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GREAVES COTTON LTD
PRICE: RS.97
RECOMMENDATION: BUY
TARGET PRICE: RS.110
FY12E P/E: 13.2X
We recently met the management of GCL. The management is positive on
the growth outlook of the company and expects a good year ahead.
Supplies to Tata Motors LCV in 0.5 ton range has started but volumes are
thin. The company plans to expand capacity significantly in FY11 by adding
80000 units pa Greenfield plant near Aurangabad.
We maintain BUY with a revised DCF based target price to Rs.110 (Rs.102
earlier).
Key Highlights from our management meeting
Supplies to Tata Motors started. Significant increase in capex in
FY11 indicates the management's bullish outlook
Greaves currently has more than 80% market share in the single-cylinder diesel engine
segment in India. The company has developed engine specifically for Tata
Motors' Penguin project - 4W in the 0.5 ton range (both cargo and passenger). The
company has this sole-supply contract for a period of 10 years. Supplies to the auto
major have already started on a small scale and all-india launch is expected by Mar
2011. The volumes from this product could be large on complete ramp-up. In anticipation
of this, the company is stepping up capacity expansion in FY11.
The company is investing Rs 600 mn in phase I specifically to cater to Tata Motors
LCV in 0.5 ton category. The first phase will have a capacity of 80000 units and
should be ready by Mar 2011. Post completion of the first phase, the company will
monitor the market response to the LCV model and decide on the launch of the
second phase (also 80000 units) at the same location.
However, the management is quite optimistic of the success of the LCV and expects
to launch and complete the second phase in FY12 itself. Together, the expansion
will increase the company's auto engines capacity from 360000 to 520000 units pa.
Growth outlook remains positive
From the kind of feelers that the company is getting, it expects the demand growth
in the LCV segment to remain firm. This is on the back of rising urbanization, trend,
economic activity in rural as well as urban India, offtake by new OEMs (Tatas for
Penguin project) and infrastructure spends.
The company is facing capacity constraints at its manufacturing locations and is operating
on a three-shift basis.
Increasing in-house assembly of DG sets
Among its various initiatives, the company now plans to increase indigenization of
assembly of DG sets from 60% currently to 100%. The company had observed that
in the past its diesel engines were assembled by various DG set OEMs. Since GCL
did not have any control on these OEMs, the DG set would often have quality issues
which impacted the reputation of GCL in the engines market. To correct the situation,
the company has begun in-house assembly of DG sets. This way it can control
the final product quality as well as retain margins.
In this segment, the company competes with KOEL and M&M. Typically, the product
portfolio is inclined towards low to mid KVA engines. However, the company is not
a major supplier to telecom sector (like M&M) and hence has been spared the impact
of downswing in demand.
Target to expand non-auto engines business.
Bulk of engine revenues for GCL is accounted by the automotive division which caters
to the light transport segment (3W passenger and cargo). The growth in this
segment is dependent on the market expansion of 3W auto industry, which in turn
has grown at 8-12% CAGR in the past few years. The non-automotive engine segment
has higher growth potential driven by stand-by power, agricultural applications,
and marine and infrastructure applications.
GCL plans to strengthen its presence in marine engines segment where the company
was an established player in the 1990s. However, due to lack of focus, the
company lost market share and virtually vacated the space. GCL plans to regain its
lost position in the segment.
Other Highlights
The company indicated that Auxiliary Power (DG set) and Agriculture segment
(mainly engine-driven pumps and power tillers) are also doing well and demand is
firm. The Agri segment is driven by farm mechanization as labour availability and
wages have gone up due to NREGA. State subsidy also plays a strong motivator for
investing in power tillers.
The company is also focusing on spares (18-20% of revenues) and revenue from this
segment has climbed steadily in recent years as vehicle population has increased.
The company has also started providing channel financing for distributors.
On the infrastructure equipment side, the company indicated that concrete mixers
have recovered but the road building equipment is still soft partly due to monsoons.
Target Price Revision
In view of the strong outlook provided by the management, we have upward revisions
in our DCF model. Following which, we revise our target price to Rs 110 (Rs
102 earlier)
Valuation
GCL has changed its accounting year from June to March thus FY11 will be a truncated
fiscal with 9M numbers. We have accordingly presented annual numbers as
per revised format.
GCL is currently trading at 13.2x FY12 earnings (Since FY11 has only 9M and is not
comparable). The stock is trading at 8.4x FY12 EV/EBITDA basis.
In view of strong growth outlook for auto engines we maintain BUY on the stock
with a revised DCF based price target of Rs 110 (Rs 102 earlier).
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