Company Name – RACL Geartech Ltd (RACL Geartech) Current Share Price – INR 730 (December 16, 2022) Market Cap – INR 787 cr |
1. What is interesting about the stock?
Phoenix is a bird that came into a dictionary from Greek mythology.
In simple terms, the Phoenix is a figment of imagination that originated in Greek mythology. It is known for its specialty to be reborn from its ashes.
Why are we talking about Phoenix? RACL Geartech Ltd was started in 1989 by Raunak Group faced bankruptcy in 2002 and has come back strongly after new management took over like a phoenix.
RACL Geartech Ltd is engaged in the business of making auto components like transmission gears and shafts, sub-assemblies, precision machined parts, and industrial components. It is a niche auto component company focused on premium-end vehicles.
The current Promoter, the Head of the Plant at the time of bankruptcy, bought the company and has gradually improved operations. He is supported by a team of professionals who have been with the company for more than two decades.
Company spent the time between 2007 to 2015 building capabilities and thereafter growth focus has stepped up. Given that it takes 2-3 years of work with an OEM before a product is launched, growth started picking up from FY18.
RACL Geartech’s main clients are top global OEMs like BMW (Germany), Kubota Corporation (Japan, Thailand, and the USA), KTM AG (Austria) Schneider Electric (Germany), and Dana (Italy and China). Company has recently added Kawasaki, TVS (for the BMW collaboration bikes), KTM’s Chinese JV, and Escorts-Kubota as clients.
RACL Geartech has moderate concentration risk with the top five customers contributing ~67% of revenue in FY22, however, comfort is drawn from the fact that the Company is a preferred vendor for many of its premium segment export customers with whom it has had long-term relationships. Also, the management as a part of its strategy ensures that sales do not exceed 20% to any single customer. The largest contributor during FY21 was 18% of the sales and thereby reducing dependence on few customers.
The company's export sales have been increasing consistently and formed around 73% of total gross sales during FY22. Of the total sales in FY22, nearly 57% of the sales were in Europe, 39% in India and the Asia Pacific region, and the remaining from USA and Mexico. RACL Geartech earns relatively higher export margins as the company exports its products to OEMs catering to the premium segment. Company generated 49% of revenues come from 2W (all 600cc+ bikes largely) and 19% from tractors in FY22.
Company has increased its capacity in FY21 for supplying ZF and MAN trucks – gross block has moved from INR 130 cr to INR 175 cr or capex of INR 45 cr. Company expects the supply to start in June 2022. This should help drive revenue growth for the next couple of years.
One of the key concerns with the company in the past has been a lack of presence in the EV market. In the last conference call, Company mentioned that they have started supplying parts for the BMW EV scooter which was launched in November 2021. Company expects the EV sales to increase to 4-8% of revenue by FY23. This alleviates the concern.
Key strengths of the Company are:
Experienced management team
Focus on high-end bikes where the impact of EV is expected to be relatively lower
Company is increasing its product portfolio and entering into a new segment
Key weaknesses of the Company are:
Asset turnover of ~1.5x – so any growth in revenue will require capex
High working capital of 140 days
Promoter compensation of ~ INR 2 cr in FY22 (~10% of the profit)
Company is targeting revenues of INR 500 cr (~2x of FY22) by FY25 with a PAT of 80-100 cr (4x of FY 22). I think the PAT target looks quite ambitious as the PAT margin will need to improve from 9% to 16-20% when the margin fell in FY22.
2. Key Historical Financials
Company operations recovered in FY22 - revenue growth of 33%
Revenue growth was 28% in Q2FY23 on a YoY basis
EBITDA Margins have almost doubled between FY18 to FY21 from 13% to 25%, largely on operating leverage but also on account of improved efficiencies, insourcing of forging, increase in exports (exchange rate depreciation) and contract maturity (they have cost reduction clauses for first 3 years and post that the efficiency gains are retained by the company). However, the margins have fallen in FY22 and H1FY23
ROCE and ROE have come down to 18%/20% vs 20%/24% in FY22
Free cash flow will be a challenge esp in FY22
Low asset turnover ratio (~1.5x)
High working capital cycle – growth would imply higher investment in WC
3. What is my view on company valuation?
Company trades at EV/EBITDA (TTM) and P/E (TTM) of 14x and 28x respectively. Long term P/E ratio of the Company is 7x which is partly due to the size discount and lack of ownership by institutional investors. The share price has increased ~12% in last 12 months and increased 14x since March 2020. I expect the revenue and profit to grow at 20% with a PEG ratio of 1x (low due to poor FCF conversion), implying a P/E multiple of 20x which is ~30% lower than current levels.
Investors could evaluate the stock for the long term and look to enter at the right levels.
4. What are the risks to the investment analysis?
Risks to the analysis are:
Corporate governance needs to be further evaluated as the company size is small
Key man risk with the promoter – is there any succession planning?
The automobile industry is highly cyclical and automotive component suppliers’ sales are directly linked to sales of auto OEMs. Furthermore, the auto-ancillary industry is highly competitive with the presence of a large number of players in the organized as well as unorganized sector
High working capital or low Free Cash Flow
Company’s main raw materials include steel and forgings and the increase/decrease in their prices also exposes the company to raw material price risk, however, the same is mitigated as there is passed through to the customers
About the Author
I have over 17years of experience in equities with a detailed focus on autos, auto components, and media. I am an engineer and have an MBA from a premier institute in India.
Disclosure
I have no stock, option, or similar derivative position in any of the companies mentioned in the last 30 days, and shall not initiate any such positions within the next 5 days. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from SocInvest). I have no business relationship with any company whose stock is mentioned in this article.
I am not a SEBI registered advisor. This article is purely for educational purposes and is not to be construed as investment advice. Please consult your financial advisor before acting on it.
I have used publicly available information while writing this article.