Escorts have been witnessing rainbows after the rains. From June, when it was positive that the monsoon was on track, until now, Escort’s share price skyrocketed 123% in just three months.
Many factors came together to boost the investor confidence, which continues to be in the company’s favor. At the front is the strong recovery in tractor sales due to the normal monsoon after two consecutive failed years. From April to August, tractor sales hiked by 17.5% year-on-year, with August sales alone rising 55%. The hike in sales took Escorts share price to trade at the new lifetime high of Rs. 405.80.
And this impetus is likely to remain through this financial year as the company expands its presence in the southern markets, which have gradually bucked the slowdown and outperformed growth rates. Meanwhile, Escorts continues to nurture in its stronghold markets in the northern and central belts.
The abrupt turnaround in tractor sales after the several quarters of contraction is a cause for re-rating the company’s stock. In the financial year 2016, Escorts’ net revenue had slimmed on the back of declining tractor sales. Its valuation had so far followed that of other farm equipment manufacturers like VST Tillers Tractors Ltd, as other divisions dragged overall performance. The ray of light in sales has not left Escorts share price untouched and has made the stock open at a gap-up of almost Rs. 8.
However, at existing levels, the stock’s one-year forward price-to-earnings multiple (PE) has doubled to around 16 in a span of six months.
Another boost to valuation comes from the management’s decision to get rid of the loss-making auto products division which was bleeding and a drain on profitability for several years. This has signaled its intention to focus on the company’s core business.
But then, profit expansion is vital to sustain the current valuation. Besides farm equipment, Escorts is focusing on accelerating up revenue growth in other divisions like construction machinery and railways too. A heap of new products has been planned across these segments to perk up utilization and improve profitability. However, this may take some time to start adding to profits in a big way.
The main hurdle is that the company is stuck with high costs, a function of low output and high fixed expenses too. Forecasts by the management to cut raw material costs and employee costs through a VRS are likely to give a leg-up to profitability. Analysts have predicted an operating margin of about 9% by FY18, twice that of FY16.
The admonition, however, is that with nearly 85% of its revenue reliant on the vagaries of the monsoon, the stock’s earning path will be cyclical and unpredictable. Unless Escorts can steady profit margins over a longer term, the stock’s valuations may see wide fluctuations.
Escorts is the Multibagger pick of the month by Dynamic Levels. For details on the stock, please check Escorts share price history page of Dynamic Levels website.
No comments:
Post a Comment