Stocks Analyzed and Rejected

I analyzed 4 stocks in depth this week. One company appeared on my screen due to superior return ratios and a decent CAGR over the past 5 years. I researched two other stocks as they were recommended by Hitesh Patel (of the famous hitstocks blog fame). The other stock I analyzed was due to low P/B and comparatively low P/E (and also considering it is a proxy for the consumer goods industry). Here’s my analysis and reasoning of why I rejected these stocks. On the face of it, they look compelling, but on deeper dive, not so much. Please feel free to let me know your opinion.

 

STOCK NO. 1 – MAZDA LTD

Reasons to Consider:

– Mazda Ltd operates in two different industries – Engineering (primarily Industrial machinery) and Foods
– P/E ~ 6, P/B = 1.4
– The company has been posting impressive numbers over the past 5 years
– ROCE CAGR of ~ 20% and NPM CAGR of ~30% of over the past 5 years
– Negligible debt, High interest coverage
– Hived off the Valve division (low margin, high inv) for Rs 22 cr which is supposedly a catalyst. AR states that the sale proceeds would be used in the vacuum pump division which would grow faster.
– All in all, looks an extremely good stock. So far so good.
– However, operating in two different industries (diworsefication), and the Food division started and managed by the MD’s daughter (Ms. Shananya Mody, daughter of Mr. Sorab Mody)
– Insider selling by the only other Wholetime Director (Percy X Avari). Mr. Percy Avari is supposed to be the brains behind the industrial machinery design.

Decision Taken:

Reject for now. The AR isn’t clear if they are investing further in the food division at all inspite of the razor thin margins and low volume. If they hive off the food division, this looks like a good buy. On the other hand, if Ms. Shanany Mody gets the ownership of the entire company, I would be skeptical in investing in this company (Food division is her pet project – I am not too sure how cashflows would be utilised).

STOCK NO. 2 – HOV Services

Reasons to Consider:

– HOV is one of the largest end-to-end BPO companies, providing healthcare, finance and accounting, e-content management and other services across key verticals such as BFSI, Healthcare, Government, Telco, Publishing, Retail, Commercial and Industrial Manufacturing industries.
– The major motivation to get in depth of this stock was the recommendation by Hitesh Patel (of hitstocks fame – his stock picking ability is awesome!)
– Although they have been paying down debt year on year, they still have a tremendous amount of debt, especially considering its a BPO company
– Their earnings (recent and past 5 years) have been nothing to write home about
– The lesser said about RoCE, RoE CAGR, the better. They are actually decreasing
– I am not even sure of the Interest coverage
– Even after a steep fall, the stock looks expensive on a adjusted PE. However Adj PE TTM is close to 12.
– With so many BPO players, I am not even sure whether HOV would have any competitive advantage (inspite of many clients across sectors).
– They are opening a center in China.

Decision Taken:

Reject for now. Their debt levels scare me. I’d probably look at this stock say 6 months from now and see if the debt levels have been reduced significantly. It may be a turnaround story, a value buy and all that – but I’d much rather wait and watch than jump the gun on this one.

 

STOCK NO. 3 – SHANTHI GEARS

Reasons to Consider:

– A market leader in industrial gears for various industries like steel, sugar, power, aviation, cement.
– Again, a stock covered by Hitesh Patel (I hope Hitesh doesn’t get pissed at me critiquing his stock picking) and hence the motivation
– Fantastic return ratios ( > 20%) of RoE, RoCE and RoA till FY09
– A sudden plunge in all these ratios in FY10 due to shutting down of plants, union strikes, restructuring etc.
– Major upside can result due to the restructuring exercise.
– They were planning to sell of the land/partner in a real estate deal in Coimbatore. But I’d guess it can only add Rs. 5/share to the earnings and its one time. Any long term growth can come only due to restructuring.
– I got really interested in the stock due to its near monopoly in industrial gears although foreign companies are catching up.

Decision Taken:

Reject as of now, but will be closely tracked on my radar. I’d really like to see if the mgmt can pull off the restructuring successfully. Two quarters/year from now would be an ideal time to look at this stock (I am ok to buy this stock even at 1.5x current price if the restructuring comes off successfully). I believe in its long term story. If the restructuring goes south, well…that is about this stock then.

 

STOCK NO. 4 – LLOYD ELECTRIC AND ENGINEERING

Reasons to Consider:

– LEEL is largest makers of air-conditioner heat exchanger coils in India. The company is OEM supplier to almost all AC manufacturers in India, and have overseas business of approximately 20% of sales. Its main products are: Heat Exchangers, Rail Coach ACs, Window/Split ACs
– Investigated this as Abhishek Basumallick had put it up.
– Its closest competitor, rather similar competitor is BlueStar
– The only attraction of LEEL is a low P/B value (0.6) and a low P/E value (~10 compared to BlueStar’s P/E of 20)
– However, consistent negative cash flow for the last three years, very poor  RoCE (~9%), RoE(~6%) and OPM of 8% and NPM of 4% make it very unattractive.
– The only catalyst which I could see was that they started supplying ACs to metros. However, their debtor days are already close to 110 days. Considering LEEL would be supplying these ACs to metros, I’d expect this to go up, considering the usual delay in govt. payments.

Decision Taken:

Reject as of now. Would like to wait and see how they perform over the next two quarters. The stock has been stuck at Rs. 70 levels for long. I would not pull the trigger on this yet.

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