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High growth but valuations cap upside…

About the stock: Elgi Equipments (Elgi) manufactures a wide range of air compressors (~92% of revenue) and automotive equipment (~8%).

* Elgi is the second largest player in the Indian air compressor market (~22% market share) and among the top eight players globally

* Expansion in new international markets to drive long term incremental growth (rest of the world contributed ~50% in FY22)

Q2FY23 Results: Elgi reported decent Q2FY23 results, positively surprising with higher EBITDA margin of 15.2%.

* Consolidated revenues came in at | 738.7 crore, up 13.3% YoY

* EBITDA margins came in at 15.2% in Q2FY23 (above our estimates of 12.3%), thanks to price hikes taken by company

* Consequently, PAT was at | 71.9 crore, up 39.4% YoY

What should investors do? Elgi’s share price has grown by ~4.5x over the past six years (from ~| 65 in March 2016 to ~| 370 levels in February 2022).

* We remain long term positive on the stock but rich valuations cap upside. Hence, we maintain HOLD rating

Target Price and Valuation: We value Elgi at | 520 i.e. 50x P/E on average EPS for FY24E and FY25E

Key triggers for future price performance:

* Going forward, accelerated growth in international markets, new products like disrupted AB series compressors, good traction in India business to drive long term incremental growth

* We expect revenue, EBITDA to grow at CAGR of 19%, 27%, respectively, in FY22-25E owing to various cost control initiatives improving margins

* Net debt free b/s, double-digit return ratios & strong cash generation

Alternate Stock Idea: We also like Grindwell Norton in our coverage.

* High margin value added products and solutions oriented approach to drive margin expansion (from ~16.7% in FY20 to 21.0% in FY24E)

* BUY with target price of | 2460

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