Emkay's Karwa feels subdued earnings trend led to market's fall

Speaking on Infosys and the developments surrounding it, Karwa said that the sector was facing headwinds and valuations, as a result, corrected. Sikka being global personality put in right steps in terms of transformation, but a large company and steps take time to deliver. He also said that incremental new businesses were showing growth.

However, the events surrounding his exit were disappointing and could have been handled much better, he said. In fact, he doesn’t believe the saga has ended.

On consumer space, he said that the valuations were richly-valued and had little margin of safety. But the track record of these companies is such that they can benefit of doubt due to GST and other reasons. He believes there could be challenges to sustain the valuations if the next quarter is not good.

Meanwhile, Karwa said that the housing finance space was becoming very crowded. “It is a segment where every NBFC wants to be there. From a macro perspective, the sector is giving many opportunities, but is becoming competitive as well,” he told the channel. It now depends on the cost of money and how that will be managed by such companies.

Below is the verbatim transcript of the interview.

Latha: What are your thoughts on that final conversation we had with Udayan Mukherjee? Earnings have not obliged. How much can you still keep the faith? To be fair, liquidity has obliged, much more than anyone thought. So do you still keep the faith buying every incremental dip?

A: I agree with what Udayan said about earnings and valuations and the last time I came on air at your channel also, I mentioned this is a time to be slightly circumspect because valuations are not getting supported by earnings and liquidity can only drive you up to a point.

10 days ago, you had this issue on North Korea-US front and all of us believed that North Korea is not going to fire any missiles at the US. But still there was a decent correction locally as well as globally, which clearly shows that earnings are not supportive or the valuations are at a level where any small negative news, markets can correct.

So yes, all of us are hopeful that earnings will recover maybe second half of the year and next year, etc. and this liquidity driven rally, so far, people have bought on dips and it has worked very well for them. Let us hope that it continues, but in the next 2-3 months, there is a whole spate of initial public offers (IPO) which are lined up. That will absorb a lot of the domestic liquidity per se. So looking at all these factors, investors should continue to have their faith, but return expectations will have to be moderated from an immediate perspective.

Maybe it is more back-ended in terms of the earnings opportunity. But I would also say that you are in the midst of -- monsoons have again made a good comeback. So that could be a good trigger in the next one month or so if monsoons do well. Also, the third quarter is going to be a quarter where you have the benefit of a low base because of demonetisation last year.

So markets will be benign and hopeful till the third quarter. If we do not see year-on-year (Y-o-Y) growth in the third quarter then there can be a challenge for the market. That is my take.

Anuj: Your thoughts on what is happening at Infosys. You have watched the entire IT space for so long now. Personally, are you disappointed with what has happened and how would you approach a stock like Infosys or a sector like IT from here on?

A: The sector has been facing headwinds for long and we have seen the valuations have corrected. And Mr Vishal Sikka being a global personality and coming from Systems, Applications and Products (SAP) environment, etc. he did put in the right steps in terms of transforming the company to the next level of transformation, which is happening in the IT companies.

To that extent, yes, but it is a very large company and many of these steps take their own time to deliver and the incremental new businesses were showing a decent amount of growth. Infosys has been an iconic company and Narayana Murthy has been an icon, no doubt, as far as the corporate world is concerned. But it was disappointing to see the way Sikka had to finally resign or move on as an executive Vice Chairman.

Things could have been handled much better and I think Udayan Mukherjee also mentioned about, at one level, whatever Vishal Sikka executed or rather, whatever issues were there as far as corporate governance, etc. the board also becomes responsible for that because at the end of the day, he was reporting to the board. So, I do not think this is the end of the whole saga. There could possibly be more.

From an investor perspective, at these current valuations, the valuations are supportive, the buyback price, which they have announced is supportive. So there will be a knee-jerk reaction and already the reaction, 10-12 percent kind of correction that has happened. So from a long-term investor perspective, I am sure that they will find the right people to run the company over a period of time, but it is going to be back-ended, it is not going to be in a hurry.

Latha: Let me come to your conference itself. I would assume that you would look for the next theme. Where would you put incremental money, what are the themes? I can see that you are discussing housing. What are the big themes that you are discussing in your conference?

A: Just to give you some details about the conference itself, we would be having almost 140 odd companies attending our conference over a two day period. And almost one-third companies, each are from the consumer space, industrial as well as the services, including the banking sector. So the spread is across the segments as far as this.

Even as far as marketcaps, etc. is concerned, we have a whole host of largecap companies and as usual, we do try to present younger companies or smaller companies who could possibly become the midcaps or the largecaps of tomorrow. So we have almost 30-40 companies which are below this Rs 2,000-2,500 crore market cap.

The theme, as far as our panel discussions are concerned, you can see, one is on the housing finance and the other theme that we are looking at is on the whole rural India, the doubling of the income of rural India, the mission which is there from the government and how it is panning out.

So, clearly, the thrust of the government is on these two sectors, which is housing for all and the changes which has happened in Real Estate (Regulation and Development) Act RERA, goods and services tax (GST), etc. and how that is going to transform the housing sector. As far as rural India is concerned, you know how the thrust of the government in terms of increasing income and the various minimum support price (MSP), Mahatma Gandhi National Rural Employment Guarantee Act (MNREGA), etc.

So we believe that these two panel discussions are kind of symptomatic of what we believe are going to be the area where you could possibly find investment ideas going forward.

Anuj: Let us take one of them, the fast-moving consumer goods (FMCG) space because you have Godrej Consumer Products and also, Emami which you are presenting. Market was disappointed with both earnings though of course, moved on in case of Emami. You think it was just a one quarter impact because the problem with these companies is that they do not have valuation comfort. We are pricing in the best.

A: Rightly, what you say is perfect that as far as valuations are concerned, many of these companies are richly valued, so they leave very little margin of safety. But their track record is such that the market is willing to give them the benefit of doubt for a quarter or two. Maybe it is a GST led issue, maybe it was a one-off because of some raw material pressures, etc. But, if they do not deliver in the next few quarters then there could be challenges. There could be challenges for these corporates to sustain their valuation.

But in that sector, if you see, companies which have not come for our conference, like a Hindustan Unilever (HUL) or Britannia, they have delivered very good numbers and the market has responded accordingly. So, it is a mixed bag, every company has its own bottoms-up challenges.

Latha: You would rather bet on housing finance than consumer finance?

A: Yes and no. Housing finance is becoming very crowded at the end of the day. So I agree with you, I think that is a segment where every non-banking finance company (NBFC), if it is not there, it wants to be there. And if anybody wants to start an NBFC, he wants to be in the housing finance. So from a macro perspective and a long-term opportunity perspective, yes, the sector offers a lot of opportunity, no doubt about that.

But, it is becoming very competitive, the way, I believe one of the large private sector banks has again announced some kind of a discount scheme in the EMIs that you pay and you get some benefit in the fifth EMI or something like that. So, yes it is very competitive. So at the end of the day, there is only so much you can charge a customer and it is very competitive. So it is all going to amount to what is your cost of money and how we are able to raise that.

So yes, there are challenges. Growth is not a challenge in this segment but profitability could be under pressure going forward. As far as consumer finance is concerned, that is a segment where the major has been showing tremendous amount of growth and profitability also has been very good. But then valuations -- there is only one person who has been so successful, one NBFC which has been very good at this business, the others are still developing. So the opportunity over there is huge, maybe the returns could be over a 2-3 year period.

Anuj: You are also inviting a couple of oil marketing companies. Has the story played out fully here or do you still see triggers from here on?

A: From a valuations perspective, the valuations are still reasonable and in terms of the whole marketing set up, if you look at it, the way the government of India has been dismantling every subsidy, every concern that is there, there has been a rerating of this sector which has happened in the last two years, but still I believe that vis-à-vis the market, the valuations of this sector are still reasonable and it offers a decent opportunity for investors.