Daily INDIA: Hitachi (6501 JP): A Bold but Risky Acquisition of ABB’s Power Grids and more

In this briefing:

1. Hitachi (6501 JP): A Bold but Risky Acquisition of ABB’s Power Grids
2. India: Divergence in State Level Inflation Data and Its Political Impact, The Devil Is in Details
3. MCX: The Pieces of the Puzzle Have Fallen in Place, BUY for 32% Upside
4. Rental Rates for Last Mile Industrial Real Estate Poised to Move Higher in Most Key Global Markets
5. REPCO Home – 2QFY19 – Focus on LAP to Maintain the NIMs and Spread

1. 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.

2. 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.

3. 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.

4. Rental Rates for Last Mile Industrial Real Estate Poised to Move Higher in Most Key Global Markets

• New industry data this week, plus take-aways from  our latest discussions with company managements, all confirm that the likely trend in the industrial segment of the global real estate industry is for rental rates to rise.
• The growth in e-commerce is continuing to accelerate globally. In some key market, this is “triggering a land grab for distribution space that experts say is accelerating”.
• Therefore, the increasing scarcity value of well situated industrial real estate in high demand markets is likely to continue to push up rental rates to higher and higher levels.
• Given our expectation that fundamentals driving the growing demand for Last Mile Industrial real estate are likely to persist, we continue to expect this segment to outperform the broader Real Estate sector for the foreseeable future.

5. REPCO Home – 2QFY19 – Focus on LAP to Maintain the NIMs and Spread

Repco Home Finance (REPCO IN) 2QFY19 results were in line with our estimates. The outstanding loan book portfolio reflected 11% YoY growth (v/s our expectation of 12%) at Rs 103,820 mn. The Net Interest Income (NII) was Rs 1,154 mn (v/s our estimates of Rs 1,230 mn), reflecting a YoY decline of 5%. The PAT was Rs 670 (v/s our estimates of Rs 618 mn), reflecting a YoY decline of 4%.

The management stated that the sand mining issue in Tamil Nadu (TN) (58.4% of outstanding loan book as of 1HFY19) lasted longer than expected. This has led to lower construction activity and demand for housing loans in Tamil Nadu. The company has guided for an improvement in 2HFY19 with the target of 15-16% loan growth.  They are focusing more on the other markets like Maharashtra, Gujarat, Karnataka to grow the loan book.

We have revised our NII estimates by -5.3%/-5.2%/ -1.5%, PPOP by -7.3%/-7.2%/-5.1% and PAT by -3.5%/ -3.5%/-1.9% for FY19E/FY20E/FY21E respectively.  We have revised our P/ABV multiple from 2.3x to 1.9x. Applying it to the adjusted book value for September-20E of Rs 306 per share, we arrive at the fair value of Rs 570 (earlier Rs 630)  for the next 12 months.