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Valuation and View – New product launches in tractors to help MS

Escorts Kubota (EKL) 2QFY24 results were weak (EBITDA miss of ~13%) to our while in-line to street estimates. The key positives were, 1) better than expected gross margins at 32.3% (est 30.7%, +470bp YoY/ +210bp YoY), 2) favorable mix in railway business (led by spares and exports) led to EBIT margins at 18.9% (+380bp YoY) and 3) CE business EBIT margins at 10.2% (highest, +12.8% YoY). The management indicated sustenance of margins (assuming stable RM and price hike of ~1.7% in 1HFY24) have further headroom for margins expansion. We think this would not be tough but challenging given low-mid single digit volume growth expected in FES and stabilizing product mix benefit in railway segment. However, we remain constructive on growth opportunities for merged entity in tractor, implements, components sourcing and exports.

We believe, EKL is more vulnerable v/s peers as i) it derives >70% of its revenues from FES segment and ii) aggressive expansion plans by Sonalika, TAFE, John Deere, etc. to keep tight balance between market share and margins priorities. The valuations at 26.9x/22.6x FY24/25 EPS do reflect upon positive synergies post Kubota integration. We believe, benefits arising out of Kubota JV to start reflecting meaningfully from FY25E. We raise FY24/25 EPS by 3-6% to factor in sharper than expected RM decline. We maintain Neutral on the stock with revised TP of Rs2,995 (earlier Rs2,897). We value co at 22x Mar-25 EPS (vs 10year LPA of 14.5x) and build in revenue/EBITDA/PAT CAGR of 9%/45%/40.5% over FY23-25E.

Result Highlights – Healthy growth in CE/railways helped earnings

* Revenues grew 8.6% YoY (-12.1% QoQ) at Rs20.5b (est Rs21.5b, cons Rs20.8b) as Agri/railways/construction equip (CE) revenues grew -4.2%/+28.8%/+71.9% YoY. Agri ASP grew ~3% YoY (+1% QoQ) at Rs633k/unit (est Rs639.6k/unit).

* Gross margins came in better at 32.3% (+470bp YoY/ +210bp QoQ, est 30.7%). However, this was offset by higher staff cost at Rs1.67b (est Rs1.42b, +12.8% QoQ) and other expense at Rs2.3b (+1.6% QoQ, est Rs2.1b) led to miss on EBITDA margins at 12.9% (+480bp YoY/ -110bp QoQ, est ~14%, cons 12.8%) with EBITDA at Rs2.6b (est Rs3b, cons Rs2.67b, +72.4% YoY/ -19.5% QoQ).

* Segmental EBIT margins – Agri at 12.2% (-120bp QoQ), Railway at 18.9% (-240bp QoQ), CE at 10.2% (+260bp QoQ).

* Led by weak operating performance, Adj.PAT declined ~17% QoQ (+66% YoY) at Rs2.3b (est Rs2.6b, cons Rs2.3b).

* 1HFY24 performance – Revenue/EBITDA/Adj.PAT grew 12%/66%/79%.

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