Buy AIA Engineering; target Rs 1940: Ask Securities

AIA Engineering, India’s largest high chrome mill internal supplier, is expected to generate revenue growth of 43% CAGR and profit growth of 40% CAGR over FY07-09E. This would mainly be driven by major capacity expansion to 265,000 MT by FY09E. The market for high chrome mill internals is set to multiply over the next few years, given its benefits over conventional forged products, and expected conversion to high chrome mill internals by the mining sector. AIA’s technical expertise and skills in metallurgy provides it a huge opportunity to tap this market. Our DCF analysis gives us a fair value of Rs 1,940 at which the stock will trade at a PE of 19.7x FY09E earnings and an EV/EBITDA of 14.4x. We believe AIA will continue to trade at such premium due to its scalable business model, strong growth visibility, high operating margin and limited competition. We initiate coverage with a Buy rating.

Investment highlights

Conversion to high chrome mill internals to drive demand:

The market for high chrome mill internals is set to multiply over the next few years, given its benefits over conventional forged products. Growth will be led by the mining sector, which accounts for nearly 80% of the global mill internals market. Technical expertise and skills in metallurgy provides AIA Engineering (AIA) a huge opportunity to tap this market.

Capacity expansion at an optimum time:

AIA has embarked on an aggressive capacity expansion to meet the growing requirements of cast mill internals. The expansion is coming at an optimum time given that the domestic cement and mining segments too are in a capex mode. AIA's capacity will increase from 115,000 tpa at present to 265,000 tpa in FY09E to meet the incremental requirements.

Technical barriers to limit competition:

AIA has inherited the technical expertise in high chrome media from Magotteaux, its erstwhile partner. AIA and Magotteaux together control nearly 90% of the high chrome market globally. Competition is limited due to lack of technical knowledge among competitors. With limited competition globally and manufacturing operations in India, we believe AIA is in a sweet spot.

Investment concerns

Rupee appreciation will impact earnings:

Exports account for 50% of AIA's revenues at present and will increase to nearly 70% of revenues by FY09E. In a scenario of sharp appreciation in rupee, revenues as well as profitability will be impacted to an extent.

Valuations

DCF gives a fair value of Rs1,940, initiate coverage with Buy:

In our view, aggressive capacity addition will drive the 53% volume CAGR over FY07-09E, which will lead to 43% revenue CAGR and 40% net profit CAGR for AIA over FY07-09E. Our DCF analysis gives us a fair value of Rs 1940, at which the stock will trade at a PE of 19.7x FY09E earnings and an EV/EBITDA of 14.4x. We believe AIA will continue to trade at such premium due to its scalable business model, strong growth visibility, high operating margin and limited competition. We initiate coverage on AIA Engineering with a Buy rating.





CLSA Research has recommended buy rating on Jet Airways with 12-month target price of Rs 900.

Jet reported a profit of Rs 880 million for 4QFY07 as its international business achieved break even and domestic profitability improved. Better yields coupled with lower fuel costs and lower selling and distribution expenses in international business helped the company to report strong performance. We believe that notwithstanding the seasonal cyclicality, the sector outlook remains positive given the ongoing consolidation. BUY with a price target of Rs 900. Key risk is spike in oil prices.

FY07- ends on a strong note:

After 5 quarters of rough going, Jet reported strong performance during 4QFY07. Revenues were up 23% yoy and Ebitdar increased by 53% yoy. Ebitdar margin in the domestic business was the highest in the last five quarters and the Ebitdar margins in the international business crossed 20% for the first time. Lower fuel costs during the quarter, more rational behaviour in the domestic market by all players, lower maintenance costs and lower marketing costs in the international business helped the turnaround. During 4QFY07, domestic revenues include Rs 800 million of credit of import duty license and expenses include one time Rs 160 million professional fees for the Sahara deal.

Is the turnaround sustainable?

Yields in domestic and international business have improved by 8% and 7% yoy respectively and the sequential decline is due to seasonal factors. We believe the yield improvement in the domestic market will sustain and in 2HFY08 we are likely to see fare increases. On the international routes, Jet has been able to establish itself as a credible long term player and fares have stabilised. On the cost side, we expect that marketing costs and ad spends will increase as Jet expands its international presence during the year and with new routes taking 12-18 months to breakeven, the international business is likely to slip back into the red.

JetLite update:

Presently 17 out of the 24 aircrafts of Air Sahara’s fleet are flying and Jet expects that by Oct-07 all 24 aircrafts will be flying. JetLite is operating with nearly 50% less staff than Air Sahara, lease rentals on CRJ aircrafts have been reduced, excess office premises have been released and aircraft insurance has been moved to Jet’s policy at Jet’s rates. Jet expects that JetLite’s operations would be profitable by 3Q/ 4QFY08. The strategy is to provide price sensitive travellers with a reliable option while leveraging on the group’s expertise and by sharing costs and overheads. Jet expects to spend USD 40-50 million towards launch of JetLite.

Valuations and concerns:

With increasingly better operating environment, we believe that Jet stock will continue to be rerated. Our forecasts will likely be upgraded once we receive consolidated accounts and clarity on likely change in depreciation policy. Key risks are spike in oil prices and delays in company’s fund raising plans. We estimate that total gearing as on Mar-07 was 2.9x. The company plans to raise USD 400 million by a rights offering over the next 3/ 4months.




CLSA research has recommended buy rating on Tata Power with 12-month target price of Rs 750.

We have raised our 12 month price target for Tata Power to Rs 750 to factor in improved profitability of Mumbai, Delhi licence areas and Bumi mines. Acquisition of Bumi mines, which provides fuel security for Mundra UMPP, was timely as the share price of Bumi Resources has appreciated by 60% after the deal on back of higher coal prices and increased volumes. Tata Power’s plans to quadruple its generation capacity over next 5-6 years appear achievable. Valuations, adjusted for value of investments, at 10x FY09 EPS are attractive. Tata Power is our top pick among power utilities.

MERC tariff order – better than expected returns

MERC’s multi-year tariff order allows net profit of Rs 2.4-2.7 billion over FY08-10. However, this does not factor in the efficiency incentives and equity base for new expansions. While MERC has set stringent norms for efficiency incentives, Tata Power has appealed against this to Appellate Tribunal. Given a favourable ruling for Reliance Energy on a similar case, we are hopeful about a favourable verdict for Tata Power. We expect licence area profits at Rs 2.8-3.2 billion over FY08-10. The positive impact on earnings is negated by lower interest income due to investment in Bumi mines. Our new EPS numbers factor in the 10% preferential allotment to Tata Sons.

30% stake in mines of Bumi Resources – a timely acquisition

Tata Power acquired 30% stake in two mines owned by Bumi Resources in March 07 for USD 1.3 billion, at a 12% premium to the then implied EV of Bumi Resources. Since then, Bumi’s share price has gone up by 60%. Our Indonesia mining analyst James Grubber has raised Bumi’s 2008-09 earnings by 42-67% and his target price for Bumi is 39% higher than current price. The acquisition provides fuel security for the 4,000MW Mundra UMPP – India’s largest power project, which was won by Tata Power through competitive bidding. The stake in Bumi entitles Tata Power to get coal at a discount to market rates. In our Sum-of –parts valuation, we value the Bumi stake at 9x 2008 earnings (versus current valuation of 11x 2008 PE of Bumi Resources).

Generation capacity set to quadruple over next 5-6 years

With 700MW under construction and another 5,000MW at advanced stages, Tata Power’s plans to quadruple generation capacity over next 5-6 years appear achievable. Our calculations indicate that the company should earn substantially higher than regulated returns on its Mundra project. If the company divests a part of its group investments / takes equity investors in some of its power projects it would not require substantial dilution to achieve the expansion plans. Maintain BUY.




Merrill Lynch has upgraded Rico Auto to buy from neutral with price objective of Rs 66.

Buy for 48% potential upside

We are upgrading rating to Buy (from Neutral), on renewed earnings visibility. Over FY07-09E, we expect 32% EPS CAGR, driven by surge in exports, and healthier margins. Stock underperformance has brought valuation multiples close to historic lows. Our PO of Rs 66 gives a 48% potential upside.

Stock undervalued

Prolonged stock underperformance has adequately factored earnings disappointments and concerns of strengthening rupee. Stock now trades at 11x FY08E and 8.1x FY09E EPS, close to historical lows on valuation multiples. Our PO of Rs 66 is based on 12x FY09E EPS.

Exports and joint ventures ensure strong visibility

We expect 21% sales CAGR through to FY09, driven by

(1) ramp up of supplies to key OEMs (Ford, GM), and new clients (Honeywell Automation, Volvo), and

(2) increased contribution from recently announced joint ventures.

Forecasts factor key concerns

Despite strengthening rupee and expectations of slower domestic growth, we estimate 32% EPS CAGR over FY07-09, thanks to other growth drivers. We also expect margins to expand, aided by full benefit of power cost savings, and profit from joint ventures. We also expect positive free cash flows, aided by improved utilization and slowing capex.

Upgrading to Buy

We are upgrading Rico Auto to Buy, on the back of:
1. Attractive valuations, trading close to historical lows on multiples;
2. Strong growth prospects, driven by exports, and contribution from JVs;

PO at Rs 66

We believe that valuations are attractive, given our expectations of 32% FY07- 09E EPS CAGR. Our PO is based on 12x FY09E EPS, which is similar to the one year forward multiple. Given the recent track record of operating performance, we believe that our imputed multiple albeit conservative, is realistic.

Stock underperformance an exaggerated reaction

Rico Auto stock has declined 49% since April 2006, compared to 26% rise in the BSE Sensex. We believe that the relative underperformance is an exaggerated reaction of earnings disappointments over the past year, and ignores the long term business fundamentals of the company.

Valuations extremely attractive

The stock has corrected 58% from peak levels, and trades close to 3-year low on valuation multiples. We believe that the stock is undervalued.

Price Objective Basis & Risk

Our PO is based on 12x FY09E EPS, which is similar to 2008E forward multiple. Given the recent track record of operating performance, we believe that our imputed multiple albeit conservative, is realistic. Risks are a rise in input cost, and power, appreciation in exchange rate and global slowdown.





Citigroup Research is bearish on Ansal Properties and has recommended sell rating on with the stock. The company's earnings are 20% below research firm estimate.

Solid results, but below expectations

Ansal Properties reported strong consolidated FY07 numbers, with revenues growing 137% yoy and PAT (before extraordinary items) +193% yoy. Earnings were 20% below our estimate primarily because of a lower EBITDA margin and higher interest costs.

Margin expansion lower than anticipated

Consolidated EBITDA margin expanded 560bps YoY to 25.4% in FY07, below our 30% estimate because of lower-than-expected volumes.

New developments

Ansal Properties has entered into MoUs with two UAEbased companies, Deyaar Development and Noor Capital. The MoU with Deyaar is for developing a mixed use township where Deyaar may have up to a 40% stake; Noor Capital will invest in a township at Agra (Sushant Taj City), which was launched earlier this month, only a part of which is factored into our NAV estimate, and a group housing project in Ghaziabad (Ansal Aquapolis).

Key concerns

1) Concentration in NCR and Tier III cities in the North (87% of development), where the risk of prices softening is high,

2) high dependence on plotted development (45% of development), which limits ability to command a price premium, and

3) risk of delays in large township projects, particularly Dadri (27% of our NAV value), is high as land is still being acquired.

Maintain Sell/High Risk

We maintain our Sell/High Risk (3H) rating with the stock currently trading at a 7% discount to our NAV estimate of Rs 300 per share. We believe a 15% discount is fair value.

Company description

Ansal Properties (Ansal) is a prominent real estate developer in northern India focusing on NCR and Tier-III cities in Uttar Pradesh, Haryana, Rajasthan and Punjab. The company has development experience of 32 million sq.ft over the last four decades. Ansal is a pioneer of plotted development and townships with experience in developing some key commercial and retail properties in Delhi like — Ansal Bhawan, Ambadeep, Antariksh Bhawan and Ansal Plaza, Delhi’s first shopping mall. The roadmap for future development includes integrated townships in Tier-II/Tier III cities, IT parks, office blocks, shopping malls and hotels. In FY07 the company merged with Ansal Township & Projects Ltd, a group company engaged in construction and township development.

Investment thesis

We rate Ansal Properties as Sell/High Risk (3H) rating and target of Rs 255, based on 15% discount to our NAV estimate of Rs 300. Ansal has aggressive plans to develop 195 million sq.ft and has secured most land (except Dadri project of 2,500acres). The strategy to operate on a develop-and-sell model should provide it with requisite cash flows. Management plans to build 38 large townships in the NCR and Tier III cities in the north, but execution ability and softening prices in the region are risks to growth. We expect rapid earnings growth over FY07-09E on increased volumes, and higher margins. This should, however, moderate significantly in the future. We believe the stock's performance will largely be determined by its NAV and consider a 15% discount to NAV as fair value.

Valuation

Our target of Rs 255 is based on a 15% discount to our estimated NAV of Rs 300. This discount is attributable to the company’s : 1) concentration in the NCR and Tier III cities in north India where the risk of soft property prices in the nearterm are high, 2) large exposure to plotted development (45% of development), a low value-add business, and 3) risk of delays for some of its large township projects, particularly the Dadri project where land is still being acquired. Assumptions are: 1) market prices remaining at this level with no price inflation, 2) development volume of 179 million sq.ft (16.4 million recognized as revenue in FY06-07E), 3) most of the projects are completed as per schedule, except some large township projects where we expect sizeable risks of delays, 4) average cost of capital of 14%, and 5) a tax rate of 33%.





Accumulate Power Finance: Edelweiss

Strong business outlook

The outlook for Power Finance Corporation (PFC) remains strong, given USD 155 billion investments lined up in the power sector over FY07-12E, the company’s leadership position in power financing, superior domain knowledge, and lean cost structure. We expect its loan book and earnings to grow by 24% and 30% CAGR respectively over FY07-09E. Catalysts for the stock include:

1) ruling for tax benefits on long term infrastructure financing income to be in PFC’s favor;

2) heightened focus on augmenting fee based income; and

3) option value attached to its private equity investments in terms of performance fees.

Interest spreads to remain steady at 1.9% by FY09E

After correcting by 200 bps since FY04, we now expect interest spreads to remain steady at 1.9% by FY09E. The pressure of higher funding cost in rising interest rate scenario will be partially offset by its asset liability structure (57% of loans subject to re-pricing as against 13% of floating rate liabilities) and re-pricing benefits (Rs 70-80 billion of 3-year reset loans to be re-priced upwards by 200bps in FY08E).

RoEs to expand to 15% by FY09E

We expect PFC’s RoEs to increase to 15% by FY09E, driven by increase in leverage to 7x by FY09E and eligible tax exemption (being engaged in infrastructure financing), supported by the company’s lean cost structure and lower provisioning (better asset quality).

Advisory services and loan syndication to kick in higher fee income

Proposed ultra mega power projects (UMPP) advisory services and loan syndication contracts (worth Rs 35 billion from IFFCO) are likely to boost PFC’s fee income and support its business growth by enhancing lending operations. Fee income will also kick in from the launch of Rs 10 billion India Power Fund as PFC will manage the equity program of this fund.

Valuations - fair

The stock trades at 1.5x FY09E book (adjusted for tax benefits) and 10.6x FY09E earnings. When compared with PSU banks, PFC’s valuations are justified and we like the stock for its unique power financing play, high RoAs of 2.1-2.3%, and given no restrictions on FII/ FDI holding. We initiate coverage on PFC with an ‘ACCUMULATE’ rating.




Citigroup Research is bullish on Cairn India and has recommended buy rating on the stock with a target price of Rs 185.

Company description

Cairn India was incorporated as a subsidiary of Cairn Energy PLC (UK) to own and operate all of Cairn Plc's Indian E&P assets. Cairn India has operating interests in producing fields in KG Basin and the Cambay Basin offshore. However, most of reserves accrue from the Rajasthan Block where production commences in 2009. Post-IPO, Cairn Plc holds 69.5% in Cairn India.

Investment thesis

We rate Cairn India Buy/ Medium Risk with a target price of Rs 185, based on a 15% premium to NAV of cash flows and recovery & exploration upsides. Cairn India’s ownership of valuable oil reserves in Rajasthan (OIP of 3.6 billion boe) should generate steady cash flows from 2009, besides having potential to generate further upside from EOR and exploration. Cairn India's valuations are among the most highly leveraged to crude amongst global E&P peers, offsetting inherent operational risks. While recent bid speculation may prove ephemeral, we believe there exists potential upside from a prospective bidder willing to pay USD 60 per barrel.

Valuation

Our target price of Rs 185 is based on a 15% premium to NAVs of underdevelopment and producing assets and incorporating recovery & exploration upsides. We prefer NAV to value Cairn's assets as it has long-term visible cash flows from its existing resource base, the value of which cannot be captured using traditional near-term earnings multiples. The key assumptions for our NAV analysis are: long-term crude price (Brent) of USD 55 per barrel; first oil from Rajasthan in 2H09; crude realization at a 7% discount to Brent; cess at Rs 918 per MT; plateau production at 155-160kbpd; development capex of USD 2.3 billion; and the impact of pipeline option. Our target price is more leveraged to crude prices and less sensitive to operating parameters and/or reserve upside. We add a 15% premium to NAV to reflect the potential upside for an acquirer willing to pay c.USD 60 per barrel. The traditional valuation multiples (EV/DACF) will become more relevant as Rajasthan approaches first oil, but contingent on the extent of exploration success.

Risks

Our quantitative risk rating system assigns a default Speculative Risk rating to Cairn India as the stock has traded for less than 12 months. However, we believe a Medium Risk rating is more appropriate despite it being in the project stage due to tangible oil reserves which can be monetized, strong track record of the parent, and favorable demand-supply for domestic crude.

Key risks include: (1) Delays and cost overruns; though cost recoverable, this could impact NAVs; (2) Unfavorable ruling on the cess liability being higher than our base case of Rs 918 per tonne; and (3) Potential conflict of interest arising out of Cairn PLC’s majority ownership in Cairn India, especially in the context of the new exploration assets in India.




Merrill Lynch is bullish on Hexaware Technologies and has maintained buy rating on the stock with price objective of Rs 212.

Strengthen’s BFSI vertical

Hexaware announced its 85% Joint Venture with Pemtrad International to foray in the enterprise risk management space. Risk Technology International (RiskTech), the new entity, will provide technology intensive solutions in the domain of enterprise risk and compliance management for financial institutions worldwide. This further strengthens its presence in the Banking Financial Services and Insurance (BFSI) vertical, where Hexaware already operates in niche areas of Asset Management and Wealth Management.

High downstream revenue potential likely

Management expects the global market for risk technology to be worth USD 5.5 billion in 2007, growing at 18-24% yoy. It expects around USD 20 million of revenues in the third year of operation and expects 3x-4x downstream revenue potential from cross selling opportunities for Hexaware. It has already signed four clients and expects to sign six new clients during the next six months.

Appoints industry expert to run venture

Hexaware also appointed Peyman Mestchian as chief executive officer of RiskTech. Peyman Mestchian has vast experience in covering credit risk, market risk, operational risk and financial crime solutions and was formerly the head of enterprise risk management practice at SAS Inc and is an established thought leader in this space.

Maintain Buy; likely weak 2Q

We maintain our Buy on Hexaware. However, we expect the June quarter to be weak led by appreciating rupee and salary hikes. While order inflow was strong last quarter, we would watch out for progress on revenue growth in the testing vertical (Focus Frame), order intake and efforts to ramp up profitability.

Price Objective Basis & Risk

Our PO of Rs 212 is at 15x CY08e (diluted) PE, which we believe is fair given the implied target 2 year PEG of 0.95 (<1), and lower than the current multiple of 16x CY07e (diluted) PE.

Risks: Slower than expected margin expansion, risk to PeopleSoft Implementation revenues (30%) and industry-wide risks of growing competition, wage pressures and rupee appreciation.




Merrill Lynch research is bullish on Jet Airways and has recommended buy rating on the stock with upgraded target price of Rs 956 from Rs 726. The company's Q4 results exceeded research firm expectations.

Results beat expectations

Jet’s Q4 results exceeded our expectations, with net profit at Rs 880 million (MLe Rs 458 million). This was driven as much by strong seasonal demand as by control on costs, resulting in a sharp increase in EBITDAR margins at 23.2% (MLe 17.9%). We are therefore raising EBITDAR forecasts by 4.5% in FY08 and 11.3% in FY09. This overrides our expectations of muted H1 FY08, on lower domestic yields and international load factors.

PO raised on strong medium term prospects

Our upgraded PO of Rs 956 (from Rs 726) is based on 8x estimated FY09 Cash EPS, for Jet’s consolidated operations with Jetlite. This is slightly higher than valuations of global growth airlines, given expectations of Jet’s stronger growth rates.

Domestic outlook improving

Jet’s yields have improved 11.8% during the quarter and 4.6% in FY07. Short term aberration notwithstanding (competitor Indian has been slashing fares recently), we expect recent consolidation moves in the industry to improve yields over the medium term. We also expect domestic demand to remain robust at ~25% annually, with Jet and Jetlite well positioned to tap growth.

International expansion to drive growth

Jet’s future lies in the expansion of international operations, mainly US, Africa and entry to the lucrative Middle East market. Given the track record, we expect individual routes to break even within a short span of 12-15 months from startup. Our estimates indicate international operations will contribute 40% to Jet’s revenue by FY09E, and the strongest incremental earnings driver.