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Exide Industries (EXID.BO): Replacement demand poised to recover,
initiate with Buy, CL
Investment view
We initiate coverage on Exide Industries with a Buy (on Conviction Buy List)
and a 12-month target price of Rs184 (17X FY13E P/E) implying 20% upside
potential.
Replacement demand, the largest swing factor for industry revenues
will begin a strong recovery over next two quarters, in our view.
(1) Trailing auto demand growth (over the previous 24-48 months) is a key
swing factor for battery industry revenues (correlation implies 57% rsquared), in our view (Exhibit 11). (2) Indian auto industry experienced its
strongest demand growth across segments during FY10-FY11. Thus, trailing
auto demand will approach its peak in FY13-FY14. (3) As a result, we believe
India’s battery industry could witness its strongest revenue growth during
FY13-FY14, as vehicles sold in FY10-FY11 require replacement batteries.
Industry leader with a strong operating and financial profile, and
relatively defensive exposure in the auto sector, in our view.
(1) Exide Industries has 64% share of the organized market, with the widest
manufacturing and distribution presence in the country. (2) Top quartile
cash returns for six consecutive years, with one of the strongest financial
profiles relative to Indian and global industry peers (Exhibits 17-22).
Exploring key themes
(1) Dynamics of lead-acid battery recycling and regulation. We believe
production processes in the small scale sector are unsustainable due to
environmental and qualitative risks (Exhibits 35-37). (2) Industry
consolidation is the result of scale benefits, and a threat to smaller
operators (Exhibits 38-44). (3) Lead-acid technology is likely to remain the
preferred technology particularly in emerging markets over the long term.
Catalysts
(1) We think the Indian battery replacement cycle will begin a strong
recovery after the December 2011 quarter. This conclusion is based on our
study of the historical relationship between trailing auto demand growth
and battery demand. (2) We also think that demand in the power back-ups
segment will grow at a steady rate of 12%-13% over FY11-FY14E, given
significant under-investment in power transmission and distribution, driving
persistent unreliability of power supply in the country (Exhibits 32-34).
Valuation
(1) The stock is trading at mid-cycle on P/E, EV/EBITDA and P/B, which we
think is an attractive entry level given the potential upswing in replacement
demand. (2) Our valuation is backed by Director’s Cut and P/B vs. ROE
regression – we find a strong correlation of the stock’s valuation to changes
in returns, which are set to improve over FY11-FY14E.
Key risks
(1) Short-term volatility in lead prices, (2) weaker-than-expected demand in
the power back-ups and OEM segments, (3) higher-than-expected success
of Amara Raja Batteries, in gaining incremental market share, and (4)
further diversification or capital allocation to non-core business such as
insurance, which we would view as incrementally negative for investors.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Exide Industries (EXID.BO): Replacement demand poised to recover,
initiate with Buy, CL
Investment view
We initiate coverage on Exide Industries with a Buy (on Conviction Buy List)
and a 12-month target price of Rs184 (17X FY13E P/E) implying 20% upside
potential.
Replacement demand, the largest swing factor for industry revenues
will begin a strong recovery over next two quarters, in our view.
(1) Trailing auto demand growth (over the previous 24-48 months) is a key
swing factor for battery industry revenues (correlation implies 57% rsquared), in our view (Exhibit 11). (2) Indian auto industry experienced its
strongest demand growth across segments during FY10-FY11. Thus, trailing
auto demand will approach its peak in FY13-FY14. (3) As a result, we believe
India’s battery industry could witness its strongest revenue growth during
FY13-FY14, as vehicles sold in FY10-FY11 require replacement batteries.
Industry leader with a strong operating and financial profile, and
relatively defensive exposure in the auto sector, in our view.
(1) Exide Industries has 64% share of the organized market, with the widest
manufacturing and distribution presence in the country. (2) Top quartile
cash returns for six consecutive years, with one of the strongest financial
profiles relative to Indian and global industry peers (Exhibits 17-22).
Exploring key themes
(1) Dynamics of lead-acid battery recycling and regulation. We believe
production processes in the small scale sector are unsustainable due to
environmental and qualitative risks (Exhibits 35-37). (2) Industry
consolidation is the result of scale benefits, and a threat to smaller
operators (Exhibits 38-44). (3) Lead-acid technology is likely to remain the
preferred technology particularly in emerging markets over the long term.
Catalysts
(1) We think the Indian battery replacement cycle will begin a strong
recovery after the December 2011 quarter. This conclusion is based on our
study of the historical relationship between trailing auto demand growth
and battery demand. (2) We also think that demand in the power back-ups
segment will grow at a steady rate of 12%-13% over FY11-FY14E, given
significant under-investment in power transmission and distribution, driving
persistent unreliability of power supply in the country (Exhibits 32-34).
Valuation
(1) The stock is trading at mid-cycle on P/E, EV/EBITDA and P/B, which we
think is an attractive entry level given the potential upswing in replacement
demand. (2) Our valuation is backed by Director’s Cut and P/B vs. ROE
regression – we find a strong correlation of the stock’s valuation to changes
in returns, which are set to improve over FY11-FY14E.
Key risks
(1) Short-term volatility in lead prices, (2) weaker-than-expected demand in
the power back-ups and OEM segments, (3) higher-than-expected success
of Amara Raja Batteries, in gaining incremental market share, and (4)
further diversification or capital allocation to non-core business such as
insurance, which we would view as incrementally negative for investors.
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