We recently visited Asia to meet investors and discuss the sector. 2015 has been a difficult year across emerging markets. Disappointment was exhibited on the overall picture in India taking time to settle down. Despite this, interest in India is fairly high, with specific focus on bottom-up ideas for 2016. We discussed five key sector themes we see playing out, with focus on Gateway Distriparks, Cummins, ABB, and Voltas .
MNC Engineering and Railways themes get a thumbs-up—We pitched five key themes: (i) MNC Engineering: driven by cost competitiveness and patent enforcement; (ii) Railways: Dedicated Freight Corridor (DFC) seeing sharp pickup in execution; (iii) Operating leverage: companies benefitting from sweating expanded capacities in an upticking economy; (iv) Defence: Indigenisation focus continuing; (v) Renewables: On-ground progress being well ahead of expectations. MNC Engineering received strong interest with valuation push-back being discussed at length. Railways came as a positive surprise to investors with us discussing the Prime Minister’s Office (PMO) looking into the DFC project.
L&T—L&T, which began as an industry favourite, has been weak in 2015. Our concerns of Middle East (ME) impacting margins and order flow have played out with the disappointing performance in 1HFY16. Weak crude prices are leading to discussions on existing ME projects also getting impacted. Investors seem to have put L&T off-radar. From here on, in our minds, we believe a lot of the concerns have played out, and are now closely watching for early indications of stability/improvement.
Voltas—2% AC penetration surprised most: Air-conditioner industry is a segment we have been positive on and believe will remain strong in 2016. Most investors were surprised that AC penetration in India is only 2% and only 7% even if one considers only mid-income and above households. India needs 25%+ CAGR for the next 10 years to reach penetration levels similar to China of 20%+. Margins for AC segment were discussed esp. since Chinese players are seeing tough times at home. We continue to like Voltas given it’s a market leader that is not priced at a premium, and it has a strong distribution. Strong 3QFY16 can be expected post it seeing a 38% YeAR ON YEaR volume growth in October 2015 and 15-20% in November 2015.
Gateway—still a name to be known: The upside potential that Gateway Distriparks holds due to DFC commissioning in FY18E-19E, is not fully known among investors. Interestingly, at one-tenth of Container Corporation (Concor) size in terms of volumes, it has 66% higher profitability per TEU. Also it has increased its market share from 5.3% in FY12 to 7.3% in FY15. Rail volumes should see a 20% CAGR over FY15-25 taking into account DFC commissioning and some market share gains to 10% by FY21. Interest is picking up in the company, as the fundamentals are being viewed positively.
Cummins and ABB—valuations have not stopped stock appreciation in the past: Most investors agree that India is increasingly becoming an attractive manufacturing destination v/s China given rupee depreciation and lower hourly compensations. Among MNCs, Cummins has the clearest path and ABB listed will benefit from the entire parent manufacturing push.