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Recommendations India

CEAT Q1FY15 results update

July 24, 2014, Thursday, 12:37 GMT | 07:37 EST | 16:07 IST | 18:37 SGT
Contributed by Nirmal Bang

CEAT reported results which were below expectations. Sales were broadly in line with expectations but EBITDA margin declined by 160 bps QoQ. The decline in margin is on account of wage revision, higher ad spends and higher conversion charges while gross margin remained broadly stable.

- Net sales increased 10.4% YoY driven by 11% volume growth. Volume growth was driven by higher sales to replacement market while sales to OEMs stood lower. Lower exports yielded in lower realizations.

- EBITDA margins witnessed decline on both YoY and QoQ basis despite stable gross margins due to rise in employee cost, higher ad spends and higher conversion cost. EBITDA margins stood at 9.1%; down 200 bps QoQ and 270 bps YoY.

- Employee cost witnessed increase due to higher incentive given during the year. Moreover, long term settlement of Nashik plant also led to an increase in employee cost.

- Other expenses included higher advertising cost as the company is consistently focusing on branding.

- It also included higher provisioning for an outsourced manufacturing contract where negotiations are pending.

- Rubber prices were broadly stable during the quarter, while cost of other raw material witnessed some increase. As per CEAT there was some high cost inventory which it had maintained due to strike at Nashik plant which has also impacted margins. The benefit of lower rubber prices would be visible in Q2FY15E.

- The company’s Nashik plant had witnessed strike which had resulted in under utilization of capacity to 65% which is expected to reach back to normal levels in Q2. Overall the capacity utilization stood at 80%.

- Management is hopeful of a recovery in Q2 and is expecting margins to remain in the range of 9.5-10.5% with a volume growth of 10% for FY15E. We expect margins to be at 10.2% for FY15E.

- CEAT is planning to raise Rs 300-400 cr via QIP.

After witnessing double digit margin for the last 5 quarters, CEAT has reported single digit margin. In our view, the reasons for lower margin can only be offset by higher volume growth as most of the above mentioned costs are likely to continue in Q2FY15 as well. A meaningful improvement in the volume would only be driven by picking up of replacement cycle and exports. Diverse product portfolio, increased network, operational efficiency, focus on exports and high margins yielding segment (Passenger cars, Utility vehicles and 2W) continue to remain the key strengths of the company. CEAT has generated returns of over 425% since our recommendation dated 29th May 2012. The sharp up move in the stock price in the last one year has reduced the valuation gap with its peers. At CMP, CEAT is trading at P/E of 8.45x FY15E and 7.19x FY16E EPS as compared to 8-9x industry P/E. We recommend investors to book profits at current levels as we do not see substantial upside from current levels.