Feb 19, 2013 06:39 PM IST | Source: CNBC-TV18

FY13 earnings to grow lower at 5%, buy Infy: Motilal Oswal

Rajat Rajgarhia, Motilal Oswal Securities is not so hopeful of earnings growth in this fiscal. According to him, earnings per share growth in FY13 may slip to 5% compared to an estimate of 7% before the third quarter.

Rajat Rajgarhia, Motilal Oswal Securities is not so hopeful of earnings growth in this fiscal. According to him, earnings per share growth in FY13 may slip to 5% compared to an estimate of 7% before the third quarter. 

In an interview to CNBC-TV18, he said, "For FY14 right now the earnings growth is 15 percent and the growth rate looks high because some of the earnings which got very badly damaged this year will be normalised and is likely to push up the growth rate."

Instead, he suggests looking at the two year compound annual growth rate (CAGR), which is likely be at around 8-8.5 percent. 

The main concern of the market is focused on fourth quarter midcap earnings as margin compression and high interest cost may pressurise growth. Rajgarhia also notes that three stocks (Tata Steel, Tata Motors and Bharti Airtel) have led to more than 100 percent of the downgrade in the last 12 months as far as the Sensex earnings are concerned.

However, this has not dented Rajgarhia’s sentiments as he feels there is no reason that Indian market will be re-rated in the near term.

As an investment strategy, his top picks are Infosys, ONGC and ICICI Bank. He sees limited downside for ONGC from current levels as expectations of gas price hike driving upstream stocks higher.

Below is the edited transcript of his interview to CNBC-TV18.

Q: Did your faith in the upgrade cycle is starting off after Q3 earning season go down a notch after the last couple of weeks?

A: Post this quarter, weak breadth of the numbers in the last two-three weeks led to a downgrade in FY13 EPS, which was a negative surprise. This year growth rate looks less than 5 percent compared to an earlier estimate of 7 percent.     

Importantly, three stocks namely, Tata Steel, Tata Motors and Bharti Airtel lead to more than 100 percent of downgrade in the last 12 months as far as the Sensex earnings are concerned. On the other hand most of the large cap performed reasonable.

Q: What is your estimate for upcoming quarter and what kind of Sensex EPS are you working?

A: We expect FY13 EPS growth for full year to be around 5 percent. However, we feel that earnings growth in FY14 to be at 15 percent, which is high. Earnings of companies like Tata Steel and Bhart Airtel etc, which was badly damaged this year is likely to normalize and will push the growth rate up.  

We expect two year compound annual growth rate (CAGR) in corporate sector to be around 8-8.5 percent.

Q: You are not buying the market’s enthusiasm about what JLR may do to bail Tata Motors through?

A: This quarter numbers from JLR was a positive surprise and is providing a big boost. Tata Motor’s domestic business continues to surprise negatively which is leading to the earnings downgrade at an aggregate level. The domestic business model also faces cyclical low earnings and the market will not pay low valuation as it received earlier. The stock looks to stabilize at around Rs 300 due to JLR.   

Q: What is your view on midcap earnings because while the Sensex aggregates are one thing they often tend to mask the reality of the broader market? Where there many more disappointments outside the index and more downgrades?

A: In this quarter many companies missed our EBITDA estimate, especially midcap companies. The current environment is against mid cap companies where they are unable to increase their revenues, raw material cost is increasing, and interest cost is almost at an all-time high for these companies. Almost all the three levers in the P&L account are working against these companies. In this quarter, there is an increase in number is companies that reported losses and it will not change anytime soon. Going ahead, earnings outlook continue to look very bleak for most of mid cap companies.

Q: In this environment do you expect to see more PE re-rating on the way up above even higher than 15 times or where the market is trading today?

A: PE re-rating cannot happen unless growth picks up. In the last year rally, we commonly talked about 27 percent gain which happened post 27 percent fall that happened in the market in 2011. The market is also normalizing within that band. Also, in between, earnings of some large caps are also consistently growing up and their stocks are also moving up so the index has moved to 20,000 levels.     

But Sensex is just one index. The broader indexes are still much below than their previous peaks. They are indicative of how the broader earnings are panning out.

I don't see any re-rating in the market right now because the growth numbers continues to disappoint both at macro and corporate level. Until, we are confident that upgrade cycle will start for the market, re-rating will not take place. Both earnings acceleration and PE re-rating will move in tandem. 


Q: Numbers were not uniformly good for this sector and news flow is still sticky. The market seems to be taking a greater interest in real estate counters. How are you approaching this space and which are your top buys in this space?

A: There are two kind of companies in the real estate space. First, where the debt levels are manageable and can be tracked on a quarterly basis based on execution plans. Management guidance’s have been quite firm. In this quarter there was some operational miss for companies like Prestige Estates, Phoenix Mills, Oberoi Realty and to some extent DLF. Overall, these companies are still doing well and the market has been respecting these stocks on a very different scale. In the second, category, there are high-beta real estate names where they are becoming a pure play on liquidity or the risk profile of the market. Disconnect between the stocks behavior and business behavior also continues.              

People are still wary about the prices that have been holding up on the residential front. There is no worthwhile demand in some of the key markets for commercial properties. It will be a very stock specific move in the first basket and second basket move will be a function of how much risk the market is willing to take at a particular point of time.    

Q: How do you read the recent price increases and what is your view now both on upstream and down companies in oil and gas space?

A: In upstream companies, after two-three years of flat earnings for stocks like ONGC now there is an outlook of some price deregulation and expectation of a gas price increase both of these can push up earnings significantly. The market still remains quite skeptic if it can earn an EPS of Rs 40 or 50 from current Rs 30.

We are clear that the earnings growth numbers will look good over the next two-three years. There may be some hiccups in price deregulations in the later part 2013. If there are 5-6 hikes then, diesel under recovery will come down to manageable level. ONGC at Rs 300-325 is a good option value with limited downside and good dividend yield. This stock is our top pick for this year.       

Q: Ambuja Cement disappointed a bit and there has been caution on that sector after looking at Ambuja and ACC numbers. What is your view on that stock now?

A: These stocks current faces three issues. First, the royalty sword which continues to hang on as they cannot pass on the entire royalty increase to the consumers and this issue may again up again in next couple of years.   

Second, underlying cement demand growth continues to be lower than expectation. 

Third, these stocks saw fair bit of re-rating as they held on very well because of the pricing behavior and balance sheets. Demand for cement should pick up for these stocks to perform other we will not see any worthwhile re-rating to happen in this space.

We expect demand for cement to pick up from June onwards as multiple big elections including state and center are lined up going ahead.  

And if the government starts to push forward with some expenditure that they have curved in this quarter that itself should help to create some demand. So cement demand growth of above 8 percent is very critical for these stocks to show any further performance from current level. Otherwise, Ambuja at about Rs 200 and ACC at Rs 1200-1300 will remain in a band.

Q: So far this year the market has been very narrow, the broader market has clearly underperformed. Do you see that trend being in place for another couple of quarters given the disparity in the blue-chip earnings and the broader market earnings?

A: In this year every quarter we will see either risk getting carried on or being brought off.  

Till the time the midcaps do not start to show signs of stability in their earnings, the broader market will find difficult to pick it up. Another point is how much RBI will be able to cut down on the rates. And that expectation itself keeps on changing every three-six months. As of now, the system still needs another 50-75 bps cut in rates.

If market is confident that over the next two quarters there will be at least two more rate cuts ahead then it mean that fair bit of excitement will come back into many beaten down midcaps, where liquidity itself can head them to show some valuation.

Q: Do you have a list of four-five best buys before the Budget?

A: We do not have buys before the Budget but for the whole year we still feel that there are very good investable stocks at these prices.

Stocks like Infosys, ONGC, ICICI Bank will continue to do well. Some of the PSU banks which gave up a large part of their gains in this fall are again looking good because now from a trend has changesd from disappointing to mix. In the midcaps space stocks like Tech Mahindra, United Phosphorus, some cement and print media names.

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