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Who said all large caps are expensive?

Here are three large-cap stocks trading at a discount to the median PE

Who said all large caps are expensive?

The stock markets are touching new highs almost every day, with large caps driving the rally. Most articles are now highlighting the overvaluation of large-cap stocks. No doubt, some large-cap stocks are now trading at very high valuations. But there are some stocks in the large-cap space that are trading below their historical price to earnings. These companies are not only trading at lower valuations but also have a long-term track record and robust free cash flows. Besides, they have witnessed decent profit growth. Most importantly, they are market leaders in their respective segments, with their well-known consumer-centric brands commanding a significant market share.

Of these three companies, we have already covered two companies several times. But the third one qualified our screens for the first time on the back of its price correction in the last three months.

Filters used:
The current price to earnings less than five-year median PE
Return on equity of at least 15 per cent in all five years
The five-year operating profit growth rate of at least 10 per cent
Operating margins rising in the last one year
Debt to equity of less than one time

Petronet LNG
Promoted by GAIL, Oil & Natural Gas Corporation (ONGC), Indian Oil Corporation Limited (IOCL) and Bharat Petroleum Corporation Limited (BPCL), it is a dominant player in the LNG space (liquified natural gas), accounting for 40 per cent of gas supplies in India and 80 per cent of total LNG imports. The company primarily focuses on importing LNG, converting it into natural gas and then selling it to domestic clients, including CNG distributors, power and fertiliser companies. LNG only occupies 1/600 times space of its actual gaseous form, which makes it very economical as compared to the direct imports of natural gas.

The company owns and operates two LNG terminals in India -the Dahej plant with a production capacity of 17.5 MMTPA (million metric tonnes per annum), which recently increased from 15 MMTPA and the Kochi plant with a capacity of 5 MMTPA.

Petronet is largely dependent on its Dahej plant, which is operating at more than 105 per cent of its capacity, while its Kochi plant only operates at 10 per cent of its capacity owing to the absence of a proper pipeline infrastructure. The Kochi-Mangalore pipeline infrastructure, which got delayed until February 2020, is likely to help the Kochi plant to improve its capacity utilisation. It will ultimately lead to a meaningful increase in the company's future volume and profitability growth.

A primary concern for the company is its high long-term contract prices for importing LNG from RasGas, Qatar, as compared to the lower spot prices of natural gas. If this difference increases further, then it can impact the volume growth of the company because of the increased demand for spot LNG. However, if Petronet is able to renegotiate the contract at lower prices, then it can lead to a significant gain for the company.

From a financial point of view, the company has demonstrated a solid track record of consistent ROE with five-year average ROE of around 20 per cent, with a free cash flow of more than Rs 9,500 crore, in the last five years. During the same period, its stock price has compounded by 23 per cent and currently trades at a price to earnings of 15 times as against its five-year median of 18 times.

Godrej Consumer Products
A part of the 122-year-old Godrej Group, this well-diversified consumer company has its key focus on three product divisions: hair care, home insecticides, and personal wash and three geographies: Asia, Africa and Latin America. Apart from a diversified product portfolio, the company also boasts a diversified geographic presence, with India contributing just 54 per cent to its revenue and the no-product category contributing more than 32 per cent to its revenues in FY19.

Godrej Consumer is the number one player in India and Sub-Saharan Africa in hair colour. Backed by its brands Goodknight and Hit, it is number one in insecticides with a market share of 50 per cent in both India and Indonesia. Besides, in both countries, it is a market leader in the air-care segment.

Its 100-year-old soap division also includes some well-known brands, such as Godrej Number 1 and Cinthol in India, with a market share of around 12 per cent. Now, the company is trying to gain an even higher market share in India by giving higher upfront discounts. This trend was evident in its September 2019 ending quarter results, where volumes increased by seven per cent but sales increased by a mere one per cent.

The leadership position has also translated into a strong bargaining power for the company, which is reflected in its negative working capital cycle, robust cash flows and consistent dividend payouts. It has also shifted its focus towards its three key markets and as a part of this strategy, it sold its UK business in 2018. However, in the last three years, its sales and profits have not witnessed any meaningful growth because of a slowdown in the home insecticides segment due to customers' growing preference for illegal incense sticks to kill mosquitoes. However, the government has recently banned such illegal incense sticks and the company has come up with its own legal version.

Over the last five years, it has delivered an average return on equity of around 27 per cent while throwing free cash flows of more than Rs 6,000 crores. The stock currently trades at price to earnings of around 34 times as against its five-year median of around 43 times and has compounded its investors' wealth at the rate of 19 per cent in the last five years.

Marico
Buoyed by its Parachute brand, the company has carved a niche for itself in the Indian coconut oil market with a volume market share of 60 per cent. Apart from coconut oil (46 per cent of its FY19 revenues), it enjoys a healthy market share in the refined edible oil and oats segment (20 per cent) on the back of its Saffola brand. It also has a significant presence in the hair nourishment and wax segment on the back of brands Livon and Set Wet (three per cent) and the other hair oil segment (25 per cent) on the back of its prominent brand, Shanti Amla Badam oil. Its international business contributed 22 per cent to its total revenue and out of it, Bangladesh alone contributed 46 per cent as of FY 19. The company has a wide reach in India; however, still, 68 per cent of its revenue comes from urban areas. It paves the way for the company to expand significantly in the near future.

Marico has a huge dependence on copra (dried coconut kernel). Therefore, higher copra prices and lower price hike to gain the market share kept its margins under pressure in the past. Nevertheless, the recent fall in copra prices is likely to cushion its margins on the downside in the coming time. On the other hand, concerns over sluggish volume growth in the value-added hair oil segment and Saffola has been a major drag on its stock price.

Amidst all, its five-year average return on equity has been at more than 37 per cent, with the total free cash flows of more than Rs 3,000 crores in the last five years. The stock currently trades at 38 times as against its five-year median of 47 times. The company continues to be net debt-free, with a five-year compounded return of 19 per cent.

Disclosure: The intent of the article is not to recommend any specific stocks. If you wish to invest in any of the above-mentioned securities, please do thorough research.