Apollo Tyres - "Margin improvement drives Q4 numbers" - LKP Research

Domestic outlook is positive

Going forward, the impact of falling rubber prices will be seen even more in FY 13. The plantation of significant amount of natural rubber plantation in India and China done in 2005-06 will started yielding from 2012 (it takes 6-7 years for a rubber plant to get matured and start producing). This may reduce the demand supply gap, thus resulting in a further price fall. However, crude based derivatives and falling Rupee may somewhat neutralise the benefits. Replacement demand which have already showed signs of improvement from Q4, is expected to pick up on both TBR as well as PCR sides in FY 13, which will assist margins. Slow pick up in radial tyres may remain a slight concern for the margins. The company has gained back its lost market share on the TBR side at 28% and will further gain as the Chennai plant is expected to get completely ramped up by December 2012 and will function at optimum capacity of 450 MTPD from current levels of 350 MTPD. Apollo has estimated its Indian operations to grow at 15% in FY 13. Also the company is through with its capex plans and has just maintenance capex of Rs2.7bn for FY 13. Due to this reason, we expect the Net D/E to come down significantly and reduce the interest expenses thus boosting bottomline. In line with these, we have increased our volume and margin estimates for the standalone business going forward.

South Africa to cut losses and Europe to be stable in FY13

On a consolidated basis, the performance was majorly lifted up by India and Europe as the latter reported margins close to 17.5%, though volumes were slightly softer on a qoq basis. Europe showed a growth in sales of only 8% yoy and 17% a decline qoq as March quarter is seasonally softer than December as summer sets in and the high demand winter tyre sales comes off. No significant capacity expansion in Europe is slightly stagnating Vredestein's business, however, strong inflows of Apollo branded tyres (expected to grow at 100% in Europe on a small base of €10 mn in a couple of years) will ensure the momentum remains intact. Also entry into new geographies like Switzerland, Denmark and Austria in Q4 and plans of setting up a new manufacturing facility in Eastern Europe will take care of the long term plans of the company. Apollo expects stable business from Europe in FY 13, however, the high margin profile of this business will ensure Apollo reports stable consol profitability though volumes from Europe may not be too high.

South Africa witnessed revenue decline of 4% yoy in this quarter, however on a yearly basis, they have grown by 10.4%. Issues like Chinese imports and weak demand were the key concerns for South African tyre business. However, Q4 has started showing improvement structurally over there as growth has returned back to the sector despite Chinese imports, RM costs are stable and pricing scenario has also improved. The company took 3% price hikes twice in Feb and April which got were absorbed by the consumers, thus giving an indication of improvement. Although the margins were negative and losses high in the quarter, we expect SA business to cut losses in FY 13 and breakeven only in FY 14.

Outlook and valuation

Apollo came out with a good set of numbers in the quarter, where domestic business led from the front. With expectations of rubber prices moving down, Chennai capacity coming completely on stream, radialization in the TBR segment slightly improving and replacement demand showing signs of improvement, we are increasing our domestic volume as well as margin estimates for FY 13. In Europe, geographical expansion of Apollo branded tyres and steady volumes will act as drivers, while South Africa, which has shown some signs of improvement is expected to cut losses. With the company through with its capex cycle, we expect it to get a boost to the bottomline. Hence, we have raised out target price to Rs101 (@8.5x times FY 13E consol EPS of Rs11.9) from Rs91, and are maintaining our BUY rating on the stock.

Source : Equity Bulls

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