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Consumer electrical space in India is amidst high competitive intensity which will keep near term earnings for player like Crompton Greaves Consumer Electricals (Crompton) under pressure. Most of the players are trying to de-risk by expanding product portfolio, often through inorganic means. Crompton has significant dependence on fans/lighting for growth. While it is struggling to improve margins in lighting, premiumisation driven growth in fans would also be incrementally difficult. Premium fan value share has already crossed 20% for the industry and volume growth in fans remains tepid. Crompton has also lagged peers in terms of new launches and/or inorganic acquisitions. The water heater/cooler will be tested in 2HFY19. Currently, the stock is trading at 33xFY20E EPS. Considering the challenge of recovering margins in lighting and the increasing competition in the space, we do not find the risk reward beneficial.
* Sustainable recovery in lighting margins remains challenging.
Competitive pressure in lighting remains strong despite marginal price increase which has happened in in the LED space. There continue to be new brands which are entering the space with significant A&P spend like Jaquar, Indiabulls and now Svarochi. Additionally, market leaders like Philips and Surya Roshni continue to have healthy margins (both had more than 10% EBITDA margins in lighting in FY18) due to their scale and reach and as such can accommodate some more pricing pressure. Crompton itself is working its way back to reclaim 10% margins in lighting from ~6% reported in Q2FY19. This will have to include measures in improving quality, which the management intends to address through in house manufacturing.
* Can premium mix of fans improve substantially ahead?
The premium share of fans of Crompton has been at 20% for some time now. 20% of estimated Rs18bn of fan revenue of Crompton in FY18 would translate to Rs3.6bn. Assuming 70% of the ECD segment of Havells is fans and 75% of the same is premium, the premium fan revenue for Havells in FY18 would be ~ Rs8bn. We estimate Orient’s purported 15% of premium fan revenue in would translate to ~Rs1.3bn in FY18. These three companies alone would cumulatively sum up to ~Rs13bn of premium fan turnover out of a total fan market of ~Rs65bn. As such the total premium share of fan market has already crossed 20%. Incremental gain of premium mix will be difficult, more so with increased competitive intensity in the space.
* Downgrade to HOLD.
We downgrade Crompton from Add to HOLD with a target price of Rs220 (unchanged) based on 32x FY20E EPS. We recently downgraded the valuation multiple of Crompton from 35x to 32x to reflect the risk of higher share of lighting business, which will continue to face margin challenges.
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