Published on 15/03/2017 4:04:19 PM | Source: Motilal Oswal Securities Ltd
Buy Escorts Ltd For Target Rs.596.00 - Motilal Oswal
Focus on improving market share
Levers in place to improve margins
* Escorts (ESC) improved its market share by 60bp in 9MFY17, driven by key strategic initiatives planned and executed in the last 3-4 years.
* It would continue to focus on increasing its share through deeper penetration and creating a parallel channel of Farmtrac and Powertrac in its strong markets.
* Reduction in employee cost would be a key lever to expand margins. Also, the management believes there is further room for reduction in raw material cost.
* Construction equipment business is on a strong footing; this should aid growth as well as margin expansion.
Focusing on exports and on improving market share in tractors ESC’s tractor
volumes saw robust growth of 23% in FY17 YTD driven by normal monsoon and key strategic initiatives. During this period, its market share improved from 9.5% to 10.1%. ESC would continue to focus on market share gain through tractor seeding program in untapped regions in its strong markets and increasing the pace of parallel channel creation for Farmtrac and Powertrac. To improve its visibility, ESC has also piloted a rental model through tie-up with the government, which provides capital subsidy for farm equipment. The company is currently testing the model and would gradually scale up if it finds the model right. Exports would be a key area of focus in FY18; ESC has new higher HP models that meet regulatory requirements. The key regions it intends to tap are Africa, Middle East and US.
Margin expansion to be driven by control on employee cost
The management has highlighted that ~450 blue collar employees are due for retirement in the next three years. It also plans to offer VRS to a similar number of employees. Since the cost of blue collar employees is high, reduction of ~900 employees over the next three years would result in significant savings on employee cost. ESC has also entered into a long-term settlement with the labor union, wherein productivity improvement would result in employee costs remaining constant in absolute terms, even if VRS doesn’t go through. The expected 200bp saving in employee costs would drive EBITDA margin higher.
Construction equipment and railways businesses on a strong footing
In the construction equipment business, ESC is confident of achieving 20-25% growth. At this pace of growth, the company expects to achieve 5-6% EBITDA margin in the long run. In the railways business, it has an order book of INR1.3b executable over 5-6 months. The three new products (bogey and axle-mounted disc brakes, and automated door systems) it has launched offer a market opportunity of ~INR5b. ESC is also open to an inorganic acquisition in the railways business.
Valuation and view
ESC expects to register double-digit volume growth in tractors if the monsoon is normal in FY18. The construction equipment business should break even by 2QFY18. We expect revenue/PAT CAGR of 12%/40%, driven by EBITDA margin expansion of 280bp to 10.3% over FY17-19. We value the company at 14x FY19E EPS and maintain Buy with a target price of INR596 (21% upside).
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