Strategy: SMID | Correction is reason to go for a bottom-up approach

A medium-term opportunity has arisen; FY23-24th EPS growth at ~40/23% yy.

Moderate demand and cost pressures slowed PAT growth in Q3FY22. YTD correction in SMID indices (7-13%) was steeper than Nifty 50 (-3%). But this could provide an opportunity to evaluate bottom-up stock ideas from a medium-term perspective, given the expected rebound in capital investment. We will host the 2nd JEF India Midcap Summit on March 15-16, 22, with 68 cos. The main metrics now are demand recovery, cost pressure and price increases.

Potential Opportunity: YTD correction in SMID stocks is greater than that in large caps. The Nifty Midcap100/Smallcap100 indices were down -7%/-13% YTD versus -3% in Nifty 50. But current market volatility could create medium-term investment opportunities. The Indian economy recovered faster than initially expected during the pandemic. We believe India would have entered a period of economic recovery, driven by an expected rebound in capex (government pressure) and housing, which could eventually lead to a broad investment cycle. Historical analysis suggests that midcaps tend to outperform during growth acceleration phases. So the recent correction could provide investors with a good opportunity to evaluate stock ideas bottom-up.

JEF SMID cover performers: Oct’21 saw market peak. Within JEF SMID coverage (MCap<=$4 billion), industrial companies (Bluestar, Amber, KEI, Thermax, IEX) and Devyani Intl & Oberoi Realty are the best performers over the past 6 million. Stocks that notably corrected from their spikes are Gas (IGL, MGL), Electrodes (HEG, GRIL), select Financials (Max Financial, Nippon AMC) and WHIRL & Ramco Cement.

Q3FY22 scorecard: While JEF SMID cover sales grew +8% yoy, the decline in EBITDA margin impacted PAT (+3%). OPM dropped both yoy (-190bps) and

kok (-100 bps), indicating rising cost pressures. FY23/24e revenues were down 43% because it was in coverage, while it was about 15% because there were upgrades. Major upgrades were seen in Property (Oberoi, Prestige, Sobha), Navin Fluorine, Coforge, IGL and Max Financial.

Outlook; Key Catalysts and Risks: We recommend a bottom-up approach to stock selection, given the recent pullback. JEF SMID’s coverage could drive EPS growth in FY23/24th of ~40%/23% yoy, primarily driven by cyclical recovery in select industrial, electrode and financial stocks, coupled with Amber & Dixon. Average RoE coverage is likely to improve from 18.7% in FY22e to 20.5%/21.2% in FY23/24e, respectively. However, given current global geopolitical tensions, volatility in commodity, freight and energy costs could pose a significant risk to margins in FY23. Timely price increases will be the key to margin normalization.

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