CEAT's Q1FY19 results (Neutral) - Steady Operating performance

Q1FY19 results

• Adj PAT in-line; operating performance above estimates: CEATs Q1FY19 Adj PAT came in at Rs734mn (+56x yoy; -21% qoq). This was 4% above our estimates on lower than expected other expenses. However tax rate at 40% in 1QFY19 was higher qoq (36% in 4QFY18) due to increase in cess on income tax and prior deffered tax items.
• Revenues in-line; EBITDA margins above est: Revenues at Rs 17.0b (+17%yoy) were in-line with expectations.  Gross margins at 39.3% were stable as rubber prices during the quarter were flat. RM costs increased by 40bps qoq (-510 bps yoy) while other expenses were up 110 bps (-150 bps yoy respectively). Decline in other expenses yoy inspite of higher advertisement and promotion expenses for IPL.As a consequence EBITDA margin at 10.3% (-150 bps qoq; +660 bps yoy) was above expectations of 9.5%. Absolute EBITDA grew by 3.2x yoy to Rs 1.8bn.Higher tax expenses qoq also adversely impacted Adj PAT.
• Concall highlights: (a) Overall volume growth of 18.5% yoy was led by robust growth in both replacement (CV demand) and OEM (2Ws/PVs). (b)Raw material costs are expected to increase by 2-3% in 2QFY19.(c) The company has taken a price hike of 1.5-2% in 1QFY19 and has guided for ~1% price hike in 2QFY19 to pass on RM cost increase.(d)It has guided for a capex of Rs 15bn for FY19 having incurred Rs 2bn in 1QFY19.(e)Capacity utilization at the Ambernath plant stood at ~25% with an output of 35 tons/day.It is likely to ramp up to peak capacity of 100 tons in 18 months.(f)The management expects OEM CV demand to be impacted on account of increase in axle loading norms.It expects the industry to take 6 months to upgrade to new moulds for tyres of a larger diameter.

Key positives: Lower interest expenses

Key negatives: Lower than expected gross margins

Change in estimates: Cut estimates for FY20 by 9% on cost pressures/higher competitive intensity in the 2W segment.

Valuations & view: While CEAT has scripted a commendable turnaround in the past, however, going forward, the company faces competitive pressures in its core 2W segment at a time when capex is rising. Despite the sharp decline in share price (down 28%in the past 6 months), the valuations at ~14XFY20 EPS are still ahead of the historical average 9x. We maintain a Neutral rating and revise our target price downwards to Rs1,372 (14XFY20E EPS).