Management Speak: Carborundum Universal (Outperformer) - Near term pains;well positioned for revival

We met CUMI’s management. Here are the key highlights:

Weakness in abrasives continues: led by sluggish demand from B2B (~30%) segment while retail (~70%) segment is holding up. The weakness in B2B segment is across industries, especially in the auto industry (incl. allied industries), which contributes 15-20% the segment revenues. The muted demand is likely to exert pressure on margins on negative operating leverage and higher RM costs. Over the medium term, growth and margin expansion will be driven by improving the product mix towards higher value added products as customer requirements are shifting towards improved quality as also positive operating leverage.

EMD – decline in speciality products to impact margins: While white & brown fused alumina and SIC grains are seeing sustained volumes, the speciality products (largely for DPF applications) have seen a declining trend. Accordingly, deterioration in the product mix is likely to impact segment margins. However, lower power costs from the Maniar hydel plant (FY19 no benefits on shutdown) will aid margins. Moreover, Foskar (FZL) is in the process of being shutdown (by 4Q20), which would aid segment margins (Rs40mn quarterly loss) in FY21E. The company continues to focus on new applications, wide product range and capacity expansion (VAW +15k) to drive volumes over the medium term. Further, the company is scouting for inorganic opportunities to improve market access for exports.  

Ceramics – sustained performance: After a stellar FY19 performance (both revenue and margin expansion), growth is sustaining in FY20 with steady margins. The business’ high margin profile is led by higher share of customized value added products in the mix. Moreover, CUMI is expanding its annual Metallised cylinder (high margins) capacity from 1.8mn to 2.4mn by 4QFY20 which would aid growth and margins.

Valuation and view

Overall, FY20E is likely to be a tough year on weak macros (down trading and inability to take price hikes) and decline in specialities in EMD (adverse mix). However, near term pressures are likely to be offset against the lower tax benefits (3% earnings upgrade). CUMI is emerging as an integrated industrial material play with a wide product portfolio (20IPs filed in FY19) and is eying higher volume growth on back of capacity expansions and exports (likely shift towards Indian players in EMD). The stock trades at 17x FY21E earnings. Maintain Outperformer.