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    Amara Raja top pick among auto parts cos with high share of replacement market

    Synopsis

    The company is likely to benefit from pent-up demand post lockdown.

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    Amara’s operating margin in the replacement segment is superior since it sells directly to end-users.

    INSIGHTS

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    ET Intelligence Group: High share of the stable replacement market, ability to expand exports and steady margin may help Amara Raja Batteries to stay on investor radar as a preferred pick among auto ancillaries. The stock has gained 68% while the BSE Auto index has risen by 40% since the market low on March 23.

    The Chennai-based company, which manufactures automobile batteries, derived about 48% revenue from the auto replacement market compared with 42% five years ago. This segment has greater revenue visibility given the limited life of batteries, which is typically four-five years. In addition, if the broader auto sector has shown a strong sales momentum in the previous few years, it stimulates the replacement demand further. The domestic auto sector had an upcycle between FY14 and FY19. A customer who bought a car, for instance in 2014, now becomes a potential customer for the auto replacement business.

    Amara’s operating margin in the replacement segment is superior since it sells directly to end-users, which includes the owners of two- and four-wheelers, rather than the auto companies. During an investor call after declaring its March 2020 quarter results, the company’s management said its plants were running at 60% of the usual utilisation level by the end of May 2020 after shutting down amid the nationwide lockdown. It has also started experiencing pent-up demand. Therefore, the improving share of the auto replacement segment results in a better mix as well as better blended margins.

    After the exit of the joint-venture partner Johnson Control in April 2019, the company has started expanding its export footprint in the Indian Ocean rim. This should further support sales volume. The exports currently contribute nearly 10% to the revenue.

    K9


    Revenue grew by a modest 1% year on year in the March 2020 quarter even as auto volumes fell by 15-30%. Amara Raja’s volumes in market for two- and four-wheeler parts to end-users grew by 18% and 9%, respectively, during the fourth quarter. This helped the company offset the decline in sales of automakers. For FY20, the overall two-wheeler and four-wheeler battery volumes grew by 13% and 3%, respectively, primarily supported by replacement volume growth of 18% and 10%.

    The company’s operating margin before depreciation and amortisation (Ebitda margin) expanded by 190 basis points to 16.1% in FY20 due to a superior business mix and favourable lead prices, a key raw material for batteries.

    At Wednesday’s closing price of Rs 650.5 on the BSE, the stock was traded at 17 times one-year forward earnings, similar to the long-term average. The stability of earnings and scope for margin sustainability may support the stock movement in the medium term.

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