Stock Review: AMARA Raja Batteries (ARBL)

 

 

Strong demand for automobiles and a diversified presence in the industrial segment provide revenue visibility to Amara Raja Batteries in future. Investors with a two-year horizon can bet on this stock

 

AMARA Raja Batteries (ARBL) is a joint venture between the Galla family and the US-based building material and automotive components maker Johnson Controls. Both of them hold 26% stake each in the company.

   ARBL pioneered in making valve regulated lead acid (VRLA) or low-maintenance automotive batteries in India. The strategic investment also brings technology support from Johnson Controls.

   Strong demand for automobiles, positive 3G-related growth projections for the telecom sector besides a diversified presence in the industrial segment provide revenue visibility to the company in the coming years. Investors looking for reasonable returns, but with a higher-risk appetite, can take an exposure in the stock with a horizon of two years.

BUSINESS:

ARBL is the second largest player of lead batteries with a market share of 26% in India. It operates in industrial and automotive segments. The company derived 55% of its revenues for the year ended March 2010 from industrial segment under the brands Power Stack and Quanta. Under this segment, almost two-third of the revenue come from batteries that power telecom towers followed by UPS products.

   It supplies automotive batteries across all segments including two-wheelers, passenger cars as well as light to heavy commercial vehicles. Some of the prominent names in the client list include Tata Motors, General Motors, Maruti Suzuki, Ford, Fiat, Ashok Leyland and Swaraj Mazda.

GROWTH PLANS:

The company is gearing up to generate an increasing proportion of its business from the automotive segment in line with faster growth from the segment. Although the high growth in new automobile sales is expected to slow, sales of automotive batteries will be sustained in the coming years from replacement. Replacement category also brings a higher margin that provides an upside to earnings for the future.

   To meet this growing demand, the company is increasing its manufacturing capacity of automotive batteries besides expanding its distribution network.
   ARBL has plans to double the capacity of twowheeler segment to 3.6 million batteries and increase production capacity in four-wheeler segment by around 20% by January 2011. It is spending 150 crore to see through this expansion through a mix of debt and equity.

   Within the industrial segment, ARBL is seeking to meet needs of railways besides rural housing. The telecom sector has been a dampener for its revenues, as tariff war with entry of new players led existing firms to postpone their tower expansion plans. Although the phenomenon of telecom tower sharing by service providers partly brings down growth opportunities in the sector, the long-term outlook remains intact, especially after allocation of more spectrum for next generation telecom services.

FINANCIALS:

ARBL's revenue reported a compounded annual growth of 42% in the past five years with net profit growing at an even faster clip of 63% during this period, owing to strong demand from the telecom segment where profit margins are higher compared to the automotive category. For the quarter ended June 30, 2010, the company's net sales rose 45% over the year ago period to 446 crore. But net profit declined 16% to 35 crore due to two-fold increase in raw material expense, which accounted for a little less than two thirds of its operating cost.

VALUATIONS:

At its current market price of around 217, the stock is trading at 11.6 times its earnings per share for the 12 months ended June 2010 on a standalone basis. In contrast its key competitor Exide is quoting at a price-to-earnings (P/E) multiple of nearly 23, just double that of ARBL.

   Although the firm has always traded at a discount compared to Exide, at the current level the valuation gap is much wider. The discount between two companies is expected to reduce in the coming years, with increasing scale of operations by ARBL in both the segments.

   Assuming a modest 15-20% annual growth in revenue and improvement in operating margin, ARBL's two-year forward P/E ratio works out to be around 9.7. This provides ample upside potential to investors having investment horizon of two years.

CONCERN:

The price of lead and lead alloy, which accounts for almost 80% of its raw material cost, impacted its profitability in the June quarter, due to 28% rise in lead prices. ARBL's earnings can be impacted by substantial volatility in lead prices since it cannot entirely pass higher input cost to customers due to its limited pricing power. The market leader Exide is partly insulated from this risk as it sources a large part of its raw material through captive units.