Schaeffler India Limited (505790) Earnings Call Transcript & Summary

Ladies and gentlemen, welcome to the results call for Schaeffler India. Today, we have with us Mr. Harsha Kadam, CEO and Managing Director, Schaeffler India; Mr. Satish Patel, Director of Finance and CFO, Schaeffler, India. I now hand over the call to Mr. Kadam, who will take you through a short presentation on our results and merger update. Over to you, Mr. Kadam.

Good morning, ladies and gentlemen, in the call. This is Harsha Kadam from Schaeffler India Limited. I have with me, Mr. Satish Patel, the Director and CFO as well. I will take you through some slides. I hope you all see the presentation that we have prepared for you. And I would like to move to the Slide #2, wherein we would cover 3 broad areas, the first one being the market development and what does it mean for the Schaeffler business. The second area I would like to touch upon is on quarter 4 performance, along with the 12-month period, last year's performance. And then we talk a little about a milestone, which we, as a company in India have reached in the area of corporate governance. I would like to move to the next slide, which talks about the business highlights and the lowlights and what you see here on this slide is we -- the quarter 4 brought up some surprises, pleasant surprises, though. For one, the automotive demand saw a spurt and we -- it was -- although it looked like a temporary surge, but it was a positive development in our business. And for the first time in 4 quarters, we saw the automotive demand go up. And we were able to do better than the previous quarter in the area of automotive business. Also, our concerted efforts during the entire year to manage our costs in lieu of the weak demand from the market, our focus on reducing inventory and also flexing our cost in the plants, in line with the demand, and in addition to that, keeping a very strong focus on ensuring significant free cash flow into the organization, helped us in managing our working capital in a very, very good manner. Lastly, the operating profit definitely was better due to all these concerted efforts in managing our costs and also managing the sales mix intelligently. While these were strong highlights, we did still face headwinds. And for one, the industrial sector slowdown, which always lags behind the automotive sector. Quarter 4, we posted lower numbers than the previous quarter. And in spite of the slowdown in the automotive market, which tended to show some spurts of recovery in Q4, the industrial sector did not show it. Also, added to that was the reduction in our export orders in the last quarter. We saw dips and order cancellations coming from Europe and the Southeast Asian market. I'll move on to the next slide, which talks a little about the economic picture in the country today. And this is a snapshot of the key indices. Look at the GDP, and clearly, there is a message in the market that the GDP would stay at around 5%. And it was confirmed by RBI as well. The index of industrial production had a seesaw effect, as you can see in the graph here. And November and December were the months, which showed a little bit of a recovery, but January, again, as the numbers are coming out the last few days, they don't see much improvement either. What's concerning is the inflation in the country, and it has been consistently at a high level, even January as the numbers are confirmed. Now, the January numbers are standing at 7.6%. And the core industries, again, have the same seesaw effect. And still, we see a muted demand in the core industry sector. There is much to be done. The recent budget, although it's focused long term, on the long-term growth of the economy, short term, particularly to the automotive industry, it did not bring any significant gains, so to say, while the focus was much on growing the rural market and improve the ease of doing business, and the focus was purely on infrastructural growth in the country. Well, this is a long-term picture. And I guess now the challenges for companies like us to see how do we get our act together and be prepared for a long-term slowdown. Some policies, which we expected would go through, are still pending decisions, like one of them being the vehicle scrappage policy, which definitely would create some stimulus for growth in the automotive industry. I'll move to the next slide, which talks about some of the sectors and how they've performed over the previous year. As you can see on the slide, I'm on Slide #5. You see that all the sectors related to the automotive are down in double digits over the previous year. The passenger car vehicle was down 11% at 3.6 million vehicles that were produced in the country as against 4.1 million the previous year. And 2-wheeler production was down as well at 9%. Tractor was down big time, 17%, with commercial vehicles close to 20%. The primary reasons that we are attributing to this is the liquidity crunch in the market. Hike in insurance cost on all the -- primarily in the 2-wheeler sector and the passenger vehicle sector, and also weak consumer sentiment, which is because of the main slowdowns that we are seeing. Of course, the announcement of the decision -- by the government on the electric vehicles, still to see the light of the day. And the surprising thing in the budget with the increase in customs duty for imported parts of electric vehicle is clearly a message that the focus will be on make in India rather than imports of electric vehicles. So all in all, we saw a de-growth of 12% in the automotive industry over the previous year. I move on to the next slide, slide #6. And what you see here is the headwinds we faced even in the industrial space. Some of the sectors did show a positive growth. Steel, driven about 6%, and the mining industry, although it took off very well in the second half of the year, the first half was muted. And as a result, you see the flat growth over the previous year. Power generation was the same, riding on the back of industrial production. So we see a very flat power generation that has happened in the country. Interestingly, some of the sectors which have showed a strong growth were in the wind energy and the railways rolling stock. The reasons, again, here for the muted responses and growth, was attributed to the same liquidity crunch at OEMs and also the rural market, which could not manage the liquidity issue. One of the sectors, which I must point out, which has been hardest is the machine tool industry, where we saw a decline of almost 35% over the previous year in terms of demand. Having said that, I would now like to talk a little bit about how Schaeffler business is structured. I move to Slide #7. What you see on this slide is the structure of the business portfolio, what Schaeffler has in India, and we have a pretty well-balanced portfolio between the automotive and the industrial businesses. This has its advantages, which I will point out a little later. Now what does this mean? I move to the next graph on the right-hand side. It gave us a mixed result. As you can see the auto industry, we have been facing strong headwinds in terms of low demand, and that has resulted in a lower performance in our automotive business. While the industrial business, towards the last quarter, the last quarter performance was not very good. Yet we were able to be -- stay above the 2018 performance levels in terms of our industrial business. Now this structure is important, and we believe that maintaining this balanced portfolio will help us in terms of the volatility in the market. I move to slide #8, which talks about the performance update. I move to Slide #9, which gives you the picture quarter-by-quarter. As you can see here the graph showing the quarter 4 sales revenue from operations was at the same level as the previous quarter, Q3 of this year -- of 2019. And at an annual level, we were down 4.4% over the previous year. If you were to look at the same quarter the previous year, we are down 12.6%. So at quarter 4, we posted INR 1,036 crores, which was at the same level of Q3. And at an annualized level, we have posted INR 4,360 crores as against INR 4,561 crores of last year. So the other way, we would like to talk about a picture on the right side of your slide, which is the sales mix. And we have grouped all the mobility sectors into 1 region, 1 sector. And what you see here is 80% of our business is mobility, which is attributed to the automotive passenger vehicles, the commercial vehicles, the off roads, the railways, the 2 wheelers. And the rest of the business is forming 20% of it. And as you can see, between these 2 sectors, the other sectors have grown by 9% over the previous year, while the mobility sector was down 7%, clearly in line with our growth rates. Our de-growth has been lower, much, much better, as you can see from the market, which was down 12%. I move to slide #10, and this is talking about the profit before taxes. And as you can see here, we have posted in Q4, INR 124 crores as the PBT and -- which was 12% better than the previous quarter, which was at INR 115 crores. For the year, we have posted INR 535 crores as against INR 675 crores the previous year. And thereby, the margin which was at 14.8% in 2018, we have posted a 12.3% in this year. Fundamentally, the results could have been far worse than this had we not instituted a lot of corrective actions and cost corrections along the way in terms of flexing our cost in line with the demand, as well as managing our inventories as well as managing our overhead costs. And thereby, we were able to improve the margins much better. I move to Slide #11, which gives you the highlights of the overall performance for the quarter and for the year. As you can see from this slide, for the quarter, the revenue growth year-on-year was down 12.6% for the quarter. However, for the full year, we were down minus 4.4%. And we ended the year -- the quarter with an EBITDA margin of 14.9% and the full year at 14.8%. The EBIT margin, as you can see, we have closed the quarter at 10.8%, while the full year has been better, 11.2%. And the profit after tax margin, as you can see, 8.2% versus 8.4% for the year. This was the overall performance highlight for the quarter and for the year and how have we done over the previous year. I move to the last subject, and we talk about governance, and we have achieved an important milestone. Schaeffler believes that more than what we do or what we achieve, how we do the business is more important to us. And corporate governance is a very, very -- a subject, very dear to all our heart. And I would like Satish to comment a little bit on it.

Yes. Thank you, Harsha. So as Harsha mentioned, corporate governance is a high-focus area for us. It's very important that how we conduct our business. We have moved a layer ahead year-on-year in terms of our governance practices. A couple of years back when we started evaluating ourselves, we were actually rated good in terms of our governance practices. I'm happy to say that this year, with certain measures on better governance practices, we have moved a layer ahead compared to the last year, and we have achieved the leadership position in governance. Very few companies, 3 companies in SENSEX and 6 companies of BSE 100 fall in the category of leadership position. I would say that in the context of our position now on the top, in the layer of governance, we are able to serve our shareholders and conduct our business in a much, much proactive and better way than ever before. We will continue our focus and continue our efforts. We would not be complacent, and we will ensure that our governance practices are in high focus going forward as well. Thank you.

Thank you, Satish. So to summarize, yes, it was a challenging year, 2019. However, with all the headwinds that we faced in the market, the volatility we faced, the uncertainty that we faced, we got our act together and the entire team here. And we brought in a lot of measures, on top measures in terms of identifying new business opportunities to make up for the lost ones. And also important actions in managing and flexing our costs, cutting waste across our value chain have all enabled us to definitely post a reasonably good profitability picture in spite of the strong headwinds that we saw and faced. This is -- I conclude my talk.

[Operator Instructions] The first question is from the line of Hitesh Goel from Kotak Securities.

Can you give us some sense on how the automotive vertical has done, wind energy, railways? So basically, some sense on the growth rates or what has happened in this quarter and also full year in automotive, railways, wind, industrial, aftermarket, automotive, which you used to give? And also in LuK and INA, how has been the performance, if you can separately discuss that as well?

Thanks for the question. I would like to first talk about on the automotive. As you know, we -- our previous slides talked about the de-growth in the automotive, and we see that the growth is down by 12%. And our performance, Schaeffler India performance in the automotive space has also been to the extent of around 11.8% down. And fundamentally, almost all the subsectors what we have were down because all the key players registered lower production numbers. However, in the last quarter of the year, we saw sudden spurt in demand in Q4 and our business verticals in automotive of engine systems, belts and chains, phasing systems have done pretty well and registered a double-digit growth in that quarter over the previous quarter. Well, these demands primarily came on the back of demands coming on the BS-IV vehicles. So which means the market still is asking for some BS-IV vehicles before the BS-VI norms kick in from first of April. That's on the automotive side of the business. And on the industrial side, yes, wind is registering a very strong growth for us, primarily because all the wind manufacturers have decided to make India an export base. So a lot of production that is happening in the wind sector in this country is for the export market, and we are happy to play a part in this, and we do have a strong presence in the wind sector. Railways, again, a strong growth sector, fundamentally because of the push and drive and the investments coming from the government. And also, with the opening of the metro rails and infrastructure projects within all the cities, and not to mention that a lot of players on the Metro Rail are using India as a base. And Railway, too, we have registered a strong growth over the previous year. A nutshell, this is the industrial. So we did have some mix on some sectors which did pretty badly, fundamentally, on the machine tool industry, as I mentioned earlier, which is riding on the back of the automotive industry. So since the automotive industry de-grew, the machine tool industry de-grew further, and at a worse rate of almost 30%.

So sir, just clarification, when you said automotive growth in this quarter, you're talking about Q-on-Q, not Y-o-Y, right? Because this quarter, there's a 13% decline in revenues.

That's right. That's right.

Yes. And sir, can you give us some sense on export business also, export and aftermarket?

Well, on the export business, we did see a decline in our exports in the last quarter, and we ended the year with a flat number. We did the same numbers as last year. But for the quarter, we saw a decline because of the weakening sentiment in the European market and the Southeast Asian market. There were a few order cancellations, which resulted in the order deferments that have happened. So we posted lower numbers on the export side over the previous quarter.

And any sense on aftermarket, please?

Aftermarket -- the automotive aftermarket, we posted a strong growth in the last quarter of the year. We almost grew 20-plus percentage in that quarter over the previous quarter. It has registered a strong growth in the aftermarket for us.

Okay. And sir...

The annualized -- sorry, go on.

Sorry, go ahead.

The annual level growth was remaining the same. However, this is a very positive indicator for us that the demand for automotive aftermarket space is certainly likely to go up in a muted oil demand situation.

Okay. And sir, my final question, can you please talk about the tax rate? You have now moved to the new tax rate. How should we look at the new tax rate and [indiscernible].

Yes. So the tax rate cut, which was announced last September 2019 from a basic corporate tax from 30% to 22%. We have adopted for that tax reduction. We have given up the benefits otherwise in the form of incentives that we were availing. In our case, since the incentive benefit was insignificant and the tax reduction was quite significant, we have gone for that. And that has definitely also contributed to better generation of the profit after tax in this year. This year, the contribution from this tax reduction is to the tune of INR 30 crores.

Okay. No, because I'm seeing your full year tax rate is 31.2% still in CY '19?

You're right. That used to be over 34%. [indiscernible]

Okay. And this will be the tax rate [indiscernible]. But the tax rate has come down to 25.2% right now?

The effective tax rate would still be over 27%. This year, it is 31% because the effect of the tax reduction was from April 1, 2019, so it has 9 months impact. As far as the 2020 and future years are concerned, it would come down from 31% to close to 27% because of surcharges [ in place ]. And certain disallowances and allowances on account of depreciation, et cetera, the effective tax rate would still be about 27%, 28%.

The next question is from the line of Sandeep Tulsiyan from JM Financial.

Firstly, on this transition happening from BS-IV to BS-VI, I guess most of the OEs are now moving into production. And in the previous calls, you had mentioned that there will be more clarity emerging closer to the date how exactly the portfolio is changing and what kind of impact it is having on Schaeffler's content per vehicle. If you could give us an update on the same, please.

Yes. As I mentioned in my last investor call 3 months back, there is a shift ongoing from diesel to petrol. Most of the players decided to increase the petrol of the gasoline vehicle content in their portfolio. And as a result, we did not have the right product mix to bring to the gasoline space. But we got our act together, and we began to adjust this, and we have already seen successes in the gasoline space. Incidentally, the demand -- the spurting demand I talked about, the interim demand, which went up in Q4 of 2019, more came from diesel vehicles again. In fact, there is now a thought and I see activity that the OEM players want to also make the diesel vehicles, BS-VI compliant. And there's enough drive in that direction as well, as a few of the players have already launched diesel vehicles with BS-VI compliance. So having said that, we -- the direction which we have chosen and the actions we have put in place is clearly in the right direction to increase our content per vehicle. And diesel, in any case, while we do have the product portfolio with us. Gasoline, we have customized, and now we have started the supplies. So very soon, sure -- and surely, we will see an increase in our content per vehicle going up.

All right. Second question was pertaining to the margins in the non mobility, the Others segment. We have seen a sudden spurt in margins over there. If you could highlight whether there any one-offs or any onetime high-margin supplies that were there in this particular quarter?

Yes. The spurt in margins you see in the Others sectors is primarily attributed to coming from the wind sector, as the demand for wind has gone up tremendously. And just to share with you, our business in the wind over the last year has grown almost 20%, which is clearly telling that although the wind as a sector, the domestic consumption is almost not there. It's all being utilized for the export business. And we have strong presence with all the big major wind manufacturers, wind equipment manufacturers, and we have benefited from this strong presence in the wind sector. And that is why you would see a strong increase in our spurt in the margin levels.

And lastly, sir, just a clarification again on the sales mix that we used to share earlier between auto, industrial and exports. If you could share that for the fourth quarter as well as CY '19 as a percentage of total sales, that would be helpful.

Auto, industrial. Well, as I showed in the chart already before, the -- between the auto and the industrial -- the automotive is about 53%, and the industrial is about 47%. You want to know the automotive?

Yes, and we have about 10% -- our total revenue [ in exports is 10% ]. Yes. So if you exclude exports within the other 90%, if you split automotive and industrial, automotive is 53% and industrial is about 47%.

Of the 90%. Got it.

Yes.

The next question is from the line of Shyam Sundar Sriram from Sundaram Mutual Fund.

Sir, you did mention that we are pretty much geared, post the BS-VI transition, to gain share in gasoline. But with the largest market leader announcing the stoppage of diesel, sir, in the interim period, maybe for a quarter or 2 until they come back with diesel, what -- can you give some color on how much could be the content impact in the interim period until the diesel portfolio for the largest automotive OEM comes back?

Okay, good. So the fact remains that there is a shift from diesel to gasoline. However, we do now see some change in positions. And as I mentioned in my earlier question that was -- that I answered, that we see a spurt in demand for diesel again. If you look at the market, the spate of launches that have happened, particularly in the SUV segment, they're all diesel vehicles, clearly indicating that the diesel engines are being made compliant to BS-VI norms as well. So even the largest players in the country have indicated clearly that while, yes, as a long term, they want to move from diesel to gasoline. Diesel would continuously be focused to be upgraded to the BS-VI now. So there is no doubt about that. So coming back, our content, which used to be close to 70% in diesel and 30% in the gasoline, we have swiftly acted upon it, and we have started to reverse the trend. And I'm sure we are going to cross the inflection point very soon. Now if there is going to be demands on the diesel vehicles coming up, we are ready to gear up because we already have the products and solutions. And gasolines, all the projects with our customers are almost homologated and validated. And we have already started supplies to some of the customers where we have gone through the validation process. So we are now strong enough to play in both these spaces, be it the gasoline or be it the diesel.

Right, sir. So even in the interim, our content per vehicle doesn't change between what it was before BS-IV and BS-VI, even after the transition. Even though diesel may come down because of Maruti stopping diesel, we will not see any impact on content per vehicle.

You are right. The main reason for this being that the gasoline products have a better value in them. And the price levels are also much better in a BS-VI version of the products that we are bringing in. And hence, we -- I've always said this in the past that the content per vehicle is only going to go up, not go down with the shift.

Sir, by any new products that we are adding on the gasoline side, if you can just give some highlights on that, sir?

Well, I'm not at liberty to share the details as of now at this point in time.

No problem, sir. No problem. Sir, on the industrial aftermarket side, the industrial aftermarket is, I think, roughly around 15%, 16% of our consolidated sales if I'm not wrong. How has been the performance in Q4 and for the full year CY '19, sir?

Okay. You are right. Our industrial aftermarket is around 15% of the total sales, what we do. And we have a very strong focus on the industrial aftermarket. We have consistently made sure that we grow this and the average growth what we have seen is -- in the industrial aftermarket is about 12%, 12.5% over the previous year. And clearly, there is a focus to develop the market further. We strongly believe that having the industrial market at a percentage of about 40% towards the total industrial sales would be a very healthy number to be at. And we have plans to launch new products in the space going forward as well as we come into 2020.

I would request Mr. Sriram to come back in queue for follow-up question. The next question is from the line of Saket Kapoor from Kapoor & Company. Due to no response, we'll move to the next question, which is from the line of Priya Ranjan from Antique Stock Broking.

One question is on the merger synergies. I mean, we have been talking about the merger synergies, where we are in terms of all the benefits of 1% or 2% in terms of overall cost savings, as well as some warehousing, et cetera, supply chain, I mean, consolidation, et cetera. So where as we in that stage?

Okay. So as far as merger synergies are concerned, on the cost side and overhead savings because of the merger, we are on track. The cost reductions that we had identified in the overhead area, we have realized them. Whatever was planned for 2019, we have fully realized. On the distribution network, also, we have synergy benefits fully realized. We have implemented now consolidated warehouses where we house products of all the plants and erstwhile companies together. There is the gain on account of the consolidation of the warehouses as well as full truckload container systems and the overall efficiencies in the transportation. So the overhead side and the cost side, we have realized the synergies defined. On the sell side, distribution business, I would say, we have more or less close to realization. However, in OE business, there is still certain sort of projects to be accelerated.

Okay. And so broadly, we are on track, and we are almost kind of done in whatever we have promised and...

Yes, yes. On merger synergies, yes.

Yes. And the second part is on the industrial business. So how do you see -- I mean, what kind of -- I mean -- CY '19 was a very good year for you in terms of railways. So what was your full year railway growth rate? And what's [indiscernible] of industrial revenue is now coming from railway and including Metro, I'm talking about, because Metro is now an important component.

Yes. Railways, as I mentioned earlier, we posted very strong growth. We did almost 25% better than the previous year, which is quite good. And we see a lot of action on this -- in this space. As you might have read, railways have started to privatize as well. So this is opening up opportunities for major global players with whom we really have a strong business presence to get and offer their values and services in the railways as well, the privatized railway. To talk about Metros, India has become a hub with all the major players coming into India. And India has started to export Metro coaches and locos to all over the world, be it Brazil, be it Australia, be it Europe, even in Canada. So having said that, we have a strong presence with the key players, and we definitely are benefiting from the growth, and that's why you see a strong growth of almost 25%.

Total share in Industrial, how much has that reached in total sales, whatever way you want?

Sorry, are you asking about the...

Railways.

Okay. It's about 5%.

It's about 5%, yes.

Okay. And the government is now talking about fully moving to electric locos. So do you see some kind of content risk there going forward?

Actually, this shift is enabling us to bring in a much higher value offering to the sector. The last year, in the month of November, we participated in the [ IRE ], wherein we officially have launched a product which is ideally suited for the electric locomotives. And we are the only manufacturer in this country who have the capabilities today to give this offering to the customers, who are also switching over to e-loco. We are clearly focused on addressing the 2 parameters, which the Railway has set as the criteria going forward, that of reliability and safety. So we are seeing a lot of opportunities, and we have -- do have more projects in the pipeline to continue to be a strong player in the Railways.

And one last question is on the automotive side. So if I have to look at, say, from gasoline or diesel to, say, mild hybrid or strong hybrid, so what kind of content changes you see in terms of -- for you or where these parameters will change as we move towards partial -- mild hybrid or to strong hybrid.

Okay. The word in itself, mild hybrid means that the internal combustion engines, be it diesel or gasoline, would continue to be the base or the primary power-generating unit onboard. So the hybrid, which is an electric drive system, would be an add-on. So from a content perspective of our offering, there is not going to be any reduction as long as the entire internal combustion system is going to be there. However, the opportunity for us is to bring in hybrid solutions and components for the hybrid application or the mild hybrid applications, which obviously would be over and above the content we already enjoy in the vehicle. So to me, that is a big opportunity. Yes, currently, the mild hybrid volumes are not very strong. And so we are -- whatever solutions we would offer would be imported. But going forward, we do not rule out the possibility to -- once the volumes go up, to manufacture them in India.

Okay. And lastly, on -- just on financials. So it's a very strong cost control you have done in the last couple of quarters. So do you see this cost control, whatever you have done, when the volume will come back, some of these costs will remain as it is, and we will enjoy much better margins if the volume we have to recover?