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Beneficiary of global automotive electrification

We initiate coverage on Sona BLW Precision Forgings (SONA) with a BUY rating and target price of Rs726 based on DCF, implying a multiple of 50x FY24E earnings. We believe the premium implied in the earnings multiple in our target valuation reflects the visibility on growth and profitability of SONA other than its capability to address emerging opportunities in the EV space and adding to the product portfolio. We like the following aspects of the company: a) ability to identify products that would add to RoCE and growth; b) its quest for innovative products with lower costing but uncompromised quality, which would help: i) reduce cost for customers, and ii) improve its own margins (magnetless motors are an example of such a product); c) using its own proven capabilities efficiently for further innovation (e.g. active suspension system); d) ability to deliver 25%+ EBITDA margin despite spending ~3% of revenue on R&D (revenue size: ~Rs20bn); e) its sustained efforts to extend the portfolio to large EV makers and grow with them in addition to focusing on capturing domestic e-2W opportunity. We expect SONA to deliver FCF growth at ~30% CAGR in FY24E-FY30E driven by ~20% revenue CAGR and disciplined margin execution

Scope for delivering 20%+ revenue CAGR for a decade through existing portfolio plus continued addition through EVs: We expect SONA to deliver ~22% revenue CAGR in FY22-FY30E on the back of growth potential in its existing portfolio. Stagnation in starter motor revenue would get mitigated by high growth in differential gear assemblies, BLDC motors for e-2Ws, and the active suspension management product. We believe, over and above our estimated revenue potential of ~Rs100bn by FY30E (~5x growth in revenue in eight years), SONA would be open to new product additions, e.g. traction motors for PVs with a likely market size of US$60bn in next 5-6 years. Currently, SONA’s global EV parts business is heavily skewed towards a single customer (accounting for ~25% of revenue mix). Thus, with diversifying capabilities, we believe there is scope for adding new customers thereby reducing the revenue dependence on a single customer/single product and adding to growth profitably.

Disciplined margin execution across decades: SONA has maintained 25%+ EBITDA margin over the past couple of decades. Even in the current situation of elevated raw material prices and flat YoY revenue, the company has been able to retain ~25% margin. With PLI scheme benefits coming in, we expect EBITDA margin to move towards ~30% in FY24E-FY28E. Thus, the expected improvement in margin along with rising asset turns (higher asset turn for motor business) would drive RoCE up to 40% by FY24E and expand FCF at a CAGR of ~30% in FY24E-FY30E.

Initiate coverage with BUY: We initiate with a BUY rating and DCF-based price target of Rs726, implying ~50x FY24E (~36x FY25E earnings) amid ~45% earnings CAGR in FY22-FY25E and ~30% FCF CAGR in FY24E-FY30E. As against domestic diversified ancillary companies trading in the band of ~15-30x forward earnings, global EV parts/traction motor makers like Nidec, Aptiv, Eaton, etc. are trading at forward earnings multiples of ~30x on an average. Thus, going by cashflow outlook and RoCE, our target multiple premium for SONA vis-à-vis its domestic peers is justified. Additionally, scope for adding new components frequently to its portfolio under the theme of rising automotive electrification globally, would help SONA maintain its premium valuation.

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