Luke Wiley, the Fund Manager at Wiley Wealth Management, wrote a book called ‘The 52-Week Low Formula‘. In his book, he talks about selecting good companies that may be overlooked by the market.
Wiley argues, “If you wish to buy low and sell high, you should look among the stocks hitting new 52-week lows, not 52-week highs. Stocks hitting new lows have more sellers than buyers, so it is easier to find bargains.”
Clearly, the very antithesis of a momentum-based strategy. Money can be made in many ways in the market.
Wiley employs five primary filters to find structurally sound companies that are currently unpopular.
- Should have a durable competitive advantage & recent and five-year average gross margins above their industry medians
- Free cash flow yield above 10-year treasury bond
- Return on invested capital above 10%
- Long-term debt / Pre-dividend Free Cash Flow < 3
- Stocks trading within 10% of their 52-week low and that have undergone price declines of at least 20% over the last 52 weeks
Wiley or not, the 52-week low strategy is ingrained in many investors. We love to find bargains in the market. Once in a while, we do find some decent companies that are facing short-term challenges and are at a 52-week low. Cases in point: Our recent entries into Deepak Nitrite & Manappuram in the Focused portfolio.
In this particular exercise, we applied Wiley’s criteria and tweaked it a bit to the Indian context. Further, we went through the list of stocks generated. We agonised over strong fundamentals, removed one-timers, avoided corporate governance issues and evaluated the risks. We came up with five names: Stocks which are currently out of favour and trading near their 52-week lows.
Thyrocare: A founder who perfectly timed his exit
In a nutshell:
Medical diagnostic chain with high operational efficiency. Their non-Covid business is slowly getting back to its previous run rate. The headwinds of margin pressure & competition might be already priced in.
Market cap: 3,200 Cr
In 2021, Dr Velumani, due to personal reasons, sold his entire stake (66% of the company) to PharmEasy for ₹ 4,546 Cr.
*Click on the image to enlarge
PharmEasy was founded in 2014 by Dhaval Shah & Dharmil Sheth. In 2021, the company had acquired Medlife & Thyrocare for $250 Mn & ~$600 Mn respectively to become India’s largest e-pharmacy player with ~60% market share. PharmEasy had generated ~6400 Cr in revenues & a loss of ~2400 Cr for FY22.
Thyrocare Technologies was founded by Dr Velumani in 1996. It has around 900 collection centres & has Centralized Processing Laboratory in Mumbai. It conducts over 110 Mn tests annually. The company grew its revenue by 14% CAGR in the last 5Y to 495 Cr & generated a PAT of 124 Cr as of FY22.
What’s changing for Thyrocare?
- New CEO: Rahul Guha has joined as the new MD & CEO of the company. He has 17 years of experience in Boston Consulting Group as the head of the Health Care & Life Sciences divisions.
- De-rating: The entire diagnostic sector is going through a PE de-rating. Lal Path, Metropolis, and Thyrocare were butchered & down anywhere by -40% to -60%. The earnings got spiked during Covid. And their non-covid business got impacted due to competition from 1mg, Appolo, Orange health etc.
- Covid spike finished: The Covid business is continuously falling & will eventually go to near zero. The fall in Covid business will be offset by growth in Radiology, Imaging services & non-Covid business in the next few quarters
- Bad sentiment: The market sentiment of this sector is at its lowest since the listing of Dr Lal PathLabs in 2015 (the first listed diagnostic player). The company is looking to get back to its previous growth rates (15%+ revenue growth) & margin profile (40% EBITDA margin)
*click here to enlarge. Source: Q1FY23 investors presentation
The company has 100 Cr of cash on its books (including short-term investments in mutual funds) and is currently trading at an EV/EBITDA of 17 times. If the new management can deliver, the current valuation looks decent and gives an adequate risk-reward ratio from a 3 to 5-year perspective.
The biggest risk: PharmEasy’s debt profile
- PharmEasy balance sheet is leveraged. As much as they want to expand into the diagnostic space, they may look for avenues to get their hands on the cash, including Thyrocare’s cash balance
- If you don’t want to take that risk, but still want to play the diagnostic theme, you can have a look at Lal Path & Metropolis. Both of them got impacted due to the fall in Covid business and also trading near a 52-week low. But hey, you have a pay a premium for them for not having PharmEasy as their promoter
VST Tillers: Gearing to Grow
In a nutshell:
A farm equipment company that’s turning aggressive. It has set a revenue target of 3x in 3 years.
Market cap: 2150 Cr
In 1967, the VST group partnered with Mitsubishi to launch agricultural equipment in India. VST Tillers is now the leading player in the Indian farm equipment sector. It commands a 58% market share in power tillers & around 7% in compact tractors. The company has three manufacturing facilities in Karnataka with 7500 units of tractors & 1.36 Lac units of power tillers.
The company is financially strong.
- Debt-free & consistently paying dividends
- Cash and investments of Rs 350 Cr as of FY22
- The revenues are volatile and highly dependent on the monsoon. Sales and net profit growth of 12% and 24% CAGR in the last three years.
- ROE & ROCE above 15% and operating leverage will kick in the next up-cycle.
The company had set an internal target of achieving 3000 Cr revenue by 2025. On the face of it, this looks stretched. Even if they are able to achieve 2000 Cr mark, that will be a revenue growth of 16% CAGR.
VST Tillers is currently trading at an EV/EBITDA of 16 times. This multiple may seem a little high for a cyclical business. But new product launches, improving margins, and tapping into export opportunities should create an upside for the stock. The stock is down -27% from recent highs and currently trading near 52-week low.
Divis Labs: Taking a momentary pause?
In a nutshell:
An API player in the pharma space, Divis might see muted growth for the next two-three quarters. But if you try to look beyond, there is a long-term opportunity waiting at the current market price.
Market cap: 96,000 Cr
Divis Q1 results were good, but the commentary wasn’t. In 2021, the company got the biggest booster in the form of two major APIs – Molnupiravir & Paxlovid. They were the drugs used for the treatment of Covid-19 and supplied to Merck & Pfizer respectively. The company at the peak of its demand generated ~500 Cr of revenue from these two APIs.
But now Covid is behind us. Divis has completed all the Molnupiravir & Paxlovid orders. On top of that, Divis has also seen pricing pressures on two of its largest generic API products, Naproxen (contributes ~40% of generic API revenue) and Dextromethorphan (contributes ~14% of generic API revenue) being down ~9% and ~15%, respectively.
Considering all these growth headwinds, the stock is down -35% from its all-time high.
Click here to enlarge. Source: FY22 Annual Report
Look beyond FY23:
The company may not repeat its FY21 year growth rate and will have margin pressure for the next two-three quarters. However, this is known, and most of it might be already factored in the current price. Yet, the company has decent growth triggers over the next few years.
- Divis has submitted a drug master file (DMF) to the USFDA for several products, such as Orlistat, Brilinta, Lacosamide, and others. This opens up a $20 Billion market for the company, and the products are expected to roll out between 2023 and 2025.
- It has a planned Capex of Rs. 2000 Cr over the next three years. It has received all required licenses and is currently awaiting government clearance to start the construction of its 425-acre manufacturing facility in Kakinada.
- It has cash on books of around 3500 Cr and consistently maintains best-in-class EBITDA margins of 40%.
The company is currently trading at an EV/EBITDA of 22 times. If you are a long-term investor and like to invest in market leaders facing short-term challengers, Divis can be a decent bet.
Dhanuka Agritech: Doing things better
In a nutshell:
Pure play on the domestic agrochemical sector. The new Dahej plant will be operational from Mar 2023. This capex will boost revenues by ~15%.
Market cap: 3,330 Cr
Dhanuka Agritech manufactures a range of agrochemicals like herbicides, insecticides, fungicides, and other corp solutions. Here is the segmental break up:
- Insecticides – Used in killing insects that infest cultivated crops (Revenue Contribution: 37%)
- Fungicides – Targets fungi and prevents them from invading the plant tissue (Revenue Contribution: 19%)
- Herbicides – Controls the growth and spread of the weed (Revenue Contribution – 32%)
- Other plant growth regulators : Revenue Contribution – 12%
*Source: Q1FY23 investors presentation
Why Dhanuka?
- Dhanuka is a pure play on the Indian agrochemical sector.
- Double-digit revenue growth target in FY23.
- The Dahej plant will commence operations in Mar 2023. At its full capacity, it will contribute ~350 Cr to the revenue (15% higher).
- The company has hiked prices from 1st Aug, 2022 on twenty molecules. This will improve the margins from Q2.
- It has strong distribution of 41 warehouses, 6500 distributors, and around 80,000 retailers.
Risks:
- Vladimir Putin.
- The Russia-Ukraine war has impacted the global agrochemical market which has led to logistics and supply chain issues. Any sanctions on natural gas (a key input in making pesticides) supplies from Russia may lead to the possibility of a shortage of fertilisers and an increase in prices.
- Cyclical nature of the business
The company is debt free and has cash of around 300 Cr. It is currently trading at an EV/EBITDA of 14 times with a dividend yield of 2%. It is trading at the lower band of its historical PE. It may not be a screaming buy yet, but given visible growth, it is worth having a deeper look.
BirlaSoft: The crown jewel of CK Birla Group
In a nutshell:
Birlasoft has similar growth & margin profile as compared to other mid-sized IT companies but at a discount.
Market cap: 9000 Cr
Birlasoft is a mid-sized IT firm that provides software development and consulting to Manufacturing, Banking, Financial Services, etc.
Through its strategic partnerships with SAP, Oracle, Google, and Amazon – the company offers ERP and Infrastructure & cloud technology to its clients.
*Source: FY22 Annual Report
Key triggers:
- Signed deals of a total contract value of $185 Mn during the quarter. Around 30% of FY22 sales.
- Strong partnership with Google Cloud to accelerate cloud-enabled digital transformation.
- Revenue growth is expected from expansions in Europe & APAC.
Risks:
- A high attrition rate of 28% in Q1FY23
- Pressure on margin remains due to retention hikes and higher talent acquisition costs
The entire IT pack is under pressure and most of them are at a 52-week low. Birlasoft is down -45% from peak and is currently trading at 12 times EV/EBITDA, which looks decent from a 3-5 year perspective.
A small caveat:
If you are not so keen on mid-sized IT sector, but looking at something more exciting like Autonomous Driving, ADAS, Vehicle Engineering and Design etc, you can have a look at Birlasoft’s cousin, KPIT Technologies. It competes with the likes of Tata Elxsi, LTTS etc.
Start with this:
Summing up:
*Click on the image to enlarge
We reiterate these stocks can fall 50% from here. Or more. It would be best if you did your research before jumping to add any stock to your portfolio. Like any stock, these might fall significantly from current levels.
Further reading:
- Seven stocks that look more attractive after a correction
- Buy high, sell higher: Nine strong companies near all time highs
Disclaimer: This article and the analysis presented are for informational purposes only. Nothing mentioned here is investment advice.
Let’s start a conversation on the #long-term-stocks channel on Slack, or let us know your feedback on premium[at]capitalmind[dot]in.
