Q4FY23 Review: CEAT: Margin spike drives EPS upgrade

8 May 2023 , 11:36 AM

CEAT’s Q4 Ebitda came in 29% above our estimate as the benefit of fall in commodity prices was much more than anticipated. CEAT’s Q4 margins (~13%) are higher than long-term average (~11%). Mgmt expects RM to be stable in Q1FY24, with possibility of rise towards the end of the quarter. This implies that margins may not improve from Q4 levels, on a sustainable basis. Yet, higher margin assumptions lead to 33% and 15% upgrade to FY24 and FY25 EPS respectively. One concern with CEAT has been lack of FCF generation.

Q4 Ebitda beat by 29% on lower input costs: 

Q4 revenue grew 11% YoY (6% volume; 5% pricing) and came in 2% above our estimate. Gross margin (GM) expanded 560bps QoQ to 40.1% due to lower input costs. Ebitda margin improved 410bps QoQ to 12.8% (270bps beat). Absolute Ebitda came in 29% above our expectations. PAT came in at Rs1,423mn vs IIFL Capital Services estimate of Rs748mn.

Margins may not improve further on a sustainable basis: 

The margin surprise in Q4 was due to higher-than-expected fall in raw materials. The RM basket fell 8-9% QoQ, much more than the guidance of 2-3% fall (given in Q3FY23 call). Mgmt expects RM basket to stay flattish in Q1FY24, with possibility of a rise towards the end of the quarter. While crude price has fallen, some of the crude derivatives have not fallen to the same extent. Indian natural rubber has bounced back almost 10% vs average in Q4FY23. Historically, above-normal margins in the tyre sector have reverted back to mean or lower, due to rise in commodity prices and/or price-cuts by tyre-makers. Hence, our FY24/FY25 margin assumptions are lower than Q4FY23.

Lack of FCF generation remains a concern: 

CEAT’s history of FCF generation has been weak. Given relatively low margins, CEAT’s OCF has been barely able to meet capex requirements. Despite improvement in margins, mgmt does not expect debt reduction in FY24. Higher margins would be offset by capex and normalisation of working capital (cash outflow). Beyond FY24, analysts of IIFL Capital Services expect capex needs to rise as CEAT would breach the revenue potential of its existing assets; this should keep FCF relatively muted even in FY25.