IGI Logo

Greenfield plants challenges persist

Varroc Engineering’s (VEL) Q3FY21 operating performance was a miss on consensus estimates as EBITDA margin came in at 7.1% (down 252bps YoY). Global lighting business (VLS) sales grew 9% YoY to EUR258mn while margins shrunk 236bps YoY to 4.1% (impacted by higher freight costs, greenfield plant cost escalations). Greenfield plants also continue to be impacted by customer production issues (semi-conductor) and the same could persist into H1FY22. India business is expected to benefit from 2W demand recovery in FY22 coupled with increased content per vehicle from electronics and plastic interiors components in new launches. Post the recent stock rally (up ~60% since Q2) we downgrade the stock to ADD (from Buy) with a SOTP target price of Rs 518 (earlier: Rs504).

* Key highlights of the quarter: Topline at Rs35.1bn was 25% YoY higher as India business revenues grew 27.9% to ~Rs12.9bn and VLS sales were up 9% YoY at EUR258mn. EBITDA margin stood at 7.1%, down 252bps YoY, due to higher other expenses (up 30% YoY). China JV performance improved with 16.8% EBITDA margin as revenues rose 62% to Rs1.7bn, while margins in India expanded 135bps YoY to 13.3%. Net debt stood at Rs27.3bn (down from Rs30.6bn in Q2) on road to the target of Rs26bn by FY21-end. VEL reported PAT loss of ~Rs1.4bn with an exceptional charge of 1.1bn on account of tax credit reversal in greenfield plant.

* Key highlights of the earnings call: Management indicated: a) VLS business was impacted by the higher overtime (~75 bps QoQ impact) and premium freight charges (~200bps QoQ impact) despite OEMs ramping up production on strong demand. b) Czech plant profitability was impacted by higher absenteeism (~25%) of its employees due to Covid second wave, while plants in Morocco and Poland were impacted by lower production volumes due to delay in programs from OEMs leading to lower revenue run rate. c) Revenues are likely to decline 7-8% QoQ in Q4 due to semiconductor shortages at OEMs; VEL is likely to pass through 50% of RM cost inflation for the VLS business. d) Capex for FY22 is likely to be Rs 6bn. e) EVs contribute 15-20% of VLS sales currently and this is expected to improve as VLS starts new programs from Ford, VW and Tesla.

* Downgrade to ADD: VLS remains an attractive play on the move towards higher LED penetration among global OEMs, electrification and cost optimisation in greenfield facilities. However, delays in execution cause us to lower our FY22E EPS estimates by ~11%. Due to the mixing of global and domestic automotive exposures, we value the business on SoTP basis. We assign VLS and its China JV unchanged multiples of 4x EV/EBITDA and 7x P/E FY23E respectively, and value the India business at an unchanged multiple of 8x EV/EBITDA FY23E to arrive at a SoTPbased target price of Rs518 (earlier: Rs504). Downgrade to ADD from Buy.

To Read Complete Report & Disclaimer Click Here