Mid-caps: Expect 30% plus returns over the next year

As clouds of high inflation, rising interest rates and slowing earnings growth weigh on the Indian markets, experts believe it is a good time to look at mid-cap stocks.

They believe many are currently trading at attractive valuations, despite having consistently delivered good results quarter after quarter.

Says Sunil Singhania, head-equities, Reliance Mutual Fund, "We are seeing some signs of interest re-emerging in smaller companies. The valuation gap between large-caps and mid-caps is quite high at present. Additionally, some of these mid-cap companies are growing quite well. Overall, we think mid-cap stocks should give better returns than the large-cap stocks on a one-year horizon."

While valuations have fallen, investors need to consider factors like growth prospects, industry position, pricing power, balance sheet and brand strength while selecting mid-cap stocks, given that they are relatively riskier than their larger peers.

Leading brokerage house Religare Capital Markets writes in its report, "We remain positive on Indian markets driven by consumption-led growth and our expectations of a revival in the infrastructure sector in the second half of 2011. While we continue to expect healthy 15-20 per cent returns from large-cap stocks over the next nine to 12 months, we believe mid-cap returns would be higher at 35-40 per cent."

To arrive at the key investment ideas in this space, we spoke to experts to know their picks. In our final list, we included only companies that are a part of the BSE/NSE mid-cap indices and, more important, where fundamentals remain healthy, with earnings expected to grow at over 20 per cent annually over 2010-13.

APOLLO HOSPITALS

The company operates India's largest hospital network, with a capacity of 8,500 beds. It is planning to add 2,400 more over the next three years, at a cost of Rs 1,100 crore.

Its new hospitals in Hyderabad, driven by higher per bed revenue and occupancy and Ebitda (earnings before interest, taxes, depreciation and amortisation) margins, should help the company grow Ebitda at a higher rate.

Among the key challenges will be to turn around its pharmacy business, which is now 30 per cent of revenue. The company's plans to raise resources to fund its expansion are likely to impact its return ratios.

HAVELLS INDIA

A leading Indian consumer electrical goods company with a strong distribution network. While its lighting and durables businesses

are seen growing at a steady pace, new products are expected to fuel growth over the next two years.

Analysts expect its international subsidiary, Sylvania, to report better margins in 2011-12 and drive global revenues. Broadly, Havells' revenue and net profit are expected to grow by 20 per cent and 23-25 per cent, respectively, over the next two to three years.

A key concern is its elevated debt-equity ratio, though this has fallen by a third to 1.8 in 2010-11. Given its cash profits of Rs 400 crore and cash balance of Rs 175 crore, expect debt levels to fall.

PAGE INDUSTRIES

A dominant player in the domestic innerwear market, it is the only licensee of the Jockey brand in India. The increasing preference of Indian consumers for branded and quality innerwear should lead to robust growth (15-20 per cent) of the market.

The company's focus on the medium and premium segments of innerwear is expected to result in annual revenue and earnings growth of 38-40 per cent over 2010-13. Page's strong brand and wide distribution network, along with a sound balance sheet and quick cash conversion cycle, make it a preferred stock of most brokerages.

PIDILITE INDUSTRIES

The market leader in the niche businesses of adhesives, sealants and construction chemicals. While its Fevicol brand is synonymous with adhesives in India, the company has created strong brand awareness for its entire product range, which gives it strong pricing power and helps maintain margins via price increases.

Pidilite's ability to develop new products would enable it to maintain its leadership position. Successful turnaround of its loss-making subsidiaries in Brazil and Egypt, coupled with revenue contribution from elastomer (a new product, from 2012-13 onwards) would be among key triggers.

SINTEX INDUSTRIES

Sustained and non-cyclical rise in government social spending in India will lay the foundation for strong future growth for Sintex Industries. Its monolithic and prefab segments, that derive 30 per cent revenues from government orders, thus enjoy strong revenue visibility.

Further, the custom moulding business should benefit from a pick-up in the industrial cycle and synergies from its acquisitions in the medium term. A sharp dip in working capital requirement in 2010-11 (by almost 40 per cent as a percentage of sales), along with divestment of unrelated investments (oil & gas) has addressed key concerns.

Analysts believe strong growth prospects, a leaner balance sheet and attractive valuations are key positives of the stock.