care ratings ltd dr. equity

CARE RATINGS LTDCARE RATINGS LTDSep 2013

Research Report

Wisdom from great investors..

3

Our Research Process

• Dr. Equity follow the principles of Value Investing as practised by the

worlds greatest investor Warren Buffett.

• Our belief is that buy quality companies whose management is honest and • Our belief is that buy quality companies whose management is honest and

able.

• We follow lot of Buffett led criteria's in picking quality companies.

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Contents

• Company Details

• Care Ratings Ltd – Company Details

• Industry Overview

• CARE Performance• CARE Performance

• Credit Rating Industry – Opportunity

• Shareholding Pattern

• Valuations

• Conclusion

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Company Details

• CMP – 526 as on sep 2013

• BSE Code – 534804

• Market Cap – Rs 1500 cr.

• Face Value – Rs 10.00• Face Value – Rs 10.00

• Dividend Yield – 3.8%

• NSE Code – CARERATING

• Total Equity Shares – 2.855 cr.

• 52 Weeks High/Low – Rs 986/Rs 415

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Care Ratings Ltd – Company Details

• Established in 1993

• 3 Major Shareholders - IDBI Bank, Canara

Bank and State Bank of India

• Care Rating provide services in Credit Ratings • Care Rating provide services in Credit Ratings

and Information Services

• Second largest credit rating company in India.

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15791808

2187

5980

7439

0

1000

2000

3000

4000

5000

6000

7000

8000

FY09 FY10 FY11 FY12 FY13

No. Of Assignments

No. Of Assignments

711 7581114

3900

5263

0

1000

2000

3000

4000

5000

6000


No. Of Clients

No. Of Clients

1.11

1.46

1.97 1.96

2.62

0

0.5

1

1.5

2

2.5

3


Bank Facility - No. Of Instrument

Rated

Bank Facility - No. Of

Instrument Rated

1.11

1.46

1.97 1.96

2.62

0

0.5

1

1.5

2

2.5

3


Debentures/Bonds - No. Of

Instruments Rated

Debentures/Bonds -

No. Of Instruments …

8Source: Company Annual Report

1.97 1.96

2.62

2

2.5

3

Volume of New Bank Facility (in

Lakh Crore)

1.46

1.97 1.96

2.62

1.5

2

2.5

3

Volume of New Debentures/Bonds

Rated (in Lakh Crore)

1.11

1.46

0

0.5

1

1.5


Volume of New Bank

Facility (in Lakh Crore)

1.11

1.46

0

0.5

1

1.5


Volume of New

Debentures/Bonds

Rated (in Lakh Crore)


• As it can be observed from the previous charts that while there is no linear

increase in the Bank Facility and debenture rating but the no. of clients and

Revenue has been increased.

• Care also has its international operations in Maldives. It has a 20% stake in

the ARC Ratings based in Maldives.the ARC Ratings based in Maldives.

• Grading Services: Care also do the grading of IPOs, grading of various

enterprises in various sectors.

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Industry OverviewThe Credit Rating Industry In India, the first credit rating agency, Credit Rating and Information Services

of India Limited (“CRISIL”), was set up in 1987. A second rating agency, ICRA Limited (then known

as, Investment Information and Credit Rating Agency of India Limited) (“ICRA”) was established in

1991 and a third agency, CARE, was established in 1993. Duff and Phelps Credit Rating India which

started its operations in 1996 was renamed Fitch Ratings India Private Limited (Fitch) in 2001 and

renamed again to India Ratings and Research Private Limited in 2012.

Brickworks Ratings India Private Limited (Brickworks) began its rating business in 2008. SME Rating

Agency of India Limited (SMERA) also began its rating business in 2008. In the initial stages, the

rating agencies faced several challenges, as the corporate debt market in India was nascent. In

1992, credit rating became mandatory for the issuance of debt instruments with 1992, credit rating became mandatory for the issuance of debt instruments with

maturity/convertibility of 18 months and above. Subsequently, the RBI guidelines made rating

mandatory for issuance of commercial paper. RBI also made rating of public deposit schemes

mandatory for NBFCs. Since then credit rating has made rapid strides in terms of the number and

value of instruments, which have, been rated.

Further, within Basel II, the second of the Basel Accords which contains recommendations on banking

laws and regulations issued by the Basel Committee on banking supervision, various approaches for

banks to determine credit risk have been prescribed with progressively increasing risk sensitivity.

The RBI introduced a phased approach to the implementation of Basel II in India. In the first

stage, Indian banks were required by the RBI to adopt a ‘standardized approach’ for credit risk.

Under the ‘standardized approach’, the RBI recognized certain rating agencies as eligible credit

rating agencies and Indian banks are required to use such eligible credit rating agencies to assess

their credit risk in order to determine compliance with capital adequacy requirements. The

implementation of Basel II standards by the RBI resulted in large scale demand for credit ratings

across sectors and geographies, which was previously limited to a small group of clients. 11

Filter # 1

Track record of high returns on capital.

"Here's what we're looking for...businesses earning good returns on

equity while employing little or no debt." - Warren Buffett's letter to

shareholders, 1987shareholders, 1987

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0.00%

10.00%

20.00%

30.00%

40.00%

50.00%

60.00%


ROE

ROE

As it can be seen from the above graph CARE Ratings is earning average 35% ROE on the

capital. Although growth rate is dipping due to economic slowdown but we believe that as the

economy uptick takes place CARE Ratings will resume its uptrend in ROE.

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Filter # 2

...else pays it back to shareholders

"Most high return businesses need relatively little capital. Shareholders of

such a company usually will benefit if it pays out most of its earnings in dividends such a company usually will benefit if it pays out most of its earnings in dividends

or makes significant stock repurchases."- Warren Buffett letter to

shareholders, 1992.

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Dividend Policy

Dividend Details

FY13 FY14

Interim Dividend 12 6

Final Dividend 8 NA

Dividend Payout 50.39% NADividend Payout 50.39% NA

As CARE got listed only recently in Dec’12, there’s not much data in terms of dividend

payout history of the company, however one can get an idea about the company’s

prospective dividend policy from its dividend payout for FY 13.

For FY 13, the company has announced a total dividend of Rs 20/- per share (Rs 12/-

already paid in Mar’13 and Rs 8/- shall be paid in Sep’13) which is 50.39% of the reported

net profit of the company.

For FY 14, they have already paid first interim dividend of Rs 6/- per share and we expect

1-2 more interim dividends before a final dividend.16

Care is paying huge dividends year on

year, FY09 dividend payout ratio was

6.67% which has increased to 58%

approx.

This proves the warren buffett

principle above.


Filter # 3

A word on the management.

..."the certainty with which management can be counted on to channel ..."the certainty with which management can be counted on to channel

the rewards from the business to the shareholders rather than to itself..."- Warren

Buffett letter to shareholders, 1993.

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�D.R. Dogra is the Managing Director

and Chief Executive Officer of the

Company.

�He holds a Bachelor's and a Master's

degree in agriculture from Himachal

Pradesh University and a Master's

degree in business administration

(finance), from University of Delhi.

He has more than 33 years of �He has more than 33 years of

experience in the financial sector and

in credit Administration.

�Care’s management is aggressive and

most of the senior people are veterans.

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Filter #4

Strong MoatStrong Moat

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�These are the

Strong Moats of

CARE Ratings

which helps the

company to earn

exceptional

returns on its

capital.

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Filter # 5

Generates a lot of capital

"Almost by definition, a really good business generates far more money "Almost by definition, a really good business generates far more money

(at least after its early years) than it can use internally." -Warren Buffett's letter to

shareholders, 1994

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Cash Flow from

Operations

�Cash Flow from Operations and Return on Equity is good on an average. As business is not

capital hungry since it receives advance payments from its clients and tender service

subsequently, CARE has a negative working capital cycle.

�It has Rs. 400 cr cash on its books which is affecting its ROE, its actually facing the problem

of plenty. Very few business face such situations where they have excess cash.

�Care has maintained a ROE of 32% average on its capital during the last 5 years, though

last 5 years has been extremely challenging.

�Book value has also increased 3 times during the last 5 years.


Performance Q1FY 14

26Source: Dr Equity Research

Shareholding Pattern

27Source: Dr Equity Research

Filter # 6

and now Valuations...and now Valuations...

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As far as valuations are concerned,

Current Price: 525-530

CARE market cap: Rs 1,500 crores.

It’s a debt free company, holding close to Rs. 400 crores as cash and cash equivalents.

The business model is good, being very low on capital requirement, negative working capital

requirement backed by up-front payment of fees and recurring revenue stream from existing

clients.

FY 13 the company delivered pre-tax operating profit of Rs 131.2 crores

Enterprise value of Rs 1100 crores (market cap + debt – surplus cash)

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Enterprise value of Rs 1100 crores (market cap + debt – surplus cash)

Present pre-tax AAA bond yields are 9% p.a.

If CARE continues to generate Rs 131.2 crores pre-tax operating profit till perpetuity, the value

for this will be Rs 1460 crores (at present rates) as compared to Enterprise Value of Rs 1100

crores.

Care is a Strong BUY at current levels looking at its valuations currently and the future growth

prospects with rich return ratios.

Filter # 7

Margin of safety

Having ascertained that CARE Ratings Ltd is one of the contenders for becoming a Having ascertained that CARE Ratings Ltd is one of the contenders for becoming a

part of a portfolio that Warren Buffett would love to own, let us have a look

whether there is sufficient margin of safety in the company's current stock price and

whether one should invest in the stock at the current levels.

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Buffett always insist on the Margin of Safety of 25% from the current share price. Because

an analyst can go wrong in estimating the fair value of a company. That is why buffett

always look for a fair amount of Margin of Safety.

Care’s current enterprise value stands at Rs. 1100 Crores, while Fair Value comes at

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Care’s current enterprise value stands at Rs. 1100 Crores, while Fair Value comes at

Rs.1460 Crores. So there is a margin of safety exist in the current share price.

There is a 32% undervaluation calculated at the current price compared to its fair

valuation which offers a very good Margin of Safety.

Concerns

• Business and revenues of CARE are impacted by changes in the volume of debt

instruments issued and bank loans and facilities provided in the Indian debt market

• CARE’s business and revenues may be adversely impacted by changes in interest rates in

the Indian debt markets.

• Business of CARE is concentrated in the rating of debt instruments and bank loans and

facilities; if it is not able to diversify its business, its financial condition and results of

operations may be adversely affected. operations may be adversely affected.

• If the banks whose clients avail credit rating services under the Basel II framework migrate

to the internal rating based approach for credit risk it could have an adverse effect on its

rating business, which may in turn have an adverse effect on the business, financial

condition, results of operations and revenues.

• Competition may affect market share or profitability, which could have an adverse effect

on CARE’s business, financial condition and revenues.

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• Any damage to the trust and confidence that CARE’s clients has in it, which is largely

dependent on its brand recognition and reputation, may adversely affect its

business, financial performance and results of operations.

• CARE’s performance and success depends largely on its ability to retain the continued

service of its management team, rating committee members and skilled personnel who can

perform functions such as sophisticated credit and financial analysis. perform functions such as sophisticated credit and financial analysis.

• If CARE is not able to adequately manage its growth strategy, it will not be able to sustain

its growth level, which may reduce its profitability.

• Material changes in the regulations that govern its business could adversely affect results of

operations.

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Disclaimer

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