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Core business RoCE to reach ~50% in FY24E; initiate with BUY

We initiate coverage on Gati with a BUY rating and target price of Rs288/share (30x FY24E P/E). Gati, along with Safexpress, TCI Express, Blue Dart, and Delhivery, remains one of the key organised express logistics players pan-India. Recent acquisition (CY19) by Allcargo has revived Gati’s corporate ambitions of reclaiming the best express logistics player status in the country. The actions taken, under the new management team, to stem past 7-8 years of market share loss appear promising. We concur with management vision of 3x revenue growth with improved margin profile over next three years. This will potentially allow expansion of profitability, earnings as well as valuations multiple over FY22E-FY24E. We studied the impending IPOs of new-age logistics players and their implied valuations – and we find Gati’s valuation much more nominal and conducive, given its underlying profitability and growth potential. Execution shortfalls, industry slack, heating-up of competition and corporate actions are key risks to our call.

* Transformation programme and new strategic direction to boost revenues ~3x and improve margins. Allcargo acquired Gati in CY19 (47% stake). It has also infused additional equity (~Rs 700mn including warrants). While revenues from the express business for Gati are comparable to TCI Express, Gati’s margins are significantly suppressed (management continues to guide for 12-14% EBITDA margins in express business). Post-acquisition, Allcargo started a transformation programme consisting of: i) de-levering meaningfully through non-core asset sales and pursuing asset-light business model (along with balance sheet cleanup), and ii) cost optimisation. Recent recruitment of CEO, Mr. Pirojshaw Sarkari (ex-MD of Mahindra Logistics), has allowed Gati to embark on a new strategic direction. Key targets are to grow the top line ~3x in three years (along with margin improvement expected from the transformation project) as Gati strives to establish itself as a logistics fulfillment company.

* We believe 3x revenue growth should be comfortably achievable in the proposed timeframe (3 years) given industry tailwinds, current scale, customer connect and focus on improving service delivery. Management has embarked on improving turnaround time through improved infrastructure. Two new transshipment hubs (in Ambala and Farukhnagar) have started operations while five more are under construction. With improving turnaround time, focus on digitisation and the diversity of existing customer relationships, management is confident of increasing wallet share as customer confidence on Gati’s service delivery improves. Efforts are also underway to: i) increase MSME penetration, and ii) target B2B retail market (music to our ears; for a listed express logistics play to target B2B e-commerce segment; market valuations of the platform providers, i.e. Indiamart, Udaan, Moglix, etc. have proliferated and Indian B2B ecommerce market is expected to reach US$1trn GMV by CY24 with current transport happening mostly through unorganised segment Link) B2B express market is also expected to double in the next five years, after a lacklustre run in the preceding five.

* Initiate with BUY and target price of Rs288/share. There are strong barriers to entry in the express logistics business, which don’t allow startups to make any meaningful dent in the industry or create pricing pressure. Further, operating with leased-out vendors (small fleet operators) in an environment where pressure of rails on road is relentless, has its own margin tailwind. Indian rail capex has increased ~3x over the past five years intensifying the rail to road shift; DFC will only further accelerate the shift – allowing increasingly better bargaining power for the road express logistics service providers. A comparison of costs with TCI Express underlines the potential margin improvement that Gati can embark upon. Recent strategic clarity on improving existing wallet share adds to our confidence and explains the valuation of 30x P/E on FY24E that we attribute to Gati.

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