About
Gujarat gas is a gas distribution company with a distribution network in south gujarat in cities such as surat, vapi, ankleshwar etc.

Gujarat gas supplies natural gas to Industrial, commerical and domestic customer in the above areas and has been expanding into CNG distribution in the same cities.

I have written on gujarat gas earlier here and uploaded a detailed analysis here

Performance 2008
The company reported a topline growth of around 7% and bottom line growth of around 5% inspite of volume de-growth due to supply shortage of gas.

The profitability numbers such as net profit margin has been maintained at 11.9%, ROE at 20%+ and the company continues to hold almost 360 Crs of cash on its books.

Q109 performance
The company had drop of around 20% in profit due to serious shortages of Gas again. It seems GAIL (their main supplier) has not been supplying as per earlier contract due to certain ‘Force majeure event’ (unforseen event). Due to the drop in volumes supplied, the company had a drop in topline and bottom line.

The company is now working to contract additional sources of gas to meet the expanding demand.

Attractive business model
As I have noted earlier on my blog, Gujarat gas has a very attractive business model. The company on account of its distribution network has a kind of monopoly in the areas it operates (Not a true monopoly as other companies can come in, but are not likely to). As a result the company, within the constraints of its contracts, can pass cost increases to its customers.

In addition, gujarat gas has free cash flow which greater than the net profits. This is due to the fact that the company can charge a deposit from a customer and gets to retain this money as long as it keeps the customer. In a growing business, this is an additional source of cash (interest free loan) which the company can use to expand the business.

In addition the company has a negative working capital position which continues to expand with the growth in the buisness. Companies like Lakshmi machine works (LMW) are able to generate cash from customer deposits and FMCG companies like levers etc have operated with negative working capital. Gujarat gas has a unique business model where is it able to generate additional cash flows from these two sources in addition to its own profit stream.

As a result of the above cash flow, the company can fund its own growth based on the money received from customers and suppliers

Looking forward
Gas is a supply constrained commodity and compares well with alternative sources of fuel. With the new gas finds coming online, gujarat gas should benefit and should be able to meet the demand of its customers.

In addition the company is expanding into new areas such dahej, hojiwala etc. These new markets and the growth in the existing markets should drive the topline and bottom line of the company.

Management
I have been following the company since 2003 and have found the management to be shareholder friendly. The management compensation seems to be fair. Although Gujarat gas is a subsidiary of BG (british gas), I have not seen any attempts till date on part of BG to cheat the minority shareholders (although one can never be 100% sure).

The management has executed extremely well in the last few years. They have transitioned well from a controlled gas pricing model (GAIL was the supplier and the price was below market rate) to an open market pricing model. In addition, the company has also been able to reduce the impact of the loss of transmission income and expand into new areas such as CNG distribution.

The management has been a good allocator of capital in the past as it invested in the business at high rates of seturn and been able to expand the business while maintaining the profitability levels.
Disclosure : I hold the stock.

I recently came across this article which highlighted some stocks which have jumped more than 100% in the last one month. Out of curiosity, I decided to do a quick analysis of some of these stocks to see if I may have picked any of these stocks based on the fundamentals and valuation. The analysis which follows has not been done in depth and is usually the quick check I do to reject or continue further research on the stock.

Essar Oil
The statement I check first is usually the balance sheet. Essar oil has a debt of almost 10000 Crores with a debt equity ratio of 1:5. In addition, the company has had losses in the last 3 of 5 years. The management also does not inspire confidence in this company. In a nutshell, the company and its fundamentals are too speculative for me.

Jai corp
The company has a very low debt level and seems to have raised considerable equity, to the tune of 2000 odd crs to fund the SEZ and real estate initiatives . Due to this high level of liquid cash, the company has considerable other income too. The income statement, net of this non core income, shows a profit margin of 6-7% (fy 2009).
Based on an expected turnover of around 400 Crs, the core operating profit after tax could be in the range of 25-30 Crs. Based on the above numbers, the company seems to be selling at a PE of around 40 (after netting cash from market cap and considering only the operating income).
The market is clearly pricing some of the new initiatives in the current price. It is quite possible the new initiative would do well and the current price could be a bargain. However evaluating SEZ and real estate initiatives is beyond my circle of competence and hence I avoid such types of ideas.

KLG systel
The company looks very cheap based on fundamentals selling at around 3-4 PE (based on Enterprise value). However I started with the analysis of the balance sheet and saw warrants being issued to promoters and some strategic investors at a price of around 351 when the market price was in excess of 400. The dilution was around 10-11% due to the warrants. In addition the company has also raised some usd 22 million through Foreign Currency Convertible Bonds.

My analysis of this company ends here. I am not interested in companies where the minority shareholder is diluted by preferentail allotment of warrants at prices lower than market price. If you think warrants in themselves are free, then by that logic call options which are similar to warrants should be free too. Have you seen any call options available for free in the stock market (especially with a strike price below current price?)

If the company needs capital, when why not have rights issue where all the existing shareholders get an equal opportunity ?

Selection criteria too strict ?
Should it be otherwise ? I typically hold 12-15 stocks in my core portfolio. A new idea should be of equal quality and better valuation for me to replace an existing one.

The above analysis was done in matter of a few hours. Unfortunately (or maybe fortunately) for me all the stars and planets and the rest of the stuff has to line up for me to start investigating the stock further. Even with all due diligence, I manage to get it wrong several times. I am definitely not stepping into those ideas where there are red flags or the company itself is out of my circle of competence.

I typically review the annual reports of my holdings to get a sense of how the business is doing and to recalculate changes in the intrinsic value.
Asian paints is a long term holding for me. I have not looked at the asian paints annual report for quite some time and hence decided to review the 2007-2008 report for the time being and to also compare it with the 9 month results (ending dec 2008).

Background
I have had a long and personal association with this company. I started my career with this company in mid 90s as a sales manager. I have held the stock of this company for almost 8-9 years now. Why the personal background ? – Consider it as additional information to discount my analysis as it is likely to be more baised than that for other companies.

I have worked with several other companies since then, and have also analysed a long list of companies . However my admiration for asian paints remains intact. The reasons for the admiration go beyond the mere fact that my work experience with them was great and have also been rewarded as a shareholder

A few key points (not apparent from the annual report)
– The company enjoys enormous competitive advantage in its business. It has a big mind share of the consumer, strong brands, great distribution network and finally good management.
– The company has a high amount of lockin at the dealer and painter level. I have personally witnessed how this works. Once the company achieves a high market share in a local market, it is difficult for any other company to move into that market. In addition, the dealer coloring machines add to this lockin (once the dealer invests in the coloring machine, he is unlikely to sell too much of competitor products)
– The company management has always been rational, focussed and shareholder friendly. Their compensation structure is rational, there is low related party transactions and the management has made good capital allocation decisions in the past (The ROE is now at 50%).

Annual report points
– The company has doubled the topline in the last 5 years and almost tripled its net profits during the same period.
– The ROE has gone up from 29% to around 50%, where as the debt: equity ratio has improved during this period too.
– The dividend levels have doubled in the last 5 years .
– The company continues to do well in the domestic market and continues to have a leading position in the decorative paints segment (which is almost 70% of the indian paints market). 2008 has however not been as good due to the slowdown in the economy and increase in the RM prices
– The international business had a turnaround in 2008 and has continued to grow well in 2009. The profitability of the international business has also improved susbtantially and was the reason why the company was able to reduce the drop in net profits in the current year.

Valuation – My personal estimate of intrinsic value is around 1200-1300 per share. The stock is available at a discount of 25-30% to its intrinsic value.

Q&A
– The company has done badly in 2008 due to the bad economy and 2009 looks bad too
True. The company’s business is cyclical to a small extent and the company’s revenue and profits have suffered in the past (to a small extent) during slow downs in the economy. However the competitive advantage of the company has always grown and now with the international business, the cyclicality of the company’s performance is also lower. If one is a long term investor and not too concerned with short term swings, then these ups and downs should not be much of a problem

– The company’s stock hasn’t done too well ?
It depends on the time period you are looking at. If one is looking at the last 6 months or 6 days then that may very well be the case. For the long term investor the company has returned almost 18% per annum (in the last 10 years) excluding dividends (which add to another 2-3%).

– This is such a dull company and dull business. They just have this 15-20% profit growth year after year …. I cannot double my money in a few months !!!
I personally love such dull businesses which give me good returns year after year. I don’t speak for others, but I personally think 18% returns per annum for a long period (10 years +) are extremely good returns and can make a person fairly well off in due course of time.

As always please read my disclaimer