Investment Ideas by SSKI

Shiv-Vani Oil & Gas Exploration Services
Cluster: Ugly Duckling
Recommendation: Buy
Price target: Rs482
Current market price: Rs307

Price target revised to Rs482

Result highlights

• The Q2FY2009 numbers of Shiv-Vani Oil and Gas (Shiv-Vani) are marginally above our expectations. The top line grew by 92.4% year on year (yoy) to Rs187.2 crore, which is more or less in line with our estimate.
• The operating profit margin (OPM) improved by 170 basis points to 39.3% on account of better realisations and improved efficiencies. Consequently, the operating profit grew by 101% to Rs73.7 crore.
• The results contain an exceptional gain of Rs17.16 crore on account of foreign exchange (forex) fluctuations. Treating the same as an extraordinary item, the adjusted profit (adjusted for taxes) grew by 75.5% to Rs34.7 crore. That is a little more than our expectation of Rs33.4 crore. Accounting for the forex gain, the reported profit grew by 140% to Rs47.6 crore.
• Shiv-Vani currently has a fleet size of 32 rigs while another three to four rigs are awaiting custom clearance. The plans are on track to take the total fleet size to 40 rigs by the end of the year. 
• The company’s extremely strong order book of about Rs4,700 crore (about 8.2x its FY2008 revenues) provides strong visibility to its future revenues. What’s more, the order book is likely to improve with the company bidding for more orders. 
• At the current market price, the stock discounts at 6.4x its FY2010E earnings and is quoting at an enterprise value (EV)/earnings before interest, depreciation, tax and amortisation (EBIDTA) of 4.9x. With its integrated business model and as the country’s largest onshore oilfield service provider, Shiv-Vani deserves a premium valuation over some of its global peers, which mainly concentrate on one business segment. We maintain our Buy recommendation on the stock with a revised price target of Rs482 (10x FY2010E earnings).
  
  
  Sun Pharmaceutical Industries
  Cluster: Ugly Duckling
  Recommendation: Buy
  Price target: Rs1,640
  Current market price: Rs1,054
  
  Caraco comes under USFDA scanner
  The US Food and Drug Administration (USFDA) has issued a warning letter to Sun Pharmaceuticals’ US based subsidiary Caraco Pharmaceutical Laboratories (Caraco), citing lack of adequate quality control procedures at Caraco’s Detroit-based manufacturing facility. The letter was issued as a follow-up to the last USFDA inspection of the company's manufacturing facility in Detroit, Michigan. After the inspection, which was initiated in May 2008, a Form 483 notice, listing the issues, had been issued to Caraco. 
  
  
  

  Ranbaxy Laboratories
  Cluster: Apple Green
  Recommendation: Hold
  Price target: Rs257
  Current market price: Rs209
  
  Price target revised to Rs257

  Result highlights

  • Ranbaxy Laboratories (Ranbaxy) has delivered a disappointing performance for Q3CY2008. The revenues, operating performance and net profit have been below our estimates, as the quarter had its challenges including unprecedented foreign exchange (forex) movement and losses relating to the turn of events in the USA. 
  • The revenues grew by 14.7% in the rupee terms to Rs1,882.0 crore in Q3CY2008 and were below our estimate largely due to poor performance across the markets such as UK, Germany and France (down by 6% year on year [yoy] due to increasing competition and pricing pressures) and the USA (down by 7% yoy and 22% sequentially due to the import alert issued by the US Food and Drug Administration [US FDA]). On the other hand, the company delivered strong performance in Canada (up by 139%), Romania (up by 34%), Latin America (up by 39%) and Commonwealth of Independent States (up by 54%). Overall, the developed markets grew by just 9%, while the emerging markets registered a strong growth of 20%.
  • The 950-basis-point decline in the operating profit margin (OPM; including other operating income) to 7.7% was well below our estimate, largely due to sharp escalation in the selling, general and administrative (SG&A) costs and a Rs90 crore loss on forward covers. The SG&A costs were higher on account of a one-time cost of $9 million on account of write-off of assets in certain facilities. Consequently, the operating profit of the company declined by 49.1% yoy to Rs144.0 crore.
  • Ranbaxy reported a net loss of Rs394.5 crore, which was sharply below our estimate, largely due to higher-than-expected translation losses on foreign exchange liabilities (Rs311 crore reported by the company as against our estimate of Rs222 crore) and a one-time inventory write-off of Rs244 crore relating to the US operations after the import ban was issued by the US FDA. Adjusting for the one-time inventory write-down and the forex loss, the company’s net loss stood at Rs150.4 crore, way below our estimate of a profit of Rs18.9 crore. 
  • Daiichi Sankyo has acquired ~52.5% share in Ranbaxy, making the latter a subsidiary of itself. Through the allotment of preference shares and the issue of convertible warrants, the deal has resulted into an infusion of ~Rs3,585 crore ($736 million) into Ranbaxy. With the infusion of funds, we expect Ranbaxy’s interest cost to come down in the coming quarters. 
  • To factor in the impact of the recent developments in Ranbaxy, we are revising our estimates and the price target. We have taken into account the slowdown in the US business resulting from the import alert issued by the US FDA, the decline in margins due to a slowdown in the high-margin US business, the impact of the cash infusion from the Daiichi Sankyo deal and the higher-than-expected forex losses incurred due to sharp movements in the rupee. Consequently, we have downgraded the earning estimates of the base business in CY2008 by 150% and in CY2009 by 44.5%. On a fully diluted equity base of 46.2 crore shares (not taking into account the conversion of warrants issued to Daiichi Sankyo), our revised estimates would yield a loss of Rs5.5 per share in CY2008 and a profit of Rs11.1 per share in CY2009 for the base business (excluding FTFs).
  • We continue to value Ranbaxy using the sum-of-the-parts (SOTP) valuation method. In view of the increasing risk attached to Ranbaxy’s business we lower our target multiple for the base business to 15x (from 20x earlier), which yields a value of Rs166 for the base business. We have also re-valued Ranbaxy’s first-to-file (FTF) opportunities, with a higher risk premium and excluding the value of generic Valtrex (the abbreviated new drug application [ANDA] for which has been approved from the Dewas plant). Our revised value of Ranbaxy’s FTF opportunities works out to be Rs99 per share. Thus, we get a SOTP-based fair value of Rs265 per share for Ranbaxy. 
  • While we believe that many intangible positives that could accrue to the company, post the integration with Daiichi Sankyo, which would make the stock an attractive investment opportunity from a long-term perspective, we also feel that the near-term prospects of the stock are bleak on account of further forex losses and the continuation of the US FDA issues. Thus, we maintain our Hold recommendation on the stock.