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Valuations Tumbled Despite Earnings Growth For These Stocks

These stocks have become substantial cheaper but underlying businesses are expected to slow down.

A sculpture of a bull stands as an electronic ticker board displays stock prices overhead. (Photographer: Qilai Shen/Bloomberg)
A sculpture of a bull stands as an electronic ticker board displays stock prices overhead. (Photographer: Qilai Shen/Bloomberg)

Stock prices either react to earnings growth or change in valuations. A few companies, however, saw their valuations tumble even after showing a spike in growth.

The stocks, picked from among Nifty 200 Index, showed a better revenue growth in FY19 but their price-to-earnings multiple tumbled. That coincided with a period of volatility in India’s stock market when nearly half of Nifty 200 stocks declined in the 12 months, driven by slow growth or rerating of valuations.

BloombergQuint compiled a list of such stocks that are defying the earnings growth = better valuations logic.

Selection criteria:

  • NSE Nifty 200 stocks (ex-financials) with a market capitalisation of at least Rs 5,000 crore.
  • Covered by at least 10 analysts.
  • Stocks that have fallen more than 10 percent in the last 12 months.
  • Valuations declined substantially despite revenue growth in FY19.

Here’s how valuations fell and what analysts forecast:

United Spirits

India’s largest liquor maker jumped over 90 percent in 2017 following Vijay Mallya’s resignation and the company’s divestment of its non-core assets. Diageo, the company’s new owner, making a $75-million settlement with Mallya, too, helped.

However, growth tapered following the Supreme Court’s ban on liquor sale along national highways, demonetisation, higher tax rates and moderation in demand. The stock currently trades at 47 times its 12-month forward earnings compared with a five-year average of 217 times.

CLSA retains a ‘Sell’ rating on the stock due to a slowdown in consumption, input cost pressures and regulatory uncertainties. It has a 12-month target price of Rs 450 per share—a potential loss of nearly 20 percent from the current price.

Emkay Global Financial Services said the stock offers lower growth outlook compared with its peers. Given the near-term margin pressures and lack of significant long-term margin upsides, the brokerage called it expensive. It has a target price of Rs 530 per share, which is lower than the prevailing price.

Quess Corp

Shares of the human resource services provider nearly trebled since its listing in June last year. It has since corrected and is trading at 14.65 times its 12-month forward earnings compared with a two-year average of 28.5 times.

Motilal Oswal has a wait-and-watch approach for FY20 due to the following concerns:

  • Integration with Allsec Technologies Ltd., its latest acquisition.
  • Execution on overall margins.
  • Cash generation.
  • Organic revenue growth.

Also, the brokerage has kept its current rating of the stock ‘under review’, according to Bloomberg data, after the shares tumbled.

Avenue Supermarts

Shares of the retail chain operator, which listed in 2017, surged to a record in August the following year, only to decline over fears that a changing retail landscape would make revenue and margin growth difficult. The stock currently trades at 67.8 times its earnings estimates for FY20E compared with its two-year average of 117 times.

IIFL has a ‘Reduce’ rating on the stock as rising competition from Reliance Retail Ltd. and Amazon Inc. remains a risk to its annualised growth estimate of 30 percent between FY19 and FY21. It has a 12-month target price estimate of Rs 1,200 per share—about 11 percent below the current price.

Sterlite Technologies

The fibre cable supplier’s stock rose to a record in November before lower product prices, promoter revoking all pledged shares in the company and questions on growth led to a correction. PE multiple corrected to 9.05 times its forward earnings for FY20E compared with a five-year average of 33.6 times.

Emkay Global cut its 12-month target price on the company’s stock to Rs 417. “We now apply 20x FY21E PE vs. 29x FY20E PE due to the promoter share pledge overhang,” the brokerage said. “Key risks include 5G rollout delays globally and technology disruption in data transmission.”

Mphasis

The BPO operator has had a new board and some uncertainty around growth, affecting its share price.

The stock currently trades at 15.05 times its earning estimates for FY20E compared with its five-year average of 18.3 times. Motilal Oswal has a ‘Neutral’ rating on the stock as it expects recovery in digital risk to be gradual even as core business would remain sanguine. The brokerage has a 12-month target price of Rs 1,070 per share—implying an upside of about 11 percent.

Biocon

The Bengaluru-headquartered drugmaker’s stock rose to an all-time high of Rs 359 in September last year but has since slid due to valuation derating despite revenue growing 33 percent for the year ended March.

Motilal Oswal maintained a ‘Neutral’ rating on the stock but cut its earnings estimates by 7-9 percent to factor in lower branded formulation sales, increased research and development spends and higher tax rates. The brokerage values the company at 30 times its 12-month forward earnings to arrive at a price target of Rs 670 per share. To be sure, the brokerage had given its target before adjusting for Biocon’s 1:1 bonus in June.

The valuations of all these companies rose steeply in 2017 compared with their historical averages and are now reverting to the mean, said Parthiv Shah, director of TRACOM Stock Brokers Pvt. Ltd. Revenue growth, according to him, may not be translating into higher margin or profitability growth.