Indian equities: Are fears and panic around PSUs overblown? Sandip Sabharwal answers

“The situation was never as good in the Indian aviation market as it is today because there are effectively only two large players, Vistara Air India combined and InterGlobe Aviation,” says Sandip Sabharwal, asksandipsabharwal.com.

Let us get stock specific then and get in your take on the entire chemical sector, brokerages are of the view that it is still not out of the woods, in fact they have cut the target price of most of the companies like SRF, Tata Chemicals, Navin Fluorine. What is your outlook?
On the chemical side there is still huge overcapacity, largely prices are under pressure, so obviously when prices fall a lot there is some upswing but given the huge oversupply position and the demand supply mismatch and the fact that many of these companies have added significant capacity over the last one or two years and are in the process of adding more capacity, so what this will do is that this will create diseconomies of scale so because of huge capex and low prices and as the plants become commercialised you will have interest costs, etc, also coming into your P&L.
So, it is going to be a tough phase. So, first, we will have to see a price revival stage, then a restocking stage from destocking which was on. So, it will be a long drawn, at least 12 to 18 months for at least that much time.

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I want to understand your thoughts on IndiGo, what has happened recently, the development which has caught everybody’s attention was they have started flying overseas and they have shared a massive strategy of how aiming at overseas market share from some of the foreign carriers. Do they have a good chance in your view? Just today Kotak has upped the price target to almost 6000 now saying that most of the competitors will continue to face stiff losses for at least 15-month period and in this time they can scale up their game, stock is already at 4300, what are your thoughts?
The situation was never as good in the Indian aviation market as it is today because there are effectively only two large players, Vistara Air India combined and InterGlobe Aviation. InterGlobe commands more than 60% market share today, so the pricing power, the overall way in which they can operate is in their hands. They also announced a business class foray now, which could be value accretive and change perception of many people on flying InterGlobe Aviation and especially on international routes, the business class foray actually might help them gain market share.
So, they are in sort of a Goldilocks position today and there is no reason to be negative, so we have held the stock for a long time and should continue to hold for further long time also. This housing finance is a commodity kind of a business. Some people do it with higher efficiency. Yes, they do get a little bit of premium. But look at the space, I mean there are so many of them, almost a dozen of housing finance companies. And in the last one or two years, Bajaj Finance, the valuations have actually shrunk on a variety of reasons. Do you think Bajaj Finance Housing can actually garner premium valuations versus the sector, just the same way as Bajaj did at some point in time or that will be challenging?
Ideally, they should not be able to because like you rightly said, it is more commoditised. In fact, you look at the reason why did HDFC merge into HDFC Bank, because they realised that the margins are going to get squeezed and if they do not have a low-cost deposit franchise which supports the margin squeeze, that will become tougher.
So, many of these housing finance companies sustain higher margins to develop financing, loan against property, etc, which are higher margin, but then also carry higher risk. So, ideally, they should not be able to get such a huge premium. But you know the state of the IPO market. Any IPO gets just lapped up easily irrespective of valuation. So, let us see how that goes. Mankind Pharma, what happened, recently we probed the management intensely about their acquisition plans and they did mention that they have a lot of cash on the books, especially after the latest block deal and domestic growth is what they want to chase because that is what has benefited the company so far in numbers as well as in valuations, ET is reporting a buyout maybe close, BSV Group. What are your thoughts on domestic pharma and Mankind in particular?
Domestic pharma grows at a steady rate. So, it will never grow at 15-20%. It will never fall below 5% to 8%. So, I think that is the range in which they grow. So, Mankind has done exceptionally well actually in terms of their growth as well as profitability margin and that is why the premium valuation sustained. However, I think a very large M&A deal could strain valuation in the short term. So, I think although acquisitions, etc, look positive on the face of it, but large scale acquisitions have a lot of integration issues also involved with them.

And we have seen traditionally that companies usually take a longer time than what they planned for the entire integration to happen. So, I think we should be somewhat careful in assessing any large scale acquisitions.

Do you believe all that fear and panic around PSUs was kind of overdone?
The fear was overdone in the sense that nothing fundamentally changes. But the fact does not change that most of the PSUs are at least 50% to 100% overvalued at this stage.

They trade at a significant premium to similar private sector companies which do not possibly have the PSU governance issues. Like there are bureaucratic governance issues which we cannot ignore. So, ex of the defence pack where the visibility for 8 to 10 years also is very clear and there we could see premium valuation sustained, ex of them I think people need to be wary that the valuations of these PSUs across the board are very-very high.

I know you have talked about as to how you have liked Dabur in the past, but you think that what we saw on Tuesday, Wednesday play out was just again panic buying and safe haven buying into FMCG names?
Yes, to a great extent, because I think people thought that there is going to be some paradigm change in governance, so there was sort of panic buying. But I think it is in a process of bottoming out and formation of new long-term moves in many of the consumer stocks as demand revives after two years of subdued growth. So, if demand revives and the input costs remain benign as they are, profitability improvements will also be significant.

So, I think many of the consumer names are very-very under owned. No one actually owns them. If you look at mutual fund largecap portfolios, top 10-15 stocks also you do not see any consumer name. So, I think reallocation will happen and that will drive these stocks performance.

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