Redington India's Q2FY19 results (Outperformer) - Bottomed out; earnings growth in sight…

Q2FY19 results highlights (base adjusted for Ind-AS 115)

• Q2 was marred with certain one-offs and Turkish Lira depreciation. Cons. revenue was up 11% yoy (in-line), but gross profit grew only 5.4% yoy (in-line) due to liquidating aging inventory below cost leading to around ~20bps one-off impact on gross margins at cons. level (~55bps impact in India gross margin). Gross margin fell by 29bp yoy to 5.67% (in-line). Cons. EBITDA fell by 5.4% yoy, due to issue at gross margin level and accelerated provisions under its ECL provisioning model implemented from Q1FY19 onwards (~14bps provision in this qtr vs the prior to ECL run-rate of 10-12bp), EBITDA margin stood at 1.69%, down ~32 bps yoy. Higher than expected other income (~3x yoy, led by forex gain) led to PAT coming in higher than expected at ~Rs1.1bn (fell 6.6% yoy) and explains the 10% beat. Adj. for Turkish Lira depreciation, PAT would have been higher by ~8.7%.
• India business grew ~11% yoy (5% beat), powered by the IT/Services businesses (IT grew by a strong 19% yoy). Mobility business was relatively weak (due to high-base).
• Overseas business grew by a decent 10.3% yoy (5% miss), despite currency translation issues of Turkey.
• NWC remained stable at 41 days (vs 40 days yoy). Within geographies, India NWC improved to 46 days (vs 55 yoy), while Overseas NWC weakened to 37 days (vs 32 yoy). FCF stood at ~Rs1.1bn (vs ~Rs1.3bn yoy).

Key positives: India business growth/NWC improvement.

Key negatives: Gross margins off ~30 bps yoy.

Impact on financials: 1%/2% EPS cuts for FY19E/20E.

Valuation & View

Although many issues plagued the company over the past four quarters (weak India business, issues in Turkey, Ind-AS adjustments, inventory write-downs), we believe REDI is currently at an interesting juncture, given that the overseas business (ex. Turkey) has remained stable, while the India business will enter a growth period (given weak base). Potential uptick in enterprise IT spending, mobility business (driven by Apple – given consolidation of distributors), and the continued growth in ProConnect/Ensure could mean that REDI’s higher-margin India business will begin to pull the company’s earnings growth trajectory upwards over the next 2-4 quarters. Current levels, post the stock price correction over H1FY19, provide enough margin of safety (FY20E P/E and P/B at 5.8x and 0.7x respectively) in our opinion. We maintain our Outperformer rating with a TP of Rs144 (10x FY20E EPS).