In an interview to CNBC TV-18, Vinay Khattar of Edelweiss has given elaborate reasoning on why he is bullish about his favourite stocks.
KNR Constructions – big beneficiary of NHAI contracts, very good quality balance sheet, very high quality execution track record:
KNR Construction is in the road EPC business & executes road projects. Road sector has two models, one, EPC where you just execute and take your money and go off. Second is you bid for a particular road project, you build it at your own cost and then you transfer it back and then you put a toll on it. KNR has been into the EPC side of the business which is relatively asset light. You don’t have to put too much of capital into it.
Clean Balance Sheet:
Secondly because of this reason its debt has been pretty low on the balance sheet and balance sheet has stayed much healthier as compared to lot of its peer group where the debt has been very high and balance sheet is stretched.
Large contacts expected:
If you were to look at what has happened in last two months NHAI has put almost 5000 kilometres worth of tenders out which are likely to be completed over next 3-4 months. Now because of these NHAI tenders almost 3000 kilometers of EPC projects are going to be out where KNR could be a very big beneficiary. So, a very good quality balance sheet, very high quality execution track record, large number of NHAI tenders coming out all are going to be significantly positive for KNR. Our sense is that this stock could trade much higher over next 2-3 years.
There could be some potential from the Irrigation business as the government focuses on the rural parts of the country and irrigation is one of the key areas where the government would want to focus on. Irrigation could be a potential business for lot of companies including for KNRs business. However right now the overall influence and the heavyweight impact the company will see is on the EPC side of the business and that is where we are betting on.
Management will stick to core competency:
The risk that the management will diversify is one that you carry in a lot of midcaps and smallcaps. If you find that management ends up diversifying too much or they go into non-contiguous area from their current businesses or fitter away their meagre resources you could find that the companies resources as well as balance sheet gets stretched and you may not necessarily get the returns. Having said that in case of KNR we find that the immediate triggers would limit KNR to the EPC contracts on the road side and hopefully KNR will stick to more on the road sector and continue to do well from here.
The stock is up but these are structural buy’s. So, if you are going to be holding onto KNR for 2-3 years you would get significant uptick. If you were to just look at specifically the valuation it is trading at almost 10 times one year forward which is not necessarily cheap. However you don’t have too much of value available in the midcap space across sectors now given the kind of rally that you have seen in 6-9 months.
Not a value pick but a compounding story:
KNR would fall into the second basket of a very good compounding stories and that is what we are betting on.
Repco Home Finance
The space is extremely interesting and that’s what excites us. Repco is into small ticket home loan finance. There is a part of the book which is devoted to loan against property which is almost about 15-20 percent of their overall book size.
Small ticket home loans:
Repco provides small ticket homes in the region of Rs 10-12 lakh which is the average ticket size in tier II and tier III towns. A significant number of borrowers are in the non-salaried segment and that is where we feel Repco differentiates against the competition. It is relatively easy to lend to a salaried individual but the moment you go to a non-salaried individual, a small business owner there is a higher degree of risk, that means your loan or your EMIs will not get paid back in time. That’s what Repco has mastered itself at.
If you actually look at the amount of write offs, the write offs that Repco has done over its history are extremely meager. That means you have ended up giving loans to people who may not have been in a position to pay you in a timely manner but the actual default rates have been very low which shows off in Repco’s numbers. So, you have a RoE of almost 2.5 percent which leads to a higher return on equity.
Good capital adequacy:
If you were to look at just the numbers part of it, it is quite comfortably placed in terms of capital. Capital adequacy ratio is more than 20 percent. Company could continue to grow at 25-30 percent its book size over the coming years and that’s what is very interesting in this company.
Valuations – a great compounding story:
It is trading at about 4.5 times book and is in a riskier business than lending to pure salaried class. So, at 4.5 times, there is not too much of value around there. I don’t think it is very expensive but neither cheap. It a great compounding story from this point forward.
If you look at the last quarters numbers topline has grown by almost 30 percent odd. Disbursements have grown by about 27 percent odd. If you look at the overall space you are moving lower on the interest rates, it is anytime possible that the RBI would cut rates, which is going to be positive for the entire rate sensitive sector including Repco.
NAMO 100 cities plan:
The more we talk about smaller cities and urban development and 100 smart cities agenda of Modi government, players like Repco are going to be in a very sweet spot to have a higher disbursal growth rate and that’s what attracts us.
Price Target – A structural story meant for the long-term:
Though the price target of Rs 595 is 10 percent away, this will be revised because the growth in these housing finance companies has been mind boggling in stock prices. This has been our buy call from the time it got listed at about Rs 170 couple of years ago. The price targets would keep on getting revised upwards. These are structural stories that we want to advice our clients to retain irrespective of the price targets till the time the valuations remain in a limited comfort zone.
These are structural stories that you would want to hold on to and play on as the economy grows and the sector grows.
New NBFC norms point Repco in a sweet spot:
It is a phased application of the NBFC norms. So, in terms of standard asset provisioning which has moved up from 0.25 to 0.40 certain restrictions in terms of tier I capital and so on, a company like Repco is in a very sweet spot because it is much ahead of the curve. Given the easy timeline that the RBI has provided we don’t expect too much of an impact going forward.
Ratnamani Metals and Tubes – Ideal stock to play the economic cycle pickup:
Ratnamani is a pipe manufacturing company. Like lot of its peers it is into carbon steel pipes which is a more commoditised kind of a business. These pipes are used everywhere.
The second part of the business which is relatively smaller is the stainless steel pipe business. Stainless steel pipe business is a much more robust business. Here the company makes better margins. These pipes are used in very difficult environment, they are used in nuclear power plants, they are used in refineries, they are used in thermal power plants. So, these pipes are subject to very high degree of acidic environment, temperatures and so on and so forth. Hence the quality of the product here has to be very good.
Ratnamani competes with major international players both in India and abroad and that’s what makes this company’s product proposition pretty strong. It is already registered with the major guys in the world. International opportunity on the stainless steel pipe could be very interesting for this company and that is one of the reasons why we picked it up.
The second reason what makes Ratnamani attractive is that on the carbon steel pipe business because of the huge amount of headwinds that the economy was facing over last 2 or 3 years you saw utilisations were pretty low. Ratnamani had tried to stick to minimum margin wherever it could but it did not go and over bid just to use its assets. Now with the tailwinds coming in you are having a situation where the operating leverage is going to pick up, this will cause profits to jump up in a very significant manner which you have seen happening in this quarter. So, that is the bet on Ratnamani.
High Exports is an opportunity & a threat:
The fact that at least a quarter of its business comes from exports is an opportunity and also a bit of threat given where the global demand is but if you look at the over all penetration which Ratnamani has achieved in the global market and the cost advantage it has over its peers we believe that Ratnamani will be able to face those headwinds even if they emerge in a appreciable manner.
Overall if you look at the refinery capex which could be picking up in US though the Europe continues to remain very much down and the petchem capex which could be picking up in certain other parts of the world it is possible that Ratnamani would be able to face those headwinds in an amicable manner.
These are structural bets. At this particular point in time you are just at the beginning of the economic cycle pickup happening in India. You won’t really want to keep this stock in your portfolio with a price target in mind. You would rather just play the economic cycle as it picks up over the next 2-4 years and just hold on to this one till the time the structural story continues.