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Castrol India (CSTRL)
Energy
No growth for three quarters but stock trading at 23X CY2012E earnings. We are
perplexed by the high multiple commanded by Castrol despite disappointment in
earnings for the past three quarters. We highlight that the company has reported no
meaningful yoy growth in operating profits for the past three quarters led by (1)
sagging volumes and (2) contraction in margins (contrary to expectation of further
expansion). We maintain our SELL rating on the stock with a target price of `425.
Earnings have disappointed for several quarters now
Exhibit 1 gives the reported operating earnings for Castrol for the past three quarters and
compares the same on a yoy basis. We note that qoq comparison of earnings is not meaningful
given the seasonality of the business; 2Q and 4Q are typically the best quarters. Castrol has
reported yoy EBITDA decline of 12.2% in 2QCY11 and modest yoy increase of 1.1% and 1.4% in
1QCY11 and 4QCY10. The disappointment in earnings reflects (1) persistent decline in volumes
and (2) shrinking margins.
Volumes have been sluggish and will likely remain so
We highlight that Castrol has reported weak sales volumes for the past four quarters (see Exhibit
2). This reflects (1) structural slowdown in the industry and (2) loss of market share due to
significant pricing premium for Castrol products. We have long highlighted that volumes growth
will be modest given (1) increase in oil-drain intervals and (2) lower lubricants consumption at the
time of oil-drain. The recent slowdown in the economy will further accentuate the problem given
(1) slowdown in sales of passenger cars and commercial vehicles and (2) slower industrial activity.
Comparison with FMCG companies for valuation is akin to comparing apples to oranges
There have been arguments by a section of the Street that Castrol should command a similar
earnings multiple as FMCG companies given the similarity of the business. However, we have long
held our view that the earnings multiple to be accorded to a company should be based on the
earnings/cash flow profile of the company as opposed to sectoral classification. We see the
comparative earnings of FMCG companies for the past three quarters to substantiate our view (see
Exhibit 3). We note that most FMCG companies will likely generate ~17-22% growth in earnings
driven by robust volume growth over FY2012E and FY2013E. In comparison, we expect ~2%
growth in earnings for Castrol led by 2% volume growth.
Retain SELL with a target price of `425
We maintain our SELL rating on the stock given (1) potential downside of 16% to our target price
of `425 and (2) expensive valuation with the stock trading at 23X CY2012E EPS which is above its
historical P/E band of 14-18
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Castrol India (CSTRL)
Energy
No growth for three quarters but stock trading at 23X CY2012E earnings. We are
perplexed by the high multiple commanded by Castrol despite disappointment in
earnings for the past three quarters. We highlight that the company has reported no
meaningful yoy growth in operating profits for the past three quarters led by (1)
sagging volumes and (2) contraction in margins (contrary to expectation of further
expansion). We maintain our SELL rating on the stock with a target price of `425.
Earnings have disappointed for several quarters now
Exhibit 1 gives the reported operating earnings for Castrol for the past three quarters and
compares the same on a yoy basis. We note that qoq comparison of earnings is not meaningful
given the seasonality of the business; 2Q and 4Q are typically the best quarters. Castrol has
reported yoy EBITDA decline of 12.2% in 2QCY11 and modest yoy increase of 1.1% and 1.4% in
1QCY11 and 4QCY10. The disappointment in earnings reflects (1) persistent decline in volumes
and (2) shrinking margins.
Volumes have been sluggish and will likely remain so
We highlight that Castrol has reported weak sales volumes for the past four quarters (see Exhibit
2). This reflects (1) structural slowdown in the industry and (2) loss of market share due to
significant pricing premium for Castrol products. We have long highlighted that volumes growth
will be modest given (1) increase in oil-drain intervals and (2) lower lubricants consumption at the
time of oil-drain. The recent slowdown in the economy will further accentuate the problem given
(1) slowdown in sales of passenger cars and commercial vehicles and (2) slower industrial activity.
Comparison with FMCG companies for valuation is akin to comparing apples to oranges
There have been arguments by a section of the Street that Castrol should command a similar
earnings multiple as FMCG companies given the similarity of the business. However, we have long
held our view that the earnings multiple to be accorded to a company should be based on the
earnings/cash flow profile of the company as opposed to sectoral classification. We see the
comparative earnings of FMCG companies for the past three quarters to substantiate our view (see
Exhibit 3). We note that most FMCG companies will likely generate ~17-22% growth in earnings
driven by robust volume growth over FY2012E and FY2013E. In comparison, we expect ~2%
growth in earnings for Castrol led by 2% volume growth.
Retain SELL with a target price of `425
We maintain our SELL rating on the stock given (1) potential downside of 16% to our target price
of `425 and (2) expensive valuation with the stock trading at 23X CY2012E EPS which is above its
historical P/E band of 14-18
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