Hitachi Home and Life Solutions - Initiating Coverage 21-08-14

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Financial SummaryY/E Mar (Rs mn) F13 F14 F15e F16e F17eNet sales 9,300 10,997 13,616 16,292 19,277 growth (%) 16.5 18.3 23.8 19.7 18.3 EBITDA margin (%) 5.0 4.3 8.6 8.6 8.7 Adjusted net profit 153 80 574 669 838 EPS (Rs) 6.7 3.0 21.1 24.6 30.8 growth (%) 369.0 (47.4) 613.2 14.2 20.1 P/E (x) 64.5 145.3 20.4 17.5 13.9 EV/EBITDA (x) 23.3 26.7 10.3 8.5 7.0 Dividend yield (%) 3.5 3.5 3.5 3.7 3.7 RoE (%) 7.5 3.4 21.6 20.7 21.3 RoCE (%) 5.9 4.1 15.5 15.4 15.7 Source: Company, SSLe

Plugging into growth! Hitachi Home and Life Solutions India Ltd (HHLS) is at an inflexion point. We like the stock due to a) operational improvements from a refurbished plant at Kadi wherein we expect ~20% rise in assembly efficiency, b) reduction of lead time in procurement of some key raw material leading to controlled working capital cycle, c) improved focus on operation and marketing to reap the benefits from an upcoming growth of the industry. Its an industry that we believe will see a 20% CAGR in air conditioners (AC) and a 15% CAGR in refrigerators over F14-F17e. With an operating leverage unshackled by volume gains and plant efficacy, we expect the company to double its EBITDA margin to ~8%, in-line with EBITDA margin of peers. Our estimates suggest ~118% EPS growth over F14-17e (32% during F11-14). Yet the stock is trading at 17.5x/13.9x F16e/F17e EPS that is a 20% discount, on an average, to peers on F17e earnings. Assigning 20x on F17 earnings, we see a 48% upside with a TP of Rs616.

Market share improvement with sub-premium product diversification: HHLS, which so far catered to the premium segment, is now entering tier-II and tier-III cities with sub-premium priced products to be sold through a burgeoning B2B self-employed distributors & services network. This strategy enmeshes well with Indias future growth that will come from smaller towns and their rising aspirations that seek advanced, high quality & premium products. Acknowledging these aspirations, HHLS has launched a new range of window and split AC in sub-premium categories hoping to reach out to a vast majority of customers from middle-level income groups. This will help HHLS gain market share over the current 10% (F14) in the Room Air Conditioners (RAC) segment. RAC constitutes ~80% of the total Air-conditioning revenue. The focus on improving the share of B2B from ~40% to 50% by the end of F15e will boost the growth of the company over that of the industry.

Improving margin backed by rise in volume and operational efficiency: Low volume due to weak consumer spends and costly import due to INR depreciation was hurting the industry badly over last three years. Along with the bad industry performance, HHLS bore the brunt of a fire incident at its Kadi factory at the end of F13. Now, with a new refurbished plant in place, improved consumer sentiments and increased customer focus, we see 20% volume CAGR over F14-17e in its RAC segment leading to a 21% CAGR growth in sales. Combined with a volume growth, expectations of stable currency and efficient cost management are seen uplifting the EBITDA margin from 4.3% to 8.7%. With limited near term capex and improving utilisation levels, we expect the return ratios, RoE/RoCE, to improve from 3.4%/4.1% in F14 to 21.3%/15.7% by F17e.

Localisation content to increase, so would customer reach: With the refurbishment of the plant at Kadi, we expect operational efficiency of the company to improve by ~20% from F15. Except critical electronics and compressors (~30% of the cost), the company manufactures majority of the parts of RAC in-house. Global sourcing of equipments from Hitachi group plants and the commissioning of a compressor plant in Gujarat of a Hitachi Associate, HHLS will have greater control over its working capital. Moreover, a rapid expansion of manpower (~300 people addition in F13 and F14 as against ~40 people addition earlier) has been rather timely just when the industry bottomed out. The company inducts 30% of its new work force in to sales and services every year.

Key risks: Strained working capital due to currency volatility, seasonality in air-conditioner purchases market and further increases in BEE rating may impact volume growth.

Hitachi Home and Life Solutions HTHL IN; HITA.BO

Initiating Coverage BUY

Current price (20 Aug) RsTarget price RsUpside/(downside) % 48

Market dataMkt capitalisation Rs bn 11.3Average daily vol '000 96.852-week H/L Rs 428.9 / 100Shares O/S mn 27.2Free float mn 7.0Promotor holding % 74.3Foreign holding % 1.0Face value Rs 10.0

Price performance (%)1m 3m 6m 1yr

Nifty (abs) 2.8 8.2 29.3 45.8Stock (abs) 16.1 118.3 212.2 301.3Relative to Index 13.4 110.1 182.9 255.5

Performance

417 616

(100)

0

100

200

300

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240

360

480

Aug-13 Nov-13 Feb-14 May-14 Aug-14Hitachi Home (LHS) Rel. to BSETCG (RHS)

(%)(Rs)

Source: Bloomberg, SSLe

August 21, 2014Consumer Durables | India

Rabindra Nath Nayak +91 22 4227 3310 [email protected] Alok Ramachandran +91 22 4227 3478 [email protected] Aakash Fadia +91 22 4227 3460 [email protected]

Hitachi Home and Life Solutions (India) Initiating Coverage SBICAP Securities Ltd

[email protected] I [email protected] | [email protected] August 21, 2014 | 2

Investment Rationale Market share improvement with sub-premium product diversification: Rising aspirations amongst Indias smaller towns where residents are increasingly seeking advanced, high quality & premium products has not escaped notice of most. Acknowledging this trend HHLS, which so far catered to the premium segment, is now entering tier-II and tier-III cities with sub-premium priced products. Its entry rides upon an equally aspirational and a burgeoning B2B self-employed distributor & service network. This strategy is starting to pay rich dividends and HHLS is aggressively launching a range of new window and split ACs in sub-premium categories hoping to reach out to a vast majority of customers from middle-level income groups. We foresee HHLS gaining market share over the current 10% (F14) in the Room Air Conditioners (RAC) segment ahead. RAC constitutes ~80% of the total Air-conditioning revenues for HHLS. The focus on improving the share of B2B from ~40% to 50% by the end of F15e will boost the growth of the company over that of the industry. Exhibit 1: HHLS market share set to improve from the current 10% in F14

Voltas & LG 41%

Samsung11%

Panasonic9%

Others39%

Indian Airconditioning Market - 2013

Source: TV VEOPAR, SSLe Improving margin backed by rise in volume and operational efficiency: The last three years saw the industry struggle with low volumes accompanying weak consumer spends and depreciating rupee hurting their margins due to a high degree of reliance on imported kits. HHLS not only buckled under this twin blow it also bore the brunt of a fire incident at its Kadi factory at the end of F13. However, these are now relegated to the past as HHLS has a new refurbished plant in place that also is integrated well enough to offer good cost advantage. Moreover, with improved consumer sentiments and increased customer focus we see 20% volume CAGR over F14-17e in its RAC segment leading to a 21% CAGR growth in sales. Accompanying a strong growth in volume, expectations of stable currency and efficient cost management are seen uplifting the EBITDA margin from 4.3% to 8.7%. That should drive improvements in return ratios, RoE/RoCE, from 3.4%/4.1% in F14 to 21.3%/15.7% by F17e even as we foresee limited near term capex and rising utilisations.



Exhibit 2: Revenues to grow by 23.8% in F15e; net profits to grow by a CAGR 118% over F14-17e as volumes in ACs are set to improve

0.0

2.5

5.0

7.5

10.0

F12 F13 F14e F15e F16e F17e

(%)

EBIDTA Margin EBIT Margin

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250

500

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1,000

F12 F13 F14 F15e F16e F17e

(Rs

mn)

Adjusted PAT Source: Company, SSLe

Localisation content to increase, so would customer reach: HHLS localisation of most parts of an AC is helping negate currency fluctuation-linked costs. Except critical electronics and compressors (~30% of the cost), the company manufactures majority of the parts of RAC in-house. The refurbishment of the plant at Kadi now allows an operational efficiency improvement of the order of ~20% from F15 according to us. Also, with global sourcing of equipments from Hitachi group plants and the commissioning of a compressor plant in Gujarat of a Hitachi Associate, HHLS will have greater control over its working capital. Outside of the plant, a rapid expansion of manpower (~300 people addition in F13 and F14 as against ~40 people addition earlier) has been rather timely just when the industry bottomed out. The company inducts 30% of its new work force into sales and services every year.



Valuation

With a pickup in demand for air-conditioners, we expect 21% and 118% CAGR in sales and PAT to Rs19.3bn and Rs0.8bn, respectively, over F1417e. The company went in a cost spiral in F13 & F14 primarily due to the volatile currency that impacted margins and thereby leading to lower earnings. With profitability expected to grow at a CAGR of 118% over F14-17e, we expect multiples to return to normal levels.

Exhibit 3: 1-year fwd P/E chart

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-12

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(x)


Exhibit 4: Peer Valuation

F15e F16e F17e F15e F16e F17e F15e F16e F17e F15e F16e F17e

Voltas 8.8 10.5 11.9 26.5 22.2 19.6 6.0 6.4 6.4 15.2 16.1 16.2

Blue Star 10.8 14.6 19.3 29.6 21.8 16.5 4.2 5.2 6.1 19.4 23.6 27.1

Havells India 45.4 52.9 62.2 27.8 23.8 20.3 10.3 10.9 11.4 30.0 27.8 26.2

Hitachi Home & Life Solutions (India) 21.1 24.6 30.8 19.4 16.6 13.3 15.3 16.7 18.2 21.6 20.7 21.3

Whirlpool of India 12.0 15.4 22.1 38.3 29.9 20.9 10.2 11.9 NA 18.3 19.4 26.0

Crompton Greaves 7.5 11.0 14.1 27.9 19.0 14.7 4.2 5.8 7.2 12.2 16.1 18.1


Company nameEPS (Rs) P/E (x) ROA (%) ROE (%)

The stock trades at 18x on a one-year-forward EPS. Weexpect 118% CAGR in PAT over F1417e.



Financial Analysis

Revenues to grow at a CAGR 21% over F14-F17e to Rs19.27bn Approximately 69% population resides in rural areas of the country. However, they contributed only 35% of the companys sales. Seeking a higher penetration from an improving distribution reach, the company expects rural sales contribution to increase to ~45% in the near future. Rural markets are expected to post much faster growth than urban markets in the medium term led by increased rural incomes, increased distribution reach of consumer durable companies and customized products for rural consumers. Buoyed by the improving demand environment, we expect HHLS revenues to grow at a CAGR of 21% over F14- F17e to Rs19.27bn.

Exhibit 5: Air-conditioners to drive revenue growth; Refrigerators to grow at a 15% over F14-17e

0

4,500

9,000

13,500

18,000

F 11 F 12 F 13 F 14 F 15e F 16e F 17e

(Rs

mn)

Air Conditioners Refrigerators Spares and Accessories Others

75%

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85%

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95%

100%

F 11 F 12 F 13 F 14 F 15e F 16e F 17e

Air Conditioners Refrigerators Spares and Accessories Others Source: Company, SSLe

Margins to structurally improve

Higher sales, primarily driven by volume, combined with efficient cost management and reduced currency volatility should help EBITDA margins at least double from the current levels of 4.3% in F14. Moreover, the business is set to structurally change as asset utilisation pick-ups.

Exhibit 6: EBITDA margins set to improve as volumes pick up, accompanied by improving asset turn

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2.5

5.0

7.5

10.0

F12 F13 F14e F15e F16e F17e

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EBIDTA Margin EBIT Margin

3.9 3.9 3.94.2

4.64.9

1.3 1.3 1.41.6 1.6 1.6

0.0

1.5

3.0

4.5

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F12 F13 F14 F15e F16e F17e

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Asset turnover Gross Fixed Asset Turnover Source: Company, SSLe



With improving geographical reach by enhancing production capacity we see the company engage its customers with ever more customer touch points. Resultant high sales, in our opinion, should also generate much higher free-cash flows. We foresee an ~10x jump in FCFs from F12 levels to Rs556.8mn in F17e.

Exhibit 7: Free-cash to turn positive as future capex minuscule; Return ratios to set to improve

(500)

(100)

300

700

1,100

F12 F13 F14 F15e F16e F17e

(Rs

mn)

Operating Cash Flow Free Cash Flow

0

6

12

18

24

F12 F13 F14e F15e F16e F17e

(%)

RoE ROCE ROIC Source: Company, SSLe



Key Risks

Key risks to our target price:

Currency risk: With an appreciating rupee, the company may not be able take full advantage of the currency unlike some competitors.

High competition in the air-conditioning segment Weaker-than-expected growth in air-conditioner & refrigerator sales. Significant increase in working capital impacting margins

Exhibit 8: Key Assumptions Y/E Mar F15e F16e F17e

Growth (%)

Airconditioners 20.0 20.0 20.0

Refrigerators 15.0 15.0 15.0

Spares 25.0 20.0 20.0

Operating Expenses

Raw material & project costs as % of Sales 61.0 61.0 61.0

Man power as a % of Sales 7.4 7.4 7.3

Other Expenses as a % of Sales 23.0 23.0 23.0

Source: SSLe



Company Profile

Hitachi Home & Life Solutions (India) Ltd (HHLS) is a subsidiary of Hitachi Appliance Inc, Japan. Since its inception HHLS has focused on developing and supplying high-quality products and technology that contribute to the overall prosperity of the society. HHLS manufactures various kinds of products, including Room Air-conditioners, Commercial Air-conditioners, Chillers and is into trading of VRF Systems, Rooftop ACs and Refrigerators.

Headquartered in Ahmedabad, Gujarat, the company's manufacturing facility at Kadi, Gujarat, is among the ten Hitachi air conditioner facilities worldwide. With a total installed capacity of 230,000 units (in a single shift) a year HHLS is amongst the top air-conditioning companies in India. It has a strong nationwide distribution consisting of 5 regional offices, 21 branch offices and over 200 exclusive sales and service dealers. It has over 1,500 sales points, 33 company owned service centres (HCS) and 600 other service points including multi brand S&S and franchisees. The company believes in simplifying life, which is why, it constantly innovates, brings in world-class technology, newer concepts and incorporates advanced features in its products to make life comfortable. Exhibit 9: Management TeamShinichi Iizuka Chairman

Shoji Tsubokuta Managing Director

Amit Doshi Executive Director

Anil Shah CFO & Executive Director

Vinay Chauhan Executive Director

Ashok Balwani Director

Dr. Devender Nath Director

L G Ramakrishnan Director

Mukesh Patel Director

R S Mani Director

Ravindra Jain Director

Vinesh Sadekar Director

Source: Company, SSLe



Financials Income Statement Balance SheetY/E Mar (Rsmn) F13 F14 F15e F16e F17e Y/E Mar (Rsmn) F13 F14 F15e F16e F17eNet sales 9,300 10,997 13,616 16,292 19,277 Cash & Bank balances 716 220 537 899 1,315growth (%) 16.5 18.3 23.8 19.7 18.3 Other Current assets 5,533 5,096 6,179 7,340 8,832

Operating expenses 8,835 10,522 12,438 14,893 17,604 Investments 0 0 0 0 0

EBITDA 464 476 1,177 1,399 1,672growth (%) 53.5 2.4 147.5 18.8 19.5 Net fixed assets 1,775 1,955 1,985 1,995 1,985

Depreciation &amortisation 202 300 320 340 360 Goodwill & intangible assets 66 18 18 18 18

EBIT 263 175 857 1,059 1,312 Other non-current assets 222 315 373 446 528Other income 16 57 30 30 30 Total assets 8,312 7,604 9,093 10,698 12,678Interest paid 72 119 90 90 90

Extraordinary/Exceptional items 0 0 0 0 0 Current liabilities 4,151 3,677 4,777 5,539 6,412

PBT 207 113 797 999 1,252 Borrowings 1,659 1,249 1,025 1,135 1,304Tax 54 33 223 330 413 Other non-current liabilities 138 277 364 478 630Effective tax rate (%) 25.9 28.9 28.0 33.0 33.0 Total liabilities 5,948 5,203 6,166 7,153 8,346Net profit 153 80 574 669 839Minority interest 0 0 0 0 1 Share capital 230 272 272 272 272

Reported Net profit 153 80 574 669 838 Reserves & surplus 2,135 2,128 2,655 3,273 4,060Non-recurring items 0 0 0 0 0 Shareholders' funds 2,364 2,400 2,927 3,545 4,331Adjusted Net profit 153 80 574 669 838 Minority interest 0 0 0 0 0growth (%) 369.0 (47.4) 613.2 14.2 20.1 Total equity & liabilities 8,312 7,604 9,093 10,698 12,678

21 211 246

Key Financials ratios Cash Flow StatementY/E Mar F13 F14 F15e F16e F17e Y/E Mar (Rsmn) F13 F14 F15e F16e F17eProfitability and return ratios (%) Pre-tax profit 207 113 797 999 1,252 EBITDAM 5.0 4.3 8.6 8.6 8.7 Depreciation 202 300 320 340 360

EBITM 2.8 1.6 6.3 6.5 6.8 Chg in working capital (375) (316) (31) (84) (212)

NPM 1.6 0.7 4.2 4.1 4.3 Total tax paid (43) (66) (223) (330) (413)

RoE 7.5 3.4 21.6 20.7 21.3 Other operating activities 687 548 - - -

RoCE 5.9 4.1 15.5 15.4 15.7 Operating CF 677 580 864 925 988 RoIC 4.9 2.3 15.3 16.7 18.2

Capital expenditure (1,141) (556) (408) (423) (431)

Per share data (Rs) Chg in investments (1) (199) - - - O/s shares (mn) 23.0 27.2 27.2 27.2 27.2 Other investing activities 11 38 - - -

EPS 6.7 3.0 21.1 24.6 30.8 Investing CF (1,132) (717) (408) (423) (431) FDEPS 6.7 3.0 21.1 24.6 30.8 FCF (455) (137) 455 503 556 CEPS 15.5 14.0 32.9 37.1 44.1

BV 103.0 88.3 107.6 130.4 159.3 Equity raised/(repaid) 547 3 - - -

DPS 15.0 15.0 15.0 16.0 16.0 Debt raised/(repaid) 688 (431) - - -

Dividend (incl. tax) (40) (47) (48) (51) (51)

Valuation ratios (x) Other financing activities (52) (83) (90) (90) (90) PE 64.5 145.3 20.4 17.5 13.9 Financing CF 1,143 (558) (138) (141) (141) P/BV 4.2 4.9 4.0 3.3 2.7

EV/EBITDA 23.3 26.7 10.3 8.5 7.0 Net chg in cash & bank bal. 688 (695) 317 362 416 EV/Sales 1.2 1.2 0.9 0.7 0.6 Closing cash & bank bal 716 220 537 899 1,315

Other key ratiosD/E (x) 0.7 0.5 0.4 0.3 0.3

DSO (days) 61 59 55 55 57

Du Pont Analysis - RoENPM (%) 1.6 0.7 4.2 4.1 4.3

Asset turnover (x) 1.3 1.4 1.6 1.6 1.6

Equity multiplier(x) 3.5 3.3 3.1 3.1 3.0

RoE (%) 7.5 3.4 21.6 20.7 21.3Source: Company, SSLe



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KEY TO INVESTMENT RATINGS (w.e.f. February 2013) Guide to the expected return over the next 12 months. 1=BUY (expected to give absolute returns of 15 or more percentage points); 2=HOLD (expected to give absolute returns between -10 to 15 percentage points); 3=SELL (expected to give absolute returns less then -10 percentage points)

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ContentsInvestment RationaleValuationFinancial AnalysisKey RisksCompany ProfileFinancials

Hitachi Home and Life Solutions - Initiating Coverage 21-08-14

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Transcript of Hitachi Home and Life Solutions - Initiating Coverage 21-08-14