Arcotech Ltd. was established in 1981 for manufacturing internationally acceptable quality of Copper & Brass Strips and Foils. It has become one of the leading manufacturers of Copper/Brass Strips and Foils in India by creating a niche of producing micro thin foils up to 0.04 mm with close tolerance. 

The company has now expanded and increased its product range to include other Non Ferrous alloys like Phosphor Bronze, Nickel Silver, Nickel Brass, Cupro Nickel, Aluminium Bronze, Tin Bearing Copper and Silver Bearing Copper etc. These are produced in the form of semis like ingots, strips, sheets, plates, foils, copper bus bars in India. They have plans to broaden the range of products to include thingslike tubes, coin blanks, rods and wires.

Arcotech is contemplating to set up a green field project in the state of Gujarat, India to manufacture Aluminum semis. This will be an integrated facility and will prove to be a synergy to the Copper division. Aluminum demand has been growing at 10% CAGR since last 5 years and is expected to grow at 15-17% for the next five years in India.


Let's take a look at the company's financial performance:

Arcotech has grown remarkably over the past few years, although from a bottom, as copper prices declined significantly during the meltdown in 2008. And that is my major objection, I usually avoid cyclical industries like this, the company has executed well but should a recession come I believe they are toast. Arcotech is trying to diversify it's operations, but it's still relying heavily on  copper. Furthermore, margins have declined almost every year, which is a result of intense competition from bigger players like Sesa Sterlite or Hindustan Copper.

Valuation

I did a three stage DCF valuation with the following assumptions:
- 1st stage profit growth of 25% for the next 5 years
- 15% for years 6-10
- 4% terminal growth rate
- discount rates of 12%, 14%, 16%

I believe that given it's small size and rapid growth, rates of 14% and 16% are more applicable. Based on this, Arcotech offers only 16% upside in a positive scenario (with a share value of 419 Rs.). That is, if it grows by 25% and 15% respectively. Valuing cyclical companies with DCF is always tricky, as the earnings might wildly fluctuate. The stock is currently selling for a P/E of 23 and P/S of 1.2.

Summary

I didn't purchase Arcotech for a simple reason: it has no competitive advantage. It might have grown fast, but there are limits in the industry with extremely narrow margins. As Warren Buffett said: "Time is the friend of a wonderful company, and enemy of the mediocre". I will not buy such a stock, because there are so many other wonderful businesses out there.

Arvind Remedies Ltd was established in 1988 under Dr.Arvind Shah, Managing Director and CEO. The company has 30 pharmaceutical brands in 10 states. They offer various products in GP segments like Analgesics, Antioxidants, Haematinics, Antibiotic, GIT drugs, and also specialty herbal products for diabetes and herbal cream for bed sores and prevention of keloids after surgery or wounds. The stock has a market cap of 397 Rs.Cr.

The world pharma market is estimated to have grown by 2.5% in 2013 to reach the size of US $ 975 bn. While average revenue growth in  developed markets was only .36% in emerging markets of Asia Africa Australia and Latin America, the growth was about 10.7%. 
United States remains the largest pharmaceutical market globally, and also the largest generics market.

The Indian pharma industry during 2013-14 grew by mere 6.1% and reached size of approx Rs.823 bn. 
However it has been globally ranked third in terms of volume and tenth in terms of value. The market is 
expected to grow at a compounded Annual Growth Rate of 12% over the next five years. 

The key factors influence growth of healthcare sector are growth in population, increasing incidence of 
diseases, increasing affordability, rise in insurance and government schemes. 

According to their annual report, this will be the company's main focus and growth strategy:

"ARL can play vital role by going for registration of off patented products for exports and developing the outsourcing market. Key strategy will be to focus on the new and latest molecules approved by the authorities and share with top companies who can market these products, focus on additional dosages in large and small volume parenterals and injectables in powder and liquid forms."


Let's take a look at ARL financials:

Arvind's revenues and profits have skyrocketed over the past couple of years, with margins improving significantly even in the face of competition. That is a great sign, the Indian pharma market has grown steadily, but attracted a lot of competition. If Arvind Remedies can expand margins in such an environment. Long-term debt/equity is slightly above 1, which is higher than the industry average, however they have enough current assets to satisfy near term  obligations.

There are two major red flags with Arvind Remedies: inventories rising faster than sales (58% vs. 38%), and operating cash flow was negative last year, due to an increase in receivables and inventories. Rising inventories might mean, that ARL is preparing for a good season or that demand is low and the company keeps producing goods that nobody is buying. In this case, I think I will stick to the first option, as they managed this really well in the past.

Valuation

Using a 3 stage DCF model I came up with the following value:
- 16%,18%,20% discount rates
- Long term growth of 20% for the next 5 years, 10% for years 6-10
- 4% terminal growth rate

The company looks dirt cheap. Using conservative estimates (20% growth and a 20% discount rate), I arrived at a value of 756 Rs.Cr., which implies a share value of 110 Rs. That's a potential of at least 90% in that stock, and if it grows faster (last year sales and profits grew 40%), it can be a multibagger. With a P/E of 5.8 and P/S of 0.4, the stock looks like a total bargain.

Summary

The stock has been on the run after the company cancelled a planned demerger of it's new factory, which will produce generics for the US market. Arvind Remedies offers a great risk/reward scenario - if it doesn't work out, my stop loss will be hit and I will lose a small amount, however if it continues to grow like in the past, it is significantly undervalued. The stock needs to cross the 60 Rs. mark before I buy it.