Havells India Jan 09 Fairwealth Securities Initiate-buy Target280

FAIRWEALTH SECURITIES PVT. LTD. January 30, 2009

Havells India

India Electrical Equipment

Reuters Bloomberg BSE Code

CMP:

HVEL.BO HAVL:IN 517354

Priced on January 30, 2009 ±% potential Target set on

+143% 2ND Feb 2009

Market Data 12M hi/lo Shares in issue (mn.) Market cap, INR Millions: Beta

570/110 57.9

6410 1.34

Target: Rs. 280

Target price of Rs 280 based on— We initiate a BUY with a one year target of 280. Stock is trading at trailing P/E ratio of 4.11, trailing P/BV of 1, forward P/E Ratio of 4.26 (FY10E) and 2.6 (FY11E). We expect FY09E of P/E at 44. FY09 is marked by a lot of exceptions including one time severance cost, Forex Fluctuations, Inventory Price Fluctuations and severe Global economic recession. Share prices for Havells have corrected 40% from 3 month high of 187.50 and 80% from 1 yr. high of 570. Wide product portfolio and huge distribution network across 50 countries will be key growth drivers for the company.

Result Round up: Company has come out with its Q3 results and as expected company’s profitability and sales have taken a hit, sales for company(standalone) have fallen by 9% ( 2% in volume terms and 7% in value terms), Company’s net Income has fallen by 70%, to 114 million. We consider these results are better than expected as company has maintained profitability while other players in the industry have reported huge losses. On a consolidated basis Sylvania’s depreciation and interests’ costs continue to pull down the consolidated results resulting in Rs. 862 million losses for Q3 and Rs.560 million losses for YTD (9 months consolidated results). Sylvania’s EBITDA margins have been near nil for Q2 and Q3 FY09. We expect Company should return to black in next quarter on a consolidated basis as raw material costs (metal and PVC polymers) have fallen by more than 40% since July highs.

New products to lead growth

Share Holding Pattern

Major shareholders Promoters

62.5%

FIIs

16.9%

Foreign Corporate:

7.5%

Others

9.0%

MF’S

4.1%

Sovid Gupta Equity Analyst: Fairwealth Securities Pvt. Ltd.

Fairwealth Securities

Rs.115

With consolidation of the Company with its subsidiary, a lot of new products are expected to hit the market. We expect Indian Company’s revenues to rise even in tough times, as newer products in both consumer and Industrial sector will hit the markets and the Company increasing its presence in other markets. Though, we believe that strong advertising expenses may have some impact on EBITDA margins in short run, but strong brand value that the Company has established will help them in times of tough economic conditions.

Industry Potential As Global Economy prepares itself for worst recession in years and Real Estate and construction industry being worst hit, going will not be smooth for Electrical Equipment manufacturers of India. Expanding to other economies will be more difficult as global demand slackens and governments turn protectionists and implement trade barriers.. Though most of the large players shall have difficulty, Havells having established an excellent brand value, higher margins and lower Debt (Standalone), should be able to pass such tough times quite easily and register earnings growth 20% for FY10E to FY12E.

Page 1

Havells India - Buy

Company description Havells is India’s leading consumer electrical player with a diversified portfolio, was incorporated in 1983. Havells India is in four segments namely: Switchgears, Cable & Wireless, Lighting and Fixtures and Electrical Consumer Durables. It is amongst the top three players inmost of its products and is fast increasing its market share through aggressive brand building. In 2006, the Company acquired European Electrical Equipment manufacturer Sylvania’s Lighting business in Europe at 300 million dollars whose sales were more than double than its own. SLI Sylvania, which is headquartered in Frankfurt, is a leading global designer and provider of the lighting systems for lamps and fixtures. Consumer products account for 85% of Company’s consolidated revenues and has become a global player with presence in more than 50 countries. International operations contribute 68 percent of Company’s revenues. It has a strong dealer network of 4000 dealers and 94 branches which offer wide range of products.

Source: Company Report Sylvania contributed 59% to the groups consolidated revenue for the year FY08.

Sylvania: Sylvania Standalone Expected Results 2008

2009E

517

495

570

620

4.10%

10.30%

8.80%

29470

30690

35340

38440

EBITDA

1562

700

2100

2821

EBITDA mar. (%)

5.30%

2.28%

5.94%

7.34%

173

-900

460

910

Revenues (mn €) Growth(%) Revenues (Rs. Mn.)

PAT

2010E

2011E

Source: Fairwealth Securities Estimates Sylvania has lower EBITDA margins of 5% (FY08) than Havells India which stands at 10%, and lower Net Profit margins at around 1%-2%, we expect these margins to reach levels.

Sylvania is world’s fourth largest lighting and fixtures brand. Company has deep penetration in European and Latin American markets and is rapidly increasing its presence in Asian markets. Sylvania is one of the most globally recognized brands for over a century in the electrical industry. SLI Sylvania has 10 manufacturing plants located across Europe, Latin America and Africa with employee strength of more than 4,000. This Company had FY08 revenues of 517 million Euros, and EBITDA margins of 5.3%. Company has witnessed 10% fall in its Q3 FY09 revenue in Euro terms vis-à-vis Q3 FY08. Most of the fall in revenues was in European region which forms 70% of total revenues, However Latin America which contributes 23%, showed better growth numbers. On a quarterly basis revenues were up 1% in Euro terms Company’s EBITDA margins fell from 6.1% in Q3FY08 into a negative territory due to exchange fluctuations, integrations costs, drop in sales, and changed product mix. Company’s PAT decreased from a 75 million INR profit in Q3 FY08 to a staggering INR 976 million loss (including one time cost of 607 million). Although, it is the fourth largest Company but it has only 5 percent market share in European markets and with tough Economic conditions we expect next few quarters very crucial as the Company has only 6% EBITDA margins (previous years) compare with 10% for Indian parent and Interest and Depreciation costs are 4.5-5% of current sales. We expect weak revenue and EBITDA numbers to continue for next few quarters till global consumer spending on Infrastructure and Construction sector revives. Company is most likely to increase its penetration in Asian, African and Latin American markets; also we expect more new product launches from its Indian parent Havells especially in Latin American markets. EBITDA margins are expected to rise back to previous levels of 6% by H2 FY10E and to 7% by FY11E. Sharp fall in polymer and plastics prices will show effect in Q4 FY09E numbers.

Fairwealth Securities

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Havells India - Buy

Havells India: Indian Operations of the Company are divided into 4 key segments:

Switchgear: Havells is the largest manufacturers of MCBs, RCCBs, and distribution boards in India with the market share of around 25% in the market for MCBs. In FY08, switchgear contributed 25% at Rs. 5420 million to its overall revenue. This segment is the most profitable one with operating margins to the tune of 33% in the FY08. The Company currently exports MCBs to over----- countries, including the quality conscious European countries. The Company is the number one player in domestic switchboards with more th than 20% market share and is the 4 largest in Industrial switch boards. Havells is the leading player in domestic switchgear manufacturer in India with 22% market share and among top 5 Industrial Switchgear manufacturers with 7% market share. This business contributed less than 30% revenues of Havells India.

With continued investment in power sector we expect Company to grow at 15% CAGR over FY08-FY12. Switch Gear division had EBIT margins of 32% for Q3FY09. We expect margins in this business will remain stable above 30% over long term.

Cable and Wires: The cable & wire segment generated Rs 2133 million in the Q3FY09 registering y-o-y de-growth of 14% EBIT margins fell from 9.5% 9M YTD FY08 to 5.4% in FY09. Fall in revenues was registered due to drop in prices of cables and wires and huge margin drop in was due adjustment in inventory due to massive reduction in prices of Copper in this Quarter. Company had negative EBIT of Rs. -76 million on revenues of Rs. 2133 million for Q3. The Company is recognized as quality manufacturers of cable & wires and offers a complete range of low and high voltage PVC and XLPE cables, besides, domestic FR/FRLS wires, Co-Axial TV and telephone cables. During the FY08, the Company had almost doubled its capacity.

Cable and Wire segment saw margin degrowth from 9.5% in Q3FY08 to 5.6% in Q3FY09.

Fairwealth Securities

We expect Havells’ strong brand value and aggressive marketing to help it grow its top line for its cables and wires segment at a CAGR of 12% over FY09E-FY11E. Key factors for future Growth: •

Since Construction and real Estate sector has slowed down, we expect demand to go down in near future and will pick up slowly.

•

Although investments in power sector will continue to rise but Havells will not be able to take complete advantage as it does not manufacture some range of High Tension cables. Having said that it is also a fact that Havells registered revenue growth of 64% CAGR over FY04-FY07.

•

Margins should improve by Q4 FY09 as prices of metals and Petroleum Polymers have corrected sharply, and Company should be able to charge premium over competitors.

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Havells India - Buy

Lightning and Fixtures Company is in process of setting up a new plant for Electrical motors I Rajasthan.

Currently only 60% of the domestic CFL is manufactured in India and remaining 40% is Chinese. Indian players are expanding their capacity to takeover from Chinese player. With Sylvania acquisition, a lot of new products in CFL, Luminaries and Fixtures are expected. Segmental Revenues-Stand Alone(Rs. Million) Q3 FY09 1,367

1,405

-3%

Cable & Wire

2,133

2,414

-12%

Lighting & Fixture

751

875

-14%

Electrical Cons. Durables

496

499

-1%

Others

113

172

-34%

4,860

5,365

-9%

Source: Company Report

Our estimates put Lightings and Fixtures business growth at 25% CAGR FY10E – FY12E as industrial growth is likely to pick up.

Electrical Consumer Deliverables & Others

Q3 FY09 Q3 FY08

FY08

Switchgears

43.5

48.0

172.8

Cable & Wire

-7.7

19.7

87.5

Lighting & Fixtures Electric consumer Durables

12.8

16.0

34.9

10.9

10.4

49.1

0.0

0.7

5.5

Total 59.6 Source: Company Report

94.9

349.8

Fairwealth Securities

Havells also offers products like electric fans, meters and ‘Crabtree’ brand bathfittings which are largely consumer products and add diversity to Havells product profile. With strong brand image among domestic consumers, Havells may launch new products like Geysers in this segment. We believe the electric fan segment, which contributes 10% to consolidated revenues, and generates operating margins in excess of 20%, is the key focus segment. The Company has increased its share form 3% to 13% in the organized fan market of INR 17 bn. from FY05 to FY08. We expect Company’s top line to grow at CAGR of 25% as industry growth likely to pick up and organised players increase their share in the market.

Profit before Interest and Tax

Others

Currently 60% of the CFL and only 30% of the fixtures market is organized.

Q3 FY08 Growth (%))

Switchgears

Total

During FY08, the turnover of the division grew at 25% y-o-y to Rs 2900 million, first quarter revenues stood at 650 million, 11% up from same period of previous year. The Company generated operating profit of Rs.190 million with 26.7% margins as against 12.3% margin last year. In this division, the Company expanded its CFL capacity to become the largest CFL manufacturer in the country. We expect Company to aggressively pitch this segment by launching a range of products in lightings and fixtures as it brings products from the stable of Sylvania into the Indian markets.

Results Roundup: Margins for all segments except Cable and Wireless Segment went up significantly.(Refer table) Cable and wireless segment is bulk sale market and less retail customer focussed. Strong price competition led to drop in sales prices. For all other divisions Company has successfully maintained its prices and could demand price premium. Revenues from Consumer Deliverables have increased sharply as Company’s new designs in fans have found customers’ fancy. Also significant higher sales have led to higher margins.

Page 4

Havells India - Buy Financial Estimates: Income Statement(Rs. Million) Year

FY07

FY10E

FY11E

15,472

50,022

55,200

59,450

69,500

EBIDTA

1,457

3,469

1,871

3,560

4865

97

695

770

832.3

973

1,360

2,777

1,101

2,728

3,892

161

1,033

1104

1189

1290

54

250

190

190

190

1,253

1986

187

1,729

2,792

Tax

184

376

37

344

555

Net

EBIT

We have put Company’s Net Income Estimates at 150 million; however it could be revised downwards if economic conditions worsen.

FY09E

Revenue Depreciation Our estimates put FY09 numbers as flat, sales growth is on account of higher Euro rates, We estimate Company to have 12% CAGR from FY09E-FY11E. We estimate domestic and International markets to stabilise only by H2 FY10.

FY08

Interest Other Income Pre Tax Profits

1,021

1,610

150

1,560

2,530

Shares

54

58

58

58

58

EPS

19

28

2.6

27

44

P/E

6

4

43

4.3

2.6

FY09E

FY10E

FY11E

4.3%

6.0%

7.0%

Source: Fairwealth Research Estimates

Key Ratios: Margins as % of Revenues(Cons) FY07

FY08

OPM (%)

9.4%

6.7%

GPM (%)

9.7%

7.2%

4.6%

6.3%

7.3%

NPM (%)

6.8%

3.2%

0.3%

2.6%

3.6%

Dep./Sales

0.6%

0.6%

1.4%

1.4%

1.4%

Interest/ sales(%)

1.1%

2.0%

1.9%

2.0%

1.8%

Interest Coverage Ratio

8.0

2.7

1.0

2.3

3.0

ROAE

40%

25%

2%

20%

26%

24% ROACE 40% Source: Fairwealth Research Estimates

5%

13%

17%

Valuation Ratios: Company’s Debt Equity Ratio is rising alarmingly, company’s Debt Equity Ratio has risen to a level of 2.4 (YTD 2009).

2007

2008

2009E

2010E

2011E

0.2

1.88

1.91

1.53

1.21

EPS

20.0

28.00

2.60

27.00

44.00

P/E

5.8

4.11

44.23

4.26

2.61

P/BV

2.4

0.97

0.95

0.77

0.60

EV/EBITDA

4.63

4.91

10.02

5.37

3.76

EV/Sales

0.44

0.34

0.34

0.32

0.26

Debt/Equity

Source: Fairwealth Research Estimates

Fairwealth Securities

Page 5

Havells India - Buy

On segmented basis Interest and Depreciation costs for Sylvania are 4.4% for Q1 and 5.1% for Q2, while same figures for Havells are 1.7% and 1.6% for consecutive quarters. Thus in tough times EBITDA margins falls, profitability for Sylvania (FY08 contribution 60% of revenues) will fall drastically, putting pressure on the parent Company.

Quarterly Margins for Havells and Sylvania for FY09 Havells Q2 EBITDA

Sylvania Q2

Cons. Q2

Havells Q1

Sylvania Q1

Cons. Q1

10.3%

-0.6%

3.8%

10.0%

6.1%

7.7%

Dep. /Sales (%)

0.8%

2.1%

1.5%

0.7%

2.1%

1.5%

Interest/Sales (%)

0.9%

3.0%

2.1%

0.9%

2.3%

1.7%

PBT(Exc. Other Items)

8.7%

-5.7%

0.2%

8.5%

1.8%

4.4%

Note: These numbers exclude other income and one time extraordinary expenses to have a better clarity.

Source: Company Report

Key Risks: Company will step into lots of untested water as it forays into newer markets.

Havells: India Operations Entry of low cost electrical products from China could stunt the growth of Havells and could also affect the product portfolio, especially the new products which are finding their feet in the market. Slowdown in domestic business: Slowdown of Real Estate and property market is hampering revenues and margins in the domestic business. The demand for industrial products is dependent on investments in the power and Industrial sector. We believe delays in the execution of new power projects can potentially impact demand growth for industrial products (namely power cables, industrial switchgear, motors and capacitors)

Sylvania: Interest cost impact on profits: As already shown in Table Interests and Depreciation forms 5% of Sylvania’s Sales. This remains a reason for concern as International business is likely to remain weak under tough macro economic conditions over next two to three quarters. Debt/Equity Ratio has risen to an alarming level of 2.4. Further losses will be a double whammy as Equity will recede and company will need more cash for Working Capital Requirement. Sylvania integration and cost rationalization are the key challenges. Havells plans to rapidly rationalize costs and close down some operations of Sylvania’s European operation and also start outsourcing few products from India. We believe Company will go have to slow down with these plans. Issues relating to retrenchment and plant closures and cultural differences have to be settled carefully to ensure smooth integration of operations. HIL could be affected by currency fluctuations and with Sylvania expected to be one of the major growth driver for HIL in future, any volatility in currency could adversely affect the revenue and earnings of Havells. Sylvania has only 5% market share in European markets and competition from larger players and entry of Chinese products can impact the revenue growth and margin expansion at Sylvania. .

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Havells India - Buy

Investment Rational Shareholding pattern: Havells India

We believe strong all-round demand for electrical products, coupled with capacity addition across segments, will drive broad-based revenue growth for Havells. Company will leverage the distribution channels of Sylvania to have better access to European and Latin America. Havells is the market leader in domestic power distribution products. The Company has strong brand value and will continue to increase its market share across all segments. We believe that most of the downside has already been captured in this stock. Strong fundamentals and good management will easily be able to ride the tough times. We initiate a buy on the Company on basis of: 1. 2. 3.

Source: Company Reports, NSE

4.

Share holding patters has not changed much since Dec’07, Warburg Pincus took a stake by buying 41.6 lack shares at Rs. 625 a share and 26 lack convertible warrants that can be converted into equal number of shares, by March’09 at 690,

5.

Strong fundamentals and high net worth, Company trades at P/BV of just less than 1. Strong management and management experience to handle tough conditions. Manageable levels of debt at Rs. 12962 millions and cost of debt remains at less than 8%, most of the debt is raised for Sylvania (around 75%). Growth opportunities unlimited as Company will continue to harness opportunities in India and abroad through use of products and distribution channels of Sylvania. Strong brand image and product innovation will help company to grow India operations 10% CAGR over FY09E-FY12E.

We initiate a BUY with a one year target of 280 , which is approximately 143% up from current market price. Stock is trading at trailing P/E ratio of 4.11 and forward P/E Ratio of 4.26(FY10E) and 2.6(FY11E). We expect FY09E of P/E at 44. The stock at a current market price of Rs 115 is expected to outperform the broader indices in medium to long term.

Havells India( Red Line) stock price has fallen 80% over last one year, while the benchmark capital goods index has fallen by almost 60 percent over 1 year period.

Fairwealth Securities

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Havells India - Buy

Annexure: 1. Income Statement:

PROGRESS AT A GLANCE OF LAST 5 YEARS(Rs. Millions) Consolidated

Standalone

2008(Cons.)

2008

2007

2006

2005

50022.1

20540

15450

10036.9

5820

Turnover PBDIT

3464

1910

1450

1020

610

Depreciation

694.3

130.6

97.4

65.4

40.892

EBIT

2769.7

1779.4

1352.6

954.6

569.108

Interest

1033.3

254.2

209.4

226

165.2

Other Income

250

132

31

57

27

PBT

1986.4

1657.2

1174.2

785.6

430.908

Tax

376.5

227.1

183.9

152.8

127.006

PAT

1609.6

1435.4

1021.5

632.7

305.264

Source: Company Report

2. Cash Flow Statement:

Cash Flow Statement( Standalone)-Rs. millions Mar '08

Mar '07

Mar '06

Mar '05

Net Profit Before Tax

1662.5

1205.4

785.1

432.4

Net Cash From Operating Activities

1290.2

2020.1

1426.3

-71.4

Net Cash (used in)/from Investing Activities

-3150

-991

-625.8

-497

Net Cash (used in)/from Financing Activities

2235.9

-767.8

-799.5

570.7

376.1

261.3

1.1

2.4

266.1

4.7

3.5

1.1

Net (decrease)/increase In Cash and Cash Equivalents Opening Cash & Cash Equivalents Source: Company Report

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Havells India - Buy

3. Balance Sheet:

Total Share Capital

Fund Flow Statement(Rs. Millions) Mar '08 Mar '07 Mar '06 289.6 268.8 124.5

Equity Share Capital

289.6

268.8

124.5

Share Application Money

179.4

0

9.9

Reserves

6200.7

2355.6

1625.7

Networth

6669.7

2624.4

1760.1

314.8

560.6

1085.4

Unsecured Loans

43.2

0

13

Total Debt

358

560.6

1098.4

Total Liabilities

7027.7

3185

2858.5

Gross Block

3445.2

2443.5

1688.8

426.3

313.6

224.5

3018.9

2129.9

1464.3

833.6

292.6

67.7

Investments

1647.9

34.7

31.7

Inventories

4302.9

2395

1906.2

Sundry Debtors

660.7

309.6

1281.7

Cash and Bank Balance

645.8

267.9

5.6

Total Current Assets

5609.4

2972.5

3193.5

Loans and Advances

860.5

664.1

472.4

3.3

63.8

77.7

Total CA, Loans & Advances

6473.2

3700.4

3743.6

Total CL & Provisions

4946.9

2974

2449.2

Net Current Assets

1526.3

726.4

1294.4

Total Assets

7027.7

3185

2858.5

Secured Loans

Accum. Depreciation Net Block Capital Work in Progress

Fixed Deposits

Source: Company Report

Disclaimer This publication has been prepared solely for information purpose and does not constitute a solicitation to any person to buy or sell a security. While the information contained therein has been obtained from sources believed to be reliable, investors are advised to satisfy themselves before making any investments. Fairwealth Sec Pvt. Ltd. does not bear any responsibility for the authentication of the information contained in the reports and consequently, is not liable for any decisions taken based on the same. Further, Fairwealth Research Reports only provide information updates and analysis. As per SEBI requirements it is stated that, Fairwealth Sec Pvt Ltd., and/or individuals thereof may have positions in securities referred herein and may make purchases or sale while this report is in circulation.

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