Lets get rich- prove ourselves

Friends,
For the weekend I am bringing to you my next stock. As I had written I would write about micro-cap stock. The stock is Karnataka Bank. Karnataka Bank is from the home state of Vijay Mallya and surprisingly it figures nowhere in the bank and Vijay Mallya controversy.
Karnataka Bank is small sized bank with a market cap of less than 2k crores with a total deposit base of around 50k crores and advances of almost 33k crores. Hence the bank is available really cheap. The bank trades at around 0.6 times P/BV on forward earnings which is very reasonable. The asset quality of the bank is better than most banks with gross NPAs at 3.5% and net NPAs at 2.4 % which is very satisfactory.
Being an old generation private sector bank Karnataka Bank has undertaken an effort to transform itself into a modern digital bank by 2020 which should yield good results. Also the CAR of the bank is at 11.7 % which inspires confidence that the bank is well funded to meet future growth requirements. A concern with the bank is the CASA ratio of the bank that could be improved from around 25%. The bank is also targeting improvement in NIMs and the RBI rate cut will help the bank to improve margins.
Being a promoter less bank with good fundamentals and good regional presence Karnataka Bank is also a take over candidate.
With cheap valuations, good deposit base and stable asset quality Karnataka Bank is very attractively valued at current valuations and can be good investment bet.

After a micro-cap I will return with large cap. I hope I am being of help to small / retail investors with unbiased information. However I do request you to analyze this information and decide before investing. I have made disclosures which are applicable.

I have another thread where I speak on approaching equity investing from a retail investors point of view.

https://rakesh-jhunjhunwala.in/forum/threads/investing-in-stock-markets.2021/

 

Friends,

As promised I have decided to share my next stock pick. I could have waited but decided that it is better to end the suspense and since my contrarian (value based ) calls have been successful I might be right in timing the post at this juncture. My next stock pick is a company which has been in the news for all the wrong reasons Lupin. Incidentally Lupin is one of RJ's favorite stock.

Lupin was formed by Desh Bandhu Gupta an asst. professor at BITS Pilani. Lupin came into prominence when it started manufacturing TB drugs. However Lupin was one of the few companies that also understood the prominence of US market and to receive early approvals from USFDA for exporting medicines to the US. Lupin's catapult to the big league came when it started to focus on generic medicines in the US, becoming one of the leading generic pharma companies in the country. Today Lupin's revenues are t a$ 2 billion.

However the future is what holds the key. Lupin has set a goal of $ 5 billion revenues by 2018. And in the last 2 years the company has acquired 6 companies across the world including Europe, Latin America and Russia. But the big punch came with the acquisition in US. It recently acquired Gavis Pharma, a US based generic pharma manufacturing company for $880 million. This the largest acquisition by a Indian Pharma Company in US and will give Lupin the access to its first manufacturing site in US and many ANDA filings. Lupin now has a very big product pipeline of 166 ANDAs filings with the USFDA, the fifth largest by number.

However recently the news of USFDA inspection and observations has raised concerns in the market. Indian pharma companies have come under the increasing glare of USFDA and there have been import bans on manufacturing facilities of several companies. The Goa facility where the inspection was made is a key facility for supply to US market and any adverse ruling can have a significant impact. The company has maintained that the observations are not serious and relate to standard operating procedures.
In the past Lupin has had a good track record of adhering to USFDA norms and so far no serious violations have been found . The exact observations are not known. However the past record makes me hopeful that an import ban will not be enforced.

I have presented the strengths and weaknesses of the company. Currently Lupin trades at around 25 times forward earnings but given the acquisitions the company has made, its thrust on R&D to develop new filings, and its global diversification into under penetrated markets of Latin America, Russia and Europe Lupin is one stock worth adding to the "long term portfolio" given the fact it is trading at 52 weeks low. A company of this potential seems rare in the Indian equity market.

 

I wanted to add that all stocks I have suggested maybe personally held by me and my positions can change anytime based on future events. I am not registered with SEBI and all the information I present here is collected for information existing in public domain so I cannot vouch for the authenticity of that information. Please do your own analysis before buying any stock I have written about.

 

Lupin has cracked 10% following unverified reports that USFDA has issued a form 483 for its Mandideep unit in MP. I do not vouch for the accuracy of this information. Also a form 483 DOES NOT MEAN a import alert. However it may lead to an import alert.
If you are holding the stock in your portfolio make sure you review all information before making any decision.

 

https://www.business-standard.com/article/markets/hitting-the-us-fda-wall-116032801176_1.html

FY17 could be a better year for pharma majors

https://www.business-standard.com/a...er-year-for-pharma-majors-116032400307_1.html

 

Thank you New Investor,
This information is very relevant and will help everybody following this thread. Thanks. Appreciated.

 

As we end this financial year and head into the next year and earnings season I am reviewing the stocks performance so far.

Of course two months is not enough time for analyzing any stock but it gives me satisfaction that the stocks recommended have done well.

Exide industries - Continue Hold. Good operational performance expected.

SBI - Continue Hold. SBI will gain from RBI's rule to allow real estate as Tier I capital. SBI has 20k crores of real estate and the RBI rule will add 9k crores to its Tier Capital. This is big ease in terms of raising capital from the market to meed Basel Norms. Also the tackling of NPA issue seems to be bearing some fruits going by the developments in Kingfisher, JP, and Essar Steel Case. Lets hope ultimately it does add to the bottomline. Any up gradation or settlement of NPA accounts will be "double positive" for the profits of the banks. First they will recover money and secondly they will reduce provisions.

ICICI Bank - I would recommend a sell. If you have a long term view (> 1 year) I would suggest other stocks. I feel SBI offers better value at this point. Also ICICI Bank will continue to disappoint on the operational front. Unless there is a change or improvement in management quality there is no way ICICI Bank will outperform its peers. I fear ICICI Bank may slip further as its competitors continue with their expansion.

The management of ICICI Bank really needs to pull up its socks. Having a good brand recall and geographical presence is not good enough. Banking is a service industry where the quality of service is important.The fate of PSBs is well known to us. But PSBs have the govt. to back them with pretty deep pockets. ICICI Bank cannot afford this luxury. Anyways an exit is what I would recommend especially if you have a view of more than a year.

PFC - Continue hold. The bottlenecks in the power sector are getting reduced. Also the UDAY scheme is getting implemented well.

GE Shipping - Continue Hold. Another good quarter expected.

Selan Exploration - Continue Hold. Valautions still inexpensive. Crude prices are off their lows.

Cyient- Valuations cheap. Stock has appreciated.

NMDC - A dividend of 10% and good capital appreciation since recommendation. Iron ore prices have also increased indicating positives intact.

Tata Global - Hold. The Tata group is showing earnest efforts to restructure its businesses.

City Union Bank - Hold. Positives intact.

Tech Mahindra - Inexpensive stock with strong management. Continue hold. Further upside expected.

Ramco Cements - The 5, 10, 15 year stock. Continued strength displayed. Might be the multibagger.

Orient Cement - Positives intact. Cement prices and demand on upside. Hold.

Prestige Estates Projects - Exit. Though positives at company level are intact weakening real estate demand and new regulatory bill are causes of concern. Better to deploy capital elsewhere given the risks.

BHEL- Positives intact. Hold but patience maybe required.

Engineers India - Niche stock. Inexpensive valuations. Hold

Karnataka Bank - Hold. Value stock with good fundamentals.

Lupin - Watch. The USFDA sword is hanging though management commentary is reassuring. Stock is expensive but pharma sector has commanded a premium and Lupin has been at top of the league. Consolidated numbers following the spate of acquisitions and management guidance will be key in the following results

I am satisfied to see that most of stocks have shown good appreciation since I recommended. Quite a few have given generous dividends as well. Hence I feel that if retail investors are judicious they can make money and earn handsome gains in the market regardless of what anybody says.

I will continue to add more stocks to the list. Please do read the disclaimers.

 

So RBI now allows Real Estate as Tier 1 capital is it? Since when is this the case? does this now give banks an "additional" option to boost / increase their capital is it? What happens if banks ever sell their real estate? Their capital will come down and vice versa too?

Does SBI have 20k cr of Real Estate? Is this authentic info? And 9k automatically gets added to its Capital is it?

 

The news of relaxation is correct. I think SBI should have much more than 20k of real estate given its legacy, size, and reach. I went by media reports. Including real estate as Tier I capital is not a exactly prudent move going by accounting principles but as I wrote this will ease the pressure on banks to raise capital in these hard times. Anyways for SBI raising capital is not an issue but it helps raise the book value.
Well banks may sell assets but they have to be included at discounted value (45% of market) so a sale here and there may not make a huge difference. At the end it just eases capital raising requirements. Gives some breathing space to smaller banks who may not get capital from the govt. but all PSBs will benefit. This is my understanding.

 

So its basis just press reports ? Not necessarily authentic then.

Why do you say including real estate as Tier 1 capital not a prudent move?

I agree selling a few properties here and there doesnt mean much. But what about the vice versa. Imagine buying 500crs of real estate - 45% gets included as capital - no equity dilution or interest on any bond issuance.

 

All the information is in public domain. I made all disclaimers. But yes, I cannot authenticate it.

Capital held in liquid form and capital held in fixed assets are not comparable because fixed assets may not readily be converted to cash or liquid assets (that is probably why RBI allows it with a 55% discount to market value)

Purchase of real estate will require banks to spend money. It may come out of reserves or profits. Given low profits I doubt banks would want to spend money on real estate purchases in these times. Also only 45% of the real estate would qualify as reserve capital as compared to 100% in case of bond issuance. The bank's management would be in better position to compare the 2 scenarios.

 

There is a lot of information in the public domain. So one must be careful in using it but more important is correctly interpreting and presenting it. Afterall your posts are meant for those who are either not lucky or not good stock pickers and retail investors.

Wont drag this part any longer.

You state that Real estate (a type of fixed asset) is now allowed as Tier 1 capital. Capital you know appears on the liability side and real estate on the asset side. Wonder how RBI can thus include it as Tier 1. Common sense triggers something doesnt gel. Has our Central Bank and Rajan ( i recollect some who think he is probably the worst governor) goofed?

So what has RBI done?

(1)Well It has said that 'REVALUATION RESERVES' related to the banks property holding can be now included as Tier 1 capital applying a 55% discount. So if revaluation reserve is 100, only 45cr is added to Tier 1. Its thus the revaluation reserve on and not the underlying real asset that now qualifies as Tier 1 capital.

(2) is this something new? Yes since such revaluation reserves were earlier allowed to be Part of Tier II capital. So predominantly just an internal reclass amongst the capital ( for capital adequacy calculation) constituent. May not increase the total qualifying capital if a bank already carries it real eastate at revalued amounts. But improves the quality of the capital ( a requirement under Basel 3 ) since banks can now include the qualifying revaluation reserve as Tier 1 iso earlier Tier 2.

For those who are wondering what revaluation reserves are....

Well with the prevailing expertise in here I suppose all in here know that - financial statements are usually prepared on historical cost basis. So as an illustration if SBI bought its HQ for Rs 1 cr in 1956, it would appear at Rs 1 cr under Fixed Assets on the balancesheet along with accumalated depreciation. Now if this HQ has a current Mkt Value of 100crs, what companies can do is revalue their fixed asset - thus restatie their fixed asset to 100crs ( increase of 99crs) and as a contra create a revaluation reserve of 99crs. ( so an additional item amongst liabilities). 45% of this has qualified as capital for capital adequacy ratio (Tier 2) but now will qualify as Tier 1. So RBI hasnt given banks a new source of raising capital. The option to revalue their assets has always existed and its inclusion as capital too (45%)

I hope you are able able to understand the difference between reality and your interpretation.


20k of real estate : public domain presumably what SBI chairperson mentioned in response to this measure.

Coincidentally if one Look up the SBI balancesheet. It shows FIXED ASSETS of ~20k crores too but only 3-4k crs is Premises ( at historical cost i think for i couldnt see any revaluation reserves under 'Reserves'.). So maybe you need to dig a bit more to be sure if she actually made a mistake or if the market value of their premises is indeed 20k cr ? Getting a market value of their properties probably wouldnt be possible so quickly. There are pretty strigent norms to be followed before getting a fair market value which will pass the statutory auditors.

And yes why discount of 55%? well the official reasoning is as follows

The extent to which the revaluation reserves can be relied upon as a cushion for unexpected losses depends mainly upon the level of certainty that can be placed on estimates of the market value of the relevant assets, the subsequent deterioration in values under difficult market conditions or in a forced sale, potential for actual liquidation of those values, tax consequences of revaluation, etc. Therefore, it would be prudent to consider revaluation reserves at a discount of 55 % when determining their value for inclusion in Tier II Capital ( now Tier 1)

Not another instance of unnecessary arguement or a set of impertinent questions which drag the focus away from not just the underlying stock but banking stocks in general I hope.

 

Also on your SBI post whats still not clear to me atleast is

1- why is Including real estate as Tier I capital is not a exactly prudent move going by accounting principles? And

2- how do Upgrade or recovery of NPA provide 'double Positive" to 'profits' . Logic prescribes double positive also implies double wammy to profits. But a loan of Rs 100 going bad does not cause a loss 200. So if banks recover or upgrade this bad loan (already provided for or written off) where does the double positive to profits come from?

 

Thank you for your detailed analysis. So I understand that when I wrote RBI has relaxed norms to allow real estate as Tier I capital and that it will help ease capital raising requirements for banks I was wrong?

Also including real estate as capital in the balance sheet of banks is more preferred to actual cash or money?

I am sorry then I have terribly let investors astray and must correct my errors

 

When a loan is classified as NPA banks lose that amount. It means it goes out of their deposits or borrowed money. They have to repay their creditors and lose interest from their borrowers. Hence they have to provide the money from their profits to repay their creditors which is called as provisioning. When the NPA is recovered they recover their loans and it also reduces their provisioning requirements as NPAs go down. Hence it is a double benefit as provisioning goes down.

 

Underplaying the importance of the change would tantamount to a massive mistake. First what RBI has done isnt unique. It has just aligned to Basel recommendations. Earlier, like always it remained ultra conservative in not allowing such revaluation reserves as CET1 within Tier 1 capital. Now it allows this.

I assume you are aware that Indian Banks are short of capital to meet Basel3 norms by 2019 ( if i am not mistaken) - because of higher total ,Tier 1 and CET1 ratio to be maintained thus requiring expensive recapitalisation. Whilst revaluation reserves may not help meet the higher total ratio ( unless SBI is indeed sitting tight with premises whose market value is higher than their costs by 20k), it significantly helps bank in meeting their sub-limits ie CET1 and Tier 1. CET is Common Equity or in other words share capital. So RBI has in effect allowed banks to use reval reserves to make up CET1 shortfalls which otherwise they would have to but make up by share issuance. This is the big help RBI has provided to both banks and government, thus easing an already grim situation which got further aggravated by the NPA explosion.

 

Thank you but you have not answered my question. You wrote "There is a lot of information in the public domain. So one must be careful in using it but more important is correctly interpreting and presenting it. Afterall your posts are meant for those who are either not lucky or not good stock pickers and retail investors."

Was I careless in using the information and did I misinterpret ? Did I do a disservice to the retail investors ? Going by your last statement it seems the presentation of the info and interpretation was fairly accurate. And in your previous statement it appeared I made a terrible misrepresentation and misinterpretation. Is it self-contradictory and have I erred once again

 

Provisions are raised against the principal amount of the loans gone bad. A provision is raised by debiting the profit and loss account. Interest on non performing loans (NPL)are required to be reserved ie not recognised as interest income. The loan has to be funded on which interes has to be paid and has to be recognised to pnl.

So any upgrade or recovery of a NPL results in (i) reversing or releasing the provision by credit back the profit and loss account and (ii) recognising any interest reserved as interest income.

Recovering their loans goes to add their cash balances and not result in profits.

 

Please read carefully. I wrote "double positive" for exactly the reasons you mentioned in more technical details and what I had already explained in a simpler language. Also recovering NPAs does impact profits because provisioning comes out of profits

 

Honestly a combination of both. even if an article apears in leading financial publications never forget that the journalist behind the article most probably has a degree in journalism and not banking ( as an example). Many articles written on this relaxation are riddled with errors.

So talk of RBI also now allowing Deferred Tax Assets arising from only temporary differences as Tier 1 captial ( upto 10%). Little do they know that deferred tax assets or liabilities arise on temporary differences only. Permanent differences do not give rise to DTA's or DTL's

Disservice to retail investors : not for me to judge. But do see the personal message in your inbox.