Great going Donald… 
Hi Guys,
It’s a great pleasure to bring to you Balkrishna Industries Management Q&A. This company has a great track record and is on a firm ground for the next 5 years at the least. Its on track to achieve $1 Bn in Sales and a 10% global market share by 2015.
The updated Management Q&A July 1, 2011 should tell you why!
Please have a look and provide your valuable feedback and carry forward the discussions.
-Donald
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Hi donald,
I went thru the q&a posted by you.
One thing comes out very clearly and that is that the management is quite clear about what they want to do and what they dont. Shows the management in very good light.
Coming to specifics about the company, with rubber prices cooling off now, the company could be in for some good times.
But the alliance threat looks like it is for real bcos the alliance promoters know how to build up business froms scratch.
Yes Hitesh, it was a pleasure interacting with Management. Yes they are very clear about what they want to do. And how to go about it. They seemed to have plans on the board for beyond 2015.
What I liked most was the assured way each and every query was answered, alamost always drawing the bigger picture first before coming to specifics - that shows great clarity in what they are going after, as you could rightly sense.
They acknowledge that Mahensarias are capable. But the reality is they can be a credible threat not before 5 years at the least by which time BKT would have surged further ahead. And as mentioned by them repeatedly even then, there is no reason for animosity or undercutting killing each other when the two Asian players can keep eating away market share from the bigger players for a number of years ahead.
Great effort. Debt burden of the Balance Sheet of the company is a little worry. little debt is ok
Thanks. They said they will utilise only 500 Cr in FY12. Totally debt/equity will not cross 1.3x. And cost of debt they maintain is less than 2%, because of ECB loans tied-up. Historically they have managed debt between 0.7x-1.3x
As I see it, delays in execution are the main risks.
-Donald
Hi Donald,
You met BKT and Mayur management nearly back to back. Both have nearly 30-40% annual growth prospects for the next few years. If you had to invest in only one of these two, which one would it be? And why?
Its an interesting question!
Disc: I am invested in both. And am looking to put in more post the management meets. I have big vested interests in both.
Mayur has the advantage of having an asset light model. Great profitability & returns. Strong BS -almost debt free, we havent seen any RM related vulnerability even though Rm/Sales is 70-75%. It has started seeing success on a global scale, it needs to prove that it can sustain initial gains. Good Products, Quality & Operations are expected to be strengthened by industry veteran professionals coming on board. There is lot of promise, and lot of challenges in scaling up to meet the opportunities. It is a 250 Cr company. 2012 Mayur may grow slower than 30% because of capacity coming on stream slowly, but should clock a 30% rate for the next 2-3 years.
Balkrishna is an asset-intensive model. They have to keep investing in capacities to keep growing. Margins are vulnerable to wild swings in Rubber prices -though they can pass on prices to an extent because of price differentials they enjoy. It has a great track record, enjoys 4% global market share and looks set to get to 10% market share by 2015. It is a 2000 Cr company. It has already established itself on the global scale, marketing themselves is no more a challenge - the challenge will always be capacity additions.Interesting part is BKT may be able to grow as fast as Mayur Uniquoters for the next 2-3 years, provided they dont falter on execution. Finances at very low costs are tied up.
Sector perception
)- it will take 2 years for Mayur to be seen differently than it is today. It needs to make a success of Auto OEM exports and Auto Replacement market exports. It needs to cross 500 cr in Sales or 50 cr in profits which may happen earlier. So current valuations for Mayur maybe considered fair till it demonstrates it can scale up successfully.
BKT is unfortunately clubbed among tyre players and gets tyre player valuations even though margins and returns are double the tyre industry. This is acknowledged by astute investors like Prashant Jain (HDFC) and Ashish Dhawan ( Chrys Capital) sitting on BKT from long. Current valuations of BKT can be considered NOT fair. By FY13 when large capacity comes on stream, there may be trigger for rerating.
My own take
I don’t care so much for sector perceptions, though I have learnt to understand them better. I seem to believe at this stage (reserve the right to change as I learn more:)), if business characteristics are superior, and the company keeps performing, market has to accord higher valuations at some stage. And I would rather be in a superior business.
I am invested in both. But 3:1 Mayur:BKT. Post new investements in both this will be more like 2:1. Inherently I like Mayur’s business characteristics better. I keep asking fellow investors show me another company of Mayur’s size with the same characteristics - asset light model, fixed asset returns of 6-8x, debt free, ROCE in excess of 40% and growth in excess of 30%, current opportunity size of 5000 cr plus in front, and a focused Management. BKT is a more mature player, established, well-poised to keep replicating earlier year successes. Its showing aggression at the right time, and as Hitesh says - they know what they have to do and how! They have the ability and standing to secure funding for growth at very attractive terms too.
The scale is tilted 3:2 in Mayur’s favour for me, as it’s business characteristics seem better to me. BKT is a good enough business that must get its due sooner than later.
If someone were to force me to choose only one, it will be Mayur Uniquoters as things stand currently.
_
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Invite views from everyone. It is an interesting capital allocation question I guess, and should interest all the veterans. Asking for help and views from all, especially senior market participants.
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Both companies are good with good growth projections, high ROCE. Low debt is in favour of Mayur while scalability is in favour of BKT. I would go for both.
Donald, I am also currently 3:1 in favour of Mayur in my portfolio. I am in fact planning to add more of both, but am likely to keep the 3:1 ratio (more or less). Mayur, I think, has a huge opportunity size. Everywhere around me I see artificial leather replacing the natural one. They already have a exhaustive client base within India. Auto OEMs are likely to boost their image and profitability further.
BKT is also a good niche play, although I personally do not understand very well the likely scale of opportunity.
I think both should be good to have for the next 3-5 years and see how the story develops.
Capital allocation is probably one of the most important aspects of investing.Here’s my take - although not specific to Mayur/BKT. Everytime i need to decide how much capital to allocate to a particular company i use the following steps:
Step 0: Identify the companies whose business dynamics you understand reasonably well - either because its inherently a simple business and/or because you’ve spent time and energy to understand what factors affect a particular business’ performance. This is basically your universe of companies.
Step 1: Predict the approximate EPS (a range,may be) one year down the line.If you are unable to predict the EPS with a reasonable degree of accuracy then it means two things:
a) This is a complex business where profits depend on a number of totally unpredictable factors.Its better to remove such companies from your universe/sample space.
b) You don’t understand the business well enough.Read more about the business.Do some scuttlebutt.This is a learner’s game.If you spend time understanding simple businesses, their sources of profit and external factors that affect business, eventually you’ll be able to estimate the one year forward EPS with a reasonable degree of success.
Step 2: See if there is a possibility of a PE re-rating. Or will the PE remain the same. Or may be the PE will be de-rated? Estimate what the PE might be based on your projections in Step 1.Remember to be conservative.In most cases assume PE will remain the same or there’ll be a slight re-rating(if expected profit growth in step 1 is out of the ordinary).If you think there’s going to be a de-rating you know what to do.
Step 3: Now you have an approximate PE and an approximate EPS range. Arrive at your target price.
Step 4: Now based on the CMP and target price - check what the expected return is.
Step 5: Repeat steps 1 to 5 for all companies in your universe (step 0). Compare the expected returns arrived in step 4. For example if you have three companies A,B,C and the return expectations are 40%,25% and 10% respectively you should invest:
a. 40/(40+25+10) = 54% in company A
b. 25/(40+25+10) = 33% in company B
c. 10/(40+25+10) = 13% in company C
Assumptions
a. Ofcourse this is not exact science.Every year that you repeat this exercise,learn from your mistakes, learn new things about your business you’ll get better at predicting the EPS of the businesses you understand and hence better at capital allocation.
b. I use just one year because i feel predicting more than one year ahead for ANY business is futile. The business environment and the capital market that we operate in is way too dynamic to talk about the ‘really long term’.So we take one year at a time.
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On capital allocation:
Approach towards capital allocation depends on type of investor one is. I would allocate most towards a company run by management which believes in continuous improvement of its profit margins and development of new products to add new revenue streams. This can be used as an additional determinant; it complements well with other quantitative approaches such as predicting future cash flows, earnings and margins to arrive at an approximate intrinsic value.
On Balkrishna Industries story:
Though it looks promising, I’m bit skeptical about BKT’s ability to maintain its profit margins as intense competition in the tyre industry is likely to force competitors to enter into high margin OTR sub segment. Is having diverse SKUs adequate to maintain margins? What would prevent global tyre majors to set up manufacturing facilities for OTR tyres in India to take advantage of labour cost arbitrage?
I think BIL’s moat/competitive strength has already been covered by Mgmt Q &A posted in the forum. It operates thru diverse SKU’s(1000’s) to cater to small sub-segments which are too small to be pursued by the big players. Setting up such units in India would entail managing lots & lots of skilled labour across multiple locations. Even local tyre manufacturers are reluctant to try do the same going by their lack of focus in the OTR segment.
On the face of it, yes its difficult to understand why Indian biggies haven’t entered this segment or global biggies havent tried to manufacture from India in this segment. Michelin is investing in a radial tyre plant in India which is set to go on course from Nov 2012, but no plans on OHT segment. One reason is that OHT segment is less than 10% of its total revenues, and it sees much more potential from the commercial tires segment in India. OHT is not a focus area for tire majors - that has been pretty evident.
I think one has to examine BKT’s long term track record to become more comfortable with the sustainability & longevity of its competitive edge. The difference in margins in off-highway and commercial tire segments existed even 10 years back. Since then global majors like Goodyear & Continental have been exiting this segment as they found it uncompetitive. and BKT has gone from 160 Cr in Sales to over 2000 Cr in Sales in last 10 years or so.
BKT has also tried to explain why Indian majors haven’t entered this segment. They have said it takes an entirely different approach to manufacturing and managing the low-volumes large-varieties segment as opposed to commercial tyres manufacturing. It needs a completely different factory with different processes to manage and maintain such large number of SKus and still maintain high utilisation. Its a completely different focus that needs to be brought and thats the reason that Apollo and MRF have entered this segment in a small way years back, but have not scaled up that business.Couple this with the lead time of 5 years+ required (as claimed by BKT) to get to an SKU size to offer any effective competition.
BKT maintains that scaling up the OTR business would mean for Apollo and MRF to shift focus from mainstream tire manufacturing which they are unable to do.
Hope this helps.
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Re: Capital Allocation
Thank you for the useful pointers. I feel these are useful points to start thinking on capital allocation properly, which I am trying to.
I have some queries:
It appears Growth Prospects is the biggest factor in yr capital allocation scheme. Please comment what weights would you give if any to Business Quality (sector industry), Management Quality and Fundamentals.
Also isnt 1 yr too short a timeframe? Should we not be looking at 2-3 yr timeframes for differentiating on the basis of compunding that a stock has to offer vs another.
-Arindam
Arindam,
The question one needs to ask is how am I able to predict growth?It is like you said a combination of the business quality,the management quality and the external factors (tailwinds).If you ask me what’s most important - its the tailwinds.If you are operating in afavorableenvironment(think consumer companies) whether you have a good business model/good management or not,you’ll do reasonably well. But if you have tailwinds along with a good business model run by a great management you have won the lottery.Well almost.
On the other hand if you have a great business model and a great management operating in anunfavorableenvironment(think infra which is reeling under govt inaction) there is only so much you can do.
Whether one year is too short a time? You know a lot can happen in one year if you’ve lived through the bust of 2008 and importantly the boom of 2009. Take for example two stocks A and B you own in equal proportions each currently at Rs.100 and expected growth of 50% for the next 2 years for both.So the terminal price (after two years) is expected to be 225 for both.
At the end of one year A is at 200 and B is at 150.Now you do your due diligence and find out nothing has changed in the growth prospects.Now A has only 12.5% upside left while B still has the 50% upside intact.Does it not make sense to switch most of your money from A to B? On the other hand after one year if you find that A can now grow at 100% and has a target price of 300,you move more capital from B into A.
This begs the question why not do thisre balancing every quarter. I personally feel nothing meaningful will change in 3 months.If you think it might by all means use the formula.To answer your question 2-3 years is a little too long if you have 5-6 companies in your universe and you want to own only 1-2 at any given point in time.The fundamentals and prices change so dynamically nowadays that what’s good this year might be the worst thing to hold the next year.
To be successful at capital allocation the most important thing is to define your circle of competence.Because only when you know the boundaries of your circle will you be able to take the right decisions. If your strength is financials,stick to it. Just because somebody is telling you that there is a 100% upside in pharma - don’t put your money there.Work towards increasing your circle of competence but always allocate within your circle of competence - that is the only way to perfect the art of predicting EPS/PE.
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Titan To Implement Price Increase
Titan Tire Corp., a subsidiary of Titan International, Inc., will implement a price increase for the aftermarket on all Titan branded tires and Titan manufactured Goodyear branded farm tires effective on all shipments on or after August 1, 2011. The increase of up to 8% will offset rising raw material, energy and transportation costs. Certain tire prices may rise in excess of 8% due to realignment and positioning of the product.
More information can be found atwww.titan-intl.com
One thing missed by most of us is the FY12 Sales projection of 2700 Cr given in the Balkrishna Management Q&A.
Here are my workings base don that guidance.
|
Balkrishna Industries |
2009 |
2010 |
2011 |
2012E |
2013E |
|
Growth |
10.88% |
43.65% |
34.81% |
30.00% |
|
|
Net Sales |
1257.47 |
1394.30 |
2002.88 |
2700.00 |
3510.00 |
|
EBITDA |
202.83 |
398.40 |
370.70 |
486.00 |
631.80 |
|
EBITDA Margins |
16.13% |
28.57% |
18.51% |
18.00% |
18.00% |
|
Depreciation |
56.52 |
66.22 |
74.44 |
108.00 |
140.40 |
|
Depreciation/Sales |
4.49% |
4.75% |
3.72% |
4.00% |
4.00% |
|
EBIT |
146.31 |
332.18 |
296.26 |
378.00 |
491.40 |
|
Interest |
37.65 |
18.66 |
21.22 |
33.75 |
43.88 |
|
Interest/Sales |
2.99% |
1.34% |
1.06% |
1.25% |
1.25% |
|
PBT |
108.66 |
313.52 |
275.04 |
344.25 |
447.53 |
|
Taxes |
37.94 |
104.80 |
89.38 |
113.60 |
147.68 |
|
Tax rate |
34.92% |
33.43% |
32.50% |
33.00% |
33.00% |
|
PAT |
70.72 |
208.72 |
185.66 |
230.65 |
299.84 |
|
Net margins |
5.62% |
14.97% |
9.27% |
8.54% |
8.54% |
|
# of Shares |
9.67 |
9.67 |
9.67 |
9.67 |
9.67 |
|
EPS |
7.32 |
21.60 |
19.21 |
23.86 |
31.02 |
|
EPS growth |
195.14% |
-11.05% |
24.23% |
30.00% |
|
|
P/E |
8.64 |
6.96 |
5.35 |
||
|
P/Sales |
0.80 |
0.59 |
0.46 |
Assumptions:
a) Higher depreciation assumed as 500 Cr capex to be utilised in FY12
b) Highere Interest costs assumed as Debt will go upto ~1100 Cr (existing 600+500). cost of debt assumed at 3% instead of 2% guided by Management
With these its evident that even FY12 may be a good year for Balkrishna with ~25% EPS growth, which I had assumed would be subdued for the year. This is most welcome!
Views Invited!
Hi Donald,
Couple of observations on your projection picture:
1). I don’t think the interest cost would bloat to approx 34 Cr. If one looks at the recent qtrs, the int cost was at about 3.5 Cr and hence annual charge was about 14-15 Cr. For this year expansion, the cost would be around 150 Cr…even if we take 10% cost on that, the interest cost should remain at less than 25 Cr for this year. Assumption - Interest cost on expansion at Bhuj would be capitalised till the plant becomes operational.
2). Similarly depreciation might remain at around 90 Cr.
Also we should do a couple of sensitivity analysis in our excel sheets…like take turnover range between 2500-2700 Cr. Take margins range between 18-22% and try seeing the results. As this year the natural rubber prices are decreasing and end prices stable or increasing, i would expect margin expansion to happen after a qtr or so(aveg OPM for last 8 years is about 22%)…and if it happens, the EPS for FY 2012 could be way higher.
Views Invited
Regards,
Ayush