atlas copco--over weight---morgan stanley
November 19, 2007
Optimism in India
Nirvana at the CMD?
We met management of Atlas Copco
India on Friday, who provided optimism regarding i) the
company's growth and return prospects but also ii) the
reception of tomorrow's CMD in Orebro, Sweden.
Firstly, management outlined how India should be the 3
largest market within three years, adding 1.5-2% group
growth p.a. and fuel mix. India plays a key role in
explaining how emerging markets reached 40% share of
group orders YTD. Secondly, AC India, who hosted
global managers last week, emphasized that exports
from India to elsewhere in the world remains strong and
indicated that the group's performance was strong in
October. Investors are hoping for reassuring comments
from management at tomorrow's CMD. Our visit in India
strengthened our belief they can provide such respite.
Big in India...
India represents nearly 5% of group sales
largest country in the group), including revenues that
are not booked through Atlas Copco India (of which
Atlas owns 84%). Orders have grown at 28% YTD (46%
last year). Margins are comparable with the group
average and have steadily improved, which is in contrast
to most industrials we met in the country.
...and getting bigger.
Sales in India are expected to
grow at a high 30-35%, which means they could exceed
those of Germany (ranked 3rd
at an expected SKr 5.5-6
billion). If the targeted growth is achieved, it provides
1.5-2% base growth for the group. Moreover, notable
margin expansion is expected as a program to deplete
production costs is being ramped up. Based on these
indications, we see how India could represent 7.5% and
10% of group sales and EBIT by 2009, respectively.
Dynapac only way is up:
Dynapac has c.1% market
share the result of not having had local production.
The new plant will be finished in June 2008.
Management targets an 18-20% share in a few years in
a SKr 2 billion market that should boom over the coming
years. India is forecast to build a much-needed 20,000
km roads over the coming five years, essentially
Atlas Copco in India
India represent nearly 5% of group sales (6th
largest country in
the group), including revenues that are not booked through
Atlas Copco India (of which Atlas owns 84% after the public
offer in 2003). YTD orders are split in Compressor (56%),
Construction & Mining (37%) and Industrial Technique (7%).
Orders have grown at 28% YTD (46% last year), driven by CT
in particular. Sales growth is expected to be an impressive
30-35%, which means they could exceed those of Germany
at an expected SKr 5.5-6 billion) and only be behind
China and the US. If the targeted growth is achieved, it would
provide 1.5-2% base growth for the group.
Margins are comparable with the group average at a high teen
level and have steadily improved (also YTD when adjusting for
costs in relation to the investments/relocation of new plants),
which is in contrast to most industrials we met in the country
that had experienced pressure from increased competition
combined by FX and raw material cost headwind. Moreover,
notable margin expansion is expected as a program to deplete
production costs is being ramped up. Based on these
indications, we see how India could represent 7.5% and 10% of
group sales and EBIT by 2009, respectively.
The key growth drivers include:
Expansion of Dynapac:
Dynapac has c.1% market share
the result of not having had local production.
Management targets a 18-20% share in a few years in a
SKr 2 billion market that should boom over the coming few
years. A new plant and cross selling with the rest of Atlas
established businesses are growth drivers. India is
forecast to build 20,000 km road over the coming five
years in a 10-year $250 billion program, which essentially
means doubling the country's road capacity. We learned
the hard way about this desperate need.
The new Dynapac plant for rollers
and pavers is expected to be inaugurated in Nasik in June
2008. Demand is said to be so strong that Atlas expect
revenues to ramp up very fast. The relocation to one large
and extended CT plant in Pune and one large CMT plant in
Nasik. Overall recent and ongoing investments exceed
At the right place at the right time:
Atlas is exposed to
some of the fastest growing industries in the region. CT is
market leading but continue to favour from the growth in
the Indian manufacturing base. Moreover, Atlas is ramping
up its CNG (compressed natural gas) offering
manufacturing started this year. Not only traffic is a major
issue, the transport sector represents 2/3 of pollutants.
Why CNG is likely to grow is easy to see the cost of a kg
of CNG is about half of a litre of petrol. 6 major cities
already focus on expanding CNG usage (e.g. as only
energy source for public transport), while another 29
should do the same by 2009. CMT is driven by significant
private investments in coal mining and infrastructure
construction, while IT is boosted by 30-40% annual growth
in vehicle production and the transition from two to four
wheelers as the Indian population gets richer.
Aftermarket and acquisitions:
With the strong
equipment demand, the share of aftermarket sales looks
unlikely to grow notably from the present 20-25% but
clients are increasingly outsourcing maintenance. Finally,
management states that they are actively looking for CT
and CMT acquisitions.
Quality at a low price: We remain Overweight
Atlas trades at 9.0 times 2008 EV/EBIT. The A and B shares
trade at 12.0 and 10.9 times P/E, respectively. We view the
valuation at a slight average discount to the Capital Goods
space as attractive given the 1) the superior returns (12m
rolling RoCE has been around 48%), 2) superior stability in
returns (the 2000-02 decline was only 270bps), 3) market
leading positions offering strong pricing power and 4) attractive
end market exposure (40% emerging market exposure).
On the other hand, we have struggled to identify a re-rating
catalyst. Acknowledging that Atlas management is not known
for giving too much away, we believe in welcomed messages
about sustained growth tomorrow during a period of mounting
fears that the 5 year bull run in Capital Goods is coming to a
very abrupt end.
Atlas Copco consists of three business areas. Compressor
Technique division manufactures compressors, which supply
power to most manufacturing and process industries.
Construction & Mining Technique division produces drilling,
tunnelling and mining equipment, and Industrial Technique
division specialises in industrial power tools.
Industry View: Cautious
GICS Sector: Industrials
Strategists' Recommended Weight: 9.0%
MSCI Europe Weight: 10.1%