This 'rooftop solar' penny stock is flying. Should we turn bullish?

It was not a recommendation but a suggestion to keep the stock on your watchlist.

We describe penny stock as one that is trading at a double-digit price irrespective of its market cap and liquidity.

Visaka, with its share price of ₹82 per share, perfectly fitted this description as it was indeed trading at a double-digit price. However, it is now a three-digit figure.

Visaka Industries has seen its share price rise by a whopping 100% in less than six months.

The credit for this goes to its recently inaugurated solar panel roofing segment. It is the first of its kind integrated solar roof and the company has secured a patent not just in India but also in the US and South Africa. The company has also commenced exports to Africa and the Middle East.

While the prospects of this division look promising indeed, its contribution to the overall revenues of Visaka Industries is still quite negligible. It is still a very small portion of the company's overall business.

Why then are investors going gung-ho about the stock you may wonder? Why has it doubled in the last six months despite the monetisation of its solar roof division being negligible so far?

Well, the stock price appreciation seems to be the consequence of Prime Minister Modi's big announcement of last month.

Immediately after the Ram Mandir consecration, Prime Minister Modi set the ball rolling on a new scheme to boost rooftop solar installations.

Here's him outlining the plan: "Today, on the auspicious occasion of the consecration of life in Ayodhya, my resolve has been further strengthened that the people of India should have their own solar roof top system on the roof of their houses.

The first decision I have taken after returning from Ayodhya is that our government will launch 'Pradhan Mantri Suryodaya Yojana' with the target of installing rooftop solar on 1 crore houses."

This is big. Just to put things in perspective, only about 7 lakh households are estimated to have rooftop solar installations currently. Modi's new scheme proposes to multiply this number by a whopping 15x.

No wonder, stocks like Visaka Industries, which have expertise in this area, have suddenly become the new favourites with the investors.

On 20 January 2024, the last trading day before Modi's big announcement, Visaka Industries was priced at ₹102 per share. In almost a one-way ride since then, the stock has climbed more than 60% and looks primed to go even higher. Those are big gains indeed.

However, let's wear the hat of a contrarian investor for a moment and think whether this euphoria is justified?

After all, we have no idea whether this deal will take off and to what extent. And even if it does, how much of the benefits will flow to companies like Visaka Industries? And hence, unless we have some numbers to rest our opinions upon, investing in the stock just because of the massive announcement is akin to indulging in speculation in my view.

Here's how we will evaluate the situation.

When we came out with the video, the stock was trading at a small discount to book value. The reason we felt that the risk-reward was in the investor's favour is that it wasn't valued egregiously based on its historical valuations. In fact, it was slightly undervalued.

Thus, even a small growth in earnings from the present levels would have seen the stock give above-average returns from a 1-2 year perspective.

We did not assign any valuation to the new business of solar rooftop as the company was just starting in this segment.

Cut to the present and the stock is trading at almost 2x its current book value. This means that the new business is being valued nearly as much as the current business. Investors are willing to value the solar rooftop business almost at par with the current business.

Is this justified?

With little understanding of how this new business will pan out, the answer would be 'no'. We would be more comfortable not assigning any value to it and evaluating the stock based on its current earnings power.

This may not be the case for those who have a good understanding of the solar rooftop business and hence, can quantify the business opportunity that stares Visaka Industries in the face.

For them, the stock may look significantly undervalued even at the current valuations.

Thus, it all boils down to being honest with oneself and carrying out one's valuation accordingly. At the end of the day, your returns on the stock will not depend on whether you bought Visaka Industries at ₹80 or ₹160.

It will depend on how honest you were concerning your understanding of the business. If you believe its best days are still ahead of it, you can make money even at the current valuations.

But if you can evaluate only the current business and not the new one, then maybe you should not pay any premium over what it has commanded in the past.

The approach may sound simple but it can take you quite far in investing.

Happy Investing.

Disclaimer: This article is for information purposes only. It is not a stock recommendation and should not be treated as such.

This article is syndicated from Equitymaster.com