Blue Star's Q2FY20 results (Neutral) - Focus on working capital

2QFY20 result highlights

• Adj. PAT at Rs397mn (+78% yoy): Revenues +21% yoy to Rs21.5bn. Margins expanded 26bps yoy to 5.9% resulting in 27% yoy EBITDA growth to Rs736mn. Higher other income (+115% yoy to Rs106mn on receipt of incentives) and lower finance cost (-42% yoy to Rs57mn; effective working capital management) supported PAT.
• EMP – mixed performance: Revenues grew 24% yoy to Rs7.84bn led by pick-up in the central air conditioning business (especially chillers and VRFs). However, management remains cautious in billing in view of ongoing liquidity issues. Accordingly, margins contracted 140bps yoy to 5.7% on slower execution in project business.
• RAC – mkt share maintained: UCPL revenues +10% yoy to Rs3.8bn as 10% yoy growth in RAC (low base), +6% in commercial refrigeration (30% of segment revenues) and stable performance in water purifiers. Margins expanded 80bps yoy to 3.2% led by adverse product mix (higher sales of low-end products), higher ad spend, etc.

Conf call highlights: (1) RAC revenue growth of 10% yoy in 2Q20 is similar to industry growth driving stable 12.5% mkt share (12.3% in 2Q19) (2) Pricing pressure subsiding as inventory levels have normalised across industry; price hikes likely in 4QFY20 when next season sets in with new product launches (3) Focus is on localisation of IDUs with higher proportion of in-house mfg from 60% to 75% over next 2 years; (4) Impact of losses in water purifiers on segment margins to reduce from 160bps in FY19 to 90-100bps in FY20 (5) EMP segment won orders worth Rs7.95bn with backlog of Rs20.6bn; (6) Shift to the lower tax regime is delayed as company has Rs670m MAT credit; (7) Other income was higher on Rs45mn tax refund; (8) Improved working capital led to lower debt of Rs1.9bn (Rs2.5bn net debt in 4Q19; 7mn net cash in 1Q20);

Impact on financials: FY20/21 EPS upgraded by 5%/4% to Rs25/31

Valuations & view

Blue Star witnessed a mixed performance in the quarter with cautious EMP billing, decline in commercial refrigeration with strong working capital management. Bluestar’s wide product portfolio, premium brand image and growing reach has enabled it to expand market share. Concurrently, Blue Star is leveraging its brand to penetrate into other segments. These measures should drive 26% earnings CAGR over FY19-21E, in our view. However, we believe valuations factor in all the positives at 26x FY21E earnings. Neutral.