Building material - Turnaround themes to play - ICICI Securities

In the past 2-3 years, we have seen a few business models in the building material space succumbing to the mounting pressures of muted demand and liquidity woes resulting in severe market cap disruption. Considering: a) faster than expected volume recovery post Covid, b) considerable balance sheet strengthening post the pandemic (which otherwise would have taken considerable time), and c) cost-cutting initiatives undertaken by the covered companies, we put forward three turnaround themes - Somany Ceramics (SOMC), Visaka Industries (VSKI) and Greenpanel Industries (GNPL). We believe these companies have the potential to not only beat the benign (street) earnings expectations, but also see significant improvement in their balance sheet quality leading to strong potential for rerating.

- Severe mcap correction in these models offer significant upside potential with likely earnings turnaround in the near term. SOMC, VSKI and GNPL have seen sharp fall in their market cap over the past couple of years - SOMC (79% decline), VSKI (57%) and GNPL (12%). With the green shoots of turnaround (volume growth traction and improvement in balance sheet quality) visible in each of these models, we believe there is substantial upside (SOMC 55%, GNPL 86% and VSKI 65%) potential in these stocks driven by near-term earnings turnaround and likely rerating possibility.

- Ceramic tiles, MDF and ACS/FCB categories recover much faster than anticipated. Q2FY21E witnessed faster than expected volume growth recovery in categories like ceramic tiles, MDF, asbestos cement sheet, and fibre cement board. Our channel checks for Q2FY21E suggest: a) >90% volume growth recovery (YoY) for branded ceramic tiles players on the back of market share gains over Morbi counterparts; b) positive volume growth (>10%) for MDF players driven by strong underlying demand post Covid breakout; c) 90-95% volume growth recovery (YoY) for ACS players (due to strong rural offtake) and FCB players (due to pent-up demand in tier-2 to tier-5 cities and towns). We expected recovery in urban metros and tier-1 cities in Q3FY21E to further drive recovery for these categories.

- Aggressive cost control measures, benign input costs and operating leverage are the key margin levers. We believe these companies could surprise positively on gross margins starting Q2FY21E led by benign input costs and stable product pricing. Aggressive cost control initiatives undertaken by them (part of which is likely to be sustainable) are likely to aid sharp recovery in their EBITDA margins for FY21E. Further, with growth recovery seemingly faster than anticipated post Covid breakout, the benefit of higher operating leverage is also expected to accrue, which would boost EBIDTA margins in the near term.

- Focus on cash collections to aid balance sheet strengthening. We expect these companies to continue to focus on cash collections which, alongside inventory liquidation, would help improve working capital management in FY21E. The higher cash collections, muted capex and resultant paring of debt in each of these companies would result in significant balance sheet strengthening, which would push their RoCEs considerably higher.

- Creeping acquisition by promoters may also boost investor confidence. With the stocks correcting sharply over the last 2-3 years and green shoots of recovery visible in the near term, promoters of these companies have recently opted for creeping acquisition of shares, which is likely to boost the waning investor-confidence over the past two years.

Source : Equity Bulls

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