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Valuations limit upside potential; downgrade to Hold

* Q3FY21 revenue grew 12% yoy to Rs19.6bn, below the estimate of Rs20.4bn due to lower-than-expected growth in the 4W segment. Growth in the 2W segment was healthy at 26%, while 4W and industrials posted growth in single digits at 7% and 8%, respectively.

* EBITDA margin contracted 60bps to 15.6% (est.: 15.8%), owing to lower gross margin. Lead prices increased steeply by over 15% in the last two quarters and there is a lag in pass-through, resulting in margin pressure in the near term.

* EV penetration remains a structural risk for the medium term, as companies like Amara Raja could incur large investments on R&D and setting up lithium battery capacities, resulting in ROE dilution. In addition, the entry of new players would increase competition and negatively impact margins.

* The stock has rallied 25% since our last update, and trades at P/E of 20x/16x on FY22/23E. Considering a limited upside potential, we downgrade our rating to Hold with a TP of Rs860 (Rs863 earlier), based on 15x FY23E EPS.

Revenue and EBITDA below estimates: Q3 revenue rose 12% yoy to Rs19.6bn, missing the estimate of Rs20.4bn due to lower growth in the 4W segment. In comparison, Exide Industries posted revenue growth of 16%. Growth was healthy in 2W segment at 26%, driven by double-digit growth in OEM and replacement categories. In comparison, growth was lower in the 4W segment at 7%, owing to single-digit growth in replacement category. Further, growth in Industrials was at 8%, led by single-digit growth in UPS and Telecom segments. EBITDA margin contracted 60bps yoy to 15.6% (est.: 15.8%), slightly below estimates. Raw material cost/sales increased by 160bps to 66.1% and Employee cost/sales rose 60bps to 6%. In comparison, Other expenses/sales fell 160bps to 12.2%. Other income grew 176% to Rs352mn, aided by reversal of provision relating to BSNL receivable of ~Rs150mn. Despite EBITDA miss, PAT was in line estimates at Rs1.9bn, owing to higher Other income.

Backward integration to support margins:

The company is setting up a Lead recycling unit for 100,000 tonne capacity at capex of Rs2.8bn in the next 18 months. Also, it is setting up a solar power plant with capacity of 50MW for an outlay of Rs2.2bn. These efforts should support cost reduction in FY23E.

Downgrade to Hold:

We cut FY21/22E EPS by 2% each, owing to reduction in margin assumptions. Our FY23E EPS remains unchanged due to cost benefits from backward integration efforts. Considering a limited upside potential, we downgrade our rating to Hold with a TP of Rs860 (Rs863 earlier), based on 15x FY23E EPS. Apart from the structural risk of EV penetration, other downside risks include slower demand recovery in Automotive and Industrial segments, higher competition intensity and adverse currency/commodity prices.

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