Setco Automotive: Buy :: Business Line

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Setco Automotive, Geared up for the CV upcycle :: HDFC Securities

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Setco Auto - Book Profilt :: ICICI Securities, with PDF link

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Play on cyclical revival but fairly valued!
• Setco Auto (Setco) put up an impressive quarterly performance in
Q1FY15 with topline growing ~50% YoY to | 95.4 crore on the back
of strong production volumes in the M&HCV segment and improved
realisations on the back of product mix and increase in OEM prices
• Margins at 11.8% improved ~300 bps QoQ due to an improvement
in gross margins
• PAT at | 4.5 crore grew ~10% YoY despite the strong improvement
in topline, due to lower other income on a YoY basis
• The stock price has witnessed a strong rally in the past month (up
~50%), which has factored in most of the near term positives
Dominant supplier to M&HCV segment to benefit from cyclical upturn!
Setco is India’s largest clutch supplier for the MHCV segment with ~80%
share in the OEM segment. On the global front, Setco ranks among the
top five clutch manufacturers. Setco is not only the preferred clutch
supplier for OEMs but in majority of the cases is also the lone supplier
(100% - Tata Motors, Eicher Motors) while it supplies ~65% of Ashok
Leyland’s volumes. With a change of guard at the Centre and expectation
of a revival in the capex cycle, the depressed M&HCV segment has begun
showing signs of revival. Also, with the mining ban getting revoked &
fresh mining leases granted, the recovery in truck volumes may continue.
Hitherto strong replacement demand to ease off from H2FY15E onwards!
Setco’s volumes have largely held up well owing to strong replacement
demand. However, with the M&HCV industry seeing strong de-growth in
volumes in FY13, FY14, which saw the industry size halving from FY12
levels, replacement demand is likely to slow down from H2FY15E
onwards. The replacement segment is a high margin one as the company
had been selling through spares channel of OEMs. However, from last
year onwards, Setco has set up an additional channel for distribution that
is likely to have initial set-up costs. This would not allow strong margin
expansion from this segment as growth slows.
Low return yielding non-core investments diluting return profile!
Setco being in a cyclical business has suffered the vagaries of the
downcycle with margins dropping off to ~10% from the highs of FY11,
FY12 (18-19%). Consequently, return ratios have also deteriorated from
peak levels of ~37% RoE, ~28% RoCE to current levels of ~12% RoE,
~7% RoCE. With expectation of a revival in volumes likely to boost
margins owing to operating leverage, Setco’s return ratio profile is likely
to improve from current levels but is unlikely to reach the earlier peak as
the company has been steadily increasing investments in associate
concerns like Transstadia, Lava Cast, Setco Engineering to the tune of
~| 50 crore. This yields lower returns vis-à-vis its core business return
ratios, thereby diluting the return ratio profile.
Sharp stock rally captures most positives; advise to book profits!
We had initiated coverage on the stock with a fair value estimate of | 150.
With an improvement in sentiment on early signs of a recovery in OE
demand, the stock price has seen a sharp rally and captured most
positives accruing from the revival in the industry. At ~13x P/E FY16E
EPS and ~9x EV/EBITDA, the stock appears fairly valued considering the
business and financial profile. Thus, although the prospects of both
topline, bottomline growth remain on a cyclical upturn, considering the
high valuation multiples, we would advise our investors to book profits at
current levels.


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Setco Automotive M&H CV slowdown to eat into sales; valuation inexpensive; Hold :: Anand Rathi

Setco Automotive
M&H CV slowdown to eat into sales; valuation inexpensive; Hold
Key takeaways
Sales slowdown mirrors industry slump. We expect Setco Automotive’s
sales in 3QFY14 to have declined 12.8% yoy, to `758m, affected by the
sharp decline in offtake in the M&H CV OEM segment generally;
volumes in this segment would decline ~25%. To counter the slowdown
in domestic OEM sales, management is now focusing on exports and the
aftermarket. In FY13, the aftermarket and exports grew 16% and 31%
respectively, while OE sales declined 31%.
Margins and profitability to continue under pressure. We expect the
EBITDA margin, at 10%, to be down; it would still be down 710bps yoy. On
the lower fixed-cost absorption, EBITDA is expected to dip 48.8% yoy.
Hence, we expect PAT to fall 44.3%, to `54m. With the expected rise in
volumes of high-margin after-market clutches, the margin would hold at the
present level.
Short-term pain to continue, long-term brighter. We expect FY14 sales to
be flat, with a 200-bp drop in the EBITDA margin and profit slipping 16.7%.
However, in FY15, we expect the company to be a key beneficiary of the CV
cycle recovery, with increasing exports and good aftermarket potential as
added positives. We foresee 24% revenue growth, margins bouncing back
190bps to 14.1% and the RoCE rising from 15.3% to 18.5% over FY13-15.
Our take. We expect the company’s financial performance to disappoint in
FY14 as well. A recovery and upswing in the CV cycle in 2HFY15, however,
would see Setco as the foremost beneficiary. Its short-term prospects
continue to be dim. We maintain our Hold rating on the stock. We assign a
one-year-forward PE of 6x FY15e and arrive at a target price of `88. Risks.
Slump in auto demand, rise in commodity prices, insufficient price hikes by
OEMs.

Investment Focus - Setco Automotive : Buy: Business Line

initiating coverage on Setco Automotive Ltd. :: Shah Investor's Research Team

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initiating coverage on Setco Automotive Ltd.

 

CMP Rs.206

Target Price Rs.249

Recommendation BUY

Initiating Coverage

Setco Automotive (Setco) is a leading auto component company in India and among the top M&HCV clutch manufacturer in the world. We initiate Coverage on Setco (CMP Rs.20) with BUY recommendation with a target price of Rs.249; which is 21% upside from current levels and an investment horizon of 12 months. The stock at Rs.206 is currently trading at 8.8x FY13E EPS of Rs.23.2 and 7.9x FY14E EPS of Rs.26. Our target price is based on DCF analysis.

Setco’s unique business model, market leader in M&HCV OEM clutch segment, capacity expansion, robust distribution network in OES segment and divergence in new geographies and segment would lead to 20% CAGR growth in revenue from FY12-14E.

Investment Argument

F  Unique and robust business model

Setco is the largest supplier of M&HCV clutches to Tata Motors, Eicher and Asia Motor works, meeting up 100% of Clutch requirement. It also meets 65% of clutch requirement of Ashok Leyland. Setco is a domestic market leader with 85% market share in OEM segment and 35% market share in OES segment. Revenue from OEM contributes around 43% of total net sales while the OEs segment contributes around 49% of net sales. With increasing number of new generation CVs on Indian roads, the market for branded clutches is rising. Setco deals in OEM and OES segment, giving it a hedge in any downturn in the automobile industry and providing a steady sales pipeline.

F  Higher sales in OES segment will lead to margin expansion

With increasing number of CVs on Indian roads, the market for branded clutches is rising. Wear and tear requires replacement of a clutch every two years or after 200,000km for M&HCVs. The cover assembly needs to be replaced every 4-5 years. Demand in the replacement market is largely catered to by unorganized manufacturers. Going forward, we expect OES segment to contribute ~51% by FY13 due to robust sales of CV in FY10 and FY11 which would come up in replacement market in FY13 onwards. Margins are highest in case of exports, while in replacement markets it is at ~22%-24% vs. margins of ~12%-14% in the OEM segment. We expect EBITDA margin to expand to 20.7% in FY13 from 19.0% in FY11.

F  Entry into LCV segment; diversifying its existing business

Setco has recently commenced into supply of clutches for Light Commercial Vehicles (LCV). This acts as a good diversifier, considering that LCV are not subject as much to the cyclicality of the industry as the M&HCVs. Besides, from about 44% of total goods carrier sales in 2007-08, LCVs now garner about 55% of the total volumes, indicating that supplies to LCVs can partly help sustain component makers in times of a slowdown. Despite Setco being a new entrant in LCV clutch segment, it is likely gain market share as product approval time would be less (4-6 months), given relationship with OEM v/s any new entrant which would have a gestation period of ~3 years. We estimate LCV clutches contribution to be around 25-30% of the overall Setco volumes in next 3 years.

F  Subsidiary Performance

In Jan 2006, Setco had acquired UK-based automotive clutch manufacturer, Lipe clutch, a wholly owned subsidiary of the $10-billion Dana Corporation of UK and had been a technical collaborator of Setco. This facility is now known as Setco Automotive, UK. In FY07 Setco acquired the manufacturing plants of Haldex in Paris, USA, in an asset-purchase deal. It became the sole owner of the LIPE brand globally. It has already commenced hydraulics pressure converters business through its subsidiary in USA and also started supplying to Caterpillar. Both these subsidiaries have broken-even in FY11, contributing ~2% to consolidated PAT. Going ahead, we believe contribution from subsidiaries to remain more or less in the same range.

Outlook & Valuation

Setco has pro-actively increased its capacity over some years which have helped in maintaining its market dominance. With a CAGR growth of 11-12% of OEMs coupled with largely untapped OES and export segment, we estimate a 20% CAGR growth in revenues from FY12-14E. Due to introduction of BS III norms for CVs, we estimate significant upgradation in CV clutches which would translate into higher realization per clutches. Higher CV sales in FY10 and FY11 will lead to higher demand in OES segment which result into higher operating efficiency as margin in OES is higher as compared to OEM.

We recommend a BUY with a Target price of Rs.249 on DCF basis; with an investment horizon of 12 months and upside potential of 21%. 

 

Thanks & Regards

Shah Investor's Research Team

Setco Automotive :A good proxy to M&HCVs :Emkay

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We were joined by Mr. Shvetal Vakil - Executive Director and Mr. Moshin
Virani - Senior Manager of Setco Automotive, who shared their outlook on
the industry and company.
Key highlights
n Setco is the 5th largest clutch manufacturer in the world with ~90% market share
amongst OEMs in M&HCV segment. It currently meets ~75% of Tata;s requirement,
~70% of Ashok Leyland and 100% of Eicher. Company has also been chosen as the
preferred supplier for Daimler trucks to be launched in India. Global competitors include
Eaton - USA, Sachs - Germany etc. Domestic competitors include Clutch Auto, Luk,
Valio etc.
n Replacement segment (Setco market share of ~50%) has seen a strong growth over
the last 3 years at ~60%/30%/35% in FY09/FY10/FY11. Also, replacement margins are
at ~22%-24% vs margins of ~12%-14% in the OEM segment
n Product mix: Strong growth in M&HCV sales in FY11 led to OEM-Replacement-Export
mix of 43%-49%-6% as compared to 36%-57%-6% in FY10 respectively.
n Implementation of higher emission norms to lead to significant upgradation in CV
clutches. This should lead to higher realizations per clutch. Currently, realization per
clutch is the highest for HCVs at Rs 8,000-14,000 followed by MCVs at Rs 3,000-5000,
LCVs at Rs 1,500-2,000 and cars at Rs 800-1,500.
n Setco has recently ventured into LCV segment. Strong volume growth in this segment
to lead to strong topline for the company.
n Setco expects OEM market to grow at ~14-15% CAGR and replacement market at ~17-
18% CAGR for the next 2-3 years.
n Company expects tax rate to be maintained at MAT rate due to benefits from Uttarakhand
facility and export oriented units.
n Vision 2015: Top line of Rs 10bn, out of which, domestic of Rs 6.5bn. Targets export
growth at 2x domestic CAGR of ~32-33% to Rs 1.5bn. Subsidiary revenues of Rs 2bn
(currently Rs 225mn/Rs 130mn from USA/UK respectively). EBITDA margin of ~22-
23% (targeting ~100 bps expansion every year)
n Capex target of Rs 1.2bn over the next 4 years. Currently, production is being done in
2 shifts. Can increase to 3 shifts, if required.
Valuations
At the current market price of Rs 179, it trades at 9.4x/6.4x PER/EV-EBITDA on FY11 numbers.
Given a strong ROE of ~40% and ROCE of ~28%, the stock is trading at attractive valuations.
Key stock trigger would be its ability to scale up its export revenues.

Setco Automotive: Buy :: Business Line,

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Investors with a perspective of two-to-three years can buy the Setco Automotive stock. The company is the market leader in the supply of clutches for medium and heavy commercial vehicles (MHCVs) and counts Tata Motors, Ashok Leyland, Volvo-Eicher and AMW, among its clients.

Given that after two successive years of 26 per cent growth, the auto industry may face a slowdown, the investment does carry an element of risk. However, the company's superior margins, its strong presence in the replacement market and diversification efforts lend promise. At the current market price of Rs 159, the stock trades at a reasonable PE of about eight times its trailing 12-month earnings.

SUPPORT FOR CV DEMAND

Although headwinds in the form of slower GDP growth, high inflation and interest rates pose a threat, the auto industry is expected to face only a moderation in growth and not a slowdown of the order of 2008-09. As against a 0.71 per cent growth registered in 2008-09, SIAM expects the auto industry to grow at around 12 per cent in the current year. Besides, robust agricultural produce, good export-import growth and the picking up of the infrastructure and construction industry in the last few months suggests that there is room for growth in the CV industry.

This apart, the new BS-III emission norms for CVs introduced in October 2010 will do their bit to keep demand going as BS-III compliant engines require technologically superior clutches. These clutches, being value-added products, would also improve realisations for Setco Automotive. Another factor that will help OE (original equipment) demand trickle in is the launches planned by CV majors. In 2010, Setco has been approved as the sole clutch provider for Tata Motors' ‘World Truck' range of vehicles. Ashok Leyland too is launching about 25 vehicles types in its new ‘U-Truck' platform.

Outside of this, considering that clutches generally have a life-span of two-three years, the company will shortly begin benefitting from the clutch replacement demand for the vehicles sold since 2009. Stronger replacement demand also means better margins for the company. It currently derives about 55 per cent of revenues from the replacement segment and has partnered with existing OE clients to cater to the replacement market using their (OEMs') distribution network.

DIVERSIFICATION INITIATIVES

Setco has recently entered into supply of clutches for light commercial vehicles (LCVs). This acts as a good diversifier, considering that LCVs are not subject as much to the cyclicality of the industry as the MHCVs. Besides, from about 44 per cent of total goods carrier sales in 2007-08, LCVs now garner about 55 per cent of the total volumes, indicating that supplies to LCVs can partly help sustain component makers in times of a slowdown. In the next few years, Setco also expects its exports revenues to scale up to 15 per cent of total revenues from about 8 per cent currently.

Another positive for the company is its efforts to move up the value chain. Towards this, the company has entered into a JV with FTE automotive GmBH, Germany, a leading global manufacturer of hydraulic brake and clutch actuation systems. Setco expects to commence its hydraulic pressure convertor business in India and manufacture clutch actuation systems over the medium-term.

FINANCIALS

For the year-ended March 2011, net sales grew by 43 per cent year-on-year to Rs 303 crore, while net profits came in at Rs 33 crore, growing by about 85 per cent. Given its status as the market leader and Tier-I supplier, the company has been able to maintain EBITDA margins at a healthy 19-21 per cent in all the four quarters of 2010-11.

Buy Setco Automotive-- M&HCV clutch leader; :: Anand Rathi

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Setco Automotive
M&HCV clutch leader; initiate with a Buy
We initiate coverage on Setco Automotive, the leader in
M&HCV clutches, with a Buy and a target of `182. Setco’s
unique business model, expansion and upswing in vehicle
volumes would lead to 29% earnings CAGR over FY11-13e.