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Published on 3/08/2022 1:34:01 PM | Source: ARETE Securities Ltd

Update On Escorts Ltd By ARETE Securities

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Escorts Kubota Ltd. (EKL) reported net sales of INR 20.1 bn in 1Q FY23 (~20.1% increase over INR 16.8 bn YoY) and a PAT of INR 1.5 bn (down 20.4% YoY). Escorts Farm Equipment (EFE) segment volume increased by 3.3% to 26797 units while Escorts Construction Equipment (ECE) segment volume declined increased 59.4% to 966 units. EBITDAM (excluding other income) deteriorated by 423 bps YoY (deteriorated 307 bps QoQ) on the back of higher RM cost costs and higher other expenses. RM cost as % of sales increased 415 bps due to higher metal prices. Operating & Manufacturing Expenses increased 146 bps while employee expenses as % of sales improved 138 bps.

EFE business slowed down on the back of weak industry and marketshare loss

After a strong start to FY23 (Apr, May), tractor demand softened in Jun/Jul. This can be attributed to the recent ban on wheat exports and late onset of monsoons. Industry-level inventory is high; mgmt. expects wholesale volumes to continue declining in Aug. In addition, Escorts is losing market-share due to aggressive expansion plans by Sonalika, TAFE, John Deere, etc. We believe, benefits arising out of Kubota JV to start reflecting meaningfully only over 2-3 years. We would keenly await managements action plan post Kubota which ESC intend to release by 3QFY23.

Higher commodity prices dent margins, recovery could be delayed

1QFY23 results reflected the impact of peak commodity prices. The fall in price of steel would be a tailwind starting 2QFY23. However, the margin fall in 1Q was so severe that it would take a few quarters for it to normalise from the low. Moreover, Escorts mgmt. would have to do a tight balancing act between improving margins and gaining market-share, as the commodity tailwind would be available to its competitors as well. Mgmt. cautioned that the next two quarters would be challenging, as the company tries to navigate past the problem.

Other highlight

Management guided domestic tractor industry growth of low to midsingle digit YoY in FY23 (v/s earlier guidance of mid to high single digit). Expect 2Q industry volumes to grow mid-single digit YoY at ~215k units. July and August are going to be weak in terms of sales. The loss has been profound in EKL's strong markets and in different customer segments (haulage and low end). EKL witnessed volume growth of ~4% YoY across regions in 1Q (v/s ~22% growth in North & Central regions and ~10% growth in other regions). Market share loss was more visible in price sensitive markets. Going forward the focus will be back on gaining the market share. EKL Took price increase of ~2% in 1QFY23, while the inflation was much more than that. Along with the inflation, weak product mix (shift to lower HP tractors) has impacted overall gross margins. There is still unabsorbed cost of ~3%. The company has taken another ~2% price hike in 2QFY23.

Capex guidance for FY23 is at Rs3-3.5b out of which Rs0.4-0.5b has already been incurred

Outlook and Valuation

We expect EKL's market share to remain under pressure due to aggressive expansion by competitors like Sonalika, TAFE and John Deere. Benefits from partnership with Kubata are expected to flow in next 2-3 years. We also expect margins to remain under pressure due to inability to pass on RM cost in due to higher competitive intensity. We expect Revenue/EBITDA/PAT to grow at 13%/4.9%/ 14.3% from FY22 to FY24E. At CMP of INR 1630, stock is trading at 21.5x its FY24E earnings. We Recommend HOLD with a revised fair price estimate of INR 1515 in 12 months, 20x its FY24E EPS.

 

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