EKC

Investors can consider phased exposure to the stock of Everest Kanto Cylinder, a high pressure cylinder manufacturer. At the current price of 97, the stock trades at 11 times its expected consolidated per share earnings for FY-12. The jump in volume sales in India and in its Dubai unit, lower costs of operations anticipated for new capacities and depletion of high-cost inventory augur for improvement of earnings from FY-12. Investors would need at least a two-year perspective to benefit from macro opportunities arising from CNG city gas distribution and Euro IV norms. Given the present market volatility, the stock can be accumulated in phases, on dips.



Everest Kanto has been an underperformer in the market with the stock declining close to 30 per cent year to date. The economic slowdown resulted in fall in international demand and a consequent sharp decline in net profits in FY-10. Revenue from overseas operations accounted for over 50 per cent that year. However, there has since been a steady revival in certain regions such as Dubai, India (India accounted for 57 per cent of revenue in September) and China.

The September quarter numbers demonstrated strength in top line and earnings. Sales for this quarter expanded by 40 per cent over a year ago, pushing it back to profits from losses.

While this growth has been bolstered by revenues from high-margin jumbo cylinders, improvement in overall volumes and higher realisation over a year ago, as well as sequentially have aided growth. Volumes expanded 68 per cent sequentially to 2.1 lakh in the latest ended quarter, while average realisation rose 32 per cent. However, jumbo cylinders partly accounted for the sharp jump in realisations. Stabilisation in prices rather than steep increases may be a more realistic expectation.

Lower costs

At its present Gandhidham unit, the company has commissioned additional capacities of 2,00,000 cylinders using the billet-piercing process. Cylinders can typically be made using billets/plates/pipes, the later being most expensive. Billets are expected to be 40-50 per cent cheaper than seamless tubes and can be procured locally.

Internationally, Faber Industries is known for this technology and Everest Kanto may be the first to adopt this in India. This, together with the impending Kandla unit (tax incentives as a result of being in special economic zone), is likely to ensure lower cost of production for the company incrementally. EBITDA margins (excluding other income) at 19 per cent now may, therefore, improve.

Everest Kanto has seen a significant improvement in its Dubai operations, what with volumes jumping 64 per cent year on year. This segment is the second largest contributor to revenues. As the unit's capacity is booked for the next two quarters, this revenue stream could drive FY-11 revenues.

However, volumes in its US and Chinese operations, although expanding sequentially, remain lower than a year ago. The jumbo cylinders in China and the US, despite lower volumes, provide superior profit margins.

Locally, while demand from retro-fitters has improved, original equipment manufacturer (OEM) demand remains poor. The Petroleum Ministry's plan to bring CNG network to over 200 cities by 2015 would increase demand for CNG cylinders (by automobiles). Everest Kanto being a market leader in India may be well placed to tap this. Also, the implementation of Euro IV norms for vehicles could significantly improve OEM volumes. These two factors nevertheless, remain only long-term drivers.

Risks

Everest Kanto's earnings may swing as a result of forex fluctuations despite hedging. Mark-to market losses may therefore appear to pull down bottom line from time to time. Steep hike in cost of raw materials, whether billets or tube can hurt margins. For the quarter ended September sales stood at Rs 204 crore, while net profit was Rs 25 crore.