Should you buy stocks based on revenue guidance? - The 5 Minute WrapUp by Equitymaster
Investing in India - 5 Minute WrapUp by Equitymaster
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Should you buy stocks based on revenue guidance? 

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In this issue:
» The most heavily indebted Indian corporate houses
» What does Marc Faber think about emerging economies?
» Yet another housing bubble in the US
» Jim Rogers' views on the incredible rise in US stocks
» -and more!


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00:00
 
Leading Indian IT firm Infosys has had a strong legacy of transparency and high corporate governance standards. If you look back at its history, Infosys was one of the first to announce quarterly results. This was at a time when it was not even mandated by law. In fact, the company has consistently provided quarterly revenue guidance until FY12. Even while providing its guidance, the company has followed the mantra 'Under promise and over deliver'.

However, the Bangalore-based IT firm decided to do away with the quarterly guidance starting from the first quarter of 2012-13 (1QFY13). Mr Shibulal, the company's CEO, had said that excessive volatility in the business environment had affected the company's ability to predict the future. And as such, the company would only provide an annual guidance. The quarterly guidance would resume once there was more stability in the economic and business environment.

Now, the result season is just a few weeks away. The investing community is keenly awaiting the results of Infosys. Many fear that the company might even stop giving annual guidance. This is on account of the uncertainty in the macro environment. If this happens, it may be perceived negatively by investors, especially FIIs.

What is our view on this? We are, in fact, against the whole idea of giving quarterly guidance. Focussing too much on short term fluctuations can have an adverse impact on business. It tends to pressurise the company management to focus solely on achieving quarterly targets. This, at times, can be at the cost of long term business fundamentals. Moreover, it tends to encourage short term traders and speculators.

According to Equitymaster, revenue guidance from the management, if any, should be focussed on the company's long term prospects (at least 2 to 3 years). Moreover, temporary spurts or dips in revenue need to be factored in by investors while analysing the risks to the business model itself. For example, volatility in currency rates is an inherent risk to Indian software sector. The lack of near term guidance is in no way indicative of the stock's poor performance. Most importantly, investment decisions, according to us, cannot be based solely on revenue guidance. A thorough evaluation of the business model, management quality and valuation is a must. There is no short cut to it.

Do you think investors must pay too much heed to short term revenue guidance by management? Please share your comments or post them on our Facebook page / Google+ page

01:15  Chart of the day
 
As per statistics, two-thirds of the total corporate borrowings are by firms whose stock prices are hovering around multi-year lows. As a result, the gap between the outstanding liabilities of these companies and their market capitalisation has been widening. This is indeed a worrying sign for banks. Even if they were to resort to wholesale selling of pledged promoters' shares, they would be able to recover just a small portion of the dues. This is a major risk to the banking sector we believe.

The chart of the day shows the five most indebted corporate houses in India. As is evident, the total market capitalisation of all the listed entities of each group is significantly lower than their total borrowings.

Data source: Business Standard
*Aggregate market capitalisation of all listed group companies;
**Consolidated borrowings of all group companies for the year ended March 2012


01:45
 
A slowdown in the long term growth rate is a given for even the most promising emerging markets. The accelerated pace of growth was fuelled by excess liquidity over the past few years. As liquidity gets chocked, growth rates are bound to look inferior. The developed markets have hardly managed to boost GDP growth rates with cheap money. However, their critical fiscal situation has brought them to the edge of an economic catastrophe.

As the US and European economies realign themselves to cut down the massive debt burden, the tremors will be felt world over. Emerging markets like India and China too are bound to feel the impact. Marc Faber, publisher of the Gloom, Boom and Doom report has reiterated this fact in his latest interview with Economic Times. While Mr Faber continues to favour emerging markets as a group, he believes that all of them cannot be put in the same basket. Plus, the biggest risk to emerging markets, according to him, is a massive slowdown in China. That he believes will slow down global demand, commodity prices and ultimately bring a very hostile environment to resources producers. Thus it is China and not the US that Mr Faber is keeping a close watch on.

02:23
 
The Dow Jones has been dishing out a stellar performance. But legendary investor, Jim Rogers is not impressed with it. He is of the opinion that the performance is fuelled by the Fed's monetary easing program. And the stimulus will eventually end badly for the US stocks. The reason he feels this is because of the economic conditions. In his opinion, there has been no correction in the macroeconomic situation. US continues to be one of the most indebted economies. And it is doing nothing to resolve its debt issue. Therefore the only thing driving stock market gains is the artificial boosting from the QE program. This is something that most intelligent investors have been screaming about. Unfortunately, Mr Bernanke has preferred to turn a deaf ear to all of them. US policymakers seem to prefer living in a bubble where they think that the run up in stock prices reflect the improving conditions of the real economy.

02:49
 
After the subprime mortgage crisis it seems that the US housing industry is on the verge of another bubble. It can be said that this bubble is more of an extension to the mortgage crisis witnessed in the past. The mortgage crisis occurred as the subprime borrower was unable to repay the loan. As a result, his home was foreclosed. Thus, there was huge vacant housing inventory floating in the market. Now, this inventory has become a hunting ground for many investors. They foresee various benefits attached to buying this housing stock.

First, it is the appreciation in value expected from these homes. The investors know that the US Federal Reserve's loose monetary policy is pumping liquidity into the markets. This liquidity will chase asset classes like real estate and equity, thus driving up their prices. The second benefit is the rental income that can be generated from renting these houses once bought. It may be noted that both large institutions and smaller investors have started indulging into this game.

Recently, Blackstone Group pumped over US$ 3.5 bn in the housing market to buy the foreclosed homes. Also, it may be noted that majority of the housing transactions in cities is being done by institutional investors. For instance, last year 30% of the housing sales in Miami were governed by institutions.

So, what does this mean for the US housing market? Buying of foreclosed homes has increased the property prices. For instance, housing prices in Atlanta over the last quarter have increased by 9.9%. This is higher than the increase in prices witnessed during the peak of the housing bubble!

Earlier it was incessant lending by the banks that led to the mortgage crisis. Now, it could be rampant buying that is sowing seeds of another housing crisis.

03:49
 
Gold prices have been under pressure in the past several months. And no one is feeling the heat more than gold loan companies. The primary business of these companies is to lend against gold as the collateral. So when prices of the precious metal fall, the risks certainly increase. Generally, companies are still able to recover this money as the gold loans are auctioned. But when the value of the loan accounts for a very high portion of the gold security, then the risks multiply.

This becomes worse when auctions are delayed on account of regulatory restrictions. Most of the gold loan companies are estimated to report losses in the March quarter. These companies went on a credit spree before the RBI decided to cap advances at 60% of the value of the jewellery. As a result of which the loans are expected to go sour. The fact that the macroeconomic environment is weak is not helping matters either as advances are not growing much. Whatever the case, with high loan to value ratios, gold loan companies are running a risky business. And falling gold prices is only rubbing salt to the wound.

04:30
 
In the meanwhile, the Indian share markets traded in the positive territory today. At the time of writing, BSE Sensex was up by 146 points (0.8%). Almost all sectoral indices displayed positive performance. Banking stocks were the top gainers. Asian stock markets markets were a mixed bag with Japan as the top gainer and South Korea as the top loser.

04:50  Today's investing mantra
"We try more to profit from always remembering the obvious than from grasping the esoteric." - Charlie Munger

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    Equitymaster requests your view! Post a comment on "Should you buy stocks based on revenue guidance?". Click here!

    1 Responses to "Should you buy stocks based on revenue guidance?"

    Dr. Gangadhar

    Mar 26, 2013

    I agree with equity master. Investment decisions should not be based solely on revenue guidance. Because there are several companies whose revenues are increasing quarter by quarter but finally reporting losses. I agree with you that a thorough evaluation of the business model, management quality and valuation is a must. There is no short cut to it.

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