Value Stock - Kale Consultants

Stock Pick - Value Stock

Kale Consultants

This stock is what you call a low downside, high upside stock. Kale consultants has been in the news recently with all the rumors of it being acquired soon (first by wipro, NTT and then by InterGlobe or another European company)

The rumors have since been denied by promoters (check bse company annoncements) but the recent slump sale of one of its loss making divisions could possibly be cleanup before the actual sale.

Kale had  net earnings of 26 crores (EPS of 18.1)  last year with 40 Cr EBITDA and a healthy growth year over year. It has about 40 Cr of cash and no debt. At current market cap of about 200 Cr it has a PE of 7.6 and EV/EBITDA of 4.2 (versus average PE & EV/EBITDA of about 10 and 5.5 respectively for the smaller listed IT companies) which gives it an upside of 30-40% even if there is no control premium or deal does not happen

The slump sale of its logistics division gives it about 6-7 Cr of profit and therefore about 60 cr additional equity value. for a total possible upside of  60-70%

Value Picks - Equity Investing: Empee Distilleries (NSE Symbol - EDL)

Value Picks - Equity Investing

Empee Distilleries  (NSE Symbol - EDL)

• At Rs149 it has a market cap of 281 Crores
• It holds 2.81 Cr shares of Empee Sugars with market value (at CMP 66) of 185 Crores
• Company made a profit of about 12 crores in Q1 FY11  (double that of Q1 in FY10)  and eps of 6.2 Rs per share (non annualized and standalone). 
• It had reveneues of 900 Cr in FY10

Net value attributed to the business appears to be very low. The promoters have been recently increasing their share through open market purchase. Represents an excellent value buy and can be a multibagger especially if the company can improve its profits even marginally and improve investor awareness.

What makes it even more attractive is the high dividend yield.It has announced a dividend of 6 Rs/Share, which gives it an high dividend yield of 4% (tax free) certainly higher than your savings account which gives 3.5% yield (before interest)

Are equity analysts over-optimistic? Implications from past data

Came across the following data in a recent Mckinsey article on long term forecasts vs actual earnings. The implications are interesting

1. Analysts are (at most times) over-optimistic on growth trends and perhaps underestimate the effect of competition (companies don't exactly play tennis against a wall), challenges to scale, change in consumer taste, alternative products etc
2. Follow earning revisions after trend change in actual earnings rather than vice versa (which is their real worth)
3. However, during periods of recovery they get over pessimistic and estimate lower recovery

While this is important point to remember for fund managers who follow their advice, this has important implications for analysts, themsselves (The good ones should know this intuitively)

• Its generally more accurate to be lower than consensus
• It helps to be contrarian

This, of course is aggregate data and would be interesting to perhaps look at the top 5 rated analysts

11th Five Year Plan - Planned Expenditure On Education In India

Budget Impact on taxes: Save Rs 50 Thousand + 6.5 thousand in personal taxes

The new proposal announced today in Budget speech by pranab mukherjea provide for up to Rs 50 thousand saving for income up to Rs 8 lac. due to change in slabs. For income between Rs 3 lac and Rs 8 lac, the average reduction is 10%, across various slabs

In addition, you could save  upto ~6.5 K on additional investment in long term, government infrastructure bonds, giving a total benefit of upto 56.6 thousand

Revised Tax Slabs are as follows

• No tax for income upto 1.6 lakh.
• For income between 1.6 lakh - 5 lakh tax liability 10%. (old slab was Rs 1.6 to 3 lakh)
• For income between 5 lakh - 8 lakh 20%. (old slab was Rs 3-5 lakh)
• For income above 8 lakh 30% (old slab was Rs 5 lakh +)
• Additional investment of 20K in infra bonds over and above Rs 1 lakh in 80C

3G Auction Schedule

The Government has announced the Schedule of 3 G Auction. The auction process for 3G will follow the schedule given below:

Notice inviting applications: 25th February, 2010
Last date of submission of application: 19th March, 2010
Publication of ownership details ofapplicants: 26th March, 2010
Pre-qualification of bidders: 30th March, 2010
Mock auctions: 5th and 6th April, 2010
Start of 3G auctions: 9th April, 2010
Start of BWA auctions: Two days after the close of 3G auctions

Source: PIB

Public Private Partnerships: Why they may not be the solution?

PPP’s have become the latest buzzword in town. Politicians and Babus hawk 'Public Private Partnerships' as a silver bullet to help Indian economy achieve breakneck development while upholding government’s inclusiveness agenda. Here are my views on the matter

• India needs a huge pile of cash to develop its infrastructure, both hard and soft. Funding these is well beyond the means of the government.  
• That does not mean that government is not spending. The government spends huge amount of meney every year. The problem is that most of the money is spent on salaries and other operating expenses with little left over for new capacity expansion 
• The hope is that PPPs would attract the private sector to made the deficit investments and drive capacity expansion. Private sector responds to incentives and is looking for return on its investment. Given the large opportunity, PPP is a very attractive concept for them  
• However, in reality, the government loses all concept of partnership and sharing of risk/rewards when dealing with the private sector. It carries a huge intellectual baggage when it comes to partnering with the private sector. Take education for example, government has been allocating money for PPP for model schools every year for two years now (has been talking about it a few more years). It still has to come out with the model for sharing rewards with the private sector. It expects private sector to put money. However, whenever a model is proposed, the politicos run for cover. How can anyone make profits from education or more importantly how can the government approve a scheme which legalizes profit making from education? Does the government expect to attract all the money required from charitable organizations?  
• The problem is not just confined to one sector. Pick up any education, railways, power, roads the story is the same. The best solutions is to allow privatization, create level playing field for private players , have an independent regulator and foster competition. Healthcare and Telecom are the two sectors that stand out. Government allowed for profit companies to enter these two sectors a few years back. While there is room for improvement both private players have made healthcare and telecom available to a large number of people who otherwise were left out of government ‘inclusive’ plans

 

Are PPPs the magic wand that government hopes they are? My short answer is ‘No’

 

Working Today?

Bharti Zain Deal Analysis

Bharti has decided to acquire the Africa operations of Zain at an EV of $ 10.7 Bn . This comes after its earlier failed bid to acquire MTN.

After the recent entry of new players in the Indian market, Bharti has been desperate to acquire major presence outside of India and Africa is probaly the only large scale growth market that it can gainfully deploy its cash in.

Bharti joins the long list of other Indian companies trying to strike it big in the continent. NIIT is already making it big in the region through franchising of its IT training business

While the story is good and deployment of exess cash makes sense,  it would not be an easy task for Bharti to create value from this deal. The market senses this and which is why its stock has been punished in the last few days
As earlier discussed on this blog, the current acquisition makes a lot more sense for Bharti than its previous bid for the largest player in the contient (MTN). Can Mittal work his magic in the the region and propel Zain to the leadership position, ahead of MTN?

Are you an 'Average Person'?

Talking of averages... we have all heard the example of "...average depth of water"  trap. Here's an alternative version of that (from levitt and dubner..superfreaks)....

"The average person (man or waman) walking this earth has one b * * b and one t * * t * cle".

Next time you look at statistics, make sure that you don't fall into the 'Average Person' trap

Educomp Results Analysis

Educomp Solutions' consolidated revenues, EBITDA and PAT rose 37%, 86% and 92% YoY to Rs2.6bn, Rs1.33bn and Rs612mn respectively.


Educomp, as indicated in Q2FY10, initiated the process of securitizing its Smart_Class revenue through selling contracts to Edusmart (which borrowed from banks against receivables from schools and corporate guarantee of Educomp) where Edusmart is a non-Educomp company apparently owned by ex employees of Educomp and is independently run (Yeah right!!)

In Q3FY10, the company transferred 518 schools with contracts worth Rs980mn (on top of 300 schools in Q2FY10 with contracts worth Rs630mn). Educomp has received sanctions worth Rs4.15bn for securitisation of Smart_Class revenues from many leading banks and has received Rs2.45bn disbursement. Besides, securitisation proposal worth Rs2-3bn is under consideration.

The transfer of existing Smart Class contracts to Edusmart would be done in tranches over the next few quarters.

The apparent reasons given are

• The new Smart Class model would improve cashflow for the company
• Would address the issue of frequent equity dilution,
• Some convoluted tax saving logic (I have no idea how this is possible)


Here is my analysis of the situation


1. This is a more expensive form of debt structure except that ‘Financing cash flows’ appear as ‘Operating cash flows’ in Educomp’s books

2. People say it increases lumpiness; Incorrect. It gives them a perfect tool to smoothen earnings and show growth, as there is absolutely no logic to how many contracts are securitized in a quarter.

3. Of course this can last for a short while only. Once they have securitized all their contracts, they would have to rely on new additions every quarter(growth in which is slowing down due to increased competition and lower realizations as Educomp is forced to cut prices because it no longer has the best product in the market). After that, the growth at least if not revenues, are likely to fall off the cliff

4. Once there are no annuity revenues from smart class, they have to keep adding a large number of schools every quarter to remain at the same level. You are already seeing that in their Government Schools business (predictably, they have started to hide their Gov’t business numbers by clubbing it with the smart class segment)

5. However, I hope you would agree with me that value cannot be created (or destroyed) through accounting changes. Stripped of the accounting treatment, the organic growth in their smart class seems to be slowing

6. The fact is, that with high stakes on their stock price, Educomp simply must keep showing growth to survive. In securitization, it has found a legal way of doing so.

7. Promoter holding is already down to 50 percent and may not want to dilute more. Debt is already at 1000+ Cr (excl unconverted FCCB of another 400 Cr and not counting off balance sheet guarantees for smart class securitization) despite diluting additional 35% post the IPO.

8. Of course, the hope is that some of their new initiatives (Own K-12 schools, online learning, and hundreds of other options that Educomp is buying with its overpriced currency …read stock) would by that time (when there are no more contracts to be securitized) begin to contribute materially.

9. For now, at least one will see their numbers grow at 100% over the next year or two, with a much smaller actual growth.

Educomp Results Update

Educomp today announced a ~95% jump in net profit in Q3 FY10 (year over year) to over 61 crores. That's a fantastic growth rate. What makes it more fantastic is that in terms of topline (at 260 crores) it has started to challenge the largest training company in India (NIIT Limited). However don't get taken in by the reported growth numbers.

Educomp had changed its accounting policy recently (to securitize its earnings in the smart class segment) in Q2. So it would be interesting to see how much of this growth is due to revenues profits being pulled upfront and therefore what will be the growth rate in the coming year. The grapevine is that Educomp has resorted to slashing prices for its smart class product to keep competition out of the market.

Remember, CLSA had already downgraded the stock after Q2 results due to the same reason.

Will put an update out post analysis...

Accounting Fraud - Scoreboard Vs. the Real Game

Loved this quote from Hamel on Accounting Fraud

In too many companies, senior management has mistaken the scoreboard for the game. Quarterly Earnings are the score; customer pleasing, competitor-slamming innovation is the game. Wildly manipulating the numbers on the scoreboard is no substitute for playing the game.

Applabs - Strategic Sale: Analysis

VCCircle reported that Sequoia-Backed Testing Firm AppLabs is a considering strategic sale
http://www.vccircle.com/500/news/sequoia-backed-testing-firm-applabs-considering-strategic-sale

MNC and Indian suitors may be interested in the Hyderabad-based testing firm, which may attract a valuation of $150mn.

Sequoia Capital-backed AppLabs Technologies Pvt Ltd, a privately-held software services firm focused on the testing space, is considering a strategic sale paving a way for a full or partial exit for the five-year-old investor. The company had earlier looked at initial public offer (IPO) route as an option, however, it seems to have abandoned the IPO plans and is looking at a trade sale instead.

Sashi Reddi, the founder of AppLabs, holds substantial stake in the business while Sequoia Capital is a significant minority shareholder. Sandeep Singhal, managing director of Sequoia Capital India, holds a board seat in the company.
Sources familiar with the development told VCCircle that AppLabs was actively pursuing a plan to attract new buyers, a move that may also result in stake divestment by the investors and the founder. AppLabs is believed to have mandated a global investment banking firm to carry out the exercise. AppLabs, it is learnt, initiated the strategic sale move a year back but it was shelved on account of market conditions. In effect, that process has been revived now, sources said.

It is understood that AppLabs has received good interest from both domestic and MNC technology companies who are looking at a sizeable opportunity in the lucrative testing services segment. Research firm Gartner has reportedly pegged the opportunity for Indian offshore testing companies at around $8 billion at the end of 2008. Now, the company, which is reported to be close to the $100-million revenue mark, is looking at a valuation of $150 million (or 1.5 times the top line), the sources added.

E-mails sent to both Sashi Reddi and Sandeep Singhal last week, seeking comments on strategic sale plans, elicited no response at the time of publishing this story.

Sequoia (then WestBridge Capital) first invested $7 million in 2004 in AppLabs followed by a subsequent round of $10 million in 2006. Founded in 2001 by Sashi Reddi, AppLabs claims to be the world’s largest software testing company with a head count of over 2,000 employees across US, UK and India. AppLabs provides testing services in a range of areas such as performance, ERP, security, certification, test automation and managed testing.

AppLabs has also followed an inorganic growth path to add to scale, competencies and customers. In 2005, it acquired KeyLabs, a software and hardware testing company, followed by a $37-million purchase of UK-based testing consultancy firm IS Integration in 2006.

Interestingly, serial entrepreneur Sashi Reddi is also the founder of a game development company FX Labs, which recently released the Ghajini game, after the Aamir Khan Bollywood flick. Sashi Reddi’s hands are quite full, it would appear, as he is actively engaged in running two companies in niche and fast-growing outsourcing spaces. Is that triggering a deal at AppLabs? That is the question some are beginning to ask.
According to Sashi Reddi’s profile in the company website, he started two other companies prior to AppLabs. EZPower Systems, which was a developer of products for building large web applications, was acquired by DocuCorp and then eventually by Oracle. Subsequently, he founded iCoop, a group purchasing dotcom company which went bust.

 
Here is my analysis:
 

1. With ebitda margins at around 12 percent (Estimated) and Revenues ~100 Mn, Valuation of 150 Million looks steep (unless there is large amount of cash, which I doubt). Therefore sale to a financial  investor is unlikely (more reasons below)
2. A large strategic investor may take a view that it can cut costs and improve margin. It offers size and entry into Testing vertial . Rules out Tier 1 Indian players (have size and testing teams already). However, given the fact that one could qualify Applabs itself as a rollup operation (it has acquired scale through acqusitions- funded by Sequoia and other investors- at much lower valuations why would they pay a premium price)
3. Applabs' value proposition (or at least Sales pitch) has been that it is an independent testing company ie someone else builds the app and Applabs tests as independent third party and therefore/potentially does a better job does not Gel with a Services provider.
4. Possibly, a company like MindTree could have stil acquired it but it has already made an acquisition
5. TechM may have considered it but there are still trying to digest Satyam
6. It already claims to be the worlds largest independent tester, so little chance of a pure play testing company acquiring it.
   
7. Promoter is serial entrepreneur so he is looking for an exit
   
8. CEO is professional manager so this aids a strategic sale
   

Likely End Game

1. IPO by Applabs
2. Someone would overpay (overzealous M&A team)  
3. Re-Capitalization (Don't happen everyday in India but may be the most preferred option / should be explored)
   

 

Google - Yelp: Deal Analysis

Reuters:

"...Google Inc is in talks to buy Yelp Inc, the popular website for reviews of local businesses, in a deal that could help the Internet search leader tap a lucrative local ads market, media reports say.

Google may pay more than $500 million for Yelp, according to reports confirmed to Reuters by a person familiar with the situation. It came as the Web giant embarked on an acquisition spree that has netted at least five companies since August.

By swallowing privately held Yelp, Google would own one of the Web's most popular repositories of local restaurant and small-business information, including more than 8 million reviews penned by Yelp's users.

That trove of content and a heavy focus on local businesses could provide a valuable foothold for Google as it seeks to convince local merchants to shift their advertising spending to the Internet.

"The local advertising market is a multibillion dollar market that for all intents and purposes is still untapped on the Web," said Needham & Co analyst Mark May.

In July, Internet portal Yahoo Inc teamed up with AT&T Corp in a partnership that involved the phone company's 5,000 sales people selling Yahoo advertising inventory to local businesses.

News of the recent talks between Google and Yelp -- backed by Benchmark Capital and other venture capital firms -- and the $500 million price tag were first reported by the blog TechCrunch.

The source familiar with the situation said talks were currently bogged down by concerns among some Yelp investors that the company could be selling itself prematurely, and that it could be worth far more than $500 million if it had a chance to develop its business.

The source added that Friday's news stories may have been floated to put pressure on for the deal to be consummated at a price that was too low.

Apparently, Google has had its eye on Yelp for some time. According to one former Google executive, the Internet company had had "early discussions" with Yelp about an acquisition several years ago, but ultimately passed on the deal.

"Yelp doesn't monetize very well, so it's always a bit hard to justify an acquisition," the person said.

The local businesses that Yelp sells online advertising to are more interested in promoting their businesses through coupons than online ads, he added, noting he believed Yelp was still an unprofitable business.

Yelp was founded in 2004 and has received $30 million in funding from Benchmark Capital, DAG Ventures and Bessemer Venture Partners.

The acquisition talks are the latest in a string of recent deals by Google, including the $750 million acquisition of mobile ad firm AdMob announced in November, that are designed to extend Google's reach into new advertising markets.

The world's No. 1 Internet search engine generated roughly $22 billion in revenues last year, but has seen its top line growth slow from the 40 percent-plus clip it was managing as recently as early 2008.

Google has stepped up efforts to court local merchants recently, encouraging businesses to register their information on its small-business online directory.

But some analysts say Google will have its work cut out trying to sell online ads to local merchants more comfortable with traditional channels like local television, newspapers and the Yellow Pages.

Needham's May estimated that Yelp, which had 8.9 million unique visitors to its site in November according to comScore, is generating revenue at an annual rate of $15 million to $20 million.

"That's a pretty tough nut to crack," May said about selling online ads to local merchants. "Whether Google can crack the code on it, is still to be seen."

..."

Here is my analysis of the (potential) Google - Yelp Deal

 Google:

1. With growth slowing down, it is becoming difficult to justify the high revenue multiple on its stock price, so its seems it is buying growth or, at least in this case, a (potential) growth engine
2. Google has been trying to tap the locals market for some time but has not been able to make a splash despite its obvious strengths in search. Hopes Yelp would help it make a dent. 
3. 8 million + reviews (on Yelp) are useful (think user reviews on Amazon),  but you know, these are not exactly like product reviews on Amazon. Restaurants change and so do people's tastes. So while there is a network externality, it may not be as strong.  
4. If Yelp's reveneus are really only 15-20 million then the quoted price ($ 500 Mn) is really over the top.  Am sure if Google really commits even half of the money on local search it can do a better job.  (Build Vs Buy)
5. Surely, its not to get another bunch of great engineers ( Not at this price)

End Game:

I think this deal (if it goes through) would be paid for mostly through Google Stock. One over expensive stock (currency) for another. Perhaps it would be best for both companies. Yelp's investors would happily cash out by selling Google stock in the open market and as for Google, it would  would have acquired another growth engine where it has been unable to make a huge headway by itself.

 PS: On second thoughts, Yelp + AdMob could be an explosive combination and help Google recover the price paid, many times over.

Avatar: Fantastic!

Watched Avatar yesterday. Loved the movie. I don't know if this qualifies to be the greatest movie ever but it was fantastic. Visuals were simply out of this world.

Three cheers for Cameron and his team!

IIM falters in CAT and Mouse game, on debut!

CAT 2009 got off to a disastrous start and despite huge efforts by the Prometric and its partners. The exam did not finish on schedule and is continuing to cause anxiety to students, parents, IIMs and even to the HRD ministry. However, what was has been most interesting is the clamor we have seen from the players not involved.

1. Media: Of course media had a field day. TRPs were up, confusion reigned and they kept adding fuel to fire. Well you could argue that It is their business to do so, even if media would say that they do this only in public interest (I’ll be damned if any of the coverage was inspired by concern for these students)

2. Other Online Testing Providers: Sore losers and vultures. You could almost see them laughing secretly and were happy to see Prometric fail. Are now clamoring that if they had been given a change they would have done a better job. Please guys, you were part of a bidding process, if you can do a better job, you should have done a better job at that time. (I can bet my shirt that Prometric and its Indian partner would do a much better job next time, what are these vultures betting?)

3. Coaching Institutes: Most vocal (after media). Want current exam to be scrapped, return to pen and paper format for this year (So they can charge students again for preparation). Act like they are acting in students' interest while a large silent majority was actually able to complete the test.

4. Other Xenophobes - Want contract to be given to an Indian company (yes, we have xenophobes in India too). These are racists, casteists, fascists in new avatar. There is no talk of merit.


Which brings me back to the organizers of the CAT exam. Poor show guys! You need to get your act together. You should make sure that every student who suffered is given another chance, and that this is not repeated the following year.

Twitter, Facebook and MySpace give into Search Seduction!

After holding out for a long time, Twitter, Facebook and MySpace are now falling in (like dominoes) to provide feeds to search engines for real time search. Makes sense, the search engines had to get just one of these to get the others to fall in line. The public bloggers (and in this case micro-bloggers) do suffer from varying bouts of narcissm  or maybe are lonely or  just too desperate to be heard (read 'read') and therfore the advantage to a social network to being visible in real time. Having a rival micro blog network available while you are left behind is a (doubly) huge disadvantage.

Of course, this is one more battle field for Bing and Google. My fear is that both will end up overpaying for this ability to search but can't do without it either.

What is Jugaad? - And, do you need some of it?

The western world, it seems, has suddenly taken a liking for ‘Jugaad’. Indians have always held ‘Jugaad’ very close to their hearts. Jugaad may be trade-marked Indian, but the concept is not uniquely Desi. However, still, the current fascination of the developed world is amusing. Refer two interesting posts on Jugaad in Techcrunch by Sarah Lacy (who was in India doing research for her upcoming book on entrepreurship) and in Businessweek, which calls it Indian style of Innovation and Invention.

As a verb, Jugaad is the antithesis of ‘Process’. It is improvised (and sometimes very creative) problem solving and with the end result sometimes called a ‘Jugaad’ (noun) or described as ‘Jugaad’ (adjective). Which brings me to, why I find this amusing?

Over the past many years, the western (and pseudo western) trained managers have derided the ‘Jugaad’ solution. I remember an external speaker at the ISB, a few years ago, who was convinced that India is underdeveloped back only because of its ‘Jugaad’ mentality (everything else he said in his hour long speech was just gibberish).

Anyways, now, that the world is now discovering Jugaad, one must be careful not to over use it. Here are my thoughts on Jugaad

1. It provides an improvised quick fix but no long term warranty

2. It can certainly help you solve problems (especially if you are desperate)

3. Its gels perfectly with entrepreneurship, especially while starting out and want to ‘get it done’ ever which  

    way. Has a lot of overlap with 'Bootstrapping' in VC parlance

4. It is low ‘immediate’ cost, but long term costs may not be immediately apparent

PS: A person practicing Jugaad is called ‘Jugaadu’

PS, PS: The article in Businessweek mentions that TCS and Infosys gained world stature by having oodles of Jugaad. Having worked in one of these for over five years, I can tell you that while Jugaad had a role to play, do did 'Process'.

PS, PS, PS: There is a blog detailing list of Indian 'Jugaads'

Better Product = Market Leadership?

Split right down the middle. I am talking about the first poll I conducted on this blog. The question asked was
"Does having the best product ensure market leadership?". Fifty percent of the voters agree, while the other half disagree. I belong to the latter category.

Now, I am not saying that having a good product is not important and that it does not help. It does, surely. But It takes more than just having the perfect product to gain market leadership. Sales and Marketing for example, Distribution reach is other, Price is equally important. And, sometimes it is something purely superficial such as color etc


Internet based markets are democratizing some of these effects. But product managers would do good to take some of the other considerations in to account and not fall into the hype of their own products

PS: More importantly how do you conclude a product is better.  For whom. Humans are (some economists may diagree) not completely rational. I wonder if it is sometimes "Arbit' and more importantly "Is it Luck". Which brings me to the next poll?  How important is luck to business success?