Edelweiss

We expect Sylvania?s margins to improve on the back of the two restructuring programmes effected by the company, though revenue growth is not likely to be significant. Further, Havells India Limited?s (HAVL) debt burden is likely to dip as the company pays off the acquisition debt. On the cost front, the restructuring exercise underway is likely to lead to lower employee expenses-likely to be in the 18-19% range of sales by FY12E from ~22% currently-which will aid Sylvania?s turnaround by FY11.

Distribution network

All of HAVL?s sales are through its distribution channel, which is one of the unique characteristics of its business model, in our view. This strategy, backed by a product profile spanning the power distribution value chain, leverages on the reach of distributors in a business in which consumers are widely spread. We believe a strong distribution channel reduces costs associated with increasing market share in a diverse and competitive market and hence is one of the key structural value drivers for the company.

A key growth driver

HAVL is one of the fastest growing fans brand in the Indian market (worth Rs 20 billion). Bringing innovation in its product portfolio, the company launched energy efficient fans (consuming only 50W), India?s largest selling energy efficient fan. With strong growth expected in the segment, we expect the company?s growth momentum to continue and post a 15% CAGR between FY09 and FY12E. We believe the company could require capacity expansion going forward in order to tap into the growing fans market.

Outlook and valuations: We believe Sylvania?s turnaround is likely to be the most important trigger for HAVL. In our view, the restructuring at Sylvania is likely to yield results in FY11 and hence we expect it to turn positive at the PAT level by FY11. Our one year forward DCF value for the consolidated business is at INR 750, implying an upside of 33% from the current level over a one year time frame. At our one year target price of Rs 750, the stock?s target PE is at 13.8x FY12E. Historically, the stock has traded at an average of 13.0x on a one year forward P/E band. We initiate coverage on the stock with a ?BUY? recommendation. On a sector relative return basis the stock is rated as ?Sector Outperformer?.

HAVL is looking at operational profitability during FY11 and thus break even at the PAT level in Sylvania. Failure to reduce its operational costs including employee costs could affect/ delay the restructuring of Sylvania. Slowdown in key consumer segments of construction and industrial capex could impact the domestic business.

Lower-than-anticipated volume growth and higher price cuts in the domestic business are risks to our estimates. Also, slowdown in power T&D could impact the demand for its cables and wires business.

Weak global demand in key geographies of Europe, Latin America, and Asia could impact Sylvania?s growth beyond our assumption of decline in EUR revenues. Sharp and adverse movement in commodity prices and the inability of the company to pass on the impact of the same is one of the key risks.

HAVL could also look at equity infusion to meet its debt obligations in subsidiaries and fund future growth, which could dilute earnings.