January Multibagger Idea Quality Auto Ancillary Stocksdownload.lmspl.com/research/Others/January 2015 Multibagger...• Our Research Head’s Investment Note on the Stock ... 2015

Quality Auto Ancillary Stocks

January Multibagger Idea

Content Index

• Our Research Head’s Investment Note on the Stock

• Indian Auto Component Sector – Industry Overview

• Each Stock – Investment Snapshot • Each Stock – 10 Key Investment Highlights • Each Stock – Business Overview • Each Stock – Concerns & Reasoning • Each Stock – Financials

• Conclusion “ Specialists in discovering Multibagger stocks “

[HBJ CAPITAL – QUALITY AUTO ANCILLARIES MULTIBAGGER] January 1, 2015

Dear Members of Multibagger,

This month's Multibagger Idea is a basket list of 4 Auto Ancillary companies. This is unlike most of our previous single stock recommendations. Current Market condition calls for differentiated Investment strategies. As we have been writing consistently for the past several months, we are extremely uncomfortable with adding incremental positions to secular growth ideas that are quoting at frothy valuations. At the same time, we believe that Indian Markets are well poised for a strong rally over the next 5 years. Hence, for Investors with low Equity allocations, there is no option but to find and deploy capital in good opportunities that can deliver strong risk-adjusted returns. We try to scout for the few attractive opportunities that still exist in this space. To highlight on the theme of frothy valuations - we are seeing a few businesses that have a decent growth visibility, trading at valuations which we believe are absurd. Investors are being bombarded with these “Special Quality stocks” and there is a prevalent mindset that has developed among Investors that “You can’t lose money in quality businesses if you stay Invested for long”. Investors with such mindsets needs to take into account the opportunity cost in some of these Investments compared with better alternatives and the valuation risk built into such stocks. While even investments in best of best businesses have underperformed over long period of time, if price paid is too high – the current Indian Market has several businesses that are paraded as “High Quality” while the reality is far from it. Let me give an example of the mindset of the crowd in a few of these stocks. I have been reading a few SELL side brokerage reports to check as to how they justify current valuations. There is a “Strong BUY” report on a stock in which the analyst has written “The stock trades at an attractive 2% FCF Yield on FY-17 (E)”. There was an another report on a different stock from a different brokerage that stated “We value the business at 35X P/E multiple on FY-17 (E)”. We are still unable to get an understanding of such valuation models. We believe that Investors are getting biased with the performance of the past few years and are trying to extrapolate these trends and then are justifying their assumptions with absurd logic. This has


essentially led to bipolarity in markets - a set of stocks that are deeply undervalued and a set of stocks that are deeply overvalued in our perspective. While some of these fault lines exist because of real quality difference, there has been exaggeration of the same by Investors as is the usual. We believe that there are a few opportunities that lie in between these fault lines (Quality business but attractively valued) and our job is to find them. As investor Akash Prakash of Amansa Capital had written in his recent note titled “It’s all about earnings”, there is still a lot of anchoring in financial projections. Analysts find it extremely difficult to accurately project earnings as the cycle turns and hence there are “Regular Upgrades” in estimates after a prolonged period of subdued earnings growth. This anchoring bias works both ways. While some of the sectors that have done well over the last few years have been provided with over optimistic projections, the case has been reverse for sectors that haven’t done well in the recent past. We believe that “Auto Components” is one sector in which we are able to find enough opportunities in this fault line. Basket buying Approach: I had written about “Multi Dimensional Investing” and “Second Level Thinking” in our Multibagger flashback report that was released early this month. We continue to use a wide range of strategies within the broader Value Investing Mental framework. One of the approaches is “Basket buying” which is helpful, in case you are able to spot a strong trend that can deliver “String of Multibaggers”. Basket buying becomes very important if you are not able to pinpoint on one clear beneficiary of the trend and if you can get better risk adjusted returns if you BUY several ideas simultaneously. One of the classic examples of successful Basket buying was by the legendary investor – Sir. John Templeton. Just before the world war, he had asked his broker to BUY as per below statements: “ ‘Buy me $100 of everything below $1 a share.’ He even declined his broker’s offer to give him the names of the stocks he was buying. His argument was that the stock market was due for a recovery, and that even the most uncompetitive companies were likely to do well on


the back of the stimulus provided by the inevitable increase in government spending that would be necessitated by the outbreak of war. So sure of his thesis was he that he did not even need to know the names of the stocks he was buying. Throughout his life Templeton was renowned for the thoroughness of his research; and indeed it was his study of previous episodes in financial history that had led him to conclude that low-priced stocks were likely to do better during the kind of wartime stock market recovery that he was expecting. It seems implausible, given the scale and audacity of the speculative investment that he was making, that he was not fully aware of the names of many, if not all, of the stocks he had instructed his broker to buy. Further, it is not wholly convincing that he made his decision entirely on the spur of the moment, the very day that Hitler invaded Poland, as his later telling of the story seems to imply. No fewer than 37 of the 104 stocks that the brokers acquired on his behalf were already in bankruptcy. Many years later, in a letter to his clients, Templeton noted how many weak or failing companies had subsequently produced exceptional results. Wartime saved many companies that otherwise might not have survived. The worse their balance sheets were, the more leverage they enjoyed. More than 200 companies

had risen by 20 fold or more in the previous 20 years”.

While such large basket buying approach requires a far different Macro Economic scenario, we are certainly not doing anything near to it. We are just trying to combine a few basic Quality and Valuations filters to a broad theme that we see doing well going forward. We are currently recommending 4 of those stocks to be bought simultaneously. The important thing about Basket approach is to view these stocks as a single Trade/ Position. This basket will allow ironing out individual uncertainties and providing a broader platform to profit from the theme. While each of these stocks even individually might

be attractive Investments, you can have better certainty and risk management if combined together as lot of these businesses are dependent on a single product/ customer etc. Auto Component Stocks:

I had written in one of my articles titled “Spotting the BIG Multibagger Ideas” that you can get a string of Multibaggers if you are able to identify the sub-sector that has tremendous tailwinds attached to it. A small transcript of what we had written in that article: “We believe that the Big sectoral Tailwinds are visible and on your face in most cases. Even in subtle cases, an Investor who is tracking related set of stocks can easily identify trends. If Investors are conscious of Sectoral Tailwinds and their impact on businesses


they track, they would be able to identify such trends early. One of the key advantages of investing in Proxy/ Ancillaries is that, even if you invest only after the Trend is extremely visible – you will still be able to make good returns. Investors looking through the Prism of Ancillaries would also be able to find lot of “Adjacent Multibaggers” related to some of their Winning picks and thereby make a string of Winning bets”.

As we had written above, we have been seeing strong numbers from a set of companies that we had handpicked on a bottom-up basis. It was pretty clear that these businesses are benefiting from strong segmental tailwinds and that is only expected to not only sustain but also strengthen over the next 3 to 5 years. Let’s look at some of the trends that are providing tailwinds to these stocks. Multiple factors to enable strong rebound in Auto growth: Factors that provide support to higher auto growth going forward include both temporary factors as well as structural factors. Some of them include,

“Interest Rate reduction, Fall in retail Fuel prices, Increased Discretionary Spending, Correction in Global commodity prices, Prime Minister’s pet “Make in India” policy, pent-up demand from subdued sales of last 3 years, under penetration of Passenger vehicles, overall Economic rebound etc”.

Within this broad theme, we believe that Auto components are the cheaper and better way to play this theme. Before we explain the positives about Auto Components, there are some myths associated with Auto Component players such as the below which are totally untrue.

- They have long working capital cycles and allocate capital badly. - They are arm twisted by OEM’s and have literally no pricing power. - They are not scalable and would continue to remain small players.


Predicting India to be the next auto ancillary hub in Asia by 2020 - Exports currently contribute 17% to the auto

component industry and is expected to increase to 26% to the industry by 2021. More business for few players - OEM's drive to source from a few players has engineered a paradigm shift in the

industry. Consolidation has led to better pricing power for Auto component companies. Indian OEM’s are actively looking to reduce suppliers over the next 4-5 years. For instance , Tata Motors is planning to

reduce the number of suppliers by 1/3 in 3-4 years Debunking the myth - ' Auto component companies don't have bargaining power' - Profitability (measured by ROCE)

for global Component player = OEM in 2013, Vs lower profitability even a decade ago. Global tier-1 suppliers have filed >50% patents of the total patent pool between OEM and component suppliers, with

a few Tier-1 suppliers surpassing OEM on this count. Indian auto component companies’ profitability has improved over last decade. Indian companies are now truly

global. Indian auto companies currently have Market capitalizations as high as 15 Billion $’s. Ability to manage acquisition brings scale. Global auto components have scaled up through acquisition. Indian

companies following global suite. Indian auto component companies have been able to turnaround acquired companies and scale up revenues. Strategy to manage acquisitions has changed.

Government regulations on emission (BSIV) and safety (ABS, airbag) will benefit component players. Advancement in

technology will lead to higher realization.


In our case of handpicked basket, we have certainly removed, also ran “Auto Ancillary” stocks and have selected only businesses with healthy Market shares. Let’s see some of the common Investment attributes of our picks. Some common Investment highlights :

i. Almost 3 of our 4 picks work on Negative Working Capital cycle, indicating much superior operating performance compared with industry standard. These companies have strong order books and shorter cash conversion cycles.

ii. Each of our stock pick has had strong growth over the last cycle with an average growth of > 28% on a combined

basis. The shareholder value growth over the Bull market years of 2004-07 has been tremendous with an average increase of 700% during that period.

iii. All 4 of our stock picks have dominant Market shares of > 50% in its sub-segment, leading to tremendous pricing

power and stable Margins. In fact 2 out of our 4 stock picks has had Operating Margin variation of just around +/- 150 bps over a 10 year period.

iv. Almost all 4 businesses have invested substantially over the past few years, increasing capacities by over 50% in the

last 3-4 years. We believe they are well set for a new growth cycle and can scale up volumes as demand picks up.

v. All these 4 businesses are currently operating at around 60-70% utilization levels with strong chances of Margins expansions as Utilizations increase over next 3 years.

vi. Almost all our stocks are generating strong cash flows compared with Net profits due to higher Depreciation. With little

CAPEX required over the next few years, we see strong Free Cash flows. With average Dividend Payout ratio of these 4 stocks around 25-30% of profits, we expect strong value creation for Investors.


vii. 3 out of our 4 Stocks has an average ROCE/ ROE of >20% over a 3-5-10 year time frame, indicating prudent capital

allocation capabilities and quality of operations. We believe that the Incremental returns on capital employed should also be in the range of 20%+.

viii. 3 out of our 4 Stocks have clean Balance sheets with little debt. Even the one which has debt is well covered with very

strong free cash flows to reduce debt over next 3 years. ix. None of our stock picks has over dependency on a single customer (or) highly levered towards Global markets which

may pose growth risk. All of them have good and clean Management teams with a healthy track record of shareholder wealth creation.

x. The combined valuations of these stocks are attractive - On a EV/ EBIDTA of ~6X, OCF Yield of 12 to 15% (blended)

and P/E of ~ 14X on current year’s depressed earnings. We believe that earnings growth in these businesses would be sharp and there is enough scope for re-rating that will deliver healthy shareholder returns.

We have created similar 10 key Investment highlights for each of the 4 stock bets. All these stocks provide comfort

not only on business quality/ Management quality but also in terms of valuations which is extremely rare in the current

Market conditions. We believe that these stocks provide enough Margin of Safety from our optimistic assumptions and

hence are happy to accumulate them around current prices.

Regards,

Gokul Raj. P - Director & Head: Investments.

Industry Opportunity & Potential - An Overview

“ Specialists in discovering Multibagger stocks “

HBJ’s Investment Performance

Industry Opportunity & Potential - An Overview


Strong Growth potential across segments


Long Runway for growth


Auto Components Overview


Huge Export Growth Opportunity


Healthy growth over the next several years


Sub segments of Auto Ancillaries


Sub segments of Auto Ancillaries


Sona Koyo Steering

- A Dominant Proxy play for the growth in Passenger Vehicles !!

Sona Koyo Steering – Investment Snapshot (as on January 31, 2015)

Recommendation :- BUY

Maximum Portfolio Allocation :- 1.5 %

Investment Phases & Buying Strategy

1st Phase (Now) of Accumulation :- 70%

Current Accumulation Range :- 50-60 Rs

Sona Koyo steering can be accumulated overtime as the valuations are not as cheap as others in the basket.

Core Investment Thesis :

Sona Koyo steering with its dominance of PV steering space is definitely the highest quality business within our basket of 4 stocks. While it is slightly costly compared to others in the basket, it is still attractive on absolute returns.

Current Market Price – Rs. 55 Current Dividend Yield – 1.46 % Bloomberg / Reuters Code –SONA IN/ SONA.BO BSE / NSE Code – 520057 / SONASTEER Market Cap (INR BN / USD Mn) – 10.95 /66.58 [1 USD – Rs. 61.5] Total Equity Shares [Mn]– 199 Face Value – Rs. 1 52 Week High / Low – Rs. 65 / Rs. 16 Promoter’s Holding – 52.6 % Institutional Holding – 1.4 %


Sona Koyo – 10 Key Investment Highlights

1.) A dominant 50% market share in steerings in the Passenger Vehicle category

(every 1 in 2 cars use steerings manufactured by this company).

2.) Extremely strong customer base with well entrenched relationships (Maruti,

Tata, Hero, Bajaj. Honda, GM, Ford, Hyundai etc).

3.) Strong technical support in a niche segment. (Steerings as a sub-segment is

highly concentrated across both PV & CV segments (ZF Steering is the leader)).

4.) Export market by leveraging domestic customer clients for their international

needs. (Example : a company such as Renault has started sourcing from Sona

Koyo for global needs).

5.) Sona Koyo has launched innovative products such as EPAM (Electronic Power

Assisted Module) from its in-house R&D that are expected to drive future

growth. Companies continues to pursue new products.


6.) Company has faced higher depreciation charges from the revised accounting

practices and expansion of facilities which is masking the net profit figure.

7.) The company is currently operating at around just 60% utilisation levels that

will provide sufficient operating leverage for boosting margins during an upturn

in demand.

8.) Company operates on a Negative Working capital cycle on a standalone as well

on consolidated basis. Company’s Inventories and Payables are extremely well

managed.

9.) The business has tremendous margin Stability with Operating Margins

varying between 9.5% to 11.5% range over a ten year period. Even during

extremely volatile periods such as 2008-09, this margin range has stood ground.

10.) Company’s un-levered ROE’s has been healthy at around 20% over the last 3

to 5 years which have been generally difficult years for the industry.


Sona Koyo – 10 Key Investment Highlights

Business Overview


Key Information


Key Information


Investment Rationale


Investment Rationale


Financials


Risks & Concerns – Sona Koyo Steering


- There may not be Valuation Re-Rating as it is already above historical averages.

- Failure to achieve our assumed 150 bps Margin expansion over the next 2-3 years.

- Depressed demand growth for Passenger vehicles leading to lower utilizations.

Earnings Projection – Sona Koyo Steering

Specialists in discovering Multibagger stocks “

Financial Parameters (Rs.Cr) FY-13 FY-14 FY-15E FY-16E

Net Sales 1460 1492 1620 1850

Total Expenses 1295 1313 1402 1593

Operating Profit 164 178 215 260

Operating Margin(%) 11.23 11.92 13.27 14.05

Profit after Tax (PAT) 48 51 67 108

Net Debt/ Equity (x) 1.2 0.8 0.6 0.5

ROE (%) 15 24 15 21

ROCE (%) 19 18 19 26

EPS 1.9 3.4 2.4 3.8

Price Chart – Sona Koyo Steering

• Sona Koyo steering has been a brilliant performer in the market with it delivering very strong returns to Investors.

• Sona Koyo despite strong market positioning in its business has still not been able to attract Institutional investors which is surprising.

• Sona Koyo’s wealth creation chart over the past 10 years has been amazing even during tough economic periods.


Share Holding %

Dec 2014

Sep 2014

June 2014

Mar 2014

Promoters 52.60 52.61 52.63 52.64

FII 0.18 0.22 0.20 0.27

DII 1.25 1.25 1.21 1.11

Lumax Auto Technologies

- Efficient Auto Component manufacturer with strong Growth !!

Lumax Auto Technologies – Investment Snapshot (as on January 31, 2015)





Current Accumulation Range :- 320 to 380 Rs

Lumax can be added in 2 phases with firepower to accumulate on corrections.


Lumax Auto Technologies is a high quality business with a strong capital allocation and growth track record. We believe that the stock will continue to create Shareholder wealth.

Current Market Price – Rs. 353 Current Dividend Yield – 1.72 % Bloomberg / Reuters Code –LMAX IN/ LMAX.BO BSE / NSE Code – 532796 / LUMAXTECH Market Cap (INR BN / USD Mn) – 4.76 /79.1 [1 USD – Rs. 61.5] Total Equity Shares [Mn]– 13.4 Face Value – Rs. 10 52 Week High / Low – Rs. 388/ Rs 90 Promoter’s Holding – 55.6 % Institutional Holding – 14.3 %


Lumax Auto Technologies – 10 Key Investment Highlights

1.) Lumax Auto Technologies has a wide range of Products ( Head & Tail Lamp,

Frame Chasis, Adjustor Motor, Gear Shift Lever, Parking Brakes etc). Company

has leadership position with a dominating 60% Market share in Parking Brakes

and Gear Shift Levers.

2.) Lumax Auto Technologies has a very strong product development team that

has helped it to enter new segments and grow aggressively. For example, their

product for automated gear shifter has received strong traction from several

OEM’s and could drive future growth.

3.) Lumax Auto has forged several partnerships with global majors to enter new

segments - JV with Gill Austem for Frame business, JV with Cornagia for Air-in-

take Systems and JV with Mannoh Industrial for automatic gear shifters.

4.) Lumax Auto technologies has a wonderful balance sheet with net Debt/

Equity of < 0.2X and the company has delivered strong ROE’s of >23% over the

last 3 to 5 years. Net Working capital days for the company is < 10 days.



5.) Company margins have displayed remarkable stability. Over a ten period -

company’s lowest operating margin was around 7.7% and highest margin around

9.4% which speaks volumes about the stability of the business.

6.) Company has also had a strong 10 year Revenue and Profit growth of >22%

CAGR. This has allowed the company to almost increase its net block 150% over

the last 3 years, setting itself up for strong growth over the next decade too.

7.) After-Market sales and Export sales would be the next revenue growth drivers

for the company. The company has created a dozen new products to grow in these

segments. This would help expand the company’s distribution network.

8.) Across its Subsidiaries, Lumax Auto technologies has a robust pan-India

distribution network. Company has almost 7 Manufacturing plants across India in

all major Auto clusters.



9.) We believe that DK Jain’s Lumax group has been managing their operations

prudently unlike several other Auto Component players that have chased revenue

growth and are currently suffering from costly acquisitions. Company has a good

professional Management team.

10.) Lumax Auto is currently trading at around 480 Cr Rs of Enterprise value.

Company’s 3 year of average CFO is ~ 53 Cr/ Year and 3 year of average

EBIDTA is ~ 69 Cr/ Year which is attractive enough for a quality business such

as Lumax Auto technologies.


Business Overview


Key Information


Key Information


Strong Cash Flow Management


Stable Margins over a 10-year Period


Healthy Capacity Expansions


Financials


Risks & Concerns – Lumax Auto Technologies


- Lumax’s core Auto Lighting business (33% of revenue) is expected to grow at around 12% CAGR in value terms. Any failure of the expected higher growth rates in other new segments may lead to subdued growth.

- Unlike our other recommendations, Lumax Auto Technologies doesn’t have dominant market share in its major revenue product line and hence margins could be under pressure in case of higher competitive intensity.

- Lumax Auto Technologies currently has a cash conversion cycle of just around 8 days. In case there is pressure on receivables, we will see deterioration in Free Cash Flow generation that will alter our estimates.

Earnings Projection – Lumax Auto Technologies



Net Sales 766 762 870 1024

Total Expenditure 698 701 798 923



Profit after Tax (PAT) 41 30 39 58

Net Debt/Equity (x) 0.1 0.2 0.0 -0.1

ROCE (%) 23.9 16.8 19.3 25

ROE (%) 19.4 13.4 15.2 19.1

EPS 30.1 22.2 28.5 42

Cash EPS 38 35 43 58

Price Chart – Lumax Auto Technologies

• Lumax Auto Technologies has had a solid run on the bourses over the last year, moving up sharply post the strong election mandate.

• The stock has seen reduction in foreign shareholding. Domestic Institutions have no exposure to the stock.

• Technically the Stock has been consistently hitting newer highs. We believe that with consistently strong quarterly results, the stock can continue delivering returns.


Share Holding %

Dec 2014

Sep 2014

June 2014

Mar 2014

Promoters 55.67 55.67 55.67 55.67

FII 14.04 14.74 15.80 17.7

DII 0.23 0 0 0

Lumax Industries

- Cheap Stock with Huge Operating Leverage + Strong Cash Flows !

Lumax Industries – Investment Snapshot (as on January 31, 2015)





Current Accumulation Range :- 370 to 430 Rs

We believe that Investors can accumulate the shares at the current price which we believe is attractive for Investors.


Lumax Industries is a high cash generating business which is available at attractive valuations. The company has the highest delta in earnings amongst the 4 stocks discussed here. This stock adds Beta to the basket.

Current Market Price – Rs. 407 Current Dividend Yield – 0.85 % Bloomberg / Reuters Code –LUMX IN/ LUMX.BO BSE / NSE Code – 517206 / LUMAXIND Market Cap (INR BN / USD Mn) – 3.85 /62.6 [1 USD – Rs. 61.5] Total Equity Shares [Mn]– 9.4 Face Value – Rs. 10 52 Week High / Low – Rs. 467 / Rs. 284 Promoter’s Holding – 73.66 % Institutional Holding – 0.4 %


Lumax Industries – 10 Key Investment Highlights

1.) Lumax Industries has a > 50% market share in the fast growing Passenger Car

lighting space. With higher design requirements for Lighting, the value addition

of Lumax Industries is increasing and collaborations with OEM’s are on rise.

2.) Lumax Industries has had a 30 year technology partnership with the 2 Billion

$ Stanley Electric of Japan (leader in automobile Lighting) that has helped it to

consolidate its position in the Indian market. We see the increasing usage of LED

lighting to benefit Lumax Industries.

3.) Lumax Industries operates on a large Negative Working capital cycle with the

3 year average Net Working capital of around -120 Cr Rs/ Year. Even though

Margins have been volatile, companies strong working capital cycle has allowed it

to generate strong cash flows.

4.) Lumax Industries has strong customer relationships, including their most

important one with Maruti (Leader in domestic PV space). It has set-up facilities

across India to cater to its clients, including the latest plant in Gujarat alongside

Maruti’s plant.



5.) Lumax Industries has invested strongly over the last 3 years (Net Block has

almost doubled over the last 5 years) and is expected to invest another 300 Cr

over the next 3-5 years to capitalize on the upcoming growth cycle.

6.) Company has a strong Order book of around 600 Cr and with the increase in

capacities, we expect the company to easily double it revenues over the next 4

years.

7.) Mr. Vineet Sahani, the company’s newly appointed CEO comes with a strong

operational track record (he has scaled up Minda’s lighting business from 4

Million $ to 60 Million $’s in just around 6 years). The company has a strong

Management team across divisions.

8.) Lumax Industries has a history of paying Dividends consistently for the past

30 years which speaks volumes about the business. The current Payout ratio is

around 30%.



9.) The current debt on the Balance sheet is manageable at around 100 Cr Rs. We

believe that the company’s expansion plans will not strain its balance sheets as the

company generates >40 Cr of post tax cash flows on a yearly basis.

10.) Lumax Industries currently has an Enterprise Value of around 485 Cr Rs,

while its 3 Year average CFO is 71 Cr/ Year and 3 Year average EBIDTA is 64

Cr/ Year. Even on a trailing basis, the stock looks extremely cheap. With an

economic upturn and margin expansion, its easier to build a case for strong

Valuation Re-Rating.


Business Overview


Key Information


Key Information


Strong Cash Flow from Operations & Negative Working Capital


Strong Free Cash Flows expected


Financials


Risks & Concerns – Lumax Industries


- Company continues to expand capacities with expectations of demand pickup. If there is delay in the same, we will see Margin shrinkage.

- Lumax Industries has had a long period of low ROCE. There would be valuation re-rating only if there is at least a 500 bps rise in return on capital.

- Though the company operates on Negative Working Capital cycle, the balance sheet has long term debt that needs to be paid back from Internal Accruals.

Earnings Projection – Lumax Industries



Net Sales 1070 1116 1224 1445

Total Expenditure 1010 1065 1140 1335



Profit after Tax (PAT) 12.8 7 21 43

Net Debt/ Equity 1.04 0.91 0.65 0.37

Return on Networth (%) 7.7 4.1 11.5 20.6

Current Ratio 0.84 0.80 0.81 0.82

EPS 13.65 7.47 21.8 45.2

Cash EPS 48 46 63 87

Price Chart – Lumax Industries

• Lumax Industries has been consolidating in a range for a long time period, setting up a good base.

• As with other stocks, Institutional holding in the stock is very low. Any increase here can be a strong trigger.

• Lumax Industries has been showing strong signs of breakout from the current range and this could trigger strong returns for Investors in a short time frame.


Share Holding %

Dec 2014

Sep 2014

June 2014

Mar 2014

Promoters 73.6 73.6 73.6 73.6

FII 0.37 0.48 0.59 0.60

DII 0.03 0.02 0.02 0.02

Phoenix Lamps

- Quality business at cheap Valuations with trigger to unlock value !!

Phoenix Lamps – Investment Snapshot (as on January 31, 2015)





Current Accumulation Range :- 90 - 125 Rs

We believe that Investors can accumulate the shares at the current price which we believe is attractive for Investors.


Phoenix Lamps is a leader in Halogen lighting business with strong brand and distribution network that enables it to earn 35% ROCE in its domestic business. Company’s promoter is Private Equity firm – Actis which may sell the company in the next few years which we expect to lead to value unlocking.

Current Market Price – Rs. 109 Current Dividend Yield – 14 % Bloomberg / Reuters Code –PHLL IN/ HALONIX BSE / NSE Code – 517296 / PHOENIXLL Market Cap (INR BN / USD Mn) – 3.1 /50.8 [1 USD – Rs 61.5] Total Equity Shares [Mn]– 28.7 Face Value – Rs. 10 52 Week High / Low – Rs. 178 / Rs. 90 Promoter’s Holding – 67.4 % Institutional Holding – 2.02 %


Phoenix Lamps – 10 Key Investment Highlights

1.) Phoenix Lamps is the dominant market leader in the Halogen lighting

segment with market shares of 70% in Commercial Vehicles and 2-Wheelers and

50% market share in Passenger vehicle segment.

2.) Company’s biggest competitor - Philips imports bulbs to supply to OEM’s and

hence Phoenix with a strong manufacturing network across India has huge cost

advantage. It’s well entrenched relationships with big OEM’s also works as an

entry barrier to newer players.

3.) Company has a strong brand “Halonix” and a robust distribution network

across various countries that has enabled it to create a robust After-Sales market.

This is essentially a B2C business with healthy Moats.

4.) The company is backed by Actis, a private equity firm which owns 67.41%

stake in the company. Actis acquired majority stake in the company in 2006

through a combination of convertible warrants at 102/- per share and through

purchase of shares from erstwhile promoters and through open offer to public

shareholders at 190/- per share. We believe that they are planning to exit and

there could be a value unlocking trigger from the sale.



5.) Post the acquisition by Actis, the company increased its focus on general

lighting business (CFLs) and suffered heavily in the ensuing years on account of

general competitiveness in CFL business and due to very high warranty claims.

Starting FY 10 the company started incurring heavy losses on account of general

lighting business while the auto-lighting business continued performing well with

sales in the region of 200-250 crores and average EBITDA margins of ~20%.

Realizing the divergence in the operations and the profitability of the two

businesses, the management finally sold off general lighting business in August

2013 and is now completely focused on auto lighting business.

6.) Company has used the 160 Cr proceeds to retire debt and it currently has a

robust balance sheet which it leverage to invest and capitalize on growth

opportunities in the Auto lighting space. The company has showed good growth

since demerger.

7.) Company’s domestic Auto-Lighting business is a high quality business that has

been able to generate ROCE’s of >35% even during the years of slowdown. We

believe that incremental ROCE’s will continue to be very attractive considering

Industry dynamics.



5.) Post the acquisition by Actis, the company increased its focus on general

lighting business (CFLs) and suffered heavily in the ensuing years on account of

general competitiveness in CFL business and due to very high warranty claims.

Starting FY 10 the company started incurring heavy losses on account of general

lighting business while the auto-lighting business continued performing well with

sales in the region of 200-250 crores and average EBITDA margins of ~20%.

Realizing the divergence in the operations and the profitability of the two

businesses, the management finally sold off general lighting business in August

2013 and is now completely focused on auto lighting business.

6.) Company has used the 160 Cr proceeds to retire debt and it currently has a

robust balance sheet which it leverage to invest and capitalize on growth

opportunities in the Auto lighting space. The company has showed good growth

since demerger.

7.) Company’s domestic Auto-Lighting business is a high quality business that has

been able to generate ROCE’s of >35% even during the years of slowdown. We

believe that incremental ROCE’s will continue to be very attractive considering

Industry dynamics.



8.) Company has been able to build a strong International aftermarket business

segment which is currently contributing around 50% of total revenues. It exports

to over 50 countries and has built a distribution network based on “Value for

Money” proposition for the product.

9.) Company’s international Margins are 1/4th compared to its domestic business

as 75% of its International sales is in Un-Branded form. There has been strong

focus on increasing the branded sales component and this will help in improving

the overall consolidated margins.

10.) Phoenix Lamps is currently trading around 8X trailing earnings and < 5X

EV/ EBIDTA multiple which we believe is reasonable for a quality business

which has Margin levers as well as a trigger for Value unlocking.


Business Overview


Key Information


Stable Margin Trend


High Quality Domestic Business


Improving International Business


Financials


Risks & Concerns – Phoenix Lamps


- Continuous Selling by Actis in the secondary Market as witnessed in recent times.

- Worse Macro Economic situation in Europe leads to continuous loss in its Subsidiary.

- Decreased usage of Halogen lamps as technology progresses to newer forms.

- Failure of the Management to shift sales from Un-Branded to Branded products.

- Distressed selling by the Private Equity firm to a bad Management team.

Earnings Projection – Phoenix Lamps



Net Sales 482 494 440 530

Operating Profit Margin (%) 1.6 9.5 11.5 12.3

Operating Profit 7.8 46.9 50.5 65

Earnings Per Share (EPS) (8.6) 8.3 12.1 17.4

Debt/ Equity (X) 1.7 0.6 0.6 0.5

ROE (%) (22.8) 24.7 33 40

ROCE (%) (1.1) 24.3 31 39

Price Chart – Phoenix Lamps

• Phoenix Lamps has got re-rated after the demerger and sale of its Non-Auto business. • Promoters continue to sell shares in the open market. This has led to reduction in the promoter holding. • Institutional holding is extremely low and most of the holdings is with retail investors who have been accumulating the shares off late.


Share Holding %

Dec 2014

Sep 2014

June 2014

Mar 2014

Promoters 67.4 70.1 70.9 70.9

FII 2 2 2.36 3.25

DII 0.02 0.01 0.01 0.01

Conclusion


Conclusion

We have been investing in ancillary stocks and high operational leverage businesses for quite some time now. All our recent bets including the latest investment in TV Today Network is an example of high operational leverage business. We have a few of these stocks in our Tactical part of Hedge Fund Portfolio. We believe that these stocks are ideal ways to play the Market rally efficiently.

The core Auto stocks are well priced with little Margin of Safety. Even the bigger Auto components have priced in the recovery. We have also weeded out the highly leveraged auto ancillary businesses which are extremely cheap optically but do not have the pricing power to pass on the benefits to shareholders. This basket of auto ancillary business provides us with perfect combination of businesses that can deliver strong earnings growth over the next few years with potential for strong re-rating.


THANK YOU


Documents

January Multibagger Idea Quality Auto Ancillary Stocksdownload.lmspl.com/research/Others/January 2015 Multibagger...• Our Research Head’s Investment Note on the Stock ... 2015