Crorepati Investor

It has been argued for quite some time that optimum asset allocation helps an investor drive eighty per cent of portfolio returns rather than stock picking, tax saving measures or the collective wisdom of the market commentators and experts whose faces beam out of the many financial news channels all day and night. This becomes even more crucial in a volatile situation, which has remained the prime character of the equity markets over the last eighteen month. Over this period, the Sensex has oscillated in a wide range between 15534 and 20600. Such volatility definitely adds risk to a portfolio, which can be minimised, if not eliminated entirely, by proper asset allocation.

The reason why we have begun our cover story with a dose of wisdom on asset allocation and volatility is that though volatility impacts all investors, the stakes are higher for someone with large investible funds, especially high net worth individuals (HNIs). We have maintained a positive bias about the market for quite some time now, and continue to do so. There are reasons why we feel that the fundamental growth story of India remains intact, and some of these have been captured in our previous issues.

While all this bodes well for investors of a particular segment, we haven’t come across any conclusive advice for the bigger players (read: HNIs) who could, in fact, be a major factor in turning the markets on either side by the sheer prowess of the money that they pour in. This story looks at providing a sensible approach to the bigger boys of investing by recommending a mix of asset classes that could add a shine to their portfolio going forward.

Equity: Gearing Up

Equity has been the most preferred avenue after debt for HNIs to park their savings. According to reports by Kotak and CRISIL, equity has found the top position in the investment portfolios of ultra HNIs. While the short-term view on the equity market may not look very attractive, we feel that the overall scenario of the market is bound to improve, with most of the worries likely to get sorted out over a period of time.

With this in view, HNIs should now start investing in equities in a staggered manner. As they have a large corpus to invest, they should not wait for the markets to bottom out, as their investment has its own impact cost that reduces the future returns.

Keeping the needs and investment objectives of HNIs in mind, here is a list of five stocks that they should consider adding to their equity portfolio. These stocks are highly liquid, and their downside is capped. More important than anything else, these stocks have the potential to outperform the market in the medium-to-longer term. Our research team has come up with a detailed analysis for each of these stocks, which would certainly help investors to make an informed decision.

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Cadila Healthcare
BSE Code: 532321
CMP: Rs 860

Cadila Healthcare, which has set an aggressive revenue target for itself over the next three years, will give a defensive flavour to your portfolio. This company, which is more than 60 years old, is now on a very high growth path, and an investment in its shares will help in better capital appreciation.

The company is witnessing a five-year CAGR of 24 per cent in its topline. Its EPS has also been consistently growing, and with the overall profitability on a growth path, it has been very consistent in dividend payments. What we like about this company is its management’s confidence about achieving the revenue target of USD 3 billion over the next three years.

Cadila’s business is well diversified in three different segments, i.e. healthcare, animal health and OTC products. The company has domestic as well as international operations in its healthcare business. On the domestic front, it has a major presence in the specialty drugs segment, from which it derives over 50 per cent of its revenues. It exports to markets in the US, Europe, Japan, etc., and most of its manufacturing facilities are USFDA approved.

Recently, the USFDA revoked the warning letter on its Moraiya manufacturing facility in Gujarat. This is a positive sign for the business, as it intends to supply injectables to the USA from this facility. Injectables have a good market in the US, and also command higher margins than other formulations. In FY12, the company saw lower USFDA approvals for its products, which will pick up from FY13 onwards.

Cadila’s OTC business is carried out in the name and style of Zydus Wellness, and includes top brands like Sugar Free, EverYuth and Nutralite. In the animal health business, its revenues are growing in double digits. Recently, it acquired a German animal health company, due to which its business revenues in the domain will rise going forward. There are also a few joint ventures in place, which provide future revenue visibility, indicating that the company will continue to grow strongly.

On the financial front, Cadila reported a 14 per cent topline growth to touch Rs 5263 crore in FY12. The net profit declined by eight per cent during the same period, which we believe is a one-off occurence. On the valuations front, the stock is trading at 27x its FY12 earnings. Its EV/EBITDA is at 18x, which is in line with that of its peer, Lupin.

Looking at the business growth, the resolved USFDA issues and the management’s confidence about achieve the target we think the stock is all set to give multifold returns ahead. Right exposure in the right quantities will be the correct approach with regard to this stock.

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Coal India

BSE Code: 533278
CMP: Rs 351

Coal India (CIL), a Government of India enterprise and a Maharatna PSU, is the world’s largest raw coal producer. CIL has about 65 billion tonnes of coal resources, and accounts for nearly 80 per cent of the country’s domestic coal production.

This company, which has a virtual monopoly in coal supply clearly has an advantage, as there is a huge demand for coal especially in the power-hungry country that India is. This demand is now expected to see a surge, as gas production is on a decline in the country, which is hampering the gas-based plants.

We are of the opinion that CIL has the scope to enhance its production given the coal reserves it has access to, its past production record as well as the immense pressure on the government to enhance coal supply to the power sector. CIL’s coal production remained flat at 430 million tonnes through FY10 and FY11, but grew marginally to 435 million tonnes in FY12. This, however, will rise in the future as CIL has recently received de-allocated coal mines from the government, which will help it to increase its production.

At present, CIL supplies coal to power companies at a huge discount (60-65 per cent) to international prices. The company has changed its pricing method from Heat Value (HV) based pricing to Gross Calorific Value (GCV) based pricing, which will see the coal prices going up. It has been carefully handling the pressure arising from the Presidential directive to sign Fuel Supply Agreements (FSAs). The company has also smartly downplayed the penalty clause, to ensure minimum damage to its earnings. We feel that all the concerns surrounding the stock are already priced in. In fact, the FSA clause will pressurise the government to expedite mining clearances as well as to improve the infrastructure available to the company, thereby helping it in the long term.

On the financial front, its topline has seen a CAGR of 13 per cent while the bottomline has grown at 20 per cent over the last five years. This was on the back of an increase in coal production from 379 million tonnes in 2008 to 435 million tonnes in 2012. Besides, the e-auction of coal has also helped the company to increase its margins. The balance sheet looks very strong, with a cash reserve of Rs 58000 crore as at the end of FY12. We expect the company to deploy its cash either for new acquisitions or to improve its infrastructure.

At its CMP of Rs 355, the scrip is available at a PE of 15.17x its annualised EPS of Rs 23.45 for FY12. It is up 17 per cent on a YTD basis, but the valuations still look attractive. All these factors make this scrip an ideal pick for any portfolio. As for HNIs, the more the holdings the better.

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Britannia Industries
BSE Code: 500825
CMP: Rs 482

Having defensive bets always pays off in volatile times. From the Fast Moving Consumer Goods (FMCG) sector, Britannia Industries is one such bet that will add strength to your portfolio going ahead.

The consumption story of India is very robust and would continue to be so in the future too, which would benefit the sector as well as Britannia Industries. We believe that the renewed product portfolio of the company, its focus on renovation and innovation and the strong brand recall that it enjoys all put the company in a much better place as compared to its peers. Further, its good financial performance, consistent dividend payouts (current dividend yield of 1.7 per cent), coupled with the fair valuations at which the stock is available makes it a good long-term bet.

Britannia’s business is broadly divided into two segments – bakery and dairy products – including strong brands like Bourbon, Little Hearts, 50-50, Tiger, Good Day, etc. It has one-third of the share of the biscuit market overall, and more than 80 per cent of the company’s total revenue is contributed by this segment. Despite the huge competition that it faces, Britannia has consistently held on to its market share. Further, it has focussed on renovation as well as on innovation of new products, which customers have responded to very well. In FY12, new product segments generated 10 per cent of the revenues in the bakery segment and around 14 per cent in dairy products.

The company has posted robust financial numbers in the past. For the March 2012 quarter, its topline increased by 17 per cent to Rs 1321 crore on a standalone basis, while the bottomline grew by a robust 23 per cent to Rs 53 crore on a YoY basis. This was better than the industry average, which grew approximately by 15 per cent in topline and 11 per cent in bottomline during the same period. Further, at a time when most of the companies in the sector are facing input cost pressures, Britannia has some relief on that front, and this has fuelled its profits. Its raw material to sales ratio decreased by 433 basis points to 49.57 per cent, in the same period which is very good.

Going ahead, despite a slowdown in the economy, the management expects the company to grow in the range of 12 to 15 per cent in FY13, which should be considered good for an FMCG company.

A planned focus on advertisement and promotions through meaningful expenditure would create brand awareness and also fuel growth for the company. In the March quarter of 2012, the advertising spend to sales ratio stood at 8.35 per cent (7.44 per cent March 2011), providing a good impetus to the company. At its current market price, the stock is trading at a trailing PE of around 32x, which should be considered fair to lower compared to those of some of its peers like HUL (trading approximately at 35x), Nestle (available at 40x). We believe that this is one of the companies that could generate valuable returns for investors over the longer term.

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Larsen & Toubro
BSE Code: 500510
CMP: Rs 1342

It would probably be surprising to see an engineering company being recommended as a part of our portfolio for HNIs. Naturally, in a scenario of higher interest rates which is impacting the overall capital expenditure cycle, not many would be in favour of recommending an engineering firm. However, we have some compelling reasons for recommending Larsen & Toubro for an HNI portfolio.

The first and the foremost factor in favour of recommending this stock is that the company has a robust order book position, resulting in good revenue visibility for the next eight quarters. For the quarter ended June 2012, its order book stood at Rs 153100 crore, which is 12 per cent higher as compared to what it was during the June 2011 quarter. The best part is that the company has kept its order inflows ticking even in a difficult scenario. The order inflow for the June 2012 quarter has been good at Rs 19600 crore, up 21 per cent on a YoY basis. In March 2012, the management had provided a guidance of 15-20 per cent growth in the order book for FY13, and it has now stated that the company is on the right track to achieving this.

The order inflows mainly (65 per cent) comprise infrastructure projects like bridges, ports, railways, metros, etc. Around 21 per cent of the orders came from power, mainly transmission. Only two per cent came from hydrocarbons, five per cent from material handling, and rest was contributed by others. The management has stated that it is hardly focussing on the hydrocarbons business, and expects the same to remain subdued. However, the infrastructure segment is expected to drive growth going forward.

The international business is also expected to bring some growth. Currently, the international business order book stands at nine per cent. However, with additional orders expected from the CIS region and Saudi Arabia, the company is quite positive about the international order inflows.

According to the management, the benefits from the 21 per cent import duty imposed on foreign power equipment will accrue in the long-term for the generation business. Some benefits in the transmission segment will come in during the next fiscal. The recent agreement with Mazgaon Docks for building warships also provides order visibility for the next three years. The management will be able to put a figure to this only in the September 2012 quarter.

On the margins front though, L&T is yet to come out of the woods. For the quarter ended June 2012, its EBITDA margin stood at 9.10 per cent as compared to 12.10 per cent for June 2011 and 11.80 per cent for FY12 as a whole. This drop is mainly on account of the forex MTM provisioning. However, with the softening commodity prices and expected improvement in the rupee, the margins are expected to get better.

On the financial front, for the quarter ended June 2012, the topline was up 26 per cent to Rs 12000 crore. Due to margin pressures, the bottomline stood at Rs 890 crore, up 19 per cent on a YoY basis. However, as already stated, the margins are expected to rise on account of the declining raw material prices. On the valuations front, the trailing four quarter earnings discount the CMP by 18.25x. As the scenario takes a favourable direction, the execution will also improve. Considering the growth trajectory of the company, we recommend that investors buy the scrip at the current levels.

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ING Vysya Bank
BSE Code: 531807
CMP: Rs 391

The banking space is set to grow and provide stupendous returns over time. However, one has to be very selective and stock specific in order to benefit from this growth.

At present, private banks are in a much better shape as compared to their public sector counterparts. Keeping this in mind, we have selected ING Vysya Bank as a stock pick for HNIs. We believe that this bank is in excellent shape, and may provide handsome returns to shareholders over a longer period of time. Improving asset quality, almost stable margins and good business growth are some of the reasons for recommending this stock to elite investors. Equally important is the fact that the stock is available at a fair valuation.

A look at the historical performance of the bank over the past six years (upto FY12) suggests that its Net Interest Income (NII) has seen a CAGR of 20 per cent to touch Rs 1208.3 crore, while its Net Profit has grown by 92 per cent to Rs 456.3 crore during the same period. This is quite a commendable achievement.

In the current environment, where most banks are facing serious headwinds on the asset quality front, ING Vysya’s asset quality scores an ace. Over the last eight quarters (since the interest rates started moving northwards), the bank has shown a gradual decline in its Net NPAs, which is noteworthy. Its Net NPAs as of June 2012 stand at 0.19 per cent against 1.36 per cent for the June 2010 quarter. The bank’s Provision Coverage Ratio (PCR) stands at a healthy 90.4 per cent, which could be an indication that there would be very little space for the asset quality to worsen further from here. Also, despite the volatility over the past eight quarters, its Net Interest Margin (NIM) has moved in the range of 3-3.5 per cent, with an average NIM of around 3.27 per cent.

The Capital Adequacy Ratio (CAR) of the bank as at the end of the June 2012 quarter stands at 13.35 per cent, which is also at a good level. As on 30th June, 2012, it posted a decent business growth, with the deposits going up by 14.6 per cent to Rs 35878 crore, while the advances grew by 23 per cent to Rs 29801 crore on a YoY basis. Its Net Interest Income (NII) grew by 38 per cent to Rs 343 crore, while the Net Profit grew at a healthy rate of 38 per cent to Rs 130 crore during the June quarter.

Going ahead, we believe that ING Vysya would achieve a decent business growth, and would probably maintain its asset quality at a better level, with lower non-performing assets. It is currently available at a PE of around 12x and its Price to Book value is around 1.5x, which can well be considered to be a fair valuation. Further, one should note that the stock is currently trading at almost its 52-week high, and hence, there could be some pressure. Nevertheless, we believe that one could buy this stock at the current levels, keeping a longer-term horizon in mind.

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While equities are known to offer far better returns than any other asset class over the longer term, it is important for investors to have a diversified portfolio, especially for HNIs. With that in view, here is a mix of three other key segments that can help generate superlative returns for their overall portfolio. We are not recommending a specified amount or percentage of assets that could be invested in these avenues, and would leave it to individual investors to decide this according to their own risk-return profile.

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Debt: High Yielding

What distinguishes Indian HNIs from their global peers is their character of being highly conservative. According to Karvy’s Wealth Report that came out in December 2011, almost 68 per cent of HNIs’ investments are parked in debt instruments as against 53 per cent globally. The latest Top Of The Pyramid report brought out jointly by Kotak and CRISIL on ultra HNIs also points towards the same trend. According to the report, 29 per cent of the total investment by ultra HNIs in 2011 was in debt instruments as compared to 20 per cent in the previous year. Such a rise in the allocation of funds towards debt signifies the risk-averseness of HNIs.

One of the reasons for such a shift in investment towards debt is the volatile and negative equity returns over the last couple of years. Since the beginning of 2011, the BSE Sensex has generated negative returns of 16.21 per cent as against eight per cent returns yielded by government bonds during the same period. Therefore, it made sense for HNIs to increase their exposure in debt.

Going forward, longer-term bonds are well placed, and we may see some rally if the RBI decides to go ahead with a rate cut. The other side to this is that since the interest rates are seen to be peaking out, it would be the right time for investors to park their funds in debt instruments so that they can lock into higher coupon rates.[PAGE BREAK]

Gold: Still Glitters

Gold has remained one of the best asset classes over the last couple of years as far as returns provided to investors is concerned. Since January 2011, the price of gold has appreciated by more than 40 per cent. This is also reflected in the returns provided by Gold ETFs, which track gold prices. The average return provided by the 14 gold ETFs was 25.84 per cent in the last one year. Such returns have lured many investors into these funds, which have witnessed their assets increasing by 43 per cent in the last nine months. But are these returns sustainable?

We believe that ahead from here, the returns will depend on how the situation pans out in Europe and on the policy actions of the various central bankers. If the situation worsens in Europe and if we see a new round of easing from the US in form of QE3, we may see the price of gold remain firm or even appreciate. In India, however, we may not see such robustness in the prices of gold if the monsoon deficit remains high, as around 60 per cent of the gold sales happen in rural India and a shortfall in rain will adversely impact the demand from that region.

However, given the macro-economic conditions domestically and internationally, gold remains one of the most effective portfolio diversifiers. A part of your assets could, therefore, definitely go into the yellow metal.[PAGE BREAK]

Real Estate: Low Rise

Real estate has always been among the favourite asset classes of HNIs. However, this has been showing some sign of moderation, as the returns provided by real estate funds or investment in real estate in the last few quarters are not looking attractive. If we look at the NHB Residex, which tracks the movement of prices in the residential housing segment in 15 major cities, we find that over the last one year, the average appreciation in the index is just about one per cent. Clearly this is driving down investment in real estate, as pointed out in the Top Of The Pyramid report by Kotak and CRISIL.

However, though the interest of investors has been toned down, it has not dried up as such. According to the aforementioned report, the investments in real estate by ultra HNIs have come down to 30 per cent in 2011 as compared to 37 per cent in the previous year.

We feel that there will be a short term drag on this sector in the near future, as the property pipeline has remained healthy and the volumes are not likely to pick up in hurry. Moreover, the IT/ITES sector, which has been a big demand driver for commercial property, is not in the pink of health. The global economic headwinds are impacting the sector’s expansion plans, and hence, the demand for property. Therefore, overall this asset class is not expected to deliver the type of returns it provided before the crisis. Nonetheless, there are certain residential pockets in Pune, Chennai and certain parts of NCR that can still provide good returns.

We suggest that you wait for the clouds of uncertainty to clear in terms of the macro-economic conditions before committing any funds to this sector.