27Jun 23 - Jul 06, 2014 CAPITAL MARKET

InFocus

Stocks

Small checks10 factors to watch out for while evaluating small-cap stocksfor investment

Second, investors should check the

categories of stocks. Stay away from T group

stocks. Zodiac Ventures has appreciated by

a whopping 31.5 times from its yearly low

in August to the present level of Rs 531.3.

Turnover was Rs 1.2 crore and profit Rs 44

lakh in the fiscal ended March 2014 (FY

2014). The stock valued at Rs 198 crore is

commanding a price to earning (P/E)

multiple of 335.

Third, abnormal movement in stock price

and volume should be considered a sign of

trouble. A small stock hitting the upper circuit

on a consistent basis with low volume is a

danger signal. Moreover, exceptional jump

in trading volume compared with long- to

medium-term averages should also be a cause

of concern. A sharp increase in market interest

in a stock without corresponding

improvement in the financial performance

could mean presence of speculators looking

for killer gains. How muchWhat is low and

high volume can be determined based on the

outstanding share capital.

Fourth, low delivery volume despite a

sharp jump in traded volume on a consistent

basis means lower interest of long-term

investors and dominance of traders and

punters. They could take stocks to newer

heights without supporting financial

performance. This could be a trap for

individual small investors, resulting in

wealth destruction.

The fifth factor to watch out for is

weak cashflows despite profit. There are

42 small-cap companies that have

reported all-time highs in CY 2014 but

have not paid dividends despite reporting

profit in the latest financial year. The

dividend may not be a significant source

of income for the short- and medium-

term investors. But certainly it is a good

indicator of cashflows. A high dividend

payout ratio indicates robust cashflows.

Generally, companies avoid dividends in

case of impending or ongoing capital

expansion projects.

Sixth, a check on the statutory auditors’

report is must while evaluating small-cap

companies for investment. Auditors’

comments and qualifications could be an

eyeopener. Besides, investors must check

the annexure to the auditors’ report as it can

provide information about internal control

and delays and default in payment of loan

obligations and statutory dues.

Next, investors should check the

auditors’ review reports published along

with the quarterly results. These are

Of the 333 companies that have reported all-

time highs in the calendar year (CY) 2014,

66 are from the T group. Delivery of shares

is compulsory for buyers as well as sellers

in settlement of trade for a stock in the T

group. Out of these 333 companies, 23 have

reported losses in the latest available trail-

ing 12 months (TTM).

Not only this, 28 of these 333 companies

reported turnover of less than Rs 1 crore in

the latest TTM. Moreover, one among these

28 firms has reported negative turnover.

Four among these 333 companies have

negative net worth.

If categorized into small-, mid- and

large-cap companies, it is clear small-

cap companies with market cap of less

Rs 500 crore dominate the list, at 129,

followed by mid caps, at 126. Mid caps

are defined as companies with market

value between Rs 500 crore and Rs 5000

crore. Large caps are with market value

above Rs 5000 crore.

The rally in small- and mid-cap

counters with questionable credentials is

not a healthy trend. Therefore, investors

need to exercise caution. The rally in small-

and mid-cap companies is likely to get

stronger as participation of retail individual

investors increases. With a stable

government in New Delhi, there is renewed

interest in the equity market.

The S&P BSE Sensex, the leading stock

market indicator, reported an all-time high of

25,725 mid June 2014 and continues to remain

at elevated level. The BSE Small and Mid-Cap

indices are in a hurry to catch up with the

Sensex. Both these indices reported their

historical highs in January 2008, that is, in the

previous bull-run. The BSE Small-Cap index

is 31.8% away from its record high and the Mid-

Cap index 12.5% off. Invariably this means

there is still much upside left, particularly in

the small-cap space. This is an opportunity and,

at the same time, a threat as well.

This is because a sharp run-up without

strong financial performance is a scary

scenario for small and retail investors.

Investors must act choosy while picking

stocks for investment. Here is a quick check

list that investors can refer to while

exploring small-cap stocks for investment.

First, there are companies whose

financials are not supporting their

appreciation on the trading floor. Companies

with too little turnover and profit are

reporting all-time and multi-year highs.

Companies with negative net worth are also

witnessing a strong buying interest.

Exdon Trading Company surged from a

52-week low of Rs 2.02 in June 2013 to its

all-time high of Rs 34.8 in one year. The

company reported no sales and loss of Rs 9

lakh in TTM ended 31 March 2014.

28 Jun 23 - Jul 06, 2014 CAPITAL MARKET

InFocus

generally available on the stock exchanges

as part of the announcements. These reports

are a good source of information.

Seventh, corporate governance issues are

another factor to watch out for. Investors

should avoid companies on whom capital

market regulator Securities Exchange Board

of India (Sebi) has imposed penalties. Sebi

fines promoters as well. if the levies are on

account of allegations of stock manipulation,

such companies should be avoided.

Eighth, low promoter holding is another

crucial red flag that investors should pay

attention to. Of the small-cap companies hitting

all-time highs in 2014, 11 have promoter

holding of less than 10%. Moreover, five

companies have promoter holding of less than

1%. Are these professionally managed

companies with such low promoter holdings?

Absolutely not. Promoters’ holding reflects

their monetary interest. Hence, higher the stake,

higher would be the involvement of promoters

in the affairs of a company and vice versa.

Among the 129 small-cap firms, mutual

fund holding is nil in 93 companies, while it

is less than 0.10% in another 25 companies.

Similarly, foreign institutional investors (FIIs)

have no exposure at all to 109 companies.

FII holding in another six companies is less

than 0.10%. Institutional holding is the ninth

important check investors must run on small-

cap companies. Apart from stringent scrutiny

of the background of companies, institutional

investors strictly keep away from dubious

companies for sake of their own brand and

goodwill in the market.

Tenth, availability of adequate information

about a company is a must. At times, it is

difficult to guess about the business a company

is involved in from whatever information is

available in the public domain. A company

must be regular in releasing quarterly and

annual accounts. Also, it should be transparent

in statutory declarations or information with

the stock exchanges. A company should have

continuous history of trading. Those that are

compulsorily delisted for not adhering to the

listing agreements should be avoided. Such

companies are fairweather friends and

mushroom only during heydays.

Small- and mid-cap stocks are having a

dream run. The BSE Small-Cap index has

A sharp surge

25 companies that have reported highest gains from their 52-week lowsCOMPANY CMP CMP M-CAP 52-WEEK ALL-TIME GAIN# P/E P/BV PROM TTM TTM NET TTM TTM RPAT CHNG

AS ON (Rs) (Rs cr) LOW HIGH HIGH IN @ ENDED SALES RPAT LAST ##(Rs) (Rs) (Rs) TIMES (Rs cr) (Rs cr) YEAR

PFL Infotech 6/13/2014 535.3 400.4 42.6 825.0 825.0 19.39 0 52.12 6.72 201403 0.00 0.36 0.32 12.5Thacker & Company 6/13/2014 1849.0 29.6 102.4 1850.0 1850.0 18.06 38.92 2.93 74.99 201403 3.68 0.38 -0.09 LPExdon Trading 6/13/2014 34.8 111.5 2.0 34.8 34.8 17.23 0 3.49 1.46 201403 0.00 -0.09 0 PLSW Investments 5/26/2014 225.0 20.3 36.5 372.8 372.8 10.21 63.38 4.38 42.33 201403 0.61 0.32 0.12 166.7Essen Supplements 6/13/2014 123.7 121.4 12.5 127.1 127.1 10.15 0 24.64 74.63 201312 0.19 0.20 0.41 -51.2Linkson International 6/13/2014 133.0 43.9 34.0 328.2 328.2 9.67 7.57 2.11 26.7 201312 263.90 5.80 4.96 16.9Superior Industrial 6/13/2014 196.9 272.6 25.0 232.0 232.0 9.28 0 8.22 41.36 201403 10.08 0.33 0.46 -28.3Nikki Global Finance 6/13/2014 148.9 50.9 110.1 980.0 980.0 8.91 0 21.02 7.81 201403 4.00 0.00 0.03 -100.0Nivedita Mercantile 6/12/2014 21.2 15.4 2.7 21.2 21.2 7.95 6.8 0.16 64.89 201403 19.00 2.27 1.22 86.1Centron Industrial 6/13/2014 49.4 492.0 6.4 49.4 49.4 7.72 0 20.5 0 201403 22.85 0.39 0.28 39.3Shantanu Sheorey 6/13/2014 20.5 61.6 2.7 20.5 20.5 7.68 0 15.41 10.95 201403 -1.49 -8.53 0.27 PLMP Polypropylene 6/13/2014 23.9 104.0 4.6 33.4 33.4 7.20 0 -12.49 7.33 201403 0.00 -0.07 -0.18 -61.1JBM Auto 6/13/2014 256.1 261.2 39.0 271.9 271.9 6.97 5.2 1.1 61.99 201403 1222.97 50.21 32.61 54.0DHP 6/13/2014 127.9 38.4 20.8 139.0 139.0 6.70 5.28 1.45 74.94 201403 40.23 7.26 3.35 116.7IFGL Refractories 6/13/2014 144.4 499.8 24.0 155.3 155.3 6.47 7.81 1.59 71.3 201403 777.64 64.00 28.21 126.9AksharChem 6/13/2014 124.0 61.4 28.0 176.7 176.7 6.31 2.84 1.8 73.68 201403 144.86 20.05 3.79 429.0Virtual Global Education 6/13/2014 4.8 204.2 1.1 6.3 6.3 5.52 0 3.71 23.13 201403 9.00 0.12 0.09 33.3Mathew Easow 6/13/2014 124.8 83.0 23.0 126.0 126.0 5.48 0 7.33 31.28 201403 1.55 0.03 0.08 -62.5MBL Infrastructures 6/13/2014 247.6 433.6 55.7 299.0 299.0 5.37 5.63 0.93 58.36 201403 1766.29 77.00 56.66 35.9KG Petrochem 6/12/2014 46.5 24.3 8.7 46.5 46.5 5.34 3.54 0.8 64.65 201403 138.86 6.85 3.33 105.7Camex 6/13/2014 33.5 34.2 7.8 40.6 40.6 5.19 17.76 1.68 67.53 201403 220.95 1.92 1.62 18.5Diligent Industries 6/13/2014 63.0 72.1 12.3 63.0 63.0 5.11 0 7.33 65.02 201309 0.01 -0.07 -0.16 -56.3Cubical Financial 6/13/2014 18.0 117.3 4.0 20.0 20.0 5.05 0 9.89 25.81 201403 2.20 -0.03 0.03 PLKyra Landscapes 6/13/2014 23.5 129.2 23.5 118.5 118.5 5.04 176.29 4.82 2.8 201403 0.87 0.83 0.82 1.2Premco Global 6/13/2014 94.1 30.0 21.1 103.0 103.0 4.89 3.69 1.05 63.26 201403 63.11 8.13 5.17 57.3CMP: Current market price. #: All-time high / 52-week low. ##: Change in TTM RPAT (%). @: Promoter holding as on March 2014 (%). P/E: Price to earnings ratio. P/BV: Price to book value ratio.TTM: Trailing twelve months. PAT: Profit after tax. LP: Loss to profit. PL: Profit to loss. Source: Capitaline Databases

gained 90.8% from its 52-week low of

5,085.5 in August 2013. Similarly, the BSE

Mid-Cap index has gained 75.2% from its

yearly low in August 2013. In comparison,

the gain of 44.4% reported by the Sensex,

the broader index, from its 52-week low looks

modest. However, the Sensex is hovering

close to its historic peak, while the small-cap

stocks have a long distance to cover.

It is evident that these two segments are

trying to catch up with large-cap stocks. The

market surge could act as a relief rally for

small investors with exposure to these

segments. However, those looking at taking

fresh exposure, small-caps are risky bets.

It is true that serious quantum of money

can be made by investing in small-cap stocks.

But the small-cap stocks must be of good

quality. No point in investing in dubious

small caps, whose fate is decided by punters

and greedy promoters. Instead, investors

should opt for mid- and large-cap stocks,

which could be slow-moving and unexciting.

But the probability of complete erosion of

capital would be on the lower side.

— S Khedekar