Stock Fundamentals

Greaves Cotton: Picking up steam

Parvatha Vardhini C | Updated on March 09, 2018



Apart from volume growth in key segments, higher prices should aid this engine maker

Improved realisations from the new BS-IV compliant engines, sanguine outlook for the farm equipment division and the company’s efforts to shore up its higher margin after-market business make the stock of Greaves Cotton (GCL) attractive.

The company is mainly in the business of manufacturing diesel engines for auto rickshaws, three-wheeled goods trucks and four-wheeled mini trucks such as the Ace, Ape, Maxximo and some of their variants. This segment accounts for 50-55 per cent of revenue. Verticals such as farm equipment, gensets (12-15 per cent each) and after-market sales (20 per cent) bring in the rest.

This mid-cap stock now trades at about 24 times its trailing 12-month earnings. Though this valuation is not cheap per se, the stock is at a discount to bigger peers such as Kirloskar Oil Engines (32 times) and Cummins India (35 times). Investors with a perspective of 1-2 years can buy the shares.

Signs of revival

After two years of double-digit volume growth, the medium and heavy commercial vehicles segment saw lacklustre offtake in 2016-17. On the other hand, sale of light trucks/mini trucks and three-wheeled goods trucks picked up in 2016-17 after sluggish growth in the previous year. Despite the temporary blip due to demonetisation, light truck volumes grew by 8 per cent in 2016-17, while sales volumes of three-wheeled trucks grew by 12.7 per cent in this period.

Going forward, auto rickshaw sales may depend on the opening up of permits by the government. But the upturn in the three-wheeled truck and four-wheeled mini truck is likely to continue.

After the jolt from the note ban, both rural and urban consumption are showing signs of revival. Greater thrust on rural India in the Budget will also put more money in the hands of the rural consumer.

The small trucks — used in last mile connectivity for delivery of goods in the neighbourhood or doorstep of the consumers — will hence continue be in demand. GCL’s clientele includes Piaggio, Mahindra and Mahindra, Atul Auto, Tata Motors and TVS. The company also added Eicher-Polaris to its client list about two years ago, supplying engines for their small truck, Multix.

Apart from volume growth, the company should also see price growth aiding the top line in the next few quarters. From April 1, 2017, the company has started selling BS-IV engines to all its clients. These engines are 8 to 10 per cent more expensive than the earlier ones. GCL is also gearing up for the implementation of BS VI emission norms in 2020, having developed a BS VI compliant multi-cylinder engine. This engine is currently undergoing trials. Commercial launch is expected in 18-24 months.

Apart from the measures announced in the Budget, rural incomes will also see a lift from the good rabi crop and the prediction of normal monsoon for this year.

GCL is also betting on these factors to push up sales in its farm equipment division. It has about 40 per cent market share in pump sets and is among the top three players in power tillers.

The company is also expected to launch a couple of products in the farm equipment space in the near to medium term. With growing farm mechanisation, prospects for farm equipment sales remain sunny. The company expects the good run of gensets to continue too.

Margin outlook

For the nine months ended December 2016, both the top line and bottom line growth remained muted, with slower offtake in the beginning of the fiscal, as well as the blip again in the third quarter due to the ban on high value currency notes impacting the numbers.

Net sales grew by 3 per cent to ₹1,242 crore over the corresponding period in 2015. Net profit remained almost flat at ₹137 crore. Operating margin came in at 13.8 per cent, about 140 basis points lower than in April-December 2015. Apart from modest top line growth, higher raw material costs also impacted margins. In the future, even as BS IV engines bring in higher realisations, cost increases involved in the manufacture of BS IV may cap the margin expansion to an extent. But ongoing cost-control efforts should help cushion some of this impact.

Besides, GCL’s recent entry into the multi-brand spares business in the after-markets should help margin expansion.

Companies typically command higher pricing power in the after-market segment than in supplies to original equipment makers (OEMs).

Margins in the spares business will be north of 20 per cent, according to the company. GCL has extended its after-market offerings by setting up service centres for small commercial vehicles, on a pilot basis recently.

Published on April 23, 2017

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