MCX : MULTI COMMODITY EXCHANGE - India's New Stock Exchange !!!

Q 2 RESULTS ON 2nd November 2012 !!!

Scrip Code: 534091 / MCX

CMP:  Rs. 1384.20; Buy at Rs. 1375 - 1385 levels.
Medium to Long term Target – Rs. 1440; STOP LOSS – Rs. 1274.00; Market Cap: Rs. 7,059.19 Cr; 52 Week High/Low: Rs. 1446.95 / Rs. 838.00

Total Shares: 5,09,98,369 shares; Promoters : 1,32,59,575 shares –26.00 %; Total Public holding : 3,77,38,794 shares – 74.00 %; Book Value: Rs. 195.52; Face Value: Rs. 10.00; EPS: Rs. 56.12; Div: 240 % ; P/E: 28.02 times; Ind P/E: 26.67; EV/EBITDA: 14.02.

Total Debt: Rs. ZERO Cr; Enterprise Value: Rs. 7,059.19 Cr.

Multi Commodity Exchange Of India Ltd: MCX was incorporated as a private limited company on April 19, 2002 in Mumbai, India. Multi Commodity Exchange of India Ltd (MCX) is a state-of-the-art electronic commodity futures exchange. The demutualised Exchange has permanent recognition from the Government of India to facilitate online trading, and clearing and settlement operation for commodity futures across the country.  MCX holds a market share of over 85 % as on March 31, 2012 of the Indian commodity futures market. The Exchange has more than 2,710 registered members operating through over 3,46,000 including CTCL trading terminals spread over 1,577 cities and towns across India. MCX was the third largest commodity futures exchange in the world, in terms of the number of contracts traded in CY2011. The Exchange is the world's largest exchange in Silver and Gold, second largest in Natural Gas and the third largest in Crude Oil with respect to the number of futures contract traded. MCX was the first exchange in India to initiate evening sessions to synchronise with the trading hours of global exchanges in London, New York and other major international markets. It was the first exchange in India to offer futures trading in steel, crude oil, and almond. Among international alliances, MCX have formed strategic alliances with a number of exchanges such as the London Metal Exchange, the New York Mercantile Exchange, the LIFFE Administration and Management (under renewal), the Baltic Exchange Limited, Shanghai Futures Exchange and Taiwan Futures Exchange. MCX holds 5 % in Dubai Gold and Commodity Exchange and the book value of this investment was Rs. 2.185 Cr as of December 31, 2011; 100 % in MCX Clearing Corporation Ltd; 5 % in MCX SX; 26 % in MCX-SX Clearing Corporation Ltd; 51 % in SME Exchange of India Ltd with initial investment of Rs. 5,10,000. MCXIL is compared with Financial Technologies (India) Ltd in India, Ichiyoshi Securities Co Ltd of Japan, Osaka Securities Exchange also from Japan, CME group, Intercontinental Exchange Inc, Nasdaq OMX Group/THE, CBOE Holdings Inc, London Stock Exchange Group, TMX Group Inc, Deutsche Boerse AG, Bolsas Y Mercados Espanoles, ASX Ltd, Singapore Exchange Ltd, Hong Kong Exchange & Clearing House Ltd, Bursa Malaysia BHD

Investment Rationale:

Multi Commodity Exchange of India (MCX) is a state-of-the-art electronic commodity futures exchange, with near monopolistic market share of 86 % in FY12. MCX enjoys a competitive edge, given that its trading platform is supplied by its promoter, Financial Technologies India (FTECH), which is a leading developer of exchange related software and technology. Technology for the exchange industry is difficult to replicate, and this provides the company with a competitive advantage. Exchanges require constant technology upgrades and support, necessitated by regulatory regime and market forces. MCX is able to obtain speedy and efficient technology solutions from FTECH. MCX’s current technology infrastructure is sufficient to handle daily trading volumes of up to 10,000,000 in a day. So far, it has handled a high of 1,867,612 trades in a day. MCX has 2,170 members and 346,000+ terminals including computer-to computer links (CTCLs) spread over 1,577 cities and towns across India as at the end of FY12. The number of terminals has increased from 117,000 in FY10. Healthy terminal additions partially offsets the risk of lower volumes traded per member, with gradual ramp-up in volumes expected from new additions. Being the largest commodity exchange in India, with near-monopolistic market share, MCX is the key source of data on commodity trends. This gives MCX the opportunity to benefit from new non transaction revenue sources like market data product and information offerings.  This not only provides scalability to the business model, but also offers potential for growth with limited incremental costs. Growth in commodity markets facilitate demand for better trading and analytical tools, risk management tool, market data products and price information offerings which could be new revenue streams. Globally, exchanges derive 10% - 15 % of their revenues from such services. Indian exchanges do not match that number, especially in equities, given weak acceptance of algorithmic trades. MCX is better placed to garner revenues from such sources, given its speedier execution in such trades, which already constitute significant proportion of the company’s volumes. To facilitate the same, MCX has entered into agreements with financial information service agencies to provide real time data-feed on trading prices, trading volume and other information on the Exchange and on the spot market. The company currently has such arrangements with the following entities: Bloomberg Finance L.P.; NewsWire 18 Private Limited; IQN Data Solutions Private Limited; Reuters India Private Limited; Interactive Data (Europe) Limited and TickerPlant Limited. It is expected that it will sustain its market leadership which is steamed up from its technological edge and future readiness. MCX's volumes have grown at a CAGR of 47 % over FY07-FY12. Future potential remains exciting given that government on 4th October cleared the new FCRA Bill which seeks to provide complete autonomy to the commodities FMC and introduce new categories of products, with MCX having 20 lakhs client accounts as compared with 1.9 Cr – 2 CR Demat accounts, the industry has only scratched the surface with respect to potential volumes.

Outlook and Valuation:

MCX-SX, promoted by MCX and FTECH, was recently cleared to become a full-fledged stock exchange. Like BSE and NSE, it can now start trading in equities, equity derivatives and other asset classes. Currently, MCX-SX only offers trading in currency futures contracts, but soon MCX-SX intends to have a dedicated platform for small business, and hopes SME's should aspire to raise upto US$ 20 million annually through such platforms. There are at least 1% of the 30 million SME's which have strong balance sheets to get AAA rating and can look at raising money from the primary market, many SME's depend on informal system for their financing needs, paying upto 2% per month for debt & in spite of a such a high cost of servicing debt, the business continues to remain competitive & wonder quantum of benefits which will accrue if they shift to formal way of finance and access the Equity Markets. Private equity, Venture Capital and Angel Funds will invest in such companies only if they are confident of an exit route which can be made easy by the formally platforms like exchanges..

MCX-SX announced its flagship index of MCX Stock Exchange (MCX-SX) known as ‘SX-40’ which will be a free float based index of large market cap and liquid stocks representing most important sectors. MCX-SX will collaborate its indices with the initiatives support from the sources like Indian Statistical Institute – India’s premier research institute, FTSE, London and FTKMC in creating various domestic and global indices. This partnership will help MCX-SX to create new indices that will enable domestic and global investor to track, analyse and invest in India’s dynamic financial markets. The value from MCX-SX is more definite than merely option value, considering this FY14 is expected to be first full year with operations in currency and equities. MCX-SX Equity Stock Exchange is in competition with BSE & NSE. The Bombay stock exchange had a legacy of 132 years in India, a reliable brand, with the letters almost becoming synonymous with investing in India. However, all this was till NSE came onto the scene in 1992. Being a relatively new entity, NSE was nimbler and more receptive to innovation. While it was difficult for NSE to carve a niche initially, but quickly realizing the importance of IT and innovative products to meet the growing sophistication of the financial markets, NSE raced ahead to rule market share charts. However the share of it has continued to improve even after the shift of balance in power is reflected in the turnover metrics on the two exchanges since FY01. MCX-SX, with its parentage of Financial Technologies, has access to technology and management having experience of operating exchanges successfully across the globe will successfully be able achieve its share of market pie. On valuation side - NSE received a valuation of Rs. 17,100 Cr in the last known stake sale which happened in December 2011, which discounted its FY12 revenues by 11x . This is at par with the Price/Sales ratio that Singapore enjoys. MCX-SX had revenues of Rs. 39.1 Cr in FY11. However, the levying of transaction charges in currency futures had commenced only from August 2011, implying that in FY12, the company had 7 months of additional income in the form of transactional charges in FY12. Going by the volumes and rate card, this translates into Rs. 41.5 Cr of revenues from transaction charges, and even if we assume that other sources of income reduced as member additions may have fallen, FY12 revenue would still be higher than Rs. 60 Cr. Given the low base and high growth, the valuation multiple could be higher, so discounting FY14E the revenue is estimated at Rs. 130 Cr by 11x, to arrive at a valuation at Rs. 1400 Cr. MCX's stake in MCX-SX (including warrants) amounts to Rs. 540 Cr. Within the next 18 months, the shareholding of MCX and FTECH in MCX-SX will have to be reduced to 2.5 % each, as the approval is subject to the condition that the combined voting rights of FTECH and MCX in MCX-SX will not exceed 5 %. Earlier, FTECH held 31 % and MCX held 38 % in MCX-SX. Then, to comply with SEBI guidelines for starting equity trading, they reduced their stake in MCX-SX to 5 % each. This was done through conversion of excess equity stake (beyond 10 %) to warrants. This led to 68.2 % reduction in capital from Rs. 170 Cr to Rs. 54 Cr. The warrants will be sold to banks and financial institutions. The value of MCX's standalone business comes at 20x FY14E, in-line with the average multiple to commodity exchanges in the emerging markets. There are enough reason for MCX to even trade at a premium given the scope to outgrow peer exchanges globally, given that the potential is still untapped in India, its higher growth will be augmented by even better earnings and improvement in return ratios (variable costs largely only in the form of transaction fees paid to parent), and its near-monopolistic market share, to which there is little threat, given MCX’s technology backbone and readiness to latch on to new opportunities and also the policy to maintain 50 % payout ratio is a key valuation positive. The valuation of MCX’s standalone business at 20x FY14E EPS of Rs. 66.5 – Rs. 1,330/sh; the valuation of the stake in MCX-SX (incl. warrants) comes at Rs. 4,500 Cr. Assuming a revenue base of Rs. 130 Cr in FY14, at 11x FY14 Sales, MCX-SX's valuation is Rs. 1400 Cr (much lesser than that implied in the last stake sale). Stake in MCX-SX (including warrants) contributes additional Rs. 110 per share to MCX. It is expected that MCX to have volumes growth of 15 % CAGR over FY12-15 and a PAT CAGR of 13% over this period. Also, the ROE should sustain its level in the high 20's.  In my view MCX could report FY14E EPS of Rs. 66.50/sh and for FY 15E of Rs. 76.50/sh. The stock could be bought for the target price of Rs. 1440 implies 23 % upside in earnings and recommend Accumulate on the stock.

KEY FINANCIALS	FY12	FY13E	FY14E	FY15E
SALES (Rs. Crs)	526.20	517.20	615.20	720.00
NET PROFIT (Rs. Crs)	286.20	282.40	339.40	407.10
EPS (Rs.)	56.10	55.40	66.50	79.80
PE (x)	20.90	21.20	17.60	14.70
P/BV (x)	6.00	5.30	4.60	4.00
EV/EBITDA (x)	14.30	14.70	11.50	9.00
ROE (%)	31.00	26.50	27.80	29.00
ROCE (%)	24.80	25.50	26.90	28.20

I would buy MCX INDIA LTD with a price target of Rs. 1440 for the 6 month target. As I always say, I am a long term believer in markets & I do respect the markets and will keep a strict stop loss of 8 % or Rs. 1274.00 on your every purchase.

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