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Tuesday, March 17, 2009

Stocks Affected Due To Real Estate Downtrend

Let's have a look at the concept known as ancillary industry. Ancillay industry companies are small companies which provides components necessary for big players in one sector of business and economy. Here are the companies whose business is affecting due to slowdown in real estate sector.

Take one big sector as example, say automobiles indusrty. We had big auto companies in India with booming auto sales in past few years. And so the auto components makers gained a lot from booming domestic auto sales and higher demand from global auto majors. Partial beneficiaries of this growth were auto insurance companies too.

Now with the global economic downturn and sagging automotive sales the world over, the outlook of auto component industry is in doldrums.





In the same way, the ups and downs of the real estate market have implications for companies whose future is linked to housing demand in India. The companies at risk straddle a wide spectrum of industries including furniture, granites, ceramic tiles, paints, power cables, glass and electrical equipments among others.

This sample includes 15 large companies (arranged in the order of largest to lowest FY08 sales) namely Asian Paints, Havells India, Pidilite Industries, Kansai Nerolac, Finolex Cables, Bajaj Electricals, Berger Paints, Asahi India Glass, Nilkamal Plastics, Nitco, Century Plyboard, Greenply Industries, Hindustan Sanitaryware, Kajaria Ceramics and Zicom Electronic Systems.

Past not Perfect
Indian real estate players recorded robust growth in the topline in the range of 60-90% CAGR in the last five years (FY03-08) as demand for homes skyrocketed, thanks to the booming economy and rising disposable incomes. Net profits almost doubled in the same period as costs—both commodity prices and interest costs—were down.

However, this has not translated fully and directly on the performance of the ancillary industries in the similar period. Our universe reported just 23.15% CAGR growth in net revenues between FY03-08. Of which just 15-25% CAGR is the topline of larger companies such as Asian Paints, Pidilite Industries and Kansai Nerolac among others.

However, Havells India, second largest in the list, is an exception and saw a 52% jump. On the other hand, relatively smaller companies, such as Nitco, Century Plyboard and Greenply Industries witnessed 30-40% growth. Almost all the companies in our universe are present in segments, wherein there is high degree of fragmentation.

Further, there is a threat of cheap imports from China, specially in segments like tiles and chemicals (adhesives and paints). Both these factors put pressure on prices and operating profit margins.

However, net profit rose marginally higher at 27.85% due to control over interest and depreciation costs. Here again, the list of companies contributing to the net profit growth is same as those of drivers of sales.

Checkout: Stock Market in 2009 - Stocks to Buy

Recent past, even more pathetic
The past high growth rate in the topline fell phenomenally in the Dec ’08 quarter while profitability suffered as both operating profit and net profit showed negative growth. This also pulled down the trailing four quarter performance ending Dec ’08. However, the performance when compared to the frontline real estate players was anytime better.

In addition to factors like fragmentation and cheap imports, the subdued growth in the topline is also due to the fact that majority of the revenues depend on the discretionary spending by existing consumers whose disposable incomes have been affected since last several months.

For example, the three paint companies, which form over 36% of the total revenues of our universe, witnessed a 4% growth in revenues y-o-y in Dec ’08 quarter. Further, second largest company in the list, Havells India, saw a decline of 9% in revenues while fourth largest, Pidilite saw a muted growth of 4%.

Operating profit fell due to pressure on realisations and higher input costs for majority of the companies. Despite lower depreciation costs and decline in tax provisions, net profit tanked as interest costs, a bigger component, zoomed for almost all the players. The impact of higher interest costs was so high that four companies, Pidilite, Finolex Cables, Nilkamal and Century Plyboard incurred losses for the first time since past twelve quarters.

Checkout more on Real Estate: Buying Stocks In Real Estate Sector - Stock Market Report

Pounded on the bourses
The combined market capitalisation of Rs 14,100 crore for our universe has fallen by 43% in the last six months. Majority of the mid- to small-sized companies with the market cap of less than Rs 1,000 crore have declined sharper than the larger ones.

These include names such as Finolex cables, Bajaj Electricals and Century Plyboards. Market cap of four companies such as Greenply, Zicom Nitco and Nilkamal has squeezed to double digits as compared to three digits six months back.

The price to earnings (P/E) ratio based on trailing four quarters range from 1.85 times in case of Nitco, to 19.9 times for Asian Paints. Though the P/E band looks cheap, weak business environment will cast its shadow on the companies’ future performance. Moreover, any improvement in the macroeconomic scenario and its impact on the consumer’s wallet will have a lag effect.

Read: How to buy stocks ? Buy stocks with confidence

However, long term investors can look at Asian Paints, Pidilite Industries and Zicom on declines due to their market leadership and unique position in the respective segments.
Reference: EconomicTimes.com

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