Indian Hotels: Right pitch

THE COMPASS

Indian Hotels proposes to raise about Rs 1, 800 crore through two simultaneous but unlinked rights issues. The first offer is a 1:5 rights issue of equity shares at Rs 70.

The second rights offer is a convertible debenture in the ratio of 1:10, at a price of between Rs 150 and Rs 180, to be decided later. The debentures will carry a coupon of 4 per cent per annum, for two years, after which they will be converted at Rs 150-180.

If an investor has 10 shares today, he would be entitled to two shares at Rs 70 each and one convertibe debenture (future share) at Rs 150. Thus his effective cost per share, at the current price of Rs 140, would be Rs 130 a share. Assume a 10 per cent cost of capital or opportunity cost on the Rs 1, 690 (total investment ) for twelve shares and one convertible debenture. After adjusting for the two interest payments of 4 per cent each on a convertible debenture of Rs 150, the breakeven cost works out to around Rs 156 per share.

Since the stock price will adjust for the first rights issue and settle down at around Rs 128-Rs 130, the stock will need to move by 20 per cent over two years for the investor to break even. If the investor is to make money, the stock would need to rise even further. And if the convertible debenture is priced higher than Rs 150, the break-even for the investor would be somewhat higher.

Indian Hotels plans to add about 6500 rooms over the next three years to its existing inventory of about 9,900 rooms. However, the pricing power that the industry enjoys today is likely to taper off over the next couple of years as supply comes into metros and smaller cities. Since a high percentage of the customers are foreigners, both tourists and businessmen, a weakening global economy could impact demand somewhat.

At Rs 140, the stock trades at about 17.5 times FY09 and is not too expensive, at Rs 156 it would trade at just under 20 times.

Nalco: Price blues

Nalco's performance in the June 2007 quarter was adversely affected by sharply lower alumina prices on a y-o-y basis. As a result, operating profit fell a steep 34 per cent y-o-y to Rs 616.4 crore in the last quarter, while net sales fell 21.6 per cent to Rs 1165 crore.

Its operating profit margin also declined 1,000 basis points y-o-y to 52.9 per cent in Q1 FY08. Other non-ferrous players such as Hindalco's operating profit margin fell 290 basis points y-o-y to 18.9 per cent in the last quarter.

Nalco's alumina production was 387,800 tonne in the last quarter, a growth of 8.3 per cent y-o-y. However, alumina prices were estimated at $352 a tonne in the last quarter, a decline of 36 per cent y-o-y.

This resulted in its chemical division (which includes alumina) declining a staggering 72 per cent y-o-y to Rs 190 crore in the last quarter. In its aluminium division, production was 86,712 tonne in Q1 FY08, a decline of 2.1 per cent. The average aluminium prices were $2,762 a tonne in the last quarter, a rise of 4.1 per cent y-o-y.

Going forward, Nalco's profitability is expected to remain under pressure over the next few quarters, given that spot alumina prices have not shown any significant recovery. At Rs 256.9, the stock trades at 8.7 times estimated FY08 earnings.

Satyam: Strong revenue growth

The recent depreciation of the rupee against the dollar following the recent ECB guidelines, has helped to bring some investor interest back in the IT sector. Satyam Computer has gained around 3.5 per cent over the one week compared with 0.8 per cent rise in the Sensex.

In the June 2007 quarter, Satyam, like other players in the sector was adversely hit by the 7 per cent sequential rise in the rupee. The company's consolidated top line grew 2.9 per cent q-o-q to Rs 1,830 crore in Q1 FY08, while its operating profit was more or less flat q-o-q to Rs 410.29 crore. However, in dollar terms, the revenue growth of 10 per cent q-o-q was impressive thanks to strong growth in segments such as engineering services and infrastructure management. TCS's top line grew 8 per cent q-o-q in dollar terms, while for Infosys it was 7.5 per cent.

Meanwhile, Satyam's operating profit margin fell 60 basis points q-o-q to 22.4 per cent in the June 2007 quarter. The rupee appreciation affected Satyam's margins by 230 basis points in the last quarter, while visa costs impacted it by 100 basis points and losses in subsidiaries impacted by another 30 basis points.

However, the decline in Satyam's OPM was limited to 60 basis points q-o-q, as offshore billing rates were up 1.3 per cent q-o-q and onsite rates went up by 1.46 per cent.

In addition, the company leveraged a volume growth of 9.5 per cent q-o-q in the last quarter. TCS' operating margin fell 280 basis points q-o-q to 25.5 per cent in Q1 FY08, while Infosys' OPM declined 300 basis points q-o-q.

Satyam will hike its wages with effect from July 2007 and that will put pressure on margins. However, the Satyam management has highlighted that new deals are coming at 3 to 5 per cent higher prices, coupled with strong growth in several segments, which has resulted in an upward revision of its guidance. For FY08, Satyam's revised revenue guidance, in dollar terms was increased from 28-30 per cent to 34-35.5 per cent, which is higher than Infosys' guidance of 31 per cent at the upper end. At Rs 476, Satyam trades at 19.5 times estimated FY08 earnings.