Higher tractor sales key trigger for Escorts

The good performance of the tractor segment and lower raw material costs as a percentage of revenues helped Ebitda margins to jump 260 basis points to 7.9%

The Escorts stock made gains of 19 per cent over the last fortnight after good results, better prospects for tractors as well as the news that Rakesh Jhunjhunwala had made investments in the scrip. The company, which gets a majority of revenues from tractors, also has a presence in the automobile ancillary, construction and railway equipment space.

Its strong performance in the June quarter was largely on the back of higher tractor volumes, as well as lower raw material costs. Growth in tractors is likely to continue on the back of election spends, good monsoons and higher minimum support prices for agricultural produce. BRICS Research Analysts Umesh Karne and Manav Patel expect the sector, which saw volumes decline three per cent in FY13 due to high cost of ownership (higher tractor prices, interest costs) and weak buyer sentiment, to grow 10 per cent in the current financial year on the back of a good monsoon.   

Better prospects for the tractor segment has led analysts to revise their target prices upwards for Escorts in the range of Rs 100-120. At the current price of Rs 80, the stock is trading at an inexpensive 4.7 times its FY14 estimates.  

Tractors spur growth
On the back of a 21 per cent year-on-year growth in tractor volumes to about 19,000 units, the company managed to grow its overall revenue both on a year ago as well as sequential basis by 16-17 per cent to Rs 1,175 crore in the June quarter. Ebitda (operating earnings) was 71 per cent up year-on-year to Rs 92 crore on the back of higher price realisations, better product mix and volume gains.

Realisations for the agri-machinery products (tractors, farm equipment) which account for 84 per cent of the company’s overall sales were up two per cent year-on-year due to price increases in February and May to a cumulative Rs 6,300 a unit.  However, on a sequential basis realisations fell a per cent as the firm sold a higher proportion of lower powered tractors.

The good performance of the tractor segment (Ebit margins expanded 308 basis points to 11.6 per cent) and lower raw material costs as a percentage of revenues helped Ebitda margins for the company to jump 260 basis points to 7.9 per cent.

The company believes the sector is poised for healthy growth in the financial year and expects margin levels to increase. The key for Escorts would be to improve its own production and supply chain efficiencies and a richer product mix. On the demand side, margin gains would come about due to the increasing purchasing power of the farmer, on the back of better farm produce prices in the open market.

The laggards
Other segments, however, continue to lag. With the exception of railway equipment, which grew 35 per cent year-on-year, auto ancillary and construction equipment revenues were down 10-31 per cent. Higher competition and slowdown in industrial growth impacted the construction equipment business.

Prashant Biyani of SPA Securities believes the construction equipment segment will languish because of delay in clearances of projects, project finance related issues and uncertainty due to the upcoming general elections.

The ancillary and construction equipment businesses reported losses at the Ebit level, with lower capacity utilisation in addition to lower sales, on the back of a slowing economy impacting profitability. For these businesses, the firm is looking at premium product positioning and to deliver a better than expected customer experience. In addition, it is looking at the export market as a window of opportunity especially in the auto ancillary business.

While the railway equipment business revenues in the quarter were up and its order book of Rs 51 crore will be executed in the December quarter, with no fresh orders and tenders, the order book situation is looking weak.