AIA Engineering Ltd

Stock Opportunities Not-so-Hidden Gems
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Company Background

This company manufactures “grinding media” or what company calls as High Chrome consumable wear parts. These parts are typically used in Cement & Mining industry and the company has presence in more than 90 countries (as per 2013 AR). Practically any cement company that we might have ever heard of is a client of AIA.Worldwidethere are only 2 major players AIA & Magotteaux making this product. AIA is no. 2 with a capacity of 2,60,00 tonnes behind Belgium based Magotteaux. Rest of the industry players are very small &insignificant. AIA has 90% market share in the domestic cement sector and a 25% market share globally.

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Opportunity

While the cementindustrymostly uses these High Chrome Consumable wear parts already. It’s the mining industry which is now beingtargetedby AIA. Mining industry currently uses forged media, which costs 20% lesser than High Chrome media. But high chrome media presents someefficiencyover the forged media.

Value Research puts the opportunity like this

“High chrome mill internals are fast replacing the traditional forged internals used in the mining sector which has a demand of at least 1.2 million tonnes per annum. The high chrome mill internals are estimated to have covered only 20 per cent of the mining demand. According to ICICI Securities, this could create an additional demand that is four times the cement consumption of high chrome mill internals of 300,000 tonnes per annum. AIA’s increased focus in this field has seen the share of mining sector rise from 18 per cent in FY10 to 54 per cent in the nine months ended December 2013”

Another point is about margin expansion possibility in the Mining Sector. Company maintains, it followed a discounted entry pricing to capture mining customers in the initial years. However, with passing time, company expects to resort to normal pricing, hence enabling better margins.

Capacity Expansion

Company did brownfield expansion from 2,00,000 tonnes to 2,60,000 tonnes in the FY14. Estimates to sale 2,10,000 tonnes in FY14 - that’s a 18% growth in volume over FY14.

Company also has started working on a greenfield expansion of 1,80,000 tonnes to take total capacity to 4,40,000 tonnes. Expected completion date for it is by H1’2016.

Planned expenditure for the greenfield expansion is 650 cr. and company is currently sitting on cash balance of about that much. So no need of debt for expansion.

Valuation

CMP : 753,Mcap : 7108.81 cr. , TTM Net Profit is 324.96 cr. PE: About 22 times on trailing basis.

Good Links to read

http://www.valueresearchonline.com/story/25092

http://rakesh-jhunjhunwala.in/index.php/2014/04/25/why-are-prashant-jain-kenneth-andrade-other-stock-wizards-bullish-on-aia-engg/

Please help with your views.

Disclosure: Invested from lower levels and might accumulate more.

To follow is this Qtr’s conf. call details, stay tuned :slight_smile:

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Hope the below is useful.

Summarizing few points from an article in Economic Times:

AIA Engineeringmanufactures High- Chrome Grinding Media, which is technologically more advanced, and helps in relatively higher output, and reduces overall cost by around 3-4% for customers.

AIA andMogatteauxtogether account for over 80% of the market share and the rest is controlled mainly by the Chinese (are not a threat because of competitive advantages mentioned below). Magotteaux has been a laggard in high-chrome grinding media despite its market leadership, whereas AIA has been busy expanding high-chrome grinding media capacity. AIA should be the market leader after planned expansion is completed by end of CY2015.

Operating margins have been consistently around 20% for the past several years. In the first half of FY14, its operating margin was at 23% and has been rising for the last four quarters.

AIA’s realisations are lower than Mogatteauxas, but AIAas operating margins are higher due to cost advantage and economies of scale.

Competitive Advantages:

    • Differentiated technology built over 30 years (high-chrome grinding technology is available with only a few players globally)
    • Sales network across 72 countries
    • Low cost base
    • Proven track record and customised solutions
    • Given the oligopoly nature of the business. AIA enjoys a strong bargaining power with clients and the prospect of a price war is restricted.
    • Most of AIA’s revenues are from replacement demand. Customers are reluctant to experiment with newer sources of supply because a snag couldleadto stoppage in production. 95% of AIA’s revenues are from replacement demand from existing clients.

Opportunity Size****:

  • Industry size for grinding media is 2.5 million tonnes annually and high chrome is only one lakh at present.

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Discl: Have been invested in this stock since a long time and it has been a wonderful compounder. Was happy to invest in AIA as a midcap which has provided the stability of a large cap to the portfolio. I think it still has a very long way to go. Intend to keep holding for a very long time.

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AIA engg is classic case of having fantastic moat. Cement Industry depends heavily on Grinding Media which helps in increased capacity at a lower cost. The use of Grinding media in cement industry is increasing over the years and AIA is lone major player in this area. The only issue I have is with the valuation. It has run up quite a lot recently so I m nt sure if fresh buying can be done at this level.

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Thanks HR, Ankur.

I would always like to encourage people to open a thread on vp for all businesses which we think will be winner’s in long run.

Price keeps changing :slight_smile: If we keep track of good businesses, there will be multiple opportunities over the months/years to load up.

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The promoters are offloading some of their shares… I think that it would be interesting to find out what is the reason also at 22-24 P/E and Price to Book Value of 5 it looks very expensive right now… would wait for a bear market to enter this script… Right now all engineering company prices have increased 60-100%.

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Quantity being sold is small in relation to their overall stake which has remained above 61%.

I feel its somewhat simplistic to dismiss AIA as another engineering/capital goods stock . Company doesn’t depend on new projects/OEM business in infra/construction sector , it caters primarily to replacement demand in Cement and mining sector . its what you might call a Fast moving industrial goods company. If the economy does pick up , it might give a fillip to the demand from cement companies .

AIA has always traded at premium valuations as far as i can remember .the way they have captured mining market share in last few years is quite remarkable , despite virtual degrowth in cement space which was its main revenue generator , company has managed to grow due to cornering market share in mining space . Slowly they are also getting back their pricing power which they had given up for trail runs,aggressive pricing etc for getting foothold in mining space

The greenfield expansion will almost double its capacity by mid FY16 and if management is able to increase revenues on back of it as they expect , the company would be in to a whole new growth trajectory.

One variable i see is the impact of Rupee depreciation in the improving margin profile in the last few quarters . if the rupee appreciates significantly realizations might be impacted.

Disc : invested from lower levels and bullish

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Thanks. Nice overview. Looks like an under appreciated story.

1.The dominant domestic market share, global duopoly market structure,

2). elements of pricing power (last 10 years, pricing/mix has grown mid-high single digits per annum),

3). still v good volume growth (>mid-teens aided by market share gains in vastly under penetrated mining space as chrome replaces forgings),

4). stable demand dynamic (90% of demand is replacement, as these parts wear out every 30 days),

5). low cost but a very critical product (1-2% of cost in cement, 6-8% of cost in mining - means that buyers would be insensitive to small price hikes/willing to pay a premium for quality),

6). cash generative/unlevered balance sheet/growth internally funded largely,

7). quality promoters, etc.

With capacity near doubling by FY16, the volumes can go up 2x, pricing 1.5x over a 5 year timeframe. If margins remain atleast stable in low 20s with positive bias (could be mid-high 20s like now instead of company indicated low 20s), core earnings could therefore go up 4x in 5 years. And since current multiple at 20x PE does not seem unreasonable, this stock could also go up 4x over that timeframe. Also there is the possibility of a buyout by an MNC since founder’s family is not involved in the business.

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AIA is indeed in a very interesting niche area with little competition, not sure though why the Chinese haven’t muscled in heavily into this given they are quite strong in foundries? Any thoughts?

Also, could anyone advise how I can get hold of their IPO prospectus?

Thanks

Bobby

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Hi Bobby,

You can find the IPO prospectus at the below url:

http://www.sebi.gov.in/dp/aiadraft.pdf

Cheers!!!

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That is great, thanks mate!

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Some fantastic Info in here.

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Notes from March’14****Qtr. Conf Call

)- 555 cr. of sales for quarter, 2000 cr. sales milestone for the year (1500 exports & 500 inside India).
)- 48,800 tonnes of sales for Qtr. Highest ever tonnage.

)- Total 177,000 tonnes for year (utilizing 89% of the capacity - excluding the brownfield expansion mentioned below). Sales toCement 68000 tones, Mining- 96000,aggregatecrushing the rest of qty.
)- EBITA of 177 cr., PAT of 119 cr. for the Qtr. EBITDA Margin of 31.2% for this Qtr. (26.5%for full year)

)- Net realization per kg this qtr - 115 rs., for full year 111 rs.

)- Order book at 400-450 cr.

)- Higher EBITDA margin for this year were driven by 3 factors - a. Favorable currency b. Change in sales mix. c. Savings in opex (specially on power trading by buying from exchange instead of Electricity board - around 25 cr. savings).Can’t with certainty this savings will be there next year.

)- 20–22% EBITDA margin can be expectation going forward.

)- Net cash 748 cr. , one ECB loan, short term borrowing of 120 cr loan. Net cash of 628 cr.
)- Reduction in working capital measures, But Net working capital still continue because of large

Inventory finished goods days down to37from43 days

raw material down to44 from 48 days

Creditor days improved from46 to 53 days

)- Demand from Cement sector is flat, rapid inroad into mining segment in last 5 years.

)- Entry level pricing in mining segment was done last few years and now converting to sustainable pricing.
)- Target to 210000 tonnes this year - Growth of 18-20% volume growth

)- 20% of PAT as dividend payout to be maintained.

)- Employee cost - 10% hikes is the internal benchmark per year.

Capacity Expansion
)- Brown field expansion done (roughly utilizing 75-80 cr. of capex), current capacity - 260,000
)- Capacity expansion is underway to expand capacity by 180000 from current 260k to 440k tonnes. Estimated completion between Dec’15 to Jun’16. With capex of 600-650 cr. Got pollution permission & land, civil work would be starting soon. Don’t plan to use Debt.

Interesting snippet on the business dynamics

)- Sometimes just 1-2 mine in some location might use, say 20,000 tonnes of grinding media, which may be roughly equal to whole of cement sector consumption in a year for India. Obviously the number of ppl required to service the entire cement sector of India is higher. So as the

)- AIA is growing by mostly taking market share… there is head-room to grow at 20-30% for next 5 years… clearly looking at million tonnes of market available. This capacity planned may not be enough. Board is debating if they should start planning to additional capacity as it takes a year and half do capacity expansion.

)- It’s in customer’s interest to have more than 1 supplier, and also better service, better product mix is helping AIA.

Estimates for FY15

Tonnage - 210,000 tonnes, Average Realization per tonne say 110

Total sales = 2373 cr.

at EBITDA margin 22% EBITDA will be 522 cr. pretty much flat compared to FY14. Though positive surprised might be there on margin & volume level.

Current valuation is EV/EBITA of 11.6, for folks who have been quoting high PE as a reason for the business being expensive, shouldn’t we be using EV/EBITDA for businesses which are having either excess debt or cash in hand ?

My take, business looks to have some tailwind to grow at 20%+ for next few years. Though next few qtr’s may or may not excite markets much. But so are many other opportunities (in vp universe) which can grow 20%+ for next few years isn’t it ?

Dics: I have a decent position average below 650 price. might add more on declines.

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Raj,

Thanks for the concall details. Seems like more of a slow and steady grower as long as the commodity cycle remains subdued.

Any thoughts on why other companies in India or overseas are not competing aggressively in this area given lack of technological barriers to entry and relatively high ROE?

Bobby

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Hi Ricky,

China does have 20% of world’s capacity in High Chrome Grinding Media. From my understanding , there is some kind of technological know how which has been built over a period of time by companies like Magotteaux & AIA.

Remember, AIA actually paid close toUS$60.0 Lacs (~31 cr.) to Magotteaux towards settlement of a patent litigation in3Q’14 and accounted for it as exceptional expenses.

Also, because the component isn’t a high expense (in %tage of total expense) for the consumer (Mining&cement players) but a mission critical part of their operations, they might not be interested to try out new players and risk losing a lot. Combination of these factors might be keeping Chinese players off the game is my understanding.

The question marks on the margin scenario for FY15 are surely there, but we can’t call a 20%+ growth prospect over a 4-5 period as a “slow” mover, isn’t it ? (but like i said before, we are spoilt for choices in the vp universe) I would agree on the steady part, baring any global economy slowdown :slight_smile:

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Yes, there is likely to be some proprietary customization angle to fend off competitors, the company hasn’ t been really successful in China though probably because the companies there just want the cheapest products.

Definitely 20% growth over the next few years would be great if it materializes, I was referring more to the actual PAT growth over the past few years which has been quite lackluster .

I like the long term characteristics of the business though , quite amazing that profits grew from around 20cr in 2005 to 325 cr in fy 2014 in what appears to be a commodity like business.

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Does anyone have q1 2015 con call notes? Results seem on track with good margins but weak volume growth, however quarterly growth figures can be misleading due to timing of orders.

Still like this one.

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@ricky, company has a new investor presentation with good details, please check (researchbyte). I agree with you qtrly figures may be lumpy here but company seems to be on good track.

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I had this stock before but exited during the drag around the settlement mentioned above. Since then, I have reinterred around 750. The latest qtr results r ok but has a bit of a flat look. This is going to be steady type ( my 2 cents. Do need sr VPians to weigh in) till all the new cap kicks in. Wondering whether all the cap can come in at one go or in steps. I got a little more conviction after seeing it VRs 10 future proof stocks. Adding steadily on declines but I guess this will be the type when you don’t get anything like a runaway train.

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I had this stock before but exited during the drag around the settlement mentioned above. Since then, I have reinterred around 750. The latest qtr results r ok but has a bit of a flat look. This is going to be steady type ( my 2 cents. Do need sr VPians to weigh in) till all the new cap kicks in. Wondering whether all the cap can come in at one go or in steps. I got a little more conviction after seeing it VRs 10 future proof stocks. Adding steadily on declines but I guess this will be the type when you don’t get anything like a runaway train.

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Q2 results:

The Company has posted a net profit of Rs. 1145 million for the quarter ended September 30, 2014 as compared to Rs. 651 million for the quarter ended September 30, 2013. Total Income has increased from Rs. 4470 million for the quarter ended September 30, 2013 to Rs. 5709 million for the quarter ended September 30, 2014.

The Consolidated Results are as follows:

The Group has posted a net profit after adjustment of Rs. 1080 million for the quarter ended September 30, 2014 as compared to Rs. 736 million for the quarter ended September 30, 2013. Total Income has increased from Rs. 4964 million for the quarter ended September 30, 2013 to Rs. 5924 million for the quarter ended September 30, 2014.