Faster than estimated recovery priced-in
Considering the improving demand prospects for tiles (from semi-urban and rural India in particular), Kajaria Ceramics (KJC) is poised to deliver better than expected volume/earnings recovery in the near term. Our channel checks suggest that Jul’20 and Aug’20 recorded 85-90% of sales in the same months last year. Faster recovery in volumes coupled with benign fuel costs, stable industry pricing and recent cost-cutting initiatives are expected to drive EBIDTA margin higher than expected. Considering the growth momentum in tiles is likely to continue in the near term with metros and tier-I cities opening up post Q2FY21, we expect KJC’s volume growth to improve going forward. With the sharp run-up in the counter, the upside seems limited on the stock despite the earnings and multiple upgrade. Maintain HOLD.
* Earnings increased by 9%/1% for FY21E/FY22E after factoring-in the faster than expected recovery. Building-in the faster than expected recovery in both demand for tiles and margins driven by higher operating leverage, benign fuel cost and cost-saving initiatives, we increase our revenue/earnings estimates by 14%/4.1% and 9%/1% respectively for FY21/FY22. Maintain HOLD with a revised target price of Rs530 (30x FY22E earnings) vs Rs385 (22x FY22E earnings) earlier.
* Demand and pricing headwinds for tile industry ease considerably post lockdown. With Morbi players witnessing sharp demand recovery largely led by burgeoning exports, the pricing headwinds have eased considerably in the recent past. With these units focusing majorly on exports and having largely moved on to cash and carry model in the domestic trade, the top organised players (as per our checks) have been able to gain some market share in the domestic trade thereby speeding up their sales recovery.
* Volume recovery likely to be faster than expected. Based on our channel checks for the months of Jul’20 and Aug’20, we expect KJC volumes to recover at a faster pace than expected earlier. The better than anticipated demand recovery is mainly led by strong demand from rural and semi-urban cities/towns. We also expect KJC’s bathware division to report much improved performance driven by increasing distribution and product range. We expect revenues to decline 11.3% in FY21E while registering a 2.4% revenue CAGR over FY20-FY22E.
* EBITDA margins likely to surprise in the near term. Besides higher operating leverage, near-term margin improvement is expected to be aided by benign fuel costs, stable industry pricing and cost-cutting initiatives. Recent gas price cut in Morbi (unlikely to be passed on) and operating leverage at KJC’s Morbi JVs are likely to result in better operating performance in the JVs as well. We expect KJC to report 13.8% margins in FY21E, which is expected to improve to 16.5% in FY22E.
* Balance sheet strengthening to aid rerating. We expect KJC to see significant improvement in FCF over the next two years driven by muted capex and better profitability over FY20E-FY22E. This is expected to drive RoCEs higher to 17.8% by FY22E.
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