»5 Minute Wrap Up by Equitymaster

On This Day - 17 MAY 2018
We Walked Out of This Company's Analyst Meet and Won't Recommend the Stock Unless...

Sarvajeet Bodas, Research analyst

The result season is on in full swing.

Many companies are hosting conference calls and analyst meets to interact with research analysts.

These analyst meets are interesting because companies showcase their upcoming products. We get a chance to discuss the business plans with the management. They also like to talk a lot about their industry.

I like going to these meets because I get a chance to ask the management tough questions.

Last week Kunal and I attended three analysts meets. We also logged on to several conference calls.

There is one big takeaway from these meetings I want to share with you: The Indian consumer is back with a bang.

Demand is coming back after a series of disruptions in FY17 and FY18.

For example, in an analyst meet of a ceramic and tile manufacturer, the company's Managing Director (MD) was vocal about the new e-way bill. He believes it is a game changer for the industry.

Now, coming to the analyst meet of this dairy company...

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This company was on our watchlist because one of our super investors bought a stake recently. It has also improved its performance in the last few quarters.

So Kunal and I dropped in to find out more.

There's no doubt this company has a strong presence in its industry. It has created several brands too.

The management started their presentation and initially, everything was looking good. It seemed to be a typical FMCG-like company with an array of brands at its disposal.

But guess what happened as the presentation continued

The management used 'FMCG' at least 100 times! The chairman, the managing director, the CFO... everyone kept repeating this buzzword.

And then came that golden line...

We are a FMCG Company.

I could see where this was going.

You see, there are some basic differences between a dairy company and a FMCG company.

When we say FMCG, we're talking about good operating margins, low leverage, high asset turnover, negative working capital, a solid bottom-line, and a good return on capital.

But dairy isn't FMCG.

The dairy business is very capital intensive. It requires heavy working capital. These companies use a lot of debt. It's a high-volume, low-margin business. The net margins and return ratios are low.

We asked each other, 'What's happening? Does the management want valuations like a FMCG company?'

We got our answer soon enough. Towards the end, the management said:

  • We do good work every day. We work like a FMCG company. I request you to give us valuations like a FMCG company.

We knew right then, it was time to leave...

You see, just because, a super investor has invested in a company doesn't mean we will recommend the stock.

This is our starting point. It must then pass through several other filters and checks. It must get a high Smart Money Score. Only then will Kunal and I consider recommending it to our subscribers.

We will give this company a miss.

On the other hand, we're narrowing down our pick for this month's Smart Money Secrets recommendation. Stay tuned...

Chart of the Day

In today's chart, I'll present the key differences between FMCG and dairy companies.

If you're thinking about buying a dairy stock, look out for these ratios.

The differences are stark...

Dairy Isn't FMCG

Clearly, FMCG fares much better on every point.

FMCG companies generate much higher free cash flow than companies in other sectors. Not to mention, the predictability of growth is better.

The low capital-intensive nature of this business results in a higher return on equity (ROE). A high ROE indicates these businesses are highly profitable. That's why FMCG stocks get premium valuations in the market.

On the other hand, dairy companies don't have these qualities. As you can see, their ratios are dismal.

Now just to clarify, we don't hate all dairy stocks.

At decent valuations, we could consider them...as long as they get a high Smart Money Score.

But certainly not at these levels.

Meanwhile, Kunal and I have almost decided this month's Smart Money Secrets recommendation. We'll publish the recommendation report on or before 28 May. You can get access to Smart Money Secrets here.

Regards,
Sarvajeet Bodas
Sarvajeet Bodas
Research Analyst, Smart Money Secrets

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