CARE Ratings CMP 598- A High Potential Compounder- A Low Risk/ High Uncertainty Opportunity

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January 16, 2020

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Strategic Alpha

Dear Tribe Members,

Before starting with care rating analysis, Let us first understand in detail what is a rating agency and how does it work. I have found a good video on youtube explaining the same.

care ratings     CARE Ratings commenced operations in April 1993 and in over 25 years, it has established itself as the second-largest credit rating agency in India. With the rating volume of debt of around Rs. 128.37 lakh crores (as of March 31, 2019)

For more info click:- http://www.careratings.com/

NUMBERS THE LATEST:-

Market Cap:  1766 Cr         Book Value:  185 Apx          Promoter holding: 00%

Sales Q2FY20 72 Cr           Q2FY20 Net Profit  36 Cr.     CMP as on 16 JAN 2020: 598

 

POSITIVES 

  1. The beauty of the business model is such that it doesn’t require any CAPEX to grow the revenues, all that they have to do is hire an MBA Pay him a Million Rupees, and do a business of billion rupees.
  2. High Margin Business- Typically margins of credit rating agencies around the world are in the north of  50%, hardly we find any businesses with such margins.
  3. Debt Free Status- Care Ratings Enjoys Debt-Free Status which makes this a money-making machine with no outgoes on interests.
  4. Cash Rich- Care Ratings has Cash and Cash Equivalents of 425Cr which includes investments done in Mutual Funds, Cash at Bank, and Bank Deposits.
  5. Operates in Oligiopolistic Market- Care Ratings is the second-largest rating agency after CRISIL in terms of revenue market share.

IL&FS Scam and CARE Ratings

Care Rating was one that allowed IL&FS to shop the ratings for its various Debt Profiles.
Below re some of the articles relating to IL&FS Scam

INTERESTING INFO

It’s very true that Credit rating agencies are the ones behind every nation’s financial crisis. If we look at the US too, without the handholding of credit rating agencies Sub-Prime Crisis would not have happened. But as the definition of Credit Rating says- It’s an Opinion and as the opinion can go wrong there is nothing much can be done apart from slashing hefty penalties on credit rating agencies and business goes on. Credit rating agencies are an important part of a nation’s financial infrastructure and it’s not possible to take severe actions and close down these businesses.

Now, let’s take a look at what happened in the US,

The Indisputable Role of Credit Ratings Agencies in the 2008 Collapse, and Why Nothing Has Changed

So, for their mistake rating agencies were penalized

https://www.theguardian.com/business/2017/jan/14/moodys-864m-penalty-for-ratings-in-run-up-to-2008-financial-crisis

https://www.bbc.com/news/business-31115174

So, whether it is the eurozone crisis or subprime crisis these rating agencies are criticized and penalized but as said business goes on.

Now let us look at what happened to the stocks of Credit Rating Agencies in the US after the 2008 Collapse and these all were accused of rating shopping.

MOODYS SHARE PRICE CHART

moody's

S&P GLOBAL SHARE PRICE CHART

s&P global

NEGATIVES/POSSIBLE RISKS

  1. Credit Rating Agencies can only generate good profits if they receive fees for each rating from the debt issuer. Recently Regulators were thinking of a business model where credit rating agencies will receive fees from investors or Bankers who need these credit ratings of the companies issuing debt. This change in the business model may work or may not work for the rating agencies. Need to keep a check on regulators if such change is announced better is to sell the stock without thinking much.
  2. In the recent IL&FS Fiasco, CARE has faced reputational damage. If not handled by the company properly they may lose market share to its competitors CRISIL and ICRA.
  3. The business of Rating Agencies flourishes only if there are more debt issuances in the country. Since the past 10 years, Credit Growth is at its slowest pace, if this continues to deteriorate further then the environment would not be good for rating business.
  4. Rating business is a bet on the macroeconomy doing well, Extreme slowdown in the economy and recession where our country will not come out in the next 5-10 years would affect rating business.

MY TAKE

Rating business is such a great business to own because of its various aspects like No Need of Capex, high margin Business, Knowlege based business which needs only human capital( Smart MBA Guys are in Plenty in India) employed at 1 Million Rupees Per Annum and how is responsible for Billion Rupees of Revenues. Great Dynamics of Business!!!

CARE for me is a cash-generating machine, having no debt on its balance sheet, Cash and Cash Equivalent of 425 Crores, at 1750Cr Mcap deducting 425 Cr Cash Gives us an Enterprise value of 1325Cr. Assuming only 5% Credit growth in the Next Decade from 2020 to 2030 Company can create a free cash flow more than its current market cap CARE is definitely undervalued. With Peers trading at 30-40Times PE, and CARE Trading at sub 18PE provides a sufficient margin of safety. Looking at the next decade where India itself is at an inflection point, credit growth of over 8-10 % is not beyond imagination, with such an environment credit rating agencies are here to flourish and create massive wealth for its investors. One has to bet on CARE if one believes in India’s story, keeping in mind the company-specific risks as listed above and business model risks if any due to regulators.

CARE is an obvious potential wealth compounder for Decade 2020-30!!! Much of Patience, we can see levels of 7000+ incoming Decade. Currently, it is placed nicely to show levels of 1000-1200 In Short to Medium Term. Only time will tell how much money we have made here.

Important NotePotential multi-baggers are those stocks that have the potential to give 100 – 500% profits. Obviously, such returns take time. Probably 3 – 4 years or more. Short-term volatility is the reality of the stock market and that will always happen. Short-term movements(upside and downside) are impossible to predict. Only invest funds that you will not need for the next 3 – 4 years. As long as you buy a stock for the right reason and are convinced about the future prospects of the company, there is no need to worry if the share price goes down and stays down for a period of time after you buy; provided you have followed the cardinal stock market mantra BUY LOW.

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The author of the blog Mr.Suyog Dhavan is a Full-time Investor / Value Trader and Value investing/Trading Mentor. His style of Investing is inspired by Mohnish Pabrai, Peter Lynch, and Porinju Veliath. He is the founder of Strategic Alpha Wealth, A Premier stock market mentorship firm with a mission to touch the lives of 1Lakh people through its mentorship program.

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