Hi,
I am still not very sure that this stock is not covered in any of the discussions previously. However, since I was not able to find any thread on this company, I thought it appropriate to put my thoughts here.
Let me begin with a disclosure as per latest guidelines by valuepickr admin team.
Disclosure: I do have position in ARBL which was taken @ 300
Commpany Profile: Amara Raja Batteries Limited (ARBL) is one of the largest battery manufacturing company in India. It has two divisions namely automotive and industrial. ARBL has very popular brands like Amaron, Powerzone and Quantas and very wide distribution network of 274 franchises across the country.ARBL is promoted by Mr.Ramchandra Galla. Jhonsons Control, world’s largest automotive battery manufacturer, holds 26% in the company. ARBL has grown from strength to strength over the years and has successfully challenged the monopoly position of Exide in India. ARBL was the first company to introduce advance technology VRLA in India giving exide run for the money in Industrial segment and capturing growing telecom tower market.
Business Environment:
ARBL caters to two main segments namely automotive batteries and industrial batteries. In India, branded battery segment is duopoly with Exide and ARBL dominating the market. Even though Exide garners larger share in automotive market due to its relationship with two-wheeler and four wheeler OEM, ARBL is fast catching up. Over the years, vehicle owners are slowly shiftingfocus from unbranded battery to “proven and branded” automotive batteries which is helping both Exide and ARBL. Considering the duopoly nature of the business and perecieved value of the “brand”, there is moderate pricing power. Typically, companies are able to increase prices with some lag to raw material (mainly lead which constitutes 60% RM cost) price.
Automotive segment
Exide is present in all the segments of automotive batteries namely four wheeler OEM, four wheeler after market, two wheeler OEM and two wheeler after market. ARBL is present in all except two wheeler OEM which it is trying toget foothold innext 2 years. ARBL commands 26% in four wheeler OEM, 34% in four wheeler after market and 24% in two wheeler after market. It has marquee client list like Maruti, Honda, Hyundai, GM, Mahindra, Tata, Chrysler, Swaraj, Ashok Leyland and many other names
Industrial Segment
ARBL has developed a fairly robust product portfolio catering to needs of various industry including telecom, power, railways, oil & gas and UPS. ARBL introduced VRLA technology in industrial battery segment by leveraging its colloboration with Jhonsons Control. This move changed the competitve landscape by making a big dent in Exide’s monopoly. This early advantage was carefully scaled upby ARBL.As a result,now ARBL has become market leader in telecom and UPS sector with 46% and 32% market share. To give some more perspective: Over 50% of Indian railway’s two and three tiered AC coaches are powered by ARBL batteries
to summarize on the business side
)- battery manufacturing is relatively simple business (for sure no rocket science!)
)- It is a steady and scalable business. every 3-4 years these batteries needs to be replaced and so the demand for the product is definitely going to go up only as they sell more batteries
-Operates in duopoly with moderate pricing power and competitive environment is benign
)- Has strong brands such as Amaron, Powerzone and Quantas with well established distribution network across the country. In my opinion business that combines brand, reach and pricing power is very likely to qualify as high quality business.
Financials and Fundamentals:
I am not posting numbers here as 10 year financials are available on its website itself.
http://www.amararaja.co.in/annual_reports.asp
If we look at 10 year history, following can be inferred.
Profit & Loss:
)- ARBL has grown its topline and bottom line have grown at CAGR 30% and 40% respectively even though from a lower base in 2001-02. In last 5 years ARBL has grown CAGR 18% on both topline and bottom line.Even though topline has grown consistently in all 10 years, bottom line degrew in two years 2003-04 and 2010-11.
Balance Sheet:
-Very good management of balance sheet inspite of very high growth rates. Current debt to equity stands at 0.1 while the highest debt to equity was 0.95 in 2007-08. It has also managed its working capital needs well as its net current assets/sales dropped from 0.43 to 0.22. ARBL holds roughly 300 crores as cash on its balance sheet which is deployed in bank FD and liquid funds.
Cashflow:
ARBL has been generating positive operating cash flow for last few years and is typically slightly more than its net profit. Moreover, if we take into account depreciation as maintenance capex, company has been generating substantial free cash flow. ARBL is paying small part of this FCF as dividends whilethe larger partis redeployed in business for growth. I have no quarrels with this as management is generating very decent return on the capital and as Mr.buffet puts it the best business to invest in is the one where large amount of incremental capital can be deployed at high rate of return.
Ratios:
As warren buffet puts it, any business in the long term can not grow its value at higher rate thanreturn it generates on its equity (ROE)and hence it is the single most critical parameter. ARBL has fairly decent trackrecord on this front. It has improved its ROE from 4.5% in 2001-02 to 29% in 2011-12. Moreover, Since 2006-07, ARBL has consistently generated ROE in excess of 20%. Similarly, ARBL has been able to expand its net profit margin from 4.6% to 9.1%. Both these indicates improving quality of business.
Management Quality:
As I went through ARBL’s annual reports, I was impressed. ARs are exhaustive and gives a good sense of where business is going with clear articulation of future course of action. Moreover accounting is standard and I was not able to find major objectionable points. Management is doing a great job in terms of disclosures. Moreover, Jhonsons Controls 26% equity gives me lot of comforton corporate governance front. In general, my sense is that ARBL management is competent and transparent with no major negatives.
**Valuations: **
ARBL is currently trading at TTM P/E of 12.5 which is fairly decent considering impressive historical growth rate, ROE of more than 25%, free cash flow generation and simple, steady and scalable business run by reasonably good quality management. Management has given guidance of 15-20% growth in bottom line which if we take on its face value, we are talking about forward P/E of 12.In terms of margin of safety, on a very rudimentary basis, if I assume 10% FCF growth rate for 10 years, 3% terminal growth rate and 12% discount rate, typical margin of safety is around 20%. However 10% growth rate is conservative considering past track record, size of the opportunity and growth plans. I do feel it is a high quality business and hence intrinsic value is going to grow considerably due to inherent quality of business.
Risks:
Significant rise in lead price is one of the key risk as it directly impacts ARBL’s margin. ARBL’s competitor (Exide)has its captive lead smelter capacity which typically helps Exide reduce its lead cost. Thus Exide will be able to absorb rise in lead price more effectively with lesser “pass through” to end user. It will be difficult for ARBL to increase price in absence of price increase from Exide in after market segment and hence its marging may ger impacted in that pertucular segment.
Another threat I see is when Exide starts cutting its margin to improve its market share or stop eroding its market share. Even though, it is a distant possibility, it can not be ruled out.
In all, I think ARBL isa high quality business which is simple, steady and scalable, run by decent managementand available at a decent valuation.
I invite views of fellow boarders on the same.
