Wednesday, September 30, 2009

How has Nifty composition changed?

I would like to compare the constituents of Nifty between 2003 and now. Here are some statistics:
  • In 2003, there were eight companies belonging to FMCG sector in Nifty, namely, Britannia, Colgate, Dabur, Glaxo Consumer, HUL, ITC, Nestle and Tata Tea. Today there are only two companies from this sector in Nifty, namely, HUL and ITC. Just to add, ITC was only in cigarettes at that time. Today it is in cigarettes, biscuits and soap/shampoos too.
  • In 2003, there were six companies belonging to Pharma sector in Nifty, namely, Cipla, Dr Reddy, Glaxo, Novartis, Ranbaxy and Sun Pharma. Today there are only three, namely Cipla, Ranbaxy and Sun Pharma.
  • These two examples show that when a particular sector has a very high representation in an index, it collectively underperforms the index. Individual companies like Colgate, Dabur, Glaxo Consumer and Nestle might have outperformed the index but the bigger players like HUL and ITC clearly underperformed the index. Today sectors that dominate Nifty are
  1. Finance with seven companies representing the sector in Nifty
  2. Power with five companies in generation/transmission/distribution and five in equipment.
  3. Metals with six companies in aluminium/copper, steel, and iron ore.
  • In 2003, there were total 21 different sectors that were represented in the Nifty constituents (if banks and housing finance, petrochemicals and refineries, auto 2 wheelers and 4 wheelers, steel and aluminium, are considered separate. If they are combined, the sectors would reduce to 17). Some of them included Hotels (Indian Hotels), Shipping (Shipping Corporation of India), Chemicals (Tata Chemicals) and Media (Zee). Today there is no representation of these sectors in Nifty (ITC is more of FMCG now then hotels). Today the number of sectors represented in Nify have reduced to 19 only (if you consider oil exploration, gas transmission and refineries, steel, aluminium and metals, banks and housing finance, separate. If these are combined, the sectors would reduce to 14 only). This clearly shows that many big companies from a particular sector has been put in the index. The examples are
  1. Finance where HDFC, HDFC Bank, Axis Bank, SBI, ICICI Bank, Reliance Capital and PNB all are part of Nifty.
  2. Power Equipment where ABB, BHEL, Siemens, L&T and Suzlon are all part of Nifty.
  3. Telecommunication services where BHARTI, RCOM, Idea and TataCommunications are all part of Nifty and if BSNL lists then it too will be included.
  4. Power where RINFRA, RPOWER, NTPC, Tata Power and JSPL are all included.
  5. Metals where Hindalco, Nalco, SAIL, Tata Steel, JSPL and Sterlite are all included.
  • From the above examples, it seems NSE should put a cap on number of companies representing a particular sector in Nifty.
  • Surprisingly, developed nation like the US does not have a single power company in the Dow Jones Industrial Average.
  • There is no representation of Media/Advertising, Chemicals/Paints, Retail, Insurance (there is no seperately listed entity to represent this sector), Transport (Railway/Airlines), Textiles, Paper, Auto Ancillaries (including tyres), Logistics, Hospitals, Restaurants and Consumer Durables in Nifty.
We can conclude from this that investing in Nifty is not a diversified way of investing in the whole Indian economy. It is better to chose a broader index like S&P CNX 500 or BSE500.
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Tuesday, September 22, 2009

BSE500 Replacement Candidates

According to me, any financial index should represent a diversified view of an economy. BSE500 is one such index which represents 93.2% of the total market capitalization of all the stocks listed on BSE. Due to my personal reasons, I feel the following stocks should not be part of BSE500 and should be removed from it as early as possible:

GTL Infrastructure
Ispat Industries
Karuturi Network
Noida Toll Bridge

You can also think that these are possible candidates which can be removed from BSE500 in near future.
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Wednesday, September 16, 2009

Is D-Street misinterpreting advance tax numbers?

Advance tax numbers for many companies are out and the D-street is seeing a sign of revival in the numbers. Let's see if the enthusiasm is overdone or not.

First of all, the D-street is forgetting about the big increase in taxes levied by the FM in budget of 2009, i.e. MAT has been increased from 15% to 20%. This change in policy itself increases the taxes by around 33%, 20/15=1.33, it is that simple. Secondly, many companies did not pay higher advance tax in first quarter since MAT recommendation came in budget only on 2nd July 2009, well after the first advance tax was already paid. So YoY comparison of taxes is not going to help.

Some articles are comparing QoQ advance numbers which is worse than comparing YoY numbers since first quarter advance tax paid by companies is 15% of the estimated taxes for the full year while the second quarter advance tax paid by companies is 30% of the estimated taxes for the full year. Read the article on the website of Income Tax Department. The companies have to pay not less than 15% taxes by June 15 and not less than 45% taxes by September 15.

With these two points in mind, it is clear that by adding the advance tax of June 15 with September 15, we can calculate the estimated taxes that the company expects to pay for FY2010. Here is the table:

AT=Advance Tax
CompanyQ1 ATQ2 ATTotal ATTotal AT/0.45 = Estimated FY10 TaxActual Tax for FY2009Estimated FY10/Actual FY09 change
Tata Steel23040063014002113-33.75%

RIL and TCS already has to pay 33% higher tax due to higher MAT so RIL taxes will actually go down after MAT increase is considered. Tata Steel stock went up by 8% today with this news of higher QoQ advance tax. Nobody can stop bulls!!!!!
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Wednesday, September 9, 2009

How wrong financial analysts can be?

I would bring to your notice one of the worst financial analysis, in my humble opinion, done by an analyst while comparing two companies. Read the report here. The report compares performance of Bharat Forge with that of Infosys at the peak of auto demand in June 2005. The share price of Bharat Forge at that time (adjusted for 5:1 split) was INR 286.78 and that of Infosys (adjusted for 1:1 bonus) was INR 1106.39. Today the share price of Bharat Forge is at INR 217.2 while that of Infosys is INR 2192.2. Thus during the last four years and three months since this article was written, Bharat Forge has given -24.27% returns while Infosys has generated 98.14% returns. Simply put, the analysts at that time was comparing apples with oranges. Although this seems easy in hindsight, the comparison itself was wrong in the first place. One is a manufacturing business while the other was a services business. As many great investors know, services can command higher EBITDA margin and have big entry barriers. Manufacturing has lower margins, higher competition and low entry barriers. The only conclusion is : take everything that is being said on Dalal Street with a pinch of salt.
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Fru****ted Promoters?

I want to introduce to you one fru****ted promoters, that of a company named FDC. Have you seen good companies buying back their shares at lifetime high price? (please exclude AA group companies from good companies). FDC is going to do that as mentioned here. The company is buying back its share upto a maximum price of INR 60 while the lifetime high for the company's stock price is INR 66 made on date 15 Dec 2004, yes almost 5 years back. That is the only reason why promoters are fru****ted. It has been five years and the company's stock price has gone down instead of going up. What about fundamentals? The companies profits have increased from INR 66.27 Crore in FY2004 to INR 83.21 Crore in FY2009, an increase of 25.6% while the stock price has gone down from INR 66 to INR 51.4, a reduction of 22.2%. This is not it. The company already bought back 51.82 lakh share at an average price of INR 34.31 aggregating INR 17.78 Crore during the first buyback plan announced on November 18, 2008. So the equity capital has decreased by around 3%, i.e. the market cap of the company from peak of INR 1263.64 Crore has gone down to INR 962.28 Crore i.e. by 23.85%. How is P/E of the company affected? The P/E in December 2004 was around 19.15 while today it is 11.56, a reduction of 40%. I agree with promoters that the company is undervalued at INR 51.4 and have a stake in the company but of course at a much lower price than the maximum buyback price. Happy Value Investing!!!!
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Tuesday, September 8, 2009

Something out of the box

The quote that feels more relevant in today's environment:

"nothing sedates rationality like a large dose of easy money"

-Warren Buffett
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Saturday, September 5, 2009

Are some services overpriced?

I would like to bring to notice the warranty/disclaimer provided by two of the most profitable services businesses:

1. Computer Software Product : Here are some quotes from sample text of disclaimer/warranty provided by one of the biggest software product companies:
  • Without prejudice to any other rights, XYZ may terminate this EULA if you fail to comply with the terms and conditions of this EULA.
  • XYZ warrants that the Software will perform substantially in accordance with the accompanying materials for a period of ninety (90) days from the date of receipt.
  • Supplements or updates to the Software, including without limitation, any (if any) service packs or hot fixes provided to you after the expiration of the ninety day Limited Warranty period are not covered by any warranty or condition, express, implied or statutory.
  • Except for any refund elected by XYZ, YOU ARE NOT ENTITLED TO ANY DAMAGES, INCLUDING BUT NOT LIMITED TO CONSEQUENTIAL DAMAGES, if the Software does not meet XYZ's Limited Warranty, and, to the maximum extent allowed by applicable law, even if any remedy fails of its essential purpose.
  • Any replacement Software will be warranted for the remainder of the original warranty period or thirty (30) days, whichever is longer, and XYZ will use commercially reasonable efforts to provide your remedy within a commercially reasonable time of your compliance with XYZ's warranty remedy procedures.
  • Except for the Limited Warranty and to the maximum extent permitted by applicable law, XYZ and its suppliers provide the Software and support services (if any) AS IS AND WITH ALL FAULTS.
  • Notwithstanding any damages that you might incur for any reason whatsoever, the entire liability of XYZ and any of its suppliers under any provision of this EULA and your exclusive remedy hereunder shall be limited to the greater of the actual damages you incur in reasonable reliance on the Software up to the amount actually paid by you for the Software or US$5.00.
2. Credit Rating Agencies : Here is a sample text from disclaimer of renowned rating agency in India.
  • XYZ does not guarantee the completeness or accuracy of the information on which the rating is based.
  • XYZ is not responsible for any errors and especially states that it has no financial liability whatsoever to the subscribers / users / transmitters / distributors of this product.
Both the disclaimers almost the same thing:
  • There is no warranty that the product XYZ is selling to you will perform as you or XYZ wants.
  • XYZ already knows that there are faults in the product but XYZ is not liable for the losses arising out of those faults.
What else I see common in both the industries:
  • Both of them depend too much on manpower and human skills. Ratings agencies have shifted to computer generated models lately but those models in turn are again developed by humans.
  • Both the agencies command EBITDA of over 30 to 40%.
Compare these with some of the other services industry like Airlines and Laundry. You get compensated for lost baggage in an airline or damaged clothes in a laundry and both the industries have very less profitability compared to the ones mentioned above. Can we expect a change in future?
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