Share market outlook of the week: Nifty headed towards 23,400 post consolidation breakout

Nifty hit new highs with gain of 2% last week led by buying across sectors. Most major global indices declined 1%-2%.
Two-month consolidation breakout: Nifty breached out of two-month consolidation range indicating resumption of uptrend and expected to head towards 23,400 in June 2024. Volatility along the way if any should be used as a buying opportunity. Buy the dips as we expect Nifty to hold key support of 22,400.
Focus on big picture, we are in structural uptrend: Anxiety will subside post event and markets will follow its structural up trend. Retracement of rally would thus provide a buying opportunity and therefore investors should focus on building portfolios and ride the uptrend. Two important data sets to follow for H2CY24 are:

Election year Nifty returns have been positive >80% of the time with median projection of 17%. Target implication based on CY23 closing is aprox 25,000.
4^th calendar year of Decadal cycle: In each of past four decades 4^th year returns (2014,2004,1994,1984) have been positive with median value of 15%. This also projects year-end target of approx. 25,000.

Macros and global factors: most global markets are in steady up trend and expected to act as tailwind. On macro front, lower brent prices.

Change of stance from FIIs ahead of May Expiry and MSCI Rebalancing

FIIs have been on the selling spree since April and have sold nearly 50,000 crores. Due to this sharp sell-off, Nifty has underperformed broader markets.
The selling pressure seems to be getting arrested this week as they have even turned net buyers in secondary markets on Thursday when they bought nearly 4,500 crores.
Considering, upcoming monthly settlement and MSCI rebalancing at the end of the month, we can expect the flows to remain intact. This also implies that Nifty heavyweights may trigger a catch-up exercise which would lead to Nifty outperforming broader markets.

RBI Dividend: Timely surprise ahead of the start of global bond index inflows

The dividend announced by RBI of Rs 2.11 lakh crore is far higher than budgeted amount of Rs 1.02 lakh crore. The contingency risk buffer (CRB) has also been hiked to 6.5% from 6% previously.
The fiscal deficit for FY24 is projected at Rs 16.8 lakh crore and therefore this additional Rs 1.1 lakh crore has the potential to reduce the fiscal deficit by 0.3% and consequently lower borrowing and lower bond yields. Alternatively, it will help support infrastructure spending. In both scenarios, equity market will take it positively.
This huge surplus will also improve the banking system liquidity which is currently in deficit at around Rs 2.5 lakh crore.

Market Reaction:

India’s benchmark 10-year bond yield dropped four basis points to 7.0% post this announcement. Short term rates declined by 10-20 bps. In last two weeks, Indian 10-year bond yield has declined 20 bps from 7.2% to 7.0%.
While details are awaited, higher interest rates both on domestic and foreign securities, significantly high gross sale of forex along with limited drag from liquidity operations compared to the previous year could have led to such a higher amount of dividend.
This improved fiscal outlook has coincided with expected FPI inflows starting next month (monthly inflows of USD 2 bn) due to global bond index inclusion and start of rate cut cycle. Overall, the environment is conducive for the bond yield curve to shift lower with 10-year to move towards 6.5% over medium term.
Any decline in g-sec yield amid anticipation of fiscal prudence is seen to benefit treasury income of banks, especially PSU banks. Indirectly, lower yields will also support higher valuation multiples.

Defence – Growth pipeline remains robust for the next 5 years

Defence stocks continues to see run-up, even after seeing a significant re-rating in the last 2 years. We believe that there is strong growth visibility for defence companies like Hindustan Aeronautics, Bharat Electronics, Bharat Dynamics, Mazagon Dock and Cochin Shipyard considering their order backlog and robust pipeline for the next 3-5 years.
We believe that defence sector is going through a major structural change considering the govt’s focus on making India as a global manufacturing base for defence platforms. Execution also has been improving for these companies with increasing indigenization of platforms through banning imports of key systems/sub-systems and components by the government.
Recent commentary from the managements of HAL and BEL have also been very positive in terms of future order prospects. In the next 5 years, we see Rs 6-7 lakh crores worth of contracts to be placed with the defence companies (for platforms like aircrafts, helicopters, aircraft carrier, missiles, combat ships, artilleries, unmanned ariel vehicles etc).
Bharat Electronics Q4 numbers were strong led by improvement in execution. Revenue increased by ~33% YoY as compared to ~5% YoY in 9MFY24. For full year, revenue growth of ~14% was largely in-line with estimates. EBITDA margin improved to 24.9% in FY24 (vs 23% in FY23) led by operational efficiencies and increasing indigenisation.
Management is confident of double digit growth over the next few years led by pick-up in execution of current backlog (~Rs 75,000 crore – 3.7x FY24 revenue) and strong order inflows (Rs 70,000-75,000 crore of inflows expected over FY25E and FY26E). We remain positive on BEL with a target price of 330.
We are positive on HAL also with the target price of 5,700 considering its strong order book (Rs 94,000 crore – 3.1x FY24 revenue) and order prospects worth over 2 lakh crores over the next 3 years.

ITC muted performance (CMP - Rs 441, Mcap - Rs 5,51,013 crore, Hold)

ITC reported muted performance. Sustained growth in FMCG segment & strong uptick in hotel segment was offset by muted agri and paper segment. Thus, revenue growth remained in lower single digit at 2% YoY at Rs 17,572 crore and resultantly earnings witnessed a marginal de-growth of 1.3%.
Cigarette segment witnessed consolidation in volumes, though premiumization has led to 7.7% YoY growth in net revenue while PBIT increased 5% YoY amid elevated input cost (including tobacco). Hotel segment continued to deliver strong momentum with 14.9% YoY growth in top-line and 33.8% YoY jump in PBIT. Higher utilization and operating leverage led to 340 bps improvement in margins at 38.2%.
FMCG – others reported 7.2% YoY growth in revenue owing to healthy traction in stationary products and staples including dairy. PBIT increased 15% YoY with 60 bps expansion in margins at 11.6% (excluding one-offs).
Trade restriction continued to impact agri segment witnessing de-growth of 13.4% YoY in revenue while intense competitive intensity, subdued realization and higher input cost (domestic wood) led to 6.7% de-growth in revenue and 34.1% decline in PBIT for paperboard segment.
While Q4FY24 performance remain muted owing to subdued consumption demand, improving macro-economic indicators, prospects of a normal monsoon and green shoots witnessed in rural demand recovery, augur well for a gradual revival ahead. Further, NCLT has directed to convey shareholders meeting on 6 June 2024 for seeking approval on de-merger of hotel business.

Road Sector witnesses ordering; To accelerate further post elections with NHAI ordering kicking in

This week saw ordering of road projects by Maharashtra State Road Development Corporation (MSRDC). Among the listed space and our coverage, Hg Infra bagged two EPC road project order worth Rs 4,142 crore. Similarly, PNC Infratech won 2 road EPC order worth Rs 4,994 crore. GR Infra also bagged 2 orders worth Rs 4,346 crore.
In last one months, stocks in the road space have done really well. For example, HG Infra (up 45% in one month), PNC Infra (up 17% in one month), GR Infra (up 19% in one month).
We highlight that these are state government projects and ordering by NHAI is likely to resume post elections. NHAI has a pipeline of 6,000 km worth Rs 1.5 lakh crore to be ordered in FY25.
On a long-term basis, the road ministry plans to add 41,000 kilometres of national highways, including the development of 15,000 kilometres of high-speed corridors, by FY32. This will entail capex of Rs 20 lakh crore. This will provide a huge tailwind for road players in our coverage like PNC Infra, KNR Construction, HG Infra as they have a relatively lean balance sheet and have strong execution track records.
Our preferred picks are PNC Infra (TP: Rs 550 – will be reviewed post earnings), KNR Construction (TP: Rs 340) and HG Infra (TP: Rs 1,445 – can be seen on dips).

Cement Sector – soft pricing impacted margins, Overall outlook remains strong

Margins of cement companies impacted on sequential basis, mainly on account of lower realizations as cement prices declined continuously across regions from Sept 2023 onwards. Average realization of our cement coverage was down by ~5% QoQ.
However, volume growth remained strong for most of the companies led by healthy demand and timely capacity expansions. Companies like ACC, Ambuja, Ultratech, Ramco and JK Cement showed volume growth in double digits (ACC volumes grew 22% YoY, followed by Ambuja at 18%, Ramco at 17%, JK Cem & Star cement at 12% each and Ultratech at 11%).
Average EBITDA/ton of our aggregate cement universe stood at Rs 1,070/ton which was ~12% down on QoQ basis. However, on YoY basis, EBITDA/ton improved for almost all the companies led by lower power & fuel cost, other cost efficiencies and positive operating leverage.
Only south based companies like Ramco and Dalmia witnessed YoY decline in EBITDA/ton because of south region exposure where cement prices fell more as compared to other regions.
Going ahead, we believe that industry volume growth at 8-9%. But companies like ACC, Ambuja, Ultratech, Shree, Ramco, JK Cem, JK Lakshmi and Star would likely witness better than industry volume growth led by ongoing capacity expansions.
Overall profitability of cement companies are expected to increase as EBITDA/ton is expected to improve further over FY25-26E for all the companies considering the continuous focus on cost efficiencies (like increasing usage of green power & fuel, freight cost and raw material cost optimization) and positive operating leverage.
We are positive on companies like ACC (Target Price – Rs 3,225), Ambuja (Target Price – 720), UltraTech (Target Price – Rs 12,430), JK Cement (Target Price - Rs 5,175).

Indian Tyre Space: Pricing Discipline, stable RM prices and export play offers exciting opportunity

Tyre majors in the recent past have reported stable quarterly performance in Q4FY24 with all tyre companies talking about price increase pursuant to rise in raw material costs as well as EPR (Extended Producer Responsibility) provisioning. This comes as a sign of relief as pricing discipline will ensure healthy profitability at all tyre players with sustainable mid-teens EBITDA margin profile.
With crude correcting from its recent highs and down 10% in the past month at US$ 81/barrel and players reporting recovery in export sales with all players reporting double digit export growth in Q4FY24 on YoY basis. We have a selective positive view on the sector.
Balkrishna Industries (BKT) reported robust performance in Q4FY24 and was a beat to street estimates. Standalone net sales for the quarter were at Rs 2,673 crore, up 15.3% YoY amid tyre sales volume of 82,085 tonne, up 13% YoY. EBITDA margins in Q4FY24 came in at 24.9% (ten quarter high), up 460 bps YoY and 125 bps QoQ. PAT for the quarter stood at Rs 481 crore, up 88% YoY and 56% QoQ, driven by healthy volume growth, margin expansion and high other income (includes forex gains).
BKT operates in a niche off highway tyre (OHT) segment which finds application in agriculture and mining/industrial purposes. These OHT tyres are typically large in size vs. the usual vehicle tyres and are meant for specific applications. On global front, it has a market share of ~5-6% and is committed to augment it to ~10% with its diversification efforts as well as better OEM penetration especially on the non-farm tyre segment. Balkrishna Industries stands out amongst its peer by virtue of its healthy margin and return ratios profile as well as strong B/S (minimal debt). Consequently, we maintain a positive view on BKT. However, with sharp run up in stock price over past one month (up ~25%) we assign HOLD rating on the stock. We value BKT at Rs 3,250 i.e. 30x PE on FY26E.

US momentum drives Q4 numbers for leading Pharma companies

Analysis of Q4FY24 numbers of leading Pharma players (Sun, DRL, Cipla, Zydus, Lupin combined together) on a combined basis clearly reflect accelerated US traction and its influence on overall numbers.
Combined sales of these five players grew 10% YoY to Rs 35,608 core while combined EBITDA grew 19% YoY to Rs 8,861 crore. Margins stood at 25% (up ~200 bps YoY).
US growth was significant for the pack with a growth of 17% YoY to Rs 13,518 crore with DRL, Lupin leading the pack. US growth was driven by continuing traction in cancer drug Revlimid (DRL, Zydus in particular), some complex and specialty launches and stable pricing pressure in the base business.
Adjusted India growth was steady at ~9% YoY to Rs 10,235 crore driven by new launches and volume growth.
Higher EBITDA growth was on the back of across-the-board gross profit improvement due to better product mix in the US besides benign raw material prices. This has nullified the impact of higher R&D costs and other expenses.
Going ahead, US is likely to be the growth driver for most of the players with increasing focus on complex and low-competition products, calibrated R&D spend with lower focus on plain vanilla generics.

Hidden Gem

PCBL Ltd (CMP: Rs 255, MCap: Rs 9,600 crore; Rating: BUY; Target Price: Rs 330; Upside Potential: 29%)

Leader in carbon black space, looking at big export play

PCBL Ltd (erstwhile Phillips Carbon Black) is the leading manufacturer of carbon black, which is used as a reinforcing material in tyres. PCBL also derives ~11% of sales volume from specialty carbon black, which fetches high margins and finds application in paints, plastics among others. It has a healthy margin profile (~16%) and possess capital efficient business model (RoCE>15%).
Key investment thesis: (i) Export opportunity compels PCBL to expand further: PCBL, in the recent past, has commissioned its new carbon black plant in the state of Tamil Nadu with a nameplate capacity of ~1.5 lakh tonnes at a total capex outlay of ~Rs 800 crore. Initially the company expected to fully utilize this plant by FY26E end, however given the opportunity in the export markets especially North America and Europe, it now expects to hit peak utilisation levels by FY25E itself.
Sensing further opportunity, it is now executing a brownfield expansion at the said facility amounting to 90 thousand tonnes thereby targeting healthy double digit volume growth over the next few years. We have modelled carbon black sales volume to grow at a CAGR of 12.4% CAGR over FY23-26E to 6.35 lakh tonne in FY26E. It is even discussing upon a new greenfield plant.
Exports share in its total carbon black sales volume mix is on the rise from 27% in FY21 to 38% in FY24 and is further slated to increase to 42% by FY26E.
Specialty grade volume to outgrow: PCBL has, over the years, with indigenous R&D efforts developed grades in specialty carbon black domain, which is a high margin product (typically ~3-4x normal trye grade carbon black). Specialty grade carbon black volumes are slated to grow at a CAGR of 23% (higher than base business) over FY23-26E to 75 KT in FY26E.
Margins and RoCE to expand, driving re-rating: With volume growth on the anvil amid thrust on exports and increasing volume share of high margin specialty grade carbon black sales (from 11% in FY24 to 12% in FY26E), EBITDA margins are slated to improve ~130 bps to 17.5% in FY26E with EBITDA/tonne seen sustaining at ~Rs 20,000/tonne mark. Consequent RoE is seen expanding from ~15% in FY24 to ~20% mark in FY26E, which we believe, should drive a re-rating of the stock.
PCBL in the recent past has also acquired a speciality chemical company i.e. Aquapharm Chemicals Pvt. Ltd. (“ACPL”), for Rs 3,800 crore. ACPL operates in the domain of Water treatment Chemicals and Oil & Gas Chemicals with application in water treatment (desalination, reverse osmosis), detergents, industrial cleaners, etc. It complements the existing proposition at PCBL and is structurally positive.
It is presently trading at inexpensive valuations of ~12x PE on FY26E basis, ~8x EV/EBITDA on FY26E. We have a BUY rating on the stock with a target price of Rs 330 i.e. 15x PE on FY26E.