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Apollo Tyres Rating: Buy- Company is primed for next leg of growth

Asset sweating to boost cash flows; stock offers best blend of earnings growth and cheap valuations; ‘Buy’ retained

Europe operations will contribute via an increase in capacity utilisation and mix improvement, as margins are at reasonable levels (except for transitory impact of RM prices).
Europe operations will contribute via an increase in capacity utilisation and mix improvement, as margins are at reasonable levels (except for transitory impact of RM prices).

APTY’s senior management team showcased its roadmap for the future, revenue growth strategy, and capex at their Corporate Day CY22. It plans to maintain financial discipline by controlling capex and working capital with aim to improve return ratios and control debt. While it is trying to attain price leadership in the Indian market, exports have emerged as an additional avenue to deploy capacity. Lastly, the management is very clear that it wouldn’t bunch large growth capex in order to avoid impact on cashflows.

Targets an RoCE of 12-15% by FY26 (v/s 5.5% in FY22)
A large part of the targeted improvement needs to accrue from India, led by demand revival, margin recovery and full utilisation of capacity. A large part of its greenfield AP capacity was being commissioned in FY22 and didn’t contribute to P&L in FY22. Europe operations will contribute via an increase in capacity utilisation and mix improvement, as margins are at reasonable levels (except for transitory impact of RM prices).

No immediate growth capex
APTY has currently assigned capex only for completion of AP capacity, debottlenecking and maintenance activities. Debottlenecking can enhance its current capacity by 5-8%. Its annual maintenance capex, including sustainability and digitalisation initiatives, would be at Rs 4 bn/€30-35 m in India/EU. Growth capex strategy would avoid bunching of large capex to ensure consistent free cash flow to the firm. Capacity utilisation in India stands at 80% (lower in TBR, but higher in PCR; this includes only part of the AP capacity) and at mid-80% in the EU.

Leading the price hikes in the industry to pass on RM cost inflation
RM cost inflation, which was seen as transitory, has turned into structural pressures due to exogenous factors. However, it is now seeing a peaking of commodity prices including crude prices. APTY has been the front-runner in raising prices, in terms of both quantum and frequency, during the current commodity inflation cycle. From Dec’20 onwards, it raised prices by 3% every 45 days (v/s 2% every quarter earlier). It raised domestic prices by 3-4% in Q1FY23 and by double digits in the EU. It indicated another price hike in the EU soon. Based on current RM prices, it expects margin pressures to remain in Q1FY23 and be a tad higher q-o-q in Q2FY23.

Valuation and view
APTY is all geared for the next leg of growth, with sufficient capacity to cater to demand from India and Europe. With capex for Phase II of the AP plant concluding in FY23, increase in capacity utilisation will generate higher cash flows and further deleverage its balance sheet. As compared to its peers, APTY offers the best blend of earnings growth and cheap valuations. The stock trades at 13.6x/8.7x FY23E/FY24E consolidated EPS. We value the stock at 12x Jun’24E EPS (v/s a five/10 year average P/E multiple of ~16x/12x). We maintain our Buy rating with a TP of Rs 265/share.

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