This Article was originally published in The Global Analyst
As they say, what is in a name, the same applies to stock price. Recently the tyre behemoth MRF crossed a coveted milestone of crossing Rs.1 lakh in share price and catapulted the stock to frenzy discussions on Twitter and other handles heralding it as a milestone! Is it really a milestone?
Very high priced stocks are a global phenomenon as well though rarely. Warren Buffet’s Berkshire Hathaway is a good example that quotes at over $500,000!
This is not to take away the greatness of MRF, which is a $3 billion company with a long history. The company was founded in 1946, went public in 1961, debuting at just Rs.11. It touched Rs.5, 000 landmark by 2007, Rs10, 000 landmark by 2012, Rs.25, 000 landmark by 2014, Rs.50, 000 landmark by 2016, Rs.75, 000 landmark by 2018 and finally the Rs.1, 00,000 landmark in 2023.
It is one of the few home grown successes that initially collaborated with a foreign tyre company and later crafted its own way to glory. After all how many companies in India can count to be in the league of Rs.1 lakh share price. Not any in fact. Not even above Rs.50, 000. If you lower the bar to say Rs.10, 000 it still yields only 19 companies. In fact it sort of swells at Rs.100 and below. We can count nearly 1,800 companies with share price of Rs.100 or more. Hence, the news media frenzy for a Rs.1 lakh share.
A stock’s attractiveness is always through the lens of shareholder wealth creation especially when benchmarked with the peers or broader index. While MRF’s share price is by far the largest not only among its peers but also among all the companies listed in NSE, our focus should be on how much wealth shareholders made over the last few years. In that sense, MRF has been doing very well during the last one year clocking a return of 26% but when we look at the five year annualized performance, it pales at 4.8% far lower than the median of all tyre companies at 8% and definitely far lower than say Balkrishna Industries (16%) or JK Tyres (15%). MRF’s market cap is second in the peer group after Balkrishna Industries and is the most expensive when looked at from a P/E ratio or dividend yield or Return on Assets. All tyre companies are dividend plays and relies less on debt.
As we can see from the risk/return plot, MRF is positioned inferiorly compared to Nifty Auto sector or Nifty 50.
So, then what really shapes a share price
Of course, any share price shaping in the long-term has to be attributed only to the fundamental performance of a company. Since 1995, MRF has delivered an annualized return of 14% and this explains its share price ascendancy.
However, there are other things also at play especially corporate actions. Companies announce various corporate actions from time to time that affects its total number of outstanding shares. They mainly include bonus, rights, and conversions of various types including preference shares, bonds and warrants. All these corporate actions tends to increase the outstanding shares and thereby reducing the earnings per share and therefore the share price. In addition, other prominent corporate actions include dividends; buy back, split and mergers/demergers. Among all of these, the most powerful is the stock split mainly intended to reduce the share price and make it affordable to investors. A quick comparison of corporate actions among tyre companies can reveal that MRF stayed away from all forms of corporate actions except dividends. This kept its outstanding shares almost at the same level year after year.
The flip side of keeping the outstanding shares constant and let the share price climb is that it results in abysmally low volume and value traded. Average 1 year volume traded for MRF at 10,810 compares so poorly with say Apollo Tyres at 33, 13,060! Such low volumes can hamper price discovery and opens up many other discussions including the incentive to keep it that way. Promoters that do not want shareholder activity for various reasons will keep it tight knit like MRF. Promoters (28%), Public but inactive (15%), Employees (8.5%) and Non-promoter entities (23%) together account for nearly 75% of total outstanding shares leaving very little for public market trading. By keeping the share price high, only serious investors will get attracted to the stock who will invest based on the long-term potential as per their assessment. Serious investors will also likely remain invested for long thereby reducing the share price volatility. Lay investors with small capital (less than Rs.100, 000) will not show any interest in the stock.
Another incentive to keep the price at the glorious level is to establish “vintage” value and stand out from the crowd. In addition, if one has to use share price as a proxy for growth over several decades (like Gold), companies like MRF makes it easier. However, this story holds well only when you have a one-stock portfolio where you tie up all your wealth, hardly the case for many investors and goes against the grain of diversification.
Where do we go from here?
If we assume MRF to keep following its strategy of not disturbing its outstanding shares through corporate actions, then it is a plausible assumption that the share price can reach very high levels over the next few years. A range of possibilities have been provided from a conservative Rs.127,628 over the next five years at 5% annualized growth of its share price to an astonishing Rs.38,33,760 over the next 20 years at 20% annual rise in its price. The truth will lie somewhere in the middle. At every step of the way (Rs.5, 00,000 or Rs.10, 00,000) the media frenzy is bound to happen and we can happily partake in the celebrations. However, your decision to invest in MRF should be purely based on its outlook from a fundamental analysis point of view and not on the level of its share price.
Happy Investing!