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Challenging quarter amidst rising input costs

CEAT’s Q1FY22 performance was in-line with consensus expectations, PAT declined ~86% QoQ mainly due to gross margin compression (down 315 bps QoQ). Revenue growth continues to be led by organic growth in CV/PV segments coupled with new order wins across both new and existing customers (e.g. Nissan magnate, Mahindra Thar). Outlook for H2FY22 remains mixed due to worries on potential demand slowdown due to covid 3rd wave and chip shortages led delays.

However, margins are likely to improve in H2FY22 as inputs costs have started to moderate downwards (Bangkok rubber prices down >15% since Jun’21). On balance sheet side, consolidated debt rose to ~Rs17.8bn (FY21: ~Rs14.2bn). CEAT’s capex intensity is likely to peak in FY22, we expect FCF generation to improve in FY23E (~Rs3bn /~5% FCF yield). Maintain ADD.

* Key highlights of the quarter: Revenue declined ~17% QoQ to ~Rs19bn due to sharp decline in OEM production in May’21 due to Covid shutdown. Gross margin decline was curtailed at 38.7% (down 315 bps QoQ) due to better fixed-cost absorption on account of higher finished goods inventory. EBITDA margin was down by 248bps as employee costs rose (by 131bps QoQ) and other expenses fell by 198bps due to tight cost control and potentially lower ad spends. Adjusted PAT wad down ~86% QoQ to Rs200mn. As per earlier commentary, CEAT took a blended price hike of ~3-4% in Q1FY22.

* Focus on superior growth trajectory: Management focus is to achieve above industry growth, which we believe could be driven by: a) Faster growth in the high growth compact SUV segment aided by the new capacity coming on stream at Halol plant; b) new product innovations are likely to drive market share gains in across OEMs (e.g. Hero Motocorp, Mahindra) which would aid replacement market share; and c) strong capex push for FY22-23 (~ Rs18-19bn) with focus on expansion of TBR capacity would be key driver for market share gains in CV segment.

* Maintain ADD: We like CEAT’s plan to drive growth via market share gains (product innovations, new customer additions) while improving its margin trajectory; however, rise in capex intensity and curtailed industry pricing power is likely to curtail FCF generation in FY22E. We raise our earnings estimates for FY22E/ FY23E by ~7/ 8%, respectively on the back of easing input cost pressures. The stock remains attractive at ~5% FCF yield on FY23E basis. We value CEAT on SoTP basis with an unchanged target multiple for India business at 14x FY23E EPS of Rs108. We maintain our ADD rating on the stock with a revised target price of Rs1,540 (earlier: Rs1,533).

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