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Topline, bottomline prospects dip…

Escorts reported a steady operational performance in Q4FY21. Total operating income was at | 2,211 crore, up 60.1% YoY. Within its segments, gross revenue from tractors was at | 1,739 crore (volumes up 62.1% YoY to 32,588 units, ASPs up 1.9% QoQ to | 5.33 lakh/unit). Gross revenue from construction equipment (CE) grew 53.3% YoY to | 322 crore while railway equipment division (RED) posted revenue growth of 35.6% YoY to | 146 crore.

EBITDA margins at 15.6% were down 245 bps QoQ amid gross margin deterioration of 280 bps. Tractor division EBIT margins fell 310 bps on to 17%. Consequent standalone PAT came in at | 266 crore, up 89.6% YoY. Escorts declared a dividend of | 7.5/share for FY21.

Covid resurgence, high base dampen tractor sales outlook

The domestic tractor industry ended FY21 at the highest ever level of 8.99 lakh units (up ~27% YoY) on the back of sustained positivity in rural sentiment (back-to-back years of good rainfall, lesser pandemic incidence) and cash flows (high crop production & procurement and government spends on rural infra).

Macroeconomic factors (under-penetration of farm mechanisation, expectation of normal monsoon, continued government focus on boosting rural incomes) remain intact for the industry but the sharp resurgence of Covid-19, including in the rural belt this time around, is seen clouding demand environment over the short term.

As per the management, two-third of Escorts dealers are either closed or functioning at limited capacity, at present. Coincidence of Covid pain with high sales volume base has prompted the company to guide for low to mid-single digit volume growth in FY22E. With Escorts also coming off a year of all-time high offtake (1.07 lakh units), prospects for healthy volume growth appear limited. We build 6.5% tractor volume CAGR over FY21-23E.

Cost inflation, product mix deterioration to impact margins

Raw material costs have increased 8-10% for Escorts in the past few months amid a sharp spike in prices of key inputs like steel and rubber (combined form ~70% of a tractor by weight). The company has been able to pass on just ~5% via price hikes so far, with one more scheduled for Q2FY22E. Apart from steep cost inflation, other margin headwinds are beginning to appear.

With non-agri tractor segment set to grow faster than agri tractor segment in FY22E, product mix (in hp terms) is set to normalise towards previous levels. Faster growth of lower-margin verticals (CE and RED) vs. tractors is set to impart further pressure while within tractors there are limited avenues for additional operating leverage benefits unless exports performance picks up commensurately. We model a drop in margins to 12.5% in FY22E before they are seen rising to 13.5% in FY23E.

Valuation & Outlook

With moderation in both revenue & margin prospects, we cut EPS estimates for FY22E-23E, going forward. We retain our HOLD rating on Escorts, valuing it at | 1,140 on SOTP basis i.e. 13x P/E on core FY23E EPS and 30% holding company discount to treasury shares (earlier target price | 1,500).

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