CFA Institute Research Challenge Hosted by Indian Association of Investment Professionals Indian Institute of Foreign Trade, New Delhi 1
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CFA Institute Research Challenge Hosted by Indian Association of Investment Professionals Indian Institute of Foreign Trade, New Delhi 1 This report is published for educational purposes only by students competing in the CFA Global Investment Research Challenge Havells India Limited Date 09.11.2016 Electrical goods NSE: HAVELLS | BSE: 517354 India Recommendation SELL Price Target: INR 321.4 Price 08.11.2016: INR 392.45 Downside: 18.1% Highlights We issue a SELL rating on Havells India Limited (HIL) with a one year target price of INR 321.4, arrived at by using the Discounted Free Cash Flow to the Firm Method and relative valuations based on trading Key Ratios 2016A comparables. Havells India Limited is one of the largest electrical equipment Int Cover 15.25x manufacturers in India and classifies itself as a fast moving electrical goods company. It operates in four major business segments viz. switchgear, P/E 47.80x cables, LED lightings and fixtures and Electrical Consumer Durables. P/BV 5.90x Inadequate presence in the tier 2, tier 3 and rural areas is a big factor that P/Cash EPS 45.80x could see the company’s growth trajectory marginally stalled as the company shows an uneven 70:30 distribution network across urban and rural regions. M Cap/Sales 2.85x The company is now working towards an FMCG like distribution network to EV/EBITDA 28.42x strengthen its presence in the source markets of the future growth. ROCE 10.60% A considerable war chest for acquisition means that the company ROE 24.10% currently stares at c. INR 23.5 per share. This cash, lying idle and earning no or base returns would translate into a lower return on equity (RoE), hurting Debt/Equity 0.00x the overall profitability of the company. EBITDA Margin 10.51% Lightings and cables business hit a roadblock as the stark plunge in the Net Profit Margin 15.80% LED lighting prices, reducing CFL market in India and highly volatile copper and aluminium prices have somewhat stalled the business growth that the company was expecting to reach. Economic options in the cables segment to Market Data cater to the increasing demand from the rural area also poses a threat of market cannibalization. Market Capitalization INR 244.89 bn (in INR bn except 2015A 2016A 2017E 2018E 2019E Shares Outstanding 624.57 mm per share data) Free Float 38.04% Revenues 85.69 77.14 83.81 91.62 100.98 52 Week High/Low INR 459.40/235.30 EBITDA 7.21 8.12 11.31 12.60 14.14 Avg. Monthly Volume 3,05,342.33 Net Income 3.85 12.21 8.27 9.38 10.55 Beta 0.81 Net Profit Margin (%) 4.50% 15.80% 9.87% 10.24% 10.44% EPS 6.22 8.21 13.34 15.13 17.01 700 DPS 3 3 3 3 3 600 500 Valuation: We opine that Havells India Limited is already trading at a very 400 high P/E multiple of 31.48x and P/BV multiple of 9.57x and is expected to 300 undergo correction. This is because despite the fact that the company is 200 going in the right direction with a stronger distribution network and a 100 0 defensive core business, the market seems to have already factored that in Oct-11 Oct-12 Oct-13 Oct-14 Oct-15 Oct-16 making the correction a strong possibility. NIFTY SENSEX HAVELLS Source: Bloomberg, Company Fillings Important disclosures appear at the back of this report 2 Business Description Chart 1.1 : Revenue Breakdown by Segment (%) About Havells India Limited • HIL is one of the largest electrical equipment manufacturer in India. Incorporated in 1983, the company today has crossed a billion-dollar revenue mark on consolidated basis and classifies itself as a fast moving electrical goods company. • The company operates businesses in four major segments – Switchgears, Cables, Lighting and Electrical Consumer Durable. HT • HIL is currently rated AAA by CARE and AA+ by ICRA with a stable outlook. Product Segments Switchgears: Under this segment HIL operates in two major segments which are domestic MCB and modular switches and has witnessed a CAGR of 12% in last five years and in total this segment forms the second biggest part of company’s revenue Source: Company Fillings contributing 23.7% in FY’16 with a Y-o-Y growth of 0.55% and has the highest contribution margin at 39.2%. The company has a market share of around 28% in Chart 1.2 : Segment Contribution Margin (%) domestic MCB market and around 15% in modular switches market. The company also operates under the brands Standard and Crabtree and is expanding its portfolio with the Sylvania stake sale latest launch of Reo and Reo Bliss. Cables: Under this segment HIL operates in both domestic and industrial cable segments and this segment has witnessed a CAGR of 12% in last five years and forms the biggest part of the company’s revenue, contributing almost 40.6% in FY’16 with an overall contribution margin of 14.2%. The company has market share of almost 16% in domestic and 10% in industrial segment. This segment witnessed a growth of 0.8% as it was largely influenced by the commodities prices of copper as the benefits have to be passed-on to the customers. Lighting: Under this segment the company operates in two product categories lamps and fixtures and has witnessed a CAGR of 12% in last five years and contributes 14.7% to the company’s revenue with a contribution margin of 24.1%. Amongst the two categories, fixture category (including LED) forms 70% of the segment revenue. The company has a market share of around 14%. The major focus of the company is on the Source: Company Fillings LED segment which witnessed 100% Y-o-Y growth and which forms 51% of the segmental revenue. The acquisition of Promptec will boost LED and solar segment over the coming years. Chart 1.3 : HIL EPS and Dividend Payout Ratio Electrical consumer durables: The segment comprises of fans, water heater and domestics appliances and has witnessed a CAGR of 19.5% in last five years. This segment forms 21% of the revenue in FY’16 with a Y-o-Y growth of 11% and with a contribution margin of 25.2%. Fans forms 70% of the revenue in this segment and the company has a market share of 15% and is the only company to produce all four types of fans: ceiling, table, pedestal and wall fans. The company has launched various new kitchen appliances and air coolers and has ventured into niche category of air purifiers. The company also plans to launch solar water heaters in the coming years. Business Description Company strategies Source: Company Fillings Focus on domestic markets During the year the company divested 80% stakes in its WOS Havells Malta Ltd. and 80% stake in Havells Exim Limited for a net consideration of INR 10.87bn to continue Growth drivers for HIL focus on Indian operations. This divestment will improve company’s financial position and profitability. To expand in the domestic markets and garner market shares company Government spending on Real estate market up-tick, entered into a purchase agreement with Promptec Renewable Energy Solutions Pvt. infrastructure sector brand based consumerism Ltd. to acquire a 51% stake for a net consideration of INR 291.2mm. This acquisition will help the company to expand in LEDs and solar lightening solution. LED pushing initiatives High capital expenditure like subsidies by being incurred by industry Focus on tier 2 and tier 3 cities Government The company will be penetrating more in the Tier-2 and Tier-3 markets to tap-in the Increasing electrification growth of these cities with its wider distribution reach and planning to expand to 1100 Favorable demographics of rural areas by cities from currently 700 cities having population of more than 50,000. The company Government also plans to expand in the western and the southern markets which currently Source: Student Research contributes only 15% and 25% respectively to the revenues. Important disclosures appear at the back of this report 3 Business Description Chart 1.4 : Marketing & Advertisement Spend of HIL Established manufacturing base: HIL currently has 12 manufacturing units and produces c. 92% of the products in-house which is the highest in the industry. In FY’16, it operationalized its plant in Neemrana, Rajasthan for manufacturing of modern electric water heater. It is in the process of setting up two more manufacturing units at Guwahati, Assam for switchgears and Bangalore, Karnataka for cables which may be operational by FY’18 with a total investment of INR 1.4bn. HIL has a policy of one plant one product to focus on efficiency. The current utilization level at each plant is c. 70-80%. Projection as a lifestyle brand: HIL enjoys a strong brand recall and operates in the HT premium end of the market where it is targeting next generation with automation, state- of-the-art switchgears and remote controlled electrical devices and is able to maintain high contribution margins. These smart devices dovetail with the Govt. initiatives of smart cities. It has consistently been spending 3-4% of revenues as advertising and Source: Company Fillings marketing expense and has increased its hiring as a strategic move to align itself as a FMEG brand and is continuously expanding and differentiating their product portfolio. Chart 1.5 : Shareholder Structure (%) Augmenting distribution network for expansion: HIL has the widest network of distributors and dealers amongst all electrical goods manufacturers.