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Weak mix and rising RM costs dent profitability

Commercializing tubular battery plant toward FY25 end

* Amara Raja’s (ARENM) 1QFY25 financials were weak, with EBITDA margin contracting ~90bp QoQ to 13.7% (est. 14.8%). The margin contraction was due to a shift in the product mix, with traded goods rising to 23% of revenue (vs. ~12% in 4QFY24), along with some increase in RM costs. On a positive note, the quarter saw healthy volume growth in most segments.

* We cut FY25E/FY26E EPS by 10%/6% to factor in the increase in commodity prices. While market seems to be upbeat about ARENM’s lithium ion foray, we remain circumspect of the returns from the business. The stock at ~28x/24x FY25/26E EPS appears fairly valued. We, hence, maintain Neutral rating with a revised TP of INR1,390 (based on 20x June-26E EPS).

Share of traded goods rises to 23% from 12% QoQ, denting margins

* 1QFY25 revenue/EBITDA/adj. PAT grew 13%/17%/23% YoY to INR31.3b/ INR4.3b/INR2.4b (est. INR29.9b/INR4.4b/INR2.6b). Revenue from the lead acid battery (LAB) business grew ~15% YoY, driven by growth in domestic and export automotive businesses.

* The company reported ~20% YoY growth in revenue from new energy business, predominantly mobility and energy storage.

* Gross margins came in lower at 31.1%, (-340bp QoQ, up 70bp YoY, est. 33.5%) due to a higher trading mix during the quarter at 23% (vs. ~12% in 4QFY24) and a rise in RM prices, partially offset by prices hikes of ~1% in Jun’24. It further took a price hike of 0.75% in Jul’24.

* EBITDA margin stood at 13.7% (est. 14.8%), up 40bp YoY/down 90bp QoQ).

* Lower margins and slightly higher depreciation led to lower adj. PAT of INR2.4b (up 23% YoY, est. INR2.6b).

* ARENM infused INR4.5b during 1QFY25 into its cell manufacturing subsidiary, ARACT, taking total equity investment till date to INR8.5b.

Highlights from the management commentary

* Domestic volume grows YoY across segments:  4W – Aftermarket 11%, OE 6-7%; ii) 2Ws – Aftermarket: 18-19%, OE: ~25%; iii) Inverter batteries – 15% YoY. International 4W volumes grew 45% YoY, led by new accounts in North America. Industrial declined 5% due to ~20% YoY decline in telecom segment.

* Replacement: ARENM expects steady growth in replacement segment with 4Ws expected to maintain 8-9% growth at industry level and 2Ws to see 12- 13%. It is confident of outperforming industry growth in both segments.

* The company has guided for INR8b capex for LAB, with INR4.5b for a new tubular battery plant and the rest for maintenance capex.

* New energy capex: The pack facility in the Telangana giga corridor has been completed and the commercial production is expected to start in 10 days from now. Construction is going on for the customer qualification plant and 2GWH NMC line. The commercial production should start by FY26 end or 1QFY27. Capex of INR20b will be required for these projects. In LFP, it is setting up an initial capacity of 4-5GWH, at an investment of INR20-25b capex. Commercial production to start in CY27.

Valuation and view

* ARENM’s venture into the lithium-ion sector is strategically sound given the opportunities in the segment and risks facing its core business. However, there are notable challenges: 1) market opportunities are limited by existing OEM partnerships; 2) the new facility will require years to become fully operational; 3) low-margin nature of lithium-ion manufacturing could dilute returns; and 4) long-term viability of technology remains uncertain despite the large capital investment.

* While the market is optimistic about ARENM’s li-ion initiative, we are cautious about its potential returns. We believe the stock trading at around 28x/24x FY25/26E EPS appears fairly valued. Therefore, we maintain a Neutral rating with a revised target price of INR 1390, based on 20x June-26E EPS

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