Apar Industries Ltd. 13 th plan expenditures and revival in capex from DISCOMs, key for earning growth

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1 29-Dec Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov-17 Apar Industries Ltd. 13 th plan expenditures and revival in capex from DISCOMs, key for earning growth INITIATING COVERAGE BUY 01 st Jan Apar Industries Ltd., (Apar) established in 1958 is a technology driven and customer focused company having presence in the manufacturing of power transmission conductors, transformer & specialty oils, power & telecom cables. In FY17, the company derived around 70% of the revenue from the power sector. It has a diversified portfolio of over 400 types of specialty & automotive oils; wide range of conventional & new generation conductors and a comprehensive range of power & telecommunication cables. Investment rationale: (Page: 08-12) Huge transmission capex in 13 th NEP to propel demand of conductors and transformer oils Futuristic product range with dominant market share Cable business to benefit from the improvement in the performance of DISCOMs and expansion in the renewable capacity Capex cycle likely to be concluded by FY18E GST related issue and plant shifting pains are transitory Profitability margins are expected to improve in future Risk and concerns: (Page: 15) Poor performance of the UDAY scheme Slow stabilization of the TBCB projects Commodity and currency volatility risk Valuation: (Page: 16) Below are the few key observations: Market leader in conductors, transformer oil. Would be the key beneficiary from the growth in the power T&D space. Governments focus on the high capacity transmission line would be positive for the company as it is the major player in the high KV conductors and transformer oils. We are anticipating an improvement in the capacity utilization at the newly commissioned plants in UAE and Odisha, which would result in operating leverage gain. Major elastomeric cable supplier to the renewable power plant. Anticipating huge tendering of renewable power plant in FY19 and FY20, which will be positive for the company. GST implementation would be positive for the company, as now there will be saving of around 1-2% towards CST. Earlier there was a competitive disadvantage with the company absorbing CST. We believe that the GST related issues are transitory in nature and likely to be addressed by the government in the near term. The company is about to conclude the major capex plan. By FY19, we are expecting better cash flows. Going forward, we are forecasting a top-line growth of 7.9% CAGR over FY17-20 to Rs. 66,469.5mn. EBITDA margin to expand from 7.95 in FY17 to 8.8% in FY20, thereby leading to a 12% CAGR rise in the consolidated EBITDA. PAT is estimated to increase by 20.7% CAGR with expansion in the margin by around 130bps to 4.7% over the same period. RoE and RoCE are likely to increase from 17% and 31.5% in FY17 to 19.9% and 32.5%, respectively, over FY At the CMP of Rs , Apar s share is trading at TTM P/E multiple of 20.9x as against the peer average of 29x. Additionally, it is trading at a P/BVPS and EV/EBITDA multiple of 3x and 8.1x, respectively as compared to the peer average of 5.4x and 15.2x. Based on P/E multiple of 13.9x to FY20E earnings, we arrive at a target price of Rs. 1,124.9 per share, translating into a potential gain of 39%. Thus we recommend a BUY rating on the stock. Rajnath Yadav Board line: ; Ext. 912 rajnath.yadav@choiceindia.com CHOICE INSTITUTIONAL RESEARCH Rating Matrix CMP (Rs.) MCAP (Rs. mn) 31,021 Rating Relative Capital Market Strength BUY Potential price (Rs.) 1,124.9 Upside potential 38.8% 52 week H/L (Rs.) 909 / 562 Investment horizon Months Face value (Rs.) 10 Category Sector Mid Cap Other Electrical Equipment and Product Shareholding Pattern as on 30 th Sept Particulars Dec-16 Mar-17 Jun-17 Sept-17 Promoters 58.21% 57.96% 57.96% 57.96% FIIs 7.60% 8.37% 8.51% 9.25% DIIs 12.62% 18.40% 19.96% 19.20% Non institutions 21.58% 15.27% 13.58% 13.59% Financial Snapshot (Rs. bn) Projections FY15 FY16 FY17 FY18E FY19E FY20E Revenue EBITDA Adjusted PAT EBITDA (%) 4.5% 6.5% 7.9% 7.5% 8.2% 8.8% PAT (%) 0.9% 2.2% 3.3% 2.9% 3.8% 4.7% EPS BVPS RoNW (%) 7.0% 14.3% 17.0% 13.8% 17.7% 19.9% RoCE (%) 26.4% 33.3% 31.5% 27.7% 31.9% 32.5% P / E P / BVPS EV / EBITDA Apar Industries Ltd. Sensex 1

2 Management team Name Mr. Kushal N. Desai Mrs. Nina Kapasi Mr. F. B. Virani Mr. C. N. Desai Mr. Suyash Saraogi Mr. Rajesh Sehgal Mr. V.C. Diwadkar Mr. Sanjaya Kunder Chairman & Managing Director Independent Director Independent Director Managing Director Independent Director Non-Executive Investor Director Chief Financial Officer Company Secretary Designation Shareholding pattern (as on 30 th Sept. 2017) 13.59% 19.20% 57.96% 9.25% Promoter & Promoter Group FIIs DIIs Non Institutions Shareholders more than 1% (as on 30 th Sept. 2017) Share Holder Name Stake (%) HDFC Asset Management Co. Ltd. 9.08% Reliance Capital Trustee Co. Ltd. 5.25% Maithili N Desai Family 4.96% Desai Noopur 4.45% L&T Mutual Fund 3.65% Goldman Sachs Group Inc. 2.96% Desai Kushal 2.40% Desai Chaitanya 2.38% Aktien Raiffeisen Eurasien 1.78% Raiffeisen Bank International 1.55% Ocean Dial Gatewy to India 1.38% Kedia Securities Pvt. Ltd. 1.11% Dimensional Fund Advisors LP. 1.03% CHOICE INSTITUTIONAL RESEARCH 2

3 Company introduction: Apar Industries Ltd., (Apar) established in 1958 is a technology driven and customer focused company having presence in the manufacturing of power transmission conductors, transformer & specialty oils, power & telecom cables. In FY17, the company derived around 70% of the revenue from the power sector. It has a diversified portfolio of over 400 types of specialty & automotive oils; wide range of conventional & new generation conductors and a comprehensive range of power & telecommunication cables. In conductor business, Apar has a manufacturing capacity of 0.18mn tonnes and is the among the top three conductor manufacturer in the world. Its manufacturing facilities are located at Athola (0.046mn tonnes), Silvassa (0.083mn tonnes), Umbergaon (0.021mn tonnes) and Jharsuguda (0.03mn tonnes). In FY13, the company entered into an agreement with CTC Global, USA for the manufacture of a certain type of patented high-performance conductor (i.e. HEC) called ACCC under CTC s license. It has presence in the re-conducting business, where its HECs are used. Apar s manufacturing capacities are fungible between conventional and HECs. Conductor manufacturing capacity as of H1 FY18 (mn tonnes) Athola, Gujarat Silvassa, Gujarat Umbergaon, Gujarat Jharsuguda, Odisha Total Capacity (mn tonnes) In domestic market it has a market share of 23% and is also the largest exporter of aluminum conductor from India. Apar through its continuous R&D initiatives and backward integrated conductor operations is recognized as the low cost producer of conductor in world. Below is the full range of the conductor manufactured by the company: ACSR / AACSR / ACAR / AAA / ACSR-AW conductors for overhead power T&D: AAC (All aluminum Conductors) ACSR (Aluminum conductor steel reinforced) ACSR / AW (Aluminum conductor aluminum clad steel reinforced) AACSR (Aluminum alloy conductor steel reinforced) AACSR / AW (Aluminum alloy conductor clad steel reinforced) AAAC (All Aluminum alloy conductors) ACAR (Aluminum conductor alloy reinforced) New generation alloy conductors for overhead power T&D: High conductivity alloy conductors (HCAC) High temperature thermal resistant alloy conductors High temperature low sag conductors (HTLS) CHOICE INSTITUTIONAL RESEARCH 3

4 Company introduction (Contd ): In specialty oil, Apar has a capacity to manufacture 542mn litres of specialty oils. Its manufacturing facilities are located Rabale (222mn litres), Silvassa (220mn litres) and Al-Hamriyah (UAE; 100mn litres). All the capacities are fungible to manufacture various specialty oils. Its specialty oil business has a wide range of products which falls under four major categories: transformer oils, white oils & liquid paraffins, industrial/automotive oils and process oils, which include specialty oils for rubber & tyre, hot melt adhesives, metal working fluids etc. Specialty oils manufacturing capacity as of H1 FY18 Rabale, Maharashtra 222 Silvassa, Gujarat 220 Al-Hamriyah, UAE 100 Total Capacity (mn litres) 542 Apar is the pioneer in manufacturing of transformer oils in India. Its POWEROIL brand of transformer oil was launched in 1968 under the technical collaboration with Sunoil Company, USA, the then global leader in naphthenic based products. Since then POWEROIL has become synonymous with transformer oil. The company has a dominant market share of 45% in the transformer oil business and is also the fourth largest manufacturer and marketer of transformer oils globally. Apar is a preferred supplier to over 75% of its customer base. It also has a very strong presence in international markets which is spread across all the five continents in more than 100 countries. In 2007, the company ventured into the business of automotive lubricants. Through its subsidiary Apar Chematek Lubricants Ltd. (ACLL), (a 50:50 joint venture company between Apar and ChemateK S.p.A. Italy), it started to market industrial lubricants oils and other petroleum products manufactured by it under the Agip brand licensed by eni, S.p.A., Italy. Further in Sept. 2012, Apar increased its stake in the JV to 97.5%, thereby making ACLL the subsidiary of the company. Apar is the last entrant in the automotive lubricant business and currently has tie up with 15 OEMs namely Greaves Cotton Ltd. Suzuki, Sonalika etc. Its automotive oils are mainly supplied to three wheelers. Its two wheeler automotive lubricant brnad is 4T. The addressable market share is around 4-5% and 1% in the overall oil market. In industrial lubricants, the company offers a wide range catering various segments of the industry including hydraulic oils, industrial gear oils, general machinery oils, heat transfer oils, extreme pressure greases, quenching oils, pneumatic oils, neat and soluble cutting oils, gas engine oils, marine oils rust preventives and specialty products. It has a market share of 20% on the general industrial oil market. In terms of transformer & specialty oil sales mix, the company generated 47% of the revenue from transformer oil, 21% from white oil, 19% from industrial oils and 14% from automotive lubricants in H1 FY18. Around 40% of the transformer & specialty oil business was generated from exports. In term of profitability automotive lubricants has highest profitability followed by industrial oils, transformer oils and white oil. CHOICE INSTITUTIONAL RESEARCH 4

5 Company introduction (contd ): Transformer & specialty oil sales mix in H1 FY18 Geographical business distribution of transformer & specialty oil in H1 FY18 13% 19% 47% 40% 60% 21% Transformer Oils Industrial Oils White Oils Automotive Lubricants Domestic business Export business In 2008, Apar diversified into cable manufacturing with the acquisition of a strategic stake in erstwhile Uniflex Cables Ltd., a manufacturer of wide range of power and telecom cables. After amalgamating, the cable business was carried out under the company. In 2012, Apar installed 1.5MeV and 3MeV e-beam radiation services to improve the efficiency of the cables. On bombardment with the e-beam, the wire becomes toughened and efficiency of the wire increases almost 3-4 times. The cable is not expected to catch fire easily. The main products in the cable business include HT cable, elastomeric cable and optical fiber cables. Its HT cables are used in power cabling application, while elastomeric cables are use in renewable energy applications, defense, marine, railways etc. The company has just ventured into housing cables with Anushakti brand and is based on e-beam technology. Through this wire, the company is targeting high end real estate developers. However, this would take at least two years to develop the sales channel. Business model: In FY17, the company generated around 70% of the business from the power sector, with major demand driver being the expansion in the T&D network in India. In power transmission, Apar s conductor finds its application and is only into aluminum conductor manufacturing. It supplies its conductor to PGCIL and other EPC players. Apar enters into a MoU with its customers which are fixed and variable price contract. PGCIL and other Indian company generally follow the variable type contract. In domestic market, the fixed and variable proportion is 50:50. Most of the export orders are fixed in nature. For aluminum procurement, the company sources it from domestic as well as foreign suppliers and this depends on the price. As far as the profitability is concerned, it is a function of demand and supply. If there is a demand then the margins will be high. During the negotiation process, the customer along with aluminum price also negotiates for the margin. There is no margin negotiation in the fixed price contracts. For specialty oils, Apar imports the key raw material i.e. base oil. To maintain the quality, 95% of the base oil is imported from the same supplier. 50% comes from South Korea, 25-30% from USA and balance from local purchase. The base oil supply contracts are long term in nature and the prices are revised on a monthly basis. If the spot prices are favorable, then the company procures from the spot market. The obligation towards the contract is only to fulfill the annual contract terms. CHOICE INSTITUTIONAL RESEARCH 5

6 Company introduction (contd ): Key milestones of the company: Strong clientele with long lasting relationships: CHOICE INSTITUTIONAL RESEARCH 6

7 Company introduction (contd ): Source of revenue: On a consolidated level, conductor business contributed around 47% of the revenue followed by transformer & specialty oil, which contributed 35% and cables 18%. Export contributed 32% of the consolidated revenue in FY17. Consolidated segmental revenue in FY17 (Rs. mn) Geographical revenue break-up in FY % 32% 35.3% 46.8% 68% Conductors Transformers and Speciality Oils Power / Telecom Cables Domestic Revenue Export Revenue Corporate Structure: As on FY17 end, Apar had two wholly owned subsidiaries and two step down subsidiaries. Petroleum Specialties Pte. Ltd. (PSPL), Singapore and Apar Transmission & Distribution Projects Pvt. Ltd. are the wholly owned subsidiary of Apar. Quantum Apar Speciality Oils Pty. Ltd., Australia and Petroleum Specialities FZE, Sharjah are the step down subsidiaries of Apar. PSPL is mainly engaged in the trading of petroleum based products and general wholesale trade. Quantum Apar Speciality Oils Pty. Ltd. is involved into the trading of petroleum based product such as transformer oils, white oils, process oils and other specialty oils. Quantum Specialty Oils Pty Ltd. holds 35% in Quantum Apar Specialty Oils Pty Ltd. Petroleum Specialities FZE, Sharjah is engaged into the manufacturing and marketing of petroleum based specialty products, all kinds of oil, lubricants and chemicals. Apar Transmission & Distribution Projects Pvt. Ltd. carries out the business of transmission, distribution, installation, stringing, re-stringing etc. of conductors, optical fiber ground wire (OPGW) and cables. CHOICE INSTITUTIONAL RESEARCH 7

8 Investment rationale: 1) Huge transmission capex in 13 th NEP to propel demand of conductors and transformer oils: Historically, the transmission capacity expansion was lagging in the power sector. However since, the 12 th NEP (FY13-17), tremendous push has been given to expand the power transmission capacity. In 12 th NEP, India s transmission capacity increased by 42.9%, while the power transformation capacity increased by 81.6%. Anticipating huge gap in the power transmission space, the Indian government with its draft 13 th NEP (FY18-22) is likely to continue with its transmission capacity expansion. During the 13 th NEP, power transmission and transformation capacity is likely to increase by 28.7% and 41.1%. During this period too, the government has given more emphasis on high voltage transmission capacity and is planning to expand it by 37.9% over FY The total outlay for the 13 th NEP is around Rs. 2.6tn. For any power transmission project, around 60% capex is for transmission line while the rest is for sub-stations. Conductor capex is around 25% of the power transmission line. Thus as per our estimate, the incremental demand for conductors would be around Rs. 90bn over FY Similarly, the incremental demand of transformer oil would be around 80mn litres. Apar with its wide range of products in power conductors and transformer oil and also being a market leader in both the businesses is expected to benefit from the expansion in the transmission capacity in 13 th NEP. Conductor demand forecast in 13 th NEP FY18E FY19E FY20E FY21E FY22E Estimated investment for the implementation of 13 th NEP (Rs. mn) 1,560,000 Anticipated per year investment on transmission lines (Rs. mn) 312, , , , ,000 Conductor cost as a percent of capex for the transmission line (%) 25% 25% 25% 25% 25% Estimated conductor cost per year (Rs. mn) 78,000 78,000 78,000 78,000 78,000 Apar's market share in conductor business in India (%) 23% 23% 23% 23% 23% Estimated conductor business for Apar (Rs. mn) 17,940 17,940 17,940 17,940 17,940 Transformer oil demand forecast in 13 th NEP FY18E FY19E FY20E FY21E FY22E Planned substation capacity addition during the 13 th NEP (MVA) 306,000 Anticipated per year addition (MVA) 61,200 61,200 61,200 61,200 61,200 Transformer oil requirement per MVA (Litre) Estimated transformer oil requirement (mn Litre) Apar's market share in transformer oil business in India (%) 45% 45% 45% 45% 45% Estimated demand of transformer oil for Apar (mn Litre) ) Futuristic product range with dominant market share: Apar over the years through its R&D efforts and various strategic tie-ups with global firms has emerged as the dominant player in the power T&D space and cable business. Apart from manufacturing conventional conductors, the company has a technical tie-up with CTC Global to manufacture new generation HECs. Overall in the conductor business in India it has a market share of 23%. Apar and Sterlite Power Ltd. are the only players in the HEC business with equal market share. With increasing awareness and acceptance of HECs among the customers, we are anticipating a huge demand of HECs in the next five year. CHOICE INSTITUTIONAL RESEARCH 8

9 Investment rationale (Contd ): Conductor market share (%) HEC domestic market share (%) 37% 23% 10% 10% 20% 50% 50% Apar Industries Ltd. Sterlite Power Ltd. Gupta Power Infrastructure Ltd. JSK Industries Pvt. Ltd. Others Apar Industries Ltd. Sterlite Power Ltd. In transformer & specialty oil business it has a tie-up with eni, S.p.A., Italy. The company has a dominant market share of 45%in the transformer oil market in India. The company generates 80% of the transformer oil business from power transformer and rest 20% from distribution transformer. In power transformer oil market, Apar has a dominant share of 60%. In high KV transformer oil, there are only three players and here also it is a leader with 70% market share. In industrial lubricant business, it has a market share of 20%. The performance of UDAY scheme is lower than the expectation, however we believe that it will be too early to judge the near term performance. With almost completion of financial restructuring of DISCOMs, we are of the opinion that the next step would be the improvement in the operating performance. Thus we strongly feel that there will be increased demand of transformer oils and cables from the distribution transformers. Apar with its dominant market position is expected to benefit from the same. Transformer oil market share (%) Industrial lubricant market share (%) 12% 20% 45% 19% 19% 23% 20% 23% 19% Apar Industries Ltd. Savita Oil Technologies Ltd. Shell India Markets Pvt. Ltd. Apar Industries Ltd. Savita Oil Technologies Ltd. Apar is among the two players in India having e-beam technology. The company is into manufacturing of conventional cables and cables treated with e-beam. Mainly elastomeric cables are treated with e-beam and it finds application in renewable power projects, railways, defense, marine industry etc. Apar has a market share of 20% in supplying elastomeric cables to the solar power projects and 15% market share in wind power projects. CHOICE INSTITUTIONAL RESEARCH 9

10 Investment rationale (Contd ): 3) Cable business to benefit from the improvement in the performance of DISCOMs and expansion in the renewable capacity: Apar is one of the largest suppliers of elastomeric cables to the renewables sector in India. It has a market share of 20% and 15% in supplying cables to the solar and wind power projects. In the last three years, a capacity of around 28GW was added in the renewable space. As a result of this, Apar has shown drastic improvement in the business of elastomeric cable, which increased by 54.9% CAGR over FY Additionally, its share in the total cable increased from 24% in FY15 to 37% in FY18. Going forward, to meet the renewables target of 160MW by 2022 from the solar and wind space, the government is planning to auction around 10GW of the capacity each in FY19 and FY20. Further on the solar space, it is planning to auction 30GW of the capacity each in FY19 and FY20. Additionally, the company is sensing an improvement in demand for this cable from the railways, defense and marine sector. Apar being the dominant player and also one of the two players with e-beam technology is better placed to gain from the expansion in the renewable space. Since elastomeric cables has higher profitability margin as compared to other cables, it will also assist in improving the profitability of the cable business. Solar and wind power capacity addition over FY15-22 (GW) Cable business mix over FY % 80% 60% 17.1% 11.9% 28.0% 33.5% 37.3% 24.1% % % 47.9% 49.4% 50.8% FY15 FY16 FY17 FY18E FY19E FY20E FY21E FY22E 0% FY15 FY16 FY17 HT/LT Cables Sales Elastomeric Cable Sales OFC Sales Another vertical of the cable business is the power cable business, which contributes around 50% to the cable business. The business from this vertical has grown by 28.1% CAGR over FY15-17, however because of highly competitive market the profitability from this segment is lower. As stated earlier, after financial restructuring under UDAY, the DISCOMs are expected to focus on improving the operational performance, which will give rise to more demand of power cables. Anticipating this, Apar has recently expanded its capabilities to manufacture cables upto 66KV from earlier 33KV. We feel that the profitability of this cable will increase with the rise in demand. 4) Capex cycle likely to be concluded by FY18E: Apar has just concluded its capex plan of around Rs. 1,400-1,500mn. As a result of which the company has increased the capacity of conductors from 0.15mn tonnes to 0.18mn tonnes from its greenfield expansion at Jharsuguda, Odisha. Additionally, with another greenfield expansion in UAE, it has increased the specialty oil capacity from 442mn litres to 542mn litres at an capex of Rs. 1,000mn. Residual capex was utilized to debottleneck the cable capacity. For FY18, the company has guided a capex of around Rs. 1,000mn, which will be used for setting up a copper conductor plant for railway projects, rolling mill for receiving the molten metal at Jharsuguda and optical fiber conductor at Silvassa. And from FY19 there will be maintenance capex. With improving business across the product segment, we feel that Apar is well positioned to capture the future growth potential. Thus with no significant capex from FY19, we are anticipating increased cash flow for the company. CHOICE INSTITUTIONAL RESEARCH 10

11 Investment rationale (Contd ): 5) GST related issue and plant shifting pains are transitory: Post the commissioning of conductor plant at Jharsuguda, Odisha, the company is shifting some of its manufacturing equipments to Jharsuguda as it is cost effective after GST and is also near to aluminum smelter in Odisha. Moreover, after the commissioning of Al-Hamriyah plant, certain export orders are transferred from Silvassa to the new plant and this has, to some extent increased the fixed cost of the company. However, as the capacity utilization gets ramped up at the plants, we feel that the company will gain from the operating leverage. With the implementation of the GST there was a significant disruption across the sectors. Apar was also not left and during Q2 FY18, it reported a fall in the conductor sales volume mainly due to the postponement of the orders. In elastomeric cable business, the company faced pressure due to high GST rate. Initially, the government had applied a GST rate of 28% for the cables and 5% GST rate on renewable generating assets. As a result of which, Apar s business from elastomeric cables declined by around 25% in Q2 FY18. Gradually, the government brought down the GST rates to 18% level, but still there is ambiguity on the GST rate on cables used in renewable sector. Additionally, during the period, the company faced some amount of cash flow problems on account of IGST. Initially, it had paid IGST on duty free raw materials which erstwhile was exempted and until the government announced a measure on 6 th Oct to exempt the payment of the same. Consequently an amount of Rs. 680mn got stuck in the system. With company s products are used in power T&D and renewable sectors, which are in focus of the government and various flagship programs are linked to it, we feel that the GST related issues will get addressed in near term. Also the IGST payment will also be reversed to the company. Apar would be benefited from GST, especially for the specialty oils and cables segment. Before GST, it was entitled for 2% CST and this was absorbed by the company in the product pricing. Thus this was a competitive disadvantage for the company as its peers were either paying around 1% or were in tax free jurisdiction. With the GST implementation, there will be a level playing field and Apar will be no longer to actually absorb the CST. As a consequence margins are expected to expand with the improvement in the return ratios. CHOICE INSTITUTIONAL RESEARCH 11

12 Investment rationale (Contd ): 6) Profitability margins are expected to improve in future: Apar reported an 8.2% rise in the consolidated top-line over FY11-17 to Rs. 52,888.2mn. This was mainly on the back of double digit growth across all the segments, except specialty oils segment. Conductor sales volume increased by 7.5% CAGR, while business increased by 12.4% CAGR over the same period. Despite reporting strong volume growth, specialty oil segment reported a modest growth 3.8% CAGR in the business and this was primarily due to lower crude prices in the terminal year of FY On the back of better product mix, the cable segment reported 19.8% CAGR rise in the business over FY Consequently, consolidated top-line increased by 8.2% CAGR over the same period. Total operating expenditure increased at a lower rate of 7.8% CAGR as compared to top-line growth rate. Consequently, consolidated EBITDA increased by 11.3% CAGR over FY11-17 to Rs. 4,167.7mn in FY17. EBITDA margin improved from 6.6% in FY11 to 7.9% in FY17. Depreciation and finance charge increased by 14% and 17% CAGR over the same period. Therefore, consolidated adjusted PAT increased by 10.8% CAGR to Rs. 1,765.7mn in FY17. Adjusted PAT margin expanded from 2.9% in FY11 to 3.3% in FY17. RoE over the period contracted from 27.1% in FY11 to 17% in FY17, however it improved from 7% reported in FY15. Going forward, we are forecasting a top-line growth 7.9% CAGR over FY17-20 to Rs. 66,469.5mn. This will be mainly driven by 9.3% and 7.7% CAGR increase in conductor and specialty oils business. Cable business is to report a growth of 22.3% CAGR over the same period. Consolidated EBITDA margin is likely to expand from 7.9% in FY17 to 8.8% in FY20, thereby leading to a 12% CAGR rise in the consolidated EBITDA to Rs. 5,850.8mn. Depreciation charge is likely to increase by 10.6%, while finance cost is expected to decline by 18.9% CAGR over FY Therefore, consolidated PAT is anticipated to increase by 20.7% CAGR to Rs. 3,106.8mn. PAT margin to expand from 3.3% in FY17 to 4.7% in FY20. RoE to improve from 17% in FY17 to 19.9% in FY20, while RoCE to increase from 31.5% to 32.5% over the same period Forecasted operational metric FY15 FY16 FY17 FY18E FY19E FY20E Conductor sales volume (mn tonnes) Specialty oils sales volume (mn litres) Blended specialty oil realization per litre (Rs.) Blended conductor realization per tonne (Rs.) 200, , ,000 50, ,000 50,000 0 Forecasted financial performance FY15 FY16 FY17 FY18E FY19E FY20E Total operating revenue (Rs. mn) EBITDA (Rs. mn) Adjusted PAT (Rs. mn) EBITDA margin (%) Adjusted PAT margin (%) 10% 5% 0% CHOICE INSTITUTIONAL RESEARCH 12

13 Recent quarter and annual performance analysis: Q2 FY18 quarter result analysis: During Q2 FY18, Apar reported 10.9% Y-o-Y fall in the consolidated operating revenue to Rs. 12,478mn. This was mainly due to 3.3% Y-o-Y fall in the Conductor segment revenue, which was impacted due to GST where maximum orders were postponed. Conductor sales volume declined by 20.9% Y-o-Y. The Specialty oil segment reported 19.4% Y-o-Y rise in business, primarily due to 5.2% and 7.6% Y-o-Y rise in sales volume and realization, respectively. The Cable segment reported a growth of 14.2%. On a sequential basis, consolidated revenue declined by 12.4%. Q2 quarter is normally is a low business quarter for the company, mainly due to monsoon. Cost of goods sold increased by 11.1% Y-o-Y, thus as a percent of operating revenue it increased to 79% as compared to 63.4% in Q2 FY17. Total operating expenditure declined in line with top-line, thereby reporting an almost flat consolidated EBITDA margin of 7.1% in Q2 FY18. Sequentially, EBITDA declined by 12.8%, while EBITDA margin contracted by 41bps. On account of commissioning of UAE and Odisha plant, depreciation charge increased by 30.2% Y-o-Y. Finance charge increased by 49% Y-o-Y, reflecting pressure on the working capital due to GST. Consequently, adjusted PAT declined by 43.3% Y-o-Y to Rs mn. PAT margin contracted by 120bps Y-o-Y to 2.1%. Quarterly operational metric Quarterly financial performance Q2 FY17 Q3 FY17 Q4 FY17 Q1 FY18 Q2 FY18 200, , ,000 50, ,000 12,000 9,000 6,000 3,000 0 Q2 FY17 Q3 FY17 Q4 FY17 Q1 FY18 Q2 FY18 9% 6% 3% 0% Conductor sales volume (mn tonnes) Specialty oils sales volume (mn litres) Blended specialty oil realization per litre (Rs.) Blended conductor realization per tonne (Rs.) Total operating revenue (Rs. mn) EBITDA (Rs. mn) Adjusted PAT (Rs. mn) EBITDA margin (%) Adjusted PAT margin (%) CHOICE INSTITUTIONAL RESEARCH 13

14 Recent quarter and annual performance analysis (Contd ): FY17 annual result analysis: The conductor sales volume declined by 7.8%, while sales realization declined by 5.3% on account of lower commodity prices. The Conductor segment export revenue remained 39% (at a same level of FY16). On account of increased focus on HEC during the year, the business from HEC increased to 11% of the total conductor revenue as compared to 6.2%. Overall, the Conductor segment reported 12.7% fall in revenue to Rs. 22,510mn in FY17. The Specialty oil segment reported volume growth across its products due to fall in the base oil price, the segment revenue declined by 6.2% in FY17. The cable segment continued its robust growth rate and reported a growth rate of 28% for the period. As a result, consolidated top-line declined by 4.7% to Rs. 52,888.2mn in FY17. Cost of goods sold declined by 5.9% and stood at 67.3% of the top-line. Total operating expenditure declined by 6.1%. Consequently, consolidated EBITDA increased by 15% to Rs. 4,167.7mn. EBITDA margin expanded by 135bps to 7.9%. EBITDA margin expanded mainly due to higher contribution of high margin HEC business. Depreciation charge increased by 19.1%, while finance charge declined by 27.3%. Consolidated adjusted PAT increased by 45.1% to Rs. 1,765.7mn, with a margin of 3.3% (an expansion of 115bps over FY16.). RoE increased from 14.3% in FY16 to 17% in FY17. FY17 Annual operational metric FY17 Annual financial performance , ,000 60,000 40,000 9% 6% FY13 FY14 FY15 FY16 FY17 Conductor sales volume (mn tonnes) Specialty oils sales volume (mn litres) Blended specialty oil realization per litre (Rs.) Blended conductor realization per tonne (Rs.) 140, ,000 20,000 0 FY13 FY14 FY15 FY16 FY17 Total operating revenue (Rs. mn) EBITDA (Rs. mn) Adjusted PAT (Rs. mn) EBITDA margin (%) Adjusted PAT margin (%) 3% 0% CHOICE INSTITUTIONAL RESEARCH 14

15 Risk & concerns: Poor performance of the UDAY scheme: Since the implementation of scheme, around 26 States/UT has joined and taken the benefit of the scheme. It is believed that after financial restructuring of the DISCOMs, the interest burden has reduced. Also some of the states have reported almost 60% reduction in the revenue losses. Additionally, the delay in the payback of the due by the DISCOMs has reduced from six months to around 2-3 months. Progress in the operational performance is much lower than expected as the AT&C losses are still at 22% and the target is to reach 15% by FY19. Also the tariff under recovery is also at Rs. 0.5 per unit and the target is to eliminate it by FY19. Since the scheme was joined and implemented by States at different time period, analyzing the near term performance will not be correct. With almost completion of financial restructuring of DISCOMs and improved financial position, we feel that this will free up much needed financial resources for future investment in infrastructure and operational upgrades that the next step would be the improvement in the operating performance, thereby increasing the demand of transformer oils and cables. Thus any delay in improving the operating performance and future investment will severely affect the sector as a whole. Slow stabilization of the TBCB projects: Transmission projects are awarded in TBCB and the cost is fixed. Most of the EPC players have bagged the transmission projects at lower rate, which we believe will be at risk as the key raw material price have either ramped up or volatile in the recent quarters. This would squeeze the margin of the EPC players and to offset that these players have started asking entities like Apar to take a cut on the margins. Apar, based on its risk profile, is taking only 20% exposure on the TBCB projects. Rest of the business i.e. 50% would come from exports and 30% from the variable domestic projects. Thus a continued pressure of TBCB projects would impact the profitability of the company. Commodity and currency volatility risk: As of FY17, Apar generated 39% of the conductor business from the export market. And around 40% of the specialty oil business is generated from the exports. On a consolidated basis, 32% of the business was from export markets. Normally, in domestic markets the company to some extent passes on the commodity and currency volatility risk, but most of the export orders are fixed price contracts. Thus any volatility in the commodity and currency prices would put pressure on the profitability. CHOICE INSTITUTIONAL RESEARCH 15

16 Peer comparison: Company Name Face Value (Rs.) CMP (Rs.) MCAP (Rs. mn) EV (Rs. mn) Stock Return (%) 1 M 3 M 6 M 1 Y TTM Total Operating Revenue (Rs. mn) TTM EBITDA (Rs. mn) TTM PAT (Rs. mn) TTM EBITDA Margin (%) CHOICE INSTITUTIONAL RESEARCH 16 TTM PAT Margin (%) Apar Industries Ltd ,021 31, % 8.8% 6.7% 41.2% 53, , , % 2.8% Kalpataru Power Transmission Ltd ,786 95, % 30.0% 45.6% 93.3% 50, , , % 5.7% KEC International Ltd , , % 24.9% 52.1% 175.0% 88, , , % 4.1% GE T&D India Ltd , , % 12.9% 28.8% 48.2% 45, , , % 4.4% Skipper Ltd ,664 31, % 29.1% 36.7% 104.6% 19, , , % 5.9% Savita Oil Technologies Ltd. 10 1, ,816 21, % 23.5% 25.2% 109.8% 17, , , % 5.7% Panama Petrochem Ltd ,056 9, % 70.7% 163.6% 339.3% 10, % 5.0% Average 10.3% 5.1% Company Name EPS (Rs.) BVPS (Rs.) DPS (Rs.) Debt Equity Ratio Fixed Asset Turnover Ratio RoE (%) RoCE (%) P / E (x) P / B (x) EV / Sales (x) EV / EBITDA (x) MCAP / Sales (x) Earning Yield (%) Apar Industries Ltd % 28.6% % Kalpataru Power Transmission Ltd % 7.8% % KEC International Ltd % 20.6% % GE T&D India Ltd % 25.5% % Skipper Ltd % 23.2% % Savita Oil Technologies Ltd % 18.7% % Panama Petrochem Ltd % 27.3% % Average % 20.5% % Being having a diversified business profile, there are no direct peers for Apar. We have taken power T&D EPC players as the proxy peers for the company. Additionally, there are two listed entities in the specialty oil business. Valuation: Below are the few key observations: Market leader in conductors, transformer oil. Would be the key beneficiary from the growth in the power T&D space. Governments focus on the high capacity transmission line would be positive for the company as it is the major player in the high KV conductors and transformer oils. We are anticipating an improvement in the capacity utilization at the newly commissioned plants in UAE and Odisha, which would result in operating leverage gain. Major elastomeric cable supplier to the renewable power plant. Anticipating huge tendering of renewable power plant in FY19 and FY20, which will be positive for the company. GST implementation would be positive for the company, as now there will be saving of around 1-2% towards CST. Earlier there was a competitive disadvantage with the company paying 2% CST. We believe that the GST related issues are transitory in nature and likely to be addressed by the government in the near term. The company is about to conclude the major capex plan. By FY19, we are expecting better cash flows. Going forward, we are forecasting a top-line growth of 7.9% CAGR over FY17-20 to Rs. 66,469.5mn. EBITDA margin to expand from 7.95 in FY17 to 8.8% in FY20, thereby leading to a 12% CAGR rise in the consolidated EBITDA. PAT is estimated to increase by 20.7% CAGR with expansion in the margin by around 130bps to 4.7% over the same period. RoE and RoCE are likely to increase from 17% and 31.5% in FY17 to 19.9% and 32.5%, respectively, over FY At the CMP of Rs , Apar s share is trading at TTM P/E multiple of 20.9x as against the peer average of 29x. Additionally, it is trading at a P/BVPS and EV/EBITDA multiple of 3x and 8.1x, respectively as compared to the peer average of 5.4x and 15.2x. Its RoE is low, but is comparable to its peer average. Based on P/E multiple of 13.9x to FY20E earnings, we arrive at a target price of Rs. 1,124.9 per share, translating into a potential gain of 39%. Thus we recommend a BUY rating on the stock.

17 Indian power sector overview: India is the third largest consumer and fourth producer of electricity in the world. As on Nov. 2017, the total installed generation capacity in India was 330.9GW and approximately 107.2GW of capacity was added in the 12 th five years National Electricity Plan (NEP). Coal based power generation has maintained its dominant position and accounts for 58.3% of the installed capacity. Renewable energy installations have witnessed robust growth over the past few years, and have reached approximately 60.2GW capacity in Nov. 2017, as compared to 27.5GW in Apr Currently it is contributing around 18.2% of the total installed power capacity in India as compared to 12.3% in Apr Total installed power generation capacity in India (as on Nov. 2017) 18.2% 13.6% 58.3% 2.0% 7.6% 0.3% Coal Gas Diesel Nuclear Hydro Renewables Despite the rapid growth of the power generation capacity, per capita electricity consumption in India was at 1,075KWh in FY16 as compared to the global average of around 4,500KWh. Additionally, it was lowest among the BRIC nations. The energy deficit (difference between electricity requirement and electricity supply) declined to 2.1% in FY16 from 8.4% in Apr This has further declined to 0.7% in Nov. 2017, mainly due to enhanced generation capacity and better power transmission infrastructure. The energy deficit in India is regional, with northern, southern, eastern and north eastern regions having a deficit of 2.1%, 0.3%, 0.5% and 1.5%, respectively as of Nov All India installed power transmission capacity HVDC +/- 500 kv (Ckm) 15, kv (Ckm) 33, kv (Ckm) 167, /220 kv (Ckm) 165,816 Total Transmission Lines (Ckm) 381, kv (MVA) 177, kv (MVA) 267, /220 kv (MVA) 323,638 Total AC Substation (MVA) 769,070 HVDC Bipole + Monopole (MVA) 21,000 Total Substations Transformation Capacity (MVA) 790,070 CHOICE INSTITUTIONAL RESEARCH 17

18 Indian power sector overview (Contd ): There is a significant mismatch between power generation and transmission capacity. As of Nov. 2017, the transformation capacity was around 790,070MVA as compared to 409,551MVA at the end of 11 th NEP. India has 2.2 MVA/MW (power transformation capacity to installed generation capacity) of 2.2x, which is far lower than the ratio in the developed economies. Countries mostly with high income have this ratio greater than 6x. Fixing this deficit would lift the confidence and improve the viability of the whole sector. Power transmission and distribution sector in India: The transmission segment plays a key role in transmitting power continuously from the generation plants to various distribution entities. Transmission and sub-transmission systems supply power to the distribution system, which, in turn, supplies power to end consumers. In India, the transmission and distribution (T&D) system is a three-tier structure comprising distribution networks, state grids and regional grids. The distribution networks and state grids are primarily owned and operated by the respective state transmission utilities or state governments (through state electricity departments). Most inter-state and inter-regional transmission links are owned and operated by Power Grid Corporation of India Ltd. (PGCIL), which facilitates the transfer of power between different regions. The transmission system in India operates at several voltage levels i.e. HVDC: ± 500kV HVDC, ± 800kV HVDC; and extra high voltage: 66kV, 132kV, 220kV, 400kV and 765kV. The government s focus on providing electricity to rural areas has led to the T&D systems being extended to remote villages. The total length of transmission lines in the country has increased from 2,57,481ckm in FY12 to 3,67,851ckm in FY17. There has been strong growth in the transmission system at higher voltage levels and substation capacities (400kV and above). This is a result of an increase in the demand for transmission networks to carry bulk power over longer distances and at the same time optimize the right of way, minimize losses and improve grid reliability. The total length of the 220kV and above transmission lines in the country has increased by 7.4% CAGR over the 12 th NEP. Similarly, growth in the sub-station capacity addition was 12.7% CAGR over the same period. This increase can also be attributed to an increase in the commissioning of the 765kV lines, which has higher power transfer capacity and lower technical losses, thereby reducing the overall number of lines and rights of way required to deliver equivalent capacity. Power performance in a transmission line increases as voltage increases and as 765kV lines use one of the highest voltages, they experience a comparatively lesser amount of line loss. The total length of 765kV lines has increased at a CAGR of 46.3% over 12 th NEP. At the end At the end of At the end of Target Addition Actuals at the Target Addition At the end of of 9 th Plan 10 th Plan 11 th Plan for 12 th Plan end of 12 th Plan for 13 th Plan 13 th Plan HVDC +/- 500 kv (Ckm) 3,138 5,872 9,432 7,440 15,556 4,280 19, kv (Ckm) 971 2,184 5,250 27,000 31,240 27,300 58, kv (Ckm) 49,378 75, ,819 38, ,787 46, , /220 kv (Ckm) 96, , ,980 35, ,268 28, ,268 Total Transmission Lines (Ckm) 150, , , , , , , kv (MVA) , , , , , kv (MVA) 60,380 92, ,027 45, , , , /220 kv (MVA) 116, , ,774 76, ,958 75, ,958 Total AC Substation (MVA) 176, , , , , ,000 1,013,265 HVDC Bipole + Monopole (MVA) 3,000 5,000 6,750 12,750 19,500 14,000 33,500 HVDC Back to Back (MVA) 2,000 3,000 3, , ,000 Total HVDC Terminal Capacity (MVA) 5,000 8,000 9,750 12,750 22,500 14,000 36,500 Total Substations Transformation Capacity (MVA) 181, , , , , ,000 1,049,765 CHOICE INSTITUTIONAL RESEARCH 18

19 Indian power sector overview (Contd ): In spite of this strong growth in the T&D segment, there has been significant under investment in the transmission sector as compared to the generation sector. Historically, the generation segment has dominated investments in the Indian power sector. Of the total power sector investments, more than 60% are for the generation sector, while the transmission and distribution segments have lagged with approximately 20% of the total investments. With the government s focus on alleviating congestion through several grid enhancement projects, transmission capacities are expected to witness robust growth. It is expected that the transmission segment share in total power sector investments will rise sharply to 33% over FY17-21 from 20% over FY Thus, investments in the transmission segments are expected to increase 1.5x over FY17-21 as compared to the previous five year period. With such large additions, the estimated investment in the transmission sector is expected to be around Rs. 3.2tn over Investments in the sector are expected to be driven by the need for robust and reliable inter and intra state transmission system, to support continued generation addition, a strong push for renewable energy sector and rural electrification. Increase in the tariff based competitive bidding (TBCB) pipeline and the rising private-sector participation with favorable riskreturn profile of transmission projects will also support growth in investments. In fact, in the 13th NEP, private investment in the power transmission sector is expected to be approximately 20% of the total investment, compared with an estimated 10% in the 12 th NEP. Total investment in the 13 th NEP is expected to be at around Rs. 2.6tn. To facilitate the transfer of power between the neighboring states, state grids are inter-connected through high voltage transmission links to form a regional grid. There are five regional grids in India, namely, northern, western, southern, eastern and north-eastern regional grid. As peak demand for power does not take place at the same time in all states, it results in a surplus in one state and a deficit in another and this mismatch has been facilitated by regional or inter-state grids. Additionally, this also facilitate the optimal scheduling of maintenance outages and better coordination between power plants. (Source: India Grid Trust RHP) Key growth drivers for power transmission: The following points are the key growth drivers for power transmission in India: Widening gap between inter-regional power demand-supply to drive transmission capacity additions Strong government support to drive transmission investments Up gradation of existing lines Strong renewable energy capacity additions to drive transmission capacity Conventional power generation capacity additions to necessitate connected transmission capacity Cross border power trading in south Asian countries Key policy initiatives by the government: A. Ujwal DISCOM Assurance Yojana (UDAY) for financial turnaround of power distribution companies (DISCOMs): The weakest link in the value chain is distribution, wherein DISCOMs in the country have accumulated losses of approximately Rs. 3.8tn and outstanding debt of approximately Rs. 4.3tn (as on Mar. 2015). Financially stressed DISCOMs are not able to supply adequate power at affordable rates, which hampers quality of life and overall economic growth and development. Efforts towards 100% village electrification, 24x7 power supply and clean energy cannot be achieved without performing DISCOMs. In addition, default on bank loans by financially stressed DISCOMs had the potential to seriously impact the banking sector and the economy at large. Due to legacy issues, DISCOMs were trapped in a vicious cycle with operational losses being funded by debt. Outstanding debt of DISCOMs has increased from about Rs. 2.4tn in FY12 to about Rs. 4.3tn in FY15, with interest rates upto 14-15%. In Nov. 2015, the Union Cabinet gave its approval to a UDAY scheme. The prime objective of the scheme was the financial turnaround and revival of DISCOMs, and importantly also ensures a sustainable permanent solution to the problem. Also it will help in providing affordable and accessible 24x7 power for all. CHOICE INSTITUTIONAL RESEARCH 19