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Buy Swaraj Engines Ltd For Target Rs. 2,135

Superior financial strength set to persist

About the stock: Swaraj Engines (SEL) is involved in manufacturing diesel engines for M&M’s Swaraj brand of tractors.

* Steady ~13% compounding of revenues, EBITDA, PAT over past five years

* Net cash positive b/s; consistent cash flow generation; highly capital efficient player with history of >30% return ratios & high dividend payouts

Q1FY22 Results: SEL reported healthy Q1FY22 results.

* Diesel engine volumes were flattish QoQ at 33,747 units

* Net sales rose 3.2% QoQ to | 315 crore tracking 3.5% ASP increase

* Margins dipped minimally to 15%; PAT up 3.3% QoQ to | 33.7 crore

What should investors do?

The stock appreciated at ~9% CAGR from ~| 1,150 in July 2016 over the past five years, outperforming the broader Nifty Auto index

* We retain BUY on expectation of continued industry-leading financials

Target Price and Valuation: We value SEL at 19x P/E on FY23E EPS to arrive at revised target price of | 2,135 per share (earlier target price | 1,650).

Key triggers for future price performance:

* Play on farm mechanisation courtesy ~30-33% volume share of M&M’s tractor sales via Swaraj brand of tractors

* Consistent >30% return ratios along with positive CFO, FCF generation

* Attractive dividend play, with present dividend yield at ~4%

* Sales, PAT to grow at 13.1%, 21.4% CAGR respectively over FY21-23E, building in 8.5% volume CAGR & 120 bps improvement in EBITDA margins

Alternate Stock Idea: In our auto ancillary coverage, we like JK Tyre.

* Walking the talk on b/s deleveraging, sweating of assets & capital efficiency

* BUY with a target price of | 180

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