Half the stocks going below book value

Written by Pradip Kumar Dey | Mumbai, Oct 5 | Updated: Oct 6 2008, 06:17am hrs
With the markets seeing consistent selling by overseas investors and the benchmark indices taking a tumble, many stocks have retreated, and are now quoting below their book value. A study by FE indicates that as many as 49% stocks from the 2,699 listed companies traded below their book value at the end of September, sharply down from the 22% on January 8, this year.

And this is not just about a large sample size, including many trashy companies and penny stocks. Around 7% companies on the BSE 500 were quoting below their book value in January and now the share has swollen to 20%. Clearly, the pounding has been severe as the Sensex has fallen by 38.39% (-8,012.90 points) to 12,860.43 on September 30, from the peak of 20,873.33 on January 8,2008.

Out of 2,699 quoted companies, 1,319(49%) quoted below of their book value as on Sep 30. But on January 8, the number was 584 (22%).

Among the 1,319 companies quoting below their book value as on Sept 30, a few are big companies. Take for example, Arvind Ltd, which was quoting at around Rs 24.30 with its book value pegged at around Rs 63.55. Even the leading tyre manufacturer of the RP Goenka group, CEAT was quoted at around Rs 60.10, while its book value was around Rs 145.97. Then, there are others like Century Enka (Rs 94.15/BV Rs 225.14) and Escorts (Rs 59.10/BV Rs 80.75).

Usually, the price-to-book value ratio very quickly indicates the valuation attractiveness of a company. It is, roughly speaking, the price you would pay for the companys assets. Hence, lower the price-to-book value, the more attractive the investment opportunity becomes. However, the price-to-book value should not be looked at in isolation, the quality of the assets and profitability, especially the return on equity, should also be considered.

For example, the first quarter profit of Alok Industries, which saw a considerable decline in the price-to-book value, decreased by 48.5% to Rs 28.35 crore during April-June 2008 from the level of Rs 55.01 crore a year ago. Similar, is the case with Bajaj Auto Finance.

However, the average BSE 500 return on equity is estimated to be around 15%, and this compares well with other global peers. Therefore, with so many companies quoting below their book value, does investment in Indian companies become an attractive proposition for overseas investors According to a Citigroup research report on Asian markets, We know that markets are a little below average on P/BV at 1.7x. From here we are close to a 50/50 probability of making money.

The reasoning is that Asian markets are slightly below average but by only a very small margin. If the last 30 years are any guide, the risk reward of buying the Asian markets at this stage is 51% upside probability vs. 49% downside probability. So, not exactly attractive, the report concludes.