Management Speak: Blue Star (Neutral) - Strong start to summer

We met Blue Star (BLSTR) management. Below are key takeaways:

FY20 starts on strong note: The summer season for RAC (room air conditioner) is expected to grow at 20%+, with Apr-19 seeing 15%/20% yoy growth in primary/ secondary sales. While East demand has been quite weak due to adverse weather, other regions are witnessing strong growth, with North typically seeing summers till Jun/July. Some markets are witnessing shortage of fixed speed AC reflecting demand from aspirational middle class first time buyers and from Tier III, IV, V cities. Accordingly, mgmt. expects industry to grow at 10-15% in FY20E.  BLSTR expects to grow at a faster pace of 20-25% and expand market share from 12.3% to 13-13.5% led by market share gains in North (9% market share) from higher focus and reach.  

BEE rating likely to be delayed: by a year to Jan 2021 as the new ratings have not yet been notified (takes 9 months to shift to new designs). As India has highest efficiency norms, the industry’ focus would be to enhance 5-star penetration (20-25% of volumes) and increase affordability of energy efficient products (inverter AC prices seeing 10% fall on scale). Concurrently, mgmt. expects GST to be cut from 28% to 18% in FY20, which would drive long term growth.

UCPL margins to expand: from 8.2% in FY19 to 9-9.5% in FY20 and 10% in FY21 led by economies of scale, design optimization, traction in high margin commercial refrigeration and lower losses/breakeven in water purifier (150bps impact in FY19). Mgmt highlighted that there have been no price hikes in RAC as yet although discounts, promotional schemes etc. have been tweaked. BLSTR does not expect aggressive competition from Chinese players considering different Indian EER and refrigeration norms and sees the aggressiveness limited to e-commerce. 

EMP expected to deliver moderate growth: Metro and Airport projects are picking up (Rs20bn worth of tenders expected in FY20), while factory segment is likely to pick up gradually as utilisation levels are rising. However, BLSTR would remain cautious as elongated execution timelines and design changes persist across segments, particularly wherein the order is not directly from the customer. Accordingly, BLSTR expects moderate growth and steady margins for the segment.

Valuation and view

Blue Star has emerged as a leading RAC and central cooling player through a robust product portfolio (strong presence in inverter RACs) and a premium brand image, which it is looking to leverage to expand market share and enter other categories. These measures should drive 24% earnings CAGR over FY18-20E, in our view. A healthy balance sheet, led by FCF generation should help post strong return ratios. We believe valuations factor in all the positives at 25x FY20E earnings. Neutral.