Strategy in Search of a Turnaround

Strategy In search of a turnaround

Strategy Team Centrum Broking Ltd.

1 Introduction

. In our study of the “downturns” in last 20 years, the current slowdown seems to be the most protracted and severe both in terms of time and its spread. The impact on both rural and urban demand has been unprecedented. . While all the past 3 downturns have been either due to exposure of heightened external vulnerabilities or natural calamities, the ongoing slowdown seems to be self inflicted on account of 3 successive shocks in 3 years in the form of demonetization, rolling out of GST in not so phased manner coupled with the blowout of NBFC crisis. . The study suggests that no downturn has reversed without the government intervention. However, the magnitude of intervention varies given the severity of downturn and government’s ability to utilize the fiscal space. . Summing up, we believe September quarter of FY2020 may be the bottom and since our study reveals that it takes on an average 2-3 quarters for an economy to normalize once government intervention starts, we expect growth to rebound to normalized levels in Q1FY21-Q2FY21. . Accordingly in our strategy, we advocate that though the worst seems to be behind us, this is going to be a slow ride towards path of normalization. Given the current government has a political mandate and has acknowledged the slowdown, it will continuously intervene to bring the economy back on track, as evident from the recent announcement of lowering corporate tax rates. . In this background, we recommend to reduce cash gradually and look for value investing. In the next few quarters, there will be lot of false starts, giving an opportunity to invest. . We further advocate moving away from defensive portfolio and increase weightage to rate cyclicals like corporate banks, Auto etc. . Therefore, we are underweight in both IT and Metals, neutral in Pharma and Telecom. . Our top picks are a mix of value and rate cyclicals: SBI, L&T, Bajaj Auto, RNAM, Bajaj Consumer and NCC.

2 In the last 20 years, India has witnessed 4 “downturns”

10 Impact of 9 demonetization and rolling out of GST 8

7 (% YoY)(% Agrarian crisis due US-China 6 to severe draught Trade and Gujarat War and earthquake NBFC Expected 5 Commencement Crisis to be of taper tantrum around & Caught off in 6% in 4 Higher Inflation 2019-20 Global Financial crisis 3 1999-00 2000-01 2001-02 2002-03 2003-04 2004-05 2005-06 2006-07 2007-08 2008-09 2009-10 2010-11 2011-12 2012-13 2013-14 2014-15 2015-16 2016-17 2017-18 2018-19

Source: CSO, MOSPI

3 2002-2003 Agrarian crisis due to severe rainfall deficiency

4 Severe rainfall deficiency weighed heavily on the agricultural sector

India witnessed the worst draught in more than 25 years during 2002-03 Agricultural and allied activities showed significant contraction

20 15 Rainfall Agriculture,forestry & fishing 10 10

5 0 0

-10 YoY)(% -5 -20 deviation from normal) -10 (% -30 -15 Jun-00 Jun-01 Jun-02 Sep-00 Sep-01 Sep-02 Dec-00 Dec-01 Dec-02 Mar-00 Mar-01 Mar-02 1994-95 1995-96 1996-97 1997-98 1998-99 1999-00 2000-01 2001-02 2002-03

Having a substantial share of 22% in the GDP basket… ..agricultural activity contraction exerted downward pressure on GDP

8.00 2002 - 03 Agriculture, Gross Domestic Product forestry & fishing 6.00 22% 4.00 (% YoY)(%

Services 2.00 51%

0.00 Industry 27% Jun-00 Jun-01 Jun-02 Sep-00 Sep-01 Sep-02 Dec-00 Dec-01 Dec-02 Mar-00 Mar-01 Mar-02

Source: CSO, MOSPI, IMD

5 Lack of private consumption and government expenditure kept GDP growth subdued

Lower farm incomes weighed heavily on rural consumption growth Muted government expenditure weighed on total economic activity

8 Private Consumption 15 Government expenditure

10 6

5 4 (%YoY) (% YoY)(% 0 2 -5

0 -10 Jun-02 Jun-02 Sep-01 Sep-01 Dec-00 Dec-00 Mar-03 Mar-00 Mar-03 Mar-00

However, private investments and exporting activity remained intact and provided cushion to the GDP growth

Private Investment 30 Exports 16

12 20

8 10 4 (% YoY)(% (% YoY)(% 0 0 -4

-8 -10 Jun-02 Jun-02 Sep-01 Sep-01 Dec-00 Dec-00 Mar-00 Mar-03 Mar-03 Mar-00

Source: CSO, MOSPI

6 Slumping economic activity warranted efforts by both RBI and GOI

GOI kept the fiscal deficit at elevated levels by the end of FY 2003 RBI lowered benchmark rates by 50 bps in FY 2003

Fiscal Deficit (% GDP) 14 6.5 16 12 6.0 10 14 5.5 (%) (%) 8 12 5.0 6 4.5 4 10 4.0 1995-96 1996-97 1997-98 1998-99 1999-00 2000-01 2001-02 2002-03

1995-96 1996-97 1997-98 1998-99 1999-00 2000-01 2001-02 2002-03 CRR Bank rate Prime lending rate (max) RHS

. MONETARY RESPONSE: Reserve Bank of India adopted expansionary monetary policy, in response to the slowdown. . RBI reduced Bank Rate by 25 bps from 6.5% to 6.25%, followed by the cut of 75 bps in the cash reserve ratio and a 50 basis point reduction in the LAF repo rate. . Responding to the Reserve Bank’s initiative, banks switched over from tenor-linked prime lending rates (PLRs) to benchmark PLRs (BPLRs). As at end-March 2003, BPLRs were lower by 50 basis points. . FISCAL RESPONSE: Government of India in 2002-03, kept the fiscal deficit at elevated levels (~6% GDP) to arrest economic slowdown. . Reduction in corporate tax rates for companies from 48% to 40%, . Pushing up investment in public infrastructure sharply by INR 37,919 crore, . Reduction in interest rate for rural infrastructure loans, . Increasing total credit flow to agriculture sector through institutional channels to INR 75,000 crore Source: RBI

7 Sharp rebound in FY 2004 on account of surplus rainfall and efforts by RBI and GOI

As 2004 delivered surplus rains, agro activities gathered momentum Efforts by RBI and GOI along with better monsoon aided consumption

5 10 Private Consumption 0 7 10 -5 4 8

-10 1 6

-15 -2 % YoY

(% YoY)(% 4 -20 -5 -25 -8 2

% deviation from normal from deviation % 0 1995-96 1996-97 1997-98 1998-99 1999-00 2000-01 2001-02 2002-03 2003-04 Jun-00 Jun-01 Jun-02 Jun-03 Sep-00 Sep-01 Sep-02 Sep-03 Dec-00 Dec-01 Dec-02 Mar-00 Mar-01 Mar-02 Rainfall Agriculture (RHS) Mar-03

Lower rates and higher capex helped in accelerating investment GDP rebounded sharply as all attributes showed signs of recovery

10.00 15 Private Investment Gross Domestic Product 8.00

6.00

5 (% YoY)(% 4.00 (% YoY)(%

0 2.00

0.00 -5 Jun-00 Jun-01 Jun-02 Jun-03 Sep-00 Sep-01 Sep-02 Sep-03 Dec-00 Dec-01 Dec-02 Mar-00 Mar-01 Mar-02 Mar-03 Jun-00 Jun-01 Jun-02 Jun-03 Sep-00 Sep-01 Sep-02 Sep-03 Dec-00 Dec-01 Dec-02 Mar-00 Mar-01 Mar-02 Mar-03

Source: CSO, MOSPI

8 2008-2009 Global Financial Crisis

9 Real GDP growth collapsed on account of global contagion

World GDP contracted on account of international banking crisis The plunge in world exports contracted external demand

Bloomberg World GDP Tracker 15 70 7 10 50

5 5

30 3 0 -5

(%YoY) 10 (%YoY)

SAAR) 1 -10 -10 -1 -15 QoQ -20 -30

(% -3 -5 Sep-04 Sep-05 Sep-06 Sep-07 Sep-08 Mar-04 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09 Sep-04 Sep-05 Sep-06 Sep-07 Sep-08 Mar-04 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09 World Export Indian Export (RHS)

Slumping export activity disrupted business sentiments too Real GDP growth witnessed the steepest slump

12.00 23 Private Investment Gross Domestic Product 19 10.00 15 8.00

11 6.00 7 (% YoY)(% (% YoY)(% 4.00 3 -1 2.00 -5 0.00 Sep-04 Sep-05 Sep-06 Sep-07 Sep-08 Sep-04 Sep-05 Sep-06 Sep-07 Sep-08 Mar-04 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09 Mar-04 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09

Source: Bloomberg, CSO, MOSPI

10 Economic activity witnessed a sharp contraction on broad based weakness across all sectors

The decline in growth in agriculture and industry, however, was more prominent compared to services.

Industry 14 Agriculture,forestry & fishing 15

9 10

4 5 (% YoY)(% (% YoY)(% -1 0

-6 -5 Sep-04 Sep-05 Sep-06 Sep-07 Sep-08 Mar-04 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09 Sep-04 Sep-05 Sep-06 Sep-07 Sep-08 Mar-04 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09

Slumping urban and rural demand contracted private consumption Services did not decelerate much and thus limited downside

Private Consumption Services 13 14

11 12

9 10

(% YoY)(% 8 (%YoY) 7

5 6 4 3 Sep-04 Sep-05 Sep-06 Sep-07 Sep-08 Mar-04 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09 Sep-04 Sep-05 Sep-06 Sep-07 Sep-08 Mar-04 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09

Source: CSO, MOSPI

11 Sharp moderation in growth warranted appropriate fiscal and monetary policy response GOI opted for aggressive fiscal policy in order to reverse the downturn RBI lowered repo rate by 400 basis points over a period of 7 months

Fiscal Deficit (% GDP) RBI Policy rate (Repo rate) 7.0 9.0

8.0 5.0 7.0

3.0 (%) 6.0

5.0 1.0 4.0 Jun-06 Jun-07 Jun-08 Sep-05 Sep-06 Sep-07 Sep-08 Dec-05 Dec-06 Dec-07 Dec-08 2000-01 2001-02 2002-03 2003-04 2004-05 2005-06 2006-07 2007-08 2008-09 2009-10 Mar-06 Mar-07 Mar-08 Mar-09

. MONETARY RESPONSE: In the second half of 2008-09, reflecting the emerging needs of the economy, the Reserve Bank of India undertook aggressive monetary easing by: . Announcing the reduction in the Cash Reserve Ratio by 400 basis points. . The repo rate was reduced by 400 basis points and the reverse repo rate was reduced by 250 basis points. . FISCAL RESPONSE: Government of India in the budget of 2008-09, pegged the fiscal deficit at 3.1% GDP and announced complete waiver of loans for marginal farmers. Government measures pushed the fiscal deficit to 6.1% GDP. . An across the board cut of 4% in ad valorem Cen vat rate was announced . Government accorded approval to 37 infrastructure projects worth INR 70,000 crore alone and extended export credit for labor intensive exports and improved pre and post shipment credit availability. . India Infrastructure Finance Company Ltd. (IIFCL) was allotted the responsibility to refinance up to 60% of commercial bank loans for PPP projects involving total investment of INR 1,00,000 crore in infrastructure over the next eighteen months.

Source: RBI

12 Sharp rebound in FY 2010 on account of fiscal and monetary expansion

With recovery in credit demand, investment activity accelerated Industrial production recovered sharply and CU levels also improved

30 Private Investment 18 Industry 20 15

12 10 9 6 (% YoY)(% 0 (% YoY)(% 3 -10 0 -20 -3 Sep-05 Sep-06 Sep-07 Sep-08 Sep-09 Mar-06 Mar-07 Mar-08 Mar-09 Mar-10 Sep-05 Sep-06 Sep-07 Sep-08 Sep-09 Mar-06 Mar-07 Mar-08 Mar-09 Mar-10

Consumption remained sluggish after showing recovery in H1FY10 Firmer signs of robust recovery emerged with pickup in investment

14.00 Private Consumption Gross Domestic Product 12 12.00 10.00

8.00 8 6.00 (% YoY)(% (% YoY)(% 4.00 6 2.00

4 0.00 Jun-09 Jun-06 Sep-08 Sep-05 Dec-07 Mar-10 Mar-07 Sep-05 Sep-06 Sep-07 Sep-08 Sep-09 Mar-06 Mar-07 Mar-08 Mar-09 Mar-10

Source: CSO, MOSPI

13 2012-2013 Caught off in higher inflation and Commencement of “Taper tantrum”

14 Domestic headwinds coupled with global headwinds constrained output growth in FY12&13

Elevated global oil prices kept the inflationary pressures intact Global uncertainty on account of EZ debt crisis impacted exports

12 140 60 Exports 10 120 40

8 100 20 6 0 (% YoY)(% (%YoY) 80

4 (USD/bbl) -20 2 60 0 40 -40 Sep-08 Sep-09 Sep-10 Sep-11 Sep-12 Jul-08 Jul-09 Jul-10 Jul-11 Jul-12 Mar-08 Mar-09 Mar-10 Mar-11 Mar-12 Mar-13 Nov-08 Nov-09 Nov-10 Nov-11 Nov-12 Mar-08 Mar-09 Mar-10 Mar-11 Mar-12 Mar-13 WPI inflation Brent crude oil prices (RHS)

Excessive monetary tightening weighed heavily on pvt. investments Higher real rates weighed heavily on credit activity and GDP growth

24 9 14.00 40 19 12.00 35 14 8 10.00 30 9 7 25

(%) 8.00 4 20 (%YoY) 6 6.00 -1 YoY)(% 15 YoY)(% 4.00 -6 5 10 2.00 5 -11 4 0.00 0 Jul-08 Jul-09 Jul-10 Jul-11 Jul-12 Nov-08 Nov-09 Nov-10 Nov-11 Nov-12 Mar-08 Mar-09 Mar-10 Mar-11 Mar-12 Mar-13 Sep-08 Sep-09 Sep-10 Sep-11 Sep-12 Mar-08 Mar-09 Mar-10 Mar-11 Mar-12 Mar-13 Gross fixed capital formation RBI Policy rate (Repo rate) [RHS] GDP Bank credit growth(RHS) Source: RBI, CSO, MOSPI

15 Broad based slowdown across different spheres weighed on economic activity in FY12-FY13

Higher inflationary pressures weighed on consumption Sluggish government expenditure in H1 FY2013 constrained growth

14 Private Consumption Government expenditure 12 25 10 15 8 6 5 (% YoY)(% (%YoY) 4 2 -5 0 -2 -15 Sep-09 Sep-10 Sep-11 Sep-12 Mar-09 Mar-10 Mar-11 Mar-12 Mar-13 Sep-09 Sep-10 Sep-11 Sep-12 Mar-09 Mar-10 Mar-11 Mar-12 Mar-13

Industrial slowdown and dampened demand weighed on services too Agri growth decelerated below trend due to deficient monsoon

14 20 12 5 12 16 9 0

12 10 -5 3 8 -10 (%YoY) 8 (%YoY) 0 4 YoY)(% -15 -3 6 0 -6 -20

4 -4 -9 -25 (% deviationfrom normal) Sep-09 Sep-10 Sep-11 Sep-12 Mar-09 Mar-10 Mar-11 Mar-12 Mar-13 2001-02 2002-03 2003-04 2004-05 2005-06 2006-07 2007-08 2008-09 2009-10 2010-11 2011-12 2012-13 Services Industry (RHS) Agriculture Monsoon (RHS) Source: CSO, MOSPI, IMD

16 Heightened inflationary pressures did not give abundant room to RBI and GOI to expand policy

GOI calibrated fiscal deficit of FY13 to limit the impact on inflation RBI undertook calibrated monetary easing and reduced rates by 100 bps

6.0 7.0 Fiscal Deficit (% GDP) 8.5

5.0 5.0 7.5 (%) (%) 4.0 6.5 3.0

5.5 3.0 1.0 Jun-11 Jun-12 Sep-10 Sep-11 Sep-12 Dec-10 Dec-11 Dec-12 Mar-11 Mar-12 Mar-13

2004-05 2005-06 2006-07 2007-08 2008-09 2009-10 2010-11 2011-12 2012-13 CRR (RHS) RBI Policy rate (Repo rate)

. MONETARY RESPONSE: . Despite intense inflationary pressures, Reserve Bank of India did ease monetary policy but in a calibrated manner. . RBI reduced Cash Reserve Ratio by 200 bps. . This was followed up with 100 bps cuts in the policy repo rate. . FISCAL RESPONSE: . On fiscal policy front, Government of India could not do much given inflation remained high and therefore, had to curtail fiscal deficit by nearly 1% GDP. . However, this was undertaken without compromising spending as they were able to meet revenues through tax collections and divestment targets.

Source: RBI

17 Mild economic recovery in FY14 was largely on account of moderating inflationary pressures

Rebound on the back of a normal monsoon, supported agri growth Export growth improved due to Rupee depreciation

10 10 40 80 5 8 30 60

0 6 20 40 4 -5 10 20 2 (% YoY)(% YoY)(% (% YoY)(% -10 0 0 0 -15 -2 -10 -20 -20 -4 -20 -40 (%deviation from normal) 2003-04 2004-05 2005-06 2006-07 2007-08 2008-09 2009-10 2010-11 2011-12 2012-13 2013-14 Sep-04 Sep-05 Sep-06 Sep-07 Sep-08 Sep-09 Sep-10 Sep-11 Sep-12 Sep-13 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09 Mar-10 Mar-11 Mar-12 Mar-13 Mar-14 Rainfall Agriculture activity (RHS) Exports Imports (RHS)

Persistence of higher inflation and slackening of disposable incomes Output showed marginal growth led by the pick up in exports

14 11 Private Consumption Gross Domestic Product 12 10 10 9

8 8 6 7 (% YoY)(% (% YoY)(% 4 6 2 5 0 4 -2 3 Jun-10 Jun-11 Jun-12 Jun-13 Sep-10 Sep-11 Sep-12 Sep-13 Dec-10 Dec-11 Dec-12 Dec-13 Mar-11 Mar-12 Mar-13 Mar-14 1999-00 2000-01 2001-02 2002-03 2003-04 2004-05 2005-06 2006-07 2007-08 2008-09 2009-10 2010-11 2011-12 2012-13 2013-14

Source: CSO, MOSPI, IMD

18 2018-19 till present Demonetization, GST and NBFC crisis makes it a challenge

19 Subdued global demand & faltering consumption impulses are weighing on economic activity

Private consumption slumped to the lowest level, last seen in Q3FY2015 Weakening capital goods production has been dragging down investment

Private Consumption Private Investment 12 15 10

8 10 6 (%YoY) 4 YoY)(% 5 2 0 0 Jun-14 Jun-15 Jun-16 Jun-17 Jun-18 Jun-19 Jun-14 Jun-15 Jun-16 Jun-17 Jun-18 Jun-19 Sep-14 Sep-15 Sep-16 Sep-17 Sep-18 Dec-14 Dec-15 Dec-16 Dec-17 Dec-18 Dec-14 Dec-15 Dec-16 Dec-17 Dec-18 Mar-15 Mar-16 Mar-17 Mar-18 Mar-19

Limited fiscal stimulus made economic activity plunge to 6 year lows Subdued global demand activity has been weighing heavily on exports

20 30 Government Expenditure Exports 15 20

10 5 (% YoY)(% (% YoY)(% 0 0 -5

-10 -10 Jun-14 Jun-15 Jun-16 Jun-17 Jun-18 Jun-19 Dec-14 Dec-15 Dec-16 Dec-17 Dec-18 Jun-14 Jun-15 Jun-16 Jun-17 Jun-18 Jun-19 Dec-14 Dec-15 Dec-16 Dec-17 Dec-18

Source: CSO, MOSPI

20 Real GDP growth in regard to the economic activity has been showing significant moderation

Agri activities were lifted by higher production of wheat and oilseeds Lacklustre demand & faltering investment weighed on industry

12 8 Agriculture,forestry & fishing Industry

6 9

4 2 6 (% YoY)(% (% YoY)(% 0 3 -2 -4 0 Jun-14 Jun-15 Jun-16 Jun-17 Jun-18 Jun-19 Jun-14 Jun-15 Jun-16 Jun-17 Jun-18 Jun-19 Dec-14 Dec-15 Dec-16 Dec-17 Dec-18 Dec-14 Dec-15 Dec-16 Dec-17 Dec-18

Slumping new business orders are weighing heavily on service sector Total economic activity slumped to 6 year low

Services 10.00 Gross Domestic Product 12 9.00 11

8.00 10 7.00 9 (% YoY)(% (% YoY)(% 6.00 8

7 5.00

6 4.00 Jun-14 Jun-15 Jun-16 Jun-17 Jun-18 Jun-19 Dec-14 Dec-15 Dec-16 Dec-17 Dec-18 Jun-14 Jun-15 Jun-16 Jun-17 Jun-18 Jun-19 Dec-14 Dec-15 Dec-16 Dec-17 Dec-18

Source: CSO, MOSPI

21 Policy response by RBI and government so far in order to arrest the ongoing slowdown

Rate cut of 135 bps from Feb till Oct has not been able to spur demand GOI is most likely to breach the pegged target

8.5 RBI Policy rate (Repo rate) 6.0 Fiscal Deficit (% GDP)

8.0 5.0 7.5

7.0 4.0

(%) 6.5 3.0 6.0 5.5 2.0 5.0 2011-12 2012-13 2013-14 2014-15 2015-16 2016-17 2017-18 2018-19 2019-20* Sep-14 Sep-15 Sep-16 Sep-17 Sep-18 Sep-19 Mar-15 Mar-16 Mar-17 Mar-18 Mar-19 . MONETARY RESPONSE: In regard to the ongoing slowdown, RBI has aggressively opted for expansionary monetary policy program. . RBI has cut the benchmark repo rate by 135 bps since February 2019. Though the transmission has been slower than desirable. Despite overall liquidity remained surplus in August and September, monetary transmission has remained slow and weak. . As against the cumulative policy repo rate reduction of 135 bps during February-October 2019, WALR declined by only 29 bps. . We believe that RBI’s intention of keeping liquidity in surplus along with their recent mandate on directly linking retail and MSME loans to an external benchmark such as repo is most likely to ensure immediate transmission of rate cut. . FISCAL RESPONSE: In Budget presentation 2019-20, government has pegged the fiscal deficit at 3.3% GDP. . After realizing the slowdown, much needed fiscal stimulus was finally shown in form of corporate tax rate cut from 35% to 25% along with other slew of measures such as expansion in the scope of export credit insurance Scheme and investment of more than INR 100 tn on building modern infrastructure over the next five years. This will pull the fiscal deficit up to 3.8-4.1% GDP. . These measures are likely to activate the virtuous cycle of consumption, private investments and boost growth in the medium term. Source: RBI

22 A well coordinated fiscal-monetary policy is most likely to narrow output gap gradually In regard to the previous downturns, coordinated efforts of RBI and GOI helps in bridging the elevated output gap.

4 10

3 8 2

6 1

0 4

-1 2 -2

-3 0 2000-01 2001-02 2002-03 2003-04 2004-05 2005-06 2006-07 2007-08 2008-09 2009-10 2010-11 2011-12 2012-13 2013-14 2014-15 2015-16 2016-17 2017-18 2018-19 2019-20 Output Gap Fiscal deficit (% GDP) RHS Policy Rate (%) RHS

Source: CSO, MOSPI, RBI

23 Demystifying the magnitude of “slowdowns”

Sustained Recovery (on Episodes of domestic Slowdown Period Duration of slowdown % fall from top to bottom an average after 2-3 slowdown quarters)

Q2 FY2004: 8.1% YoY (2 Agrarian Crisis (Severe Q4 FY2002-Q3 FY2003 4 quarters 4.3% quarters to exceed Draught) potential)

Q3 FY2010: 8.2% YoY Global Financial Crisis Q1 FY2009-Q4 FY2009 4 quarters 10.3% (2 quarters to exceed potential)

Caught off in higher Q1 FY2015: 8.02% YoY (4 inflation and Q2 FY2012-Q4 FY2013 quarters to exceed 6 quarters 6.4% Commencement of taper (Excluding Q2FY13) potential) tantrum

NBFC crisis and current Q1 FY2019-till date 5 quarters and continuing 3.13% Q1-Q2 FY2021 (expected) demand slowdown

Source: CSO, MOSPI

24 Global Economic Outlook Remains fragile and uncertain

25 Slowdown has become more pervasive and synchronized; rising prospects for more weakness IMF has sharply downgraded its forecast for global economic growth to Global manufacturing sector has been bearing the brunt of its lowest level since the great recession of 2008-09 escalation of global trade wars. Global Manufacturing PMI IMF Global Growth 55 5.8 54 4.8 53

3.8 2.8 52

(% YoY)(% 1.8 51 0.8 50 -0.2 49 1981 1983 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 2017 2019 Jun-19 Jun-18 Jun-17 Oct-18 Oct-17 Oct-16 Apr-19 Feb-19 Apr-18 Feb-18 Apr-17 Feb-17 Dec-18 Dec-17 Dec-16 Aug-19 Aug-18 Aug-17 The impact of heightened policy uncertainty across the global sphere seems to be weighing heavily on the investments . Recent economic and financial developments vindicate hat the widespread moderation in GDP and trade growth prospects is 101.5 OECD Business Confidence Indicator likely to persist, with confidence declining further, policy uncertainty continuing to rise and investment remaining weak. 101.0 100.5 . The bilateral tariff measures introduced by the United States and China since the start of 2018 will continue to exert a significant 100.0 drag on global activity and trade over the year, particularly given the additional uncertainty that they create. 99.5

99.0 . However, in the event that tensions ease, global growth could be stronger than projected, although uncertainty could still remain Sep-10 Sep-11 Sep-12 Sep-13 Sep-14 Sep-15 Sep-16 Sep-17 Sep-18 Sep-19 Mar-11 Mar-12 Mar-13 Mar-14 Mar-15 Mar-16 Mar-17 Mar-18 Mar-19 elevated given the greater unpredictability of policies. Source: IMF, OECD, Bloomberg

26 To counter slowdown, all central banks have turned accommodative & this is likely to continue Fed has reduced rates by 50 bps after more than a decade on growing People’s Bank of China has cut bank’s required reserve ratio for the downside risks to global growth and muted inflationary pressures. third time this year releasing approximately USD 126.35 bn liquidity

6 US Fed Funds Rate 16.0 RRR for major banks 5 15.5 4 15.0

3 14.5 (%) (%) 2 14.0 1 13.5 0 13.0 Jul-19 Jan-19 Sep-06 Sep-07 Sep-08 Sep-09 Sep-10 Sep-11 Sep-12 Sep-13 Sep-14 Sep-15 Sep-16 Sep-17 Sep-18 Sep-19 Jun-19 Oct-18 Apr-19 Feb-19 Sep-19 Sep-18 Dec-18 Aug-19 Nov-18 Mar-19 May-19

Other EM Central Banks have also turned accommodative by . Against the background of slowing growth and the prospect of undertaking aggressive policy rate actions in order to stimulate growth. inflation remaining below target for a prolonged period, central banks in the main advanced economies have eased monetary Country Present Policy Rate 2018 rate action 2019 rate action policy or communicated their readiness to act if the outlook Brazil 5.50 -50 -150 were to deteriorate further.

China 4.35 0 0 . United States has more scope but less need than other advanced India 5.15 50 -135 economies to ease monetary policy as pockets of consumption Indonesia 5.25 175 -100 remain buoyant while growth momentum from supply side has slowed. Malaysia 3.00 25 -25 Philippines 4.00 175 -75 . The recent reduction in US interest rates, weaker-than-expected South Korea 1.25 25 -50 growth, and diminishing inflationary pressures, have provided scope for many emerging-market economies to lower policy Thailand 1.50 25 -25 interest rates too. Source: Bloomberg

27 India Economic Outlook Most likely to remain lacklustre in the near term

28 Snapshot of the macro economic outlook Headline inflation is expected to remain subdued There is scope for another 25-40 bps rate cuts

8.5 12 Headline Inflation 8.0 RBI Policy rate (Repo rate) 10 FY20: 3.5%-3.7% 7.5

8 7.0 FY19: 3.4% 6.5 6 (%) 6.0 (% YoY)(% 4 5.5 We expect the terminal rate to 2 5.0 fall to 4.75%-4.9% from 5.15% 0 4.5 Sep-12 Sep-13 Sep-14 Sep-15 Sep-16 Sep-17 Sep-18 Sep-19 Mar-12 Mar-13 Mar-14 Mar-15 Mar-16 Mar-17 Mar-18 Mar-19 Mar-20 Sep-14 Sep-15 Sep-16 Sep-17 Sep-18 Sep-19 Mar-15 Mar-16 Mar-17 Mar-18 Mar-19 Mar-20

Bonds will continue to find support from surplus liquidity Rupee is expected to trade with appreciation bias

10 Year G-Sec Yield 74 USDINR 7.6 73 7.4 We expect the yields to trade We expect the USDINR to trade 7.2 within 6.35%-6.65% range 72 within 69-73 range

7 71 (%) 6.8 70 6.6 69 6.4 6.2 68 Jul-19 Jul-19 Jul-19 Jan-19 Jan-19 Jun-19 Oct-19 Oct-18 Apr-19 Feb-19 Sep-19 Dec-18 Jan-19 Aug-19 Aug-19 Jun-19 Oct-19 Nov-18 Nov-18 Apr-19 Feb-19 Mar-19 Mar-19 Sep-19 Aug-19 Aug-19 May-19 May-19 Mar-19 Mar-19 May-19 May-19

Source: Bloomberg, RBI

29 Transmission remains staggered but is likely to improve with surplus liquidity and linking repo Despite 135 bps reduction, lending rates remained stubbornly high Transfer of surplus reserves from the RBI along with tax cut aided capital inflows, adding to liquidity 12 7.0 3000 Interbank Liquidity 6.5 2000 11

6.0 (%) (%) 1000 10 5.5

(INR bn) (INR 0 9 5.0 -1000 Jun-16 Jun-17 Jun-18 Jun-19 Sep-15 Sep-16 Sep-17 Sep-18 Sep-19 Dec-15 Dec-16 Dec-17 Dec-18 -2000 Mar-16 Mar-17 Mar-18 Mar-19 WALR On Fresh Rupee Loans WALR On Outstanding Rupee Loans Jul-19 Jul-19 Jun-19 Apr-19 Feb-19 Sep-19 Aug-19 Mar-19 Repo Rate (RHS) May-19

. Reflecting easy liquidity conditions, WACR traded below the policy repo rate (on an average) by 8 basis points (bps) in August and by 6 bps in September. However, WALR has been slow in catching up some pace with the RBI, thereby causing an impediment in the mechanism. . Acknowledging the problem of weak transmission, RBI on 4 September asked banks to link their lending rates on floating rate loans given to retail, personal and micro, small and medium enterprises (MSMEs) borrowers to an external benchmark from 1 October. Most banks have linked their retail lending rates to an external benchmark and even lowered the marginal cost of funds-based lending rate (MCLR). . Also, in addition, a record transfer of surplus reserves from the RBI in August which allowed the government to front-load expenditures coupled with the recent corporate tax cut announcement that has reversed negative investor sentiment, thereby boosting capital flows are the factors attributable for keeping liquidity in surplus despite expansion of currency in circulation, advance tax outflows and forex operations by the Reserve Bank that drained liquidity from the system. . We believe going forward liquidity is likely to remain in surplus and continued surplus liquidity bodes well for a better transmission of the RBI’s past and future rate cuts to lower lending rates and lower benchmark 10-year sovereign bond yields.

Source: Bloomberg, RBI

30 Fiscal worries continue to loom

FYTD 20 % BE % BE (Apr- INR tn FY 2020 BE 4.5 Fiscal deficit (% GDP) (Apr-Sep) FYTD20 Sep FY 19) 4.0 Revenue Receipts 19.63 8.16 41.60% 40.10% 3.5 Gross tax Revenue 24.61 9.19 37.34% 39.89% 3.0 Direct Taxes 13.35 4.62 34.61% 38.17% 2.5

Indirect Taxes 11.19 4.50 40.21% 40.59% 2.0

Transfer to States 8.09 3.11 38.44% 40.86% FY 2014 FY 2015 FY 2016 FY 2017 FY 2018 FY 2019 FY2020E FY 2020* Net Tax Revenue 16.50 6.07 36.80% 39.40% . Non Tax revenue 3.13 2.09 66.70% 44.50% In order to shield the already dwindling economy from further weakness government decided to forgo INR 1.45 trillion, which amounts to 0.7% GDP Non debt capital receipts 1.20 0.20 17.20% 19.20% in FY 2020 by announcing corporate tax rate cut. . However, adjusting for the tax devolution for states ( they are expected to Disinvestment 1.05 0.12 11.80% 12.40% receive lower transfer of center’s tax revenue vis-à-vis budget estimates), the net impact is likely to be lower. Total Receipts 20.83 8.37 40.20% 39.00% . Overall, we now expect the FY20 fiscal deficit for the central government to Revenue expenditure 24.48 13.01 53.10% 53.30% come at 3.8%-4.1% of GDP vis-à-vis the target of 3.3%.

Capital Expenditure 3.39 1.87 55.50% 54.20% . This will come on account of the subdued trend in tax collections seen so far, expectation of lower nominal GDP growth of 9.5% in FY20 vis-à-vis the Total Expenditure 27.86 14.89 53.40% 53.40% budgeted growth of 11.0% and given the government is able to attain its disinvestment target. Revenue deficit 4.85 4.85 99.80% 108.00% . We do not expect the government to pull back on expenditure in the wake Gross Fiscal deficit 7.04 6.52 92.60% 95.30% of lower tax collections as it will diminish the fiscal impact.

Source: Controller General Accounts (CGA)

31 Market Outlook Seeking value amidst relatively better valuations

32 Valuations seem to be somewhat reasonable Nifty 50 12M forward PE trades at 18.2x, at a premium to its historical Forward 12M Price to book (P/B) at 2.58x at a 2% premium to its (10 years) average of 15.2x and is +SD expensive historical 10year average of 2.53x 20 4 18 16 3 14 12 2 10 8 1 Jul-17 Jul-06 Jul-11 Jul-17 Jul-06 Jul-11 Jan-17 Jan-06 Jan-12 Jun-16 Oct-19 Oct-14 Oct-08 Jan-17 Jan-06 Jan-12 Feb-18 Apr-14 Feb-07 Apr-09 Feb-13 Jun-16 Sep-13 Oct-19 Oct-14 Oct-08 Dec-10 Feb-18 Apr-14 Feb-07 Apr-09 Feb-13 Sep-13 Aug-18 Aug-07 Aug-12 Dec-10 Nov-15 Nov-09 Aug-18 Aug-07 Aug-12 Mar-19 Mar-08 Nov-15 Nov-09 Mar-19 Mar-08 May-15 May-10 May-15 May-10 Nifty 1yr Blended Forward PE Mean Nifty 1yr Blended Forward PB Mean Mean + Std Dev Mean - Std Dev Mean + Std Dev Mean - Std Dev

Nifty 50 12M forward PE premium to MSCI EM forward PE is closer Gap between earnings yield and G-Sec yield makes more sense to to +1 Std Dev invest in equities 80 7 10

60 6 9

40 5 8 (%) 20 4 7 0 3 6 -20 Jan-14 Jan-15 Jan-16 Jan-17 Jan-18 Jan-19 Sep-14 Sep-15 Sep-16 Sep-17 Sep-18 Sep-19 May-14 May-15 May-16 May-17 May-18 May-19 Jul-15 Jan-06 Jan-07 Jun-13 Jun-14 Oct-19 Apr-11 Feb-08 Sep-18 Aug-16 Aug-17 Mar-09 Mar-10 May-12 Earnings Yield Bond Yield (RHS) Premium % Mean Mean + Std Dev Mean - Std Dev Source: Bloomberg

33 Valuations look attractive for long term investors Market cap to GDP trades closer to its long term average of 77.4

160 140 120 100 80 60 40 20 0 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Mcap as % of GDP Average

Sept dividend yield is at 1.3%, i.e. at par with the 9 year average Free cash flow yield remains well above the historical average of yield, thereby depicting fair valuation. 0.27

Dividend Yield 3 Free cash flow yield 1.6 2 1.4 1 1.2 0 1 -1 0.8 -2 -3 Sep-09 Sep-10 Sep-11 Sep-12 Sep-13 Sep-14 Sep-15 Sep-16 Sep-17 Sep-18 Sep-19 Mar-10 Mar-11 Mar-12 Mar-13 Mar-14 Mar-15 Mar-16 Mar-17 Mar-18 Mar-19 Sep-09 Sep-10 Sep-11 Sep-12 Sep-13 Sep-14 Sep-15 Sep-16 Sep-17 Sep-18 Sep-19

Index yield Average Mar-10 Mar-11 Mar-12 Mar-13 Mar-14 Mar-15 Mar-16 Mar-17 Mar-18 Mar-19

Source: Bloomberg

34 Portfolio Construction

. In regard to our previously discussed thought that the worst is behind us and the bottom is most likely to be formed with Q2FY20 GDP print, we expect growth to rebound to normalized levels in Q1FY21- Q2FY21.

. Since gradual recovery is on way due to continuous government intervention, we have constructed the portfolio in the following manner:

. Reduce cash in the portfolio gradually

. Increase weightage in rate cyclicals like auto and banks.

. Continue to maintain overweight in consumption as we expect any government intervention will help.

. Given our view of stronger Rupee and global slowdown, we are underweight IT and metals and neutral on Pharma.

35 NIFTY 50 portfolio

Mkt Cap P/E (x) P/B (x) RoE (%) Div Yield (%) EPS Last Price Nifty wt Our wt INR mn FY20 FY21 FY20 FY21 FY20 FY21 FY20 FY21 FY20 FY21 BFSI 39.3 42.3 HDFC Bank Ltd 6,828,587 1,248 11.3 11.3 25.6 20.8 4.0 3.5 16.6 17.9 0.8 1.0 48.8 60.2

Housing Development Finance 3,638,913 2,107 7.2 7.2 24.8 23.4 4.2 3.8 15.0 15.5 1.1 1.2 85.0 90.0 Corporation Ltd

ICICI Bank Ltd 3,043,115 471 5.9 7.1 20.5 15.8 2.7 2.4 14.0 16.0 0.8 1.1 23.0 29.7 Kotak Mahindra Bank Ltd 3,015,553 1,579 4.7 4.7 32.6 26.8 4.5 3.9 14.6 15.3 0.1 0.1 48.4 58.9 Axis Bank Ltd 2,107,053 747 2.9 2.9 22.0 14.8 2.5 2.2 11.9 16.0 0.7 1.1 33.9 50.5 State Bank of India 2,587,245 290 2.2 3.5 11.2 8.8 1.1 1.0 10.4 12.0 1.2 1.8 25.8 32.8 Bajaj Finance Ltd 2,314,788 3,992 2.0 2.0 39.9 29.8 8.5 6.5 24.6 24.5 0.2 0.3 100.0 133.8 IndusInd Bank Ltd 898,976 1,297 1.8 2.5 15.7 12.2 2.5 2.1 17.7 18.6 0.8 1.0 82.9 106.5 Bajaj Finserv Ltd 1,286,211 8,082 1.1 1.1 190.4 322.0 4.1 33.1 10.3 0.0 0.0 42.5 25.1 Energy 14.7 14.7 Reliance Industries Ltd 9,376,232 1,479 9.7 11.0 19.2 15.5 2.1 1.9 11.4 12.6 0.5 0.6 77.1 95.6 NTPC Ltd 1,196,747 121 1.1 0.8 9.7 8.6 1.0 1.0 11.0 11.8 4.3 4.6 12.5 14.1 Power Grid Corporation of India Ltd 1,046,056 200 1.0 1.0 9.6 8.8 1.6 1.5 17.4 17.3 4.5 4.5 20.8 22.8 Bharat Petroleum Corporation Ltd 1,139,054 525 0.8 1.4 12.8 10.9 2.5 2.2 20.1 20.9 3.0 3.6 41.0 48.3 GAIL (India) Ltd 602,555 134 0.5 0.5 8.6 8.5 1.2 1.1 13.2 13.7 3.9 4.0 15.6 15.7 IT 13.9 9.5 Infosys Ltd 2,812,468 660 6.3 4.1 17.2 15.3 4.5 4.2 25.5 27.7 3.6 4.2 38.5 43.1 Tata Consultancy Services Ltd 8,453,372 2,253 4.7 3.3 25.8 23.6 8.7 8.0 34.8 35.4 3.0 2.8 87.3 95.7 HCL Technologies Ltd 1,555,662 1,147 1.2 1.2 15.0 13.4 3.2 2.8 22.8 22.0 1.7 2.4 76.4 85.3 Tech Mahindra Ltd 728,014 754 0.9 0.9 15.7 13.9 3.0 2.6 19.6 19.9 2.3 2.5 48.1 54.2 Consumer Goods 12.4 12.4 ITC Ltd 3,187,371 259 4.7 3.0 20.9 19.0 5.0 4.6 24.3 24.5 2.7 3.1 12.4 13.7 Hindustan Unilever Ltd 4,696,343 2,169 3.0 3.0 64.1 53.8 31.6 23.2 84.5 75.1 1.2 1.4 33.9 40.3 Asian Paints Ltd 1,746,987 1,821 1.7 2.5 60.5 51.4 16.0 13.9 27.8 28.4 0.7 0.9 30.1 35.5 Titan Company Ltd 1,168,460 1,316 1.1 1.1 65.0 52.4 16.2 13.5 26.4 27.8 0.5 0.6 20.2 25.1 Nestle India Ltd 1,443,131 14,968 1.1 1.1 64.9 55.7 38.7 34.9 68.8 81.1 1.1 1.3 230.5 268.8 Britannia Industries Ltd 790,671 3,290 0.7 1.7 58.6 50.1 16.3 13.8 29.0 29.3 0.6 0.7 56.1 65.7

36 NIFTY 50 portfolio

Mkt Cap P/E (x) P/B (x) RoE (%) Div Yield (%) EPS Last Price Nifty wt Our wt INR mn FY20 FY21 FY20 FY21 FY20 FY21 FY20 FY21 FY20 FY21

Auto 5.5 7.4

Maruti Suzuki India Ltd 2,283,544 7,559 1.9 1.9 35.4 29.2 4.6 4.2 12.9 14.4 0.9 1.0 213.4 259.2

Mahindra & Mahindra Ltd 753,934 606 1.1 1.5 15.1 15.1 1.6 1.8 12.2 11.3 1.4 1.5 40.8 40.9

Bajaj Auto Ltd 939,502 3,247 0.8 1.5 18.9 17.4 3.6 3.3 20.2 19.5 2.1 2.2 170.7 185.7

Hero MotoCorp Ltd 540,101 2,704 0.7 1.5 17.5 16.2 3.7 3.4 24.2 22.4 3.4 3.5 153.7 166.2

Eicher Motors Ltd 615,038 22,538 0.5 0.5 29.7 26.4 5.9 5.0 21.6 20.5 0.6 0.7 757.2 851.3

Tata Motors Ltd 554,652 178 0.5 0.5 38.2 12.4 0.9 0.9 3.0 8.0 0.3 0.4 4.5 13.9

Engineering 3.9 5.0

Larsen & Toubro Ltd 2,066,690 1,473 3.9 5.0 19.8 16.9 3.0 2.6 15.9 16.6 1.5 1.7 74.4 87.1

Steel 3.0 1.2

Hindalco Industries Ltd 422,360 188 0.6 0.6 8.9 8.0 0.7 0.6 8.4 8.4 0.8 0.8 21.1 23.3

Tata Steel Ltd 431,737 381 0.6 0.6 8.1 6.4 0.6 0.6 8.0 9.0 2.7 2.8 48.0 60.2

Pharma 2.3 2.3

Sun Pharmaceutical Industries Ltd 1,039,846 433 1.1 1.1 22.2 18.6 2.3 2.1 10.7 11.5 0.7 0.8 19.3 23.1

Dr Reddy's Laboratories Ltd 462,267 2,783 0.7 0.7 20.5 18.3 2.9 2.5 14.5 14.6 0.9 0.9 134.6 151.1

Cipla Ltd 376,317 467 0.5 0.5 21.5 18.0 2.3 2.0 11.1 11.9 0.7 0.7 21.6 25.8

Telecom 1.9 1.5

Bharti Airtel Ltd 1,920,637 374 1.5 1.5 -49.1 -2453.0 1.9 1.9 -3.6 -0.1 0.5 0.7 -7.5 -0.2

Cement 1.6 2.0

UltraTech Cement Ltd 1,195,784 4,143 1.0 2.0 29.3 24.4 3.3 2.9 11.9 12.4 0.4 0.4 140.7 169.2

Fertilizer 0.7 1.0

UPL Ltd 455,629 596 0.7 1.0 15.3 12.1 2.6 2.3 18.3 19.9 1.3 1.6 38.1 48.2

Ports 0.7 0.7

Adani Ports and Special Economic 819,683 396 0.7 0.7 18.1 15.4 3.0 2.6 17.7 17.7 1.0 1.1 22.0 25.8 Zone Ltd

37 Top picks from our universe SBI, L&T, Bajaj Auto, RNAM, Bajaj Consumer and NCC

SBI Bank: Buy – Price: Rs312; TP: Rs417; Upside: 33.5%

Investment Argument Summary Financials

. While overall loan growth dipped q/q, the higher-yielding retail portfolio saw a FY17 FY18 FY19 FY20E FY21E healthy 18.9% YoY loan growth. The bank guides toward overall loan growth of NII 752 749 883 1,039 1,160 12% in FY20; we estimate 12.2% loan growth CAGR over FY20-21E. . Reported NIM grew materially (2.9% vs 2.81% QoQ), aided by lower cost of funds PPoP 595 595 554 723 825 and rise in yields. We believe margins will improve and estimate end-FY21E NIM at PAT (18) (65) 9 212 345 ~3.1%. Net worth 2,118 2,191 2,209 2,421 2,766 . Asset quality is stabilising, and we expect provision costs to moderate over FY20- Deposits 25,853 27,063 29,114 31,589 34,305 21E. We factor in 160/140bps of provision costs over FY20/21. The GNPA ratio has declined to 7.2%, led by lower corporate GNPAs. PCR (calc.) is at 62.9% (PCR incl Loans (Rs bn) 18,690 19,349 21,859 24,482 27,542 prudential w/offs is strong at 81.2%) and NNPA has declined to 2.8% (vs 3.1% Assets 33,049 34,548 36,809 40,094 44,991 QoQ). Loan growth (%) 27.7 3.5 13.0 12.0 12.5 . The bank’s funding franchise remains strong with CASA ratio at 45.1%, amongst LDR (%) 72.3 71.5 75.1 77.5 80.3 the higher CASA ratios in the system. Capitalisation is robust (Tier-I / CET-I at 11.3% / 10.1% respectively). CASA (%) 42.8 44.5 44.2 44.1 45.2 . Subsidiaries remain profitable and add meaningfully to SoTP. Further unlocking of NIM (%) 3.0 2.5 2.8 3.1 3.1 value of key subs will add to the value of the Bank. Provisions (%) 3.6 3.9 2.6 1.6 1.4 . Key risks – Execution on loan growth and higher-than-expected provision costs. GNPA (%) 9.1 10.9 7.5 6.4 4.7

NNPA (%) 5.2 5.7 3.0 2.5 1.8 Valuation - SOTP based TP Overall CAR (%) 13.0 12.7 12.8 13.2 13.1 . We assign target multiple on the core banking business at 1.5x FY21E ABV on the Tier I (%) 10.4 10.5 10.8 11.3 11.4 back of structural strengthening in asset quality, improving margins, funding ROA (%) -0.1 -0.2 0.0 0.6 0.8 franchise, and healthy coverage ratios, all of which point toward a strengthening ROE (%) -1.1 -3.5 0.4 9.1 13.3 balance sheet. . Aided by stable subsidiary performance, we get 33.5% upside in our TP. We retain EPS (Rs) -2.2 -7.3 1.0 23.7 38.7 SBIN as Buy and maintain our SOTP-based TP at Rs417. ABV (Rs) 150.4 93.5 146.1 175.8 227.4 . Risks to our call include execution on loan growth and higher-than-expected P/E (x) -107.9 -39.5 286.7 13.2 8.1 provisions. P/ABV (x) 1.6 3.1 2.2 1.8 1.4 Source: Company, Centrum Research Estimates

Larsen & Toubro (L&T) Add – Price: Rs1475; TP: Rs1630; Upside: 11%

Investment Arguments Summary Financials (Consolidated) . Reaping benefits of diverse capabilities and presence in a tepid environment: With robust order inflows YTD (14.6% growth in E&C inflows) and strong bid YE Mar (Rs mn) FY17 FY18 FY19 FY20E FY21E pipeline of Rs5.2 trn for H2FY20, L&T is on track to achieve its guidance of 10-12% Revenues order inflow growth (H2 implied growth of 8.7%). This, even as ordering for its 11,00,110 11,98,621 13,52,203 15,68,179 17,73,600 peers declined 23.5% in H1FY20. L&T’s outperformance continues to be driven by EBITDA 1,11,305 1,35,714 1,53,296 1,82,621 2,14,570 its diverse segmental and geographic presence, including its international footprint. We see strong prospects in transportation, affordable housing, airports EBITDA margin (%) 10.1 11.3 11.3 11.6 12.1 and refining among other segments. . Strong E&C earnings growth driven by robust execution, stable margins & tax cut: Reported profit 60,412 73,699 89,051 1,02,625 1,15,455 We expect L&T’s E&C revenue to grow 12%/12.6% yoy in FY20/21E driven by Reported profit continued growth in Hydrocarbons and improved backlog in the power segment. growth (%) 42.7 22.0 20.8 15.2 12.5 We expect E&C margins to inch up 20bps to 10.3% in FY21E aided by margin PAT Margin recovery in Infrastructure and Power and improved margins in Hydrocarbon. We 5.5 6.1 6.6 6.5 6.5 estimate adjusted E&C earnings to grow at 31.8%/16.2% in FY20/21E with FY20E EPS (Rs) 43.2 52.6 63.5 72.7 81.8 earnings boosted by cut in corporate tax rate (consolidated earnings growth of 19.2%/12.5% in FY20/21E). PE (x) 35.1 28.7 24.2 20.3 18.0 . Monetization of non-core assets aids ROE improvement; expansion to continue: As a part of its strategic programme ‘Lakshya’, L&T targets to improve its RoE by EV/EBITDA (x) 20.3 16.6 14.5 12.9 11.1 600 bps to 18% over FY17-21E. L&T has raised ~Rs147bn through monetization of Dividend yield (%) non-core assets since 2016 and funded its outstanding equity commitments and 0.9 1.0 1.2 1.3 1.5 reduced debt levels. Further, L&T has stopped bidding for new BOT assets as part RoE (%) 12.8 13.9 15.1 15.3 15.3 of this programme. This has improved ROE from 9.9% in FY16 to 15.1% in FY19. Strong earnings growth should drive ROE expansion to 15.3% in FY21E and a likely RoCE (%) 5.3 5.6 5.5 6.2 6.7 special dividend/buyback from E&A business sale proceeds can lift ROE further. Source: Company, Centrum Research Estimates

Valuation . We value L&T on SOTP basis at Rs1630, valuing the E&C business at 22x FY21E EPS. Our target valuation derives support from L&T’s strong earnings growth and improving ROE. Key risks: Slowdown in order inflows, pull back in execution due to further rise in working capital levels and renewed margin pressures.

Bajaj Auto: Buy – Price: Rs3247; TP: Rs3733; Upside: 15%

Investment Arguments Summary Financials . Leading through innovation: BJAUT has been a frontrunner when it comes to YE March (Rs mn) FY17 FY18 FY19 FY20E FY21E innovation in the two-wheeler (2W) industry right from introducing the scooter Chetak, twin spark plug technology in motorcycles, sportier bikes like Pulsar and now Net Revenues 2,17,667 2,51,649 3,02,500 3,19,176 3,49,073 the first to launch the electric scooter, Chetak. . Plugging product portfolio to garner market share: BJAUT over the last one year has EBDITA 44,224 47,834 49,820 51,187 56,226 reinforced its focus on garnering market share. It has a healthy 33% market share in the premium segment and 17% in the entry segment led by aggressive product and EBIDTA Margin (%) 20.3 19.0 16.5 16.0 16.1 pricing action. The same is being replicated in the Executive segment as well through launch of new models. Market share in this segment is 18.3% as of H1FY20. Reported PAT 38,284 40,679 43,329 49,462 54,282 . BJAUT is best placed to leverage the export opportunity given its strong overseas PAT Margin (%) 17.6 16.2 14.3 15.5 15.6 presence and tie-up with KTM and Triumph. Tie-up with KTM gives BJAUT access to high end technology and helps expand its product range in domestic market, P/E (x) 24.5 23.1 20.1 19.0 17.3 leverage its low cost sourcing and manufacturing base. We expect exports to grow at 7.2% CAGR over FY19-21E. EV/EBIDTA (x) 18.2 16.1 15.1 14.3 12.4 . We believe BJAUT is on the growth path, driven by (a) favorable regulatory changes in domestic passenger 3W states, providing strong medium-term growth visibility, Dividend Yield (%) 1.7 1.9 1.9 2.1 2.1 (b) filling up product gaps in the domestic motorcycle portfolio, to regain the lost market share and (c) stability and ramp-up in key export markets. ROE (%) 25.3 22.5 21.2 21.8 21.5 Valuation ROCE (%) 24.6 22.0 20.8 21.2 21.0 . We expect volume CAGR of ~5% over FY19-21. We believe EBITDA margin for the Source: Company, Centrum Research Estimates company has bottomed out in the Q1FY20 and is likely to stabilize at the current level. We expect BJAUT to report 16% and 16.1% EBITDA margins in FY20E and FY21E respectively. . We initiate BUY on BJAUT as (1) After regaining market share in the entry segment, the company has launched new products in the mid-segment to strengthen its position, (2) Margins are bottoming out at ~15-16% (3) Robust return ratios with ROEs of ~20% and healthy free cash flows. . Initiate with a Target Price of Rs3733 (18x FY21E EPS + cash + 40% discount for the KTM stake).

RNAM: Buy; CMP: 362.1, TP 421.1; Upside: 16.3%

Investment Argument Summary Financials . RNAM is the fifth largest asset management company (AMC) in India. At Q2FY20, it Rs mn FY17 FY18 FY19 FY20E FY21E had a total MF QAAUM of Rs 2.03 trn, with ~7.7% market share. Revenue from . AUM mix for Q2FY20 QAAUM b/w Equity/Debt/Liquid/Others is 13,075 15,918 14,786 13,014 14,661 Operations 43%/29%/14%/14% and in terms of mix, retail was 26%. 80% of the Sept-19 QAAUM was in T30 (Top 30) cities. Expenses 8,545 10,930 9,497 8,102 7,747 . Recently, Japan’s Nippon Life Insurance completed the acquisition of 75% stake in Core Operating Income 4,530 4,988 5,290 4,912 6,915 RNAM from Reliance Capital. Nippon Life Insurance is one of the largest life PBT 5,814 6,556 7,002 6,343 8,445 insurance companies in Japan, managing assets of over USD 700 bn. PAT 4,020 4,572 4,871 4,832 6,317 . The Nippon Life buyout may shed the erstwhile promoter overhang on the stock

and aid in getting higher flows from domestic corporates and also offshore flows. PAT Margin 30.7 28.7 32.9 37.1 43.1 . Over the near-mid term, growth is seen on 3 fronts: (1) Regaining of lost share of PAT Growth (%) 8.5 13.7 6.5 -0.8 30.7 Debt and Liquid funds in the institutional space. The combined share of Debt and AUM Growth (Based on 23.3 24.4 1.3 (7.0) 15.0 Liquid funds in the AUM mix has fallen from 58% in June-18 to 43% in Sept-19. (2) AAAUM) (%) Strong SIP flows at around Rs.8.6bn with origination tenure of 77% of the ROE (%) 21.5 20.5 19.5 18.6 23.8 incremental flows at >5years support long term regular growth. (3) Leveraging the ROAAUM (%) 0.21 0.19 0.20 0.22 0.25 relations of Nippon Life Japan with global tech and insurance companies to get overseas funds. AUM Mix Equity 28.0 36.0 39.0 40.0 38.5 .Valuation Debt 47.0 40.0 33.0 32.0 32.0 . RNAM is quoting at a cheap valuation compared with HDFC AMC with substantial Liquid 19.0 19.0 19.0 14.0 14.3

discount based on FY19 trailing P/E. Although we do not see this gap closing Others 6.0 5.0 9.0 14.0 15.3 completely, we expect the gap to somewhat narrow. EPS 7.5 8.0 7.9 10.3 . Takeover by Nippon Life should instil confidence among institutional investors in RNAM with the new parents’ brand equity likely to help RNAM garner higher share DPS 7.2 8.4 7.1 9.3 of future inflows from domestic corporates and also offshore flows. At the same BVPS 39.7 42.0 42.8 43.8 time, the company would retain its management team which has delivered P/E 36.7 25.0 29.0 35.1 superior performance in the past. . RNAM has delivered an average of ~22% ROE in the past 5 years with dividend P/B 6.9 4.7 5.4 8.3 payout ratio of >80%. Source: Company, Centrum Research Estimates . We Value at 40.8x FY21E and get a Buy rating with TP of 421.1 with upside of 16.3%

Bajaj Consumer Care : Buy – Price: Rs252; TP: Rs387; Upside: 54%

Investment Arguments Summary Financials

. “We are a hair oil company from now and not just light hair oil company” said the FY17 FY18 FY19 FY20E FY21E company’s management. The company is focusing to expand its market share in the ~INR135bn overall hair oil category from 10% to 20%. Till now BCCL was Revenues 7,945 8,078 8,901 9,615 10,778 focused on Light Hair Oil segment, now it has identified to concentration across hair oil sub-segment. We believe company’s focussed attention through project EBITDA 2,615 2,345 2,460 2,735 3,128 Vistaar may help them achieve the desired results in the short term, however long term opportunity still exist. EBITDA margin (%) 32.9 29.0 27.6 28.5 29.0 . Focused action to increase penetration: Under Project Vistaar (in partnership with PAT 2,173 2,113 2,210 2,458 2,874 Bain & Co.), BCCL is now focusing on sub-segments of hair oil category and enhancing its distribution. It chose West Bengal state to the pilot & the results PAT growth (%) 10.6 (2.8) 4.6 11.2 17.0 have been positive. Given this, it suggest the right move in driving revenues in our view. Management said one more large state with hair oil base to go live under this P/E 14.8 14.3 15.0 15.8 13.5 project from Nov 1st. Under this strategy we believe Nomarks does not fit in the core & could get divested. EV/EBITDA 20.4 25.7 22.3 13.3 11.6 . Promoters release Pledge: We consider 22% stake sale by promoter to release the pledged shares eliminates uncertainty on the stock. The company shall now start Dividend Yield (%) 3.0 2.8 3.6 5.7 6.1 trading at its fair value basis fundamentals. The promoter highlighted that they ROE (%) would consolidate their stake to at-least to 51% through creeping acquisition. 44.6 42.8 46.0 53.8 64.2 ROCE (%) 48.6 42.9 46.3 54.0 64.3

Valuation Source: Company, Centrum Research Estimates

. We consider 22% stake sale by promoter could eliminate uncertainty on the stock. . We maintain Buy with a DCF-based target price of Rs387 (implied PE 19.8x FY21E EPS). . Risks to our call include over-dependence on ADHO, raw material price inflation and lag between price hikes by the company.

NCC Ltd (NJCC) Buy – Price: Rs58; TP: Rs101; Upside: 74%

Investment Arguments Summary Financials (Standalone) . Well diversified order backlog with moderate revenue visibility: NCC has a well diversified order backlog of Rs320bn spread across segments like buildings and YE Mar (Rs mn) FY17 FY18 FY19 FY20E FY21E housing, water, irrigation, roads & e-ways etc. Also, it is diversified geographically with pan India presence including key states like Maharashtra, AP, Telangana, Revenues 78,921 75,593 1,20,798 98,958 1,27,488 Karnataka, Gujarat, UP etc with regional offices in 13 cities. However, only 61% of the OB is currently under execution with AP orders stalled as the new state EBITDA 6,852 8,549 14,230 10,732 14,671 government is reviewing the orders, providing moderate revenue visibility. EBITDA margin (%) 8.7 11.3 11.8 10.8 11.5 . Strong order prospects in NCC’s core verticals to improve inflows: While order inflows at Rs17.3bn in H1FY20 have remained tepid, we see robust order prospects Reported profit 2,256 2,868 5,639 3,515 6,169 in NCC’s core segments. E-way projects worth Rs800bn are at various stages of tendering, metro projects with civil construction opportunity of Rs300bn are likely Reported profit growth (%) -16.9 27.2 96.6 -37.7 75.5 to be bid over the next 12 months and affordable housing (under PMAY) has ordering potential of ~Rs400bn over the next 12-18 months. The government’s PAT Margin 2.9 3.8 4.7 3.6 4.8 renewed focus on water will enhance opportunities for NCC in water transport, EPS (Rs) 4.1 5.1 9.4 5.8 10.1 distribution and storage which is one of NCC’s core capabilities. . Strong earnings recovery in FY21; leverage to remain under check: Due to PE (x) 12.7 8.3 5.6 9.9 5.7 disruption in AP projects, FY20 revenue/ earnings are expected to decline sharply by 18.1%/ 38% yoy. However, we expect execution in PMAY AP order to recommence EV/EBITDA (x) 6.8 5.3 3.6 5.0 3.5 in H2FY20 and expect strong execution of non AP orders in FY21 driving revenue/ earnings rebound (29%/ 73% yoy growth). While debt rose to Rs24bn in Jun-19, Dividend yield (%) 0.7 0.9 2.6 1.5 2.6 NCC’s focus on controlling w-cap and annual asset monetization target of Rs1.5bn RoE (%) 6.7 7.5 12.5 7.1 11.5 should keep leverage under check (Net D/E: 0.3x in FY21E). RoCE (%) 11.6 13.3 14.0 10.0 13.0 Valuation Source: Company, Centrum Research Estimates . We like NCC given its well diversified order backlog, healthy bid pipeline and strong execution capabilities. Led by new order wins and part revival of execution in AP based projects (only PMAY projects worth Rs50bn considered) we expect strong earnings recovery in FY21. We value NCC at 10x FY21 earnings and arrive at a TP of Rs101/ share, implying 74% upside at current levels. Also, improvement in order intake and clarity on recovery of net working capital exposure worth Rs7.5bn in AP may act as key stock triggers in near to medium term.

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