Lockdown extension to further weaken demand
FY21 summer demand for room air conditioners stands impacted by: 1) extension of the lockdown in majority of areas, 2) need for installation of equipment, and 3) logistic bottlenecks. Social distancing norms and the overall cautionary approach pending return of normalcy is achieved will keep demand muted in a post-lockdown environment. Project segment demand outlook is also not too positive due to migrant labour exodus in addition to cost and time overruns on current projects. Taking cognisance of these factors, we cut FY21E and FY22E earnings for Voltas by 20.4% and 13.6%, and for Blue Star by 18.4% and 14.6%, respectively. We maintain HOLD on Voltas with a revised target price of Rs444 (earlier: Rs503) and REDUCE for Blue Star with target price lowered to Rs401 (from Rs410).
* Lockdown has impacted peak summer demand for room ACs: Summer-related sales accounts for ~50-60% of room AC sales in a year. The Covid-19 related lockdown and extension for the same in majority of locations have resulted in muted sales. Assuming normalisation of demand from H2FY21E and its stabilisation from Oct/Nov’20 onward, we expect overall room AC industry revenues to decline by 12-15% in FY21E.
* Project execution to remain slow: Some project sites have reopened, especially in the green zones and rural areas. However, urban projects like metro rail, etc. are likely to get delayed. Industry focus will be on maintaining a healthy balance sheet by prioritising collections; hence, we believe companies will be selective in the kind of projects they execute.
* Social security formalisation to pose structural problems on migrant worker front: Tackling the near-term impact of migrant labour exodus (refer to our recent report – Migrant worker exodus – the Achilles heel) will be a key challenge. The recent requirement of formal transfer of government aid directly to bank accounts will lead to formalisation of migrant workforce and can structurally change the way remunerations take place in future. Once formalised, labour will have to be provided social security with adherence to minimum wage and other benefits. We believe this can lead to an increase in the overall cost of project execution and impact margins in the near to medium term. We believe, this impact will be more pronounced in urban projects like metro rail, etc.
* We cut earnings estimates and maintain ratings cautiously due to near-term uncertainties: Peak demand season has been a washout due to the lockdown, while uncertainty on demand stabilisation will impact growth in FY21E. We therefore expect the current fiscal to be an exceptional one and assume normalisation of demand in FY22E. Hence, on depressed earnings, we increase our valuation multiple for Voltas and Blue Star by 10% and 20% respectively.
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