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Margin normalization to limit earnings growth

Strong demand environment, but price hikes inadequate as of now

* Havells India (HAVL)’s 2QFY22 earnings were 8% below our expectations despite the topline beat of 5%. Key operating parameters confirm our thesis of margin normalization from highs of FY21 even amid a strong demand environment. We expect the trend to continue over the next 2–3 quarters – leading to strong topline growth, but muted EBITDA/earnings growth.

* Key positives include a) volume growth (ex-Cables) in the double digits, which is likely to sustain over the next few quarters; b) an uptick in the B2B business, with volume growth reflecting in Cables hereafter; and c) promising trends for the festive season. Key negatives include a) inadequate price hikes taken to offset the commodity price inflation; b) ad spends continuing to be low at 1% of sales v/s guidance of 2–3% on a structural basis and 3.5–4.0% pre-COVID; and c) other expenses yet to normalize from the low levels of the last year or so.

* We broadly maintain our FY22–24E earnings estimate. TP remains unchanged at INR1,290. Our FY21–24E revenue / EBITDA / adj. EPS CAGR stands at 18%/14%/16%. Price hikes across categories and commodity price inflation are key monitorables as demand is not a concern. Maintain Neutral.

Commodity price inflation offsets strong topline show, as expected

* 2QFY22 snapshot: Revenue grew 31% YoY to INR32.2b and was 5% ahead of our estimate. EBITDA grew 6% YoY to INR4.4b and was 6% below our expectation. The EBITDA margin came in at 13.8% v/s 17.2% last year. Ad spends were marginal at 1% of sales. Adj. PAT grew 7% YoY to INR3b and was 8% below our expectation.

* 2QFY22 segmental highlights: (a) Havells (ex-Lloyd) – Revenue grew 33% YoY, with a strong performance across categories. Revenue from Cables and Wires was up 46% YoY, Switchgears 20% YoY, Lighting 34% YoY, and ECD (incl. others) 25% YoY. (b) Lloyd – Revenue was up 22% YoY; however, Lloyd reported PBIT loss of INR183m, suggesting higher competitive intensity, which limited price hikes in ACs.

Key highlights from management commentary

* Volume growth in Cables was muted, while other categories witnessed double-digit volume growth.

* Inventory levels have normalized in the channel now, with the company yet to witness any aggressive channel filling.

* The management has highlighted the need to take further price increases to completely offset the commodity inflation. It aims to do so as the demand momentum picks up going into the festive season. Price hikes in ACs (the Lloyd business) may be seen only next summer, indicating weak margins for the following quarter as well.

* Ad spends would increase from 3QFY22 with the onset of the festive season.

Valuation and view

* We maintain our FY22–24E earnings estimate and TP of INR1,290. At CMP, the stock trades at FY23E/FY24E PE of 55x/50x. We maintain a Neutral rating on expensive valuations. We prefer Orient and Crompton as preferred plays in the Consumer Electricals space and Whirlpool in the White Goods space. All three offer better earnings growth over FY22–24E at cheaper valuations.

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