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In order to curb extreme volatility in the markets and curtail market risk for gullible investors, Securities and Exchange Board of India (Sebi) along with the stock exchanges decided to implement Additional Surveillance Measures (ASM) in early June. The measures involve putting stocks that display big high-low variation in trading, high client concentration, multiple price-band hits, high closing price to closing price variation and extraordinarily high PE ratios in a curtailed trading mechanism that will allow trades only with 100% margin and with a 5% price-band.

Some misinformation about the mechanism has caused unwarranted concern and consternation among prospective investors and existing shareholders of companies that find themselves on the list. While the regulators have clearly indicated that being on the ASM list “does not indicate an adverse action against company”, fears abound.

To better inform investors about the fundamentals of several companies on the list, CNBC-TV18 has launched the SEBI WATCHLIST, which will seek to better inform investors about the strengths and weaknesses of the businesses in order to enable them to take more informed decisions, and segregate the bad apples from the good.

Radico Khaitan, India's fourth-largest and third-most profitable spirits maker, was among the companies added in the ASM list in June. While the Bombay Stock Exchange (BSE) statement on ASM states, ”The shortlisting of securities under ASM Framework is purely on account of market surveillance and it should not be construed as an adverse action against the concerned company/entity”, the street was fairly nervous about the stock’s inclusion in this list.

As a result, the share price of Radico Khaitan fell 15% since June 1, 2018 and has corrected about 21% from the record high of Rs 495 hit on May 30, 2018. Remember, the stock has been a big wealth creator before it was included in the SEBI Watchlist — the market cap of Radico Khaitan almost quadrupled between June 2017 and June 2018.

Radico Khaitan has transformed from bulk and country liquor manufacturer to seller of the so-called Indian Made Foreign Liquor. The market knows this company via brands such as 8PM Whiskey, Magic Moments Vodka, Morpheus Brandy. The company recently entered the super premium single malt segment with an offering called Rampur. Analysts and market watchers are pleasantly surprised with the company’s claims that it commands 50% share of India's vodka market.

The company’s finances have shown a decent improvement in the past five years. Top line has compounded at a rate of 5 percent between FY15 and FY18. Radico’s Ebitda margin improvement to 15 percent from 11.5 percent has ensured a 16% growth in profitability in the past five years.

The company’s deleveraging efforts have further boosted EPS. Radico’s management aims to make the company debt free by FY21 and targets a margin rise of 150 bps with 10% volume growth in FY19.

A basis point is one-hundredth of a percentage point.

Triggers for the company in future include better margins due to improving product mix and higher volumes in Uttar Pradesh. UP is one of the company’s strongest markets and with the government ending distribution monopoly last year, the case for higher volumes in UP strengthens.

However, a high working capital/receivables cycle would feature as the key concern for the future. It takes an average of four months for the company to receive cash for sales it has made.

It would be important to see this process hasten. Another hanging sword on the industry is applicability of GST on ENA (key input for liquor companies). If indeed, it happens, as suggested by the Attorney Solicitor General, analysts peg a risk of 10-15% to industry EBITDA.

Also, FY19 is packed with state elections leading up to the big general elections. Liquor is a politically sensitive subject and any adverse announcement from the political leadership on the same may hinder the industry’s growth expectations.

Having said that, foreign institutional investors have been raising stake in the company and analysts peg (pun intended) Radico’s FY20 EPS to be higher by 45% than what it was in FY18. Despite a 4X move, Radico still trades at a discount to industry leader United Spirits.

So is this decline of 20% from the record high a time to enter or is the valuation glass overflowing already? Only time will tell.

First Published:Jun 18, 2018 1:40 PM IST