Escorts Ltd. (ESC IN) Dealer checks bolster confidence
INDIA | AUTOMOBILES | Company Update |
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11 July 2016 | ||
Since our late March initiation (click here), Escorts has seen a 56% surge in stock price and we thought it would be worthwhile revisiting our thesis. We spoke with top dealers (who form over 4-5% of the company's volumes) in its five key states to understand the on-the-ground scenario and were positively surprised: (1) they expect double-digit growth across regions if monsoon pans out normally, (2) total product revamp over the last two years with over 15 new launches/refreshes to help increase volume growth; new product launches to continue, (3) product quality has improved dramatically and is now best in class, (4) increased aggression; price corrections due to cost savings have helped Escorts to become more competitive, and (5) management and promoters have increased consistency and frequency of their interaction of with dealers. These changes have sent a strong message out to the dealer and farmer community. We have upped our estimates to incorporate improving volume outlook and better margins in the tractor division(+19%/22% for FY17/18)– and reiterate BUY with a revised TP of Rs 280 (Rs 210 earlier) valuing the company at 11x FY18 earnings (adjusted for treasury stock).
Industry rebound on cards: Case of southern India Southern markets have been the torchbearers of the tractor industry's revival in India. A closer look into last year's monsoon distribution suggests normal rainfall in these states (despite deficient monsoons on an all-India basis), which led to the sharp jump. With rainfall likely to be normal in FY17, and equitable distribution at least until the first week of July, we see the rest of India behaving in line with the southern markets, leading to growing tractor sales from H2FY17. Escorts will be a key beneficiary of this next leg of industry revival. We upgrade our tractor volume estimates for FY17 to 11% from 8.5% earlier (Q1FY17 volume growth at 10%) and retain our 15% volume growth estimate for FY18.
360o revamp in the recent years Our discussions highlight that the company has become very aggressive from the last 2-3 years, with over 15 product launches/refreshes addressing product gaps and improving overall quality. Dealers highlighted that while engine and transmission of tractors were never an issue, hygiene factors is where Escorts lacked, with oil spills and poor paint quality being major grievances from customers. With new launches, it has gone beyond addressing these problems; product quality is best in class now, leading to minimal customer complaints and warranty claims. New products that it is likely to launch shortly will also add to strong volume growth.
Increased aggression and dealer friendliness Until a few years ago, dealers used to lament that the company lacked aggression; warranty claims used to take weeks to be settled and its contact with dealers was minimal. Of late, the management's communication with dealers has increased dramatically, with a more proactive role for dealers. Dealer feedback plays centre stage in developing strategies that enable strong growth.
Strong operating leverage at play Volume growth will be beneficial because of the strong operating leverage it brings. We see tractor segment PBIT margins growing to 9%/10% in FY17/18 from 8.1% in FY16 and OPM improving to 6.4%/7.9% in FY17/18 from 4.6% in FY16.
Valuations We increase our estimates (by 19%/22% for FY17/18) on higher volume growth and better margins in tractors. We reiterate BUY with a revised TP of Rs 280 (Rs 210 previously) valuing the company at 11x FY18 earnings (adjusted for treasury stock). |
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BUY (Maintain) CMP RS 219 TARGET RS 280 (+28%)
Dhawal Doshi (+ 9122 6667 9769)
Nitesh Sharma (+ 9122 6667 9965)
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