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Gross margin pressure offset by operating leverage

Gross margin pressure offset by operating leverage

* Revenue grew 37% YoY and came in 19% above our estimate. While the surge in commodity prices led to a 480bp YoY deterioration in gross margin, strong volume growth, led by operating leverage, cushioned the impact at the EBITDA margin level v/s our expectation. EBITDA grew 7% YoY and was 31% ahead of our expectation. Adjusted PAT grew by 7% and came in 46% ahead of our expectation.

* Working capital stood elevated owing to higher inventory in anticipation of global supply chain shortages and possibility of a third COVID wave. The management expects working capital to normalize over the next two quarters. Despite escalation in inventory levels, the company continues to remain net cash, a feat achieved in 4QFY21.

* OEL’s cost structure (with higher employee costs and ad spends as a percentage of sales) makes it a strong operating leverage story, if strong topline growth materializes. 2QFY22 result performance reconfirms this hypothesis. On account of a superior performance in 2QFY22, we increase our FY22-24E EPS by 5-6%. Our TP stands at INR500/share (on an unchanged target multiple of 45x FY24E EPS, a 10% discount to HAVL). OEL trades at a discount of 40%/15% v/s HAVL/CROMPTON on a FY24E PE basis. On an EV/EBITDA basis, the discount stands at 48%/36%. We maintain our Buy rating. OEL is our top pick in the Consumer Electrical space.

Strong operating performance

* 2QFY22 snapshot: Revenue rose 37% YoY to INR5.9b, 19% above our estimate. EBITDA stood at INR619m, up 7% YoY (31% above our estimate). EBITDA margin stood at 10.4%, higher than our estimate of 9.5%. Adjusted PAT stood at INR348m, up 7% YoY (46% above our estimate).

* Key segmental highlights: a) Electrical Consumer Durables: Revenue stood at INR4.2b, up 38% YoY (20% above our estimate). PBIT margin stood at 12.3%, up sequentially, but down YoY owing to commodity cost inflation. Note that ECD segment growth of HAVL/CROMPTON stood at 25%/18% YoY. b) Lighting and Switchgear: Revenue stood at INR1.7b, up 35% YoY, driven by Domestic, Home, and Small Office/Showroom segments. PBIT margin stood at 15.8%, up YoY and QoQ, on account of a favorable B2C mix and price increases across categories.

Key takeaways from the management interaction

* While pent up demand was strong towards the beginning of 2QFY22, it tapered towards the end. However, demand continues to remain normal and is expected to gather pace with the upcoming festive season.

* Growth in the ECD segment was equally split between value and volume. In Lighting, value growth was largely driven by a superior product mix.

* While inventory with the company stands higher than normal, that in the channel remains at normal levels.

Valuation and view

With demand scaling back gradually and the upcoming festive season ahead, we believe OEL is best placed to capture this trend, with its strong manufacturing and distribution capabilities. On account of its superior performance in 2QFY22, we increase our FY22-24E EPS by 5-6%. We forecast a revenue/EBITDA/adjusted PAT CAGR of 19%/21%/25% over FY21-24E. We value OEL at 45x FY24E EPS, with a TP of INR500. At the CMP, the stock trades at a FY23E/FY24E P/E of 36x/30x. Our longer term thesis indicates a reduction in the margin differential between OEL and leading FMEG peers (refer to our initiation report). On a FY24E P/E multiple basis, OEL is trading at a discount of 40%/15% v/s HAVL/CROMPTON. On an EV/EBITDA basis, the discount stands at 48%/36%. We maintain our Buy rating.

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