23 March 2013

Is it a good time to accumulate SAIL – Part 2

Here is the second and last part of our analysis of SAIL. You can read the first part here – Part 1.

We take up an analysis of P/E & EPS Expansion (& Contraction) of SAIL in this post.

The Blue blocks in graph are Trailing Twelve Month EPS figures for SAIL since April 2004. The Red Worm is a plot of P/E multiples of the stock.

SAIL PE EPS figures
SAIL - EPS (TTM) & P/E figures since April 2004

As of now, stock is trading at a PE multiple of 7.8. Though this in itself looks cheap, it is still not close to its historical lows of around 3. Another thing which we observed, and we may be wrong, is that PE expansions trail Earnings Expansion for this company (or cyclical commodities in general). And since last 2 years, it seems that earnings are neither going up nor going down. They have stabilized in a band of Rs 7 – Rs 9 per share. We believe that this may be the bottoming out of the earnings. The earnings may not go down much from here. And since, there is no immediate trigger for stock to move up, we believe that market expectations (and we take P/E as a proxy for that) are bound to stay stable or go down in near future, i.e., the stock may stay at these levels or go down a little. We don't know if it will go down to PEs of 3 with current earnings or not. If it does, then that would mean that stock would move lower to levels of 35-40. But that would be the worst case scenario.

What seems more plausible here is that earnings have bottomed out and after a few quarters, they may make an upward move. With expansion in earnings, market sentiments would also catch up with an expansion in PEs. Hence there is a possibility of increase in share prices from current levels of less than 70.

Hence though we do like the stock as the risk reward ratio seems more skewed towards reward, there is also a possibility that stock may go down, even without a fall in earnings, just because of lack of positive news. And if Indian economy does start gaining momentum in quarters to come, that would once again help in raising market sentiments and hence a higher PE assignment to SAIL. On the downside, if things don’t turn out to be as bright was we might like them to be, we always have a decent dividend payout to look forward to. Over the years, SAIL has consistently doled out generous dividends. And we think that same would be continued in future.

So once again, we come back to our original question?

Is it a good time to buy / accumulate shares of SAIL?

Upfront, we would say that one can start accumulating this stock. By this we mean that one can start buying in small quantities. We are still not sure if the stock can go down more or not. But if stock is going down more because of PE contraction rather than earnings contraction, then one can continue accumulating the stock. Atleast this is what we plan to do. :-) But if the earnings, which we are assuming have stabilized for the time being, start going down, then one has to relook at the investment.

A lot of indicators (read more in Is it good time to accumulate shares of SAIL – Part 1) are pointing that downside may be limited. Hence, we plan buying this stock in small quantities for capital appreciation as well as dividend income.

This should not be taken as an investment recommendation. Do your own research before investing your hard earned money.

Disclaimer – Created long positions recently in SAIL. Author(s) plan to accumulate the stock in future, depending on various factors detailed in this and previous post.

Disclaimer - Author had a short stint in steel industry.

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9 comments:

  1. Good Analysis....But the only thing certain in the whole story is the "Dividend part"....If one is to make investment in a Dividend stock..This is the price and it is the time to GO...However one should look to buy another stock after this stock gets back to its fair value, which may be thirty percent above this price considering the future optimism...


    But for me it is better to invest the time in finding a "Warren Buffett" stock, stock with a wide MOAT........Author, what are your views on SKF INDIA,

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  2. @6455c9c43ecb15b9a789cc755145cae9:disqus

    True, The dividend does provide some kind of support to this stock. And since this is a cyclical stock, one can definitely try getting in and out of the stock. But only if one is able to correctly judge the commodities cycle. :-)
    Even we would love to invest in a typical 'Warren Buffett' type stock in India. But unfortunately, we have not checked SKF India till date :-(

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  3. red line almost always stayed within blue area

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  4. @dragrawal:disqus

    True. But comparing EPS and P/E on the same scale and in absolute sense would not give the insights which we wanted to in this post :-)

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  5. One noteworthy comment in your analysis: The PE follows EPS. When EPS tops out, PE bottoms out and rises, in other words, after EPS tops out, price rises. Then EPS and Price move in reverse direction of each other.

    Currently, EPS is going down. Only when EPS starts going up one should start accumulation, till then downside could continue.

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  6. Yes, it is hard to disagree that SAIL seems cheap by several historical indicators. I'd only like to add that a balanced assessment of even the future isn't bad as the popular opinion would have us believe.

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  7. Yes, normally one would steer clear of buzz words like 'hot (or cold) sector'. But in the present case of PSUs + (metals, minerals, heavy goods, transportation), stocks have become so cheap that they perhaps deserve a second look.

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  8. My argument against making any purchases now:

    A Value Investor (VI) buys shares of good companies that are currently unpopular. But, by no measure SAIL is currently good. It has debt, no profit, no cash flow, no dividend, huge inventories and the recession has only started.

    It is probable that it will see a turnaround in the future (a decade may be). But, a Value Investor does not take decisions based on what MAY happen. He takes decisions on what he sees in the Financial Statements. He is least interested in speculating.

    On the other hand, it is likely that the Metal stock prices remain under pressure for as long as a decade. Reasons:

    1) In the recent years, Steel Manufacturers worldwide have multiplied capacities by several times. This added supply is only going to make things very difficult in recession.

    2) The added interest cost is going to make the blow harder. For past 5 years, Tata Steel is paying 30% of Gross profit in Interest !

    3) Global growth is fairly subdued and is affecting the steel demand. This is likely to continue as the recession has only started.

    A Value Investor must not feel pressure to invest in the first stock he sees value in. Let other choices surface, which will give him ample opportunity to make educated investments.

    Other choices will surface as Nifty corrects further.

    The PE of Nifty is 17.57 (March), which is the average of last 14 years. Hence, there is still a fair amount of investor expectation in it.

    Nifty's 2012 Low is 4500. Since then the fundamentals have worsened. A Value Investor may not wait for lower levels, or even 4500 for that matter, but at least 5000. At Nifty 5000, most scrips will have corrected another 30% from current levels. This will give the Value Investor choices. It is important to have choices as it puts the psychological edge in favour.

    Currently, only the metal sector falls under the parameters of Value Investing. Soon, others will follow. Waiting is best. Do not be pressed for choices.



    A Value Investor would rather buy Infosys at Rs.1800 than Sail at Rs.40.

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  9. @a1278f09cdcf669cf2677c295927b32c:disqus

    Thanks for the elaborate comment. You have raised some really valid concerns.
    :-) We would definitely wait (or rather are waiting) to deploy more cash at lower levels.

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