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Subdued quarter; Medium-term prospects remain robust

Q3 EBITDA declined by 28% YoY to Rs1.9bn, 10% below our estimates, due to lower gross margin. Management expects margins to normalize over the next few quarters, owing to better net pricing, commodity deflation, and cost savings. Revenue grew by 16% to Rs22.6bn, broadly in-line with our estimates. Factoring in the lower-margin assumptions, we have reduced our FY23-25E EPS by 1-4%. Following the revision, we expect robust revenue/EPS CAGRs of 26%/41% over FY23-25E. Escorts remains one of our top sector picks, underpinned by robust medium-term prospects, backed by: 1) enhanced market presence in the domestic agri machinery market, with expansion of the product portfolio, especially in wet-land tractors and farm implements; 2) improved market positioning in construction equipment (CE) on widening of the product portfolio; 3) increased exports by leveraging Kubota’s global distribution network; and 4) commencement of component exports to meet Kubota’s global requirements. We reaffirm BUY with a TP of Rs2,500/share (Rs2,430 earlier), based on 25x FY25E core EPS (Dec-24E earlier) and cash at Rs352/share (0.80x book).

Q3 EBITDA below estimates: Revenue grew by 16% YoY to Rs22.6bn (est.: Rs22.3bn), broadly in line with estimates. EBITDA declined by 28% YoY to Rs1.9bn, 10% lower than estimates due to lower gross margin. EBITDA margin contracted by 510bps YoY (+30bps QoQ) to 8.4% (est.: 9.5%). Gross margin contracted by 430bps YoY (-210bps QoQ) due to unabsorbed commodity inflation, price rationalization, and adverse mix. Other income grew by 128% to Rs913mn. Overall, adjusted PAT declined by 8% to Rs1.86bn (est.: Rs1.82bn), broadly in line with estimates. PAT was in line, despite EBITDA miss, owing to higher other income. Segmental performance: 1) The agri segment’s revenue grew by 13% to Rs17.1bn, led by volume growth of 11% and realization growth of 3%. EBIT margin contracted by 750bps YoY (flat QoQ) to 8.3%. 2) CE revenue grew by 11% to Rs3.1bn, led by volume growth of 5% and realization growth of 6%. EBIT margin contracted by 20bps YoY (+490bps QoQ) to 2.2%. 3) Railways revenue grew by 43% to Rs2.5bn. EBIT margin contracted by 120bps YoY (- 160bps QoQ) to 13.1%. What we liked: Improvement in domestic tractor market share to 10.6% in Q3FY23 vs. 10.5% in Q3FY22 and to 9.7% in Q2FY23. What we did not like: The agri segment’s margins were below estimates due to unabsorbed commodity inflation and adverse mix. However, margins are expected to improve ahead of price increases and commodity deflation.

Earnings Call KTAs:1) The domestic tractor industry’s growth in FY23 is expected to be in double digits, supported by positive customer sentiments. The tractor industry’s volumes in FY24 should receive the support of favorable policy actions, but growth would depend on rainfall season and spread. 2) Q3FY23 exports for the company declined by 8% YoY, while the industry witnessed a 14% decline. Escorts has derived ~35% of exports from sales through the Kubota global network. 3) CE volume momentum is expected to remain positive over the next two quarters on government thrust on infra projects. 4) Railways revenue growth is expected to be in double digits in FY24. Pending order book stands at Rs10bn+. 5) Q4 margins are expected to improve sequentially on price increases (taken in Nov-22) and commodity deflation (benefits of ~100bps QoQ). Margins are expected to normalize over the next few quarters. 6) TREM IV emission norms were implemented in Jan-23 for 50HP+ tractors and price increases stood at 10-15%. Implementation of these norms for 25HP+ tractors would lead to price increases of 8-13%. The implementation date could be Sep-24, but it is yet to be finalized.

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