Sector selection and Stock Selection for superior returns in Investing

Sector selection and Stock Selection for superior returns in Investing

Introduction 

Outcomes from the past if analysed thoroughly can help one arrive at various observations which can be used for better decision making in future. Sector selection is an important aspect in stock selection process for investing. Have you ever found any power company in the past that has provided extra-ordinary or superior returns to shareholder ? The answer from your end would be a NO in 99% cases for power companies. Similarly a lot of FMCG companies have provided multi-bagger returns in the past has been observed. So what is the fundamental difference ? Businesses which have natural demand, monopoly or some form of competitive advantage normally provide superior returns to shareholders in the longer run. Businesses like food products, alcohol, condoms, paint, pharma etc. fall in the above categories. Capital intensive businesses like energy, telecom, defense, steel, mining etc. generate relatively lower returns in their business and so shareholders value increases at a slower rate in such business. If one can understand these fundamental points than success rate in investing can be enhanced substantially.

"EFFICIENCY" is the driving Factor :

Stock selection process in investing is more or less revolving around Efficiency. Whether we are looking at returns or valuation or debt or any other factor. All we are looking for is to invest in an efficient business which can generate superior return with lesser capital and lesser risk.

Top-Down Approach : In this approach one identifies first the sector in which one wishes to invest and then looks for the best available companies in the sector.

Bottom-up Approach: In this approach one identifies first the stock in which one wishes to invest and then performs sector study to arrive at conclusion whether it is fit to invest.

Both the approaches are equally valid and effective. However, one point is to be kept in mind that investor must go across and understand primary information for all the sectors so that they can chose the best sectors and best stocks.

Sector Selection Important points : 

• Investing in sectors which have asset-light business model normally provides superior returns to Investor in the long-run. Eg. FMCG, service industry etc.

• Sectors which have natural demand for the products or services are attractive for investor. Eg. Pharma, consumer products etc.

• Sectors which are capital-intensive shall be avoided because larger capital is required for growth in such businesses and so the return on capital is lower for such stocks. Also as the technology keeps changing up gradations have to be made continuously on large scale basis so growth happens at a slower pace.

• Sectors which are highly regulated shall be analysed carefully before investing because change in government regulation can impact the returns in the stock. Eg. Insurance, real estate etc.

• Sectors which are unique or have some competitive advantage in the listed space can have potential for superior returns. Eg. Listed Art company or listed company manufacturing gas valves etc.

• Sectors which have a huge present and potential market size are good from investment perspective. Because as the market size is huge, the margins of such business is less likely to decline in future.

Fundamental Analysis or Technical Analysis ? Which is more effective to profit from Stock Market ?

Fundamental Analysis : 

Fundamental Analysis attempts to measure a stock's intrinsic value by examining related economic and financial factors, which can be both qualitative and quantitative in nature. End goal of fundamental analysis is to derive a value for a stock which can be used to determine whether presently stock is undervalued or overvalued for investment decision.

• Fundamental analysis uses revenues, earnings, return on equity, promoter share holding, profit margins and other data to determine a company's underlying value and potential for future growth

• Fundamental analysis may also use discounted cash flow models and various other models to arrive at intrinsic value. Comparison with peer companies in the same sector and macro analysis of broad economy is also sometimes included

• Fundamental analysis is subjective in the nature in the sense that every person may perceive VALUE differently for the same stock

• One of the limitation of fundamental analysis is that it takes into account only information in public domain and within the perception of person performing the same. Eg. If government of china enacts stricter environmental rules for chemical companies then the same can have favorable impact on chemical companies in India. Person performing fundamental analysis must have a wider perception to include most of the information that is likely to impact intrinsic Value

• Fundamental analysis assumes that markets are not efficient and there is possibility to derive profit due to mismatch between present value and intrinsic value. In spite of all the clarity that fundamental analysis brings in, it alone is not enough to arrive at the timing and extent of investment/trading decision

Technical Analysis : 

Technical analysis assumes that all information studied by fundamental analysis is already reflected in the PRICE of given stock. It is a method employed to evaluate stocks by analyzing statistical trends gathered from trading activity, such as price and volume. 

• In technical analysis historical data of stock is used to understand pattern of price movement and to evaluate stocks strength or weakness on the basis of the same.

• Technical Analysis has 3 major assumptions :

1. Price moves in Trend
2. Patterns tend to repeat 
3. Everything is factored in the PRICE

• Technical analysis is of great assistance for timing the entry and exit in investment or trading decision.

Intersection of Fundamental and Technical Analysis : 

For investment decisions it will make a lot of sense to COMBINE fundamental analysis and technical analysis. Fundamental Analysis will take care of the aspects which will help one arrive at intrinsic value and technical analysis will help one arrive at the timing at which entry and exit decisions can be made.

One must have observed or experienced that many a times you would have identified a very good fundamental company and taken a long position but the stock does not move at all for long periods of time. You may eventually exit and stock moves or stocks does not move for a few years and then suddenly moves. If support of technical analysis is taken then it is possible for one to know whether longer term trend of a stock is positive or not. Likeliness of a stock to move up is higher if stock is in uptrend and fundamentals are also good ! 

BDH Industries : Small Cap Gem

                                        BDH Industries : Small Cap Gem

CMP : 76-78

BSE CODE : 524828

Market Cap : 44 Crore

LISTED ON : BSE

TARGET : 150/175

Time Frame : 24 Months 

History of the Company :

BDH Industries started off as fledging unit in 1935. It has grown into a major facility and earned global acclaim. BDH industries is engaged in the manufacturing of therapeutic formulations covering a range of pharmaceuticals. Company offers a range of oral solid dosage (OSD) technologies. The company offers its products in various therapeutic classes, such as antifungal, antibiotics, anticancer, anti-diabetic, antidepressant, anti-ulcerant, antimalarial, anti-inflammatory, analgesic, antispasmodic, anti-tuberculosis, cardiovascular, dermatological, non-steroidal anti-inflammatory drugs, psychotropic, trichology, and vitamins and minerals.

Company has state of art manufacturing plant comprising of 42,500 square feet which meets WHO GMP standards. Fully automated manufacturing system gives company unique capability to go into wide range of dosage forms such as tablets, capsules, external ointment, small volume parenterals etc.

Company exports to over 60 countries across the globe and has won many awards for its performance in the business

Main Business Activities : 

• Formulations
• Speciality Formulations

Financials of the Company : 

• Profit After Tax (PAT) for the year ended on 31st March,2018 has been reported  at Rs 3.76 Crore and turnover at Rs 41.01 Crore.
• As per the numbers as on 31st March,2018 the company has generated Return on Equity of approx. 13%,Return on Capital Employed of 15% and Return on Assets of 10%
• The company is a regular dividend paying company and has paid dividend for past 8 consecutive years.
• Debt to Equity ratio is below 1 and is reasonable in nature
• The company has carried out a major expansion in 2017 and the impact of same is gradually visible on top and bottom line in this year

Investment Rationale : Why to Invest in this Stock ??

• Shareholding of the promoters in the company is 55% indicating strong interest of promoters in the business  as on 30th December,2018
• Market Cap to Sales Ratio : 0.78  is very attractive for a Pharma Company
• OPM (Operating Profit Margin) of the company is gradually improving since past 3 years
• At current price of 76 Rs per share and EPS of 9 Rs on trailing basis, the stock is presently trading at an attractive P/E ratio of 8
• At a forward reasonable P/E of 15 and EPS of 10, we expect the stock price to soar higher atleast to 150 and higher levels in coming time.

Disclaimer Note: The above is not a research report but information as available on public domain and it should not be treated as a research report. Registration status with SEBI: I am not registered with SEBI under the (Research Analyst) regulations 2014 and as per clarifications provided by SEBI: “Any person who makes recommendation or offers an opinion concerning securities or public offers only through public media is not required to obtain registration as research analyst under RA Regulations.

Disclosure: It is safe to assume that I might have BDH Industries in my portfolio and hence my point of view can be biased. Readers should perform own due diligence before investing. We do not assume any responsibility or liability resulting from the use of information , judgments and opinions for Trading or Investment purposes on the Blog.

Uflex Ltd : A stock with Big Bargain

                                        Uflex Ltd : A stock with Big Bargain

CMP : 265-270

BSE CODE : 500148

Market Cap : 1935 Crore

LISTED ON : NSE/BSE

TARGET : 600/625

Time Frame : 18-24 Months 

History of the Company :

Uflex Ltd was incorporated in 1985. It has turned into mulit-billion dollar company in over 3 decades since inception. Uflex ltd with it's large manufacturing facilities of Packaging Films and Packaging products provide end to end solutions to clients in over 140 countries across the globe.

It is India's largest flexible packaging company. It's manufacturing facilities enjoy ISO and HACCP accreditations and its products are approved by FDA. 

Uflex has a vast production capacity of BOPET, BOPP Films, CPP Films, Printing and Coating inks, adhesives, facilities for Holography, Metallization & PVDC coating, Lamination and Pouch formation etc. Integrated within its core business profile are allied businesses like Engineering, cylinders and chemicals which give Uflex competitive edge over competitors. 

Uflex Ltd's client list include names like P&G, Pepsico, Tata Global, L' Oreal, Britannia, Haldiram, Amul, Ferro Rocher, GSK , Nestle, Coca Cola, Wrigley, Johnson and Johnson Etc.

Uflex Ltd has in current year set up first of it's kind Aseptic Packaging Plant for liquid packaging in Sanand,Gujarat with an investment of Approx 550 crores

Main Business Activities : 

• Flexible Packaging Material

Financials of the Company : 

• Profit After Tax (PAT) for the year ended on 31st March,2018 has been reported  at Rs 310 Crore and turnover at Rs 6789 Crore.
• As per the numbers as on 31st March,2018 the company has generated Return on Equity of approx. 8% , Return on Capital Employed of 9% and Return on Assets of 5%
• The company is a regular dividend paying company and has paid dividend for past 15 consecutive years.
• Debt to Equity ratio is below 1 and is reasonable in nature
• The company is carrying out regular expansion year on year basis

Investment Rationale : Why to Invest in this Stock ??

• Shareholding of the promoters in the company is 44%, FPIs 9% and Bodies corporate 12% indicating strong interest of various group of investors and promoters in the business  as on 30th September,2018
• Market Cap to Sales Ratio : 0.26  is very attractive
• Book Value of Stock at present is 596 Rs per Share, which is 55% discount to current market price of the stock. Such a huge discount to book value provides a huge margin of safety to investors making investment in the company at current market price
• Technically on chart the stock appears to be in the process of bottom formation
• At current price of 265 Rs per share and EPS of 45 Rs on trailing basis, the stock is presently trading at an attractive P/E ratio of 6
• At a forward reasonable P/E of 12 and EPS of 50.00, we expect the stock price to soar higher atleast to 600 and higher levels in coming time.

Disclaimer Note: The above is not a research report but information as available on public domain and it should not be treated as a research report. Registration status with SEBI: I am not registered with SEBI under the (Research Analyst) regulations 2014 and as per clarifications provided by SEBI: “Any person who makes recommendation or offers an opinion concerning securities or public offers only through public media is not required to obtain registration as research analyst under RA Regulations.

Disclosure: It is safe to assume that I might have Uflex Ltd  in my portfolio and hence my point of view can be biased. Readers should perform own due diligence before investing. We do not assume any responsibility or liability resulting from the use of information , judgments and opinions for Trading or Investment purposes on the Blog.

Expansion of Business Activity and Impact on Share price

Expansion of Business Activity and Impact on Share price

• Sales and profit are the main drivers of Shareholders wealth creation in the long-run. Expansion of business activity is very essential for survival and growth of business as well as shareholders wealth

• Expansion of business may be undertaken either by mode of merger/acquisition with another corporate entity or by making an addition to existing fixed assets of the company

• Expansion of business activity normally results in increased share prices due to higher sales and higher profits. Companies can carry out expansion either by : 

1. Internal accruals of existing business
2. Borrowed fund
3. Equity dilution
4. A mix of all these options

• Companies which carry out expansion from internal accruals of existing business are the best ones to invest in. Expansion carried out solely by equity dilution results in lower per-share profit to existing shareholders. Expansion carried out solely by borrowed fund might result in lower profits due to interest expense and cash flow is also impacted due to repayment of borrowed fund via periodical installments. Mix of all these options might be suitable considering capital structure and other factors specific to the company

• Companies which are functioning at maximum capacity utilization and do not carry out expansion have less scope of superior shareholder wealth creation

• Gestation period is the time taken for fixed asset to be put to use in case of expansion. In certain industries which are complex by nature the actual time taken for completion of expansion activity from it's inception is substantial and can be anywhere from 2 to 5 years. In such cases the impact of expansion on sales and profits can take time to appear on financial statements and share price might not provide sufficient appreciation during gestation period

• It is normally advisable to invest in a company 6-12 months period prior to expected completion of expansion. So that investor is able to enjoy the benefit of share price appreciation in just the time when it is about to happen rather than waiting for long years.

• Sometimes expansion fails and there is decline in share price. Historically it is visible that expansion carried out by a large proportion of borrowed funds in regulated sector like Infrastructure have failed. Also expansion carried out in sectors where major technological disruptions are visible in near future have high failure rate. Sectors which are nearing end of life cycle and are slowing down also can have high failure. These type of sectors and companies should be avoided by investors at all cost.

• Factors like tax considerations, market size, consumer demand, government policies for the sector, market sentiment, technicals on chart of stock etc. shall be given due consideration before arriving at decision of investment in the stock