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Valuation and View – Management guides for fast normalcy in margins

Escorts Kubota (EKL) 4QFY23 results surprised positively where it exceeded our/street EBITDA/ Adj. PAT estimates by ~26%/22%. The entire beat is attributed to better than expected gross margins at 28.5% (est 26.2%, +300bp QoQ/ -140bp YoY). This led to ~24% QoQ growth in EBITDA at Rs2.35b (est/cons at Rs1.87b/Rs1.92b) with margins at 10.8% (est 8.7%, +240bp QoQ/ -270bp YoY). Tractors (71% EBIT contribution) ASP grew 1% YoY (+3.2% QoQ) at Rs628.9/unit with EBIT margins expanding ~160bp QoQ (-560bp YoY) at 9.9%. The management guided for fast normalcy in tractors EBIT margins to a normalized level of 14-15% towards end of FY24E, driven by further decline in RM expected, + product mix, recent price hikes and ongoing cost control measures. We think this would not be easy but challenging as well given low-mid single digit volume growth expected for the domestic tractor industry.

We believe, EKL is more vulnerable v/s peers as i) it derives >75% of its revenues from FES segment and ii) aggressive expansion plans by Sonalika, TAFE, John Deere, etc. to keep tight balance between market share and margins priorities. The valuations at 21x/17.4x FY24/25 do reflect anticipated market share expansion and synergies post Kubota integration. We believe, benefits arising out of Kubota JV to start reflecting meaningfully only over ~2 years. We raise FY24/25 EPS by 13.6%/5.7% to factor in sharper than expected RM decline. We maintain Neutral on the stock with TP of Rs2,001 (earlier Rs1,892). We continue to value co at 17x Mar-25 EPS. We build in revenue/EBITDA/PAT CAGR of 9%/32%/35% over FY23-25E.

Result Highlights – Better gross margins drive profitability

* Revenues declined 3.6% QoQ (+16.8% YoY) at Rs21.8b* (in-line) as Agri/railways revenues declined ~9%/~5% while construction equipment revenues grew 25.7% QoQ. Agri ASP grew 1% YoY (+3.2% QoQ) at Rs628.9k/unit.

* Gross margins came in better at 28.5%* (+300bp QoQ/ -140bp YoY) at 28.5% (est 26.2%). This led to beat on EBITDA margins at 10.8%* (+240bp QoQ/ -260bp YoY, est ~9%) with EBITDA at Rs2.35b (est Rs1.9b, -6.2% YoY/ +24% QoQ).

* Segmental EBIT margins – Agri at 9.9% (-10bp QoQ), Railway at 14% (+90bp QoQ), CE at 8.1% (+590bp QoQ).

* Co reported exceptional expense of Rs244m towards provision for impairment in Escorts crop solutions. Led by better operating performance, Adj.PAT grew 9.3% QoQ (-1% YoY) at Rs2b (est Rs1.7b).

* FY23 performance – Revenue/EBITAD/Adj. PAT grew 15.7%/-21.9%/-7.9%

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