Amara Raja Batteries: Buy

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The strong demand from the auto replacement side and the pick-up in industrial battery sales are positives for the company.
September 22, 2012:
A robust replacement market for automotive batteries and improved industrial battery sales have put Amara Raja Batteries (ARBL) in a sweet spot. Investors with a perspective of at least one year can buy the stock.
The company derives about 60 per cent of its revenues from the auto segment, where it counts Ford, Maruti, Hyundai, Honda, Mahindra & Mahindra, Tata Motors, and Tafe among its clients. The industrial division, in which the company primarily makes telecom and UPS batteries, brings in the rest of the revenues. At the current market price of Rs 401, the stock trades at a price to earnings ratio of about 12.5 times its estimated earnings for 2012-13. This is at a justifiable discount to the bigger peer Exide Industries, which trades at 20 times estimated FY13 earnings.
While the stock has moved up by about 82 per cent since our previous buy recommendation in June 2011, the valuations still seem reasonable. It can be accumulated on dips relating to broader market volatility.

Replacement benefits

The moderation in auto sales that began in 2011-12, has caught on firmly this year. From about 11 per cent (year-on-year) in FY12, overall volume growth across segments has further deteriorated to about 6.6 per cent in the five months ended August 2012. Car sales have been one of the worst hit.
However, during such a slowdown in new vehicle sales, battery makers remain better off as they have a huge market for replacing old batteries in existing vehicles. Batteries are typically changed every three-four years.
The scorching pace of growth of 26 per cent in both 2009-10 and 2010-11 implies that the replacement demand for vehicles sold at that time will come in handy now.
Higher sales in the replacement segment will also boost operating margins as the ability to pass on cost escalations and effect price increases is higher here than in supplies to auto manufacturers.
ARBL obtains three-fourths of its auto segment revenues from the replacement markets. It has a market share of 35 per cent and 25 per cent respectively in the replacement markets (organised) for cars and bikes.
To cash in on the replacement wave, ARBL has tied up with some clients to service the replacement demand of their (clients’) customers. It is also expanding its retail and franchisee network.

Pick-up in industrial batteries

While exports to Bharti’s network expansion in Africa did help a bit last year, the performance of the telecom batteries division, which brings in about half the industrial segment revenues, has been a dampener for Amara Raja for quite sometime now.
A slowing down of network expansion plans and sharing of tower infrastructure by telecom operators had kept the demand for telecom batteries down.
But this is beginning to change as the replacement demand for batteries supplied in the last few years is kicking-in.
This apart, the company expects the trend of increasing data transfer using larger bandwidth and 3G/4G availability to also strengthen demand as it requires upgrading existing networks.
Given the strong tie-ups it has with players such as BSNL, Vodafone, Bharti Infratel, Airtel and Aircel, it estimates demand for telecom batteries to grow by 8-10 per cent in 2012-13.
Aside of this, e-governance projects initiated by the government, creation of high-powered data centres and modernisation of existing ones, deeper penetration of PCs and the continued power shortage situation are expected to keep the market for UPS batteries ticking. The company is expanding its dealer network for UPS batteries as well.

Financials

The strong demand from the auto replacement side and the pick-up in industrial battery sales have benefited the company in the first quarter.
For the quarter ended June 2012, net sales grew by 32 per cent Y-o-Y to Rs 691 crore and net profits by 95 per cent to Rs 76 crore. Operating margins stood at 17 per cent vis-à-vis 13 per cent in the June 2011 quarter.
Although rupee depreciation took off a bit of the benefit, softening of international lead prices helped. The surplus availability of lead in the global markets mean that prices could remain benign in the next few months.
However,to shield further from volatility in lead prices, the company plans to increase the share of recycled lead from 38 per cent currently to 45 per cent over the next two years.

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