India

In this briefing:

1. 2019 Asia Selected Gaming Stock Outlook: Headwinds, Tailwinds and Our Top Picks for Entry Levels Now
2. Infosys Ltd (INFO IN): Another Buyback Coming? Not a Bad Idea, but How Much It Can Really Help?
3. Are US Stocks Still Expensive?
4. India: Coal Availability Improves at Power Plants, but Utilizations Yet to Pick Up on Lower Demand
5. Maruti Suzuki- Q2FY19 Results Update

1. 2019 Asia Selected Gaming Stock Outlook: Headwinds, Tailwinds and Our Top Picks for Entry Levels Now

Our review of ten Asian gaming companies forward prospects for 2019 yielded our top five picks. Two of those comprise this insight. Three more will follow in Part Two. There is, in our opinion, some disconnect between continuing macro headwinds in both the VIP and mass sectors and a more bullish tone based on a recent upside trend in Macau, strong results in the Philippines and Cambodia. Given the battering of the market in general, the already 8 month old bearish tone to the sector and the current pricing of the two stocks noted here, we see significant upside opportunity as we near the beginning of 2019.

2. Infosys Ltd (INFO IN): Another Buyback Coming? Not a Bad Idea, but How Much It Can Really Help?

As per reports, Infosys Ltd (INFO IN) may consider a proposal for a share buyback of $1.60 billion very soon. The buyback announcement is likely to be made on January 11 when the company board meets to consider the 3Q FY19 results. Before this, in November 2017, Infosys Ltd (INFO IN) had announced a buyback and spent Rs130 bn to buy a total of 113mn equity shares. This fresh buyback could be an important development and could be an important support for the stock, it is also sensible for other reasons. 

There are no major acquisitions in recent times by Infosys Ltd (INFO IN) and if this is likely to be the trend for near future, share buyback is not a bad idea. The company is still struggling with some of the legacy issues and the priority as of now is to streamline the organic growth. We think Infosys Ltd (INFO IN) is also cautious with inorganic growth opportunities as the company had serious issues with acquisitions in the past. What could be another key driver behind this is that in valuation terms, Infosys Ltd (INFO IN) is not very expensive.

3. Are US Stocks Still Expensive?

There are striking parallels between 1929 and 2018.  

The 1929 crash put a halt to a nine-year bull run on the market.

Up until October 1929, same as this year, market consensus was that asset prices could only go up from their current level.

As we mentioned in When the Tide Goes Out, Dominoes Fall, a decade of building up excesses meant a painful burst, back 79 years ago: between October of 1929 and September of 1932, eighty-nine percent of the value of stocks was erased and the market didn’t recover to its former peak until 25 years later.

Are we in a similar situation right now? 

4. India: Coal Availability Improves at Power Plants, but Utilizations Yet to Pick Up on Lower Demand

In the first half of FY19, there has been a serious shortage of coal in several thermal power plants in India which was affecting as much as 25% of total capacity of power plants in India. However, it has improved considerably now. As per latest Ministry of Power data as on 23rd December 2018 for 124 plants, coal shortage has become zero in pit head plants and there are only 12 plants in non pit-head category with coal shortages. This change is a significant improvement in coal availability situation for power generation sector in India.

However, the utilizations have not gone up that much for power plants on a cumulative basis across the country. The average utilizations (Plant Load Factor or PLF) for overall India generation capacity was 62.6% for April to November 2018 period and this was 62.7% in November indicating no significant improvement. This virtually no improvement in power plants’ utilization could be linked to lesser demand for electricity because of change in weather conditions and also indicates that coal supply situation may not have improved that much.

Nevertheless, this will reduce the pressure from Power Plants and the sector on Coal India Ltd (COAL IN) for more supplies. However, we many not see much change in production and volumes for Coal India Ltd (COAL IN) which has seen a significant decline in recent months. Another implication is that when the overall demand for electricity comes down, the demand in spot market will also be lower accordingly. It is directly relevant for the merchant power companies and Indian Energy Exchange (IEX IN).

5. Maruti Suzuki- Q2FY19 Results Update

Maruti Suzuki’s Q2FY19 results were below our expectations. Sales grew by only 2% YoY in Q2FY19 led by a 3.7% increase in realization per unit. But the volumes declined by 1.5% YoY in the same period. We analyze the results.

In this briefing:

1. Metropolis Healthcare Pre-IPO Quick Take – Steady Performance but Growth Lagged Network Expansion
2. Hitachi (6501 JP): A Bold but Risky Acquisition of ABB’s Power Grids

1. Metropolis Healthcare Pre-IPO Quick Take – Steady Performance but Growth Lagged Network Expansion

Metropolis Health Services Limited (MHL IN) (MHL) plans to raise US$100m+ in its Indian IPO. MHL is one of the largest diagnostic chains in the country. Carlyle invested in the company in 2015. 

MHL has registered steady growth and margins over the past few years. It has also aggressively expanded its network over the past few years, although revenue growth hasn’t matched the network expansion.

MHL’s recent financial performance has been in-line with its listed peers, Dr Lal Pathlabs (DLPL IN) and Thyrocare Technologies (THYROCAR IN), while the company continues to lead its two listed peers in terms of revenue generated per test.

2. Hitachi (6501 JP): A Bold but Risky Acquisition of ABB’s Power Grids

Hitachi Ltd (6501 JP) announced the acquisition of an 80.1% stake in ABB Ltd (ABBN VX)’s power grids business for $6.4 billion. ABB will retain the remaining stake in the divested unit, which is valued at an EV of $11 billion. ABB’s power grids is a global #1 player and makes transformers, long distance electricity-transmission systems and energy storage units.

In this briefing:

1. Are US Stocks Still Expensive?
2. India: Coal Availability Improves at Power Plants, but Utilizations Yet to Pick Up on Lower Demand
3. Maruti Suzuki- Q2FY19 Results Update
4. Business Happenings in the Americas that May Be “Below the Radar” – Week Ending December 22, 2018
5. LIC Housing Finance Ltd. – Builder Loans and LAP to Drive Growth in Loan Book

1. Are US Stocks Still Expensive?

There are striking parallels between 1929 and 2018.  

The 1929 crash put a halt to a nine-year bull run on the market.

Up until October 1929, same as this year, market consensus was that asset prices could only go up from their current level.

As we mentioned in When the Tide Goes Out, Dominoes Fall, a decade of building up excesses meant a painful burst, back 79 years ago: between October of 1929 and September of 1932, eighty-nine percent of the value of stocks was erased and the market didn’t recover to its former peak until 25 years later.

Are we in a similar situation right now? 

2. India: Coal Availability Improves at Power Plants, but Utilizations Yet to Pick Up on Lower Demand

In the first half of FY19, there has been a serious shortage of coal in several thermal power plants in India which was affecting as much as 25% of total capacity of power plants in India. However, it has improved considerably now. As per latest Ministry of Power data as on 23rd December 2018 for 124 plants, coal shortage has become zero in pit head plants and there are only 12 plants in non pit-head category with coal shortages. This change is a significant improvement in coal availability situation for power generation sector in India.

However, the utilizations have not gone up that much for power plants on a cumulative basis across the country. The average utilizations (Plant Load Factor or PLF) for overall India generation capacity was 62.6% for April to November 2018 period and this was 62.7% in November indicating no significant improvement. This virtually no improvement in power plants’ utilization could be linked to lesser demand for electricity because of change in weather conditions and also indicates that coal supply situation may not have improved that much.

Nevertheless, this will reduce the pressure from Power Plants and the sector on Coal India Ltd (COAL IN) for more supplies. However, we many not see much change in production and volumes for Coal India Ltd (COAL IN) which has seen a significant decline in recent months. Another implication is that when the overall demand for electricity comes down, the demand in spot market will also be lower accordingly. It is directly relevant for the merchant power companies and Indian Energy Exchange (IEX IN).

3. Maruti Suzuki- Q2FY19 Results Update

Maruti Suzuki’s Q2FY19 results were below our expectations. Sales grew by only 2% YoY in Q2FY19 led by a 3.7% increase in realization per unit. But the volumes declined by 1.5% YoY in the same period. We analyze the results.

4. Business Happenings in the Americas that May Be “Below the Radar” – Week Ending December 22, 2018

Highlights of significant recent happenings include:

5. LIC Housing Finance Ltd. – Builder Loans and LAP to Drive Growth in Loan Book

Lic Housing Finance (LICHF IN), founded by Life Insurance Corporation of India, is the 2^nd largest Housing Finance Company (HFC) in India with a total outstanding loan book portfolio of Rs 1,759 bn as of 2QFY19. 94% of the company’s loans were to retail customers as home loans & Loan Against Properties (LAP) and the balance 6% were to project developers as of 2QFY19.

We like the business of LICHF for following reasons:

• LICHF focuses on the salaried segment. 86% of the customers as of 2QFY19 were from the salaried class. This provides the company with stability in earnings and better asset quality. We expect the NIMs & Spreads to be stable at 2.4% & 1.2% respectively for the period of FY18-21E.
• We expect LICHF’s total loan book to grow at a CAGR of 16% over the period of FY18-21E. This growth will be supported by LAP and Developer loans. We expect the retail home loan portfolio to grow at a CAGR of 11% over the same period.
• As the company focuses on LAP & developer segment to grow the total loan book, we expect this to affect the asset quality adversely. We expect the Gross Non-Performing Assets (GNPA) & Net Non-Performing Assets (NNPA) to increase to 1.3% (from 1.2% as of Sept-18) & 0.5% (from 0.4% as of Sept-18) respectively.

We initiate coverage on LICHF with a fair value estimate of Rs 570/- over the next 12 months. This implies a potential upside of 19% from the closing market price of Rs 481 as on 20^th December 2018.  This is arrived by applying P/ABV (Price to Adjusted Book Value) multiple of 1.7X to our Adjusted Book Value Estimate of Rs 337 per share for the period ending Sept-20E.

In this briefing:

1. India: Divergence in State Level Inflation Data and Its Political Impact, The Devil Is in Details
2. MCX: The Pieces of the Puzzle Have Fallen in Place, BUY for 32% Upside

1. India: Divergence in State Level Inflation Data and Its Political Impact, The Devil Is in Details

It is universally acceptable that a significant and uncontrolled price rise especially for essential commodities is politically harmful for the incumbent Govt in a developing country like India. However, less than optimal price rise could also lead to justifiable anger in segment of population for which the livelihood is linked to it. While achieving this fine balance may not be an easy task for political establishment, we think these assumptions are just too simplistic. The political fortunes for the leaders and political parties are much more dependent on local, state specific factors and granular inflation data is a good measure of the price rise impact.

At the national level, the gap between rural and urban inflation is significant and in the latest data, inflation in urban areas is almost double of price rise in the rural areas. The consumer price inflation data says that there are regions which have negative increase in prices and there are many others which has inflation more than double of national average. In some extreme cases, the inflation gap between rural and urban areas in the same state is as much as 8%, higher than 3x of reported national average. Also from inter-state comparison, it is clear that this divergence becomes even more significant.

After the recent assembly elections, several explanations focused on rural distress and blamed agrarian crisis for BJP’s defeat. However, we can certainly draw more meaningful inferences from state level inflation data of these states. In Chhattisgarh, the difference between rural and urban inflation was huge (more than 6.5%) and this is more important in how the rural and urban population will be looking at the price rise. There are several other important data points from other states as well. But, it is clear that low inflation reflect poor prices the farmers may be receiving for their produce and in all these states where elections have taken place recently, inflation was less than average indicating higher distress levels. The differential between rural and urban inflation also implies inefficiency in the entire system and that affects political choices of masses.

2. MCX: The Pieces of the Puzzle Have Fallen in Place, BUY for 32% Upside

• Multi Commodity Exch India (MCX IN) is the leading commodity futures exchange in India with ~90% market share. It enjoys ~100% market share in each of the top 7 products traded on its exchange.
• Average Daily Turnover (ADT) is up 24% YoY over YTD-Nov-18 after 4 years of stagnation on the back of increase in volatility of key commodity prices.
• We see 50-60% increase in ADT over FY18-21 on the back of Mutual Funds entering commodity futures trading creating enough liquidity for large industries like refineries shifting to MCX for hedging, bank distribution of commodity trading products and monetization of commodity options trading.
• MCX’s volumes are unlikely to be impacted by new entrants like NSE and BSE since none of the new entrants can offer any meaningful improvement over MCX’s offering in terms of lower cost, higher speed or tax friendliness. This makes MCX a ripe acquisition candidate going by global experience.
• We expect 16% Revenue Cagr, 20% EPS Cagr over FY18-21. Our target price for MCX at 28x Dec-20 EPS is Rs 950- implying 32% upside.

In this briefing:

1. Metropolis Healthcare Pre-IPO Quick Take – Steady Performance but Growth Lagged Network Expansion
2. Hitachi (6501 JP): A Bold but Risky Acquisition of ABB’s Power Grids
3. India: Divergence in State Level Inflation Data and Its Political Impact, The Devil Is in Details
4. MCX: The Pieces of the Puzzle Have Fallen in Place, BUY for 32% Upside

1. Metropolis Healthcare Pre-IPO Quick Take – Steady Performance but Growth Lagged Network Expansion

Metropolis Health Services Limited (MHL IN) (MHL) plans to raise US$100m+ in its Indian IPO. MHL is one of the largest diagnostic chains in the country. Carlyle invested in the company in 2015. 

MHL has registered steady growth and margins over the past few years. It has also aggressively expanded its network over the past few years, although revenue growth hasn’t matched the network expansion.

MHL’s recent financial performance has been in-line with its listed peers, Dr Lal Pathlabs (DLPL IN) and Thyrocare Technologies (THYROCAR IN), while the company continues to lead its two listed peers in terms of revenue generated per test.

2. Hitachi (6501 JP): A Bold but Risky Acquisition of ABB’s Power Grids

Hitachi Ltd (6501 JP) announced the acquisition of an 80.1% stake in ABB Ltd (ABBN VX)’s power grids business for $6.4 billion. ABB will retain the remaining stake in the divested unit, which is valued at an EV of $11 billion. ABB’s power grids is a global #1 player and makes transformers, long distance electricity-transmission systems and energy storage units.

3. India: Divergence in State Level Inflation Data and Its Political Impact, The Devil Is in Details

It is universally acceptable that a significant and uncontrolled price rise especially for essential commodities is politically harmful for the incumbent Govt in a developing country like India. However, less than optimal price rise could also lead to justifiable anger in segment of population for which the livelihood is linked to it. While achieving this fine balance may not be an easy task for political establishment, we think these assumptions are just too simplistic. The political fortunes for the leaders and political parties are much more dependent on local, state specific factors and granular inflation data is a good measure of the price rise impact.

At the national level, the gap between rural and urban inflation is significant and in the latest data, inflation in urban areas is almost double of price rise in the rural areas. The consumer price inflation data says that there are regions which have negative increase in prices and there are many others which has inflation more than double of national average. In some extreme cases, the inflation gap between rural and urban areas in the same state is as much as 8%, higher than 3x of reported national average. Also from inter-state comparison, it is clear that this divergence becomes even more significant.

After the recent assembly elections, several explanations focused on rural distress and blamed agrarian crisis for BJP’s defeat. However, we can certainly draw more meaningful inferences from state level inflation data of these states. In Chhattisgarh, the difference between rural and urban inflation was huge (more than 6.5%) and this is more important in how the rural and urban population will be looking at the price rise. There are several other important data points from other states as well. But, it is clear that low inflation reflect poor prices the farmers may be receiving for their produce and in all these states where elections have taken place recently, inflation was less than average indicating higher distress levels. The differential between rural and urban inflation also implies inefficiency in the entire system and that affects political choices of masses.

4. MCX: The Pieces of the Puzzle Have Fallen in Place, BUY for 32% Upside

• Multi Commodity Exch India (MCX IN) is the leading commodity futures exchange in India with ~90% market share. It enjoys ~100% market share in each of the top 7 products traded on its exchange.
• Average Daily Turnover (ADT) is up 24% YoY over YTD-Nov-18 after 4 years of stagnation on the back of increase in volatility of key commodity prices.
• We see 50-60% increase in ADT over FY18-21 on the back of Mutual Funds entering commodity futures trading creating enough liquidity for large industries like refineries shifting to MCX for hedging, bank distribution of commodity trading products and monetization of commodity options trading.
• MCX’s volumes are unlikely to be impacted by new entrants like NSE and BSE since none of the new entrants can offer any meaningful improvement over MCX’s offering in terms of lower cost, higher speed or tax friendliness. This makes MCX a ripe acquisition candidate going by global experience.
• We expect 16% Revenue Cagr, 20% EPS Cagr over FY18-21. Our target price for MCX at 28x Dec-20 EPS is Rs 950- implying 32% upside.

In this briefing:

1. Business Happenings in the Americas that May Be “Below the Radar” – Week Ending December 22, 2018
2. LIC Housing Finance Ltd. – Builder Loans and LAP to Drive Growth in Loan Book
3. India Politics: Bihar Seat Sharing Sign of Flexible BJP Leadership, Reformed Stance Positive for NDA
4. India: New Governor, New Hope
5. Micron’s Guidance Bombshell Signals Troubled Times Ahead For Beleaguered Semiconductor Segment

1. Business Happenings in the Americas that May Be “Below the Radar” – Week Ending December 22, 2018

Highlights of significant recent happenings include:

2. LIC Housing Finance Ltd. – Builder Loans and LAP to Drive Growth in Loan Book

Lic Housing Finance (LICHF IN), founded by Life Insurance Corporation of India, is the 2^nd largest Housing Finance Company (HFC) in India with a total outstanding loan book portfolio of Rs 1,759 bn as of 2QFY19. 94% of the company’s loans were to retail customers as home loans & Loan Against Properties (LAP) and the balance 6% were to project developers as of 2QFY19.

We like the business of LICHF for following reasons:

• LICHF focuses on the salaried segment. 86% of the customers as of 2QFY19 were from the salaried class. This provides the company with stability in earnings and better asset quality. We expect the NIMs & Spreads to be stable at 2.4% & 1.2% respectively for the period of FY18-21E.
• We expect LICHF’s total loan book to grow at a CAGR of 16% over the period of FY18-21E. This growth will be supported by LAP and Developer loans. We expect the retail home loan portfolio to grow at a CAGR of 11% over the same period.
• As the company focuses on LAP & developer segment to grow the total loan book, we expect this to affect the asset quality adversely. We expect the Gross Non-Performing Assets (GNPA) & Net Non-Performing Assets (NNPA) to increase to 1.3% (from 1.2% as of Sept-18) & 0.5% (from 0.4% as of Sept-18) respectively.

We initiate coverage on LICHF with a fair value estimate of Rs 570/- over the next 12 months. This implies a potential upside of 19% from the closing market price of Rs 481 as on 20^th December 2018.  This is arrived by applying P/ABV (Price to Adjusted Book Value) multiple of 1.7X to our Adjusted Book Value Estimate of Rs 337 per share for the period ending Sept-20E.

3. India Politics: Bihar Seat Sharing Sign of Flexible BJP Leadership, Reformed Stance Positive for NDA

The seat sharing formula announced over the weekend by BJP and its partners in Bihar is a clear sign of a more flexible and accommodating BJP leadership (Prime Minister and party president). There are total 40 Lok Sabha seats in Bihar and 17 seats each for two parties (JDU and BJP) which had won 2 (JDU) and 22 (BJP) in the 2014 elections from Bihar is a sign of BJP’s great pragmatism and willingness to concede more space to allies. This is not only required for BJP to deal with a more formidable challenge from Opposition, it is also very important to assuage concerns of allies which are getting more demanding.

This decision of BJP also has larger implications, for pre-elections approach of BJP on contentious issues with its existing and potential allies and also for its ability to attract more parties to NDA post elections. Realizing they are dealing with a more difficult political challenge in 2019, the BJP leadership of Narendra Modi and Amit Shah is now willing to change its previously aggressive operating model. It is both good and bad. Because while this might impact the pace of decision making and make it slower, it will also to a large extent eliminate the risk of policy misadventures such as demonetization.

The silver lining is that previous experience of Atal Bihari Vajpayee era (when in 1998-2004, the BJP was leading the Central Govt with only 182 seats in Lok Sabha) suggests that even coalition Govt can work effectively. The process at the Govt will be more consultation based and robust because BJP will be less combative when weaker, which might help. Some of the recent examples like departure of ex-RBI Governor Urjit Patel have proven that these issues could have disastrous consequences and are extremely damaging for markets and the image of Govt. If that changes and is reformed at the top, it will be positive for building up the right investment climate in the country.

4. India: New Governor, New Hope

Shaktikanta Das has been appointed as the new governor of India’s central bank. The new appointment comes as a major boost to the economy and has driven a rebound in the financial markets as well as the Indian rupee. The country’s current account deficit remains a major concern, although these recent developments further affirm India’s attractiveness as an investment destination.

5. Micron’s Guidance Bombshell Signals Troubled Times Ahead For Beleaguered Semiconductor Segment

After months of skirting around inventory build-up and a weakening demand outlook, Micron used their latest earnings report to call closing time on a revenue and profitability party that began in Q4 2016 and just got better and better with each passing quarter. 

Micron reported Q1 FY2019 results on December 18’th and while revenues were largely in line with recently lowered guidance from the company, their outlook for both Q2 and 2019 as a whole was worse than even the most bearish of expectations. 

Citing high inventory levels at key customers, Micron guided Q2 FY2019 revenues for $6 billion at the midpoint, down a staggering $1.9 billion, 24% QoQ and 18% YoY. At the same time, Micron revised down their CY2019 bit demand growth forecast for both DRAM (from 20% to 16%) and NAND (35%, the bottom of the previously forecasted range). The company plans to adjust both CapEx and bit supply output downwards to match.

In the wake of their guidance bombshell, Micron’s share price closed down almost 8% the following day to end the session at $31.41, a level last seen in August 2017. Micron is unique in reporting out of sync with its industry peers, making it the proverbial canary in a coal mine. The company’s gloomy outlook and clarion call for further CapEx reductions in a bid to rebalance supply and demand spells troubled times ahead for an already beleaguered semiconductor segment ahead of the upcoming earnings season. 

In this briefing:

1. India Politics: Bihar Seat Sharing Sign of Flexible BJP Leadership, Reformed Stance Positive for NDA
2. India: New Governor, New Hope
3. Micron’s Guidance Bombshell Signals Troubled Times Ahead For Beleaguered Semiconductor Segment
4. India Monthly Report Nov-Dec 2018
5. India: How “Free Electricity” Schemes May Be Linked to Excellent Industrial Growth Numbers?

1. India Politics: Bihar Seat Sharing Sign of Flexible BJP Leadership, Reformed Stance Positive for NDA

The seat sharing formula announced over the weekend by BJP and its partners in Bihar is a clear sign of a more flexible and accommodating BJP leadership (Prime Minister and party president). There are total 40 Lok Sabha seats in Bihar and 17 seats each for two parties (JDU and BJP) which had won 2 (JDU) and 22 (BJP) in the 2014 elections from Bihar is a sign of BJP’s great pragmatism and willingness to concede more space to allies. This is not only required for BJP to deal with a more formidable challenge from Opposition, it is also very important to assuage concerns of allies which are getting more demanding.

This decision of BJP also has larger implications, for pre-elections approach of BJP on contentious issues with its existing and potential allies and also for its ability to attract more parties to NDA post elections. Realizing they are dealing with a more difficult political challenge in 2019, the BJP leadership of Narendra Modi and Amit Shah is now willing to change its previously aggressive operating model. It is both good and bad. Because while this might impact the pace of decision making and make it slower, it will also to a large extent eliminate the risk of policy misadventures such as demonetization.

The silver lining is that previous experience of Atal Bihari Vajpayee era (when in 1998-2004, the BJP was leading the Central Govt with only 182 seats in Lok Sabha) suggests that even coalition Govt can work effectively. The process at the Govt will be more consultation based and robust because BJP will be less combative when weaker, which might help. Some of the recent examples like departure of ex-RBI Governor Urjit Patel have proven that these issues could have disastrous consequences and are extremely damaging for markets and the image of Govt. If that changes and is reformed at the top, it will be positive for building up the right investment climate in the country.

2. India: New Governor, New Hope

Shaktikanta Das has been appointed as the new governor of India’s central bank. The new appointment comes as a major boost to the economy and has driven a rebound in the financial markets as well as the Indian rupee. The country’s current account deficit remains a major concern, although these recent developments further affirm India’s attractiveness as an investment destination.

3. Micron’s Guidance Bombshell Signals Troubled Times Ahead For Beleaguered Semiconductor Segment

After months of skirting around inventory build-up and a weakening demand outlook, Micron used their latest earnings report to call closing time on a revenue and profitability party that began in Q4 2016 and just got better and better with each passing quarter. 

Micron reported Q1 FY2019 results on December 18’th and while revenues were largely in line with recently lowered guidance from the company, their outlook for both Q2 and 2019 as a whole was worse than even the most bearish of expectations. 

Citing high inventory levels at key customers, Micron guided Q2 FY2019 revenues for $6 billion at the midpoint, down a staggering $1.9 billion, 24% QoQ and 18% YoY. At the same time, Micron revised down their CY2019 bit demand growth forecast for both DRAM (from 20% to 16%) and NAND (35%, the bottom of the previously forecasted range). The company plans to adjust both CapEx and bit supply output downwards to match.

In the wake of their guidance bombshell, Micron’s share price closed down almost 8% the following day to end the session at $31.41, a level last seen in August 2017. Micron is unique in reporting out of sync with its industry peers, making it the proverbial canary in a coal mine. The company’s gloomy outlook and clarion call for further CapEx reductions in a bid to rebalance supply and demand spells troubled times ahead for an already beleaguered semiconductor segment ahead of the upcoming earnings season. 

4. India Monthly Report Nov-Dec 2018

The Indian indices have been seeing an ebb and flow with bearish indicators accounting for market dips with a recovery towards the end of the period. Overall the Indian indices have outperformed the global market this month with positive returns across sectors except for pharma and the metal sector.

Returns in USD

5. India: How “Free Electricity” Schemes May Be Linked to Excellent Industrial Growth Numbers?

If we look more closely at the latest Industrial Production (IIP) increase data which reported a strong overall growth of 8.1% yoy, we find a mixed picture emerging on the component wise contribution and growth across categories. The industry group ‘Manufacture of furniture’ has shown highest positive growth of 41.0% followed by 39.0% in ‘Manufacture of wood and products of wood and cork’, which is not as such the indicators of robust capacity creation for an economy. There are other interesting data points as well. Among top five item groups with positive percentage increase in production, some are purely consumption items which will have rather limited impact in terms of long term positive implications for the country.

But, what is that we are most worried about? For several previous months, IIP growth data is getting massive support from huge growth in electricity consumption. Electricity has contributed the most in growth even in October data (almost 20% more than mining, the second most important contributor and the one which has double the weight as compared to electricity). But, this could also be primarily driven by Government schemes such as SAUBHAGYA and other initiatives for rural electrification which are in overdrive. If this is not managed well, massive growth in electricity could lead to more stress for DISCOMs (power distribution companies) and that could be harmful for the entire power sector.

In this briefing:

1. Time-Out Not Time up for Trade War
2. Indian Housing Finance Companies-Series 1 – Sector Outlook and Companies Profile
3. Motherson In Merger Talks with One of Our Previously Short-Listed Candidates – Leoni
4. Semiconductor WFE Outlook. Things Just Got Really Ugly
5. India: New Tariff Regulation Is Temporary Relief For NTPC Ltd (NTPC IN) ​and Power Grid (PWGR IN) ​

1. Time-Out Not Time up for Trade War

• Xi and Trump walk away from Buenos Aires with something to sell at home
• But trade negotiations will be dominated by fraught disagreements
• After 90-day negotiations, further delays to tariff escalation are likely 

2. Indian Housing Finance Companies-Series 1 – Sector Outlook and Companies Profile

The Indian housing sector is arguably one of the most important contributors to the country’s GDP with 9% contribution in FY17 and is expected to improve to 13% GDP by FY25. We believe that if any investor intends to participate in the Indian growth story, they simply can’t overlook the housing sector and the companies those are going to be the direct beneficiaries. 

We intend to cover the Housing finance sector and address key issues and companies in the sector through a series of articles over the next few weeks. We will highlight and identify sustainable business models in the Housing finance Sector that have not only created long-term shareholder wealth but have also maintained high levels of asset quality and prudence. These are the companies that have consistently maintained the highest credit rating through the entire cycle, by credible names like Crisil and ICRA. 

The stock prices of many of these companies have corrected by 30-50% in the past few months due to liquidity concerns in the financial system post the ILFS default, which affected the NBFC sector including HFCs.

We believe the concern is overrated as many of these HFCs have a parentage with strong balance sheets. Moreover, reforms in recent times have helped to diversify the borrowing profile of these HFCs who in the past largely relied on the banks, thereby reducing the liquidity risk to a large extent.

This article, the first in the series, delves into the outlook of the housing finance sector that has got a significant boost due to several reforms from the government. It also provides a glimpse into the profile of key HFCs that cumulatively enjoys near 85% market share. Through some key indicators, we would understand their growth history and whether it has come at the cost of low asset quality.

3. Motherson In Merger Talks with One of Our Previously Short-Listed Candidates – Leoni

On Friday, following news about entering merger/acquisition talks with Leoni AG (LEO GR), shares of Motherson Sumi Systems (MSS IN) closed up 3.1% up to INR166. Leoni’s stock, on the other hand, increased by 2.7% at Friday’s close, although the stock has been experiencing a declining trend over the past year. We mentioned in Two More Acquisitions on the Way for Motherson Sumi, that Leoni could be a potential acquisition target for Motherson in its wire harnessing segment, although on the higher end of the size spectrum. The company representatives have not commented on this acquisition news and the deal is not finalised yet. Thus, this could simply remain at the discussion stage with no real transaction taking place.

 Leoni has been experiencing a decline in its earnings during the recent quarters of FY2018, expecting negative free cashflows for FY2018E. However, recent news is that Leoni has recently been undertaking a comprehensive restructuring programme after cutting its earnings target for FY2018E and has appointed a new chief executive in September to lead these efforts. Further, it should be noted that Leoni is a well-established company in the auto components business and thus, could overcome its current struggles and be in a good position to exploit the long-term growth prospects of this market. Thus, acquiring Leoni is likely to strengthen Motherson’s position globally by providing the latter with increased coverage geographically and product wise. 

4. Semiconductor WFE Outlook. Things Just Got Really Ugly

SEMI, the global industry association serving the manufacturing supply chain for the electronics industry, published three different forecasts for wafer fab equipment (WFE) sales in the past week. While the forecasts differ in approach and detail, they all agree on one thing, WFE revenues are continuing to fall and the outlook for 2019 is sharply down on previous estimates.

Specifically, Q4 2018 WFE revenues are set to decline 20.8% or $3.3 billion QoQ and the forecast which had just six months ago predicted 7% growth in 2019 is now calling for an 8% decline next year. 

These latest forecasts cast a dark shadow over the predictions of the leading WFE manufacturers that H1 2019 would be stronger than H2 2018 and we anticipate a strong downward revision of forward guidance in the upcoming earnings season. 

There may be a glimmer of hope on the horizon however as SEMI forecasts a strong rebound in the second half of 2019 leading to a return to growth of ~20% in 2020. Let’s see.  

5. India: New Tariff Regulation Is Temporary Relief For NTPC Ltd (NTPC IN) ​and Power Grid (PWGR IN) ​

This is something you really don’t see often, a sharp and positive stock price movement in Govt owned Indian power utilities. But after the latest draft regulation on the tariff norms for 2019-24 from CERC (the Central Electricity Regulatory Commission, which is the highest regulatory body for power sector in India) was released on 14th of December, both NTPC Ltd (NTPC IN) and Power Grid Corporation Of India (PWGR IN) have done well in absolute terms and also outperformed the broader markets. After CERC suggested continuation of the 15.5% regulated return on equity (RoE) for the power generation and transmission companies, this was seen as a positive regulatory development and helped these stocks.

However, investors should also look at the risks before getting too optimistic on Govt owned Regulated Power Utilities, a) these are not final norms and CERC has invited comments from the stakeholders and Regulator may still tweak the tariff norms for period starting 1st April 2019 depending on feedback and inputs from DISCOMs and consumer groups, b) Usually, the political rivalry between Centre and States doesn’t affect the PSUs but as some of recent developments such as Odisha where the state blamed Centre for increased tariff burden suggest, this is changing and could be damaging for future long term contracts of NTPC Ltd (NTPC IN) and Power Grid Corporation Of India Limited (PWGR IN).

There are question marks on future growth for both these companies. While NTPC Ltd (NTPC IN) will have to compete with renewable sources, there is a risk that capex growth will slow down for Power Grid Corporation Of India Limited (PWGR IN) as well. While latest draft regulation has come as positive, we don’t expect sustained stock price outperformance from NTPC Ltd (NTPC IN) and Power Grid Corporation Of India Limited (PWGR IN) as there are structural challenges for them and a Govt ownership and its impact on strategic decision making continues to remain an overhang.

In this briefing:

1. Overview of My Winners and Losers in 2018…and 5 High Conviction Ideas Going into 2019
2. RRG Global Macro – US Fed Positive Outlook – Stocks Fall.  Politics Take Over from Fundamentals
3. Universal, SegaSammy & Dynam Sit Best Positioned Among Japan Companies in Race for IR Partnerships
4. India Politics: Long Before 2019 Results, Fight Begins for PM Candidate in Opposition = Good for BJP
5. Anmol Industries Pre-IPO Quick Take – No Growth, Generous Payments to Founders

1. Overview of My Winners and Losers in 2018…and 5 High Conviction Ideas Going into 2019

In a follow up to my note from last year Overview of My Winners and Losers in 2017…and 5 High Conviction Ideas Going into 2018 I again look at my stock ideas that have worked out in 2018, those that have not and those where the verdict is still pending.

Last year I provided 5 high conviction ideas and here is their performance in a brutal year for Asian Stock Markets:

4 out of 5 had a positive performance.

Below I will make a new attempt to provide five high conviction ideas going into 2019.

2. RRG Global Macro – US Fed Positive Outlook – Stocks Fall.  Politics Take Over from Fundamentals

• US: Stocks fall on political turmoil despite positive noises from the Fed with a dovish rate hike, a reduction in expected 2019 hikes and positive trends on employment and inflation.
• Russia: Unexpected 25 bps rate hike in the face of higher inflation in Nov. Watch for impact of lower oil prices in coming quarters.
• Turkey: Economic developments remain negative. The outlook for retail sales is poor as the economy in general is faltering.
• Indonesia: Trade deficit in November. Exports down 3.3%; imports up 11.68%. This disappointing performance could be the beginning of a trend.

3. Universal, SegaSammy & Dynam Sit Best Positioned Among Japan Companies in Race for IR Partnerships

• We’ve reviewed 10 companies in the sector. Of those, three are the consensus favorites of our Tokyo based panel of industry, financial and economics observers of the IR initiative over many years.
• Based on pachinko alone, the stocks of these companies are fully valued. Based on potential tailwind from a license award within 6 months, they could be vastly undervalued.
• Each of the three noted here brings strength to a bid less based on financials than corporate focus, outlook and experience in the field.

4. India Politics: Long Before 2019 Results, Fight Begins for PM Candidate in Opposition = Good for BJP

The Opposition parties discussing who will be their Prime Minister after 2019 elections is not just premature, it is also a distraction from their main objective which is to defeat the BJP first in the next Lok Sabha elections. Notwithstanding some recent reversals and visible signs of nervousness in the BJP, Prime Minister Narendra Modi is still miles ahead of any other candidate and even BJP is still the dominant force, both in absolute terms and as compared to any other political party in India today. Without any significant threat to his popular appeal and personal charisma, Mr. Modi remains the best bet for leading the NDA (National Democratic Alliance) in the next Lok Sabha elections.

However, this discussion that who should be the PM candidate for Opposition in next elections began when M K Stalin who is a prominent leader from Tamil Nadu and chief of DMK (the party not in power in the state today but clearly one of the two most powerful political forces in this Southern state) proposed Rahul Gandhi (leader of Congress, the other national party apart from BJP) for PM’s job next year. Almost immediately, several other Opposition parties opposed the proposal and said it is best decided after the elections.

There are several reasons why it will work better for BJP if Opposition has a joint candidate for Prime Minister’s post next year, a) It will harm the fragile Opposition unity because there are several contenders but there is no one who will be acceptable to all the Opposition parties, b) If Rahul Gandhi is the PM candidate and his party takes this decision unilaterally, Congress will become less acceptable to other parties. As things stand today, Congress is far away from becoming a strong force in the next Lok Sabha, c) The voters will get more polarized and it will help BJP in winning over even neutral voters who may not have been really happy with BJP.

5. Anmol Industries Pre-IPO Quick Take – No Growth, Generous Payments to Founders

Anmol Industries (ANMOL IN) plans to raise US$100m+ in its India IPO via a sell-down of secondary shares. As per Frost & Sullivan, Anmol is the fourth largest biscuit manufacturer in India, behind the likes of Britannia Industries (BRIT IN), Parle and Sunfeast (owned by ITC Ltd (ITC IN)).

In FY17, the company undertook a restructuring wherein it merged three of its operating entities and demerged its treasury operations. Owing to this one can’t really come up with a clear picture of its past performance.

The picture on the demerger is a lot clearer though, as it led to the founders getting US$38m worth of liquid investments. Furthermore, the founder’s employment arrangements seem to be designed in such a way to let them take 12% of the PATMI each year, with no strings attached and additional 13% of FY17 PATMI as salary.

In this briefing:

1. India – NPL Sale Is Not a Panacea
2. India: Thermal Coal Imports Are Rising, What Does It Mean For End User Industries and the Economy?
3. India Banks – HDFC Bank Subsidiary Stalled Profit
4. Metropolis Healthcare Pre-IPO Quick Take – Steady Performance but Growth Lagged Network Expansion
5. Hitachi (6501 JP): A Bold but Risky Acquisition of ABB’s Power Grids

1. India – NPL Sale Is Not a Panacea

Selling bad loans to the government, and asset management company or to a distressed loan buyer is not necessarily a remedy to the crisis for India’s banks. This is because their non-performing loan (NPL) levels are high compared with their buffer to absorb losses, e.g loan loss reserves and capital. Where it is rare to know about the selling price of NPLs in any market, there is news out today of a large NPL sale at 24 cents on the dollar. The market is not India, rather Indonesia, but this only raises concerns further: it is more likely that an NPL divestiture in India yields a worse price than in Indonesia. This is due to wildly different NPL trends and NPL levels in each country. 

2. India: Thermal Coal Imports Are Rising, What Does It Mean For End User Industries and the Economy?

India’s coal imports have risen 10% in the first eight months of FY19 and this year is likely to be the repeat of previous financial year when after falling for two years, India’s coal import had grown 8.1% yoy. After the NDA took over in May 2014, Indian Govt has spoken about eliminating coal imports altogether. However, there are serious problems with domestic production, logistics issues and poor track record of coal sector PSUs. Coal India Ltd (COAL IN) contributes more than 80% of India’s domestic coal output and FY19 has been a little better in comparison of previous years so far for the company. But, its performance has dipped over previous few months and it is very likely that coal imports will grow significantly again in FY19.

The higher coal imports is relevant for several sectors and many companies. The major implications are, 1) This is bad news for Coal India Ltd (COAL IN) and the company’s ability to increase supplies in the more profitable e-auction segment, 2) Increase in cost of power generation affects specific GENCOs and later, the entire power sector because cost of power procurement goes up for DISCOMs, 3) with increase in electricity prices, inflation may also increase and there is negative impact on balance between imports and exports, 4) it is also good news for renewables as they get more competitive on cost which makes them more attractive, 5) this is bad for entire value chain of coal based power plants which includes companies such as Bharat Heavy Electricals (BHEL IN).

3. India Banks – HDFC Bank Subsidiary Stalled Profit

When most analyze HDFC Bank (HDFCB IN), there is little emphasis on its non-banking finance company (NBFC) subsidiary, HDB Financial Services (HDBFS). Perhaps in the current environment, this is more important than ever. At the same time, where HDFC Bank’s subsidiary has had significant growth in recent periods, where this begins to change, it has important implications. Most do not believe HDFC Bank can ever show poor earnings growth, let alone high bad loans and credit costs. We disagree. As India’s second largest bank, it is  beholden to the macro economic overlay; even if delayed or not clearly visible. We wonder if HDBFS’s latest figures showing just 1% gross profit growth, is one sign of this?

4. Metropolis Healthcare Pre-IPO Quick Take – Steady Performance but Growth Lagged Network Expansion

Metropolis Health Services Limited (MHL IN) (MHL) plans to raise US$100m+ in its Indian IPO. MHL is one of the largest diagnostic chains in the country. Carlyle invested in the company in 2015. 

MHL has registered steady growth and margins over the past few years. It has also aggressively expanded its network over the past few years, although revenue growth hasn’t matched the network expansion.

MHL’s recent financial performance has been in-line with its listed peers, Dr Lal Pathlabs (DLPL IN) and Thyrocare Technologies (THYROCAR IN), while the company continues to lead its two listed peers in terms of revenue generated per test.

5. Hitachi (6501 JP): A Bold but Risky Acquisition of ABB’s Power Grids

Hitachi Ltd (6501 JP) announced the acquisition of an 80.1% stake in ABB Ltd (ABBN VX)’s power grids business for $6.4 billion. ABB will retain the remaining stake in the divested unit, which is valued at an EV of $11 billion. ABB’s power grids is a global #1 player and makes transformers, long distance electricity-transmission systems and energy storage units.