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Equity Research report by Standard Chartered Research India
Exide Industries: Top pick in the sector; initiate with OUTPERFORM
We initiate coverage with an OUTPERFORM rating and
price target of Rs201.
A preferred supplier for most Indian auto OEMs, we
expect Exide to track India’s strong auto sales growth.
We estimate 26% earnings CAGR over FY10-13E driven
by strong battery demand and margin expansion.
We value the core business at 18x FY12E earnings,
yielding Rs179, insurance at Rs14 and subsidiaries at
Rs8, to arrive at our price target of Rs201.
Preferred supplier status with OEMs – Given it is a preferred
supplier for most auto OEMs in India, we expect Exide’s auto
battery segment to track India’s strong auto sales growth. We
estimate the segment’s revenue CAGR at 28% over FY10-13E.
Industrial battery segment growing well – Rising demand for
UPS/inverters and strong railway demand are likely to result in
19% revenue CAGR over FY10-13E for the industrial segment,
in our view. We expect such strong growth to also mitigate
sector specific risk.
Rise in captive sourcing to boost margin – The company
expects to increase captive sourcing of lead from own smelters
to about 70% by FY13E from 45% currently. We estimate this
move is likely to lead to a 100bps increase in EBITDA margin
over FY11-13E.
Wide distribution reach – Exide has a strong and
geographically diverse sales and distribution force. It also has a
superb after-sales service program. Both are clear competitive
advantages.
Valuation: Price target of Rs201 – Robust earnings growth
and better return ratios could lead to a re-rating, in our view. We
value the core business at 18x FY12E earnings, yielding
Rs179, and the insurance business at Rs14 and subsidiaries at
Rs8. Our price target of Rs201 provides 23% upside potential.
Investment argument and valuation
A preferred supplier for most Indian auto OEMs, we expect Exide to track India’s strong
auto sales growth. We estimate 26% earnings CAGR over FY10-13E driven by strong
battery demand and margin expansion. We value the core business at 18x FY12E earnings,
yielding Rs179, subsidiaries at Rs8 and insurance at Rs14, to arrive at our price target of
Rs201.
Preferred supplier status helps auto battery sales
The auto segment contributes 62% of Exide’s total revenue, of which 40% is from OEMs and the
rest from the high-margin replacement market. Being a preferred supplier to OEMs and a major
player in the replacement market, we expect Exide to track India’s strong auto sales growth. Most
new models launched in FY10 feature Exide batteries: Chevrolet Beat, Honda’s Jazz and
AccordV6, Toyota’s Fortuner, Maruti’s Ritz and EECO, Fiat’s Grand Punto, Premier RIO, Tata
Sumo Grande and Caterpillar Dumpers. Being a preferred vendor for Tata Motors, Exide is also
the sole supplier of batteries for the Nano. Thus, a ramp-up in Nano sales over FY11-13 is likely
to benefit Exide in the long term.
Exide’s leadership in the OEM space in turn drives replacement demand for its batteries.
Customers usually replace their old batteries with the same brand as they are thought to be
reliable. Thus, an established relationship provides a dual benefit in terms of future demand for all
models as well as a recurring replacement demand over the life of the model. Replacement
demand has historically been less cyclical than OEM demand and provides a cushion when
automobile sales are in a cyclical downturn.
Led by strong brand equity, wide distribution network and excellent after-sales service, Exide is a
market leader in the organised aftermarket segment and, hence, is able to garner a premium in
this segment. Exide now plans to garner a higher share of the unorganized market (unorganized
players constitute half of the domestic retail after market). It intends to compete against the
unorganized players through brand awareness initiatives, after-sales service, targeted advertising
campaigns, as well as competitive pricing across select brands. With rising disposable incomes
and increasing awareness of branded products, we expect a natural shift to branded products
and, hence, Exide is likely to be the key beneficiary over the long term.
A robust outlook for the domestic automobile industry (our estimates factor in 17% CAGR over
FY10-13E) and likely growth in replacement demand (batteries are replaced on an average every
three years) is likely to drive a 28% CAGR in automobile revenue for Exide over FY10-13E, in our
view.
Industrial battery segment diversifies sector specific risk
The industrial battery segment represents ~37.3% of Exide’s net sales, which also mitigates
sector specific risk. Within the industrial segment, almost 65% is contributed by the inverter/UPS
segment and 16% by telecom. The higher contribution from the inverter/UPS segment has two
distinct advantages: 1) it is a relatively high-margin business and 2) this segment has significant
growth potential in India given power shortages.
Demand for UPS/inverters is likely to sustain going forward given large-scale computerisation of
banking networks and government departments, creation of high-powered data centres in IT and
financial services industries, increasing penetration of PCs and continued power shortages. The
railways business is also likely to be a strong growth driver given the government's priority to
expand railway connectivity, modernise facilities and make India a manufacturing hub for
coaches in South Asia.
Exide gets only 6% of revenue (16% of industrial revenues) from the telecom segment. Hence,
despite the slowdown in telecom in FY10 (due to the effect of tower sharing arrangements as
also the slowdown in capex by major players), Exide posted overall growth of 10% in the
industrial segment led by strong offtake from other segments.
Given the strong offtake expected in the UPS/inverter category as well as the incremental order
flow from the railway segment, we expect them to more than offset the likely decline in the
telecom space. We expect Exide to post 19% CAGR in the industrial segment over FY10-13E.
Rise in captive sourcing to boost margin
To reduce earnings’ sensitivity to fluctuations in raw material prices (primarily lead), the company
has embarked upon a three-pronged strategy:
Backward integration to reduce dependence on imported lead
Inventory control
Pass through clauses
Backward integration through acquisition of smelters
Exide currently procures ~25% of its lead supply from overseas markets, which exposes it to
currency fluctuations in addition to lead price volatility. To reduce its dependence on outsourced
lead, Exide acquired two smelting companies with total capacity of 36,000 tonnes at a cost of
Rs580m – 100% in Chloride Metals Limited (formerly Tandon Metals Limited) in 2007 and a 51%
stake in Leadage Alloys India Limited in 2008 (it recently hiked its stake to 100%). These
acquisitions have greatly reduced Exide’s reliance on imported lead. As of FY10 end, ~45% of
Exide’s lead requirements have been met by these two subsidiaries.
Since the acquisition of the two smelters, Exide has been improving its exhausted-battery
collection efforts. It purchases exhausted batteries in the open market at recycling collection
points located at its branch offices and other recycling stations, and from dealers and institutional
clients who collect them from their customers. We believe this strategy of reducing the
unorganised players’ supply of used batteries (by limiting the supply of exhausted batteries
available to the unorganised sector) will help it compete more effectively in the retail aftermarket
in addition to its recycling benefits at its own smelters.
Other backward integration measures include adding capacity and raising productivity at its
existing smelters, seeking out additional inorganic growth opportunities and increasing the
number of battery recycling collection points, most notably in rural India.
Increase in captive sourcing provides Exide assured lead supply, reduces earnings fluctuations,
reduces inventory carrying costs and provides significant price advantages.
Inventory control
Exide typically maintains lead in stock for approximately 45 to 60 days. It continuously monitors
its price movement and accordingly adjusts its lead stock level. The inventory ensures an
assured supply of lead, more often at a reasonable cost relative to the prevailing market price.
Price escalation clause
The company has price escalation clauses in its contracts with OEMs (auto as well as industrial).
Thus, any fluctuations in the lead price are a pass through albeit with a lag of a quarter.
Given that Exide is the only player that is backward integrated, its business model is relatively
hedged to lead price fluctuations compared with other manufacturers. These initiatives have
helped Exide boost its margins in FY10. The company intends to increase captive sourcing from
40% in FY10 (has reached 45% currently) to 50% by FY11E end and further to 70% by FY13E.
A 10% increase in captive lead consumption increases operating margins by 50bps in our view.
Our estimates factor in about 100bps margin expansion over FY11-13E.
Wide distribution reach
Exide has established an extensive automotive sales and distribution network that includes a
dedicated in-house sales force for OEMs and approximately 38,500 retail outlets for aftermarket
sales that include 12,500 dealers spread across 202 cities in India. The company distributes its
industrial products through a network of 187 in-house sales staff who primarily sell to OEMs and
institutional clients as well as 1,000 authorized dealers who sell to retail customers. Exide has
started its Bat Mobile service, which offers free road-side assistance to both customers and noncustomers
alike thereby helping build brand awareness and loyalty.
Exide recently re-organised its marketing and distribution set up by setting up Hubs and Spokes,
which are monitored by Regional Controlling Centres. Through this model, the company is
present in 206 locations (and it is likely to increase the presence in 250 more towns and cities in
FY11), which has enabled Exide to further increase its distribution network to reach customers in
B class and C class cities. The Humsafar module has also helped improve its presence across
the country wherein their batteries are sold through various motor garages, thereby reaching the
customers doorstep.
In order to strengthen its foothold in rural markets, Exide has started a CRM initiative called
Project Kisaan. The company has also tied up with companies like Indian Oil Corparation, HPCL,
Toyota Kirloskar for distribution of Exide batteries through their retail outlets.
We believe, Exide’s strong and geographically diverse sales and distribution force coupled with
its superior aftersales service program gives it a clear competitive advantage in the market.
Capex of Rs4bn to address capacity constraints, boost earnings
In order to address the growing demand in both the automobile and industrial segments, Exide
has embarked upon a capex of about Rs4bn in FY11 across its six plants as well as the new
facility in Ahmednagar. The company plans to expand its two-wheeler battery capacity by 60%
and the four-wheeler battery capacity by 28%. The company is increasing its motorcycle battery
capacity to 15.4m units (earlier 9.6m units) by setting up a new two-wheeler facility at its once
abandoned plant at Ahmednagar at an investment of Rs800m. The company is also planning to
increase its four wheeler battery capacity to 10.2m units in FY11 from 8m units earlier. The capex
would partly be funded through the Rs5.3bn raised via QIP in Mar 2010 and partly through
internal accruals.
Valuation
We like Exide for its leadership, strong distribution network and robust growth potential with
limited exposure to the telecom space. Its backward integration initiatives have relatively shielded
the company’s earnings from lead price volatility. Given its pricing power and with its captive lead
sources lending relative stability to earnings, Exide has traditionally traded at a 50% premium to
Amara Raja. We highlight below the key factors that justify Exide’s premium over Amara Raja.
Increased sourcing from captive smelters (likely to increase to 70% from the present 45%) is
likely to lead to margin expansion going forward. Led by a robust growth outlook for both
automobile and industrial batteries coupled with margin expansion, the stock is likely to get rerated.
We value Exide’s core business at Rs179 (at 18x FY12E; a 20% premium to its historic
one year forward multiple), its stake in ING at Rs14 per share, and the other subsidiaries at Rs8
per share valuing Exide at Rs201 per share, which provides a 23% upside from current levels. At
our imputed target price, the stock would trade at 20x consolidated earnings which, given its
return ratios in excess of 35%, looks reasonable.
Risks
Input Cost pressures
Increasing lead prices in the international markets continue to be a cause of concern for the
Indian battery industry. Volatile crude oil prices in the international market also affect the price of
PPCP, which is used for manufacturing battery containers. Increases in crude oil prices also
increase transportation costs for raw materials and finished goods.
Imports
Relatively inexpensive imports from China and some ASEAN countries have been a key concern
for the industry. Thailand, in particular, is seeking to expand the scope of its free trade agreement
with India to include batteries. While Chinese batteries have been flooding certain Indian markets
for quite some time, the price differential has come down over the last few years.
Financials
Expect 24% revenue CAGR over FY10-13E driven by auto segment
We expect Exide’s automobile segment to post a robust 28% revenue CAGR led by string
demand from both OEM and replacement segments. Strong demand from the UPS as well as
railways segments is expected to drive 19% revenue CAGR in the industrial segment over FY10-
13E. Overall, we expect Exide to post strong 24% revenue CAGR over FY10-13E.
Ramp up of smelters to boost margins over FY10-13E
Exide currently gets 45% of its lead requirement from its own smelters; it intends to raise this to
70% by FY13E. Reducing its dependence on lead imports could decrease earnings volatility –
from both lead price and currency fluctuations. Our estimates factor in a 100bps margin
expansion over FY10-13E driven by increased lead procurement from its smelters
Strong topline growth, margin expansion to drive earnings CAGR
A strong 24% revenue CAGR coupled with a 100bps margin expansion is likely to lead to a 23%
EBITDA CAGR over FY10-13E, in our view. We estimate earnings to post a 26% CAGR over
FY10-13E.
Company profile
Exide Industries (Exide) is India’s largest battery manufacturer with an installed capacity of 8m
PV batteries, 9.6m motorcycle batteries, and 1,750m Ah industrial batteries. In the automotive
sector, the company is a leading supplier of batteries for motorcycles, passenger vehicles,
commercial trucks and farm equipment. It sells its automotive batteries in the domestic market
under the brand names EXIDE, SF, SONIC and Standard Furukawa, while it exports its DYNEX,
INDEX and SONIC branded products.
Exide is also a leading supplier of batteries for industrial applications relating to railroads, telecom,
power back-up systems and materials handling. The company markets its industrial batteries in
India under the EXIDE, INDEX, SF, CEIL and POWER SAFE brands and in the international
market primarily under the CEIL, CHLORIDE and INDEX brands. The company has six
manufacturing facilities in India (Maharashtra, Haryana, Tamil Nadu and West Bengal) and two
smelting operations. Its key export markets include Singapore, Australia and Europe.
Exide has agreements with Furukawa Battery Company Limited, Japan for Lead Acid Storage
batteries including Hybrid batteries and Maintenance Free batteries for four-wheelers and
VRLA batteries for two-wheelers, Idling Stop System for auto batteries and with Changxing Noble
Power Sourcing Company Limited, China for manufacture of Deep Cycling E-bike batteries for
electric bicycles and scooters.
The company also has a 50% stake in ING Vysya Life Insurance Company Ltd, a joint venture
with ING Group, Netherlands, a significant player in the global life insurance industry.
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