Perfectly poised

The holy grail of long-term investment has always been the magical combination of a company that has years of growth ahead of it and whose stock price is yet to factor this in. As we stand at the end of 2012 and look back at a strong 25% performance of the Sensex, and much higher for individual stocks, it’s worth pausing to reflect whether this is a time to sow or a time to reap. With the 6/6 vision of hindsight, it’s clear that the best time to invest was in late 2011/early 2012. One cannot help but wonder whether investments made now will have the same fortunate outcome as those made a year earlier.

While the task of a stockpicker is much harder, fortunately, it’s not impossible. If we turn our attention to small and mid-caps, it’s still possible to find companies that have a structural growth story, strong financials, a good management team and attractive valuations. Everest Industries has all these and that is the reason why I like it enough to hold it in my own portfolio. 

Concrete actions

Everest Industries was set up in 1934 as a 25:75 JV between cement major ACC and European multinational Turner & Newall. In the 1980s, with the change in FERA rules, the MNC parent diluted its holding from 75% to 50% through a listing and the public holding went up to 25%. Subsequently, as a result of various mergers and takeovers, the parent got changed. In 2001, Belgium’s Etex group, which was the promoter then, wanted to exit the business following a ban on asbestos in Europe. It sold its stake to ACC, which became the dominant shareholder with 75% holding.

Some years later, Holcim acquired ACC and decided to divest its stake since this was not a strategic fit; in 2006, ACC sold out to the current promoter, Aditya Somany, who is the son-in-law of Narottam Sekhseria, the erstwhile promoter of Ambuja Cement. Somany is an MBA from the University of Pittsburgh and has decades of experience across various industries such as real estate, construction, textile and IT. 

Everest’s history and pedigree give it several advantages. It has a distinct advantage in terms of brand recall: roofing sheets typically last for 30-40 years and the company has consumers who recall having used the product years ago and vouch for its quality. Over the years, Everest has also developed a strong distribution network, which is key in this business. 

The entry of an Indian promoter has brought growth back into the spotlight. A constraint Everest faced as an MNC was that its business was often too small to be a focus area for its parent. Since 2006, though, the company has seen strong growth and many new revenue streams have been added. With a healthy mix of revenues from asbestos roofing, non-asbestos building products and pre-engineered buildings (PEBs), Everest has among the best diversified businesses compared with rivals such as HIL, Visaka and Ramco. While some of them, such as HIL, are larger than Everest in the roofing business, the overall quality of Everest’s revenue mix sets it apart.

Revenue mix

Everest has two main businesses — building products, which accounts for about 75% of revenues, and steel buildings, which makes up the rest. Nearly 80% of the building products business comes from roofing products, both asbestos and non-asbestos, used primarily for rural housing, cattle and poultry sheds, factories, warehouses and logistic parks. Not only is there a cost advantage here — the roofing solutions cost only a third that of RCC roofs — it’s also a play on the enormous need for pucca housing. In 2001, some 52% of the population lived in homes with kaccha roofs; that’s down to 38% in the 2011 census. Clearly, there’s still a huge unmet need for pucca homes, which is further driven by increasing rural prosperity as a result of various government initiatives for rural employment and development. 

Rising in tandem

Realisations will ape revenue growth in building products business

The remaining 20% of Everest’s building products revenue comes from boards and panels for ceilings, floorings, cladding, panels, walls, etc. Boards and panels are primarily urban products, used largely in commercial applications as an alternative to wood-based products. Not only are they cheaper, they’re also available in a variety of finishes and sizes and thus find favour with architects and designers. Given the potential growth for commercial spaces, this business, too, has a growing market.

In the building products business, Everest reported an impressive volume growth of 10.3% CAGR from FY07-12. Pricing power has also remained strong as prices have increased at a CAGR of 6.5% in the same period. In FY13 volume growth will be muted because of capacity constraints but is expected to pick up once the additional capacity of 100,000 mtpa comes on stream from Q1FY14 (up from 710,000 mt).

Everest’s steel buildings business comprises PEBs, smart steel buildings and metal roofing. Used primarily for factories, warehouses, logistic parks, shopping malls, airports, cargo hubs, etc, steel buildings offer the advantage of faster construction (about a third of the time compared with a conventional structure) and lower labour costs. Although this business is primarily a play on industrialisation, a key driver is also a shift in consumer preferences from concrete structures to PEBs because of its  competitive advantages. The potential for this business is huge, given that only 25% of industrial and institutional buildings in India are made of steel. Everest entered this business in 2008 and volumes have grown at a CAGR of 27% since then, despite the slowdown in the capex cycle.  

A good show

In the past five years, Everest’s financials have shown consistent improvement. Operating margins have been rising due to better capacity utilisation and should be stable at about 11-12% going forward. Return ratios are strong and we expect RoCE and RoE to be maintained at 20-22%. The company has also been free cash flow positive since FY10, which will help reduce debt-equity — already only a moderate 0.4x — going forward. Everest has also been generous in its dividend payouts (20% of profits). All of which makes for an attractive valuation — P/E of 5.7 times and five times FY13 and FY14 earnings, respectively. Price to book is 1.2 times FY13, which is very attractive given an RoE of 20-25%.

New product introduction, exports and a move towards becoming a complete buildings solutions company are key fulcrums of the company’s growth strategy going forward. The Everest name is well recognised and I believe that, over a period of time, roofing sheets have the potential to move from a relatively commoditised industry to one where the brand name matters more and more. 

Valuations are very attractive and leave enough room for the stock to re-rate and generate above market returns. I see Everest not just as investment for FY13 but as a good long-term pick. The key risks are volatility as 36% of raw materials are imported. Also, health concerns about asbestos (real or imagined) could limit institutional interest in the stock.