Next Samvat Will Be All About Earnings Acceleration, Envision’s Nilesh Shah Says
Next Samvat will be all about earnings acceleration, said Nilesh Shah.
Disruptions caused by the nationwide uniform tax and an unprecedented note ban will no longer be an alibi for the lack of pick up in earnings, according to Nilesh Shah, managing director and CEO at Envision Capital.
In fact, he said the next Samvat (Hindu new year) will be all about earnings acceleration.
“We see the next four quarters of very strong growth for the corporate India and the economy,” Shah told BloombergQuint in an interview.
Shah said he is seeing plenty of participation from domestic names in equities. However, he is no longer betting on global liquidity for the next 12 months. “The party continues till the music is on,” he said.
Sector-Wise Picks
Shah expects next four quarters to be very strong for the information technology industry. Some mid-cap IT companies may even see a double-digit growth, he said.
Bullish On
- Cement
- Travel and Hospitality
- Industrial Consumer Goods
- Private Banks
Bearish On
- Commodities
Watch the full interview here.
Here are the edited excerpts of the interview
How is your portfolio prepared for Diwali?
We are long-term investors, so we don’t prepare for Diwali. It’s imperative for earnings to catch up for next year or so. It’s going to be a very important year. Over the next 12 months, issues like GST or demonetisation should not be the alibis for earnings to not catch up. It will be going to be the year of the earnings (pick up).
We believe that the worst is going to be behind the economy. All the challenges to do with the demonetisation and GST, would have ironed out. Corporate India will be on a low base. So, performance will be required over a lower base. That’s something which is likely to happen. We see the next four quarters of very strong growth for the corporate India and the economy.
The reaction on mid caps and small caps are strong and they are lasting. There seems to be real strong interest for the small cap and mid-cap currently. Dangerous or par for the course?
As long as it is merit in each individual’s idea, that’s fine. But we are seeing these phenomena spread to a larger universe of the small cap side. The mid cap seems to be bit sideways and sluggish for last 2-3 months and that’s getting reflected in mid-cap index. The small-cap index continues to make new highs.
It’s symptomatic for the bull market that we are in. It’s a bull market fueled by liquidity, there is a lot of participation by domestic players. Any specific name of a brokerage or an investor which gets attached to a stock and there is a leap of faith where the broader community takes, and you see liquidity chasing that name.
On an overnight basis, some of this stock go up by 30-40 percent. The challenge is in this environment most people are focused on a target price rather than saying what’s the underlying value.
As long as the music is on this will continue. It’s only when the music stops, we will see the other side of the mid cap and small cap... when liquidity gets sucked out. What happens when there is lack of buying; then really what happens.
From this Diwali to next Diwali, do you see the events that may constraint amount of liquidity which is flowing around?
Over the next 12 months or so, I don’t think that we should bet on global liquidity at all. For global liquidity, we have seen from last month or two that it is gradually withdrawing itself. Virtually on most days, we have seen foreign investors were net sellers. In the next 2-3 months, the Fed is going to hike rates again. The balance sheet adjustment of the U.S. Fed will start trickling in.
Over the next 12 months, we should not expect global liquidity.
But we are more driven by domestic liquidity.
Yes. In last months it is domestic liquidity which is at center stage, we believe it will sustain. We still continue to bet on domestic liquidity. Having said that, the big event for the next four quarters is the earnings momentum. We have seen the economy doing a lot better. We are positive on the investment cycle. We are a lot more positive on sluggish housing activity, which is there right now. We think that it will start gathering momentum in a quarter or two. The positives of GST will start playing again in a quarter or two.
To us, the next summer is all going to be earnings acceleration, sustaining of domestic liquidity, and it is going to be where the global liquidity could be the risk over the next Summer.
This quarter is showing a turn for midcap ITs, at least the delivery that they have done early quarter. Is it too early to judge that midcap IT can turn the table because valuations are there but they need the earnings delivery?
We are in the camp that there will be earnings growth in double-digits for the overall IT pack. If you look at this quarter, Tata Consultancy Services Ltd. said that it is preparing for double-digit growth. If you look at IT companies, you see them exercise some levers. Earlier, the levers could be upping the utilisation rate. This time you have seen them rationalising on their selling and marketing expenses. You have seen them let go the under-performers. So, you have seen that fourth quarter of last financial year and first quarter of this year is that the margins are bottomed out.
This Q2, especially in some mid-cap names, we have seen the uptick in margins. If you see the earnings call of some of these companies, one or two companies have come out of this numbers, they are extremely optimistic on margin recovery over the next two quarters. That’s very interesting. As we step in the next financial year, we think that the revenue growth is going to be in low double digits which will further bring the margin uptick.
From the next financial year onwards, we are sanguine and we believe that the earnings growth in mid-cap IT will be in double-digits. We have not seen from the last 2-3 years but it will start shaping up. Valuations are a 50 percent discount to the broader mid-cap index. A lot of IT companies are putting cash to work by aggressive buybacks which is very positive. It reminds you of corporate America, which three to four years back went to an aggressive buyback spree. You are seeing the impact of all of that, in terms of market capitalisation and the uptick in stock prices.
We think that the mid-cap IT or IT pack, in general, is at the cusp of the phenomena over the next four to six quarters.
Could the consumption based NBFCs growth will stay for the next few quarters?
It looks like that. I don’t think the growth will be the challenge for them, for the entire NBFC pack and for those NBFCs which are focused on consumer financing. Growth will not be challenge for them, if you are talking about growth rate of 20-25 percent. The growth could be in terms of the AUM growth, the disbursement growth, all that is quite possible. The challenge could be in terms of trying to preserve margins because competitive intensity is going up.
For example, HDFC bank now has a dedicated NBFC i.e HTP financial services which are looking on that. Look at the cost of capital of somebody like HDFC bank, look at their cost of capital, size, access to technology, execution process, reach. All five ingredients you could look for the business plan to succeed are there with your competitor.
One needs to keep that aspect in mind that it is quite possible to see the loan growth happening at that pace but there could be some kind of impact in terms of margins. Therefore, it may not translate entirely to profitability. But, the NBFCs are trading at fantastic valuations, so they go ahead and raise capital for those valuations which adds to the PAT (profit after tax) growth because there is no interest cost which you pay on it. Real measure has to be the credit cost and return on equity (ROE). Can you sustain that ROE? Because when you raise capital for this kind of valuations it adds to your net worth and can you generate similar return ratios. That will be the key parameter or variable to watch out for.
The micro finances stock has been moved up. Do this companies have the sustainable business model or will they be looking at suitors?
Absolutely. I think micro-finance companies on a standalone basis have no business model. It’s very vulnerable to have the business model. Every MFI or the leading MFI has converted themselves to a bank. If you look at top five, two have got acquired, Bharat Financial this year and last year Grama Vidiyal got acquired by IDFC Bank. So, these are the two which got acquired. Ujjivan, Equitas, Bandhan, all of them are converted into a small finance bank or full-fledged universal bank. So, writing on the wall is clearly there. There is no sustainable standalone business model for an MFI. It’s important that they became part of an overall platform like a bank.
Will small finance bank model will sustain?
It is to be tested. It’s still early days. Challenges of setting up a bank and making it profitable are there. There is cost of compliance and then you have to make statutory requirements which may depress ROE. Is there a case for small finance bank? Yes, but one has to see the execution over the next couple of years. But it is better to be SFB than to be a standalone micro finance. On a relative basis, there is a case for small finance bank.
If you have to beat on one theme, from this samvat to next samvat, would it be capex intensive plays, IT or something else?
IT is there but it may not a completely big bang, it will do well. Our premise that the economy is going to be better, core sectors will be better. Three things we are looking at...
- One is a quality real estate play, a company which is in the home or property development. RERA is positive for large organized players. So, that’s one important theme. It’s still a sector which is looked upon with a lot of suspicions and that’s where the opportunity is.
- Tier II cement stocks have corrected. We believe that lot of pressures that they are facing with GST, increase in raw material prices, etc, all will get even out once the demand starts picking up. That’s the second area.
- Because we are positive on core sectors picking up, a lot of companies which are in fast-moving industrial consumables, companies which make abrasives, etc. That’s the pack we like. So, these are the three kinds of ways to play the resurgence in the Indian economy for the next four quarters or so.