Bajaj Corp - Near term pressure likely; long term attractiveness holds - IDBI Capital

We recently organised road show of Bajaj Corp. Following are the key takeaways:

- Volumes to witness pressure in Q2; medium term growth outlook stays buoyant

- Volume weakness evident in Q2: Management indicated that volume growth pressures are evident in Q2FY14 led by weak consumer sentiment, continually rising inflation (CPI) and high base. It expects Q2 to be worse than Q1 - historically Q2 has been similar to Q1 for BJCOR; however, the impact felt is likely to be higher this time.

- Expect demand to improve from Q3 onwards: Nonetheless, management expects growth to improve from Q3FY14 onwards, led by normal monsoon leading to good crop and harvest, election year ahead, which would mean that subsidies are not removed and hence more money with people to spend, and expectation of improving sentiment towards end of FY14.

- Continued focus on A&P to boost volumes: BJCOR has increased A&P spends to 16.8% in Q1FY14 from 12.6% in Q1FY13, anticipating volume pressures that could creep up given weak macros. This has been made possible largely due to gross margin expansion to 60.1% from 55.8% during the same period (as it had locked its LLP procurement till Sep'13 at ~Rs75/kg in Dec'12), resulting in EBITDA margin being maintained at 28.3% vs. 28.2%. Higher spends on brand building and promotions has enabled BJCOR to outgrow LHO industry with market share up to 58.4% in Q1FY14 vs. 55% as of Mar'12. We believe that gross margin will remain healthy in Q2FY14 as well since its LLP procurement price is Rs74/kg, which will in turn enable higher A&P spends and hence likely better than industry volume growth. Key risk here would be the rates at which it procures LLP beyond Sep'13 (currently hovering at Rs90/kg mark), as that will determine its ability to spend on A&P to keep volume growth healthy. Management expects LLP prices to have peaked and some stability to return from Oct'13 onwards. Directionally, we factor in EBITDA margin decline of 40bps over FY13-15 to 28%, which is in line with mgmt commentary of EBITDA margin being unsustainable at current levels.

Mgmt expects medium to long term growth trajectory to remain intact and projects LHO industry to grow 16% in volume terms and 4-5% in value terms over next 2 years. Given BJCOR's track record of market share gains - up to 58% in Q1FY14 from 40% in FY08, we expect BJCOR to outperform the industry. However, we are being conservative in our estimates and are not factoring in market share gains for BJCOR over FY13-15 (16%/4% volume/ASP CAGR).

NOMARKS to be EPS accretive from FY15

NOMARKS brand has strong brand equity and is the 2nd largest player in anti marks/anti blemish category (1st is Himalya face wash; 3rd is Mela brand). The brand has stagnated over the past 3 years due to lack of brand communication and distribution. On the other hand, anti marks category has grown at 25%+ over the same period and signifies huge growth potential.

BJCOR expects to scale up revenue from this brand over time led by (i) strong brand communication; (ii) leveraging its strong distribution and (iii) rationalisation of SKUs (NOMARKS brand currently has ~60 SKUs). It will continue to position the brand as a problem solution brand. As per mgmt, this acquisition fits well into their acquisition criteria of small size (easier to integrate), presence in personal care category, comparable profitability, the view which we concur with.

The management did not disclose the acquisition amount. However, it has sufficient cash to fund the acquisition. Nonetheless, it may take some debt to structure the deal better, which will eventually determine their dividend policy.

Remains attractive over medium term; reiterate BUY

We continue to like BJCOR for its demonstrated consistency and outperformance in volume growth over past many quarters, strong brand equity of ADHO, healthy return ratios (37% RoE/RoCE in FY13) and positive growth outlook for LHO category. We see NOMARKS acquisition is a step in the right direction, as BJCOR's strong distribution network and financial muscle will provide the brand a strong platform to take off going forward. We believe this acquisition also partially addresses the issue of effective utilisation of cash for BJCOR (it had Rs4.6 bn cash and equivalents as of Jun'13). Mgmt expects this acquisition to be EPS decretive in FY14, before being EPS accretive from FY15 onwards. We have not factored this acquisition in our earnings due to lack of detailed information on financials. Maintain BUY with price target of Rs293.

Source : Equity Bulls

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