Amara Raja to bridge valuation gap with Exide

Amara Raja to bridge valuation gap with Exide

The country’s second largest battery maker, Amara Raja Batteries Ltd (ARBL), seems poised for growth. For the December quarter, the firm’s automotive division operated at over 90% of its capacity. Rising demand helped boost prices in the replacement market by 4-5% in October. This culminated in a 15% year-on-year (y-o-y) and 8.5% quarter-on-quarter (q-o-q) growth in net revenue to Rs425.50 crore. However, for market leader Exide Industries Ltd (EIL) capacity constraints led to a relatively weak quarter with net revenue falling by 8% q-o-q to around Rs1,050 crore.

Also See | Growth Trajectory (PDF)

ARBL cashed in on the high demand in the replacement market for automotive batteries, which accounts for around 30-35% of its sales. “We hope to keep this exposure in our portfolio basket, while capacity expansion will add to absolute volumes," says Suresh Kalyan, financial controller, ARBL. The firm is rapidly adding capacity— its two-wheeler capacity will double by mid-2011 and four-wheeler capacity will ramp up by nearly half its present capacity of 4.2 million batteries.

What both EIL and ARBL have in common are rising lead costs, which comprise nearly three-fourths of material costs. Lead prices have jumped around 17% q-o-q. But ARBL’s move to increase volumes in the replacement market, where realizations are better, led to a q-o-q increase in operating profit margin (OPM) from 14.5% to 15.6%, while EIL’s shrank from 21.7% to 15.2%.

Given the rise in raw material costs, y-o-y OPM contracted by 320 basis points for ARBL, while it was far steeper in the case of EIL. Higher operating leverage and presence in the replacement market helped ARBL shore up margins despite rising material costs. EIL diverted production away from the replacement market to retain its hold in the OE (original equipment) segment, thereby sacrificing OPM.

What spoils the party for battery makers is the woeful performance of the telecom sector. The ARBL management seems to have revised the telecom segment’s annual sales target downward by around 14% .

Of course EIL’s strong fundamentals, including captive lead smelters that reduce its raw material costs, would perhaps help retain valuations, which are historically higher than that of ARBL. For example, ARBL’s shares trade at Rs175 apiece, which discounts the estimated fiscal 2012 earnings nine times, while EIL trades at 16 times earnings.

But ARBL is now on a growth trajectory. It is aiming for a base price revision with OE manufacturers and targeting improvement in the OE share from the present 22-25%. This is because studies have shown that one-third of vehicle users prefer to replace batteries with the OE brand rather than switch for a minor price advantage. According to Angel Securities Ltd, “the discount commanded by ARBL compared with EIL would reduce with increasing scale of operations, sustainable revenue and earnings visibility."

Graphics by Yogesh Kumar/Mint

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