Initiating Coverage on Cummins - All energised - HDFC Securities

Mr. Parikshit D Kandpal, Institutional Research Analyst, HDFC Securities

Looking at its history, Cummins India Ltd (CIL) seems like a passable investment opportunity, on the back of RoE contractions (resulted in multiple de-rating over last few years), export underperformance (limited rerating), and CG perception on sister concerns' manufacturing in India. But the past is not always a cue to what the future holds. At CIL's heart lies the core technology engine, as the regulatory norms on CEV BSIV/CPCB IV+ will give it a distinct competitive advantage. And despite concerns of newer technology induction through CTIL, domestic distribution will be mainly through CIL. Some of the newer technologies like alternate fuels, telematics, and electric engines will support valuation rerating both due to (1) competitive advantage, margin/RoE expansion and (2) gaining traction in export markets. We rate CIL as a BUY with a TP of Rs 540 (SOTP).

2QFY21-the quarter of recovery: CIL delivered a strong performance during 2QFY21 with recovery in both domestic (2x) and exports (3x) revenue QoQ. The change in the mix and customised value addition in highly critical data centre offerings helped get slightly better pricing. This led to the EBITDA margin expansion of 484 bps YoY to 16.5% and towards a normalised margin historically. APAT declined 7.5% YoY to Rs 1,695 mn.

A higher share of HHP and exports boost margins: CIL's revenue mix had low LHP and Infrastructure business and a higher share of better margin HHP and Exports. This caused the EBITDA margin expansion. Whilst LHP's share in PowerGen is material, and the segment is fiercely competitive, CIL intends to upgrade this portfolio with more electronics, which would be fuel-efficient, low on emissions, and silent in operation. It would help the company gain market share at better pricing. CIL's moat lies in the tech advantage from parent's $1bn annual R&D. The base tech from the parent can be customised with lower domestic R&D spends in India and sold as new age products. Competition might take longer to upgrade to CBCB IV+ compliant engines and lead to CIL further consolidating market share.

Exports markets recovering, CIL well-positioned to gain market share: CIL competes with CTIL for the exports pie. But in the past few years, CIL has seen saturation coming in due to tepid demand and increasing competition. We believe that the growth runway is in place now with new products meeting most of the stringent pollution emissions compliance. CIL boasts that CPCB IV+ compliance pitched its product in line with or slightly better than the prevailing emission norms globally and, hence, should help gain market share. The export products have better margins and hence would aid profitability. It will take 2-3 years for new lines to gain global traction.

Return ratios to expand, all-round cyclical recovery: We expect key segments-Infra, Data Centers, Healthcare, Residential to see strong cyclical recovery. This shall coincide with lagged recovery in commercial real estate, hospitality & exports. Growth pick-up with better pricing should lead to RoE expansion from 12.1% in FY21E to 16.8% in FY23E (15.6%- FY20).

Shares of CUMMINS INDIA LTD. was last trading in BSE at Rs.455.65 as compared to the previous close of Rs. 454.15. The total number of shares traded during the day was 21609 in over 796 trades.

The stock hit an intraday high of Rs. 461.55 and intraday low of 449.55. The net turnover during the day was Rs. 9869726.

Source : Equity Bulls

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