Our investment thesis is premised on three key drivers?robust domestic demand for new vehicles, rising marketshare in the after-market by replacing unorganised players and the strong demand for power back-up applications. Exide?s dominance in the OEM (original equipment manufacturer) segment (77% share) and strong distribution network (2x nearest competitor) should support a revenue CAGR (compound annual growth rate) (FY10-13E) of 22%. Pricing power and an increase in captive lead sourcing should ensure profitability remains above the historical average.
Exide is India?s largest battery manufacturer. Its strong and expanding distribution network should help the company increase its marketshare in the replacement segment by taking share from unorganised players (40-45% currently). Moreover, its well-entrenched leadership in the OEM segment should enable it to benefit from robust new vehicle sales. We expect demand for new vehicles to grow at a CAGR (FY10-13E) of 13-18%. In the industrial segment, we believe the demand for power back-up solutions should remain healthy as the demand-supply gap for power is unlikely to diminish in the medium term. In the past, Exide?s profitability was closely linked to global lead price volatility. Over the past few years, the company has capitalised on its leadership position by increasing prices to offset lead price movements. In addition, the acquisition of captive smelting capacity (45% of requirements) is aiding these efforts. In our view, these measures should ensure that the company?s Ebitda (earnings before interest, taxes, depreciation and amortisation) margin remains in the range of 21-22% against a long-term average of 16-17%.
We initiate coverage of Exide Industries with a Buy recommendation, underpinned by our expectation of sustained growth in demand for automotive and industrial batteries. Exide?s strong distribution should help it to gain marketshare in the automotive replacement market while its leadership position with the OEMs should enable it to capitalise on the robust demand for new vehicle sales. The continuing power deficit in India should ensure strong demand for power back-up solutions. We believe these factors should drive revenue and EPS (earnings per share) CAGRs (FY10-13E) of 22% and 18%, respectively.
We value Exide Industries on a SOTP (sum-of-the-parts) basis at Rs 180/share, comprising Rs 160/share for the core battery business based on DCF (discounted cash flow), and Rs 20/share for its 50% stake in the life insurance joint venture. The company generates free cash flow and hence we favour the discounting of future cash flow as our preferred method of valuing the company?s battery business. For the life insurance business, our assumptions (new business margins, new business multiples, etc.) are in line with the ones used by the Indian financials team for valuing other life insurance companies in India. Risks include a slowdown in the overall automotive demand and loss of marketshare in the replacement market. Higher-than-expected investment in the life insurance or other unrelated businesses could also be potential risks to our estimates and recommendation.
We forecast domestic demand for passenger vehicles, two-wheelers and commercial vehicles to grow at a CAGR (FY10-13E) of 18%, 15% and 13%, respectively. Moreover, India is fast becoming a global small-car hub, underpinning even higher production growth. We believe Exide?s enviable market position in relation to the OEMs (77% share) should enable it to gain from the growth in overall automobile production. Our Indian utilities team believes that the power demand-supply gap in India is unlikely to diminish before FY15E, despite the addition of about 100 gw of new supply over FY10-15E. Demand for such batteries is driven by the need for power back-up (home and commercial), which is unlikely to slow, given the continuing power deficit.
Exide turned a net cash (Rs 5.4 bn free cash as of March 2010) company after an equity issue of Rs 5.4 bn ($120m) in January 2010. The company generated free cash flow of Rs 5.2 bn post-capex and investments over FY09 and FY10 and we forecast further cash generation of Rs 10 bn over FY11-13E.
We forecast Exide?s battery volume to grow at a CAGR (FY10-13E) of 18%, driven by strong growth in the automotive and industrial segments. Exide?s growth in the automotive segment would be driven by robust demand for new vehicles and increased marketshare in the replacement market. The volume for the industrial segment is a result of the requirement for power back-up and UPS and demand for these applications will continue to grow.