Schaeffler India 1QCY2018 – Steady growth, industry tailwinds and merger to augur well

Segment wise, automotive contributed 19 percent and industrials 81 percent to the total sales of Schaeffler India. On the pro-forma basis of the combined entity (includes LUK and INA), automotive and industrials contribute 57 percent and 43 percent, respectively.

EBITDA margin – impacted by raw material prices

The company posted a contraction of 145bps (YoY) and 229bps (Quarter on Quarter) in its EBITDA margin primarily because of the rise in the raw material (RM) prices. RM prices as a percentage of net sales witnessed an expansion of 168bps (YoY) and 363bps (QoQ). The management indicated that there is always a time lag in passing on the rise in RM prices and mentioned that they have taken price hike of 4 percent across all products effective from April 1^st 2018 which should help margin to recover, going forward.

INA and LuK result update

INA Bearings India Pvt. Ltd (INA) and LuK India Pvt Ltd (LuK) posted healthy numbers for the 1QCY2018 driven by consistent revenue growth coming in from Engine system, Transmission applications and clutch systems.

Total net income grew 10.6 percent (YoY) for INA and 30.2 percent (YoY) for LuK. LuK posted higher growth on the back of strong demand coming in from commercial vehicle (CV) whereas INA posted growth driven by passenger vehicle and two/ three wheelers.

INA and LuK maintained EBITDA margin at 13.8 percent and 17.5 percent respectively, almost similar to what it had reported in the year-ago quarter.

Growth drivers:

Synergies to kick in after completion of the merger

The company is on the track to complete its merger with INA and LuK which is expected to be completed by 3QCY2018. Schaeffler is expected to gain from the revenue synergies by bundling product offerings. After the merger, Schaeffler India will be able to expand its product range to include needle roller bearings, linear roller bearings and precision spindle bearings. Moreover, it would be able to cater to the full range of solutions in engine, transmission as well as chassis to its automotive clients.

Currently, Schaeffler India generates bulk of its revenue from industrial after-market whereas for INA, the focus is passenger vehicles (PV) and two wheelers (2W). LuK is a dominant player in the auto after-market. Hence, integration of these entities would lead to the resultant entity catering to a wide range of products, especially products in the fast-growing automotive segment.

Capacity Expansion – to cater to strong demand

In light of the strong demand from both industrial and automotive segments, the company has earmarked EUR40 million each for 2018 and 2019. The company expects to use this for capacity expansion, R&D enhancement and new products launches.

Strong aftermarket – GST is behind

With GST impact waning, the aftermarket is showing strong traction and there is huge demand coming from that segment. The company witnessed double-digit growth in the segment and the management expects the momentum to continue, going forward.

Industry tailwinds

With GDP on the recovery path after demonetization and GST and massive investment in infrastructure, the industrial segment is expected to continue to do well, going forward.

Additionally, strong growth in the automotive segment is likely especially in commercial vehicle and tractor segment owing to expected normal monsoon, strict ban on overloading and phasing out of vehicles older than 20 years. The stronger sales numbers from two wheeler is an early trend which is expected to get support from the revival in rural economy in the coming months.

Valuation at elevated levels

Schaeffler currently trades at 30.5 times CY18 and 27.3 times CY19 projected earnings which leaves little room for comfort and we advise investors to capitalise on dips to build position in the stock.

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