Platinum available at the price of Silver

What would you say when I tell you that there is a company which has managed to grow it's topline by over 85% in the last 2 years, it's EBITDA has grown by 130% and it's Net Profit has posted a growth of over 125% during the same period. This is not all. The superb growth record is just one part of the story. The best part is that, this company is still available at peanut valuations. It is currently trading at just about 3 times it's Trailing-Twelve-Months EPS and at less half of it's book value. But there is a catch: This company has a very small Equity Capital and most of it is being held by Long Term Investors (including Promoters). Hence there is very small trading volume in it's stock on the exchanges and one large order can suddenly create big movements in it's stock price. Hence it is a company purely for Long Term Investors, who can gradually accumulate it's shares over a period of time and then wait patiently for the market to give it it's due fair value.

The company that I am talking about here is Zicom Electronic Security Systems Ltd. The promoters of Zicom are 1st Generation Entrepreneurs, not coming from wealthy families. That is why they had to look for outside funding at a very early stage of the company's growth. During every subsequent Equity issuance since it's listing in 1996, the Promoter stake was getting diluted to some extent. That is the reason why the promoter holding in the company was very low at just 18.36% by 2010. Since then the Promoter group has tried to gradually increase it's stake. First they bought from the Open market & increased their stake to 20.76%. In the previous fiscal, Zicom raised fresh capital via preferential allotment of shares to the Promoter group and to one Singapore based PE Fund. The PE Fund took little over 17% in Zicom, while the Promoters managed to push their holding to 21.40%.

Coming back to Zicom's financial performance, it continues to post strong Y-o-Y double-digit growth. As of Sept'13, Zicom's T-T-M Total Income has reached the level of Rs.795 crores. Two years back it was at Rs.427 crores. During these 2 years, Zicom improved business mix of higher contribution from overseas ventures, has helped improve it's EBITDA margins from 10.13% to 12.53%. The near tripling of Interest Cost & more than Quadrupling of Tax outgo limited the improvement in Net Profit margin to just about 85 basis points to reach a figure of 4.62%.

As you can see, Zicom's T-T-M Total Income & EBITDA have grown at an excellent pace over the last 8 quarters. The EPS did see a drop in between, but it was mainly because of expansion of Equity Capital of the company. After that, the EPS has grown at a faster pace. As of Sept'13, Zicom's 12-months EPS stands at Rs.21.50/-. That means at the current share price of about Rs.65/-, Zicom is valued at just about 3 times it's EPS. Isn't this the most attractive valuation one can find for such a wonderful performance track record??!! Zicom's book value stands at over Rs.150/-. It's share price will eventually get to it's fair value as it cannot remain highly undervalued permanently. The only condition being that Zicom should continue with a decent financial performance in the coming quarters as well.

From less than Rs.30 levels in December'2011, Zicom's share price went on to hit a high of Rs.100 level in December'2012. From there it corrected to about Rs.45 over the following nine months. And now it has started moving up again. This time I am expecting it to make a new high, much higher than the previous high of Rs.100/-. But please remember that in the meanwhile, the stock could test the investor's patience as nobody can predict the timeline precisely for a stock to achieve certain level. I will recommend gradual purchase of Zicom shares, few shares everyday, spread over several weeks. Any large order could create large movement in share price as the trading liquidity of this stock is very low. Just buy it in the price range of anything upto Rs.100/- and wait patiently. While waiting, please remember to monitor the company's business performance on a quarterly or half-yearly basis. If it continues to remain healthy, then you are sure earn multibagger returns on your investment in this company over the coming couple of years.

Happy Investing !!!

TTML - Clean-up over, Going for Growth

Tata Teleservices (M) Ltd. had won 3G spectrum for Rest of Maharashtra (RoM) circle in the auction held in 2010. TTML was also the first operator to launch 3G services in select locations in November'2010. But surprisingly TTML did not expand it's 3G coverage beyond some 12 to 15 cities & towns in the state since June'2011. At that point of time, TTML had a wireless subscriber base of 10.51 million in RoM circle, but only 5.1 million of those were active on the network as per VLR records. That means, a little over 50% of TTML's RoM subscribers were useless to the company & were unnecessarily adding costs.

TTML immediately started deleting such inactive subscribers as well as those who were generating very low unsustainable revenues. Within a year, i.e. by June'2012, TTML's wireless base in RoM circle was down to 8.17 million, while the active base had improved to 5.46 million (67% active). TTML did not stop there & has continued this clean up act every month. As per the latest data available for September'2013, TTML's wireless base is down to just 6.07 million in RoM circle, while it's VLR active base is at 4.87 million (80% active). TTML's clean-up act was not restricted to just the RoM circle, even it's Mumbai subscriber base dropped from 6.17 million in June'2011 to just 3.42 million in Sept'2013, while it's VLR base has remained steady from 2.28 million (37% active) to 2.38 million (70% active). The following chart shows the combined effect of both the circles clean-up:

The combined VLR base for TTML now stands at 7.21 million, 76% of the company's total subscriber base. This is a healthy figure & the company will now look forward to strengthening this by improving it's Network Coverage, which will improve user experience & encourage more of it's subscribers to continue with it's services. TTML has already started on this path. In the first two quarters of the current fiscal, TTML has added some 1500 new Base stations across the RoM circle. And aims to add another 600 Base stations in the coming months. This network expansion has helped improve it's 2G coverage in more villages & highways as well as it's 3G coverage in many more cities and towns. TTML's 3G coverage has expanded from just about 15 locations at the end of March'2013 to 108 locations by September'2013. All big cities & major highways in RoM have been covered. But still many of the large towns are yet to be covered by Tata DoCoMo's 3G network. I am hoping that most of them will get it by the end of this fiscal. The company had boosted it's coverage in Mumbai circle in the previous fiscal.

There are some advantages & disadvantages of this late expansion of 3G network. Major advantages are lower equipment costs & more time for better planning in network rollout. India is experiencing a terrific growth in Smartphone usage. This is going to boost usage of mobile internet services. Many Smartphone users may initially start with 2G services, but will eventually upgrade to 3G. The cost differential between 2G & 3G internet services is reducing as operators are hiking prices of 2G data plans. It makes sense for the operators to eventually make 3G data plans cheaper than 2G ones because the customer will use lot more data on 3G in less time because of the speed advantage. So it costs the operator much less to enable a customer use something like 5GB data usage on it's 3G network than it's 2G network as the customer will be using just about one-tenth of the network time on 3G compared to 2G. That means the operating cost is lower on 3G. I am not expecting prices of 3G data plans coming down, but operators could increase data usage limits on existing plans.

TTML's stock price has been on a downtrend since July'2011, when it had peaked around the Rs.20 level. Since then it has made lower tops & lower bottoms and it's 200-days moving average (DMA) has acted as a strong resistance throughout this period. Right now TTML's share price is close to the Rs.7.50 level and is making another attempt to go above the 200-DMA. If it manages to get past & stay above the 200-DMA for atleast a week or so and then get past it's previous high of about Rs.9.20/-, then we can safely say that the stock has reversed it's trend. I am optimistic that TTML's share price will get into a gradual uptrend this time. The company's upcoming Q3 & Q4 results should also be positive as they will start reflecting the company's network expansion efforts. In the month of Sept'2013 alone, TTML's VLR base has jumped by 1.63 lakh, the biggest jump since June'2012. The coming months should also show a positive development on this front.

It is difficult to set a target price for TTML. There could be lots of developments in store for the company as well as the Telecom sector in general. The most eagerly awaited M&A guidelines for this sector are just around the corner. Once there is clarity on that front, we will see some solid action by some of the operators. TTML & TTSL could be in the middle of some hectic M&A activity. All that should ultimately be positive for the company & it's shareholders. But there is one threat to the company as well: Reliance Jio's 4G launch. The network coverage & pricing of it's services and availability of devices will decide how much market share all other operators will lose to Reliance Jio. Since TTML derives over a third of it's revenues from Wireless Data business, it could be one major victim of Reliance Jio. But then none of these 3G competitors are going to sit idle. If Reliance Jio does come out with aggressive pricing, most of these 3G players will try & match that. It will be an interesting war & we the consumers will be the ultimate beneficiary.

Suzlon Energy's progress till Q2-FY'14.

Frankly, Suzlon Energy's Q2 FY'14 numbers did disappoint me a little bit. But still, it is a positive indicator compared to Q1, when Suzlon had posted Consolidated revenues of about Rs.3900 crores, the lowest figure in 9 quarters. Suzlon's EBITDA loss was at Rs.291 crores in Q1. For Q2, Suzlon has posted a 23% Q-o-Q jump in Consolidated revenues to about Rs.4800 crores and an negligible EBITDA loss of less than Rs.20 crores. Suzlon's cost reduction efforts seem to be showing it's effect in both Q1 & more so in Q2. The near break-even on the EBITDA front in Q2 itself is a very big relief. Any further boost in order execution will lead to bigger boost in Suzlon's EBITDA in the coming quarters.

The following chart shows Suzlon's Quarterly progress on Total Income, EBITDA & Net Profit over the last 10 quarters. Note the improvement the company has posted in the last 2 quarters, compared to the immediately preceding quarters.

Suzlon's Order book stands expanded at over Rs.43,000 crores. REPower continues to win new orders at a pace faster than it's execution. Hence, it's order book is gradually increasing. In the first half of the current fiscal, REPower contributed nearly 80 to 85% of Suzlon's Consolidated revenues. The company's India division has started moving, but there is still work to be done to get to levels where it was about 4 to 6 quarters back. Suzlon Wind has done lots of restructuring work during H1 of FY'14. Hopefully, Suzlon Wind's order execution will improve substantially from Q3 onwards. Increasing order execution will give confidence to it's customers, vendors & partners, and this will ultimately help it win more orders in the coming quarters.

Suzlon's stock price has started moving up in the last couple of weeks. From levels of about Rs.7, it has now got into double digits. At a price of Rs.10/-, Suzlon's Market Cap on Fully diluted Equity Base will be close to Rs.2900 crores, which I feel is still very small compared to the company's potential. If Suzlon does manage to successfully get back to normal speed of execution in the next 3 to 4 quarters, it could be doing handsome levels of EBITDA & Cash Profits. And once the Cash Profits start pouring in, Suzlon could start reducing it's Debt burden. This could further boost Suzlon's valuation. But all these things could take upto 2 years of hard work for the company's management. But if they do manage, then Suzlon's valuation could easily scale upto well in excess of Rs.15 to 20,000 crores or more. 

Yes Bank vs HDFC Bank comparison, which one's better Value-for-Money

I had posted my views about Yes Bank about 3 months back. At that time too Yes Bank's stock price was trading at about Rs.375/- levels. During these 3 months, the stock was hammered all the way down to around Rs.225/- levels, but has pulled back upto Rs.375-380 levels now. There has been no change in my views about the potential returns from Yes Bank's stock in the coming 1 to 5 years duration. During this period, I received some requests to post comparison between Yes Bank & HDFC Bank, so that investors will get a better idea of the attractiveness of the former's Value.

In terms of Business size, HDFC Bank is little over 4 times bigger than Yes Bank, mainly because of it's age. Yes Bank is much much younger, but growing with the same measured technology-led, low-risk strategy that HDFC Bank has done over the many years. HDFC Bank continues to be the best performer in terms of consistency of growth & quality of assets, despite it's substantial size now. And that is precisely the reason why HDFC Bank commands a huge premium in valuations over all other Banks as well as Financial Institutions. Yes Bank is travelling on the same path that HDFC Bank has done. Only thing being, Yes Bank is much smaller in terms of size & much cheaper in terms of valuations, than HDFC Bank. So, I think there is an obvious opportunity to all those investors, who did not benefit from HDFC Bank's growth over the last decade & more. Invest in Yes Bank now & you could be riding a similar wave over the next 10 years. Oh yes, but don't forget to monitor it's performance periodically.

In the following table I have calculated per-share data for the Trailing-Twelve-Months period ending Sept.'2013 for both the banks for easy comparison. Why 'per-share'? The answer is: We look at share prices moving up & down. It is better to understand what that one share of the company represents in terms of business & profits. That is how we can judge it's valuation perfectly.

For this comparison, Results for the period October'12 to September'13 have been considered. The Equity Capital number is at the end of Sept'13. As we can see, Yes Bank's Total Income per share is nearly Rs.110 per share more than HDFC Bank's number. But Yes Bank's Interest cost is nearly Rs.101 per share more than HDFC Bank. In the end, what remains is the Net Profit per share (also known as EPS). Here too Yes Bank's figure is higher at almost Rs.41/- compared to HDFC Bank's less than Rs.32/- per share. Despite having a higher EPS number, Yes Bank's share price (@Rs. 378/-) is way lower than HDFC Bank's (@Rs.683/-). Hence, Yes Bank's current valuation is much much lower at just over 9 times it's EPS, compared to HDFC Bank's at 21.5 times it's EPS.                                                                                                                                          Apart from way cheaper valuations, what is even more important to note is Yes Bank's growth track record. Yes Bank's Total Income has grown at 30% Y-o-Y, faster than HDFC Bank's growth of 21%. Interest Cost, which is any Bank's biggest Expense, has shown improvement. Yes Bank's Interest Cost has grown at less than 24%, which is more than 6% lower than it's Total Income growth. This is a clear reflection of Yes Bank's increasing CASA deposits, which are generally also seen as low-cost deposits compared to Fixed Deposits from Retail as well as Corporate clients. On the other hand, HDFC Bank's Interest Cost has grown by 19.5%, which is just 1.5% lower than the Bank's Total Income growth. However, CASA deposits forms just about one-third of Yes Bank's total deposits, while it is about two-third for HDFC Bank. Yes Bank's Retail Branch expansion (has 500 operational branches now & growing) is helping it increase the contribution of CASA deposits. I am expecting CASA deposits to form nearly half of Yes Bank's total deposits in the next 4 to 6 quarters. This will further help bring down the overall cost of funds for Yes Bank & boost it's margins & EPS.

All this should lead to narrowing the valuation gap between Yes Bank & HDFC Bank over the long term. A growth of >25% over the next two years can take Yes Bank's EPS to Rs.62 to 65 region. I think a P/E ratio of atleast 13 to 15 will be reasonable for Yes Bank by then, which will translate into a fair value of around Rs.850/- in the next 2 years time. This could very well be a reality as 2 years a substantial amount of time for the markets to re-rate a stock.

Happy Investing!!!

Yes Bank - Future HDFC Bank available at PSU Bank valuations!!!

Yes Bank has been following perfectly on HDFC Bank's foot-steps. The only major difference between the two modern Private Sectors Banks being the gap in the time of inception. Because of that gap, HDFC Bank is nearly four times the size of Yes Bank in almost all aspects. But there are many similarities between Yes Bank & HDFC Bank, like: High quality experienced management, focus on corporate business, quality of loan book is not compromised to gain volume market-share. This strategy of focusing on high-quality assets has helped HDFC Bank gain tremendous respect from global investors over the last decade & more. That is the reason why HDFC Bank's stock trades at premium valuations compared to all other public as well as private sectors banks. Since Yes Bank too is walking on the same lines, it's valuations too will rise above the rest in the coming years.

About two years ago, Yes Bank's stock was commanding P/E ratio of around 17 to 18, while the bank was consistantly posting a growth rate of over 50% Y-o-Y. Over the last two years, Yes Bank's growth has moderated to between 30 to 35% range, mainly because of the high-base effect. The market has responded by lowering Yes Bank stocks' P/E ratio to between 11 to 14 range. Yes Bank has now crossed the Rs.10,000 crores Total Income mark on a T-T-M basis, while it's Net Profit is over Rs.1400 crores, translating into an T-T-M EPS of Rs.39/-. If the current momentum continues, Yes Bank could be reporting an EPS of around Rs.46/- for FY'14. But RBI's recent moves to control money-market liquidity is expected to impact Cost of Funds for all those banks more who don't have a very good CASA (Current Account Savings Account) ratio. Since Yes Bank falls in that category, the market is expecting Yes Bank's growth & profitability to suffer more than most other banks.

But I think the market is ignoring two important aspects: (1) RBI's moves to control liquidity are temporary & may not last for more than a month or two; (2) Yes Bank management's ability to cope with this situation. I think Yes Bank's management has all the experience required to adjust to tight-liquidity situations. They will push for higher growth in their CASA deposits in the coming months. During Q1 of FY'14, Yes Bank has reported a growth of about 86% in their CASA deposits. This growth momentum could continue in the coming months & quarters as well. It will partially fulfill the bank's hunger for capital needed to expand it's loan book. And if it feels necessary, Yes Bank could raise fresh capital via preferential issue of shares as well.

Overall, I think the market has over-reacted to RBI's steps by thrashing Yes Bank's stock to under Rs.400 levels. At the current price of about Rs.375/-, it is trading at less than 10 times it's T-T-M EPS. I think, even if the Bank's profit growth slows down for a few months, it will get back to the 30% mark later. Hence this is an opportunity to invest in the growth of a high-quality Private Sector Bank at valuations of a common Public Sector Bank. Invest with a medium to long term view of 1 year to 5 years duration. This stock will definitely deliver handsome double-digit returns to it's investors from the current levels.

Suzlon Energy - Positive Winds set to Blow soon!!!

Suzlon Energy Ltd has had a terrible FY'13, but at the same time a crucial one too. It was the year when the company's India operations suffered the maximum liquidity problems with huge Interest payouts & Debt maturity repayments both coinciding at the same time. The Q3 & Q4 virtually went without any production as well as execution from the company's India division. Hence the revenue number suffered badly & the fixed costs meant that the company had to report huge operational losses for the 2nd half of FY'13.

But at the same time there have been some very positive developments for the company during H2 of FY'13. Suzlon's CDR package was approved & implemented by the company's Indian lenders. Under this CDR, the company's Debt repayment & Interest repayment has been rescheduled and there will be nil or very minimum payments to be made for an initial period of 18 months. Plus, the lenders have made a working capital of Rs.1500 crores available to the company, which will certainly help Suzlon in re-starting it's India operations & focus on execution of orders. The impact of these will be partially felt in Q1 of FY'14, but mainly boost the Q2 performance. Because of the CDR package, Suzlon's Equity Capital will increase about 65% from 177 crore shares currently to about 291 crore shares by the end of FY'14. This is mainly because the Interest due on loans taken from Indian Banks will be converted into Equity Shares of the company. In a way, the Banks are Investing their capital in Suzlon's business. This is a vote-of-confidence from the banks that the company can turnaround it's operations & be profitable again over the next 12-18 months.

Now coming to Suzlon's operations: It is mainly comprised of two units - Suzlon Wind, which is the company's India operations, and REpower Systems, which is Suzlon's wholly-owned German subsidiary acquired in late 2011. Suzlon Wind has almost all it's manufacturing operations in India, but does execution of Wind-farm contracts in many other countries as well, other than India. Suzlon Wind has gone through troubles times over the last few years. First it was the US economic/liquidity crisis in late 2008, which affected order flow, then there were reports of Quality issues in some of Suzlon's installations abroad, and finally the company's own liquidity problems over the last 12-18 months because of rising Interest burden & maturing Debt obligations. The recently implemented CDR package will allow Suzlon Wind to restart it's manufacturing operations & hence it's execution of pending orders.

On the other hand, REpower Systems is going from strength to strength. Over the last 2 years, REpower Systems has reportedly grown at a CAGR of 35%. It's revenues were reported to be 2.22 billion Euros in FY'13, which must be around Rs.14,000 to 15,000 crores. That also means that REpower Systems contributed around 75% of Suzlon's consolidated Total Income for FY'13, up from a little under 50% contributed in FY'12. Suzlon Wind had done revenues of about Rs.11,000 crores in FY'12, but it dropped sharply to just about Rs.4,000 crores in FY'13, mainly because of it's operations remaining shut for more than half of the fiscal due to liquidity problems. Despite Suzlon's huge losses during FY'13, the company paid a Tax of about Rs.350 crores, which must be almost entirely by REpower Systems. That means the German subsidiary is making decent amounts of Net Profit. Unfortunately the company has not been able to use REpower's Cash to repay some of it's Indian Debt. There is some kind of a lock-in period under the purchase agreement because of which Suzlon cannot access REPower's Cash balance.

Suzlon Energy Ltd is reportedly sitting on a consolidated Order Book worth over Rs.40,000 crores and 70% of that must be for REpower Systems. Thanks to the strength of the Order flows, we can expect REPower to easily post a 20% growth in it's revenues during FY'14. That means it should be somewhere close to Rs.18,000 crores. Suzlon Wind too is expected to do substantially more revenue this fiscal compared to last fiscal. I am expecting Suzlon Wind to do atleast Rs.7,000 to 9,000 crores in revenues this fiscal. That means Suzlon Energy's consolidated revenues should be in excess of Rs.25,000 crores this fiscal. With an expected EBITDA margin of about 10% during FY'14, the EBITDA figure too should be in excess of Rs.2500 crores. Since Suzlon has been given an Interest holiday for an 18-month period, the total Interest outgo this fiscal will be substantially lower at around Rs.500 crores compared to over Rs.1850 crores paid last fiscal.

This should help Suzlon Energy Ltd to post a healthy Net Profit for FY'14 at around Rs.1000 crores, translating into an EPS of about Rs.3/- even on the expanded Equity Capital of 291 crore shares. At the current share price of just about Rs.8/-, the company is commanding a measly Market Cap of less than Rs.2400 crores (on the expanded Equity Base), which is peanuts for a company which fully owns REpower Systems. At some point of time in the next few years, the lock-in period will be over or REpower will start generating Free Cash Flow and the company will atleast start declaring dividends, which will flow straight into Suzlon Energy's accounts since it owns 100% of the company.

This is the time for long term investors to tank up on shares of Suzlon Energy to the tune of atleast 4 to 5% of one's portfolio and sit on it for a period of atleast 2 to 3 years. As per my calculations, it should deliver stellar returns from current levels.

Bharti Airtel Ltd - Stock price chart is bullish.

Bharti Airtel's stock price movement over the last few months has clearly shown signs of the end of a downtrend and a start of a gradual uptrend. From a low of under Rs.240 in August'12, the company's stock price moved up to a high of about Rs.370 in January'13. But after that it dropped again to about Rs.275 levels. But the stock has taken good support at Rs.275 to 280 levels more than twice in the last 3-4 months. The overall newsflow for the telecom sector as a whole has been turning over the last 2 quarters. Bharti Airtel too has seen some positive developments happen.

First and foremost the reduction in overall competition in the Indian Telecom market. Then the Q-o-Q drop in the company's Net Profits has stopped. Business volumes & revenues have seen a smart Q-o-Q increase in March'13 quarter. Bharti Airtel received one of the biggest PE investments from Qatar for 5% stake in the company. The Rs.6700 odd crores raised from that deal were used to bring down the Debt. This will certainly help in reducing the quarterly interest outgo in the coming quarters & boost Net Profits & Free Cash Flow generation.

Bharti Airtel's promoters too have purchased lakhs of shares of the company from the open market at close to Rs.280-285 levels. All these are positive signs for the company & it's investors. The stock price too should react to all these developments in the coming days, weeks or months. From the stock price chart below, it can be seen that there is some bit of resistance at about Rs.325 to 328 levels. The stock price needs to cross this level convincingly & stay above that for a few days to confirm the uptrend. Until that happens, it could continue to hover between Rs.280 to Rs.325 levels. My personal opinion is that it should be breaking that resistance soon. Once it does that, the upmove could take it to Rs.370 or even Rs.400 levels, before it corrects again. Overall I think the medium to long term trend is very positive for Bharti Airtel. The stock prices of other telecom companies like Idea Cellular & Reliance COmmunications have already seen huge run-ups in the recent couple of months. Bharti Airtel has lagged both of them. But Airtel's big upmove shouldn't be far.

Tata Teleservices - Rumours about Merger are floating again.

Over the last couple of weeks, there has been lots of news-flow about Tata Teleservices. First it was the news that NTT DoCoMo would be exiting the company in 2014 & the Tata Group will have to either buyout the former's stake or look for another partner, who can bring the capital. Tata Teleservices is the only loss-making telecom company despite being in operations for over a decade now. The company would have been profitable if the 2008 licensing fiasco had not taken place.

But thankfully things are changing for the positive for the telecom sector. The cancellation of several licences early this year has lead to reduced competition in several circles of India. This has lead to increase in revenues for all the remaining operators. But it is not all positive for all the remaining operators. The Top-3 operators: Bharti Airtel, Vodafone & Idea Cellular are all doing well on the financial front & generating reasonable amount of Cash Profits to keep their overall Debt well under control. Reliance Communications too looks to be doing fine now after a few deals being signed with Reliance Jio. RCom too is suffering from huge Debt burden, but most probably it will survive with little help from Reliance Jio.

But the remaining two large operators, Tata Teleservices & Aircel are both struggling with huge Debt & very low Cash Profits. Hence their Net Debt level is continuing to climb. In such a scenario, they both are potential candidates for merger or acquisition by another player who is wanting to have a national presence & willing to Invest more Capital. Telenor & Sistema are two such potential candidates. Earlier there were rumours that Sistema is in talks to acquire Aircel instead of bidding for spectrum in the recent auctions. At the same time, there were reports that Telenor could be looking to merge with TTSL. But both the rumours died down and now fresh rumours have surfaced that Sistema is looking to merge it's Indian operations with TTSL & Buyout NTT DoCoMo's 26% stake to take majority stake in the merged entity.

Whatever transpires, I am pretty sure that there is going to be lots of M&A activity after the Govt. announces fresh rules for Telecom M&A. Under the current rules for M&A, there is not going to be any deal. Hopefully, the new rules are in place within the next couple of quarters. By participating in the recent spectrum auctions, both Telenor & Sistema have made their intentions clear that they want to be in the Indian telecom sector for a long time. They are both currently having a much smaller licence footprint, but they certainly have the intentions to cover a much larger part of India in the coming years. The unrealistic spectrum prices forced them to curtail their Coverage, but they are both looking to pounce on a Merger &/or Acquisition opportunity as soon as the rules are relaxed.

Between TTSL & Aircel, I think TTSL has marginally stronger case for being the first target for M&A. TTSL has a stronger brand in Tata DoCoMo. It has a larger subscriber base despite having substantially cleaned up it's dud subscribers from it's CDMA network. It's Licence still has between 8 to 10 years before they come up for renewal. The recent Quarterly results of TTML, which is a listed subsidiary of TTSL and operates in the two crucial circles of Mumbai & Rest of Maharashtra, are clearly indicating a decent growth in the company's Revenues & Cash Profits. Over the last 12-18 months, TTSL & TTML are clearly focusing on retaining & growing Revenues-Earning-Customer base. ? From a Total subscriber base of nearly 90 million, TTSL & TTML's combined subscriber base is now down to about 67 million. And they still have nearly 30% dud subscribers. The simultaneous growth in revenues clearly indicates that their Revenue-Earning-Subscriber base is growing. This focus on quality of subscriber base will serve them well in the longer term. Their Operating profit margins should improve in the coming quarters.

Aircel on the other hand is struggling with a not-so-popular brand in most of the states other than the South & North-Eastern ones. Aircel too has a huge debt, which was enhanced further by the company's ambitious bidding during 3G & BWA spectrum auctions. It's exact financial condition is not exactly known, but it is estimated that the company's Interest burden is piling up & the company is under pressure to bring in fresh capital or raise capital via asset sales. In a way Aircel could be a more vulnerable target, but may not be the first choice for the suitors.

Lets just wait for the new M&A rules for the Telecom Sector to be announced. Lots of action is going to take place after that.

Educomp's K-12 business Future prospects

Until now, whenever positive or negative news or opinions have been flashed about Educomp, most of the limelight has been hogged by Educomp's SmartClass business. The last 2-3 years have been particularly bad for Educomp's stock because the SmartClass business has gone through two changes in business models & is now back to the original BOOT model. But most analysts or news-makers have ignored the developments of?Educomp's K-12 business, the business which comprises offering education right from Kindergarten to 12th Std, i.e. Junior College level. Educomp has smartly invested in building this K-12 business over the last 4-5 years & it is still a nascent business as there is a long way to go before it reaches it's true potential.

As investors we need to understand the operational limitations to analyse it's potential growth in the coming years. Whenever an organisation / trust / group / corporate opens a new school, as per regulations, it is permitted to start with only upto 5th Std in the first year and then add one higher Std in each following year. That means, if Educomp started a school in the year 2009 with classes from 1st to 5th Std, then added 6th Std in 2010, 7th Std in 2011, 8th Std in 2012 and so on, it will be only in the year 2016 that the school will be fully operational with all classes from 1st to 12th Std. Not just that. Whenever a new School starts, it does not get enough students to fill up 100% capacity of the available classes. The school starts with about 20% to 30% of average capacity utilisation in the available classes with maximum new admissions happening for the 1st Std & lower numbers for 2nd Std to 5th Std. With each passing year, it's average capacity utilisation goes up 10% to 20% as more & more students join the school in the existing classes. That means it will take atleast 5 years to reach capacity utilisation of between 70% to 100% in classes from 1st to 5th Std that the school originally started with. By the end of 5 years, the batch of students that had joined the school in 5th Std in the first year of operations, which must have been a very small batch of students, will have moved up to 9th Std. Hence, even at the end of 5 years of the school's operations, the capacity utilisation in classes from 6th Std and above will be well under 50%.?It will take another 4 to 5 years, i.e. a total of about 10 years from the year the school started operations. for the capacity utilisation of the entire school crossing the 70% mark & getting closer to 100% level of the total available seats in the entire school.

Most schools are planned with minimum capacity of 100 students per Std, comprising of 2 divisions of 50 students each for each Std. So, in the first year of operations, the school starts with just about 100 to 200 students, spread over the first 5 classes (i.e. an average batch size of just about 30 to 50 students) and adds about 100 to 150 new students with every passing year as a new batch of students is added and a few students join higher classes. In about 5 years of operations, the number of students in the school will have reached between 600 to 750 (i.e. an average batch size of 60 to 80), which will be about 50% of the total capacity of 1200 students (12 Stds x 100 students per Std).

With about 50% of the school's operating cost being Fixed Cost, i.e. it will remain more-or-less same irrespective of the number of students in the school, and the remaining 50% of the operating cost being dependent on the number of students in the different classes of the school, the school's profit margins are generally very low or maybe negative in the first couple of years of operations. But the margins improve rapidly as the student number builds up with every passing year. Educomp's management has indicated that a school earns an EBIT margin of just about 5% to 20% in the first couple of years of operations, but the EBIT margins improve rapidly to levels of over 50% by the time the school completes 5 years of operations. ( EBIT stands for Earnings Before Interest & Tax ).?Because of the Interest Cost, a new school will be in Net Loss in the first 2-3 years of operations, and start generating decent levels of Net Profit only from the 5th year onwards.?

At the end of FY'13, Educomp had 51 operational school with over 23000 students, i.e. an average of about 450 students per school, i.e. the average age must about 2 to 3 years. The management has already said that they will be adding atleast 6000 new students to these 51 schools plus a couple of new schools that could get operational for the new academic year, which will take the average to over 500 students per school. Apart from these, Educomp had over 8500 students in it's pre-school division, which operates under the brand name "Little Millenium". Most of the students completing the pre-school years will shift to one of Educomp's schools.?Educomp's K-12 division earned about Rs.190 crores revenue from the 32,000 students in total, translating into an average annual revenue of about Rs.50,000 per student.

So what is the potential of Educomp's K-12 business??Educomp has plans to have more than 90 schools operational by the end of FY'16 or 17. To be on the safer side, let's say they manage to get only 75 schools operational by the end of FY'16. Assuming that each school will have a minimum capacity of 1200 students (when fully operational), Educomp's 75 schools will have a total minimum capacity of 90,000 students. The average age of all 75 schools by then will be about 4 years. That means the overall capacity utilisation will be about 50%, i.e. a total student strength of about 45,000. This is nearly double of the current student number of little over 23,000 (excluding those from the pre-schools). The management has already mentioned that they will be adding over 6,000 students this academic year, i.e. Educomp will have over 29,000 students in their schools by the end of FY'14. With new schools opening during these 3 years, Educomp should be easily be able to add another 15,000 to 17,000 students in FY'15 & FY'16 together, which should take the total student number to 45,000 or more.?This near doubling of students in Educomp schools alone should help take the company's revenues from K-12 segment to between Rs.350 to 400 crores in FY'16, with an EBIT of close to Rs.200 crores and possibly a Net Profit of about Rs.30 crores.?By then debt levels of the K-12 business also would have started coming down at a good pace as the incremental CAPEX then will be low & the company can use the Cash Profit generated towards debt repayment, which will help bring down the annual interest cost & improvement in Net Profit margins.

Remember that the revenues received by a school in terms of course fee are recurring in nature as most of the students taking admission into a school generally remain with the school until they pass out all classes. So a student entering the school in the 1st Std will generally leave the school only after completing 12th Std, i.e. the school will receive fees from that student for 12 years. This recurring & predictability nature of the revenues of school deserve much higher valuations than in normal case.

Between FY'16 to FY'20 or FY'21, even if Educomp does not add any new school, the company's K-12 business can still double it's revenues on the back of increased capacity utilisation in existing schools. Even if Educomp has only about 75 schools operational in FY'20, it could be having close to 90,000 students, generating about Rs.700 crores in revenues, Rs.400 crores in EBIT and nearly Rs.250 crores in Net Profit.?Educomp's K-12 business alone could be commanding a valuation in excess of Rs.5000 crores by FY'20, i.e. a potential per share value of close to Rs.250/- (even after leaving a scope of 30% further equity dilution from now till FY'20).?

Point to Note: Educomp's K-12 business will still remain smaller than it's SMartClass business. By FY'20, i.e. 7 years from now, SmartClass could be active in over 2,50,000 classrooms, could be running via cloud-solutions, and generating well in excess of Rs.1500 crores in annual recurring revenues.

Educomp - Have Patience, this Co. will regain it's Glitter!!!

Educomp Solutions Ltd's stock price movement post the company's announcement of Q4 & FY'2013 results suggests that the ship is sinking rapidly & everyone needs to get out. But I am of the opinion that the worst period in Educomp's history ended at the end of Q3-FY'13. Almost all the troubles for Educomp Solutions are connected to it's SmartClass business. As I have mentioned in my previous reports on Educomp, the troubles started when the company changed the business model for SMartClass. During the Q3-FY'13 result concall, the company's management announced that they are returning back to the BOOT model for SmartClass and this I think is the end of the troubles for the company. This shift back to the BOOT model will lead to increased transparency, improved & consistant Cash-flows and will be liked by most of Educomp's Institutional Investors.

But there are a few Very Important points that Investors need to keep in mind while evaluating Educomp's result post Q3-FY'13. (1) Eventhough Educomp is selling SmartClass Equipment+Content at a price of around Rs.3.70 lakhs per classroom, the Cash-flows will be spread over the term of the Contract with the school. i.e. When Educomp signs up with a school to equip 10 of it's classrooms with SmartClass at a price of Rs.3.70 lakhs per classroom for a period of 5 years, the contract value of Rs.37 lakhs is received by Educomp in 60 Monthly installments of about Rs.62,000 each or 20 Quarterly installments of Rs.1.85 lakhs each. (2) Educomp needs to Invest it's Capital upfront in purchasing Equipment that needs to be installed in those 10 classrooms. The Equipment cost is somewhere around Rs.1 lakh per classroom. That means, Educomp needs to Invest atleast Rs.10 lakhs at the start of the contract and it will take about 6 quarters of payments to recover it's Investments in Hardware. From the 7th Quarter onwards, the money it receives can be considered as towards it's Multimedia Content, i.e. Intellectual Property. (3) Each new classroom addition under SMartClass adds Rs.18,500 to Educomp's quarterly Cash-flows. Until the Q3-FY'2013, Educomp had almost ZERO classrooms under BOOT model, hence there was not recurring Cash-flows from SmartClass until then. Most of the 6500 classrooms that Educomp has added in Q3 & Q4 can be assumed to be added under the BOOT model. In just 2 quarters, 

Educomp's recurring quarterly cash-flow from SmartClass BOOT has crossed the Rs.12 crores mark. I know this figure is very small currently compared to the SmartClass revenue Educomp was reporting on a quarterly basis. Remember, SmartClass is already active in over 1 lakh classrooms as of now, out of which 85,000 classrooms were added in the last 3 years alone. We can expect Educomp to add about 20,000 new classrooms to SmartClass BOOT every year from FY'14 onwards. This will add Rs.37 crores to Educomp's Quarterly Cash-flows every year. Apart from that, there will be renewal of contracts coming up for classrooms where SMartClass was implemented 5 years ago. So we can expect Educomp's SMartClass BOOT revenues to cross the Rs.100 crores quarterly rate in the next 2 years. For the 85000 classrooms that Educomp has added in the last 3 years, Educomp is earning a small trail revenue of about Rs.5,200 per classroom per quarter. This amounts to about Rs.45 crores per quarter for 2 more years after which it will taper off. This revenue will help keep the SmartClass revenue to a respectable figure until the BOOT revenues themselves reach the levels of it's past.

As per my estimates, SmartClass revenues are expected to be low at less than Rs.350 crores for FY'14, but will keep improving substantially with every passing quarter & should be closer to Rs.500 crores for FY'15 and over Rs.650 crores for FY'16. But the biggest positive part is that the EBITDA margins are expected to be much stronger right from FY'14 onwards at levels of over 35%. To arrive at these estimates, I have assumed an addition of 17500 classrooms in FY'14 and a 10% Y-o-Y growth in further years, with pricing remaining around the Rs.3.80 lakhs per classroom mark.

The expected drop in SmartClass revenue for FY'14 by over Rs.100 crores seems to have spiked the market, which has pushed the stock to a series of Lower-Circuits. But there are so many positives that are being ignored at the same time. SmartClass is no more a solo product that Educomp will be offering the thousands of schools it already has tie-ups with. Educomp has launched the SmartClass tablet solution as well as the English Mentor language Lab. Both these products have the potential to become part of hundreds of schools in the very first year. Both the products can offer subscription-type recurring revenues to Educomp. We will get more details on the pricing of these products at the end of the current quarter. On the conservative side, I am expecting these 2 products to add between 20 to 30% incremental revenues to SmartClass revenues in FY'14, i.e. in the range of Rs.60 crores to 100 crores. This could bridge most of the expected drop in SmartClass revenues in FY'14 compared to FY'13.

The other big positives are: Educomp's other three business segments are growing at a good pace. (1) There are over 23,000 students in Educomp's 51 operational schools and another 8000+ students in nearly 225 pre-schools. In it's ConCall, the management has said that they will be adding atleast another 6000 students to it's Schools & is confident of posting a 25% growth in K-12 revenues in FY'14. I think this should be easy. The bigger positive in this is that as more & more schools mature in terms of period of operations, the profits margins are expected to improve. For FY'14 the K-12 division should be reporting a revenue figure of over Rs.240 crores & EBIT of about Rs.120 crores. This 25% growth can continue for the next 4-5 years as the number of students in each school fills up the capacity in stages. The students number in Educomp's schools will cross the 50,000 mark in the next 3 years. (2) The business segment of Educomp to report the strongest growth in FY'13 was the Online & Supplemental, which reported a growth of 56% Y-o-Y & now contributes nearly 25% of Educomp's Total revenues. Since the company is still investing in expanding it's reach & capacity, this business reported an EBIT Loss. But some of the divisions in this business have posted a break-even by the end of FY'13 and the company has shut-down a couple of loss-making slow-growth divisions. So even this segment is expected to post a turnaround with a small EBIT profit in FY'14. On the conservative side we can expect the revenues from this segment to grow by atleast 30% to touch the Rs.400 crores mark from Rs.305 crores in FY'13. Even if this segment manages to bring it's EBIT Loss down to Zero, it will boost Educomp's consolidated profitability by 2 to 3%. (3) Educomp's Higher Learning division, which comprises of 7 Colleges which conduct Undergrad courses in Design as well as Engineering, posted a decent growth of 25% in it's revenues for FY'13. This growth is expected to repeat in FY'14 as well because all these 7 colleges will induct a new batch of students for the new academic year as the existing students continue into the next year of the course. This division's EBIT loss reduced by 20% in FY'13 and is expected to drop another 40% in FY'14 as the incremental revenues will not be accompanied with proportionate increase in operating costs.

Summary: Following are my expectations for FY'14:

The School Learning Solutions division, which includes SmartClass, ICT & the 2 new product launches: SmartClass tablet & English Mentor, is expected to post a Total revenue of about Rs.525 crores with an EBIT of about Rs.150 crores.

The K-12 Division, which includes Schools & the pre-schools, is expected to report a total revenue of about Rs.240 crores & an EBIT of Rs.120 crores.

The Online & Supplemental division, which includes units like Vidyamandir, Gate Forum, WizIQ, Learning.com, etc., is expected to post a revenue of close to Rs.400 crores and Zero EBIT.

The Higher Learning division, which includes the 7 colleges, is expected to post a revenue of close to Rs.100 crores and an EBIT Loss of about Rs.18 crores.

Educomp Solutions Total Income for FY'14 is expected to be in the region of Rs.1300 to 1350 crores on the conservative side, with an EBIT of about Rs.250 crores. Educomp's Net Profit or Loss will then depend on the company's Interest Cost. For FY'13, Educomp's total Interest cost was Rs.249 crores. With Improving Cash-flows from most of Educomp's Business divisions, coupled with lower CAPEX in FY'14, Educomp should be able to contain it's Net Debt to current levels of about Rs.1950 crores or maybe bring it down by Rs.100 crores by the end of FY'14. In any case I am not expecting Educomp's annual Interest cost to be any much lower than Rs.250 crores. Hence there will hardly be any Net Profit for FY'14. But FY'15 will be a far better year, when I am expecting Educomp to post it's highest ever annual Total Income figure of well over Rs.1600 crores and an EBIT of around Rs.400 crores and a Net Profit of over Rs.100 crores. By then Educomp's Net Debt is expected to be down to around Rs.1500 crores, which will bring down it's Interest burden leading to boost in Net Profit margin.