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n HIL stock has corrected over the last one week; street has been skeptical on
Sylvania growth outlook in view of sluggish demand scenario emphasized by
Royal Philips Electronics NV in its key European geographies.
n HIL's management has also recognized bleak demand outlook in the European
region. However company has reiterated that Sylvania would report marginal
growth in FY12.
n We have projected marginal growth in Sylvania revenues in FY12. However we
tweak Sylvania's estimate downward to account for higher input prices and relatively
higher cost overheads
n Company is adequately positioned to benefit from the growth in consumer durable
space in the domestic market.
n We are positive on the company's business. However in view of limited upside
from the current levels, we downgrade our rating to 'Accumulate' from 'BUY'
earlier. We arrive at a DCF based revised price target of Rs 430 (Rs 455 earlier)
on company's stock.
Conference call Highlights
n Outlook for European region remains sluggish; previously undertaken cost rationalizing
measures likely to help Sylvania sustaining margins
n Royal Philips Electronics NV, the world's largest manufacturer of light bulbs,
dropped significantly in Amsterdam trading last week when it stated that the
company needs to rationalize cost to combat deteriorating demand for lighting
and consumer electronics.
n Philips has also raised concerns regarding the challenge of growing profit against
a backdrop of slowing markets for lighting and traditional electronics in Western
Europe and stiffening competition from low-cost Asian manufacturers.
n Street has been skeptical on Sylvania's (Havells fully owned subsidiary) operations
as it derives majority of its revenues from European region.
n While Havells management has recognized the slowdown in the key European
geographies, it has reiterated that Sylvania would post flat to marginal growth in
FY12.
n We highlight that in Q1CY11, Philips reported sluggish growth in automotive and
lamps. However LED based products, category which Sylvania is eyeing as future
growth driver, grew by 27% and has accounted for 14% of Phillips total sales for
the quarter.
n Management has stated that currently lighting lamps constitutes nearly 50% of
Sylvania's sales growth and fixtures accounts for remaining 50%. We believe
that company's focus on LED based products over next 5-7 years would increase
contribution from design oriented high margin fixture business.
n We also highlight that Sylvania has already reduced its fixed cost base substantially
vis-à-vis other European players on back of the restructuring programs-
Phoenix and Parakram that successfully concluded in FY11.
n While we expect Sylvania to report muted revenue growth in FY12E, we tweak
margins downward to account for higher input prices and relatively higher cost
overheads vis-à-vis Havells domestic business.
Domestic business remains buoyant on back of shift in preference
for premium products produced by the organized players
n Company has been experiencing resilient demand in the domestic market. Company
has been observing meaningful demand from tier II and rural areas.
n We believe that the shift in consumer preference for premium products produced
by organized players like Havells, Bajaj Electricals etc is the primary reason for
the demand growth in last few quarters.
n The new products launches especially Geysers were successful in FY11. Company
plans to introduce a range of small electrical appliances like electric irons,
juicer mixer grinders etc in FY12.
n Management believes that, the market size of such appliances could be close to
Rs 40 bn per year and therefore it offers significant opportunities for the company
and the peer group.
n Company aims at utilizing its existing distribution network for the launch of new
products. We believe that company's premium brand positioning in the consumer
appliances space is likely to facilitate the successful launch of the new product
categories.
n However management is confident of maintaining margins in the domestic business
going ahead on account of 1) steady cost management across the board 2)
increase in contribution from new products going ahead.
International presence offers geographical diversification to
take advantage of the upsurge in consumer appliances market in
Asian and African markets
n Company (including Sylvania) is present in nearly 50 countries across Europe and
Asia. Moreover it has been witnessing enormous potential in the emerging markets
like Africa where housing and real estate market is picking up.
n With an aim to establish itself as a prominent player in these markets, company
is planning to strengthen its dealer franchise in these regions. It would be offering
its diverse range of products within the parent brand Havells and the acquired
brand Sylvania to the overseas customers.
n Going ahead, the company expects substantial amount of revenues through exports
on account of revival of the European economy giving a boost to the legacy
market of Sylvania coupled with new market development in Asia and Africa
regions.
Revenues to grow on back of robust domestic demand; successful
restructuring at Sylvania to result in value accretion
n We project consolidated revenues to grow at 10% CAGR between FY11-13E Rs.
56 bn in FY11 to Rs. 68 bn in FY13E. Within the revenue streams, we expect
domestic sales to grow at 17% CAGR in the same period driven by all the segments-
switchgears, wires & cables and consumer appliances.
n We expect exports demand to remain flat in FY12E on account of the current
hold up in the European region. However we are positive on the growth outlook
in the Latin America, Africa and Asia region.
n We opine that the company would continue to prudently manage its overheads
in Havells and Sylvania. Sylvania restructuring is likely to have a positive impact
on company's operating margins.
n However in view of the increasing input prices and sluggish demand outlook in
European region we believe that the Sylvania would continue to face margin
pressure.
n We also highlight that Sylvania has a higher fixed cost base vis-à-vis Havells domestic
business. Therefore any shrinkage in demand for company's products is
likely to have a diminishing effect on the EBITDA margins due to higher operating
leverage. Therefore, in our projected financials we build 6% EBITDA margins
for Sylvania in FY12E.
n In our projected financials we build 9.4% EBITDA margins at consolidated level
for FY12E. We expect EBITDA to grow by 8.8% YoY to Rs 5.8 bn vis-à-vis normalized
EBITDA of Rs 5.35 bn in FY11. We highlight that Sylvania reported an
exceptional gain of EUR5.4 mn against revaluation of pension liability in Q4FY11.
n Net debt at Sylvania stood at EUR 127 mn at the end of FY11. This includes EUR
78.4 mn of term loan and EUR 37.2 mn of working capital loan. We believe that
refinancing of the loan would help the company in near term as company is
likely to utilize funds for future growth. Generation of adequate free cash should
help diluting debt levels over FY12-13E.
n Company has planned for a capex of Rs 1.9 bn in FY12. This mainly comprises of
Rs 250 mn in switchgears, Rs 300 mn in cables & wires, Rs 300 mn in consumer
appliances, and Rs 500 mn in lighting.
Valuation and recommendations
n At current price of Rs.385, stock is trading at 15.1x P/E and 9.5x EV/EBITDA on
FY12E earnings.
n We arrive at a DCF based revised price target of Rs 430 (Rs 455 earlier)
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