The Zealous CEAT

CEAT Ltd, established in 1985, is the flagship company of RPG Enterprises. Mumbai head-quartered RPG Enterprises is one of India's largest industrial conglomerates. With over 15 companies in its fold, the group has a strong presence across core business sectors such as infrastructure tyre, IT and Specialty. Established in 1979, the group is one of India’s fastest growing business groups with a turnover in excess of Rs 21, 000 crore.

Today, CEAT is one of India's leading tyre manufacturers with capacity of producing more than 95,000 tyres per day. It is the fourth largest tyre manufacturer in Indian in revenue terms and produces over 15 million tyres a year. The company's product portfolio spans across the automotive spectrum and offers tyres for two-wheelers (2W), three-wheelers (3W), passenger vehicles (PVs), utility vehicles (UVs), trucks and buses (T&B)  and off-the-road (OTR) vehicles.

CEAT accelerates movement with the finest tyres known for their tough, smooth and secure grip on roads and manufactures high-performance world-class radials for heavy-duty trucks and buses, light commercial vehicles, earthmovers, forklifts, tractors, trailers, cars, motorcycles and scooters as well as auto-rickshaws. 

The company has strong presence in global markets selling its products in over 100 countries and offers the widest range of tyres to all segments. In terms of market segmentation; replacement, original equipment manufacturer (OEM) and export segments account for 64 per cent, 23 per cent and 13 per cent, respectively. The company has major market share in the light truck and truck tyre market.

For the quarter ended in June’17, the adjusted profit after tax (PAT) at Rs 19.4 crore was 13 per cent below the estimate as EBITDA miss was partly offset by higher other income. The capital investment target for 2018 is of Rs 500 to 600 crore, mainly directed towards new capacity expansion.

The manufacturer has recorded net revenue at Rs 1,450 crore, down by 0.3 per cent year on year. The revenue growth was driven by 2-wheelers segments, which has jumped 11 per cent and passenger vehicles market increased 8 per cent, whereas the commercial vehicle (CV) witnessed decline of 11 per cent YoY.

Slumped sales

Revenue growth of 0.3 per cent YoY was led by volume decline of 5 per cent YoY and pricing growth of 4.7 per cent YoY. The volumes have declined all across the board including replacement, OEM and exports division.

The demand in the replacement segment was impacted by destocking due to GST and in the OEM sector, the volumes were impacted by lower off-take across commercial vehicles owing to transition to BS-IV and the GST impact was felt in the passenger vehicles market. The export volumes declined on account of import barriers in Indonesia. The management has alluded that things are improving and there has been partial restoration of volumes – it is at 30 per cent of steady state level.

For CEAT report suggests a weak quarter, however the worst quarter is behind. Given the management’s guidance, things are expected to improve, though the commodity price shock persists.

Higher input costs dent operating margins

On year to year basis, CEAT’s EBITDA has decreased down 70 per cent at Rs 54 crore owing to gross margin miss and lower tonnage sales, which de-grew by five per cent. The EBITDA margins came in at 3.7 per cent, down 5.80 per cent QoQ driven by gross margin miss at 33.5 per cent.

The gross margins were impacted due to high cost rubber inventory; the natural and synthetic rubber prices increased 30 per cent and 50 per cent YoY, respectively.

Price hikes in raw materials

During the quarter, effective price hike taken was 3.5 to 4 per cent with 1 per cent in February and 3 per cent in March 2017. The extent of price increase was higher for the commercial vehicle segment and lesser for the 2-wheelers and passenger vehicles market.

During the second quarter, only marginal price hike has been taken; the company was unable to take further increase on account of lower volumes due to GST, correction in rubber prices and intense competition. Post GST, there will be slight variation in prices across states; however, on overall basis prices will mainly remain unchanged after the transition to GST.

In the second quarter, the raw material are expected to decline 10 per cent QoQ and for the third quarter, could see some marginal increase QoQ due to higher prices in the last two weeks of July.

The product mix has remained flattish on quarter to quarter basis and the mix has marginally increased in favor of motorcycles and PVs.

Softening rubber prices to support margin recovery margins

From second quarter of 2018 onwards, the margin pressure is expected to ease riding on the volume upturn by re-stocking. In addition to this, the strong healthy growth across 2-wheelers, especially scooter markets and passenger vehicles, correction in the input prices and the rupee appreciation will lead to recovery in the margins. The raw material basket has declined 10 per cent on QoQ basis.

Some of the adverse raw material impacts were mitigated by control on discretionary spends; there was 2.6 per cent reduction in other costs. These cost control initiatives and improvement in replacement volumes should serve to support margins as well. In the second quarter as well, similar control on discretionary spend is expected.

Shift to passenger vehicles sector

CEAT's metamorphosis from a predominantly truck and bus (T&B) player, which represents more than 55 per cent of industry revenue, to shine in the small and highly profitable passenger markets over 2011-16 was reinforced by a differentiated distribution reach and strong brand building. Since 2011, its strategy has been to focus more on the segments such as 2W and passenger vehicles, especially in UVs segment, unlike its contemporaries who remain focused on the T&B segment.

Within the sector, the company’s initial focus was on 2W, leading to strong market share gain. Going forward, the company is targeting to replicate its success in 2W in the 4W space. It is primarily focusing on UVs which account for 25 per cent of 4W industry. CEAT is expanding capacity by 35 per cent to ensure adequate capacities to meet the potential demand recovery in the sector.

Post the expansion, the passenger segment's revenue contribution is expected to catapult to 50 per cent in fiscal 2018 from 38 per cent in 2016 and 15 per cent in 2011. The share of OEM across passenger vehicles and 2W sectors was 30 per cent and 35 per cent, respectively.

The Mumbai-based manufacturer is well-positioned to sustain market share gains across the high margins in the 2W and passenger vehicles segments driven by capacity addition, new launches, reach expansion and higher OEM penetration, particularly in UVs.

The company has distinguished itself in the passenger segment that does not see major threat from the intensifying competition in the 2W segment and the new 2W entrants. Its peers have not really ramped up capacity and it will take at least two to three years before they achieve scale in terms of distribution and branding.

Chinese imports GO BACK!

The Directorate General of Anti-dumping & Allied Duties (DGAA) has recommended imposition of anti-dumping duty of Rs 15,476 to Rs 28,552 (US$245-452/MT) on truck and bus radial (TBRs) tyres segments whether imported or produced from China, to minimise the threat of market share loss in domestically produced radial tyres. 

After this notification by DGAA, going ahead, CEAT expects Chinese TBR tyres imports to slowdown. It expects the demand to shift from Chinese truck and bus radial (TBR) tyres to domestic truck bus bias (TBB) and TBR segments. The TBR segment will witness higher impact riding on the ongoing tailwind of radicalisation.

The market share of Chinese imports’ stood at peak at 30 per cent. Post demonestisation, the share plummeted to 15 per cent and currently is 20 per cent of market. The increasing imports from China add to the share of risks for CEAT.

Brunt of GST

The GST led to destocking by major dealers, which was around 50 to 60 per cent. Despite this, there was no slowdown in retail volumes. In July, the demand has not yet recovered as people are focusing on GST transition.  All the dealers are now registered for GST and should post volume recovery going forward with restocking. However, restocking will take time as dealers are still able to adjust to the new GST terms, especially small dealers, who may not have been fully compliant with tax laws earlier. Post mid-August 2017, the demand is expected to revive.

New launches

Off highway segment: The tyre maker has sent some of the tyres for testing to Europe; once the product is tested it will be required to be in the market for three to four months. It is expected to ramp up in the upcoming third and last quarter of fiscal 2018.

2-wheelers sector: In the two-wheelers segment, the manufacturer’s key focus area is the range of Puncture Safe tyres, which was launched in October 2016. This portfolio of tyres has the proprietary Regen Technology that will allow tyres to resist punctures with no loss of air pressure and allow a hassle free and safe ride. The tyres will vastly improve on the safety aspects since it will eradicate two wheeler accidents that happen due to tyre bursts.

Passenger Vehicles: In this market, the company’s aim is to launch more new mileage-friendly and fuel efficient range of tyres platforms such as CEAT Milaze across tyre rim sizes. The mileage platform has been launched in Toyota Innova.

Truck and Bus Radial (TBR) segment: CEAT has launched Winsuper brand in this category last year, which has demonstrated strong response.

CEAT Sri Lanka

CEAT and Kelani Tyres have, since the year 1992, combined their enthusiasm for innovation in tyres to become the largest domestic manufacturers of cross-ply and radial tyres in Sri Lanka. The joint venture has, today, established itself as a key source of tubeless tyres in local as well as international markets.

The organisation dominates Sri Lanka’s overall domestic tyre market with over 50% share in truck, light truck, radial, three wheeler and agriculture segments. It is also an emerging dominant player in the Motor Cycle segment. It has one of the largest dealer networks across the island with more than 450 dealers.

The company’s other income includes Rs 190 crore dividend from its joint venture in Sri Lanka.

New facilities ramp up on track

The tyre-producer has six manufacturing facilities in Bhandup, Nasik, Halol, Nagpur, Sri Lanka and Ambernath, which is under commissioning. The utilisation for new capacities at Nagpur and Halol stand at 60 per cent and 75 per cent, respectively.

CEAT does not intend to reduce on its two-wheelers outsourced production. The in-house 2-wheelers capacity will continue to be supplemented by outsourced production.

Rubber Imports

India consumes one million tonne of natural rubber; at the industry level, share of rubber imports is 40 per cent. For CEAT, share of imports varies by product and ranges between 40 per cent and 70 per cent depending on the price differential. India produces rubber sheets and presently, the prices of rubber sheets in the international market are higher than in the domestic market. This commodity price inflation increases CEAT risks.

Valuations: Structural record intact

CEAT has unwavering and granular focus on branding. It continues to focus on advertising and branding and has strengthened its association with sports such a IPL sponsorships, cricket ratings and title sponsor for Ultimate TT league.

The earnings per share for the financial years 2018 and 2019 have been lowered to 13 per cent and 9 per cent respectively to factor in input cost pressure. CEAT should trade in the 9 to 15 times its price-to-earning band depending on its product mix and rubber price trend; whereas the upper end of band would suffice during high rubber prices owing to lagged price hikes. At the current market price of Rs 1,740, CEAT trades at 11.3 times its expected earnings for 2019.

neha.seth@outlookindia.com