Do it yourself: Why PSU stocks can be a good bet

With markets soaring to new highs every day, investors are sure to be scouting for good entry points to invest in stocks. The liquidity gush in the market has, however, pegged up valuations of most stocks.

PSU stocks seemed to have lagged in this dream run. While the price-to-earnings (P/E) ratio of BSE 500 index has surged by over 44 per cent since 2018, the P/E of BSE PSU index declined by 61 per cent over the same period.

The drop in valuations is, however, not commensurate with earnings. Since 2018 the earnings per share (EPS) of the BSE PSU index remained flat at ₹614, while the EPS of the BSE 500 index fell by 2 per cent to ₹640.

The drop in valuations of PSU stocks may likely provide some opportunity for investors to cherry pick some good long-term bets from this space.

Dividend play

Shareholders who wish to cash in on a company’s earnings on a timely basis may prefer stocks that pay steady dividends. Generally, more mature businesses that do not require funds to be re-invested opt to reward shareholders in the form of dividends.

PSUs make the cut on such predictable dividend payers, given the extant CPSE Capital Restructuring Guidelines. These guidelines mandate all Central public sector enterprises to pay a minimum annual dividend of 30 per cent of profit after tax, or 5 per cent of the net-worth, whichever is higher, subject to other conditions.

That said, politics is always at play in PSU companies and any policy change can significantly impact dividend policies.

The criteria

Using the Capitaline database, we have shortlisted companies from the PSU space that have consistently been paying dividends for the last five years until March 2020.

As long-term investors would benefit from price appreciation in the stock more than plain dividend yield, we also considered filters that indicate healthy earnings. Hence, we only picked those PSU stocks that remained profitable in all of the last five years.

We further pruned the list by selecting only those companies that saw growth in their top-line in the last five years. The last criteria for our stock selection is current valuation (PE multiple).

Who made the cut

Power Grid Corporation of India consistently increased its dividend payouts in the last five years. The assured return model for a chunk of its business helped its revenues grow in the range of 6-24 per cent in the last five years. Despite being a dominant player in inter-State power transmission and being profitable throughout the last five years, the company now trades at a 29 per cent discount to its three year average PE.

Bharat Electronics, a defence PSU, also made the cut. With the Centre’s thrust on indigenising defence procurements, the company’s topline grew at a healthy rate of 7-20 per cent in the last five years. Though volatile, profits of the company have largely been positive over the last five years. Consequently, the company has also been paying constant dividends in the last five years.

The stock now trades at a PE multiple of 17 times, which is 9 per cent below its three-year average.

Cochin Shipyard, a company significantly engaged in the construction of vessels and repairs, has been consistently increasing its dividend payout in the last five years. Over the last five years, the company has reported healthy growth in both top line and bottom line. The stock is currently trading close to its three-year average PE of 10.4 times.

Hindustan Aeronautics, the sole manufacturer of defence aircraft and helicopters, also made the cut. The company has been paying dividends in the range of 27 to 42 per cent of its yearly profits over the last five years. While its revenues grew by a modest 3-8 per cent over the last five years, the company remained profitable in all of the five preceding years. The company has been trading at an average PE of 11 times since its listing in 2018. Its current valuations also hover around the same range-- at 11.5 times.

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