CEAT Limited (500878) Earnings Call Transcript & Summary

Ladies and gentlemen, good day, and welcome to Q2 FY '21 Earnings Conference Call of CEAT Limited, hosted by ICICI Securities Limited. [Operator Instructions] Please note that this conference is being recorded. I now hand the conference over to Mr. Ronak Mehta from ICICI Securities Limited. Thank you, and over to you.

Good evening, everyone. On behalf of Tata Recurities, we would like to welcome you all to T Q2 FY '21 Earnings Conference Call. Today, we have with us from the management team, Mr. Arnab Benarji, Managing Director and CEO and Mr. Kumar Subbiah, Chief Financial Officer. We will start the call with a brief opening remarks from the management team about the quarter gone by, and then we'll proceed to the Q&A session. Thank you, and over to you, Mr. Kumar.

Good afternoon, everybody, and welcome to CEAT Quarter 2 FY '27 Earnings Call. I'll be taking you through the business updates for the quarter and then Kumar shall have his remarks on the financial performance. Post that, we'll have the Q&A. I also have Amit Tolani who heads the OHE division in St along with me. If you have any questions on Camso, we can handle them as well. So moving on, during quarter 2, structural consumption tailwinds triggered by last year's GST reforms continue to anchor domestic volumes. On the input side, however, we still continue to face sharp cost inflation. During Q2, further raw material cost increase was around 8% to 9% over Q1, this is in addition to about 15% increase in Q1 over March exit prices. And Q3 RMC will also be about 3% higher than Q2. Thus, by December total increase will be 27% over March exit price. Our gross margins have been stagnant at around 33.6% and behind our comfort zone of 7% to 7% more gross margin that we would like to operate with. This, coupled with further raw material price hike expected in Q3 calls for more price hikes in all segments in quarter 3. We maintained a direct grip on all cost elements, which resulted in an EBITDA of 1.1% in quarter 3. On the demand side, while the near-term structural encasement supportive demand may moderate during Q3 on the back of a higher base over last -- of previous year, El Nino effect and recent reported increase. In the near term, we expect replacement demand to be led by 2-wheeler segment where demand is still strong and more so in rural markets. MSCV growth is expected to be mid-single digits in passenger there is some concern about growth, maybe low single digits. In OEM demand is still holding strong across categories, which could moderate Y-o-Y because of high base effect. Farm production seems to be tapering off due to lower demand post monsoon deficit. In international business, recovery has been strong on the back of demand revival in Africa and LatAm. Segments that are witnessing good demand are two-wheelers and commercial vehicle. However, faith rates and elongated and unpredictable transit times are a challenge to handle. Sales to Middle East also improving still remains impacted. Q2 witnessed robust performance with a strong revenue growth of about 23% Y-o-Y on a stand-alone basis and an underlying volume growth of close to 10%, stand-alone EBITDA in Q2 stood at INR 461 crores. Momentum continued during Q2 over last year, 23% value growth. Replacement segment grew in mid-teens, while both OEM and IB segments grew in high 20s. Overall growth in CV, 4-wheeler, 2-wheeler farm were all in excess of 20%, a strong double digit. Replacement growth was led by 2-wheeler and commercial categories, while growth in 4-wheeler was muted saliency of premium 2-wheeler and 4-wheeler grew in replacement. OEM grew handsomely in all categories led by strong demand, and we enhanced our fitment in premium vehicles and EV OEMs. Growth in ID was strong across categories in the half 20s and even 30 in term for some segments. Our Camso business transition is nearly complete. About 85% of the customers have come to CEAT's fold now with sales being directly made to them. We expect to complete the balance transition by [indiscernible]. Alongside the customer transition, we have now set up local entities in U.S., Canada, U.K., France, Germany and Poland, which helps us serve customers in this market locally other than as an exporter from Sri Lanka. In Q2 '28, we will have control over the entire cancer value chain right from raw material procurement to end customer servicing. And the project to install upstream equipments in the Srilanka plant is running on time. That makes FY '28 the first year of CAMSO running entirely on CEAT platform and we expect the margin benefits of the integration of CAMSO start showing up. We have gross margin visibility to the extent of 50% to 55% in CAMSO. Capacity utilization in the Sri Lankan plant is less than 50%, leaving headroom for growth Half 2 volumes in this financial year are expected to grow by 20% plus on an actual volume base. This business is close to being EBITDA positive in half 2 and we expect this business to be EPS accretive at consolidated level by FY '29. We are taking steps to eliminate the mark-to-market losses or gains on the U.S. dollar loan component from CEAT India to HT Lanka and we shall keep you informed about the execution of the same by end of next quarter. Continuing our comments on key trends of electrification and international business, premiumization and digital in electrification on the electrification platform, during Q2, we maintained leadership with 25% share in OEM PCUV electric segment and strengthen the 2-wheeler EV share to beyond 30%. International business saliency in Q2 was approximately 20% on a stand-alone basis and consolidated business basis, it was 24%, which includes CAMSO turnover, which is fully international. We have a plan to take it to 33% at the total CEAT level in 5 years. In quarter 2, OHT business delivered its strongest ever quarter registering strong growth Y-o-Y up by about 30% plus. This was despite headwinds from elevated ocean freight rates and continued increases in raw material costs which put pressure on margins. During Q2, we added 21 new off-highway SKUs as well. In the on-road TAS business, growth was robust with improving realization segment registered mid-20 growth during Q2 on Y-o-Y basis. Europe, LatAm, Southeast Asia business growth has been good. However, record freight rate increases and difficulties in container availability continue to be the challenges. Premiumization, Q2 saw multiple launches in 2-wheeler and passenger car market with premium offerings in higher green sizes in off-roading applications and in certain niche sizes. Sales overall sales volume or sales volume of premium passenger tires, which we define as 17-inch plus in size tires, registered high growth on YTD basis, mid-30s. Our 2-wheeler premium portfolio compacting of motorcycle steel radios, fabric radial and asked for 250cc plus banks also grew handsomely registering high mid-teens growth. Digital and AI FCS, we are scaling up AI adoption to a portfolio of top management-led initiatives across key business functions. During the quarter, functions advanced the use of Para and analytics for predictive insights, proactive identification process automation and faster thinking across sales, finance, manufacturing, supply chain and other areas. In parallel, our enterprise date project is progressing well. Our SAP rights project also continued to advance as per plan. During Q2 premium tire sales through leads grew by 1.2x, while overall 4-wheeler tag sales through leads grew by 36% over the same period last year. Positive sentiment for brand moved up by 37% Y-o-Y. Tariffs by U.S. applicable duty and auto components remain at 25% plus the original 4% tariff, so on-road tires, including truck bus radial and passenger car tax continue to fall under this category. -- off-highway tariffs are subject to lower 10% global tariffs. So HT tyre exports from Srilanka also attract the same 10% duty. For Trax, the applicable tariff is 10%. However, the metal component of Trax, which primarily steel continues to attract a higher tariff of 35%. Sustainability remains a key driver of innovation, efficiency and long-term value creation at CF. We have improved logistics efficiency, reduce inbound transport intensity and we have successfully deployed LNG power trucks for natural rubber transportation. We have also begun working with suppliers to increase adoption of alternative fuel vehicles across our supply chain. Our commitment to sustainable product service recognized with the Gold Award from the Indian society for quality for CEAT Circle 90, India's most sustainable passenger car time. With this, I would like to hand over the call to Kumar for his remarks.

Thank you, Herna. Good afternoon, ladies and gentlemen, and thank you for joining our Q2 FY '27 earnings call. I'll share some more financial data points with you, all post which we can enter the Q&A session. First, our overall financial performance, our consolidated net revenue for the quarter stood at INR 4,762 crores, which is with a year-on-year growth of about 26.2%. The revenue that we delivered in Q2 was the highest ever. This was aided by a combination of both strong volume and price growth on a year-on-year basis. Approximately 40% of the growth came through volumes and balance came through positive price and mix. As regards pricing, similar to quarter 1, pricing impact was positive across all segments. During quarter 2, OEM and replacement segments led the upward pricing investments. So for replacement has been receptive of our pricing actions where demand is still holding strong. We have affected approximately about 12% to 13% price increase at the beginning of the current financial year till end of September in replacement and about 14% to 15% in OLMsegment from the beginning of the financial year until date. And we still have some gap to bridge vis-a-vis increased raw material costs that will be addressed in due course. Coming to operating margins. Our consolidated EBITDA for quarter 2 stood at INR 452 crores, translating to 9.5% of the revenue. It's an expansion of 94 basis points sequentially and a drop of about 403 basis points versus quarter 2 of last year. While our stand-alone margin was about INR 461 crores for the quarter, translating to margin of 10.14% of revenue during the quarter, an improvement of about 101 basis points Q-on-Q and a drop of about 356 basis points. The drop in margin, gross margin versus the previous year of the same period is mainly on account of increase in raw material costs in the last 6 months. Our consolidated gross margin for quarter 2 stood at 34.6% and expanded by about 66 basis points sequentially, helped by other operating income and increase in realization. The drop in margin, as I mentioned, is largely on account of raw material costs versus the last year. Coming to raw materials. During quarter 2, crude oil prices continue to remain at derivated levels. While it averaged at lower level in the beginning of the quarter, that is in July to around $84, $85. But ever since ceasefire deadline expired in mid-August, and reescalation started towards the end of August, the crude has been hovering around $100 per barrel. As we speak, the crude continues to hover around $105 as we speak due to increase in crude premium, the crude derivative prices, which go into tires moved even higher than the movement in crude prices in the quarter 2. Natural rubber prices followed a similar trajectory during the quarter, with international benchmark the diner Commodity Exchange starting quarter at around $2,200 per ton but since then moved to around $2,600 level, in line with the movement and following price parity, domestic rubber prices also remained elevated and is priced currently at around INR 285 per kg, which is a 20-year plus high and continues to remain strong even in the current market conditions. Recent sharp movement in international natural rubber prices has, in a way, also closed the gap with a local basis. Earlier the international prices are discount to local prices today, it is more or less in parity with the local basis. Coming to rupee, while recent intervention package announced by Reserve of India has pulled back some of the negative sentiment and it remained with an earnings leading to a limited impact on our costs during the quarter. So overall, as guided in our quarter 1 call of our raw material costs for quarter 2, the raw material prices surged by about 8% to 9% quarter-on-quarter compared to quarter 1. Moving into quarter 3, and the pressure is expected to persist as commodity prices continue to remain high and it is expected that raw material costs would move range about 3% to 3.5% in quarter 3 over quarter 2. The group, and we look forward to finally average ratio where it comes to an end, it should bring the commodity prices back to the normal levels. Coming to CapEx. We spent about INR 493 crores during the quarter on a stand-alone operations, that includes approximately about INR 120 crores plus in Nagpur as part of our capacity increase from 80,000 tires to 100,000 tires a day, and approximately about INR 280 crores in Chennai was towards expansion of our truck and bus radial and passenger car tires capacities. Our capacity utilization continues to be high, particularly in 2-wheeler and truck and bus categories and the CapEx that we front loaded in the first half of the above would help in meeting our demand in the coming quarters. For our overall CapEx, both growth CapEx plus our normal maintenance CapEx, including R&D, we aim to manage it in the range of around INR 1,400 crores as we guided in the earlier quarters. Coming working capital on a stand-alone basis, our net working capital increased by about INR 74 crores, largely on account of higher inventory arising out of higher scale of operations and higher value of the materials and while working capital moved up by INR 280 crores on a consolidated basis, which includes the inventory in transit for our overseas operations and receivables relating to we have started advising directly to our customers. On a consolidated basis, our debt stood at INR 3,846 crores, an increase of about INR 604 crores for quarter 1 and to fund our quarter 2 CapEx program, we spent most of the money. And we also paid about INR 140 crores of dividend during the quarter. I wish to inform you that we have got necessary approvals from the authorities to convert about USD 24 million of debt provided by State India to Lanka Hosted Limited and the same is reflected as of end September results. Our debt-to-EBITDA on a consolidated basis stands at a healthy level of about 1.93x arrived at based on trailing 12 months and -- which is a marginal increase over quarter 1 of about 1.58%. And our debt equity ratio continues to remain healthy at about 0.77, marginal increase over quarter 1 level of 0.65. Turning to other expenses, our employee cost was marginally higher in quarter 2, about INR 14 crores on a standalone basis and about INR 26 crores on a consolidated basis, which includes revision in our salary due to annual circular division that starts in the quarter 2. However, employee cost as a percentage of revenue has declined quarter 2 versus quarter 1, a trend that we have been witnessing for the last 4 quarters. Our consolidated other expenses was about 18.2%, a 39 basis points improvement in quarter 1. This is at a time, we are seeing unprecedented increase in freight and other indirect costs. Despite broad inflationary pressures extending beyond just direct input costs, we continue to strictly manage them efficiently. Our deposition at a consolidated level demand in line with quarter 1, and our interest or finance cost was INR 87 crores versus INR 146 crores in the previous quarter. The drop is mainly on account of the fact that in quarter 1, we had certain amounts of foreign currency-related costs that was part of it, which we did not have in quarter 2. Overall, our consolidated profit after tax for the quarter stood at about INR 112 crores compared to about INR 186 crores during the same quarter of last year and INR 4 crores in the previous quarter. Thank you once again, you all. With that, we can now open the floor for Q&A.

[Operator Instructions] we'll take our first question from the line of Raghunandhan from Nuomi Research.

Good to see the margin improvement on Q-o-Q given challenging times. My first question was on the replacement demand outlook for if you can talk about how do you see TR, PCR and 2-wheeler demand for hedging replacement? And also whether the dealer inventory levels would be around normal levels or on the higher side? .

Yes. So replacement demand for H2, I think -- commercial vehicle tax could be growing at about mid-single digit, passenger, as I said, it's growing at low single digit, and two-wheeler is growing double digits,especially in rural and overall also in double digit. And PAM could be low growth over last year in second half. So this is the outlook for replacement. Dealer inventory because if there's a continuous price hike, so even at the customer level, the office is uniformly good people have stocked up and sold and the consumption has been good over last 4 quarters, if you see post GST, if the dealer inventory would have built up, it would have shown up by now. So we don't think the dealer inventory is particularly high despite the price hikes.

Okay, sir. And my second question was on the price side, given that approximately replacement you might need 17% to 18% price hike to fully pass on the impact how do you see replacement price hike plan for Q3 and Q4? And also in the export market, how much has been the price hike so far and any plans of taking a hike there going forward?

So we have a [indiscernible] in the margin situation of gross margin is 33.5%, 33.6% in the first half. Our normal comfort zone is around 41%, 42%. So there is a 7%, 8% gap in gross margin as we have just finished the first half. So that gap needs to be covered. Plus there is a price hike -- price increase in raw material expected in Q3 over Q2 to the extent of that needs to be covered as well. So there will be continuous price hikes in quarter 3 in replacement, and we will go country by country, category by category in international markets to seek opportunity of price hikes . It will be frequent, but in low doses, quarter 2 and also saw a very low dose price. And through October, we are announcing further price hikes. So this is going to continue for some more time, definitely in quarter 3. Quarter 4 is too far away at this point of time to comment, but we need and we shall do price hikes through quarter 3.

No, that's fair. My third question was on CAMSO. On CAMSO, your previous commentary was that the transition on the value chain should happen by end of FY '27, and in customer transition also should complete. Just wanted to understand whether is it on back? Is there some delay in that transition and how do you see the revenue and the margin trajectory ahead? Because our understanding was at $10 million per month revenue trajectory and then a further increase post the transition and also if you can talk about EBITDA, how do you see the trajectory? .

So the first, the project and the customer transition. Customer transition, as I mentioned, is about 85% complete. And by and large, it will be completed in quarter 3. So it's more or less on track. The other transition is on the upstream side of the plant in Srilanka where we have to set up upstream equipment. We did say that it will be by end of this financial year. it may spill over to quarter 1 of next year. So it's substantive in a substantive manner, there is no significant delay. And by quarter 1, we should be able to ramp up our complete value chain in the plant. So that answers the transition question. And as we are having the customers in our hand, we are looking at a volume ramp-up of about 20% or definitely in the second half of this financial year vis-a-vis first half actual volume delivered in this financial year. So we are seeing 20% possibility of growth, and there will be further growth in FY '28 and FY '29. Of course, the plant has capacity to meet that demand. And EBITDA-wise, we should approach EBITDA neutrality and positivity in the second half of this financial year, which will improve further in FY '28.

We'll take the next question from the line of Siddhartha Bera from Nomura.

Sir, first question is on the volumes. You mentioned close to 10% volume growth at an overall level in quarter 2. What will be the replacement and exports volume growth in the quarter? .

In quarter 2, Y-o-Y, the -- yes, you're right, about close to 10% volume growth overall, we had replacement will be lower at lower single digit in terms of volume growth and export and OEM will be lower double digits in terms of volume growth. So it will average out at about close to 10%.

Got it. So I think in last quarter, we did see a slightly better replacement growth in the last quarter. So have you seen some moderation in the replacement growth also given the price hikes which we have been doing. Is that also something that is sort of impacting demand and second question on the export side, sir, also you mentioned that we haven't passed on the entire cost. So I mean, when export demand would have been on sort of -- what will be the catalyst or why the price [indiscernible] provided.

So first on replacement. We had a production bottleneck in a couple of categories in this quarter. So it was a site internal issue, which lead to some of the volume being lower, nothing to do with demand. And overall, there is a little seasonality in quarter 2. So quarter 2, quarter 2 growth is decent. But quarter 2 on quarter 1, if you see the demand does come down after the summer months. So there was nothing extraordinary about that. There's no slowdown in the market barring the seasonal adjustment in replacement and a minor glitch in our own production capacity in the month of July, August. So that explains replacement. In international business, yes, the price transmission has been slow, and we still have to transmit more prices in international market. There, what happens is that we go selectively country-by-country, the competitive situation in each country is different. And globally from -- on the top rank European players to Chinese brands, everybody is there. And we are a value brand. We have placed at about 15% to 25% below the top European brands. So in that competitive scenario, it is sometimes difficult to go for price hike at the same time in all countries. That's why on an average, the transmission is lower than in domestic market. Having said that, the gross margin as well as at an EBITDA level, international business is still margin accretive over domestic market.

Got it, sir. Sir, last question on the working does. I mean, we did see a lot of drag in the first half of this year. Given the go ahead for the full year. So do you think this very sort of seen some more pressure from first half given the commodity scenario or you expect the normalization in areas where probably we have been more conservative. So some thoughts if you can end.

No, the stand-alone rises basis when the commodity prices impact the raw material costs, the raw material as well as finished goods value goes up and quarter-on-quarter. So that had some impact. Normally, it gets compensated in the form of equivalent amount of value payables. If there is a match in terms of number of days of credit versus number of days of inventory that you hold, okay? So in the quarter ended 30th September, we did have impact on account of value being higher, and raw material inventory was a little higher than June and March, and we had to keep a little extra inventory, particularly the imported ones due to increase in transit time and we ensure that all our factories run efficiently without loss of production due to raw materials. So that had a little bit of a role with respect to about INR 70-odd crores of increase in working capital in quarter 2 versus quarter 1. Overall, I think our working capital, we are around positive side about INR 270 crores as of September on a stand-alone basis. Largely, we were operating closer to 0 or negative until recently, and the increase in working capital is on account of 1 of the reasons being cost of materials have gone and average holding of inventory, both raw material and finished goods being a little higher than the average period of the payable that had some role to play. And second, in terms of composition of our revenue is also changing. So when you have an increasing share of international business, okay, the receivable days in our books also move up because money gets collected after the inventory reaches and there's a little bit of a transit time. There's no inefficiency or anything like that there, but it is more about the change in model. To cut a long story short, our endeavor is to get the working capital back to closer to the 0 level INR 0 to INR 100 crores level in the next 1 to 2 quarters' time. In a normal and stable environment. But if there's going to be any change if there's going to be any fluctuation in the transit time, particularly on the cross-border side, we may end up holding a little higher level of inventory to provide supply security to the earth factories. In terms of consolidated, I think structurally, there will be some element of working capital as we start taking our customer service [indiscernible] into ourselves because the stock get produced in Srilanka but it gets sold in other parts of the world. So there's a transit time. There's also a receivable period. So there will be some amount of working capital, which we then were consolidated. We are trying to assess that impact of it. Maybe in the subsequent quarters, we'll be able to provide a little more color on it.

Next question is from the line of Rishi Vora from Kotak Securities. .

My first question is just on the competitive on -- I know we have talked about 13% price hikes. How has the peer set pricing has been, has the industry taken similar quantum of price increases.

In replacement, yes, the price increase have been similar, but there could be a time lag by 1 week, 2 weeks here and there. The quantum may be 0.25, 0.5% higher or lower, but directionally similar.

Okay. So again -- so at least in your opinion, the ability to take further price increase is not going to be difficult as industry thus far has been disciplined on that front. .

I cannot, but we need price increase and will go for price increases, what I can say.

Understood. And just on the quarter, how much of the price increase have actually for what will come through the third quarter, how should we think about that?

See, in the total revenue growth, minus volume growth can be taken as a price growth. The price growth will have some element of mix impact. But that is 1 good way of understanding the price growth.

So it's going to -- it's roughly or almost 8% Q-o-Q increase would have happened. So I think that's similar...

Yes, true.

So sequentially, the ASP increase then beyond mix will depend on the price, which will be taking from October onwards side. There's nothing lagging in terms of price pass-through that will happen from 2Q is how we should read it?

There is some lag. And there is some lag OEM, there is a lag of 3 months. And the replacement also, there is a little bit of a lag. I think Arnab in his opening remarks are 1 of the questions he mentioned about 6% to 7% of the gap versus our normal levels of margin of about 40%, 41%. That is the gap to be breached. .

That I understood. But from a 3Q level, it's not something where we'll be able to let's say -- let's see any benefit coming through from under recoveries in 2Q is what I was trying to understand.

There's some lag in quarter 2. I think it is better to assume that it will be 3 months kind of a lag is there an overall basis. What happened in the previous quarter by whatever happened in quarter 1, we were able to recover it in quarter 2 with some kind of a lag. So same similar lag you can expect what happened in quarter 2 in terms of recovery at rupees per kg level. And anything beyond that translates to gross margin percentage improvement.

Okay. So in your third quarter or margin be stable like versus if there is a 3% commodity inflation which you have guided for.

I think -- I think we will wait till the price increase happens because the price increase assumptions that we have made, we would like it to happen. So therefore, it should be treated to the current levels, okay? But I think more clarity will come once we execute our pricing plans appropriately. .

Understood. And just last question on the CV replacement demand, right, despite whatever 12%, 13% price is , we are not seeing any challenges on the demand because you are still guiding for a mid-single-digit growth on elevated base. So the industry or the fleet operators, we are not seeing any demand slowdown over there? Like obviously, the beyond the base effect?

Yes. base effect will come in. That is a significant thing because last year, Q3, Q4 just took off, as you know, so current going rate is about mid-single digits, as I said. So we expect that to continue. Even if there's moderation, it will not go to 0 or negative. There is buoyancy in the market in construction in mining and in general goods movement in replacement timing.

Understood. And on a blended basis, you do expect replacement to grow by mid-single digit in terms of volumes? In second, like on a blended basis, put together.

Yes. More or less.

Next question is from the line of Mili with Vora from us.