do?
To look at this problem in the Charlie Munger way (by way of inversion), let me see what I would NOT do.

• I would not invest in any company with the following characteristics:-
• Commodity producer
• Capital intensive (one which requires a lot of incremental capital)
• Large debt on its balance sheet
• Company with poor scalability of its core business
• Free cash flow is negligible or negative consistently
• Questionable management
• An insignificant player in its sector

The more I think about this from a top-down approach, the more I get driven towards FMCG, Pharma/Healthcare or Financial sectors. The main aspect for this investment would be that I would not want to lose much of  the money. Here are some stocks I would shortlist:-

• CRISIL
• HDFC Bank
• SBI
• Apollo Hospitals
• Cipla
• ITC
• Godrej Industries
• Titan

The specific pick can vary but I think over time the probability that all these stocks will beat inflation (and fixed deposits) is high.