Cummins India Ltd shares are down 7% since the company announced weak results for the September quarter. Investors were most upset about its downward revision of growth guidance for FY20 for the second time in a row.
Domestic sales growth was cut to 3-5% from 8-10% on the back of a sharper and longer-than-expected slowdown in industrial and infrastructure activity. For exports, it said FY20 will see 20% sales contraction, which is worse than the earlier guidance of 13-15%. A recovery looks elusive, with uncertainties on account of structural demand slowdown and high inventory levels in the West Asian, Asian (excluding China) and African markets.
The company has also been charting a challenging course in the last two quarters, with both domestic and export segments falling short of forecasts. September quarter revenue declined 12% year-on-year to ₹1,308.4 crore, falling short of the ₹1,464 crore average forecast in a Bloomberg poll of 17 analysts. Poor domestic sales show up the weakness in infrastructure and construction segments, wherein Cummins’ power generation equipment is used.
Meanwhile, the steep 25% y-o-y decline in the quarter’s export revenue shows that the slowdown was prolonged in the export markets as well.
Poor product mix with a sharp contraction in the medium horsepower engines and unfavourable forex movements also impacted profitability. September quarter Ebitda margin at 11.7% was about 520 basis points (bps) lower, year-on-year (yoy), and significantly lower than Bloomberg’s 15-broker average of 13.2%. One basis point is one hundredth of a percentage point. The decline in exports, which have higher gross margins compared to the rest of the portfolio, and a rise in the share of low horsepower engines (which yield lower margins) were among several reasons for the drop in Ebitda margin.
That’s not all. Analysts said that 12-13% will be the new normal for earnings before interest, tax, depreciation and amortization (Ebitda) as a percentage of sales. Over the last two fiscals, Cummins reported 14-15% Ebitda margins.
The pressure on profitability has prompted cost cutting measures at the company, and efforts to improve cash flow are already yielding some results. Meanwhile, the firm has gained from the corporate tax rate cut, which along with higher other income in the quarter, minimized the drop in net profit to 13% y-o-y at ₹211 crore.
It is not surprising, therefore, that analysts have cut the 12-month forward target price by 7-10%. At its current market price of ₹540, the Cummins India share trades at about 20 times the estimated FY21 earnings per share, which factors in the risks of the next 12-18 months. The firm’s dismal performance for the last few quarters and sharp fall in sales and margin guidance is also a pointer to the grim scenario in infrastructure and industrial activity across markets.