Crompton has a strong franchise in consumer electricals with leading positions in fans and pumps, and a top-three position in lighting. Despite underinvesting for many years prior to demerger in 2015, the company grew market share in a very competitive segment like fans. The new management now at the helm post takeover by private equity players has long experience in consumer companies like P&G, Philips, Racold and Pidilite. They have initiated a series of interventions which should give results over FY18-19. We see potential low hanging revenue and margin opportunities.
Premium fans, agri pumps and LED to drive growth, distribution also a key driver
Crompton’s big growth opportunity is in the white spaces within its existing categories which are premium fans and agricultural pumps. LED lighting is another growth area for the company. Distribution is also a big lever for the business, as the company transitions into an FMCG-like consumer offtake oriented distribution. This transition will take two years and should greatly enhance its distribution reach and quality.
Margins will gradually move up over 2-3 years
There is potential for gradual margin expansion from increasing salience of premium products, operating leverage and cost savings at the back end. There will be a hit to reported Ebitda margins over FY17-19 due to ESOP expenses, which are one time in nature, and not an ongoing expense.
Crompton has the highest FCF yield and ROE among our discretionary universe
We expect 23% earnings CAGR over FY17-19. Crompton trades at 31x FY18 adjusted earnings, which is the lowest among discretionary stocks while it has the highest return ratios within the sector. We expect growth to be impacted for the next two to three quarters from demonetisation. However, the stock correction by 10% since the event has priced in this slowdown. We initiate with an Outperform rating and a target price of R190. The key risk to our call is a prolonged slowdown in demand as a result of demonetisation.
Strong franchise with many long-hanging fruit
CGCEL is a leading player in electrical products, spanning segments like fans, pumps, lights and small appliances. We see a lot of potential for expansion in the product range and distribution. Historically strong franchise now getting requisite invesmtents: Crompton has a strong franchise in consumer electricals with market leading positions in fans (27% share) and residential pumps (27% share). There is a new professional leadership in place which has long experience in consumer companies. Management has started a series of interventions which should deliver results over FY18-19.
Gradual margin expansion likely:
We expect gradual Ebitda margin expansion over the next 2-3 years. The key drivers for this will be increasing salience of premium products within fans, operating leverage from mid-teens revenue growth and cost savings at the back end. Part of the gains will be offset by rising commodity costs in FY18.