HUL Quick review

In my post on October 2, 2011 I wrote the following about HUL “You can see that HUL made a high of 324 rs in March 2000 and after consolidating between these levels since last 12 years HUL had given a fresh break out. I think HUL is going to move up sharply from current levels. Having said that I also want to point out that HUL like most other FMCG companies are trading at a very high valuation levels but as per charts it is all set to go higher.”

HUL has traded up sharply since then and today it had closed around 460 INR 41% since October. If we look at the current chart of HUL I think it will move up from here. I think HUL have the potential to go up to 550 levels in one year or so.

HUL Monthly chart

 

HUL has doubled its revenue since 2005. If we look at the revenue trend of HUL we can see that from 2001 – 2005 HUL had seen a de growth in revenue but since then Revenue have been growing at CAGR of 15%.

HUL revenue growth

 

Similarly operating profits for HUL have also shown an uptrend since 2005 and have grown at a CAGR of 16.50%. Last year Operating profit growth was 30% while revenue grew at 21%.

HUL Operating Profit UP by 132% since 2005

If we look at EPS and Revenue per share for HUL has shown a clear uptrend since 2004. If we look at P/E trend for HUL. HUL had traded at a high of 44X in 2005 -2006. Currently HUL trades at TTM P/E of 35X. Looking at the price chart I think it P/E multiple for HUL may continue to expand. Given that HUL earnings grows by 15% - 18% CAGR the stock may give handsome returns in years to come.

HUL Revenue and Sales have doubled since 2004

Are Valuations really cheap?

Time and again we often hear host of experts saying that valuation of Indian equities is very cheap. If we analyze historical data, it does not support this view. Nifty currently is trading at 14.25X trailing P/E while broader index CNX 100 is trading at 14.27 times trailing P/E.

Nifty P/E Band

CNX 100 P/E Band

If we look at last 15 years of data Nifty's Median P/E has been around 15X with a high of 28X in March 2008 and low of 10 to 11X during low of 2003, 2009. I think Nifty is not undervalued on P/E matrix at current levels. 

Nifty P/E Band

We know that valuation expands or contracts with liquidity, sentiments. If we scan the current macro environment it is one of the most challenging in past two decades. Even the international macro environment is extremely difficult and full of uncertainties. We have a 40% probability of a massive black swan event occurring which can be extremely detrimental for assets like Equity.

If we look at sentiments people have turned bearish on Indian economy. Growth rate is at 10 years low, CAD is highest in last two decades, currency is depreciating rapidly, CPI is more than 10% for last 12 -18 months. In such a scenario I think it’s hard for people be ebullient in such circumstances. Therefore according to me all the (so called) who appear on television are either ignorant or they are paid to paint a rosy picture.

I think that current P/E do not warrants an upgrade, on the contrary I think there are enough reasons for further deterioration in P/E multiple. Historically market have bottomed out at 10 -11X trailing P/E and if this happens today Nifty will be trading at 3600 levels which coincides with technical support levels on market. Even if downgrades do not occur the upside due to expansion in P/E would not be substantial.

Now readers must note that here I am not even discounting an EPS contraction as fallout of global problems. We should note that in 2008 EPS fell by 26.62%. If such scenario were to occur again and Nifty eps shrink by 20% then market may even go down below 3600 levels.

Nifty EPS since 2001 - 2012

Now let us look at EPS growth rate in last quarter. For 26 Nifty companies which have declared their results revenue has grown by 25% while EPS is up by 10% in Q4 which have been hailed by the media as proof that corporate earnings are going to rebound.

Nifty Q4 2012 Revenue and EPS growth

But if we look at the boarder market out of 287 companies which have reported sales is up by 21% while EPS is down by 0.69%. If we look at look at all 2715 companies which have reported Sales is up by 20% while EPS is down by -0.72%.

BSE500 Sales and Earnings growth

All Securities Sales and Earnings growth

As we all know that earnings data can be highly manipulated due to various accounting entries like changes in other income etc. In order to remove the impact of accounting entries let us check the growth in EBITDA and Operating Income for Nifty 50 companies for last three years.

EBITDA and Operating income for Nifty 50 companies

* For calculating EBITDA we have used data of 42 companies excluding 7 banks in Nifty fifty

* For calculating Operating profit we have used data from 49 companies including banks.

* Power grid which is a component of Nifty 50 was listed in 2008 since its data is not available for the year 2008 it was excluded form computation of EBITDA and Operating Income.

From the given chart we can see that Operating Income growth (which includes banks and financial companies)  have been much healthier in 2011 compared to EBITDA (which excludes data from Banks and Financial companies) largely due to SBI taking a hit in Q4 2010. I think that Banking will face severe difficulty in wake of rising NPA and therefore it’s better to concentrate on real economy. EBITDA growth of 42 non banking companies was merely 3% in 2011. This is hardly a cause of celebration for people who are theorizing earnings growth to justify current valuation.

On the contrary I do not remember any period in past where earning outlook have been so bleak. With economic growth slowing will have a snow ball impact into corporate balance sheet specially banks which are awash with flood of new NPA which are going to suppress earnings further.  Therefore there are more chances of P/E downgrade instead of upgrade.

Conclusion:-

I think who are saying that Indian markets are seriously undervalued are overly optimistic on earning front. I think the macro picture both domestically and internationally is very bleak. I don’t see any case why India should trade higher then median P/E for last 15 years on the contrary we should be trading at lower then median due to global uncertainity. If market bottoms out at historical lows then Nifty can lose 30% from here while the upside will be limited and temporary.

I think the experts fail to understand that asset prices are moved by liquidity. Even valuations expand or contract depending on liquidity flows. India has witnessed heavy liquidity flow since 2003. Rising liquidity had two fold impact. It increased economic activity and hence EPS. Second it increased the PE multiple of Indian markets which went up from 10X to 28X.

Today the picture is completely opposite. FII and FDI inflow into the country are waning and I don’t see any reason as to why they will return in a hurry. Trust takes time to build and once it is shaken it won’t mend easily.

I think from here we will see liquidity vanishing form Indian markets which will result into falling asset prices. I think Real estate will see some hard times in days to come and people who have invested in real estate for capital appreciation are in for a big surprise.

I would like to end my post with some thoughts on technical analysis. There are times in markets when are trending and predicting trend easy. Similarly there are times when things are very ambiguous and predicting trends is very difficult. I have observed that since last few weeks volatility has increased. If we look at US markets there are 100 points swing in Dow every day in opposite direction. Technical analysis will not prove to be very helpful in such markets. Therefore it is always better to stay away from market and let it settle. Hence I will focus my post away from predicting short term trends.