Cash is king: Why you can bet on these 5 stocks

Strict lockdowns seem to have had little effect in bringing the pandemic under control in big cities. To make matters worse, the virus is now spreading like wildfire in tier 2 and 3 cities, which had been relatively less affected all this time. The number of new cases around the country has been surging, touching 45,000 a day last week. The peak now appears months away, potentially meaning prolonged pain for the economy and uncertanity for the investor.Weak economyThe economic situation will remain stressed for some more time. “With Covid spreading to tier 2-3 cities, local lockdowns will continue to create problems and hamper the process of economic revovery. While June numbers were better than that of April and May, July may not be that great,” says Girish Pai, Head of Equity Research, Nirmal Bang Institutional Equities.Strong marketsWhile the economic prospects are not that great, markets have continued to rise and the benchmark indices, Sensex and Nifty, are already up by around 50% from their March bottoms. However, this phenomenon is not restricted to India. “Around 50% rally from the recent bottom is happening in equity markets across the world and this rally in risk assets is triggered by liquidity infusion by global central bankers. There may be correction due to this sharp up move, but we are positive about the long term,” says Pankaj Murarka, Fund Manager, Renaissance Investment Mangers.Since the June numbers were better than expected, mostly because of pent-up demand, the market is now betting on a V shaped recovery in earnings—after a washout 2020-21, earnings in 2021-22 will be equal to that of 2019-20. However, that may not happen. “The exuberance in the market now is based on the belief that a V shaped recovery will take 2021-22 earnings back to 2019-20 levels and higher. That may be open to question if the recovery is not a smooth one,” says Pai.Lack of institutional activity and large participation by retail investors are other market worries now. Additional time on hand due to work from home and low interest on debt are driving many people towards the stock market now. “With delivery volumes down, its mostly intraday traders driving the market. This could be owing to some people who lost jobs trying to make a living by trading, etc. This has happened during earlier slowdowns too and they usually leave the market after getting bruised,” says Rajesh Cheruvu, CIO, Validus Wealth Management.However, Sunil Singhania, Founder, Abakkus Asset Manager believes that the lack of institutional participation in secondary market now is due to the fact they are investing large amounts of money in institutional placements. For example, several companies including Yes Bank are raising money now. Massive fund raising by Reliance Industries by diluting its stake in Jio network, where it collected around Rs 1.5 lakh crore by diluting its 33% stake to a mix of 13 investors, is another example worth mentioning here. “China has now become the villain for the world and that is good news for Indian companies. With the government of India also being supportive, the Indian economy should emerge stronger in coming years,” says Singhania.Cash is kingSince the froth in the market is high, investors need to be extra careful and that is why experts are asking them to stick with cash rich companies that will be able to negotiate this ongoing turmoil successfully. “Once the dust settles, the fundamentals will prevail in the market and then companies with weaker balance sheets will likely trail the markets in performance,” says Cheruvu. High cash levels and low debt is one way to measure balance sheet strength. “Investors should not lose quality focus now and it is better to avoid highly leveraged companies. These may now get into trouble due to the ongoing slowdown,” says Murarka.Our study is based on companies that have already revealed all in its balance sheet data as on March 2020. In addition to the cash and bank balance, we also took their total investments into account. We also removed debt—so that only companies with real fire power, after paying off all debt, were considered.While the quality focus and cash level is important, one can’t ignore valuations while investing in the stock market. “Concentrate on quality, but not at any price. Several counters with high PE multiples and low growth prospects have already started struggling,” says Singhania. So, as the next step, we checked whether these shortlisted companies were still priced reasonably and proceeded only with the companies where the PE was less than 20, PB less than 5 and dividend yield more than 1%. In this process, some cash rich companies like Nestle, which is now quoting at a trailing PE and PB of 82 and 86 times respectively, got eliminated. We also checked for analyst ratings and shortlisted only stocks with at least 15% upside potential from the current market price.The shortlisted companies are from diverse industries. While most companies from the FMCG segment are highly valued, we could still spot one company from that segment— ITC. Several companies from the gas distribution segment also came up in the list because of their value. “Gas distribution companies are good safe bets now because of their high cash levels and high dividend yields,” says Murarka. While retaining Gail, we dropped smaller companies like Mahanagar Gas and Indraprastha Gas, among others, because their upside potential will also be captured by the promoter, Gail.COAL INDIACOAL INDIA, WITH ITS near monopoly in domestic coal mining, has decided to use its cash pile of Rs 28,447 crore to fight Covid-induced slowdowns. These measures, like reduction in reserve prices across e-auctions, are aimed at increasing sales volume. In addition to introducing letter of credit (LC) facility to alleviate liquidity issues faced by customers, it is also offering logistical flexibility to its customers. Though these measures will dent its cash pile a bit in the short term, Coal India is expected come out stronger in the long term. It is expected to maintain sustainable volume growth in coming years because the government wants to increase domestic coal production to counter rising imports. 77165197“Coal India should benefit because its prices are lower compared to imported coal and because of the commissioning of railway lines to augment evacuation capabilities,” says a recent Edelweiss report. The expected offer for sale (OFS) by the government to dilute its stake is acting as an overhang in the counter and that explains why it has not participated in the market jump from March lows. However, it is good news for new investors because the valuation is still cheap and it is offering very high dividend yield, which is placed above 9% now.EXIDE INDUSTRIESIN ADDITION TO its standalone business, Exide also has investments in some high profile subsidiaries and Exide Life Insurance is the most important one. Before its buyout by Exide, it was known as ING Vysya Life Insurance. Since its customer base is more than 10 lakh and Exide holds 100% stake now, any value unlocking in this company in the form of listing can be a good trigger for the counter. Despite the short term pain, market leader Exide should come out successful in its core business also. This is because Exide and its close competitor Amara Raja will continue to take market shares from smaller players. This market share shift started by demonetisation and GST is getting accelerated due to Covid-induced disturbances. Though growth of Amara Raja was faster a few years back, Exide is catching up now and has started regaining market share and improving margins – especially after the strategic initiatives of Gautam Chatterjee, who took over as CEO and MD four years ago. 77165229Volatility in international lead prices is one factor that impacts the margins of battery makers. However, Exide is reasonably insulated because the major portion its lead requirements are met through two lead smelting facilities operated by its subsidiaries.ITCMOST FAST MOVING consumer goods (FMCG) companies are cash rich, but their valuations are also high. However, ITC is one of the few FMCG companies that are still quoting at reasonable valuations. In addition to its cash pile of Rs 7,277 crore and investment of Rs 28,663 crore, it is also generating free cash flow (FCF) every year. “We are positive on ITC over medium to long term because it has generated a FCF of Rs 11,693 crore in 2019-20 and remains a clear leader in the FMCG industry in terms of FCF generation,” says a recent Anand Rathi report. ITC is also benefiting from changes happening at the industry level. Its packaged food business is doing well and is expected to do well in medium term due to increasing consumer caution about health and hygiene. It is taking steps to increase capacity to meet surge in demand from some categories. 77165250Due to change in demand pattern, ITC has also repurposed its perfume plant to produce sanitisers and liquid soaps. Launch of surface disinfectant spray, fruit & vegetable wash, etc should also help ITC to gain market share. While the hotels business will struggle, other divisions like agri and paper board businesses, have already started recovering.GAILDUE TO THEIR NATURE, gas companies did not get impacted badly during the lockdowns. For example, the gas marketing and gas transmission volumes of Gail came down only by 5% and 3% respectively during the lockdown days of April and May. With most user industries getting back to normal now, gas volume of Gail should also get normallised. Gail has spent around Rs 6,100 crore on establishing new pipelines during 2019-20 and they are expected to become operational soon. “In addition to the recovery in oil and gas prices and revival of economy after the lockdown, Gail should also benefit from the potential contribution from new pipelines,” says a recent Geojit report. Though there is some uncertainty about the bifurcation of Gail into transmission and marketing businesses and this is keeping its prices under pressure, this bifurcation is expected to benefit investors in the form of value unlocking. 77165282Its cheap valuation is another reason why investors should look at this counter. Gail has investments in several gas distribution companies like Indraprastha Gas (22.5%), Mahanagar Gas (32.5%), Petronet LNG (12.5%), etc. While these companies are quoting at much higher valuations, Gail is quoting below 5 PE.SUN TV NETWORKIN ADDITION TO its strong balance sheet—no debt and cash and investment pile of Rs 3,395 crore— Sun TV is also benefitting from the fact that most of its competitors are facing a cash crunch now. This means Sun TV, which generated a FCF of Rs 1,065 crore in 2019-20, will be able to acquire good movie content at discounted price now due to the ongoing distress in the industry. Sun TV was able to compensate a part of its fall in advertisement revenue with increased subscription revenues. Due to its strong reach in southern markets, Sun TV was also able to gain market share during this troubled time and therefore, its advertisement revenue should bounce back once normalcy is restored. Sun Nxt, its OTT platform is also seeing good increase in subscriptions and its subscriber base has crossed 1.5 crore now. 77165297* Net cash is arrived at by adding cash, bank balance and investments and deducting debt from it; Data as on 31 March 2020. All index values normalised to a base of 100.Source: Bloomberg; ETIG Database. (Graphics by Abdul Shafiq/ET Prime)

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