Hold CEAT Ltd For Target Rs.1,214 - Edelweiss Financial Services
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Weak replacement behind big miss
CEAT reported Q3FY22 EBITDA of INR1.3bn, 51% below estimate. This was driven by weaker-than-expected replacement demand. Persistent raw material pressure also impacted the performance. We believe the weakness in replacement demand is also due to base catching up industry-wide. This, in our view, would have impact on FY23 mix as OEM volumes recover across segments
Accordingly, we are slashing FY23E EPS by 23% to INR83, factoring in lower volume and an adverse mix. Retain ‘HOLD’ with a TP of INR1,214 (earlier INR1,407) while rolling over the valuation to Jun-23E (13x PE).
Q3FY22: Miss on all counts
Q3FY22 revenue (INR24.0bn) missed our estimate by 10% due to weaker mix and lower replacement demand. As a result, despite ~2% price hike mid-quarter, volume and revenue declined by 2% QoQ. This along with continued RM pressure led to a 300bp QoQ drop in gross margin to 33.8%. As a result, EBITDA at INR1.3bn missed our estimate by 51%. Going ahead, we expect commodity pressure to ease due to a fall in natural rubber prices; however, higher crude prices could restrict the benefit.
Revised capex guidance
CEAT needs to find a balance between volume growth and pricing so that it can fund its FY22 capex of ~INR8bn (INR4.7bn in FY21) via an optimal debt-to-equity mix (0.7x in Q3FY22 versus 0.5x in Q3FY21 and 0.6x in Q2FY22). It has revised down capex guidance to manage cash flow: capex postponed for Chennai facility— phase 1 capex of INR7bn by one year and phase 2 capex of INR5bn indefinitely.
At the same time, CEAT aims to generate about 60% of revenue from PCR, 2W and specialty tyres. Also, given CEAT’s relatively small presence in TBR (high single-digit market share) and higher competitive intensity thereof, it will have to ensure TBR capacity is not RoCE-dilutive.
Outlook and valuation: Pricing power key; maintain ‘HOLD’
With the company aligning its capex intensity with cash flow, we expect it to be FCFpositive from FY23 provided it demonstrates a fine balance between capex and profitability. Given near-term pressure on margin, we retain ‘HOLD’ with a revised TP of INR1,214 (13x Jun-23E EPS). The stock is trading at FY23/24E PE of 13.6x/9.2x.
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