Current market price - Rs1205
BSE Sensex - 4696.6

This is one company, which has remained in the news headlines and recently caught the stock market fancy too. A perfect ingredient for including it in our Fataka category. Over the years, Sterlite has used copper and aluminum to manufacture cables. Not the perfect alchemist you may say. But as 'Get Connected' becomes the latest fad in government circles, all its cables may be worth their weight in gold. Read on to know more…

Sterlite started life in 1975 as Rainbow Investments Ltd but within a year a change in nomenclature made it Sterlite Cables Ltd. It started production of PVC power cables in 1979 but by 1988 changed its product mix to include more of jelly filled telecom cables (JFTC). To feed this business, the company thought of producing cast copper rods. To keep pace with technology, Sterlite once again diversified into optical fiber cables in 1993 and further backward integrated to commence production of aluminum sheets and foils. In between all this, the company found time to change its name once again to the present Sterlite Industries (India) Ltd.

The chunk of the company's business (around 64% of the total turnover) comes from its copper division. Much of this division's produce is fed into the JFTC division while the rest is sold to other JFTC manufacturers as well as to the winding wire industry.

In the JFTC business, Sterlite is the 2nd largest private sector player with a 7.5 million-cable kilometers (mckm) capacity and a market share of 18% (alongwith its subsidiary Sterlite Telecom). With the two main raw materials (copper and aluminum) being sourced internally, the company is competitive both in terms of cost and capacity. As the Indian government seems intent to increase the teledensity in the country from the present 3%, Sterlite must be savoring the future prospects of this business which presently contributes around 22% to the total turnover.

One other important line of business for Sterlite is optical fiber cables. At present this division contributes around 3% to the total turnover.

The recent embarrassment on a DoT tender notwithstanding, no one can accuse the management of not knowing what is best for the company. Its promoter Anil Agarwal earned his spurs by trading in non-ferrous metals. Over the years, the company has grown by a judicious mix of acquisition cum expansion plans. However, the going has not been entirely smooth. The company’s track record for implementing projects suffered a setback with the delays in the copper smelter project. The management also suffered a setback in its attempt to become a major player in the aluminum industry. However, now with the demerger of the telecom and non-ferrous businesses, one can expect focussed growth plans in both the divisions.

Despite depending on government led entities for a substantial part of its business, Sterlite's cash flows have hardly been a cause for concern. In the period FY06/96 to FY06/99, cash flows have increased from Rs1.56bn to 2.42bn. By acquiring existing capacities Sterlite has also kept a check on its investments in fixed assets. This avoided any incremental debt burden. Debt: equity ratio has stood steady at 1.0x in the past three years.

Having included in the Fataka category, it is sometimes difficult to give cogent fundamental reasons for buying the stock especially after its fantastic rise in the past few days. The trigger was provided by the company's decision to demerge its non-ferrous and telecom businesses. The demerger of the businesses would help the company unlock the value of telecom business and help to shed the general perception of the company being a commodity player. Moreover, common business sense dictates that it is always better to separate that part of the business, which has every potential to outgrow the other given the current favorable outlook.

After all the years of dilly-dallying by successive governments, the NDA led coalition at the center has given its pro-reform image a new shine. Its New Telecom Policy envisages a tele-density of 7 per 100 by the year 2005 from the present 2.3 per 100. Given the years spent in dealing with DoT, Sterlite should feel confident of having a lion share in the telecom pie. So much for the telecom business. Even without the trigger from DoT, the order book position is very strong.

Prospects for the non-ferrous business too have given Sterlite reason to smile. International prices of copper are on the rise after touching a 12-year low in March 1999. This has helped treatment and refining margins to improve and the outcome could well be seen in a stronger bottomline for Sterlite. Secondly, with India importing 40% of its copper requirements, Sterlite's decision to increase capacity from the present 120,000 tons per annum (tpa) to 150,000 tpa by the end of this year will aid in import substitution given the increasing use in copper in telecom and power industries.

In the case of aluminum too the prospects cannot be sweeter. With no new capacities expected, the increasing rate of consumption (estimated at 5.5% per annum) will keep prices firm. Sterlite is also doing the clever thing by acquiring existing capacities without going in for a greenfield expansion. Take the recent merger with MALCO and acquisition of India Foils for instance. MALCO is the only integrated aluminum company in the south and has its own captive bauxite mines. A stake in India Foils will help Sterlite increase its share in the market from the 15% to 55% without much ado.

With the current price close to touching the Rs1200 mark, one really cannot justify picking it purely on a P/E (26x at Q1 FY01 results) basis. But what is a Fataka stock without its high valuations? Also optical fiber cable companies globally are trading at very high valuations. In this scenario, we expect institutional investors to remain invested and further increase their exposure to the stock.

While the company looks strong on fundamentals, there remain certain concerns. The first one has to do with technology. The production of JFTC being a low technology production imposes very low entry barrier for new players in the field. This could just cause more than a ripple as and when the DoT realizes that Sterlite is not the only supplier of these cables. In the optical fiber business too the company is left with a production process which is more than two decades old. However, the biggest concern with Sterlite is that some controversy may rear up its head from completely unknown and unexpected quarters.

Abhijeet Dey