Stock Review: CUMMINS INDIA

SINCE the current environment of rising interest rates and high input costs is likely to continue for some time, Cummins India expects its sales growth momentum to cool in 2011-12. Positively, it is confident of maintaining margins at current levels. Though analysts believe the company is best placed among its peers and the consensus view is positive, the stock is likely to underperform in the near term, due to the challenging macroeconomic scenario and negative sentiments towards the infrastructure sector. It is currently hovering around `682.

TAPERED GROWTH EXPECTATIONS...

After ending 2010-11 on a robust note with a 40 per cent jump in sales at `4,061 crore, the company expects sales to grow 20 per cent in the current financial year. The majority of the growth will come in the second half of 2011-12, as yearon-year growth in the first half is expected to remain muted due to the high base of last year.

The domestic market, which accounts for 75 per cent of its sales, is expected to sustain its strong growth (of 25 per cent) led by all the business segments namely power generation (50 per cent of domestic revenues), industrial and auto (expected to pick up after flat growth in 2010-11).

On the other hand, exports are expected to grow only 15 per cent after more than doubling in 2010-11 on account of recovery in developed markets and increased outsourcing from the US-based parent company. Gradual commissioning of expanded capacity at Phaltan (Maharashtra) will also aid growth.

...BUT MARGINS TO REMAIN INTACT

The company disappointed the markets on the operating profit margin (OPMs) front, down 18 per cent in the second half of 2010-11 from 20.5 per cent in the first half. Consequently, OPM slipped 89 basis points to 19 per cent in 2010-11. The company hopes to maintain these with an upward bias (may range around 2021.5 per cent), thanks to price rises (4 per cent implemented in 2010-11 and another one expected this July), leadership position in the domestic market and cost rationalising. Net profit margin is also expected to remain at 14-15 per cent in 2011-12. However, there is a downside risk, as a rising cost (input prices and interest rates) scenario threatens to slow overall economic activity.

STOCK UNDERPERFORMANCE TO CONTINUE

Cummins India's stock has underperformed the broader markets in the last six months, due to a disappointing margin performance in the second half of the last financial year. This trend is expected to continue in the near term despite the stock's attractive valuation of 16 times 2012-13 average estimatd earnings, due to a potential risk of slowing momentum in the domestic economy and uncertainty about sustainable recovery in developed markets. Analysts, too, have lowered their one-year forward target multiple for the stock to 17 times from 20 times earlier.