India Nippon Electricals

Two-wheelers have always enjoyed commuter preference in India and it is a segment whose growth in terms of production and sales has constantly outpaced other segments. Between April and December 2009, two-wheeler sales expanded by 23.7 per cent, while production rose 22 per cent compared to the corresponding previous period.

While stocks of two-wheeler makers have seen a sharp re-rating in a year, makers of their components continue to trade at reasonable valuations. India Nippon Electricals (India Nippon), manufacturer of electric ignition systems, is one such case. At Rs 217.70, the stock discounts its trailing four quarter earnings nine times. India Nippon caters mainly to the needs of two-wheelers and the widespread customer base is the biggest positive for the company.

The business

India Nippon is a joint venture between Lucas Indian Service, a wholly-owned subsidiary of Lucas-TVS, and Kokusan Denki, Japan, a group company of Hitachi. India Nippon manufactures electronic ignition systems for two-wheelers, three-wheelers and portable engines. TVS Motors is one of its important customers. However, the company has a sizeable exposure to other manufacturers such as Hero Honda and Bajaj Auto. These three companies, along with Honda Motorcycles and Scooters, account for 70 per cent of India Nippon's business. It also supplies electric ignition systems to other bike-makers such as Yamaha Motors and Royal Enfield.

In the three-wheelers space, India Nippon's major customers are Piaggio and TVS Motors, while Honda SIEL Power and Birla Power Solutions are the main customers in the genset space. Recently, the company entered a new line of business to supply external combustion units for diesel passenger cars and has a contract with Tata Motors for the same.

The two-wheeler segment remained relatively unscathed even during the slowdown in 2008 and since April 2009, almost every sub-segment within this space has grown 10-12 per cent year-on-year.

This is a positive factor for India Nippon. Though the technology in three-wheelers is not very different from that of two-wheelers, the company's ability to cater to clients such as Piaggio and TVS Motor makes it independent of just one segment. Three-wheeler sales have grown by 23.7 per cent between April-December 2009.

The ignition system is one of the critical components in two-wheelers, three wheelers and portable engines, as it provides the initial power to start the engine, the continued spark that keep the engine running and is responsible for a safe shut-down operation. With an increase in buyer expectations and a fall in the costs related to the technology (electronic ignition systems) it is increasingly becoming imperative for many two-wheeler manufacturers to incorporate this component in their vehicles.

Moreover the cost differential is also relatively low now, thereby not affecting the affordability of the bike or scooter.

Electronic ignition systems can also play a key role in improving fuel efficiency and lowering the emission levels of the two-wheeler.

The probable flip factor for India Nippon is its absence in the replacement market and the company is trying to establish a direct presence in the after-sales market. The after-market for a component like electronic ignition systems has been traditionally been limited, and it is only in the recent years that the replacement demand for the components has reached a critical size.

Strong Financials

In year a when most auto part-makers saw a huge shrinkage in both revenues and profits, India Nippon remained relatively resilient. The company saw its top-line grow by 6 per cent in 2008-09. But with product mix, pressure on pricing and profit margins, profits declined by 22 per cent during the year. Recovery since then has been quite strong. The company ended the half year September 2009 with sales of Rs 80.59 crore and net profits of Rs 10.64 crore, sales growing 22 per cent and net profits 76 per cent. Improvement in sales volumes and realisations are the primary drivers behind this growth.

Input costs, which account for nearly 74 per cent of the sales, began to inch up from April 2009 and the latest quarter saw a 11 per cent increase in raw material costs. Currently the company operates at comfortable operating profit margins of 17 per cent.

Being a component maker, India Nippon has limited scope to pass on input costs pressures to its customers and, going forward, the company may have to absorb some of this cost into its margins. This may weigh on its operating profits in the coming quarters. India Nippon will, therefore, have to focus on increasing its sales volumes to mitigate this problem.

Other risks

India Nippon is a small-cap stock with thin volumes being traded at the stock exchanges. Investors may have to hold on to this stock for a longer duration to enjoy returns in the 20-25 per cent range. Investors are advised to book profits once these targets are achieved.

via BL