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Inline; a good recovery in market share and margin

Reduction in steel prices to fully reflect from 3QFY23

* 2QFY23 witnessed a continued recovery in market share and start of a margin recovery, led by initial gains in commodity prices. Good demand, a stable pricing environment, and softening commodity prices should drive a strong recovery in its financial performance. AL is the best play on a CV cycle recovery, a market share recovery, and a bet on an expansion of revenue and profit pools.

* We reduce our FY23 EPS estimate by 7% to account for a higher tax rate and maintain our FY24 EPS estimate. We maintain our Buy rating with a TP of INR180 (11x Sep’24E EV/EBITDA based and ~INR17/share for its NBFC)

Softening RM costs and lower other expenses aid margin

* Revenue/EBITDA/adjusted PAT grew 85%/3x/LTP YoY in 2QFY23 to INR82.7b/INR5.4b/INR1.94b (in line). 1HFY23 revenues/EBITDA/Adj. PAT grew 109%/LTP/LTP YoY.

* Realizations improved by 13% YoY to INR1.83m (in line) driven by price hikes and an improvement in its mix.

* Gross margin contracted by 130bp YoY (+130bp QoQ) to 22% (in line).

* However, higher-than-estimated staff costs diluted benefits from an operating leverage, restricting EBITDA margin expansion by 350bp YoY and 210bp QoQ to 6.5% (in line). Adjusted profit stood at INR1.93b (in line) v/s an adjusted loss of INR832m in 2QFY22

* In 1HFY23, cash flow from operations saw an outflow of INR10.9b (v/s an outflow of INR850m in 1HFY22) due to a substantial increase in working capital outflow (INR18.5b v/s an outflow of INR1.95b in 1HFY22).

* FCF saw an outflow of INR13.1b in 1HFY23 (v/s an outflow of INR2.6b in 1HFY22) due to a weak operating performance and controlled capex at INR2.1b (v/s INR1.76b in 1HFY22).

* Hence, net debt increased QoQ to INR26.8b (v/s INR22.8b in Jun’22).

Highlights from the management commentary

* AL raised prices by 1% in 2QFY23 and by another 1.5% recently. The retention of price increases has been better, as discounts have been stable on a QoQ basis. The management has chosen not to participate in discounting

* The company gained market share, led by: a) filling of product gaps; b) astute network management, which aided market share increases in all its geographies; and c) the Avtar range of products, which offers a lower TCO

* While steel price declined by INR10/kg QoQ, it didn’t fully reflect in the P&L due to the high-cost inventory of finished goods, WIP, and RM. AL may see a further softening in steel prices in 3QFY23.

* Inter-corporate deposits of INR2b pertain to short-term loans offered to its subsidiary Switch Mobility. The fund raise in Switch Mobility has been delayed due to the prevailing market conditions.

Valuation and view

Valuations at 19.9x FY24E P/E and 11.3x EV/EBITDA reflect a mid-cycle recovery. However, this does not fully reflect AL’s focus on adding new revenue streams and profit pools. Any fundraise in Switch Mobility (the EV business) can serve as a rerating catalyst. We maintain our Buy rating with a TP of INR180 (~11x Sep’24E EV/EBITDA and INR17/share for its NBFC).

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