Ashika Monthly Insight Flip July 2016

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JULY 2016 STOCK PICKS However, contrary to the general belief, the MSME sector has exhibited strong growth story for both financial year 2013-14 and 2014-15. This is in stark contrast to the 5800 odd listed players which have struggled to keep their business afloat and honour interest payments. According to RBI’s latest available data for non-Govt. nonfinancial Pvt. Ltd. Companies, growth rates in sales, operating profit and profit after tax have grown at 12%, 16.6% and 12.3% respectively for FY15. While operating profit margin as well as the return on equity both improved from 8.7% in FY14 to 9.1% in FY15. There is ample scope of quality credit disbursement in the segment. CAFL, with its relatively small and growing loan book, operating in a niche segment with a differentiated and a technologically driven model is expected to continue to ride the growth story. Change in borrowing mix to lift margins further Net interest margins (NIM) improved from 5.5% in FY15 to 6.7% in FY16 led by strong growth in high yielding consumer durable and two-wheeler loans. In a downward interest rate cycle, these two segments will aid margins since both follows fixed interest regime. CAFL earns ~16% yield on advances while cost of funds averages ~9% mark. The strategy of the management to reduce bank borrowings and increase low-cost non-convertible debentures or NCDs/commercial papers or CPs will reduce cost of funds for the company and aid margins. CAFL has long-term credit rating of AA+ for bank facilities, NCDs and subordinated debt thus helping to raise funds at competitive rates. The company still primarily relies on bank loans as main source of funds (~66%) followed by NCD (14%). However, the bank borrowings have come down from 75% in FY14 to 66% as of FY16. Besides, CAFL also has a well-matched asset-liablity management thus protecting the NIMs further. Strong Asset Quality Despite a strong growth in AUM, the company never compromised on asset quality. CAFL follows prudent risk management practices across diversified products lines thus ensuring lower delinquencies over the years. The company has a differentiated appraisal methodology which also takes into account cash flows of client, credit bureau and reference checks and also softer aspects like age, whether self employed or salaried, type of industry one works for, number of dependents, marital status, has a credit card or not, has a home loan or not etc while deciding on loan sanctions. As a result the company has a high loan rejection rate and at the same time enjoys healthy asset quality. During Q2FY16, the company has also moved to 150 days classification for NPAs. The asset quality has improved substantially over the last 6 years from gross NPA of 5.3% and net NPA of 3.8% at the end of FY10 to 1.07% Gross NPA and 0.55% net NPA as on FY16. Superior Financial Performance CAFL has depicted strong financial performance over the years with net interest income (NII) registering a CAGR of 48% between FY13 and FY16 while operating profit and PAT also clocking CAGR of 88% and 38% during the same period respectively. The notable improvement in cost to income ratio from 78% in FY13 to 51% in FY16 has contributed to increase in bottomline. What’s notable is that the provisions have also increased at a CAGR of 121% between that same period. Higher fee income (CAGR of 62%) has also helped in posting superior financial performance. The return on assets (ROA) has improved from 0.9% in FY13 to 1.2% as of FY16 while return on networth (RONW) also improved from 6.6% in FY13 to 9.8% in FY16. CFL also has a strong capital adequacy ratio at 19.81% as of FY16. The cost to income ratio for the company was higher in earlier periods on account of higher spending on technology. However, with the spending mostly over, the return ratios are expected to improve further. Key Risks • Slowdown in credit offtake • Higher competition in LAP segment • Increase in interest rates Valuation Capital First Limited (CAFL), erstwhile Future Capital Holdings is one of the fastest growing NBFCs in the country which has successfully created a niche position in MSME financing, a huge potential market but largely underpenetrated. The MSME (micro, small and medium enterprises) sector in India contributes 37.5% to gross domestic product (GDP) and provides employment to 111.4 million persons while accounts for more than 40% of India’s exports. This segment is relatively untapped or neglected by the conventional lending institutions and thus provides a huge opportunity for CAFL. Besides, the improved financial performance by the MSME players improves their ability to service loans contrary to the listed players. Moreover, the stringent risk management practices adopted by CAFL management further help it to keep delinquencies low thus the reason for sound asset quality. The company depicted strong growth in AUM, NII and PAT and not compromising on asset quality and maintaining stringent provisioning norms. The cost to income ratio for CAFL was higher in earlier periods on account of higher spending on technology. However, with the spending mostly over, the return ratios are expected to improve further. Besides, the change in borrowing mix to reduce high cost bank borrowings and focus on fixed loan segments will improve margins from here on. At the CMP of Rs 557, the scrip trades at P/BV of 2.34x FY18E BV and investors are advised to BUY for a target of Rs 650. 12
FDI - WINDOW OF OPPORTUNITY Aarti Industries Ltd. CMP: Rs 520 Rating: BUY Target: Rs 620 Company Information BSE Code 524208 NSE Code AARTIIND Bloomberg Code ARTO ISIN INE769A01020 Market Cap (Rs. Cr) 4329 Outstanding shares(Cr) 8.3 52-wk Hi/Lo (Rs.) 587 / 315.2 Avg. daily volume (1yr. on NSE) 60,625 Face Value(Rs.) 5 Book Value 121.6 190 170 150 130 110 90 70 50 Jun-15 Jul-15 Aug-15 Sep-15 AARTIIND vs. Nifty Oct-15 Nov-15 Dec-15 Share holding pattern as on Mar 2016 (%) Particulars (in Rs. Cr.) FY15 FY16 FY17E FY18E Net Sales 2908.0 2779.6 3305.0 3817.2 Growth (%) 10.5 (4.4) 18.9 15.5 EBITDA 465.7 572.3 687.4 790.2 EBITDA Margin (%) 16.0 20.6 20.8 20.7 Net profit 203.2 256.9 317.3 374.1 Net Profit Margin (%) 7.0 9.2 9.6 9.8 EPS (Rs) 23.2 30.8 38.1 44.9 Jan-16 Feb-16 Mar-16 Consensus Estimate: Bloomberg, Ashika Research Apr-16 May-16 Volume('000)RHS AARTIIND Nifty Others 29.5 DII 12.4 FII 3.3 Promoters 54.8 900 800 700 600 500 400 300 200 100 0 Company Overview Aarti Industries Ltd (AIL) is one of the largest producers of Benzene-based basic and intermediate chemicals in India and manufactures 125 products with chemistry of benzene, aniline, sulphuric acid, toluene and methanol. AIL is one of the leading global suppliers of dyes, pigments, agrochemicals, pharmaceuticals and rubber chemicals. The company has three reportable segments - Speciality Chemicals, Pharmaceuticals and Home & Personal Care Chemicals. Aarti has 16 manufacturing units spread across Gujarat & Maharashtra and a strong Research & Development with sophisticated instruments & pool of scientists. Aarti has customers spread across the globe in 60 countries with major presence in USA, Europe, Japan & India. Investment Rationale Capacity Expansion to boost growth Over the next three years Aarti is undertaking a capex of ~Rs 500 crore to expand capacities across benzene, toluene and ethylene, and nitro toluene based value chains. Ongoing expansion projects of the company that are likely to be commenced in FY17 are Calcium Chloride Unit at Jhagadia, Ethylation Facility at Dahej, Nitration Unit at Jhagadia (NitroToulene & Downstreams) and NCB Expansion at Vapi. These capacities are planned to capitalize on opportunities emerging from growing enduser markets, capacity shut downs in developed markets and reduced global supplies from China and firm off-take commitments from global agrochemical majors for exclusive supply. With the help of these enhanced capacities and adding several value added products in its portfolio, it is expected that in the coming years both topline and bottomline of the company will improve. Apart from this, Aarti is also in the process of setting up a multi purpose specialty chemicals complex at Jhagadia to manufacture a range of high end polymers and engineering plastics that are used in the automobile industry. This project will add value growth from FY18. Demerger plan Pharma and personal care ingredient manufacturing are non core to Aarti’s specialty chemicals operation and are relatively low efficient/profitable operations. Hence, in order to focus more on value added specialty chemicals, Aarti is likely to demerge these businesses which will unlock value. Previously it was expected that the demerger 13
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Ashika Monthly Insight Flip July 2016

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