Edelweiss rates Voltas as ‘buy’, says profitability intact despite high volumes

By: | Published: August 8, 2016 6:08 AM

Voltas's Q1FY17 numbers, once again, highlight the company’s ability to push AC volumes without diluting profitability. Overall, net sales at Rs 18.6 bn (up 19% year-on-year) drove Ebitda to Rs 1.9 bn, leading to PAT growth of Rs 1.6 bn (up 53% y-o-y).

With 29% growth in sales of cooling products in Q1FY17, Voltas sustained its market share dominance. With 29% growth in sales of cooling products in Q1FY17, Voltas sustained its market share dominance.

Voltas’s Q1FY17 numbers, once again, highlight the company’s ability to push AC volumes without diluting profitability. Overall, net sales at Rs 18.6 bn (up 19% year-on-year) drove Ebitda to Rs 1.9 bn, leading to PAT growth of Rs 1.6 bn (up 53% y-o-y). The result underscores the industry’s ability to resort to deeper penetration in pursuit of growth rather than discounting, as was the case in a few quarters of FY15. Clearly, the differentiation will then depend on the reach of individual companies. Herein we believe Voltas can harness its current distribution network for pushing sales of ACs and other allied products, making us repose our faith in the company’s sustainable value creation. At current valuations we advise investors to bank on market volatility given that the risk-reward is evenly balanced. Maintain ‘BUY’ with revised target price of Rs 365 (Rs 345 earlier).

Superior growth in AC business implies dominance: With a solid 29% y-o-y growth in cooling product sales in Q1FY17 driven by the strong summer, Voltas reported revenue growth of 18% y-o-y. Market share dominance sustained at 22% this season led by several new product launches with focus on energy efficiency. Strong operating leverage, better product mix and lower ad spends led to 240bps y-o-y margin expansion in Q1FY17.

Selective approach to new project bids continues: Q1FY17 order intake was strong at Rs 9.5 bn (up 60% y-o-y) driven by 2 large jobs from Qatar, taking order book to Rs44 bn (up 10% y-o-y, 12% q-o-q). Management once again reiterated that a meaningful recovery will take time. In the current tepid environment, we estimate FY17 Ebit margin in the 1.5-2.0% band (1.9% reported in Q1FY17).
Outlook and valuations Structurally positive
Given that consumer durable businesses have rerated due to higher expectation of long-term earnings growth on rural penetration/GST benefits, we find a case for assuming exit multiple for Voltas at 27x (versus 25x) for cooling products & accordingly estimate a revised target price of R365 (R345 earlier).

Conference call: highlights
(i) EMPS business

(a) Order intake and order book: Voltas reported a strong 60% growth in order intake to R9.5 bn led by 100% growth in international projects to Rs 7.7 bn. It won Rs 5.3 bn order for MEP works of a mall and R2.4 bn for MEP work of a commercial building, both in Qatar. Domestic orders declined 10% to R1.8 bn. Current order book at Rs 44.2 bn (up 10% y-o-y) is at 15 quarters’ high comprising 54% from international projects.

(b) Outlook on international business: With oil prices falling below $ 45, GCC governments have responded by launching austerity drives. The industry continues to be exposed to tighter liquidity conditions, evidenced by certification & payment delays. Management focus is primarily on commercial closure and settlement of completed projects.

(c) Outlook on domestic business: There has been an increase in enquiry levels and order finalisation during the quarter mainly on account of public sector spending and there are increased opportunities from urban infrastructure, rural electrification, water and smart cities.

(d) Management take on margins going forward: Management indicated that current threshold margins are 4-5% and is looking to move it to 8% in 3-4 years.

(ii) AC business

(a) 30% sales growth in Q1FY17: Management indicated that secondary growth is far higher than the 29% growth in primary segment as inventory levels were high.

(b) 200bps plus margin jump: Margin improvement in AC business on back of volume leverage, better product mix and lower advertisement expenses during
the quarter.

(c) Market share: Current market share is 22% and the company is confident of maintaining this over 4-5 years. It will protect its market share .The company is
also moving faster towards new energy efficient products like inverter AC. The pricing of inverter AC market is still high and market has still not grown in the invertors market. Voltas is still among top 5 in the inverter AC segment.

(d) Window vs split AC market positioning for the company: The window AC market is rapidly shifting in favour of split AC. Split AC market in FY15 was 69% and currently it is 73%. Window is still 25% of the market and margins are better in window than split. Voltas’ marketing strategy is more tactical and long term.

(e) Long-term guidance: Long-term structural story in the AC business remains strong with deeper penetration expected going forward. It expects 15% CAGR over the next 5-7 years. Margins are expected to be between 12% and 13% on sustainable basis.

(f) Air cooler business: The company has sold 50K units during Q1FY17 and believes it has
understood the dynamics of air coolers now.

(iii) Others key takeaways

(a) ACs still remain an urban affair and more than 60% sales are in tier 1 & 2 cities. Total touch points 11,000 currently. GSK Nilesen covers 85% of multi-brand outlets.
(b) In terms of order intake in EMPS segment, many competitors have made substantial losses in ME. There was an opportunity to cherrypick some orders during Q1FY17. Capital employed increased 20% q-o-q; the rise was primarily on account of ramp-up in recent project wins, which should not be perceived negatively. The company does not book margins till 20% project is completed. Management remains confident of gradual margin improvement in the EMPS business.
(c) Voltas is bidding for some REC projects in Madhya Pradesh in the EMPS segment. Apart from that, traction is seen from airport modernisation, metro projects etc. On electrification, the company expects R93.5 bn projects to be awarded over the next 6-9 months. Voltas stated that these projects are expected to be reasonably profitable.
(d) EESL tenders (March 17 ) for 0.1 mn ACs: It is at a nascent stage since installation, storage, warranty need to be ascertained.
(e) On Rohini, which has not made any profits over many years, management indicated that operating margins are now positive.
(f) On Sidra, management believes it does not need to make any more provisions on this project.

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Voltas Ltd, part of the TATA group which holds 30.3% stake, is a leading air conditioning and engineering services provider. Founded in 1954, it offers engineering solutions through its three business segments in areas such as heating, ventilation and air conditioning, refrigeration, climate control, electromechanical projects, textile machinery, machine tools, mining and construction, material handling, water management, building management systems, pollution control and chemicals. Voltas has a higher market share of ~21% in the residential AC market. Voltas has one of the highest distribution touch-points (over 11,000 touch-points/7000 dealers). Unitary Cooling Product and Engineering & Mechanical Project Segment contributes to 90% topline of the company, while the former contributes more than 60% of the profits of the company.

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