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V-Guard Industries Limited’s (VGRD) having a strong diversified product portfolio witnessed mixed performance in Q1FY23 where revenues jumped 80% YoY (above consensus estimates) due to continued traction on its electronic consumer durable business(ECD) and stabilizers business in electricals. South revenues grew 68.2% YoY while non-south revenues improved 95.7% YoY on a lower base. Gross margin was higher by 110bps QoQ to 29.8%, due to pricing actions in Q4FY22. Management hinted that gross margins is likely to revert to pre?covid level of ~32% over the next two quarters due to a further 2.5% price hike in Q1FY23 for certain products and softening of commodity costs benefits to start reflecting from August 2022 onwards. EBITDA margin improved 38bps YoY to 8.1%, due to ?100mn write?off in wires amid falling copper prices (1% margin impact). EBITDA stood at ?819mn (+88.9% yoy) while PAT stood at ?540mn vs ?246mn in Q1FY22. We believe the company’s strong balance sheet, cash flows and reputed brand while management constant focus on 1) evolving category mix and product mix, 2) in house manufacturing from current 60% to 75% in next 2-3 years to improve the product offering, supply chain and gross margins, 3) distribution enhancement in smaller towns and rural areas along with increase in non-south region to offer significant growth potential provides positive outlook ahead. We expect revenue/EBITDA/PAT CAGRs of 15%/23%/23% over FY22-24E. VGRD trades at 36x/27x on our FY23/24 EPS estimates and we recommend Buy on the stock with a price target of ?275 (35x FY24E).

Electronic/Electricals/ECD revenues up 91%/62%/100% YoY

Electronics segment up 90.8% yoy, up 23% qoq, EBIT margin at 14.5% up 148bps yoy and down 336bps qoq. In Electronics, stabilizers grew strongly with huge potential to grow in inverters given lower market share of 3% in a market size of 120bn. Electricals up 62% yoy and down 20% qoq, EBIT margins at 6.8% down 258bps yoy, down 393bps qoq. In Electrical business, VGRD’s 95% sales is in retail market where construction demand is decent, while 5?7% sales is to projects. Switches & Switchgears expected to grow at 25% CAGR for next 5 years on current base of ?1.5bn. Electricals margin impacted mainly because of falling commodity prices, in Q1 inventory loss of ?100mn mainly due to drop in commodity prices. Management expects benefit of lower RM to start reflecting from August 2022 onwards

Consumer Durables up 100% yoy and up 1% qoq, EBIT at +1.3% (up 521bps yoy and down 40bps qoq). The demand across its ECD business comprising fans and water heaters being largest revenue contributors remains buoyant and the company has been focusing more on products like fans, water heaters, wires, and switchgears and increasing its share in premium products. Further traction could be seen as 40-50% sales in celling fans are premium fans and will improve further post BLDC norms, as 85?90% of manufacturing plant output is geared towards premium fans. Water Heaters have done well in Q1FY23 and company gained back lost market share in FY22 and further inching up. ECD margin were lower, management expects improvement in H2 with improvement in volumes and product mix.

Non South market expansion progressing well and increased to 47% in Q1FY23: South market grew 68.2% in Q1 yoy and contributed 53.1% vs. 56.8% in Q1FY22. Non-south market was up 95.6% yoy, accounted for 46.9% of sales vs. 43.2% yoy. VGRD has been steadily expanding its operations into the non-south market in an effort to de?risk its geographical concentration. It is transforming into a leading multi-product pan-India player in consumer electricals. It has more than 41,000 touch points in India; will add 3,000-5,000 every year over 2-3 years, mainly in the non-south market. In the last 2-3 years, it has also been able to build a strong dealer network for products such as C&W (wires), water heaters, and fans (52% of VGRD sales) in the non-south market. We expect all these efforts to help it gain market share in these regions and help its non-south contribution to increase to 50% over 2-3 years.

Increasing in-house manufacturing to propel growth

VGRD focusing on developing in-house manufacturing capabilities to bring out premium products at competitive prices, and this strategy is helping it to improve its product offering, supply chain, and gross margins. Historically, VGRD has higher share of outsourcing (60% in FY17) vs. in-house manufacturing (40%). In FY22, its mix was 40% outsourcing, 60% in house and expected to move it to 75% in next 2-3 years. We expect improving share of own manufacturing + product mix improvement to reflect in gross margins improvement going ahead. In the short term, there will be some pressure on margins, mainly because of volatility in RM. Management hinted that gross margins is likely to revert to pre?covid level of ~32% over the next two quarters due to a further 2.5% price hike in Q1FY23 for certain products and softening of commodity costs benefits to start reflecting from August 2022 onwards.

Outlook & Valuation

We believe the company’s strong balance sheet, cash flows and reputed brand with management focus on 1) evolving category mix and product mix, 2) in-house manufacturing from current 60% to 75% to improve the product offering supply chain and gross margins, 3) distribution enhancement in smaller towns and rural areas along with increase in non-south region to offer significant growth potential and positive outlook ahead. We are estimating strong operating leverage over the next two years, with revenue/EBITDA/PAT CAGRs of 15%/23%/23% over FY22-24E. VGRD trades at 36x/28x on our FY23/24 EPS estimates and we recommend Buy on the stock with a price target of ?275 (35x FY24E).

Key Risks

Sustained weak demand environment can affect earnings over the near term

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