Cummins India Limited (500480) Earnings Call Transcript & Summary

Good day, ladies and gentlemen. I'm Harpreet Kapoor, the moderator of this call. Thank you for standing by, and welcome to Cummins India Limited analyst call for Q1 2021/'22. Today on this call, we have with us our leadership team, Mr. Ashwath Ram, Managing Director, Cummins India; and Mr. Ajay Patil, Chief Financial Officer, Cummins India. Instructions for Q&A session will be followed post presentation. So I would like to now hand over the proceedings to Mr. Ashwath Ram. Thank you, and over to you, sir.

Good morning, ladies and gentlemen. I'm Ashwath Ram, Managing Director, Cummins India Limited. I hope you and your family are doing well and are staying safe and healthy. This COVID time has been difficult on all of us. And as a nation, we are slowly coming out of this crisis. Also joining me on the call is Ajay Patil, our CFO. Thank you all for joining us on this call today. Before we get into the details of the quarter 1 results, I would like to provide you a brief update about some of the new products that we have launched recently. The company introduced new products in power gen: 4 products in high horsepower, 1 in medium horsepower and 2 in low horsepower. In the industrial business as well, 7 products in rail, mining, marine, construction and the pump segments; and 3 products even in the Distribution segment. We believe that these new product launches will continue to position Cummins as a preferred choice for our customers. These new products are strengthening our existing product portfolio and will allow us to introduce new technologies to address the need of specific applications. We have also introduced products for our export market to expand our offerings in the power gen and industrial portfolio. The company continues to stay focused on the well-being of our employees and their families. The company conducted vaccination camps at various company locations. So far, at a Cummins group level, over 19,000 vaccination doses have been given by the company, and we plan to conduct more such camps in the July to September period to ensure that all our employees, contract workers and their families are fully vaccinated. Now I would like to share the financial results of Q1 FY '22 through this call. For the quarter ended 30th June 2021 with respect to the last year same quarter, our sales at INR 1,167 crores were 141% higher as compared to INR 484 crores recorded in the same quarter last year. Domestic sales at INR 859 crores increased by 140%, exports at INR 308 crores increased by 144%. Profit before tax and exceptional items at INR 171 crores is 143% higher as compared to INR 70 crores recorded in the same quarter last year. For the quarter ended 30th June 2021 with respect to the sequential or last quarter, our sales at INR 1,167 crores declined by 5% compared to INR 1,231 crores recorded in the last quarter. Domestic sales at INR 859 crores declined by 12%. Exports at INR 308 crores increased by 21%. Profit before tax and exceptional items at INR 171 crores declined by 30% compared to INR 245 crores recorded in the last quarter. Segment-wise breakup for quarter ended 30th June is as follows: domestic -- industrial domestic business was at INR 189 crores, 29% lower over last quarter. Power gen domestic sales were INR 351 crores, 1% decline over last quarter. Distribution business sales were INR 300 crores, 11% decrease over last quarter. Exports. High-horsepower export sales were INR 171 crores, 26% increase over last quarter. Low-horsepower export sales were INR 116 crores or 22% increase over last quarter. As far as financial guidance is concerned, the company is hopeful for sequential recovery based on relaxations granted by various state and local governments coupled with increasing rate of vaccination. However, potential third wave of COVID-19 is being forecasted by various agencies. The company continues to work on stabilizing and improving the supply chain, and I'm happy to report it is improving every passing week. Demand outlook from various end markets continues to be positive. However, visibility to full market recovery is somewhat limited considering potential wave 3 implications. Thus, the company is not providing full year guidance for financial year 2022. With this, I now open the session for questions. Thank you.

[Operator Instructions] First question of the day we have from Sandeep Tulsiyan from JM Financial.

My first question is pertaining to the comments that you made in the AGM yesterday regarding the global OEMs who are setting up shop in India, where Cummins is having a long-standing relationship with these OEMs, especially in the construction compressor space. So if you could just elaborate this a little bit more where have you been able to gauge demand from some of these construction OEMs? And what are the kind of investments? And based on this, how would you want to provide a near- to medium-term kind of a growth outlook for your industrial segment?

Yes. I won't give you exact details of the kinds of investments those OEMs are making because I don't have access to them. But I can tell you that pretty much all the major construction and compressor OEMs, so be it the Hyundais of the world, the Hitachis of the world, the JCBs of the world, the Siemens of the world, every single one of them is now starting to use India as an export base, where they are making equipment, which were being made in other parts of the world are now being made in India and are being exported. And we are already seeing increase in demand for exports through these OEMs. So that -- for us, that gets counted as local sales, but we are seeing that increase happening very strongly.

Any outlook you would want to give over there for medium term, 3 to 5 years?

All I can tell you is -- I can tell you that we are very bullish on the construction market based on just India's demand alone, and you can see that the road construction, which, in the peak, had touched 37, 38, almost 40 kilometers per day; during this wave 2, dropped again to 20, 25 kilometers. And so the construction activity had slowed down a little bit. But the amount of money that has been promised by the government to build roads and infrastructure is just significant. The -- Nitin Gadkari just recently announced that his ambition is to get to 100 kilometers per day. So the combination of all of these factors, and plus, the fact that our infrastructure in India from a road perspective is poorer than many of the developing nations leaves us to believe that this is not a 1-year journey, but a 3- to 5-year double-digit growth kind of journey for the construction market. And being major participants in that market, we hope to significantly benefit from that. We could already see the trends in the -- in Q4 of last year, where with the transition happening to CEV-BS IV, we saw significant demand start to increase. The COVID hit has been a bit of a setback, but we see that bouncing back very strongly.

And the second question is, on the exports side, we've seen a very healthy growth in the current quarter on a sequential basis. If you could provide some more color, is it being driven by some of the new markets or your penetration has increased in some of the existing markets with new products? Basically, how sustainable this trend is? And also you made a brief comment earlier saying that some countries may introduce import barriers in terms of similar to what India has also introduced in the last 1 year, which may have an implication on your exports. So if you can provide that along with -- followed by the detailed breakup that if you -- for industrials and power gen segment, please?

Yes. So I'll start off with saying that pretty much every region around the world has recovered, both on a sequential quarter basis and on a year-on-year basis. Part of it, of course, is that this has been a cyclical market. And the last 2 years have seen the -- us reach the bottom of that cyclical phase, and we were gradually starting to see parts of the market bounce back. That's one part. The second part, of course, is that as vaccinations around the world are increasing, people are -- the economies are bouncing back, and that is also leading to demand. So we do see this sustaining as far as we can tell. At least, this year should be a pretty steady kind of year. As far as regions is concerned, the strongest bounce back we saw in Asia Pac led by China, and then, of course, all the other regions continued to slowly bounce back, Latin America, Middle East, Europe, Africa, every one of those regions started to come back. As far as our breakup of sales, and this is region-wise, our total sales for the quarter were INR 308 crores. And Asia Pac was INR 90 crores, Latin America was roughly INR 68 crores, Middle East INR 48 crores, Europe INR 47 crores, Africa INR 32 crores and miscellaneous was about INR 22 crores.

Okay. So if you could give comparable numbers for these? Because it will be difficult to make sense out of it. If you give either fourth quarter number or full year of FY '21 numbers, so it will be easy to compare.

Yes. So compared to the -- compared to FY '21, it's a remarkable change because FY '21, the number was INR 126 crores overall versus INR 308 crores. So Asia Pac was INR 34 crores, which -- Latin America was INR 27 crores, Middle East was INR 17 crores, Europe was INR 24 crores, Africa was INR 9 crores, and everything else was INR 14 crores. So it's just a significant bounce back.

Next, we have [indiscernible] from SBI Mutual Funds.

The first question is regarding the QSK60-G23, which was launched in the AGM. If you could just help us clarify because this QSK60 has been manufactured by CTIL. So will this be manufactured by CIL? So clarity on that front will be useful.

Yes. So as far as the QSK60 is concerned, different parts of it are made -- some parts of the supply chain are handled by CIL and some parts of the product are made within CTIL, and the product is sold by CIL. So it's not entirely accurate that every part of the QSK60 is done at CTIL. So CIL has many gains from us localizing this product in India.

The second one is, again, in the AGM, you -- in your presentation, you highlighted about 100 basis point per annum increase in the operating profit margin. If you could give us more color on that? And where exactly are you seeing increase in the margin? Will that be from operating leverage, better product mix? That will be more useful. And over the next 3 years, where should one expect the operating margin trajectory?

Yes. So like I mentioned at the AGM, this is an ambition we have set for ourselves, which means this is an internal target. It's a strategic intent. And the way we see doing that is all those 4 areas that I mentioned. One is, of course, bringing in better product by which we can get better pricing and differentiate ourselves in the market. That's one. Second, of course, is improving operating leverage, which means better utilizations, exporting the supply -- I mean utilizing the supply chain in a better manner. Third is we continuously keep working on cost efficiency from a materials and supply chain basis. So to leverage that. Also, to look at the product portfolio and try to figure out how we can introduce more local fit for market kind of products. We certainly see that going forward with the tightening emissions and introduction of new-stage emissionized products, there is an opportunity for us to improve margin. So combination of all of that and continuing to get greater efficiencies out of our system, where we have made a lot of investments over many years, it is -- that's our intent. It's not a guidance. It's an intent that we -- this is what we want to do as a leadership team to keep delivering better performance as a business.

Yes. Just last question from my side. Again, there will be uncertain environment, we completely understand, near term is uncertain. But if one were to take a 3-year perspective and given the fact that we had a mid-teens decline in exports and double-digit decline in domestic over the last 3 years, high teens to early 20s over the next 3 years on a low base, would you believe that could be a reasonable expectation?

I would believe that to be a reasonable expectation. That's the kind of target I would set for myself to help -- to grow this business. So yes, that's -- yes, certainly, I would agree with you over there.

Next, we have Harshit Kandpal (sic) [ Parikshit Kandpal ] from HDFC Securities.

This is Parikshit Kandpal from HDFC Securities. My first question is on the traditional sectors which we have. So beyond that, are you seeing any incremental order flows coming out from your segments on the clean energy side? And I think on the heavy infrastructure side, so if you can highlight the segment outside the traditional segments, which we know?

Sure. So yes, there is movement on the clean energy side. If you look at India as a market, the moves on the clean energy side are happening more in the space of 2-wheelers and maybe buses and some of those intercity, within city kind of applications. Most of the applications where we sell our products, I feel the cycle is somewhere like in the 7- to 15-year time frame is where we should start to see a little bit of momentum going there. That being said, Cummins globally is investing very heavily in the hydrogen economy. And with that, we are already selling electrolyzers, and we are selling a whole bunch of equipment which goes to support the hydrogen economy. We believe that in -- even in a market like India, the production of hydrogen needs to increase pretty substantially over the next 5 to 10 years. And we are already in the process of bidding for all the major tenders that are being floated by the government in this space. We are also looking for strategic alliances and partnerships with people who use hydrogen as part of their manufacturing processes where there's large amounts of consumption. So that's the way we are thinking of opportunities over there. There are also some limited prototype and starting opportunities in segments like rail to use fuel cells and some of those very focused kind of activities. Those will take anywhere between 2 to 5 years to really gain traction and make a difference. So broad-based, we have the technology. We are starting to invest more in those technologies in India, setting up teams, talking to customers, doing that. But the big money is being spent in Europe and in China, and that is where the biggest factories for -- even for Cummins to produce some of these equipment, et cetera, is being set up as of now.

Sir, second question was on the new products that -- which you have introduced. So are we -- likely you've introduced on electronic pumps versus the mechanical pumps [indiscernible] fuel injection. So how is the portfolio now becoming more fuel efficient, more economical and giving more better output on the power side...

Yes. So I think the -- if there is one takeaway you can -- from the new product introductions is we have introduced amazingly better product density in everything that we have launched, which means we are generating more power in a much smaller footprint, in a much smaller-sized box. And that means, yes, we do get better fuel efficiency. The move to electronics means they are cleaner products. And then they are also ready products for the next cycle of CPCB4, et cetera. So a significant investment, and we believe these are market-leading products.

Sir, just last question on the U.S. $1 trillion infrastructure expense. So this will envisage a huge export opportunity from India as well feeding into the U.S. market as a phenomenal expenditure is going to happen. So I don't see we have much of the exposure in the U.S. in terms of exports. So firstly, if you can quantify the number? And do you see this as an export opportunity emerging out from India for CIL in a bigger way?

Yes. So CIL not only exports finished products, it also exports components and parts of engines. So with such a large opportunity, the opportunity for CIL to ship more things to North America will keep improving. We are always constantly looking at more opportunities to utilize CIL for exports, and CIL has a great advantage that it is -- commences lowest cost base production facility in the world. And so I do see opportunities opening up. I cannot quantify exactly what all those opportunities are at this stage. But I do remain bullish that this will result in more business for us.

Next, we have Pulkit Patni from Goldman Sachs.

Sir, two questions. My first question is, in the AGM presentation, you speak about consolidation of global supply chain. Is this any way a precursor to a potential merger of the unlisted arm with the listed arm? What exactly are you referring to here, if you could clarify that?

Yes. So it is not referring to a merger of the unlisted arm with the listed arm, though that question was also being asked by many people. And our answer there is we continue to look at those opportunities, and we will continue to look at it and see what is best from all stakeholders' perspective. So keeping that aside, what I mean by global consolidation is that, as companies continue to look into the future and make their investments in newer spaces, so as they invest in the connected world, in autonomous technology, in electrification, in the uberization of the world, the case, as they call it, they are not going to be able to keep making investments at the same rate in some of the older technologies, in diesel, natural gas and those spaces. What that means is if there were 300 manufacturers of diesel engines around the world, we are seeing that many of these folks are talking to each other and consolidating capacities under a single roof. And Cummins has been a beneficiary of some of these kinds of consolidations. As you must have heard, Cummins has already signed an agreement with Daimler to produce their midrange engines; has similarly worked on agreements with Hino, with Isuzu. And we see those kinds of opportunities for CIL as well in the Indian space. That's what I meant by consolidation that there's an opportunity to play a bigger role in more OEMs than what we have been playing in the past.

Sure. That's clear because, yes, we were confused whether it is talking about consolidation of the 2 Indian entities. Sir, my second question is on export. Now while you've done better than the previous quarter, but we used to do about INR 420 crore to INR 450 crore per quarter of export about 2.5, 3 years back when we were doing well on exports. Should we expect any time soon to touch that run rate? Was this quarter impacted because of lockdowns, et cetera? Or you think that we should be in, say, INR 350 crore kind of a quarterly range. Any thoughts there would be helpful because your commentary on export is positive, but numbers are still below the INR 400 crore quarterly run rate?

I do believe that the global export market is picking up. It is -- it continues to improve every quarter. And when I speak to different leaders around the world, they all are expecting that this trend will continue to be on a positive rate. How much is difficult to say because different countries are undergoing different cycles of bouncing back from this COVID crisis. And that's why I can't come out and just tell you, okay, by next quarter, it will be better. All I can tell you right now is that at least looking forward, things are appearing that the demand cycles are moving upwards, and I don't see it declining or flattening.

Next is Renjith Sivaram from ICICI Securities.

Sir, if you can throw some clarity on this expected emission norm change, what is the current time line? And do you feel that the government will stick to the deadline, anything that you are hearing? And what can be that implication in terms of prebuying?

Yes. So as of now, we have been targeting a late '22 cycle for this emission transition to happen. And while the notification is not yet out, all conversations with the government seem to indicate that they still seem aligned to move forward with that kind of timing. But as you know, there are always plus -- usually, plus a few quarters here and there movement in the worst case kind of scenario. There is a lot of pressure on the government as you can see from the global -- UN just released a global warming and a climate change report just this week. And the U.S. under the new Biden Administration has re-signed the Paris Accord. So there is going to be a lot more pressure to actually move faster on tighter emissions than move lower. So we remain optimistic that things will move faster. We are well prepared. And usually, when there is an emission transition cycle, there is a prebuy. But not knowing exactly the date of the transition, I cannot estimate what that prebuy timing is going to be. But we remain positive that emission change is coming, and we don't see significant delays to emission change.

Okay. So previously, April 2022 was the deadline. So you probably believe that it can get shifted by 1 or 2 quarters at the worst case?

Yes. It could, but the moment we get the clarity, we will make it clear to everyone. We continue to have discussions at the government level to try to get them to release the final notification. But yes, as of now, we are thinking that already August of '21, and typically, industry needs about a year to -- from the point of notification to really convert a development product into a productionized product. So that's why we are thinking it's closer to the latter half of '22 than the April 1 candidate.

Okay. That's useful. And in terms of the margins of this quarter, is there any ForEx-related impact? Or is there any one-off in the other expenditure or in the raw mat because when we see, though it has improved Y-o-Y, still there is a lot of room for improvement. So how do you -- because of the exports have done well. So generally, when exports do well, the margins tend to move much better. So is there any more scope, and in terms of price hikes, it's a related question to that, have you -- what kind of price hikes we have taken?

We have taken price hikes. I won't give you all the details of the kinds of price hikes we have taken. Most of the price hikes are -- were meant to offset the hits we took on commodities. So this was more of a cycle correction to offset the commodity increases that have taken place. But overall, pricing and foreign exchange, put together, has about a 0.5% impact in the cycle on material margin, positive impact.

Yes. And sir, this is a bookkeeping question. You generally give the breakup of the industrial and the domestic. Can you share that data points? That will be my last question.

Sure. So I'll first go with the industrial. In the compressor -- overall, we had sales of about INR 189 crores. Compressor was INR 30 crores, construction was INR 49 crores, mining was INR 16 crores, rail was INR 57 crores, marine was INR 18 crores and everything else was about INR 19 crores. And if we look at the domestic market, we had sales of INR 351 crores. Low horsepower was INR 26 crores, midrange was INR 110 crores, heavy-duty was INR 46 crores, high horsepower was INR 168 crores and some miscellaneous stuff was about INR 1 crore.

Next is Shankar Biswas (sic) [ Priyankar Biswas ] from Nomura Securities.

Congratulations for quite a decent results in the challenging environment. So sir, what I was observing was that in the second quarter as well, there is still an ongoing increase in commodity prices as well as it seems that the ocean freight rates have also increased massively. And furthermore, there has been lockdowns and COVID -- multiple COVID outbreaks in Asia Pac also like, for example, Vietnam and Indonesia, all those countries. So do we expect 2Q to still have some recurring impacts that we have seen in 1Q? Or largely 2Q should normalize out in terms of margins. So like can margins come down from this 12.5% level? Or do you see directionally moving up in the coming few quarters?

I think we should do better in the second quarter, mainly because the supply chain is a lot more stable. And Q1, we literally had to take 3 or 4 weeks of downtime because of lockdowns, and we ran out of parts and all of those kinds of issues. Those are much better under control as far as Q2 is concerned. And we did take a lot of pricing action in Q1. So the positive effects of the pricing action would be seen with the full quarter impact more in Q2. So we think margins will improve.

So sir, a follow-up on this. So like if I look at the FY '21 annual report, so it seems that the royalty rates, which used to be like typically 1.5% of sales are now almost like 0.6% sales. So shall we consider this level to be sustainable? Or like it should revert back to the earlier levels? So what are your thoughts on that? I mean you have done localization and all these exercises. So should we take some number tending more towards 0.6% than the earlier 1.5% levels. So what is your take on that?

Yes. So I think a lot of it depends on the product mix. But I think the levels we are at now somewhere between 0.6% and 1%, I think, those are sustainable for the long term.

Next, we have Renu Baid from IIFL.

Sir, my first question is [Technical Difficulty]

Sorry, Renu, you cut off for a little bit. Could you just start again?

Yes. My first question is for the recently launched Made in India QSK60-G23 HP product, what is the value addition by CIL in this range? And what is the likely markets that you're looking at, especially given that data centers have been a big growth driver?

Yes. So CIL certainly manufactures quite a few of the components used over there, and the product is still being localized. So over the next 18 months, we will see a lot more value addition at CIL. And -- but it's going to be better for CIL from margin perspective, because right now, when CIL sells these products, they are imported from the U.K. and sold. So in any combination, just us making it in India with some of the components being made by CIL and then being sold by CIL, it helps improve the margin position of CIL when selling these products and makes it more competitive to be sold in India, which should also help us improve market share.