Somany Ceramics' Q3FY20 results (Outperformer) - Weak gross margin performance; DSO improves…

Q3FY20 consolidated results highlights

• Tiles: Tiles vol. grew ~4.2% yoy to ~13.3mn sq.m. (1% miss), a decent performance as DSO continues to trend lower at 67 vs ~75 as of H1FY20 and 84/89 in June/Mar 2019). Realisations fell ~2.7%/2.2% yoy/qoq to ~Rs286 due to lower GVT/PVT prices. Tiles revenue grew ~1.3% yoy to ~Rs3.8bn (4% miss).
• Sanitaryware revenue was in-line at ~Rs511m (+5.7% yoy).
• Total revenue at ~Rs4.4bn grew 2.5% yoy (in-line). However, weaker realizations and sales of old Kadi plant stock (at variable cost) led to gross margins shrinking ~460 bps yoy to 53.3%. Low fuel costs, however, led to EBITDA growth of ~14.9% yoy to ~Rs403m (18% miss) with margins coming in at 9.2% (+100 bps yoy).
• PBT fell ~4.6% yoy to ~Rs167m due to higher depreciation/interest costs. PAT, however, posted a ~20.2% growth, coming in at ~Rs104m (40% miss) due to lower tax rate.
• Working Capital Status: DSO at ~67 days (vs 75 as of H1). DIO/DPO stood at 35/40 days respectively.

Key positives: DSO improvement continues and despite that it posted volume growth.

Key negatives: Weak gross margins.

Impact on financials: 13%/15% cut in FY20E/21E PBT. Introduce FY22E.

Valuation & view

Although Q3 was a weak performance at the overall level, registering mid-single digit volume growth (which was better than Kajaria’s 1% volume growth), in a tightening DSO environment is an encouraging sign and sets the base for future growth as and when a revival picks up in the market. Also, as the mix improves over FY21E (higher GVT sales, even though GVT prices have fallen, higher sanitaryware revenue) and improved capacity utilization should drive overall margin expansion. As a result, we reduce SOMC’s target valuation discount to KJC from 40% to 30% and retain our Outperformer rating (TP Rs346/20x FY21E EPS). Long-term opportunity is in favour of branded players (NGT/GST/eWay bill); however, near-term challenges persist on overall demand as real estate continue to be under severe pressure. We expect Somany to unwind its Balance Sheet related issues over the next 2-3 quarters which should aid re-rating along with better margin performance.