The midcap advantage - March 2019

March 11, 2019

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Table of Contents Page No.

Is it time to ride on mid and small cap stocks? 3

Mid cap valuations at favorable risk reward 4

Geopolitical developments may have preponed buying 5

Mid cap price correction snapshot 6

Stock recommendations

Steel Authority of India Ltd. 8

Siyaram Silk Mills Ltd 9

Varun Beverages Ltd 10

Navneet Education Ltd 11

Capacite Infraprojects Ltd 12

JK Cement Ltd 13

Inox Leisure Ltd 14

Disclosure 15

Mid and small cap index surged 160% and 165% respectively over January 2014-January2018. However, over January 2018 to January 2019 mid cap and small cap indices declinedby ~15% and ~30% respectively, whereas Nifty, during the same period has outperformed(up by 5%).

The steep decline in mid and small cap indices since January 2018 was on account of (a)inflated valuations, (b) re-categorization of mutual funds by SEBI, (c) corporate governanceissues in several companies, (d) macro headwinds, and (d) the NBFC mayhem led byliquidity concerns. Further, the sell-off of pledged shares added to the carnage.

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Is it time to ride on mid and small cap stocks?

Source: Bloomberg, IIFL Research

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Small cap Mid cap NIFTY

PE multiples for mid and small cap indices substantially expanded from 12.9x & 9.6x inJanuary 2014 to 23.1x & 17.5x in January 2018, respectively, and receded to 16.3x and11.2x in January 2019, respectively.

As a result, valuations of most mid and small cap stocks have become reasonable. The midcap index is currently trading at ~16x 12M blended forward P/E (small cap index at ~14x).

The prospects of the current government coming back to power in upcoming election hasimproved significantly given the recent turn of events in the geopolitical landscape. Thishas boosted investors’ confidence in market, leading to a rally in mid and small cap stocksfor the past 10 days.

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Midcap valuations at favourable risk reward

Source: Bloomberg, IIFL Research

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Mid Cap P/E 1+ STDV 1- STDV 5Yr Avg.

Geopolitical developments may have preponed buying

Improved sentiment has resulted in investors returning to market who until now wereawaiting election results.

A decisive government is always good for the markets, and that is how the market seems tohave been viewing the situation at the moment.

Although the geopolitical environment will keep markets cautious over the near term, thecurrent price levels are looking attractive for selective buying in the broader markets.

Back in 2008 and 2013, when 30% of the stocks in BSE-500 went below the 200DMA, themarket found a bottom and the trend reversed into a buyers’ market. The current levelssuggest that the broader market may have possibly bottomed-out now.

In our opinion, considering the robust earnings and attractive valuations, select mid andsmall caps are likely to rally over the coming 3 to 4 quarters.

We thus recommend seven stocks which are available at compelling valuations and areestimated to provide healthy returns over a period of one year.

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Most mid caps have corrected meaningfully

Company Name 52W High Date

52W High Price

Latest Price Change (%) TP Upside

(%)

Steel Authority Of India 13-Jun-18 91 54 -41.3 71 33

Siyaram Silk Mills 09-Apr-18 768 380 -50.4 481 27

Varun Beverages 01-Feb-19 848 807 -4.9 996 24

Navneet Education 16-Mar-18 161 108 -33.1 133 23

Capacite Infraprojects 24-Apr-18 374 237 -36.6 286 21

JK Cement 16-Mar-18 1048 811 -22.6 977 21

Inox Leisure 08-Mar-19 309 306 -1.1 367 20

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STOCK RECOMMENDATIONS

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SAIL, the largest PSU and second largest steel producer in India, is set to benefit from thenear term strength in domestic demand and recovery in international steel prices. The spikein iron ore prices internationally on supply loss from Vale’s mining accident is likely to sustain.Further, international steel prices are also expected to remain elevated due to production cutsin China, benefitting SAIL (vs. domestic peers) due to its 100% captive sourcing.

Domestic demand is likely to remain strong in the near term owing to seasonality; thepotential re-instatement of MIP is expected to drive domestic steel prices and enhance theprofitability of domestic producers. The ramp-up in volumes post completion of newfacilities at Bhilai and modernization at other plants are likely to drive volume/revenueCAGR of 14%/13%, respectively.

We value SAIL at 6x FY21E EBITDA and recommend Buy with a target price of `71.

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Financial Summary

Steel Authority Of India (SAIL)

CMP: `54 BUY TP: `71 Upside: 33% Tenor: 1 Year

Consolidated (` Cr) FY18 FY19E FY20E FY21ERevenue 57,559 65,710 74,920 83,440EBITDA (%) 8.0 14.3 13.6 14.8PAT -482 1,935 2,642 4,048EPS growth (%) 83.0 501.7 36.5 53.2ROE (%) -1.3 5.1 6.5 9.0P/E (x) -45.9 11.4 8.4 5.5EV/EBITDA (x) 14.8 7.2 6.6 5.4

*Price and valuation ratios as on March 8, 2019

Leading textile manufacturer Siyaram Silk Mills Ltd (SSML) is expected to benefit from theexpanded retail presence and commencement of its dyed yarn (indigo) facility. We expectrevenue CAGR of ~11% over FY19-21E due to (a) robust growth of the garment segment and(b) increase in the share of branded products sales (viz. Oxemberg, J Hampstead) as well ashigh end brand Cadini.

The declining pressure on working capital is likely to help generate healthy operating cashflows going forward. Also, we expect the ROE to expand by ~200bps to 17.2% by FY21E.

The increasing proportion of high-margin fabrics in sales mix is likely to drive PAT CAGR of~24% over FY19-21E. The stock is currently available at an attractive valuation of 10.3xFY21E EPS.

We recommend Buy with a target price of `481 (13x FY21E EPS).Financial Summary


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Siyaram Silk Mills Ltd

Standalone (` cr) FY18 FY19E FY20E FY21ERevenue 1,733 1,885 2,137 2,341EBITDA Margin (%) 14.2 13.6 14.1 14.3Adjusted PAT 115 111 142 170EPS growth (%) 26.5 -3.8 29.5 36.3ROE (%) 18.1 15.2 16.7 17.2P/E (x) 15.2 15.8 12.3 10.3P/B (x) 2.6 2.4 2.1 1.9


Varun Beverages (VBL), which now has 80-85% control in PepsiCo India’s volume, has hugegrowth potential given India’s low per capita soft drink consumption and market share gainopportunities in new territories.

The recent acquisition of PepsiCo’s franchise rights in southern and western India willenable VBL to control a major portion of PepsiCo’s volume in India. Thus, we expect ~25%volume CAGR resulting in a revenue CAGR of 29% over CY18-20E. PAT CAGR is estimated at42% over the same period.

Given VBL’s low capex requirement in the near future (with most organic and inorganiccapex done by CY19E), we expect its FCF and return ratios to improve CY20E onwards.

We recommend BUY with a target price of `996 (12.5x CY20E EV/EBITDA). The stock iscurrently trading at 10.5x CY20E EV/EBITDA.

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Financial Summary

Varun Beverages (VBL)



Consolidated (` Cr) CY17 CY18 CY19E CY20ERevenue 4,003 5,105 7,138 8,526OPM (%) 20.9 19.7 18.1 19.4Adjusted PAT 210 293 381 590EPS yoy growth (%) 395.8 39.3 30.2 54.8ROE (%) 12.1 15.5 14.7 17.3P/E (x) 69.8 50.1 38.5 24.9EV/EBITDA (x) 20.6 17.2 13.9 10.5

Navneet Education (NEL), leading book publisher and stationery manufacturer, is set tobenefit from its entry in the CBSE curriculum via its acquisition of Indiannica. It currently has5,000+ titles and 225+ authors under its brands. The company has a market share of over60% in educational publishing in Maharashtra and Gujarat.

Navneet Education is expected to report revenue CAGR of 14.4% over FY18-21E aided bychange in syllabus by Maharashtra and Gujarat state boards. Navneet is expected to registerPAT CAGR of 22% over FY18-21E.

The stock has already corrected ~33% from its 12-month high, making it available at anattractive valuation. NEL’s tie-ups with schools and state boards provides strong revenuevisibility.

We recommend BUY with a target price of `133 valuing at ~13x FY21E EPS.

Financial Summary


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Navneet Education Ltd

Consolidated (` cr) FY18 FY19E FY20E FY21ERevenue 1,204 1,430 1,576 1,803EBITDA Margin (%) 22.8 20.3 20.9 20.7Adjusted PAT 127 172 202 231EPS growth (%) -25.4 35.1 17.4 14.4ROE (%) 17.6 23.0 23.8 23.9P/E (x) 16.3 14.1 12.1 10.5P/B (x) 3.4 3.0 2.7 2.3


Capacite Infraprojects is a fast-growing construction company focused on residential,commercial, and institutional buildings. It presently has an order book (excl. the BDD Chawlproject) of ~`7,500cr (implying ~4.3x book-to-bill).

A healthy order book coupled with a decent pace of execution will lead to strong revenuevisibility of ~22% CAGR over FY19-21E. On-track execution with some short-cycle ordersand operating leverage should aid stable margins.

Steady top-line growth, lower finance costs, better book-to-bill ratio, and stable EBITDAmargins should translate into ~29% PAT CAGR over FY19-21E.

The stock is currently trading at 9.1x FY21E EPS. We recommend BUY with a target priceof `286 (12x FY21E EPS).

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Financial Summary

Capacite Infraprojects Ltd


Standalone (` Cr) FY18 FY19E FY20E FY21ERevenue 1,336 1,790 2,207 2,661 OPM (%) 15.2 15.1 15.1 15.1 Adjusted PAT 79 106 136 177 EPS yoy growth (%) -27 34 30 29 ROE (%) 15.0 13.1 14.8 16.4 P/E (x) 20.4 15.3 11.8 9.1 P/BV (x) 2.1 1.9 1.6 1.4


JK Cement (JKCEM) has a total grey cement capacity of 10.8mtpa across North and SouthIndia and 1.2mtpa white cement capacity in Fujairah, UAE. We expect JKCEM to posthealthy performance aided by (a) capacity expansion (clinker capacity rise by 2.5MTPA andgrey cement grinding capacity rise by 4.2MTPA by FY20E), (b) benefit from the efficiency(lower coal and power consumption) of the new plants, (c) infrastructure projectannouncements in Maharashtra, and (d) strong performance of white cement (pricing at2.5x that of grey cement).

Thus, we expect JKCEM to report revenue CAGR of 12% over FY18-21E aided by ~11% greycement volume CAGR. It is currently trading at $85/tonne vs. industry average of$120/tonne for FY20E.

We recommend BUY with a target price of `977 (10x and 8.5x FY21E EV/EBITDA for greyand white cement, respectively).

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Financial Summary

JK Cement (JKCEM)


Consolidated (` Cr) FY18 FY19E FY20E FY21ERevenue 4,846 5,170 5,699 6,735OPM (%) 16.2 15.3 16.2 16.1PAT 326 272 340 371EPS Growth (%) 23 -16.5 24.8 9.1ROE (%) 16.5 11.9 12.6 12.1PE (x) 17.4 20.6 16.7 15.0EV/EBITDA (x) (Blended) 10.6 10.6 9.1 7.7


Inox Leisure Ltd (Inox), India’s leading multiplex chain, has presence in 67 cities with ~557screens. New premium screen additions and content pipeline are expected to drive revenuegrowth.

Inox is expected to report revenue CAGR of 17.3% over FY18-21E, also aided by robustgrowth in advertisement revenues. We expect the EBITDA margin to improve ~180bps to17.4% over the same period owing to an increase in occupancy rates.

Inox has been able to maintain its F&B margins despite price cuts in several areas ofMaharashtra. Deal renewals with ticket aggregators, increasing spends per head, and therecent capital infusion by promoters (`160cr) are favorable for the company.

Hence, we recommend BUY with a target price of `367 valuing it at ~22x FY21E EPS.

Financial Summary


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Inox Leisure Ltd

Consolidated (` cr) FY18 FY19E FY20E FY21ERevenue 1,348 1,604 1,885 2,176EBITDA Margin (%) 15.6 16.8 16.9 17.4Adjusted PAT 65 105 130 171EPS growth (%) 92.9 60.0 24.4 31.5ROE (%) 10.1 12.6 12.9 13.5P/E (x) 47.9 29.9 24.1 18.3P/B (x) 4.2 3.4 2.8 2.4


Recommendation Parameters for Fundamental/Technical Reports:

Buy – Absolute return of over +10%Accumulate – Absolute return between 0% to +10%Reduce – Absolute return between 0% to -10%Sell – Absolute return below -10%

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The midcap advantage - March 2019