Downgrade to ADD on Escorts - Pricing in positives - HDFC Securities

Mr. Aditya Makharia, Institutional Research Analyst, HDFC Securities.

(TP Rs 1,200, CMP Rs 1,158, MCap Rs 142bn)

We downgrade Escorts to ADD, after the stock has more than doubled from its COVID lows (+35% from our initiation). The fund infusion from Kubota has been completed, and demand has revived led by good monsoons/encouraging kharif sowing. However, valuations are now trading well over mean P/E levels and are factoring in the near-term positives, in our view. We await detailed timelines for integration with Kubota's global operations and set a revised target price of Rs 1,200 at 16x Jun-22 EPS.

1QFY21 financials: Escorts' tractor volumes for the quarter fell 14% YoY/10% QoQ (though volumes in Jun-20 were up +22% YoY, ahead of the kharif season). The average realisation declined 13/15% YoY/QoQ, owing to lower share from construction equipment revenue. EBITDA margin came in at 11.3% (+120/-280bps YoY/QoQ). While tractor EBIT margin was healthy at 14.5%, a loss in the CE segment partially offset its impact. Net profit at Rs 922mn was up 5% YoY, led by higher other income/lower tax.

Concall and other highlights: (1) Escorts-Kubota JV: Fund infusion of Rs 10bn by Kubota is completed, and the Japanese partner has been issued 12.2mn shares (~10% of paid-up equity). The production of the Escorts Kubota JV will commence by 3QFY21. Kubota's products will be priced at the premium end and will compete with the likes of John Deere. (2) Positive outlook for the tractor industry: Management expects the domestic tractor industry to grow in low single-digits over the year (from ~710k units in FY20). Demand will be led by a normal monsoon, agri procurement by the governments, and healthy water levels. The subsidy led tractor sales is 8-9% of volumes. Replacement demand is 45-50% of sales (80-85% in mature markets like Haryana). (3) Railway segment: The company has Rs 4.8bn of order book as of Jun-20 with an execution timeline of 12-15 months. The management expects the segment to grow in single digits in FY21. (4) Supply chain constraints: Capacity utilisation for the quarter was at 50-60% levels and almost at full utilisation in Jun-20. However, the company is facing temporary supply issues. Management expects the situation to go back to normal by mid-Aug 2020.

Earnings outlook: We are revising our estimates upwards by ~10% over FY21/FY22 and set a revised target price of Rs 1,200. We now value the stock at 16x (vs. 15x earlier) to factor in the improved demand outlook and equity stake by Kubota. The stock multiples are now at the upper end of the historical trading band. Key risks: Delays in the implementation of reforms by the government and more-than-expected market share gains.

Shares of ESCORTS LTD. was last trading in BSE at Rs.1140.2 as compared to the previous close of Rs. 1156.85. The total number of shares traded during the day was 83223 in over 3727 trades.

The stock hit an intraday high of Rs. 1183.35 and intraday low of 1132.15. The net turnover during the day was Rs. 96710889.

Source : Equity Bulls

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