Cummins: Near-term headwinds dent investor confidence

Outlook for exports remains tepid, faster domestic growth and rebound in margins are key for stock

The Cummins stock has lost more than 12 per cent in two trading sessions to Rs 930 levels, and for good reasons. For one, the company’s performance for the quarter ending March (Q4) disappointed on lower exports while declining margins, too, failed to impress. Moreover, the outlook for the export business in FY18 remains soft. And, these could weigh on sentiment in the near-term.

Chairman and Managing Director Anant J Talaulicar, in the results release, said export markets continued to disappoint based on the global economic scenario. “In particular, the demand for our low-kilowatt generators has continued to soften based on difficulties that some of the economies are experiencing in the West Asia, Africa, Europe and Asia,” he said.

Exports are likely to remain subdued in subsequent quarters, too. The management has guided for flat to a five per cent decline in exports during FY18 to analysts. 

In the domestic arena, the unfavourable product mix is said to have impacted margins further. Analysts at Jefferies say their channel checks suggest Cummins has gained share in the domestic low-horsepower (HP) market. Thus, while exports saw a decline, low-HP engines being low margins led to further pressure on profitability. 

The company said the product mix was unfavourable in Q4, which had an adverse impact on profitability. The management believes savings from cost rationalisation measures undertaken should lead to margins rebounding, something the Street will closely watch.

But, there are silver linings too. Cummins’ domestic business performance (about three-fourths of overall revenue) remains strong and all its divisions such as industrial, power generation, power distribution and automotive, have seen 13-33 per cent y-o-y growth in revenue. Though analysts are not too positive on growth in the power generation business, they are optimistic about the industrial segment’s growth in light of the government’s thrust on infrastructure. In Q4, construction, mining and railways had driven the industrial segment’s revenue growth of 33 per cent.

While domestic growth is positive, subdued export outlook has led analysts to tweaking their forward earnings estimates. Analysts at Kotak Securities have turned sceptical on profitability (tweaking FY18/FY19 Ebitda margin by 15 and 20 basis points downwards) due to soft exports outlook.

Analysts at HDFC Securities expect tepid revenue CAGR of 7.2 per cent over FY17-19, though they say a revival in the private sector manufacturing capex could provide an upside to Cummins’ revenues. Thus, a faster-than-expected growth in the domestic segment and improvement in margins are key to a rebound in Street sentiment.