Market data Current price Rs 1,219 Market cap Rs 228,833 m Face value 10.0 CY12 DPS (Rs) 30.0 BSE Code 500410 NSE symbol ACC No. of shares 187.7 m Free float 49.7 52 week H/L 1,515/1,105
Rs 100 invested is now worth Stock price Performance (as on 31st May'13) ACC Index* Over 1 Yr 6.9% 21.8% Over 3 Yrs 14.3% 5.3% Over 5 Yrs 14.3% 4.2% Change in stock price over 1 year are compounded annual averages * BSE Sensex
Report prepared by Equitymaster Agora Research Private Limited. www.equitymaster.com info@equitymaster.com ACC Ltd. Buy Target price: Rs 1,778 Investment Rationale A healthy cash-generating machine: Competition is one of the most important elements of a market economy. It determines the profitability of the various market participants in an industry. The more intense the competition, the weaker the bargaining power that the firms have. Lets consider the Indian cement industry in this context. Despite there being over 100 cement manufacturers in the country, the top 11-12 players control about 70% of the total cement market. In fact, the top four players alone account for over 40% of the total industry capacity. The large cement players enjoy some inherent advantages over their smaller peers. This makes them valuable entities in a commodity business such as cement. ACC Ltd, our StockSelect for this week is one of them. It is the oldest and the third largest cement player in India with a total cement manufacturing capacity of 30.6 m tonnes per annum (mtpa) (8.5% of the total industry capacity). Given its size and its long operating history, ACC has not only weathered myriads of business cycles but has also managed to emerge stronger and leaner over time. With Swiss-major Holcims parentage and Ambuja Cements association, ACC has tremendously improved its financial health over the last one decade. Once a heavily leveraged company, ACC is currently almost debt-free. One of ACCs key strengths is the way it manages its working capital. ACCs past financials reveal that the company has consistently operated with negative working capital. In other words, the companys short term liabilities have been greater than the short term assets. A typical finance textbook will tell you that negative working capital means the company may have trouble paying up its dues. But in ACCs case, it reflects its bargaining power. Lower debtors mean that the company does not offer much credit to its buyers. On the other hand, higher current liabilities indicate that it is able to get better terms from its creditors. The companys robust financial health is also reflected in its cash flow generation. ACC has consistently generated positive free cash flows (operating cash flow less capex) over the last entire decade. What more, free cash flows as a percentage of net profits have been consistently increasing. The ultimate testimony of its healthy financials is the fact that the company has paid, on an average, over 40% of its net profits as dividends to shareholders over the last five years. Source: Equitymaster Research, Ace Equity
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ACC Ltd. Page 2 of 10 0.0 0.5 1.0 1.5 FY03 FY05 CY06 CY08 CY10 CY12 D e b t
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R a t i o * From high debt to nearly debt-free With all these positives, ACC certainly appears to be a commodity player with an edge. But despite all the strengths, the company has to make do with the limitations of the cement industry. While cement is an indispensable construction material, it is a low-value bulk commodity which results in high transportation costs. As such, the market is largely restricted to the domestic economy. Secondly, the growth of cement demand closely follows the overall economic growth of the economy, particularly the housing construction and infrastructure sector. And last but not the least, the profitability of the sector is significantly volatile. The reason being that cement prices tend to be driven by demand- supply dynamics. This makes forecasting future earnings very difficult. This is the reason why we value cement companies at replacement cost. Based on our valuation band for ACC, the CY15 target price is Rs 1,778 per share. From current levels, we expect the stock to deliver a point-to-point return of 46% and compounded annual returns of nearly 16% over the next 3 years. As such, we recommend investors to Buy the stock from a 3 year perspective. We would like to gently remind you that your allocation to equities should be decided upon after keeping aside some safe cash. Also, within your overall exposure to equities please ensure that you broadly follow our suggested asset allocation (explained at the end of the report) and that no single stock comprises more than 5% of your portfolio. The Holcim-Ambuja touch: Between 1999 and 2000, Ambuja Cements took over the shareholding of the Tata Group and became the single largest shareholder of ACC. Later in 2005, Swiss-major Holcim announced it plans to acquire a majority stake in Ambuja. Today, Holcim, through its holding companies, holds 50.3% stake in ACC and 50.6% stake in Ambuja Cements. This makes Holcim the biggest cement group in India. Together, ACC and Ambuja Cements command nearly 18% domestic market share. ACC benefits significantly from such strong parentage in terms of growth, vision and global expertise. Long term demand to remain robust: Though there are some very legitimate concerns in the macroeconomic environment, the long term prospects of the Indian economy remain robust. Given the huge pent up demand for housing and the government's focus on increased spending on infrastructure which are the key demand drivers for cement, the long term prospects for the cement industry are positive. Further, the fact that per capita consumption of cement in India (approximately 200 kg per capital) is way below both developing as well as developed economies, the scope for growth over the long term is enormous. Hence, we believe that a company like ACC, which is one of the leading cement producers in the country, is well poised to capitalise on these opportunities. Almost debt-free: Since the effects of business cycles are more prominent in commodity sectors like cement, it is very important that companies from the sector maintain low leverage (debt to equity). Lower debt burden enables them to come out with minimum damage from a cyclical downturn. ACC has one of the healthiest balance sheets. The company has almost negligible debt. The Rs 33 bn capex plan to augment capacity by 5 mtpa over the next three years will be completely funded through internal accruals.
*Based on Standalone Balance Sheet Source: Equitymaster Research, Company Annual Reports
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ACC Ltd. Page 3 of 10 Comparative Valuation Parameter (Calendar Year 2012) ACC^ Ambuja Cements* No. of shares outstanding# (m) 187.7 1,542.5 Current market price** (Rs) 1,219 183 Market Capitalisation (Rs m) 228,833 282,658 Capacity (m tonnes) 30.6 28.0 Capacity utilisation (%) 78.8 77.3 Return on avg net worth (%) 17.9 17.9 Cement sales (m tonnes) 24.1 21.4 Net Sales (Rs m) 111,305 973,954 Operating profit/ tonne (Rs) 816 1,128 EV/tonne (Rs) 6,450 8,753 EPS 56.5 8.4
Investment Concerns Cement's subdued medium term outlook: Indias GDP growth has slowed down in the last couple of years owing to a slew of domestic as well as global concerns. Cement demand closely follows the overall economic growth, particularly the housing construction and infrastructure sector. Given that the construction and infrastructure sector are witnessing a slowdown, cement demand may continue to remain subdued over the short to medium term. During the Jan-March 2013 quarter, cement sales remained subdued. ACC reported a 4.5% drop in sales volumes on a year-on-year basis. It is worth noting that this is usually the peak demand quarter. The sluggishness in demand underlines the slowdown in the sector and the overall economy. In April 2013, the wholesale price inflation (WPI) eased to about 4.9%. Easing inflation along with an expectation of a normal monsoon has raised the possibility of further interest rates cuts by the RBI. If the inflation rate sustains at a moderate level and interest rates are lowered, it would revive demand and investments in the economy. This would augur very well for the cement sector. Overcapacity remains a drag: Riding high on the Indian growth story, the cement producers lined up massive capacities either through the brownfield or greenfield expansion route over the last few years. The aggregate industry cement capacity now stands at about 330 m tonnes. The oversupply scenario is expected to persist for a couple of years until demand picks up and exceeds the pace of capacity addition. However, the rate of capacity addition has slowed down in recent times. High operating costs impact margins: The cement manufacturing process is energy intensive. As such, power and fuel costs comprise over 25% of the companys operating costs. While ACCs captive power plants manage to fulfill over 70% of the companys power requirements, rising fuel costs tend to dent at the companys margins. Another major cost head is transportation cost (about 25% of operating costs) owing to the fact that cement is a low value high bulk commodity. Rising diesel prices, rail freight costs and rupee depreciation could further aggravate this cost head. Between CY06 and CY10, the company enjoyed an average operating profit margin of 26.5%. However, in the last couple of years the same has fallen to about 18%. Background ACC is one of the oldest cement companies in India. It was born out a historic merger of 10 cement companies in 1936. Until some time back when the Aditya Birla Group consolidated its cement assets under UltraTech Cement, ACC was the largest cement manufacturer in India.
In the latter part of the 20th century, ACC diversified into some other businesses and made some wasteful acquisitions. These businesses became a drag on the company's balance sheet. Between 1999 and 2000, the Tata Group sold off its entire 14.45% shareholding in ACC to subsidiary companies of Ambuja Cements. Effectively, the Ambuja Group became the single largest shareholder of ACC and took over management control. From the time Ambuja took over management control of ACC, it revamped the latter's business strategy. ACC decided to exit its non- cement businesses and focus on its main business. Today Swiss-based Holcim, a leading global supplier of cement and aggregates holds over 50% stake in both ACC and Ambuja Cements, making the two firms associate companies.
ACC's total capacity for the year ended CY12 stood at 30.6 million tonnes (~9% of total domestic ^Standalone figures; *Consolidated figures; #As of March 2013; **Closing price as of May 31, 2013
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ACC Ltd. Page 4 of 10 capacity), making it the third largest player in the Indian cement industry. With 17 cement manufacturing units, over 40 reasy mix concrete plants and a strong distribution network of 9,000 dealers, ACC is one of the few cement companies to have a pan-India presence.
ACC plans to incur a capex of Rs 33 bn over the next three years to add 5 m tonnes of cement capacity by 2015. The company plans to fund the entire investment through internal accruals. Industry Prospects The Indian cement industry is the second largest market after China. From around 29 mtpa capacity in FY82, the Indian cement sector has grown leaps and bounds and the industry capacity is now around 330 mtpa. The industry is highly consolidated with the top three groups, Aditya Birla Group (UltraTech Cement), Holcim Group (promoters of ACC and Ambuja Cements) and Jaiprakash Associates, alone controlling over 40% of the total industry capacity. Over the last decade, the cement industry has grown at a tremendous pace as the Indian economy witnessed a boom in the housing and construction sector. Cement demand is largely influenced by the housing sector which account for over 60% share. The Indian cement industry has been witnessing some sluggishness over the last couple of years on account of slowing demand, overcapacity and rising operating costs. However, the fact that there is a huge shortfall of dwelling units in the country suggests that demand for cement from the housing sector will increase at a rapid pace over the next five to ten years. The infrastructure related cement demand is also expected to increase in the 12th five year plan on account of huge planned expenditure by the government. Key management personnel Mr Kuldip Kaura, Chief Executive Officer & Managing Director, holds a degree in mechanical engineering from Birla Institute of Technology & Science (BITS), Pilani. He has also attended executive education programmes at London Business School and Swedish Institute of Management, Stockholm. He has experience in leading businesses in different sectors such as power, natural resources, metals, mining etc. In the past, he has served as Managing Director of ABB India Limited and also as Chief Executive Officer of Vedanta Resources Plc.
Mr N S Sekhsaria, Chairman, is the founder promoter of Ambuja Cements. He was invited to join the ACC board in 1999. He assumed position of Chairman of the Board in 2006. Mr Sekhsaria is one of the most admired industrialists in the country. He has set solid benchmarks in manufacturing, management, marketing efficiency and corporate social responsibility in the Indian cement industry. He holds a Bachelor's Degree with honours and distinction in Chemical Engineering from the University of Bombay.
Mr Paul Hugentobler, Deputy Chairman, holds a degree in civil engineering from the ETH, Zurich, and a degree in economic science from the University of St. Gallen. He joined Holcim Group Support Ltd in 1980 as Project Manager. He served as a member of the Executive Committee of Holcim since January 2002. He also serves as Vice Chairman of Ambuja Cements.
Risk Analysis Please see Risk Matrix table on page 7
Sector: In the last decade, cement demand in the country has grown at about 1.2 times the GDP growth. This was on the back of the housing and construction boom in the Indian economy. However, the Indian cement industry has been witnessing some sluggishness over the last couple of years on account of slowing demand, excess cement capacity and rising operating costs. The slowdown in the economy and high operating costs continue to pose a challenge. However, the long term prospects of the industry remain positive given the low per capacity consumption of cement.
While cement demand is likely to remain subdued in the medium term, we expect demand to grow at around 7-8% per annum in the long term. Taking both these factors into account, we assign a medium-risk rating to the stock on this parameter.
Company standing: ACC, now a Holcim Group Company is one of the leading domestic cement players. The company is led by a management team that has some note worthy achievements to its credit. The company has been successful in its measures to improve efficiency and has also exited some loss-making non-cement businesses. Post the Holcim acquisition, ACC has benefited from the MNC's expertise. Given the presence of stalwarts on the companys board, the company is expected to further improve efficiency and consistency in its performance. We thus, assign a strong rating to the company on this parameter.
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ACC Ltd. Page 5 of 10 Sales: ACC generated average standalone revenues of Rs 87.2 bn over the last five years. In CY12, the company reported sales of Rs 111.3 bn. Based on the company's size of sales we assign a medium-risk rating of 6 to the stock on this parameter.
Operating margin: Operating margin is a measurement of what proportion of a company's revenue is left over after paying for variable costs of production such as raw materials, wages, and sales and marketing costs. A healthy operating margin is required for a company to be able to pay for its fixed costs, such as interest on debt. The higher the margin, the better it is for the company as it indicates its operating efficiency. While ACCs average operating margins over the last five years have averaged around 22%, the margins dropped down to about 18% in CY11 and CY12. We thus assign a rating of 5 on this parameter.
Long term EPS growth: Owing to the drop in profit margins in recent couple of years, the company's EPS growth over the last five years has been in negative territory. We expect the earnings (normalized) to grow by 14% annually over the next three years. We have assigned a high-risk rating of 2 to the stock on this parameter.
Return on capital invested (ROIC): ROIC is an important tool to assess a company's potential to be a quality investment by determining how well the management is able to allocate capital into its operations for future growth. A ROIC of above 15% is considered decent for companies that are in an expansionary phase. ACCs average ROIC over the last five years has been about 22.8%. As such, we have assigned rating of 5 to the stock on this parameter.
Dividend payout: A stable dividend history inspires confidence in the management's intentions of rewarding shareholders. The average payout ratio of ACC has been 40.3% over the past five years. Thus, the rating assigned on this parameter is 7.
Promoter holding: A larger share of promoter holding indicates the confidence of the people who run it. We believe that a greater than 40% promoter holding indicates safety for retail investors. At the end of the March 2013, the promoter holding in the company stood at 50.3%. We have assigned a low- risk rating of 7 to the stock.
FII holding: We believe that FII holding of greater than 25% can lead to high volatility in the stock price. The FII holding in the company at the end of March 2013 stood at 20%. Therefore, the rating assigned is 4.
Liquidity: The past 52-weeks average daily volume of the stock on the BSE and NSE combined was 351,140 shares, which indicates that the stock has adequate liquidity. Thus, the rating assigned is 7.
Current ratio: ACCs average current ratio during the last five years has been 0.8 times. In fact, the company has consistently had negative working capital. In our view, this reflects that the company has good bargaining power with its vendors and customers. Hence, we assign a low-risk rating of 7.
Debt to equity ratio: A highly leveraged business is the first to get hit during times of economic downturn, as companies have to consistently pay interest costs, despite lower profitability. We believe that a debt to equity ratio of greater than 1 is a high- risk proposition. ACCs average debt to equity ratio over the last five years has been about 0.1. In fact, currently the company has almost negligible debt on its books. Considering these factors we have assigned a low-risk rating of 9 to the stock.
Interest coverage ratio (PBIT/Interest payment): It is used to determine how comfortably a company is placed in terms of payment of interest on outstanding debt. The interest coverage ratio is calculated by dividing a company's earnings before interest and taxes (EBIT) by its interest expense for a given period. The lower the ratio, the greater are the risks. ACCs average interest coverage ratio has been around 25.7 times over the past five years. The rating assigned on this parameter is, thus, 9.
EV/tonne ratio: Commodity stocks like cement are valued at their replacement cost, which is the cost of setting up a cement plant. The EV/tonne (enterprise value per tonne) ratio is a measure that indicates set up or replacement cost of the asset in place. Given its strong balance sheet and dynamic management, we have valued ACC at Rs 7,814 per tonne. Based on our CY15 estimates, the stock is trading at a valuation of Rs 4,864 per tonne. As such, we have assigned a medium rating of 6 to the stock on this parameter.
Considering the above analysis, the total ranking assigned to the company is 74, which on a weighted basis, stands at 6.1. This makes the stock a medium risk investment from a long-term perspective.
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ACC Ltd. Page 6 of 10 Valuation rationale Commodity stocks like cement are valued at their replacement cost, which is the cost of setting up a cement plant. The EV/tonne (enterprise value per tonne) ratio is a measure that indicates set up or replacement cost of the asset in place. The replacement cost of cement is about US$ 130 per tonne. Given its strong balance sheet and dynamic management, we have assigned an upper EV/tonne band of Rs 7,814 per tonne from CY15 perspective.
At the current price of Rs 1,219, the stock is trading at an EV/tonne of about Rs 4,864 based on our CY15 estimates. That leaves us with point to point upside 46% (about 16% on a CAGR basis). As such, we recommend investors to Buy the stock from a 3 year perspective.
We would like to gently remind you that your allocation to equities should be decided upon after keeping aside some safe cash. Also, within your overall exposure to equities please ensure that you broadly follow our suggested asset allocation (explained at the end of the report) and that no single stock comprises more than 5% of your portfolio. Valuations Standalone (Rs m) CY11 CY12 CY13E CY14E CY15E Net sales (Rs m) 94,296 111,305 115,290 133,807 152,520 Net profit (Rs m) 13,253 10,612 14,157 16,530 19,394 EPS (Rs) 70.6 56.5 75.4 88.0 103.3 Price to earnings (x) 17.3 21.6 16.2 13.8 11.8 Price to sales (x) 2.4 2.1 2.0 1.7 1.5 Price to book value (x) 3.2 3.1 2.8 2.5 2.2
Net fixed assets 18,290 22,735 27,152 29,476 Current assets 11,642 5,944 6,017 8,147 Investments 63,248 63,248 63,248 63,248 Total assets 93,181 91,926 96,417 100,870
Current liabilities 11,351 5,615 5,891 6,206 Net worth 71,454 75,934 81,150 87,288 Total debt 10,376 10,376 9,376 7,376 Total liabilities 93,181 91,926 96,417 100,870 Rating accorded Rating Weightage* (A) Rating# (B) Weighted (A*B) Sector risk - Medium NA Company's standing - Strong NA Performance parameters Sales 5.0% 6 0.3 Operating margins 5.0% 5 0.3 EPS growth 10.0% 2 0.2 ROIC 10.0% 5 0.5 Technical parameters Dividend payout 5.0% 7 0.4 Promoter holding 10.0% 7 0.7 FII holding 5.0% 4 0.2 Liquidity 10.0% 7 0.7 Safety parameters Current ratio 5.0% 7 0.4 Debt to equity ratio 10.0% 9 0.9 Interest coverage ratio 5.0% 9 0.5 EV/ tonne 20.0% 6 1.2 Final Rating** 74 6.1 # Rating has been assigned on the basis of the company's performance over the past five years and expected performance over the next 3 to 5 years. Rating is on a scale of 1 to 10, with 1 indicating highest risk and 10 indicating lowest risk. * 'Weightage' indicates the relative importance in percentage terms of the parameter. For instance, for an investor, given all the performance metrics, Return on Equity should be the foremost criteria for buying/not buying stocks. ** The final rating has been arrived at by multiplying the rating/points given on each parameter with the respective weightage
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ACC Ltd. Page 8 of 10 Financials at a glance Standalone (Rs m) CY11 CY12 CY13E CY14E CY15E Sales 94,296 111,305 115,290 133,807 152,520 Sales growth (%) 22.2% 18.0% 3.6% 16.1% 14.0% Operating profit 16,901 19,681 18,897 23,919 28,004 Operating profit margin (%) 17.9% 17.7% 16.4% 17.9% 18.4% Net profit 13,253 10,612 14,157 16,530 19,394 Net profit margin (%) 14.1% 9.5% 12.3% 12.4% 12.7% No of shares 187.7 187.7 187.7 187.7 187.7 EPS 70.6 56.5 75.4 88.0 103.3
Net fixed assets 65,732 61,752 67,160 71,992 76,234 Current assets 32,872 24,675 32,381 38,446 40,845 Current & non-current investments 16,250 25,536 27,536 29,536 41,536 Long term loans & advances 4,479 5,642 5,660 6,676 7,549 Other non-current assets 561 1,658 1,202 1,694 1,761 Total assets 119,893 119,262 133,939 148,343 167,924
Current liabilities 32,773 34,032 40,882 45,546 52,513 Net worth 71,923 73,828 81,388 90,221 101,919 Total debt 5,061 850 850 850 850 Deferred tax liabilities 5,184 5,169 5,169 5,169 5,169 Other long term liabilities & provisions 4,953 5,383 5,649 6,557 7,473 Total liabilities 119,893 119,262 133,939 148,343 167,924
Where StockSelect Fits In... We recommend that investors should decide their exposure to equities, which is only one part of the overall investment portfolio, after they have kept aside some cash. While we are no experts in wealth management, we believe keeping aside some safe cash is absolutely necessary. Not only will this cash take care of your liquidity needs, but it will also come handy during market declines. Particularly when there will be opportunities to pick up fundamentally strong stocks at cheap valuations. For some of you this cash component could be 6 months of usual monthly expenditure, for others 36 months. You need to decide what amount works for you, and then set it aside. Maybe in a FD, or in a pure liquid fund. Or maybe just cash at home! Having decided what portion of your overall portfolio will be in equities, it is time to decide the allocation of stocks within your equity portfolio.
As your experience will tell you, stock markets tend to be very volatile. And putting too much money in a single stock or sector can be very risky. That is why we advise our subscribers to have a well-diversified equity portfolio comprising the appropriate proportion of small cap, mid cap and large cap/ blue-chip stocks. Based on their relative riskiness, we have created an asset allocation pyramid that can help you in deciding how much money you should invest in a stock. However, it must be noted that the allocation levels could differ from person to person depending on the risk appetite.
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ACC Ltd. Page 9 of 10
In our view, large cap/ blue-chip stocks are the safest of the lot. Because of their large size, they may not grow as fast as small caps or mid caps. But they are relatively more stable and resilient to negative macroeconomic developments. This keeps them in good stead over the long term and makes them reliable wealth creators. As such, we have assigned them a significantly higher weightage. According to us, large cap/ blue chip stocks should comprise at least 60% of your total equity portfolio. However, a single large cap/ blue-chip should not form more than 5-6% of your total portfolio. This is to make sure that even if a certain blue chip stock does not deliver as per expectations, the overall portfolio is not affected to a great extent.
What does 'Closed Position' mean? StockSelect recommendations are meant to meet the target prices within a time frame of three years. So when the stock meets target price or completes the time frame we 'close the recommendation'. However, since we keep reviewing our assumptions and estimates for the stock even in the interim, the view or target price on the stock may warrant a change. This could be a revision upwards or downwards. In such cases, if the previous recommendation on the stock is no longer valid we close that recommendation. So we essentially close recommendations either by giving a Sell view or putting out a changed view.
How to read the returns calculations? For positions that are not closed returns are calculated from date of recommendation till date. For closed positions, there can be two types of calculations. Assuming we initially gave a Buy on a stock with no subsequent recommendations on the same stock. In that case the calculation is fairly simple. The returns shown in this case is simply the change in stock price from the date of recommendation till the date on which the position was closed.
Now let us take a case where we initiated with a Buy (1st position) and subsequently came with another recommendation (2nd position) on the same stock. Let us assume that the subsequent recommendation was also a buy.
In such cases, the return calculation depends on whether the 1st position is closed or not. If the first position is closed before we reiterate buy then the return on the first position will be calculated as shown previously.
However, if 1st position was not closed before we reiterated buy, then the return calculation is from the earlier buy recommendation till the date on which the position was closed. Basically where we have reiterated view on a stock we try to show cumulative returns. The same logic applies with Hold recommendations as well. Now let us look at Sell recommendations. There can be two situations here. If there is no recommendation subsequent to the Sell recommendation we show maximum drop in stock price from date of sell recommendation till date. If the Sell recommendation is followed up by another recommendation, we show maximum drop in stock price between the two recommendation dates. Basically we have tried to cover all hypothetical instances in this note that may help you better understand the return calculations and closed positions of our recommendations. If you have any query pertaining to it please do write in to us for further clarifications.
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ACC Ltd. Page 10 of 10
Equitymaster Agora Research Private Limited. All rights reserved. Disclosure: Equitymaster Agora Research Private Limited (hereinafter referred as 'Equitymaster') is an independent equity research Company. The Author does not hold any share in the company/ies discussed in this document. Equitymaster may hold shares in the company/ies discussed in this document under any of its other services.
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