Library / MiyeeStockBuddy: The Complete Guide to Indian Markets

Part 4. Sector by Sector

Part 3 gave you ratios that apply to every company. This part explains why applying them identically to every company is a mistake, and what to look at instead in each of the main Indian sectors.

The single most expensive error in fundamental analysis is comparing across sectors. A steel company at a P/E of 6 and a consumer goods company at a P/E of 60 is not evidence that one is cheap and the other is dear. They are different kinds of business, and they have traded at different multiples for as long as there have been markets.

4.1 Cyclical and Defensive: The Division That Matters Most

Every business sits somewhere on a line between two extremes, and knowing where changes how you read every number in its accounts.

	Cyclical	Defensive
Examples	Steel, cement, autos, real estate, capital goods, banks	FMCG, pharmaceuticals, utilities, telecom
Demand	Rises and falls hard with the economy	People buy soap and medicine in every year
Profits	Swing enormously, sometimes to a loss	Steady, growing slowly
P/E behaviour	Looks cheapest at the top of the cycle	Stays expensive because the earnings are dependable
What to watch	Capacity, commodity prices, order books	Volume growth, pricing power, rural demand
Careful here This is the trap worth learning by heart. A cyclical company at the peak of its cycle has record profits, so its P/E looks very low, and it appears to be the cheapest stock on the screen. It is not. Profits are about to fall, and the P/E will rise sharply as they do, even while the share price falls. The correct time to buy a cyclical company is usually when its P/E looks absurdly high or when it is making a loss, because that is the bottom of the cycle. This is the opposite of the instinct, which is why so few people manage it.

For cyclicals, price to book value is often more useful than P/E, because the book value of the factories does not swing with the cycle the way the earnings do.

4.2 Banks and Financial Companies

A bank is not a normal company and cannot be judged with normal ratios. Its raw material is money, its product is money, and its balance sheet is enormous by design. Debt to equity is meaningless here; a bank with a low one would be a bank that is not doing its job.

What to look at	What it means	A rough guide
Net Interest Margin (NIM)	The gap between what it earns on loans and pays on deposits	Higher is better; 3 to 4 percent is healthy for an Indian bank
Gross NPA	Loans that have stopped being repaid, as a share of all loans	Below 3 percent is comfortable; a rising trend matters more than the level
Net NPA	The same after money set aside against them	Below 1 percent is strong
Provision Coverage Ratio	How much has been set aside against bad loans	Above 70 percent is prudent
CASA ratio	Share of deposits in current and savings accounts	Higher is better; these are the cheapest deposits a bank has
Capital Adequacy (CAR)	The cushion regulators require against losses	Above the RBI minimum, with room to spare
Cost to income	How efficiently the bank is run	Lower is better; below 45 percent is good
The one thing that actually kills banks Not competition, and not a bad quarter. It is credit quality. A bank that lent badly during a boom discovers it three or four years later, all at once, and the losses can exceed several years of profit. Watch gross NPA as a trend rather than a level, and be sceptical of a bank growing its loan book far faster than its peers. Rapid loan growth is the easiest thing in banking to achieve and the most expensive to unwind, because the way to grow fast is to lend to the people everyone else refused.

Non banking finance companies borrow from banks and markets rather than from depositors, which makes them more vulnerable to a funding squeeze. When credit markets tighten, an NBFC can be perfectly solvent and still fail because it cannot roll over its borrowings. Watch the mix and the maturity of their funding, not just their loan book.

4.3 Information Technology

Indian IT services companies sell people’s time to foreign clients, mostly in dollars, while paying salaries in rupees. That single fact explains most of what moves them.

Dollar revenue growth is the number that matters, not rupee revenue, because rupee revenue can grow purely from a falling rupee.
Attrition is a genuine cost. High attrition means constant hiring and training, which compresses margins.
Deal wins and the order book tell you about revenue a year from now, which the current quarter does not.
Client concentration is a risk. A company earning a large share of revenue from a handful of clients has a fragile business however good the margins look.

These companies typically carry no debt, generate strong cash, and pay generous dividends, which is why they trade at higher multiples than most of the market. They are also directly exposed to how much American and European companies are spending on technology, which is not an Indian variable at all.

4.4 Pharmaceuticals

Split the sector in two before analysing anything. Domestic formulations, meaning medicines sold in India, behave like a defensive consumer business with steady demand and pricing that is partly capped by the government. Exports, mostly generics to the United States, behave like a commodity business with brutal price erosion and regulatory risk.

What to watch		Why it matters
Share of revenue from the US		Higher share means higher price erosion risk and higher regulatory risk
USFDA inspection outcomes		A warning letter or an import alert on a plant can remove a large share of profit overnight
Research spending as a share of sales		The pipeline is the future revenue; too little spending shows up years later
Domestic formulation growth		The steady, defensive half of the business
Number of pending approvals		Tells you what is coming
Careful here Regulatory risk in pharmaceuticals is genuinely binary and cannot be predicted from the financials. A single inspection at a single plant can wipe out a large fraction of a company’s profit with no warning in any ratio you were tracking. Size these positions accordingly.

4.5 Fast Moving Consumer Goods

Soap, biscuits, tea, hair oil. The most defensive sector in the market: people buy these in good years and bad, which is why FMCG companies trade at high multiples and almost never look cheap.

Volume growth is the honest number. Revenue can grow purely from raising prices, which is not the same as selling more. A company reporting 10 percent revenue growth with 1 percent volume growth is running out of room.
Rural versus urban split. Rural demand tracks the monsoon and farm incomes, and a large part of Indian FMCG volume comes from small towns and villages.
Raw material costs. Palm oil, crude derivatives, packaging and agricultural inputs. Margins compress quickly when these rise and the company cannot raise prices fast enough.
Distribution reach. A network of several lakh outlets is a moat that takes a decade and enormous money to replicate, and it is the real asset these companies own.

4.6 Automobiles

Deeply cyclical, and useful to think of as several different businesses that happen to share a sector name.

Segment	What drives it
Two wheelers	Rural incomes, the monsoon, first time buyers, fuel prices
Passenger cars	Urban salaries, interest rates on car loans, sentiment
Commercial vehicles	Freight demand and infrastructure spending. The most cyclical of the lot.
Tractors	Almost entirely the monsoon and crop prices
Auto components	Whatever the vehicle makers are producing, plus exports

Monthly sales volumes are published by every manufacturer, which makes this one of the few sectors where you can see the business changing before the quarterly results confirm it. Watch inventory at dealerships too: a company reporting strong dispatches while dealer inventory piles up is shipping into a channel that is not selling.

4.7 Cement, Metals and Commodities

These companies sell an undifferentiated product, so nobody pays extra for the brand and the only lasting advantage is being the lowest cost producer. Profits are driven by the gap between the commodity price and the cost of making it, and both move for reasons entirely outside the company.

Capacity utilisation tells you where the industry is in its cycle. Above 85 percent, prices firm up. Below 70, everyone discounts.
Realisation per tonne is the actual selling price achieved, and it is more informative than revenue.
Cost per tonne is where the moat lives. Power, freight and fuel dominate it, and location matters enormously in cement because the product is expensive to transport.
Announced capacity additions across the industry are the warning sign. When everyone expands at the same time, the next three years are a price war.

Think of it like this

Commodity businesses are like farming in a good year. When the price is high everyone plants more, and the reason the price falls two years later is precisely that everyone reacted to the high price. The time to be interested is when nobody is planting.

4.8 Energy, Power and Utilities

Regulated utilities are among the most defensive businesses available: demand is stable, returns are often set by a regulator, and dividends are usually generous. The trade off is that a regulated return caps the upside, so these rarely multiply your money and are held for income and stability instead.

Oil marketing and refining companies are a different animal entirely, and their profits depend on refining margins and on government decisions about fuel pricing, neither of which is in the company’s control. Read the government policy risk as a permanent feature rather than an occasional event.

4.9 Real Estate and Infrastructure

The most leveraged and most cyclical corner of the market. These companies borrow heavily, build over several years, and depend entirely on interest rates and on buyer confidence, both of which turn faster than a construction project can.

What to watch	Why
Debt, and the trend in it	The single most common cause of failure in this sector
Pre sales or bookings	Cash coming in, which is a better signal than reported revenue
Inventory of unsold completed units	Finished flats nobody bought are capital sitting still and financing costs running
Order book to revenue ratio, for infrastructure	How many years of work are already contracted
Receivables from government contracts	Payments can be slow enough to break an otherwise sound company

4.10 Specialty Chemicals

A sector that has grown strongly in India as global buyers looked for alternatives to a single country of supply. The distinction that matters is between a genuine specialty chemicals company, which makes complex molecules under long term contracts with real pricing power, and a commodity chemicals company that happens to use the word specialty in its annual report.

The test is margins. A real specialty business holds its margins through a raw material cycle because its customers cannot easily switch supplier. A commodity business does not.

4.11 A Sector Comparison Table

Sector	Cyclical?	The number that matters most	The main risk
Banks	Yes	Gross NPA trend and NIM	Credit quality discovered years late
IT services	Mildly	Dollar revenue growth and deal wins	Global technology spending
Pharmaceuticals	No	US revenue share and plant inspections	A single regulatory action
FMCG	No	Volume growth, not revenue growth	Raw material costs and rural slowdown
Automobiles	Very	Monthly volumes and dealer inventory	Interest rates and the monsoon
Cement and metals	Very	Realisation and cost per tonne	Everyone expanding capacity at once
Utilities	No	Regulated return and payout	Policy change
Real estate	Very	Debt and pre sales	Leverage meeting a rate rise
Specialty chemicals	Mildly	Margin stability through a cycle	Being a commodity business in disguise
The rule to remember Compare a company against its own history and against its direct competitors. Never against a company in another sector. If you take one thing from this part, that is the one, and it will save you from the value trap that catches almost every new investor at least once.