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Gaining market share

Kirloskar Oil Engines (KOEL)’s 2QFY26 result was sharply above our expectations, driven by strong growth in the powergen, industrial, and export sectors. The company’s efforts over the past few quarters to improve product mix are yielding results now in terms of 1) strong growth of 40% in the powergen segment of KOEL versus 20% growth of the nearest competitor, which suggests that the company would have gained market share in 2QFY26; 2) better-than-expected industrial segment growth led by defense and railways and much broad-based growth expected going forward in this segment; 3) higher exports too led by a shift towards a GOEM-based model; and 4) higher margins driven by a better product mix, an increase in sales from HHP nodes, and better cost absorption. We raise our estimates by 6%/9%/10% for FY26/FY27/FY28 and roll forward our TP to Dec’27E earnings to INR1,400, based on SoTP methodology (from INR1,230 earlier). We reiterate our BUY rating on the stock.

Strong results with an all-around beat

KOEL’s 2QFY26 revenue at INR16b (+34% YoY) was 12% above our estimates. B2B segment revenue increased 35% YoY, while B2C revenue was up 30% YoY. EBITDA increased 30% YoY to INR2.1b (15% beat), while EBITDA margin at 13.4% was 40bp ahead of our estimates. 2QFY25 EBITDA included INR174m worth of provision reversals for overdue receivables made for a customer toward sales made in earlier years. Excluding those reversals, 2QFY25 EBITDA/EBITDA margin stood at INR1.5b/12.4%. Compared with that, EBITDA in 2QFY26 increased 45% YoY, while margin expanded 100bp YoY. On the segmental basis, the B2B segment EBIT margin improved 30bp sequentially to 11.2%, while the B2C EBIT margin stood at 7%. PAT at INR1.4b (+27 YoY) beat our estimate by 17%. Excluding the reversal of last year, PAT for last year stood at INR1.0b. For 1HFY26, revenue/EBITDA/PAT increased 20%/12%/7% YoY to INR30.5b/ INR4.0b/INR2.6b. For 1HFY26, OCF jumped 149% to INR2.4b, while FCF stood at INR1b vs. an outflow of INR100m in 1HFY25.

Powergen segment’s growth attributed to higher volumes and HHP sales

The powergen segment surged 41% YoY to INR6.8b, supported by broad-based demand across customer categories. Growth was driven largely by volumes and a higher share of HHP gensets, while pricing remained largely stable following the CPCB IV+ transition. Management attributed the strong performance to the continued success of its OptiPrime initiative, which has helped the company secure several large orders in the 1,500-2,500 KVA range. KOEL continues to strengthen its position in the domestic powergen market through a sharper focus on technically differentiated products and deeper customer engagement. We believe the company’s strategy of expanding its HHP offerings, coupled with a robust service ecosystem, positions it well to improve market share in the current demand upcycle. For FY26, we expect growth in the segment to be purely volume-driven. We thus expect Powergen revenue to clock an 18% CAGR over FY25-28.

Industrial segment to grow, led by an expanding portfolio

The industrial segment’s revenue grew 40% YoY to INR3.7b (13% ahead of our estimates), led by strong traction across the defense and railway verticals. The defense business maintained solid momentum, supported by emergency procurement orders and the timely execution of ongoing projects. The company expects the orders for emergency procurement to continue in the coming quarters. KOEL has also submitted the detailed design for the Indian Navy’s Make-I program, which can potentially position KOEL well for future opportunities in naval power systems. In the railway vertical, KOEL launched a new 400 HP engine for utility track vehicles, broadening the company’s addressable market. We view this as a continuation of KOEL’s steady progress in expanding its industrial portfolio beyond its traditional base. We raise our estimates and expect the industrial segment revenue to clock an 18% CAGR over FY25-28.

Distribution & aftermarket segment to maintain stability

Distribution and aftermarket revenue grew 13% YoY to INR2.3b, in line with our estimate. KOEL implemented a new field structure emphasizing key account management and advanced service offerings, which has already begun delivering results. The company’s extensive service network continues to be a major competitive differentiator, with customer requests reaching ~92,000 during the quarter. KOEL is working on expanding its spares and maintenance portfolio, which offers higher margins and recurring revenue visibility. The company expects the segment to sustain its double-digit growth trajectory supported by ongoing network expansion and a proactive service model. We expect the segment’s revenues to record a 14% CAGR over FY25-28, providing a steady source of revenue during cyclicality.

Exports gain visibility as OEM model stabilizes

Export revenue grew 39% YoY to INR1.7b (24% above our estimate). The MENA region continues to be the largest contributor, accounting for nearly 60% of total exports, while other geographies also witnessed a healthy recovery. The earlier transition to a Genset OEM-led model in the Middle East has now stabilized, leading to sustainable demand visibility and smoother operations. KOEL remains optimistic about medium-term growth in international markets as its product acceptance strengthens across regions. While the North American market is still in the early stages of development, management views it as a high-potential opportunity for long-term growth, with certification and distribution build-up progressing as planned. We project exports to clock a CAGR of 17% over FY25-28.

B2C business restructuring to set the stage for future growth

The B2C business, now operating under the new name ‘Fluid Dynamics’, reported a strong 28% YoY growth during the quarter, though a sequential dip was due to lower volumes, which impacted fixed-cost absorption. This moderation was largely transitional, as the business underwent a structural reorganization during the quarter. The segment achieved its highest-ever monthly billing in Sep’25, indicating the early benefits of the restructuring exercise. The B2C business will be transferred to KOEL’s wholly owned subsidiary, LGM, from 3Q. Management emphasized that this reorganization will enable sharper execution, greater customer focus, and enhanced accountability. The new leadership has streamlined operations to align with market needs, which should aid margin recovery. We expect the B2C segment to clock a CAGR of 17% over FY25-28.

Arka Fincap (AFHPL) building up retail capabilities

AFHPL’s revenue increased 20% YoY to INR2.3b in 2QFY26. It reported a total AUM of INR75.6b with a retail AUM of INR1.4b as of Oct’25, with monthly disbursements of INR600m, marking early success in its retail-focused transformation. The company opened 85 new branches and added nearly 900 employees in the last six months as part of its rapid network expansion. Importantly, the cost of borrowing declined to 8.3% in 2QFY26 from 9.8% at FY25-end, reflecting improved funding efficiency and a stronger balance sheet, with the debt-to-equity ratio now reduced to 4.0. The pivot from wholesale to granular retail lending, supported by a digital origination platform and strong risk controls, is progressing well for the company.

Financial outlook

We raise our estimates by 6%/9%/10% for FY26/FY27/FY28E to factor in 2Q performance. We thus expect a revenue CAGR of 17% over FY25-28, driven by 18%/18%/14%/17%/17% CAGR in powergen/industrial/distribution/exports/B2C. Over FY25-28E, we bake in a 120bp improvement in margins to build in better product mix and operating leverage benefits. We expect an EBITDA/PAT CAGR of 20%/22% over the same period.

Valuation and recommendation

The stock is currently trading at 29.8x/23.7x/20.2x on FY26/27/28E earnings. Adjusted with subsidiary valuation, KOEL is trading at 26.2x/20.9x/17.8x on FY26/ FY27/FY28E EPS, which is still at a significant discount to the market leader. We reiterate our BUY rating and roll forward our TP to Dec’27E earnings to INR1,400 (from INR1,230 earlier) based on the SoTP methodology.

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