Powergrid FPO - A special situation everyone knows about

Something which is too obvious and which everyone knows about rarely works in investing. "The crowd is never right" is the gyaan we often hear and experience too.
So when the Powergrid FPO special situation presented itself, the first thing that came to my mind was that this is too obvious, which should be visible to absolutely anybody. So will it work?!

Background

• Powergrid has come out with its FPO, priced in a band of Rs.85-90 per share. Retail applicants will get a discount of 5% on the final decided issue price. I am assuming the issue price to be Rs.90 and all calculations are based on the same.
• So basically, retail shareholders will be allotted shares @ RS.85.5 per share. As of 5 pm on 12/5/2013, retail applications stood at 4.32 cr shares, against 27.44 cr shares reserved for the category. 
• The issue is therefore subscribed 0.16 times in the retail category as of now, with tomorrow being the last day for applications.
• Even though most retail applications come in on the last day, I feel there is high probability that there will not be any massive over-subscription in the retail category and chances of full allotment are high.
• I offer absolutely no view on the company as a business etc. This is merely a play on the situation and not an 'investment' per say.

The situation

• Apply for 2200 shares at cutoff price (for retail, it will be max Rs.85.5). Expectation here is that allotment will be full/near full.
• Short 1 lot (2000 shares) December 2013 series Powergrid futures @ Rs.92.85. Effectively, you are creating a near 100% hedge and locking in Rs.7.35 profit (by buying at Rs.85.5 and selling at Rs.92.85)
• With the issue closing on December 6th, allotment should happen just before December F&O expiry (26th)
• On expiry, sell equity shares and cover futures short position (both should be at same/near-same price on expiry, hence we would realise Rs.7.35 profit per share)
• The returns here are roughly 8.3% (thats Rs.7.35 on Rs.85.5 invested per share) pre-costs for a 20 day holding period. Not bad!!

Additional points

• Ideally, I would have liked to short the January 2014 series futures, but I learnt that January 2014 onwards, the lot size has been changed to 4000 shares, from the present 2000. :-( Hence, one will have to short December series itself, even though it will be a touch and go situation, time-wise.
• It seems like the whole world has gotten into this trade, of applying for the FPO/going short on December series futures. Hence, the futures are quoting at a Rs.3.3 discount to the cash market price of Rs.96.15.
• The whole trade is of course applicable for only the retail category, making an application under Rs.2 lakhs.

Risks

• One big risk here is if the allotment is not full/near full. In that case, the cash-futures position sizes wont match and this would not be an arbitrage trade. Also, if there is part allotment along with a significant rise in the stock price before expiry (worst case scenario), there would be a loss on this trade. (Since futures price would also rise along with cash market price and hence, loss in futures market would be greater than profit in cash market)
• Another risk here is if the allotment is delayed beyond December 26th for some reason. In that case, the futures position would expire and we would be left holding only the shares of company, un-hedged.

All in all, its an interesting arb opportunity that makes sense. Point is, it makes sense to everyone, so will everyone earn money in it? Lets see how it plays out.

Cheers and happy investing!!

Disclaimer(s)!!
1) All the posts on this blog, including this one, are for educational and discussion purposes only.
2) I post articles on individual stocks as well as varied topics like behavioural finance, industry analysis etc. None of the material posted should be regarded as advice to buy/sell any stock. My articles are not recommendations to buy/sell individual stocks, and should not be construed as any form of investment advice.
3) As a professional investor, I may have positions in stocks discussed.

4) PLEASE DO NOT TAKE BUY/SELL OR ANY INVESTMENT DECISION BASED ON ARTICLES YOU READ ON THE BLOG. I am not offering any investment advice through these articles. These are only meant to provide information and initiate discussion. Final decision is and always should be, yours and only yours! 

NBFCs - the case of the Unknown Unknowables

For a long time, NBFCs in India have been talked about, from both the positive and negative points of view. Positive, because India is such a huge country where a large chunk of population is not served by the banking system. NBFCs therefore have a huge opportunity to serve this un-addressed market. Negative, because of the huge frauds happening, opaque lending practices, allegations of NPA 'management' etc etc. 

In this post, I am talking about 2 NBFCs; First Leasing Company of India Ltd and Tourism Finance Corporation of India Ltd. My objective is not to pass judgement about these companies, but to showcase why investing in NBFCs is full of unknown risks.

Some fantastically managed NBFCs like Sundaram Finance, Bajaj Finance have been huge wealth creators for investors. The case of First Leasing is, well, a bit different.

• First Leasing Company of India Ltd was, well, the first leasing company of India! Started way back in 1973 by Mr.Farouk Irani, the company was the pioneer in corporate leasing industry. 
• Over the period of 4 decades of its existence, the company reported good numbers, gave good dividends, had negligible NPAs and was considered as the benchmark in the field.
• Last week, the CMP of the stock was Rs.32, with a book value of Rs.150 plus and a dividend declared of Rs.1.80, making it a dirt-cheap, attractive opportunity. 
• There were also talks of a sell-out happening, making it even more attractive.
• I had looked into this company earlier and the only thing I found amiss was that long term lending was being done with short term funds. This typically happens when an NBFC falls short of capital and needs funding. However, to be honest, I did not find any 'fraud' in the books, on the face of it.

On this background, it was quite shocking to read RBI's press release.

In the light of the findings of the inspection of the books of accounts and other records as on March 31, 2013 of First Leasing Company of India Ltd., 749, Anna Salai, Chennai 600002, the Reserve Bank of India has, in public interest and in exercise of the powers conferred on it by Sections 45JA and 45L of the Reserve Bank of India Act, 1934, directed that until further orders, First Leasing Company of India Ltd. shall not,

1.  sell, transfer, create charge or mortgage or deal in any manner with its property and assets without prior written permission of the Reserve Bank of India;
2.  declare or distribute any dividend;
3.  transact any business; or
4. incur any further liabilities.

Essentially, RBI has frozen the company's business altogether. This happens only when there is a system level fraudulent issue or there is severe non-adherence to laws and guidelines. Something of this sort happening to a company with a 40 year history, consistently negligible NPAs, great looking financials, great dividends is very shocking indeed. There are such a lot of things about the lending business we dont know and cant know. IMHO, this event will surely have an impact on overall NBFC valuations and the way the market perceives the sector and its companies.

Let me give you another example, that of Tourism Finance Corporation of India Ltd. This is again a listed company with a market cap of Rs.160 cr. Book value is Rs.50, CMP is Rs.20. They have also applied for a banking license recently! :-)

Have a look at this bid document. This is about a company they had lent to which went under and now they are auctioning off that company's assets to recover their dues. On page 11 of the document, details of their exposure are given, which i am reproducing here..

On a loan given of Rs.3.35 cr, there was interest accrued of Rs.109 cr!!! How much of this has been accounted for as income in their books is not known, but the sheer size of one of their loans with respect to the company's overall size is mind boggling. If a large write-off like this one happens, the book-value itself would be massively hit and the stock would no longer look cheap.

Learnings from all of the above:

• The NBFC business is structurally a risky business, where a fine balance has to be maintained between growth and quality of assets. Few companies which sacrifice quality to show growth and adopt aggressive accounting do great for some time, until the bad quality loans catch up with them and then comes a huge huge write-off.
• It is extremely critical to understand what the business is. Merely going by its financials and book-value (which a lot of investors do) will not help. Book value is an accounting concept and can be bloated very easily. If one does not understand how the business is operated, better to not get into it at all. 
• It is also extremely critical to understand the laws governing the NBFCs. The capital and provisioning requirements of the RBI can change the overall picture of a company very fast and one needs to have a good grasp on the same.
• All in all, one needs to acknowledge that there are a lot of 'unknown, unknowable' aspects in the NBFC business. One should therefore not rely 100% on the numbers for taking investment decisions. It is much better to go with a proven management, which is fully transparent on all the aspects of the business and is in a business which one can understand and identify with properly. Good knowledge of accounting and ability to dissect the financial statements is also essential. If investing is risky, investing in NBFCs is, ummm, more risky!

Please do greater due diligence while investing in NBFCs. There are many aspects of the business which we cannot understand by studying the financials alone.

Cheers and happy investing!!!

Disclaimer(s)!!
1) All the posts on this blog, including this one, are for educational and discussion purposes only.
2) I post articles on individual stocks as well as varied topics like behavioural finance, industry analysis etc. None of the material posted should be regarded as advice to buy/sell any stock. My articles are not recommendations to buy/sell individual stocks, and should not be construed as any form of investment advice.
3) As a professional investor, I may have positions in stocks discussed.

4) PLEASE DO NOT TAKE BUY/SELL OR ANY INVESTMENT DECISION BASED ON ARTICLES YOU READ ON THE BLOG. These are only meant to provide information and initiate discussion. Final decision is and always should be, yours and only yours! 

Sah Petroleums - Bonus Issue

Hello to everybody after quite some time. I have not been able to update the blog in the recent past due to certain reasons, but I am back, with a whimper at least!

I had written on Sah Petro a couple of months ago. Please do go through the same to get some background on the company. Some of my fears like those regarding inter transfer of shares among promoters did not materialise, which is good! But the generous dividend they recently declared is not so good!

Sah Petro's promoter holding stands at about 87%, with Navis Capital (a PE fund) holding 62% and the erstwhile promoters holding 25%. In order to comply with SEBI's minimum public shareholding norms, the company recently announced the issue of bonus shares to non-promoters. In effect, the promoters will be diluting their own holding without getting any money for it. Now why exactly would a PE fund do this is an obvious question, but thats besides the point because, well, they are doing it!

An anonymous reader requested me to write an article on this situation, hence this post!

Whats going to happen?

Click to enlarge

In effect, if you buy 19 shares of the company at Rs.22 (total Rs.418), you get 23 shares extra. Free! So your holding cost for the total of 19+23=42 shares becomes Rs.418, translating into a per share cost of Rs.9.95. If we consider the taxation advantage we get due to bonus-stripping, our cost would be even lower. Current price is Rs.22, resulting in a fairly large difference. (All calculations are based on the current market price of Rs.22, which is a moving number. Since the stock has been shifted to T2T category, there will be some fall in the price probably).

What should one do?

Our holding cost of Rs.9.95 translates into an effective market cap of Rs.50 cr, on the expanded capital. So, in effect, the question to be asked is; would we be comfortable buying Sah Petro for Rs.50 cr? Well, as of March 2013, the company had Rs.60 cr cash on books, which makes it an interesting proposition indeed. (I do have some concerns here, which are detailed in the earlier post on Sah).

Is there an arbitrage opportunity?

The ex-date is about 1.5 to 2 months away. The arbitrage here is simple. Buy the shares before ex-date for Rs.22 (CMP) and sell them off on or after ex-date (for a higher price than Rs.9.95), resulting in a neat profit within a couple of months. Sounds simple, but we need to answer a zillion dollar question; how much will be price fall on and after the ex-date?!
If we do it mathematically, it would be something like this;

Thats a theoretical and mathematical calculation, but what will the market do? To get a clue, lets learn from history. Another company called Warren Tea also had recently issued bonus shares to comply with the minimum public holding norms. The price action in that stock was follows:

• Price before the bonus announcement (21/01/2013): Rs.316
• Price immediately after the bonus announcement (22/02/2013): Rs.373 (price exploded. In Sah Petro too, there was a 20% upper circuit on the day of the announcement)
• Price before ex-date (20/03/2013): Rs.372. (21/03/2013 was the ex-date)
• Ratio: 7 shares for every 10 held, to non-promoters.

If we do a similar mathematical calculation as above, the price on ex-date should have been Rs.334. But what actually happened was quite different.

• On ex-date (21/03/2013) itself, the stock closed on the lower circuit, at Rs.298. 
• After that the slide continued till Rs.215-220, where the stock became stable. (Incidentally, the cost, after considering bonus shares would have been Rs.218!!)
• In effect, if you were unlucky enough not to be able to sell immediately on or after ex-date due to the lower circuits, you would not have made much money on this as an arb trade.
• The sorry price chart of this whole drama is as follows:

Click to enlarge

The market did not price this mathematically, and therefore, we should not assume that the stock will settle at the mathematically calculated price. Traders and arb guys will sell wholesale post ex-date and it will drift a lot lower. Will it come all the way down to Rs.9.95 is something I cannot predict! However, if it settles at even Rs.12-13, an arbitrage opportunity does exist.

So, what can be done?

• This does look like a neat arb opportunity, but I would disregard the same from my mental calculations.
• The only question I would ask is; disregarding the special situation, fundamentally, am I comfortable buying Sah Petro at Rs.9.95 (which is a market cap of Rs.50 cr) and holding it? Are the valuations attractive enough at Rs.9.95? Finally that is the base level question, which gives us comfort in case things do not go as per plan. 
• If the answer to the above is yes, I would surely buy. Arbitrage, if it happens, would be most welcome and an added bonus. (No pun intended)

I feel this is an ok, if not a fabulous opportunity. What do you feel?

Cheers and happy bonus investing!!

Disclaimer(s)!!
1) All the posts on this blog, including this one, are for educational and discussion purposes only.
2) I post articles on individual stocks as well as varied topics like behavioural finance, industry analysis etc. None of the material posted should be regarded as advice to buy/sell any stock. My articles are not recommendations to buy/sell individual stocks, and should not be construed as any form of investment advice.
3) As a professional investor, I may have positions in stocks discussed.

4) PLEASE DO NOT TAKE BUY/SELL OR ANY INVESTMENT DECISION BASED ON ARTICLES YOU READ ON THE BLOG. These are only meant to provide information and initiate discussion. Final decision is and always should be, yours and only yours! 

Clariant Chemicals' sale of business - no clarity here!

Lets play a small word association game. I will write a word and you say the first thing that comes to your mind upon reading the word..


1. Stock market  (Most of you will probably say high returns, volatility, manipulation, satta, etc)

2. Government  (Most of you will probably say lethargic, corrupt, unreliable, etc)

3. Wife  (Dangerous territory..so no comments from my side)

4. MNC Management  (I am sure most of you will say high quality, clean, professional, fair, etc)


Well, such has been the record of managements of MNC subsidiaries that we generally associate them with everything goody goody. A lot of these companies have been prolific wealth creators for investors over the years. And hats off to these guys.

But, it is not necessary that all MNC managements would be great, fair, transparent and professional. This is not something we can take for granted. Such representativeness bias can be highly dangerous to investors.

Lets take the recent happenings in an MNC subsidiary, Clariant Chemicals India Ltd.

Whenever the name Clariant Chemicals is mentioned, I have always seen experienced investors going gaga about the company. And rightly so. The company has grown profitably and has distributed liberal dividends. So, when the global CEO said in December 2011 that they aim to reach Rs.4600 cr in India sales by 2016/17 (CY11 sales were just Rs.1000 cr), investors sat up and took notice. Of course a management of this quality would have a broad plan under which they were making such claims right? Sadly, that doesn't seem to be the case. Not only have the sales been flat in 2011 and 2012, but recently, the company has announced sale of a large chunk of the Indian business (as a result of sale of the global business unit). Now how will the sales grow to the levels promised is beyond my understanding!!

First, let us look at this deal. The global Textile Chem, Paper Specialties and Emulsions business of Clariant (including Clariant India's business unit) are being sold to SK Capital for about Rs.3000 cr. Since Clariant India's business unit will also be sold, Clariant India will get part of this money. Well, sounds ok.

What is not ok is the way Clariant India has treated minority shareholders regarding this deal.

On 26/03/2013, Clariant India put out an announcement saying that Clariant India will get Rs.209.15 cr out of the total pot for sale of the mentioned businesses. From where did this sacrosanct number come was not given. To be fair, what is being given to Clariant India seems to be a good deal. The global business was sold at about 0.45x sales, while the India business is being given 0.6x sales. We have no idea about the India business profitability though! I was waiting for the postal ballot for this to be published, which would give more details and justification for the deal and what Clariant India is receiving.

I thought that decent clarifications and info will be given when they give out the notice for the postal ballot on this issue. (Since this sale cannot be done without the approval of shareholders).

However, I was absolutely shocked when the postal ballot was put up on BSE. It seems like the management is totally taking the minority Indian shareholders for granted.

Consider this.. the postal ballot is basically to ask the shareholders whether they are ok with the sale of the mentioned businesses for Rs.209.15 cr.
Now, if you want to take a proper informed decision whether to say yes/no on this, you will need info about the business being sold, right?

Shockingly, the explanatory statement to the postal ballot simply states that "TPE business contributes about 35% to the net sales of the company and includes a manufacturing plant for textile products situated at Roha". Thats it!!!!!!!!! It gives absolutely no more details about anything!! So how would you say yes/no to this resolution for selling the business? They are just not giving you any info!!

• So basically, does the Board want us to blindly trust whatever they say as true and fair? 
• Nothing has been mentioned as to who did the valuation, how was the number arrived at?
• We do not know how much profitability will reduce, how much fixed assets will go out? In short, there is virtually no info given on how much would the remaining business be like?
• So what purpose will this postal ballot serve? How does the Board expect shareholders to take a decision, when they are just not providing any info to take the decision?!

The Board does not seem to take into consideration the minority shareholders' opinion for this. It seems as though they are saying 'look this is what we have decided, just agree to this'. Not the best in terms of corporate governance, eh? I would request all shareholders to oppose this resolution and spread the word to everyone you know to oppose it.
This is just not done.

If things like this continue, then the 'management premium' that the valuations of MNCs were getting will soon turn into 'management discount'!!

Cheers and happy desi investing!!

Disclaimer(s)!!
1) All the posts on this blog, including this one, are for educational and discussion purposes only.
2) I post articles on individual stocks as well as varied topics like behavioural finance, industry analysis etc. None of the material posted should be regarded as advice to buy/sell any stock. My articles are not recommendations to buy/sell individual stocks, and should not be construed as any form of investment advice.
3) As a professional investor, I may have positions in stocks discussed.

4) PLEASE DO NOT TAKE BUY/SELL OR ANY INVESTMENT DECISION BASED ON ARTICLES YOU READ ON THE BLOG. These are only meant to provide information and initiate discussion. Final decision is and always should be, yours and only yours! 

SEBI's new baby - rules for illiquid stocks

I am sure most of you must have heard of SEBI's new rules for trading in what it calls 'illiquid stocks' which came into effect from 8th April 2013. Some of you may not have heard of it because surprisingly, the media has just not highlighted the issue! Perhaps there is not much incentive for the media to get involved here! ;-) These rules hit more than 2100 hundred companies among the listed space, as can be seen in the annexure to this notice. SEBI has not explained exactly why this has been done, but supposedly it has been to control manipulation in smaller companies. In my very humble opinion, the new rules can be best described as insane! (To put it mildly).

Lets see what all this is about..

I think it all started when, in 2010, an academician decided to write a paper on how call auction system can be implemented to solve certain difficulties in the capital market. The paper can be downloaded here. The author is an extremely accomplished academician and a highly educated individual and is a member of SEBI's SMAC from January 2009. Her CV can be viewed here.
Well, it seems like SEBI really liked the paper and decided to take a cue from it and thus were born rules for call auctions in illiquid stocks. In it, firstly, SEBI defines what it means by 'illiquid stocks' by prescribing few quantitative criteria..


Criteria for illiquidity – For the purpose of this circular, a scrip, whether trading 
in normal market or trade for trade settlement, shall be classified as illiquid on 
a stock exchange if all the following conditions are met:
2.2.1. The average daily trading volume of a scrip in a quarter is less than 
10000;
2.2.2. The average daily number of trades is less than 50 in a quarter; 
2.2.3. The scrip is classified as illiquid at all exchanges where it is traded.


All those stocks which come under this will not be traded in the normal fashion. Instead, they will be traded through an auction mechanism which goes like this..


2.6. Number of auction sessions – Periodic call auction sessions of one hour each 
shall be conducted throughout the trading hours with the first session starting 
at 9:30am.
2.7. Session duration - The call auction session duration shall be one hour, of 
which 45 minutes shall be allowed for order entry, order modification and order 
cancellation, 8 minutes shall be for order matching and trade confirmation and 
remaining 7 minutes shall be a buffer period for closing the current session 
and facilitating the transition to next session. The session shall close randomly 
during last one minute of order entry between the 44th & 45th minute. Such 
random closure shall be system driven.
2.8. Un-matched orders- All un-matched orders remaining at the end of a call 
auction session shall be purged.


Fancy!!! But practically speaking, it has merely made investors like me miserable.

1. Investors now have to track and keep a watch on the market (stocks) the whole day. They are being encouraged to always keep tracking the market, which is a big negative as far as long term investing is concerned.
2. Every hour, a fresh order has to be placed. I think my broker would now hate me more than he hates his mother-in-law.
3. Since a lot of market participants are clueless as to what is all this, there has been extremely low participation and volume in the affected stocks. People must surely be feeling 'trapped' in certain stock, since virtually no exit is available.
4. Practically, this whole section of the listed space will now be closed to institutions, since I am sure they will have better things to do!!! Such lower participation does not help proper price discovery.
5. Also, will promoters take advantage of lower liquidity and panic selling to shore up their holding at lower prices?

I suppose that all this was done to curb manipulation. But setting up quantitative criteria for this purpose does not help. Manipulators can just ensure that these criteria are met and their stocks remain out of the net! But in the process, a lot of genuine companies with genuine shareholders will suffer.

I am no-one to preach on this. What is right/what is wrong is immaterial. Laws are laws and rules are rules. So what can be done about it?

1. I am hoping that as time passes, the market participants will get slowly used to the new method and some bit of sense will return to this section of the market. Otherwise, effectively, this section of the market is practically dead. The stocks covered by these rules for illiquid stocks have become more illiquid than they were earlier!!!
2. I tried viewing this as an opportunity. Probably some panic selling due to absence of liquidity may help us get some good stocks at lower prices. Somehow, that just hasnt happened till now. Lets see what the future holds.
3. I feel it is best to try and adapt to the new system, instead of cribbing or complaining about it. Have a good talk with your broker and ensure his cooperation without frustration in this matter. If instructed properly, the broker can handle the order placing and monitoring part, without much botheration to us.

In a nutshell, this is surely a huge negative for people who invest in small, unknown companies with a lot of value. If price discovery is hampered, returns just cannot be earned. I am keeping my fingers crossed and hoping that over a period of time, all the problems associated with this will be ironed out. After all, we must accept finite disappointment, but never lose infinite hope!! - Martin Luther King, Jr.

Cheers and happy illiquid investing!!

P.S. One may also like to read about this whole issue in Moneylife.

Disclaimer(s)!!
1) All the posts on this blog, including this one, are for educational and discussion purposes only.
2) I post articles on individual stocks as well as varied topics like behavioural finance, industry analysis etc. None of the material posted should be regarded as advice to buy/sell any stock. My articles are not recommendations to buy/sell individual stocks, and should not be construed as any form of investment advice.
3) As a professional investor, I may have positions in stocks discussed.

4) PLEASE DO NOT TAKE BUY/SELL OR ANY INVESTMENT DECISION BASED ON ARTICLES YOU READ ON THE BLOG. These are only meant to provide information and initiate discussion. Final decision is and always should be, yours and only yours! 

Sah Petroleums Ltd and the power of "brand"!

This post aims to serve two purposes; to look into Sah Petro as a company and to look at what branding can do to a product!
Lets start with the latter..

All of us would agree that branding works wonders for any product. Many-a-time, we buy a branded product just because its branded, with no idea about what real value addition the branding has done to the base product!
To give a related example, given a choice, what would you fill in your vehicle; Castrol oil or some unbranded oil? Ok, lets further assume that your mechanic is telling you that there is no technical difference in the two oils, but Castrol costs 60% more..then? I am sure that still, you would prefer Castrol. Why take the risk right? Now what do we know about the technical aspects of engine oil? How is Castrol better? Honestly, we dont. Still, we would prefer it since its 'branded'. And the brand is hammered on our heads all the time through clever, targeted advertising. So we do not mind paying up a bit extra for the branded goods.

Well, you will surely say that this was all general gyaan, which everyone knows. How can one prove it?

Please have a look at the following table; (these are FY11 numbers..FY12 onwards, companies do not give the quantitative info in the ARs. I agree the numbers are dated, but they serve the purpose).

Click to enlarge

1. Castrol's EBIDTA margin is much higher than the rest of the pack. Its % raw material consumption is much lower than others. 
2. Because Castrol is much larger in size, its advertisement spend is much much higher than others (although in % of sales terms, its the same as others). Higher advertising means you promote your brand more, which gets more customers to go for your brand, which makes you bigger, which enables you to have higher advertising budgets, which means you promote your brand more...and so on..Virtuous circle indeed!!! 
3. This business is kinda simple.. you buy 'base oil', refine it, pack it nicely and sell it out. A bit of differentiation here and there is possible. If you look at the last row in the table, all the players buy base oil at more or less the same price per litre. 
4. But, the second-last line where the difference lies. Just look at the average selling price per litre of all the players. (It is not 100% comparable, since Sah sells transformer oils and unbranded oil too, but the sales break-up is not available).
5. The bigger your brand is, the more you can claim it to be better than others and then you can have the audacity to price it significantly higher than others. In fact, simply because its priced higher, a lot of people will consider it to be better! :-) 
6. Castrol prices its product significantly higher than others since its products are branded. Sah does not have a great brand and it sells unbranded oil too, so its realisation is far lower, its margins are far lower, its profits are far lower. 
7. The only way to increase profitability in this business is to increase your selling price. And the only way to do that is to strengthen your brand.

So thats what branding can do to your business! Power of brand is truly immense!!


Now lets get back to Sah Petro as a company. Numbers-wise, it appears very interesting and dirt cheap. I would request you to please take a cursory look at the numbers before reading further. The numbers are available on any financial website, so I wont dwell much upon the same. Lets answer a few questions:

Is the business stable in terms of revenues and margins?
The margins would not be stable. These guys carry quite a lot of inventory. A dip in oil prices would lead to a lot of losses. Since they do not have a powerful brand, a lot of pricing power should not be expected. Also, it appears that they punt around a bit in forex transactions and dont disclose it properly too.

Is the management good?
Well, the company is majority owned by Navis Capital, a PE fund (62%). The erstwhile promoters, Sah family holds about 25%, making the total promoter holding of around 87%. The original promoters were not the best-in-class. They used to punt around a lot in the shares of the company. Navis Capital is a PE and will have their own agenda to pursue. I wouldn't give high marks to the management. Also, I cannot understand exactly who manages the company..Navis, who is the majority shareholder? Or the family, who occupies all the executive positions and has founded the company. From the overall scheme of things, I think that the Sah family still runs the company. Will there be conflicts between these two promoters? Maybe!!

What about the cash?
The company carries cash of around Rs.55 cr, against market cap of Rs.80 cr. That makes it very interesting valuations-wise and Graham-wise! The cash-flow is also ok ok..But the problem is, why have they kept this cash? They do not declare any material dividend. (FY11 dividend was 5 paise..FY12 dividend was 1 paisa!!). Probably, they might have conserved this to go for a big-bang advertising spree. Or to guard against any large loss which may happen due to oil price/forex movements. Whatever the case may be, will we see the cash in our hands as shareholders? Seems Doubtful.

Ultimately, wont the PE exit?
Yes, and that will trigger an open offer. But its too early for them to exit. They got into the company in 2008. Usually a PE cycle lasts for 5-7 years, so a likely exit is still at least 2-3 years away. Also, Navis is currently sitting on more than 50% losses on their investment in Sah Petro.

87% promoter holding = delisting!!
These days, the D word is quite a taboo. More and more people I know are swearing never to get into the delisting theme. Logically, one would say that its better for Navis to get Sah delisted, since selling it off later would be easier. The current valuation is not sky high, making delisting a doable and desirable option for the promoter. However, do take a look at their recent insider trading announcements. The promoters have started 'gifting' shares to 'immediate relatives'. Now will these relatives be also considered in the promoter/PAC category? Or will they be classified as public shareholders? From the announcements, it does look like they are in the promoter category, but we will have to wait for the March 2013 shareholding pattern to confirm this. If they are not classified in the promoter category, then bringing down the promoter holding to 75% wont be a big issue and the D word should not be uttered. Lets wait and watch!

Overall opinion
The stock is available cheap, not doubt. But there is a reason why its cheap. I cannot see any trigger which would lead to a rerating or discovery of 'value' in this one. A sudden good quarter would lead to the stock price zooming up, but I do not have the competency to visualise the same. The business is quite volatile, the management is not very comforting and the cash they are hoarding is not being distributed at all. To use cricketing terminology, the stock would be 'well-left' for me as of now. (Fair warning: it can be proven with empirical evidence that the stock price of whatever is 'well left' by me tends to zoom up!)

Do lemme know your thoughts on my thoughts...

Cheers and happy investing!!

Disclaimer(s)!!
1) All the posts on this blog, including this one, are for educational and discussion purposes only.
2) I post articles on individual stocks as well as varied topics like behavioural finance, industry analysis etc. None of the material posted should be regarded as advice to buy/sell any stock. My articles are not recommendations to buy/sell individual stocks, and should not be construed as any form of investment advice.
3) As a professional investor, I may have positions in stocks discussed.

4) PLEASE DO NOT TAKE BUY/SELL OR ANY INVESTMENT DECISION BASED ON ARTICLES YOU READ ON THE BLOG. These are only meant to provide information and initiate discussion. Final decision is and always should be, yours and only yours! 

Quarterly Update - Phillips Carbon and NBCC

Some developments have been taking place in both these companies I track. Hence, the update..

Phillips Carbon - Pain continues..

I had written about Phillips Carbon some time ago. After that, the December 2012 quarterly result has come in. The company reported a totally subdued performance (to be honest, I was expecting a much worse result). I had mentioned some risks in the earlier write-up, many of which have started playing out. Following points may be noted:

• CBFS (raw material) prices continue to be high. Over the last one year, they have really spiked up. Although the carbon black prices have also increased, it has not been enough to cover the raw material price increase. The situation is not expected to improve anytime soon and one can expect the next 2-3 quarters to remain subdued. The following table gives a bit of perspective on the matter.

Ratio: Roughly 56 kg of carbon black can be obtained from 100 kg of CBFS. Prices given are blended of domestic as well as foreign and hence cannot give us a 100% perfect view.. * indicates approximate price. 

• The company's power sales continue, but at lower realisations. Merchant power rates are also not exactly going through a great time.
• There is slowdown in the auto sector, which trickles down to a slowdown for the carbon black sector. The company is currently trying to develop its export sales, but given the slowdown in Europe and the China-angle, that seems quite difficult.
• There is an interesting comment in the Q3FY13 investor presentation. Post imposition of safeguard duty on Chinese carbon black, "imports in India from China have reduced, however, total imports in India continue to remain the same." :-) That's interesting!
• I believe the company will skip dividend this year/declare nominal dividend. So please dont look at the "5.3% dividend yield" based on last year's dividend, shown on most financial websites.
• Debt will prove a further drag on performance, specially in a cyclical downturn like the one at present.

All-in-all, nothing great is expected to happen here in the near term. In fact, if auto sales slow down further, the company's performance would nose-dive further. The imposition of safeguard duty does help, but the other risks will undo that help!!

NBCC - Comfort increases..

I had written about NBCC some time ago. My initial thought was to approach this more as a 2-3 quarter trade, since I had discomfort with certain risks which I had highlighted. Post the Q3FY13 result, the management held a concall, which gives me more comfort about the company. Following are some developments regarding NBCC..

• The current quarter result was not upto the mark due to certain one-time expenses charged during the quarter. Pension charges of Rs.20 cr and EDC, IDC charges of Rs.5 cr were charged during the quarter, due to which the profitability looks subdued.
• During the present FY, the company has purchased 3 additional land parcels (4 acres in Alwar, 4 acres in Lucknow and 2 acres in Ghaziabad) for a total of Rs.100 cr. 
• The company has not yet booked any revenues for the New Okhla project. The booking will happen in FY14. In Q4FY13, the management expects to book Rs.100 cr revenue and Rs.33 cr PAT for their Gurgaon projects.
• In the PMC business, in case of any delay or quality issues in the construction etc, it is the contractor who is penalised if need be. NBCC has no liability on itself. Its position stays protected. 
• For FY14, the management has guided PAT of Rs.225-250 cr.
• Company currently has Rs.1100 cr of cash, out of which Rs.300 cr is theirs and the rest are advances received. 
• As per norms, the company has to distribute minimum 20% of the profits as dividend. NBCC has been paying out roughly 25%. On the guided profit, that works out to roughly Rs.5 dividend for FY14. 
• Most importantly, when asked whether the PMC business may be opened up to non-government companies (in which case, NBCC's role will become irrelevant), the management seemed quite confident that under the existing structure, there is no visible threat of the same in the near future. This gives me quite some comfort.

Of course, I intend to hold the stock at least till the New Okhla real estate project's revenue booking happens. But this is one stock I would hold, but actively track. Any negative development on the business front or the capital allocation front would warrant a review of whether to continue holding the stock. 

Cheers and happy, safe investing!!

Disclaimer(s)!!
1) All the posts on this blog, including this one, are for educational and discussion purposes only.
2) I post articles on individual stocks as well as varied topics like behavioural finance, industry analysis etc. None of the material posted should be regarded as advice to buy/sell any stock. My articles are not recommendations to buy/sell individual stocks, and should not be construed as any form of investment advice.
3) As a professional investor, I may have positions in stocks discussed.

4) PLEASE DO NOT TAKE BUY/SELL OR ANY INVESTMENT DECISION BASED ON ARTICLES YOU READ ON THE BLOG. These are only meant to provide information and initiate discussion. Final decision is and always should be, yours and only yours! 

Goldstone Infratech Ltd. - Another open open-offer!!

The market is full of apparent opportunities, where the hidden risks are huge. A lot of times, the risks become clear only after we have incurred a loss in such opportunities!! (i.e. in hindsight)
Goldstone is another such apparent opportunity, where the risks need to be given due consideration. It is an opportunity which has arisen simply due to legal compulsions and is not backed by proper fundamentals and valuations.

Background

Goldstone Infratech Ltd (GIL) is a Secundarabad based company, manufacturing insulators of various types.  Absolutely no comments on the business/fundamentals of the company or the quality of management. (Enough said?!) Currently, the promoters of the company are fighting a case against SEBI in the Supreme Court. The subject matter of the case is an open offer made 4 years ago.


Facts of the case and time-line

A promoter company, Goldstone Exports Ltd (GEL) (renamed as Trinity Infraventures Ltd) used to hold 9.51% stake in the company.

January 25, 2007: GIL’s Board considered issue of 1.5 crore share warrants to GEL, convertible @ Rs.22/share. (Equity at that time consisted of 2.1 cr shares of Rs.4 each). This would take GEL’s stake to 47%, if converted.

February 24, 2007: GIL holds an EGM where shareholders approve the issue of warrants. GEL pays 10% of the amount for the warrants, which are convertible within 18 months.

October 28, 2008: GEL pays remaining amount to get the warrants converted into equity shares.

October 29, 2008: GIL’s Board allots the requisite 1.5 crore shares to GEL. Takeover Code (old) is triggered since GEL’s stake increases from 9.51% to 47%.

November 4, 2008: GEL makes public announcement and comes out with open offer for 20% shares @ Rs.23/share. Price is calculated as per takeover code.

November 17, 2008: GEL files draft letter of offer with SEBI through their merchant banker Saffron Capital Advisors.

SEBI se punga!

• While calculating the open offer price, GEL considered January 25, 2007 as the relevant date. This was the date on which the Board had authorised the issue of warrants, hence, open offer price as per GEL's calculation was Rs.23/-.
• SEBI objected to this, saying that the relevant date for open offer price calculation should be taken as October 29, 2008. This was the date on which the Board authorised the issue of shares. Open offer price as per SEBI calculation came to Rs.43/-.
• GEL felt aggrieved and filed an appeal against SEBI's contention with the Securities Appellate Tribunal. (SAT appeal no.9 of 2009). SAT upheld SEBI's contention in their decision.
• GEL continued to feel aggrieved and appealed to the Supreme Court against SAT's order. (Civil appeal no.7666 of 2009)
• The case went in a tareeq-pe-tareeq mode from then on, until recently. In the hearing which took place on August 13, 2012, the case has been listed for final disposal. Although that hearing has not yet happened, whenever it does happen, the final decision of the case will be very near.

The opportunity (?)

• If the result of the case is in the promoter's favour, open offer will come at Rs.23. 
• If it is in SEBI's favour, open offer will come at Rs.43 (plus interest). In the meanwhile, the stock price has slid to Rs. 10.5/-. 
• Promoters hold 50.75% and they have to make an open offer for 20% of the public holding of 49.25%. Interesting!

The risks

Event risk: There is virtually no event risk. The promoter has bought the shares and increased his stake, hence open offer has to happen. The promoters have also given a bank guarantee of Rs.7.5 cr. (Total equity capital of the company is 3.6 cr equity shares of Rs.4 FV).

Time risk: Now this is the most important and very material risk. The whole opportunity is hinged on a court case. We all know that court cases in India can live longer than characters of Saas Bhi Kabhi Bahu Thi. There is absolutely no logical call one can take on when will the case be decided. 1 year more? 2 years more? Dunno! However, in this case, at least an announcement for final hearing has come. So its like one can see the destination, but one still has no idea how far it is!

Shareholder risk: 2 pure financial investors hold about 10% of the company. Now if these big guys start selling for whatever reason, the price will take a massive hit. Since I am unable to value the company, that would result in a really uncomfortable position.


All-in-all, quite an interesting case, with a lot of interesting risks! Before taking any buy/sell call on the stock, please give proper thought to 2 things; your risk appetite and what kind of portfolio allocation should you give to this, if any! Do not rush to buy it. If you buy without much thought, later there will be similar rush to sell without much thought! And when you buy as well as sell without much thought, the end result is usually not very pretty! :-)


Cheers and happy investing!!!

Disclaimer(s)!!
1) All the posts on this blog, including this one, are for educational and discussion purposes only.
2) I post articles on individual stocks as well as varied topics like behavioural finance, industry analysis etc. None of the material posted should be regarded as advice to buy/sell any stock. My articles are not recommendations to buy/sell individual stocks, and should not be construed as any form of investment advice.
3) As a professional investor, I may have positions in stocks discussed.

4) PLEASE DO NOT TAKE BUY/SELL OR ANY INVESTMENT DECISION BASED ON ARTICLES YOU READ ON THE BLOG. These are only meant to provide information and initiate discussion. Final decision is and always should be, yours and only yours! 

Deccan Chronicle results - Boy O Boy!!

I got an early morning call today from a very amused Ninad asking me to go online ASAP and check out Deccan Chronicle's quarter and year-end results for September 2012. Now everybody knows that there have been a lot of problems the company is facing and the whole situation has raised a lot of unanswered questions too. But to be honest, I was totally unprepared for what I saw in the results. The P&L is screwed, but the balance sheet is royally screwed. Check out the result.
Seeing the balance sheet took me back to the days when I was an 11th standard commerce student. Those days, while solving accounts sums in class, we used to do virtually anything possible so that the balance sheet tallies. :-) Something similar seems to be the case with Deccan Chronicle's current results!
The company has extended its accounting year from March to September. So the current year end results are for 18 months vis-a-vis the 12 month period for March 2011 and are hence not comparable. Let us see what all the company has managed to achieve during these 18 months..

• Revenues for the 18 month period are down by Rs.190 cr as compared to the previous 12 month period, from Rs.976 cr to Rs.786 cr. Well thats no big deal, it happens.
• What is a big deal is that inspite of revenues being down Rs.190 cr, the total expenses are up by a whopping Rs.500 cr! This has been led by a huge increase in the raw materials consumed as well as 'other expenses'. Hmm!
• Finance costs are up from Rs.59 cr to Rs.733 cr!! The company has reported a whopping Rs.1040 cr loss during the period. 
• Public shareholding is up from 36% to 61%, inspite of a buyback being done during this period. 

The balance sheet is something which is beyond funny!

• The entire reserves of the company have been eroded due to the loss and the net worth of the company (and the book value) has come down from Rs.1280 cr to Rs.10 cr! So much for investing on the basis of book value per share!
• Total borrowings have gone up from Rs.713 cr to Rs.3900 cr!! Cash on the balance sheet has disappeared, from Rs.704 cr to Rs.16 cr.
• Inventories are down by Rs.110 cr and debtors are down by Rs.120 cr.
• So basically, current assets have gone down, freeing up cash, lot of money has been borrowed and cash itself is down. Total cash generation this way is around Rs.4100 cr. So where has all this money raised gone??
• Well, fixed assets are up, from Rs.926 cr to Rs.3870 cr. Ahhh so thats where the money has gone. I do wonder what fixed assets they might have bought though.
• Point No.6 to the notes says that liabilities includes Rs.3987 cr due to lenders as a result of restructuring of operations and recasting of financial statements! Maaan thats one biggg recast!! 

Like my 11th standard teacher used to say.. beta, your balance sheet has tallied, but it makes no sense!!

All this raises the following questions in my mind, a lot of which have no answers!

• Has there been an accounting fraud in the company? Well it does seem so, since the company has talked about 'recasting' its financial statements.
• Well, so why has there been no admission of guilt, no senti letter from the promoter etc, like in Satyam's case?? Why has no legal action been taken against anybody? Who is responsible?
• What was the rating agency doing? They could not locate any problem with the company for quite some time until recently, when it was already too late. Here is an article on the same. So whats the use of a credit rating anyway? 
• What were the banks doing? Even in the March 2012 result, finance costs are low. Maybe the reported debts were also low. Now suddenly it materialises that a lot of banks have lent them a lot of money!
• What were we doing?! Could investors have known about this? I never tracked or held this stock, but I went through the previous years' annual reports after the problems surfaced and to be honest, at least I could not find any problem with them. If it was a well managed accounting fraud, there is no way to find it out!

Lessons learnt:

• Primary research is extremely important. Its not that it was an unknown fact that DC was fudging numbers, as this article says. One needs to get out of the excel sheet and annual report to get a better understanding of the business.
• Our mind is tuned to availability bias. So everytime some company faces problems like this, we immediately remember the huge returns which risk-takers earned in a Satyam or a Wockhardt-like distressed case. We remember this since this is what gets talked about around us and is available to our brain all the time. No one talks about the huge number of cases on the other side like an Asian Electronics or a Pyramid Siamira, in which investors lost their shirts (and I guess, other assorted items of clothing)
• Unless the entire extent and quantum of problem is known, it does not make sense to buy a falling star. People did talk about buying DC when it came down from Rs.100 to Rs.20, saying aur kitna neeche jayega..well its at Rs.5 today and falling. Better to err on the side of being cautious and suffer opportunity losses in such cases. 

Cheers and happy, safe investing!!!

Disclaimer(s)!!
1) All the posts on this blog, including this one, are for educational and discussion purposes only.
2) I post articles on individual stocks as well as varied topics like behavioural finance, industry analysis etc. None of the material posted should be regarded as advice to buy/sell any stock. My articles are not recommendations to buy/sell individual stocks, and should not be construed as any form of investment advice.
3) As a professional investor, I may have positions in stocks discussed.

4) PLEASE DO NOT TAKE BUY/SELL OR ANY INVESTMENT DECISION BASED ON ARTICLES YOU READ ON THE BLOG. These are only meant to provide information and initiate discussion. Final decision is and always should be, yours and only yours!