Coronavirus may ignite Cummins India’s exports, unlikely to power earnings
At ₹503.60, the Cummins India stock is only marginally up from its 52-week lowCummins India, nevertheless, continues to face growth headwinds
The coronavirus epidemic seems to have raised hopes for capital goods manufacturer Cummins India Ltd. The company has been dispatching critical engine parts as part of its effort to bridge the shortage in the global markets due to the coronavirus epidemic.
This partially alleviates the pain from falling exports. Note that Cummins India’s December quarter exports, which have been slipping for about two years now, fell 17% year-on-year. Even the overwhelming beat in Q3 profit failed to sustain the small increase in its stock price, which has shed 44% since April 2019, underperforming the benchmark BSE Capital Goods index.
Cummins India, nevertheless, continues to face growth headwinds. While the coronavirus-led export growth brings a short-term surge in revenue, gains in export revenue may still be less material. In fact, the management has guided for a 20% year-on-year drop in exports for FY20. Overall, demand in the Middle Eastern and African markets is weak, and could worsen due to the coronavirus epidemic.
Cutting to domestic markets, one of the big concerns is the rise in manufacturing costs when the new pollution control norms come into effect in 2021. The management had indicated that the new Central Pollution Control Board (CPCB) norms will lead to higher research and development expenses.
A report by Jefferies India Pvt. Ltd highlights the downward margin trajectory when CPCB norms will be implemented (see chart).
“Tighter emission controls have typically raised costs for players given the higher-end equipment needed for the gensets. Cummins India normally imports this requirement from the parent and indigenises it with time," said the report.
These costs would eat into profit margins unless passed on to the customer. In the current scenario of demand slowdown in power and therefore for generator sets, Cummins India may find it hard to pass on these costs. “Since competition is not showing signs of easing off, we believe the implementation of the new norms will see margin pressure continue," added the Jefferies India report.
The only silver lining in the dense clouds is that Cummins India has a strong parent and balance sheet. The firm’s shift to short-cycle nature of businesses and its diversification into new areas will help cash in on an increase in economic activity faster than some other capital goods firms. Even so, analysts are unwilling to revise earnings in the near term, especially after the management retained its guidance of 3-5% sales growth in domestic and 20% drop in export revenue for FY20. That does not raise hopes for its stock’s prospects though.
At ₹503.60, the Cummins India stock is only marginally up from its 52-week low. It trades at 25 times one-year forward estimated earnings, which is around its decadal average valuations.
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