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Appliances sector thematic – looking beyond near-term disruption – HDFC Securities

Mr. Naveen Trivedi, Institutional Research Analyst, HDFC Securities.

In the current unprecedented time, when COVID-19 has impacted all consumption categories, consumer durables (CD) have also witnessed immense pressure. In such a phase, where earnings may see high volatility in the near term, we are trying to analyse the underlying strength of categories and companies. Our CD universe has clocked 10x and 18x revenue and EBITDA in the past 17 years. We believe the sector still has multi-year strong growth potential, which would be driven by (1) penetration, (2) product diversification, (3) market share gains, (4) shift from unorganised to organised, (5) high scope in rural and (6) largely untapped global opportunity. The government’s consistent ‘Make in India’ push is further making the sector attractive, opening up various possibilities of manufacturing incentives. The sector is trading at 42x P/E (one-year forward), having seen a sharp re-rating in the past 10 years (20x in 2010). We believe category winners will further gain market share in the current phase and command valuation premiums. We maintain our ADD rating on HAVELLS, VOLTAS and CROMPTON and REDUCE rating on V-GUARD and SYMPHONY. We initiate coverage on TTK PRESTIGE with an ADD.

– COVID lockdown puts pressure on demand, supply chains: The lockdown has put immense pressure on supply chains and consumer demand over the past 3-4 months. The lockdown was imposed in the peak summer season, affecting the offtake of cooling products heavily. Trade partners were conscious of building up inventory in May-June, thereby, trade inventory is not alarming for RAC but high for air coolers (as per our channel checks).Other categories are gradually improving with sequential improvements in May-June. However, growth in FY21 remains uncertain as the past two months have also witnessed channel filling.

– Strong history; opportunity attraction the same: In the past 17 years, the CD universe (ex-recent listed companies like Dixon, Amber and Polycab)has posted 10x and 18x growth in revenue and EBITDA respectively. Most companies have, in this period, capitalised on India’s rising per capita income, consumer attraction to branded goods, better availability of electricity, low penetration, and increasing avenues of consumer finance. We believe this growth trend for branded players would remain strong even in the coming years. India’s structural story remains intact.

– Prudent move from seasonal to secular business: Companies have focused on multi-dimensional diversification to avoid high dependence on seasonality, region, trade channel, and price segment. The dependence on revenue from a single quarter has reduced significantly over the years(link). Companies like Havells, V-Guard, TTK Prestige, and Orient Electric have clocked revenue expansion of 40x/22x/21x/14x over the past 17 years. It improves predictability, which is essential for valuation re-rating.

– Category classification into five buckets: In this thematic, we have broken down the CD sector into five big buckets to get a clear understanding of each of them and analyse how companies are expanding their addressable markets. The top-15 listed consumer durable companies combined contribute ~Rs 700bn (40% of the universe’s size) with a high revenue mix from the cooling products and electrical goods buckets (link). We have further explained the revenue mix of companies from each bucket

– Rich valuations to sustain: Although earnings can be volatile in the near term, rich valuations would sustain, in our view. Further, category winners hold the potential for quick turnarounds; therefore, the near-term disruption offers a good entry point.-Equity & Bulls

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