Analysis: Balkrishna Industries Limited

This article on Balkrishna Industries Ltd contains contributions by Chetan Chhabria and Ashish Malhotra, regular readers of www.drvijaymalik.com.

Chetan has spent a lot of time studying Balkrishna Industries Ltd (BKT). He has studied multiple sources of information about the company and its industry including the annual reports, investor presentations, conference call transcripts and news articles.

Chetan has collated his learning about Balkrishna Industries Ltd and its industry in the form of a document. He has shared the article for the benefit of the author and readers of www.drvijaymalik.com

The article by Chetan is an excellent piece of work for learning about the off-highway tires (OHT) & off-the-road (OTR) tires industry and about Balkrishna Industries Ltd. It contains vital data points about the industry and its major players with the market position of Balkrishna Industries Ltd. 

The article contains segmental information about the OHT and OTR tire industry with comparative advantages of each segment. It contains information about the factors affecting the business dynamics like raw material prices and their price cycles. The article contains snippets from the media articles as well as interviews with industry experts.

The article provides a vital chronological source of information for learning about the developments at Balkrishna Industries Ltd. It is akin to reading the life story of Balkrishna Industries Ltd. from FY2009 to FY2015.

I appreciate the hard work done by Chetan while studying Balkrishna Industries Ltd. and the gesture of sharing his knowledge. I thank Chetan on behalf of all the readers and wish him the best for his investing journey.

Balkrishna Industries Ltd (BKT) Research Report by Readers (Chetan and Ashish)

Off-Highway Tires (OHT) & Off The Road (OTR) Tires Industry

The off-the-road (OTR) tires segment is influenced by sectors such as coal mining, construction and infrastructure, hence market can fluctuate depending on where these sectors are heading, as it happened in 2012 & 2013. OTR radial tyres are being launched; hence, products are key to the success of OTR players. In addition, the dealer base also is the key. (Yokohomo interview 2014).

Article – OTR tires never tire (www.nbmcw.com) – November 2013

• According to Kunal Mundra Ceat Ltd:

“OTR tires are highly customized and engineered products. This in turn means that they require extensive R&D investments”. He adds, “The priority for customers can vary significantly and CEAT’s USP is a broad portfolio that has the right tire for the customer. We do not believe that one-size-fits-all, and hence are constantly working with customers and OE manufacturers to better understand their needs and fold that into our product development.” 

• This point answers why tire manufacturers have a broad portfolio. 
• Apollo Tyres Ltd has one of the lowest CPH (cost per hour) in the OTR industry. 
• Balkrishna Industries Ltd (BKT) – spends 3-4% of its topline on R&D, and develops 150-160 stock-keeping units (SKUs) in a year. It is the first company in India to produce all steel radial tires. 
• Balkrishna Industries Ltd’s emphasis on quality and product is emphasized by the quote below:

“The prime feature of our tires is the value-for-money which translates into an economical cost of life. Secondly, we sell you a service rather than a product. We use high quality raw materials to manufacture OTR Tires, which are produced with most advanced technologies and state-of-the-art machineries. Importantly, we strongly adhere to rigorous quality control mechanisms and each product passes through 450 stages of tests, and the end result is for everyone to see in the form of tires that are tough, durable, long lasting, and fuel efficient”

• Nature of OTR domestic tire industry – competitive, highly concentrated and catered by top-notch players.
• Indian industry has adopted technological upgradations, which is due to the tie-ups with foreign players. 
• Fortunes of the OTR tire industry are tied up with coal, infrastructure, construction and heavy industries. A slowdown in these industries affects the OTR industry. 
• OTR tire industry is a niche industry, where the end-user needs a customized product; hence, the manufacturer has to understand the client’s requirement and then tailor-make the product. 
• Mechanization of the agriculture sector will help the OTR tire industry. 

Article on Balkrishna Industries Ltd: one-stop shop for off-highway tyres solutions (www.nbmcw.com) – Nov 2011:

• Target to achieve a 10% market share in the off-highway tire (OHT) market by 2015 
• 150-160 new SKUs every year with the lowest turnaround time of 8-10 weeks. 
• Qualities that have elevated Balkrishna Industries Ltd to the top of the global market: latest technology in R&D processes, blending with high-quality material and unmatched manufacturing processes. This is supported by efficient after-sales service and a dealership network. 
• Sales target of USD 800 million each year. 
• 95% of Balkrishna Industries Ltd’s tires are sold in the global market and 50% of them are sold in Europe. 
• Presence in 120 countries and is the largest tire exporter out of India. 
• 1900 SKUs make Balkrishna Industries Ltd a sought-after brand offering a one-stop-shop to its distributing channel across the globe. 
• Insistence on quality – the company uses only top-class raw material (RM) procured from the top suppliers in the world, thereby not compromising on quality. 
• Each product has to go through 450 testing stages during the entire manufacturing process, which brings out the best quality tires in terms of the lowest claim ratio in the industry. 
• Offers tires in various weight variants starting from less than ½ kg to 2,100 kg and rim sizes ranging from 5 inches to 54 inches; making the most sought-after choice for original equipment manufacturers (OEMs). 
• The range of products varies from conventional cross-ply tires to the latest & sophisticated polyester radials, all steel radials and tires for defence applications. 
• Balkrishna Industries Ltd’s R&D and testing mechanism is the best in the industry. It is also associated with European testing facilities ensuring that its products adhere to the stringent and demanding applications.

BKT: Builds global empire via quality consciousness – November 2013:

• Presence in industrial, construction and agricultural tire segments 
• Coal India Ltd is among the world’s largest OTR customers to which Balkrishna Industries Ltd caters 
• Uses only high-quality raw material (natural rubber) 
• The current market share is 5% in the global market. Balkrishna Industries Ltd wants to raise it to 10% by 2015. 
• The current market share in India is negligible but Balkrishna Industries Ltd intends to get a 10% share. India is the future of the company. 
• Greenfield project in Bhuj (Gujarat) will focus on developing a wide range of BKT’s radial and bias tires. This facility will produce ultra-large and giant OTRs up to 51” rim diameter 
• First tire company in the country to manufacture the all-steel radial OTR tires. Tires in this segment range from 20” to 51” 
• Competition is with global tire makers. R&D is a norm in the company and not an initiative

Off-highway tyres: makers foresee growing volumes – Dec 2014:

• Increased focus of the government on infrastructure development, off-highway tire manufacturers expect demand to rise. 
• Future demand will be characterized by requirements of valued products and services from construction equipment owners, so as to have higher uptime and minimal cost of operations 
• An increment in volume is seen because of positive projected growth in the infrastructure sector across the construction-equipment (CE) value chain. Volume-based demand is also expected from OEM manufacturers 
• Indian CE industry is evolving with higher mechanization of applications and is moving towards more sophisticated and application-specific machines 
• There is a growing requirement for lower tyre unit replacement and commensurate higher equipment uptime 
• Off-highway tire market is highly price-sensitive. Hence, tyre makers need to have a strong R&D process for catering to various applications and sizes. In addition, this needs to be backed by timely product distribution and support. 

Forbes Article – Yogesh Mahansaria’s second coming with Alliance Tires – Sep 2013 – (Great insights into the industry):

• If there was a list of “non-sexy” businesses in the world, manufacturing off-highway tires would be one of them. (Warren Buffett likes non sexy/boring businesses) 
• According to Mahansaria, there is a billion-dollar opportunity in off-highway tires and he is only halfway there 
  Off-highway tyre market is a USD 9 billion industry globally, about 10% of the global tyre market 
• These tyres are big from 2 to 10 feet high and heavy ranging from 15kg to 1000kg per tyre 
• Manufacturing is labour-intensive and companies need to have a huge number of SKUs (number of size variations in the same basic product). 
• The industry comprises several verticals: tires for agriculture, construction, forestry, mining, ports & aviation equipment. Alliance Tires operates in agriculture, construction and forestry segments. 
• Farm mechanization will help the off-highway tyre manufacturers 
• The infrastructure needs of India, Russia and Brazil are growing setting aside business cycles 
• Very few people are interested in making off-highway tires. The Bridgestones and the Michelins of the world prefer to focus on passenger, commercial and mining tyres. In the last 5 years, the market share of big players has dropped to 35% from 50%. 
• Because this is a low volume, high SKU business, no Chinese player is interested. 
• Even if the industry grows at a 2-3% compounded annual growth rate (CAGR), for a USD 9 billion industry, it means an incremental market of USD 160 million each year. In 5 years, that market is a billion dollars. If Michelin, Bridgestone and Goodyear are not increasing their capacity, it is a big addressable market for the current players. 
• Brand, distribution and product library are significant competitive barriers in this business

WORLD OF TIRES

The Wheel of Fortune: Yogesh Mahansaria’s nurturing has taken Alliance Tire places – Forbes India, October 2014 – (Good insights to the industry):

• Created the world’s fastest agro-transport tyre – innovation and R&D is a key element in this industry 
• SKU of 2,600 tyres and sales to over 120 countries 
• Alliance Tire Group (ATG) has grown at 10-15%, while the USD 12 billion industry is only growing at 3-4% 
• The reason for the sustained growth of ATG is a solid need. According to him: 

“nobody is buying our tyre because he feels like it – he is buying it because he needs to get a job done and his productivity will suffer if he doesn’t get his job done. Unlike when you’re buying tyres for your car or for your bike, which is more of an emotional purchase, this is more of a business decision—a rational decision.” 

• KKR bought 80% of ATG from Warburg Pincus for an undisclosed amount (approx. USD 650 million) 
• Alliance Tire Group had revenues of INR 3,450- 3,600 cr in 2014, similar to that of Balkrishna Industries Ltd 
• Key to ATG’s success has been leveraging each country’s competitive advantage and avoiding cost overlaps 
• One of the challenges to the industry is that the cost of a stable power supply in the country is unpredictable. However, this is changing. The cost of creating one unit of capacity is 50-60% of anywhere in the world. In Europe, it is 3-4x as much as in India, in South East Asia, it is 25-30% higher 
• Alliance Tire Group is buoyed by the changes it sees particularly in the country’s port infrastructure, which critical for exporters 
• It is advantageous for companies operating in this industry to have a factory near a port as the logistics costs are huge. “It costs more to send a tyre from Tirunelveli to Delhi than London” 
• There is a clear 3-4% operating cost benefit if a company is situated near a port 
• ATG’s sales from Europe and the USA are 40% each. For Balkrishna Industries Ltd it is 54% and 19% respectively. BKT’s India sales are 10% of the mix, whereas for ATG the number stands at less than 5% 
• The market leader in the off-highway tire market is USA’s Titan with sales of USD 1.2-1.4 billion. 
• India’s BKT, Czech-based Mitas and Sweden’s Trelleborg have sales of around USD 800 million. 
• A threat to the industry, which is linked to the state of the global economy, is the volatility in raw material prices. Rubber prices in India are 30% higher than the prices in the global markets, due to the inverted duty structure in India. In spite of the rubber available in Kerala, which is 300 km from ATG’s plant, it has to import rubber. International rubber prices are falling to the levels at which farmers no longer have the incentive to produce. 
• Despite the challenges mentioned above, ATG’s sales have grown from USD 200 million to USD 600 million. 
• Nurturing a brand of off-highway tyres involves delivering real cost-saving value to the end users while actually selling to dealers and distributors and thus remaining a B2B rather than a B2C business.  

“A lot of construction sites on which our tyres are used are very tough environments,” says Mahansaria, “so if you can engineer a product which leads to lower downtime and less punctures, that itself is value.” 

• ATG plans to reach USD 1 billion in sales by 2018. 80% of sales come by replacement, and to know replacement demand, there are field offices that the company has set up to assess the demand 
• ATG has spent USD 1 million to set up its field office team 
• ATG has 10 new products to offer to its customers every month 

What makes Balkrishna Industries confident of achieving higher market share amid competition from Michelin, Bridgestone and continental – Economic Times – April 2014:

• The current market share of Balkrishna Industries Ltd is 4%. It plans to increase it to 8-9% over the next 4 years 
• Two-pronged strategy: Balkrishna Industries Ltd plans to enter into new geographies – Russia, Canada, CIS & West Coast of the USA and increase its exposure to tyres in the OTR segment. 
• USD 15 billion industry, which is growing at 4-5%. Global players such as Michelin, Bridgestone and Continental hold up to 60% market share 
• In the OTR tire industry, Balkrishna Industries Ltd has less than 2% market share. Globally OTR accounts for about 2/3rd of the off-highway tires (OHT) market 
• Balkrishna Industries Ltd’s total sales volume/OTR sales volume is expected to reach similar levels of global players 
• The company plans to increase its sales to OTR vehicle makers. The ratio of sales to OTR vehicle makers has inched up to 19-20% of sales from 12% earlier 
• The company offers a 20-25% discount in the OTR tyre segment compared to the global players

Indian Tyres outlook – Indira trade report – November 2014 – (Not a well-written report)

• India has 40 large & medium tire manufacturing companies, of which the top 10 accounts for 90% of sales 
• During 2013-14, the industry had a turnover of INR 47,500 Crore with 123 million tires. Demand from the replacement market was modest, whereas demand from the OEM market grew by 2-4% 
• Industry revenues have grown by 6% on the back of improvement in product mix, Ltd price discounting despite a fall in input costs and better realization in the export markets 
• Industry is expected to grow by 11% CAGR in the next 3-4 years. Revenues are expected to grow to INR 62,700 cr by 2016-17. For FY2015, revenues will grow by 8% to INR 49,300 Cr 
• Key raw material for the tire industry is natural rubber, carbon black, nylon tyre cord fabric and rubber chemicals. 
• The price of natural rubber constitutes around 44% of total raw material costs 
• Rubber prices in the domestic market are INR 127/kg, prices of this RM have been going down for the last 2-3 years. Prices have corrected 27% YoY due to weak demand and lower prices in the international market. International prices have gone down because there has been a slowdown in demand from China, which is the world’s largest consumer of rubber, and oversupply in markets like Thailand 
• Other RMs are impacted by crude oil prices, which is also currently favourable to tire companies 
  India’s replacement tire segment constitutes more than 50% of the market. Margins are also higher in this segment. 

Balkrishna Industries Ltd (Company Analysis)

• Headquartered in Mumbai, founded in 1987 
• 6% market share in the off-highway tire industry (OHT) 
• Four subsidiaries in Europe and North America, 5 production sites in India 
• Leading manufacturer of the off-highway tire market (OHT). 
• Serves both original equipment manufacturers (OEM) and replacement market 
  Caters to special segments – agricultural, and industrial vehicles as well as earthmoving, construction, port, mining, ATV and gardening applications 
• Tire line-up of 2,300 products 
• Invests 3.5% of sales on R&D 
• Develops and produces 60-80 BKT tires every year 
• Presently, the average time to market for a new BKT tire at a global level is 6-8 weeks only

FY2009 

Annual Report FY2009:

• FY2009 was a year of volatility, and wide fluctuations in different aspects of the business environment, raw material prices, interest rates and exchange rates. 
• More than 90% of production is exported, hence global conditions do affect this company 
• Gross profits have fallen drastically to 20%, due to fluctuations in raw material prices and exchange rates 
• Capex for the OTR radial plant has been deferred due to uncertain global conditions 
• The global meltdown has caused recession across the world and this industry/company will also be affected 
• Prices of key raw materials like natural rubber, synthetic rubber and carbon black are an area of concern 
• The industry in which Balkrishna Industries Ltd operates is represented by large varieties and low volumes, which makes it unattractive for new entrants. It is both a capital-intensive and labour-intensive industry. It is a segment that restricts optimal capacity utilization because of the large variety and low volume– (a source of competitive advantage) 
• The segment is not exposed to technological obsolescence. (Warren Buffett also likes companies where there is no rapid change in technology) 
• The company can take advantage of radicalization. 
• The major raw material (RM) for the company is natural rubber, which is an agricultural commodity and prices of which have moved up significantly moved up this year 
• Prices of other RM also have moved up sharply and these levels have never been seen before, this is due to an increase in crude oil prices 
• Balkrishna Industries Ltd enjoys pricing power; however, it is not possible for the company to pass on price increases immediately and fully. 
• In order to minimize price fluctuations company enters into medium contracts and adopts the buy and stock of large quantities during the lean period 
• The nature of manufacturing requires Balkrishna Industries Ltd. to have skilled and unskilled workers. 
• Risk of currency fluctuation – Balkrishna Industries Ltd exports 90% of its production and also imports RM. The company enters into forward contracts, negating the fluctuation in currency.

FY2010

Annual Report FY2010:

• 12% growth in revenues over the previous year. 
• Balkrishna Industries Ltd has posted the best gross margins. FY2010 is considered the best year for the company. Gross profits have increased from INR 164 cr to INR 378 Cr, a growth of 130%, this is due to low input costs 
• Current year capex at INR 133 Cr. The company has decided to incur a cost of INR 900 cr to set up a plant in Bhuj, Gujarat 
• Balkrishna Industries Ltd is aiming at sustainable growth by developing new product lines, venturing into new geographies and deeper penetration into existing markets. The company has announced capex to increase production base 
• FY2011 margins will be under pressure as input costs have gone up. The reason for input costs to go up is speculation and liquidity in the market. The company has taken price hikes, however, these increases may not be enough 
• Balkrishna Industries Ltd is in a position to take advantage of the shift to radial tyres. The company has set up an all-steel OTR radial tyre plant in Chopanki, the first of its kind in India 
• Very hard to predict the prices of raw materials 
• 90% of the netblock is in plant & machinery (INR 427.37 Cr) and buildings & roads (INR 151 Cr). 
• Inventories have gone up by 63% from INR 133.25 cr to INR 217.73 Cr. A closer look at the schedules shows that raw materials’ stock has gone up to INR 145 cr from INR 58 Cr. (Looks like the management is building up inventory in anticipation of higher input prices. This is also confirmed in the MD&A section) 
• The company is providing provision on taxation at INR 266 cr versus INR 182 Cr.

FY2011

Conference Calls (Concall) Details Q3FY11:

• Tough quarter on account of increasing rubber prices. Usually prices of rubber in the 3rd quarter witness the lowest rubber prices. The reason for the upward movement in prices is due to erratic climatic conditions in major rubber-producing countries 
• Balkrishna Industries Ltd has taken three price increases in the last 12 months. Prices were increased in Jan 2010, June 2010 and Jan 2011, cumulatively leading to a price increase of 20-25%. This has cushioned the fall in operating margins to a great extent 
• Demand is buoyant- orders are being placed by OEM manufacturers, automotive demand is coming back and the replacement demand is also picking up 
• The company has an order book of 34,000 MTPA, which is equal to 3.5 months of sales.
• Volume growth of 37% over nine months and total revenue growth of 50% 
• Sales break up 12% from OEM and distributors, 6% OPEC and 82% from replacement market – volume and value same breakup 
• The working capital cycle is 3 months, debtor days are at 60 days and inventory days are at 90 days. 
• Pricing is by and large on a six-monthly basis, there is a lag effect in passing on prices to customers 
• The company looks at rubber prices both in the Indian and international markets and then places orders 
• Demand from North America is strong with sales at 16.5% 
• The average price of rubber is $3,500, current international price is $5,700. 
• Prices in Europe, Australia and New Zealand prices are on the date of delivery. In certain countries, they have fixed contracts. For about 60-65% of contracts, Balkrishna Industries Ltd will get the benefit of price increases and gradually they will get full price benefits for all sales 
• Interest cost is only 3% because borrowing is in foreign currency 
• The peak production cycle of rubber is between August to January 
• Average life of tyres – 3 to 5 years 
• The company enjoys a world market share of 3% 
• Leaders have a price premium of 30-35% over BKT

Conference Calls (Concall) Details Q4FY11 (no transcript only audio):

• Revenue growth of 31% QoQ (INR 582 Cr), EBIDTA at INR 99 cr, PAT for current quarter INR 52 Cr 
• Volumes of 30,586 MT versus 20,282 MT compared to the previous quarter 
• Two price hikes were taken in June 2010 and January 2011 to negate the hike in RM prices 
• Market sentiment is buoyant, replacement demand is high. OEM orders are increasing 
• High growth in sales across all geographies. Sales for the complete year are 111,545 MT, a 32% growth YoY. 
• Order book of 60,000 MT, equal to 5.5 months of sales 
• The current price of rubber is INR 5,200. The company expects rubber prices to soften further 
• 30% price difference between the market leader and BKT 
• The cost of loans is 3% on ECB. The overall cost to the company is 2%. All loans are in foreign currency 
• Increase in US share to 23% of total volumes, 47% in Europe 
• Added 10-15 distributors in the USA 
• ROCE of the tyre industry is 13-14% however BKT is 25%.

Annual Report FY2011:

• Top line growth of 42%. Turnover now stands at INR 2,013 cr versus INR 1,413 Cr in FY2010. An increase in RM and other input costs has resulted in a decrease of the EBIDTA from INR 396 cr to INR 371 Cr. PAT stood at INR 186 cr versus INR 207 Cr 
• Balkrishna Industries Ltd. is seeing continuity in demand across the globe. RM and other input costs have started softening; however, they are still on the higher side. Margins will improve if the softening of RM costs continue 
• 84% of the netblock is in plant and machinery (INR 446 cr) and buildings and roads (INR 151 cr) 
• Increase in inventories by 95%. RM stock has gone up 133% from INR 145.34 cr to INR 338.57 Cr 
• Observation after looking at the common size balance sheet – Fixed assets as % of total assets are on a decline, down from 72% in FY09 to 64% in FY11. This is primarily due to a fall in tangible assets. On the other hand, current assets have increased from 28% in FY09 to 36% in FY11, primarily on the back of an increase in inventories from 10% to 19% 
• A look at the common size liability and equities section shows that the split between shareholders’ funds and liabilities is 40/60. However on close observation, there is a short-term provision item of 17% that is part of the liabilities section – does not give the correct picture, prepare reformulated balance sheet 
• Contingent liability of INR 650 cr, which was not present in the previous year. 
• INR 7 cr remuneration to managers, which is 4% of net profit. 
• Revenue break up  India 20% (INR 444 Cr) Europe 42% (INR 937 Cr), North America 15% (INR 336 Cr), Others 22% (INR 499 Cr)

FY2012 

Investor Presentation (Q1-FY2012) (August 2011):

• Leading exporter of off-highway tires 
• 126,000 MTPA (Metric Tonne Per Annum) capacity, Production of 111,545 MT
• Market presence in over 120 countries 
• The target of USD 1 billion in revenue by 2015 (about INR 6,200 cr) – (Company could not meet this target) 
• Last 5 years, the company has grown by 30% CAGR 
• More than 200 distributors 
• Revenue break up – Europe (47%), America (23%), Asia (17%) and the rest of the world (ROW: 13%) 
  Agriculture tires (65%), OTR (29%) and others (6%) 
• Supplies to companies like Volvo, Ferrari, JCB and John Deere 
• Expansion of 90,000 TPA capacity in Bhuj Gujarat at an outlay of USD 275 Million (about INR 1,700 cr) 
• Key raw materials used are rubber – 48%, other materials – carbon black – 27%, chemicals – 16%, fabric – 6% and bead wire – 3%. Other materials are derivatives of crude oil 
• 11% of revenues are from India, mainly, from the OTR segment. Growth in Indian infrastructure and mechanization of the agricultural sector will benefit the company 
• Balkrishna Industries Ltd. in India is tying up with new OEMs and establishing newer distribution networks 
• EBITDA margins in FY2011 were 18.36% versus 27% in FY2010. The reason for the decline was an increase in RM costs. 
• PAT margins of 9.23% in FY2011 versus 15% in FY2010 
• Guidance of FY12 – 130,000- 135,000 MT (Balkrishna Industries Ltd achieved this target by selling 133,040 MT)

Investor Presentation (Q2-FY2012) (October 2011):

• The current achievable capacity of 144,000 MTPA 
• 9% of revenues from India 
• The investor presentation in October 2011 has repetitive data found in the August 2011 presentation.

Investor Presentation (Q3-FY2012) (February 2012):

• The Bhuj (Gujarat) project’s scope was enhanced. The project is to have 120,000 MTPA capacity versus the earlier planned 90,000 MTPA. 
• An extra capacity of 30,000 MTPA is added to produce large and ultra-large specialty OTR tires, emphasizing all steel radial tires. This product has higher realizations and provides a competitive advantage to the company.
• The cost of this extra capacity is INR 400 Cr. 
• Rubber-mixing units are to be set up at the plant. The benefits are lower transportation costs and lower mixing costs due to captive power. Cost of the project INR 100 cr. 
• Employee township – cost INR 100 cr 
• Total funding required INR 1,800 cr to be met by INR 1,300 cr of ECB loan and INR 500 cr of internal accruals 
• Spending pattern FY2012 – INR 700 cr (INR 400 cr spent) FY2013 – INR 700 cr and FY2014 – INR 400 CR 
• Achievable production capacity by FY2015 276,000 MTPA 
• Standalone financials: Revenues – INR 759 cr (Q3FY12) versus INR 496 cr (Q3FY11), EBIDTA INR 144 cr versus INR 88 cr, EBITDA margin 19% versus 17.8% and PAT margin 9.6% versus 7.7%. 

Investor Presentation (Q4-FY2012) (May 2012):

• Production capacity of 144,000 MTPA. Actual production of 133,040 MTPA (capacity utilization rate 92%) 
• FY2012 sales contribution 46% Europe, 25% America, 15% Asia and 14% rest of the world (ROW) 
• Agriculture contributes 63%, OTR 33% and others 4% 
• Commercial production at the Bhuj plant is to commence from Q2FY13 and the production ramp up to be completed by FY2015. INR 623 cr spent until March 2012 for this facility 
• Sale of 133,040 MT in FY2012 versus 111,545 MT in FY2011, net sales of INR 2,795 cr versus INR 1,886 cr. Realization per tonne INR 210,087 FY2012 versus 169,079 FY2011 
• EBITDA margin of 17.94% in FY2012 versus 18.61% in FY2011, PAT margin 9.52% in FY2012 versus 9.59% in FY2011 
• Return on operating assets of 24.81% FY2012 versus 26.64% FY2011 
• Increase in long-term borrowings to INR 914 cr in FY2012 from INR 25 cr FY2011 
• Debt to equity of 1.53 in FY2012, mainly due to increase in debt versus debt/equity of 0.73 in FY2011 
• Increase in cash balances to INR 357 cr in FY2012 versus INR 11 cr in FY2011 
• Q4FY12 sales of 36,358 MT versus 30,586 MT in Q4FY11. Value-wise INR 789 cr versus INR 569 cr. 
• EBIDTA for the above period INR 134 cr versus INR 92 cr, EBITDA margin 17.05% versus 16.26% 
• PAT for above period at INR 76 cr versus INR 52 cr, PAT margins 9.69% versus 9.15%

Conference Call (Concall) Details Q4FY12 & FY2012:

• The volume of 133,040 MT sold during the year 
• Standalone tire sales at INR 2,795 cr, higher by 48%. 20% contributed by volume growth and the rest by price and product mix 
• EBITDA margin at 18% and PAT margins stand at 9.5% (INR 506 cr and INR 269 cr respectively) 
• FY2012 was a challenging year. Higher cost of imports, higher interest rates and forex fluctuations affected the entire sector. Higher RM prices were negated by increasing the prices of products by 7-8% 
• Demand is seen from the replacement market in the US, slowdown is seen in Europe 
• Order book of 64,000 metric tons (MT) which is equal to 5 months of sales 
• Impact of rupee deprecation – Balkrishna Industries Ltd will have to pay more for imports, however, they also have to export and will get higher realizations there. Imports and exports are the same in currency. The company has hedged on Euros for the next 12 months 
• Imports are cheaper than buying rubber domestically. The reason for that is that the company exports 90% of its revenues and hence there is no duty. 
• The difference between leader and Balkrishna Industries Ltd in terms of pricing is 20% 
• Margins to improve post-2015 due to additional capacity at the Bhuj plant 
• Off-highway Tires (OHT) market is USD 12-13 billion, 2/3rd is off the road (OTR) and 1/3rd is agriculture 
• Maintenance capex of INR 25-30 cr every year

Annual Report FY2012:

• Outlook for FY2013 – fear of slowdown in Europe and the USA is looming large on the company as that is the major market for the company 
• RM and other input costs have started softening, if this trend continues the company will post better margins 
• Revenue from India INR 442 cr (14%), Europe INR 1,303 cr (43%), North America INR 561 cr (19%) and others INR 709 cr (23%)

FY2013 

Investor Presentation (Q3-FY2013) (November 2012):

• INR 1,093 cr spent for the Bhuj plant till Sep 2012 
• Sales of 37,152 MT in Q2FY13 versus 32,439 MT in Q2FY12 
• EBITDA of INR 187 cr versus INR 117 cr for the same period. EBITDA margins at 21.1% versus 17.5%. The reason is a decrease in the ratio of RM/Sales from 65% to 62%. Realizations per tonne have gone up from INR 206,000 to INR 239,000 
• PAT of INR 124 cr versus INR 63 cr for the same period. PAT margins at 13.9% versus 9.5%. 
• Guidance for FY13 sales 140,000-145,000 MT

Investor Presentation (Q4-FY2013) (May 2013):

• Q4FY13 sales at 34,061 MT versus 36,358 MT Q4FY12. Volumes declined by 6%. Revenues stood at INR 779 cr versus INR 789 cr, a drop of 1.2%. There has been an increase in realization per tonne to INR 227,000 from INR 217,000. 
• EBIDTA stood at INR 156 cr versus INR 127 cr for the period mentioned above. Increase in EBITDA by 23% QoQ despite fall in volumes. The reason for the same is a drop in RM costs by 17% and other expenses by 7%. RM as a percentage of sales stood at 53% versus 63%. EBITDA margins at 20% versus 16.1%. 
• PAT at INR 85 cr versus INR 76 Cr. PAT margins stood at 10.9% versus 9.7% 
• FY2013 Financial insights – sales of 138,229 MT versus 133,040 MT (FY2012). Volume increase of 4%. Average realization of 230,000 MTPA versus 212,000 MTPA. Revenues have increased and stood at INR 3,191 cr versus INR 2,820 Cr. 
• EBIDTA for FY2013 at INR 664 cr versus INR 506 cr (FY2012). EBITDA margin stood at 20.8% versus 17.9% 
• PAT stood at INR 356 cr versus INR 269 cr, an increase of 32.5%. PAT margin at 11.2% versus 9.5% 
• Return on net operating assets of 23% versus 24.81% (FY2012) 
• Increase in long-term borrowings INR 1,504 cr versus INR 914 Cr 
• Debt/equity ratio 1.47

Conference Call (Concall) Details Q4FY13 & FY2013 (only audio):

• In spite of a challenging global environment Balkrishna Industries Ltd has posted an increase in revenues by 13% 
• Getting good responses from Russia, Africa and CIS countries 
• Current order book at 45-50 days 20,000 – 25,000 MT 
• Euro hedged at INR 72-73 for the next year 
• Utilization at the Bhuj plant is at 40-45%. The current capacity is 10,000 MTPA 
• Current year utilization is 83%. Installed capacity is 166,000 MTPA versus 138,339 MT of sales. As per management, competitors have a capacity utilization of 50% 
• Replacement demand is picking up in the US. OEM’s share in the US is 2%, Europe 10%. No price difference between OEM and replacement for Balkrishna Industries Ltd 
• Witnessing improvement in Western Europe 
• Sitting on 2-2.5 months of rubber inventory at USD 3,000-3,200 
• INR 1,800 cr capex for the Bhuj plant. INR 400 cr already capitalized. INR 800 cr to be capitalized in FY2014. Balance in FY2015 
• Maintenance capex at INR 25-30 cr for current plants. However, once the Bhuj plant is operational, then INR 40 cr of additional capex would be required. 
• Balkrishna Industries Ltd does not consider competition from China. The company operates in a niche segment and these tires do not sell on pricing.

Annual Report FY2013:

• Revenue from operations increased by 13%. Volume growth contributed 4% and the rest by product mix and price increase 
• Capex of INR 145 cr incurred for debottlenecking existing capacity. INR 912 cr spent on the Bhuj facility. 
• Key observations from the common size balance sheet: 
  • Fixed assets have increased to 57% from 40% in the previous year. The reason for the increase is tangible assets and capital work in progress 
  • Current assets constitute 36% of all assets down from 47% in the previous year 
  • Inventories stand at  11% of total assets as compared to 15% in the previous year 
  • Trade receivables stood at 13% of total assets versus 15% previous year 
  • Cash at 7% versus 11% – (FA may be high due to capacity expansion at Bhuj. Current assets may have declined as the overall company has posted not-so-great numbers as compared to the previous year, maybe due to slowdown) 
  • Long-term borrowing stands at INR 1,566 cr as compared to INR 939 Cr. Constitutes 38% of total liabilities versus 28% in the previous year 
  • Short-term borrowings have gone down and stand at INR 579 cr versus INR 756 Cr. It constitutes 14% of total liabilities as compared to 23% in the previous year 
• Buildings on the balance sheet stand at INR 314 cr (23%) and plant & equipment stand at INR 846 cr (63%) 
• The drop in inventories in the current year stands at INR 456 Cr versus INR 498 Cr. The reason for the same is a drop in the amount of raw materials which stood at INR 257 cr versus INR 345 cr 
• Segment revenues INR 457 cr (13.5%) from India, Europe INR 1,466 cr (43%), North America INR 612 cr (18%) and others INR 857 cr (25%) 
• Key observations from common size profit & loss (P&L) statement: 
• RM costs 57% of sales, the lowest in the last 5 financial years. (management had given guidance that natural rubber prices are falling and margins would improve if they continued to do so in the previous year) 
• EBIDTA at 20% and EBIT at 17%. Other expenses as a percentage of sales have increased over the years 
• PAT margins stand at 10%

FY2014 

Investor Presentation (Q1-FY2014) (August 2013):

• Drop in sales in Q1FY14 versus Q1FY13, 34,941 MT versus 37,001 MT. Net sales of 807 cr versus 820 Cr 
• EBIDTA at INR 179 cr versus INR 157 Cr, EBITDA margins at 21.9% versus 19.1%. EBITDA has increased 14% in spite of sales falling. The reason for the same is a decrease in RM as a percentage of sales to 51% from 59%. RM costs have fallen by 14% and that has directly flown into EBIDTA thereby increasing margins by the same magnitude 
• PAT for Q1FY14 at INR 102 cr versus INR 79 cr in Q1FY13. PAT margin at 12.6% versus 8.9%

Investor Presentation (Q2-FY2014) (October 2013):

• Q2FY14 sales at 33145 MT versus 37152 MT, a drop in volumes of 11%. Net revenue of INR 840 cr versus INR 885 cr, a drop of 5%. Average realization at INR 250414/MT increase of 5% as compared to Q2FY13 
• EBIDTA at INR 202 cr versus INR 186 Cr, an increase of 9.1%. The reasons for an increase in spite of volume decline, is RM/Sales drop to 48% versus 63%. Drop in input prices – (Observation – Realization per tonne is higher in every quarter in spite of volume decline, looks like the company has pricing power or it is launching products that are generating higher realization) 
• EBITDA margin highest since FY12 in any quarter at 24.1% versus 21% 
• PAT at INR 108 cr versus INR 124 Cr, there was a forex gain of INR 26 cr in Q2FY13. PAT is more or less flat if forex is removed. PAT margin at 12.9% versus 14%.

Investor Presentation (Q3-FY2014) (January 2014):

• Q3FY14 sales at 33,901 MT versus 30,125 MT, an increase in volumes of 13%. Revenues at INR 884 cr versus INR 705 Cr, an increase of 25.5%. Increase in realization per tonne to INR 255,755 versus INR 231,701, an increase of 10.37%. 
• EBIDTA at INR 229 cr (Q3FY14) versus INR 156 cr (Q3FY13), an increase of 47%. RM costs/Sales at 46% versus 53%, decrease in input costs, in spite of a decrease in input costs realizations have gone up. EBITDA margins at 25.9% versus 22.1%. 
• PAT at INR 124 cr versus INR 74 Cr, an increase of 66.5%. PAT margins at 14% versus 10.6%.

Concall Details Q4FY14 & FY2014:

• Highest sales of 40,823 MT in Q4FY14, the highest in any quarter. 
• EBITDA margins at 26% and margins are expected to stay in the same range in the coming years due to stability in RM prices and favourable exchange rates 
• The average rubber price at USD 2,000-2,500. Balkrishna Industries Ltd. is maintaining 1.5-2 months of rubber inventory 
• Strong demand is being seen across all geographies and in all segments 
• Demand is seen in mechanized agriculture segments and in the infrastructure & mining segments. The company is well-placed to cater to the agriculture segment. Focus in the future is going to be on the industrial and mining segment 
• Annual volume guidance of 160,000-165,000 MT. 
• Current market share at 5-6%. Balkrishna Industries Ltd aims to have an 8-9% market share in the coming years once the Bhuj plant is fully operational. 
• Sale from replacement market 75%, OEMs – 20% and 5% off-take sales 
• Balkrishna Industries Ltd has taken a price cut of 4-5% due to a fall in prices 
• Radial tire contribution is 30% of volumes; the company expects it to be 40% in two to three years. The industry average is 30% and the company is moving towards the industry average 
• The radial tire business is high realization product selling about 7-8% premium from the normal 
• The global size of the industry is USD 15 billion and Balkrishna Industries Ltd has a share of USD 600 million. 
• Balkrishna Industries Ltd has a maintenance capex of INR 60 Cr. Once the Bhuj plant is operational, this will go up to INR 80-100 Cr 
• Russia is a very big market from the mining and construction perspective 
• Balkrishna Industries Ltd expects to pay off long-term debt by 2018-19 
• Mining has high-value items and hence realization for mining tires may be high, which may increase the company’s margins, however, it will kick in 2015-16 
• Overall OTR market is USD 10 billion and the mining tire segment would be USD 6-7 billion (large diameter tires)

Annual Report FY2014:

• The environment is still challenging. The market has become more competitive and difficult 
• Natural rubber prices have declined, however, other input costs have risen 
• Key observations from the common size balance sheet 
• Noncurrent assets constitute 71% of total assets. Tangible assets constitute 48%. The company is capitalizing its assets at Bhuj. Capital work in progress is 11% of total assets fallen from 24% 
• Current assets comprise 29% of total assets, all major working capital items are constant, and cash and cash equivalents have fallen from 7% of assets in the previous year to nil 
• Long-term liabilities at 34% compared to 38% in the previous year 
• Buildings on balance sheet at INR 502 cr (21%) and PPE at INR 1,633 cr (68%) 
• Increase in non-current investments at INR 368 cr versus INR 3.11 cr in the previous year, investments mainly made in fixed maturity plans (FMP) mutual funds 
• Contingent liabilities figure of about INR 1,400 Cr 
• Segment information – Revenues – India – INR 561 cr (15%), Europe – INR 1,882 cr (50%), North America INR 545 cr (14%) and others INR 783 cr (21%) 
• Key observations from common size P&L: RM costs as % of sales lowest since FY09 – natural rubber prices have fallen down RM costs stand at 49% of sales 
• EBITDA at 24%, highest since FY09. EBIT margins at 19% 
• PAT margins at 13%

FY2015 

Investor Presentation (Q1-FY2015) (August 2014): 

• Q1FY15 sales at 39,202 MT versus 34,941 MT, volumes increase of 12%. Total revenue at INR 961 cr versus INR 816 cr, an increase of 17.1%. Average realization INR 241,824/MT, an increase of 5% 
• EBIDTA at INR 239 cr versus INR 195 cr, an increase of 22.8%. EBITDA margin at 24.9% versus 21.9%. RM/Sales constant at 51%. 
• PAT at INR 112 cr versus INR 102 Cr, an increase of 12.3%, with PAT margin at 12%. 
• Net long-term debt at INR 1,224 cr, Debt/equity at 0.61. 
• INR 2,329 cr expenses incurred till June 2014 for the Bhuj facility. INR 1,714 cr capitalized till June 2014. 
• Volume guidance for FY15 at 160,000 MT

Investor Presentation (Q3-FY2015) (March 2015):

• Change in sales channel structure. OEMs contribute 20% of sales for the first time 
• Balkrishna Industries Ltd does not have any impact of import duty as it is the major exporter – not so in the case of importing rubber and converting to tires for domestic sales 
• Q3FY15 sales at 38,382 MT versus 33,901 MT, an increase in volumes of 13.2%. Total revenues at INR 922 cr versus INR 884 cr, an increase of 4%. Average realization of INR 235,115/MT, a drop of 8% – (first-time decline since FY2012)

– By Chetan Chhabria
(chetanchhabria@gmail.com)

Contribution by Ashish Malhotra

I thank one of the readers, Ashish Malhotra, for providing an in-depth analysis of Balkrishna Industries Ltd. and sharing it with the author & other readers. The analysis done by Ashish is good and covers most of the aspects relevant to the equity research of Balkrishna Industries Ltd.

Balkrishna Industries Ltd – Fundamental Analysis

Q: Dear Dr. Vijay, I have done my own analysis of Balkrishna Industries Ltd. It is a good buy on many accounts except one, which is troubling me. Please help clarify if this is a good reason not to invest in this company at all.

Financial Analysis of Balkrishna Industries Ltd:

1. Sales growth: CAGR >24.78% for the last 10 years. Growth is consistent year on year. There is no sudden spurt of sales in one year confounding the 10-year performance.
2. Profitability: NPM >10%. It has sustained an OPM of 20-25% and NPM of 10-15% in the last 10 years.
3. Tax payout >30%. The tax rate is consistently above 30% corporate tax.
4. Interest coverage >16.64%. The company can comfortably pay their interest from the profits generated.
5. The debt-to-equity ratio is 1.24. They are a relatively very young company in the tyre and tube industry and are looking to grow at a fast pace. They are financing their growth by way of raising debt.
6. Current ratio = 2.54. Very comfortable current ratio to meet their current liabilities.
7. Cash flow CFO > 0. Positive CFO is generated every year.
8. Cumulative PAT vs. CFO: cPAT is INR 3,361 cr ~ cCFO is just 1930. This figure is inexplicable and I have tried to understand this but failed to find the cause of this anomaly. Why is their cumulative PAT not even close to their 10-year cumulative Cash Flows from Operations? Need help to investigate further.

Valuation Analysis of Balkrishna Industries Ltd:

1. P/E ratio < 14.59. The PE ratio is higher providing little margin of safety. But the industry PE is about 12.63.
2. P/E to Growth ratio (PEG ratio) = 0.42. The company is still in their growth phase.
3. Earnings Yield (EY) = 8% year G-Sec yield. At the current price, the earnings yield is about the same as Government security yields.
4. The P/B ratio is 3.22. However, I find the P/B ratio irrelevant for sectors other than financial services.
5. Price to Sales ratio (P/S ratio) =1.89. Not a keen observer of this ratio in my investment criteria.
6. Dividend Yield (DY) = 0.23%.The expected low dividend yield is due to aggressive expansion in new plants and markets.

Business & Industry Analysis of Balkrishna Industries Ltd:

1. Comparison with industry peers (Sales growth > peers): Balkrishna Industries has a strong MOAT as it is not competing with established players like MRF and APOLLO in the volume game. That is visible in their higher-than-normal NPM levels compared to other Indian tyre manufacturers. It has established itself in a very niche segment of OTR off-highway tyres like earthmovers, tractors, industrial forklifts etc. In addition, it is competing in the international markets with global players and has a serious advantage of manufacturing in a low-cost country compared to its competition.
2. Increase in production capacity and sales volume (Production capacity & sales volume CAGR ~ Sales CAGR). The company has shown increases in the volumes of its products sold along with increasing the prices as and when necessary. In fact, the profit margins are one of the best in the industry.
3. Conversion of sales growth into profits (Profit CAGR is more than ~ Sales CAGR in last 10 years). A Moat would result in increasing profits with increasing sales. Otherwise, sales growth is only a result of unnecessary expansion or aggressive marketing push, which would erode value in the long term.
4. Conversion of profits into cash. The cPAT >> cCFO. Either the profits are fictitious or the company is selling to any John Doe for higher sales without having the ability to collect money from them. The difference is too large to be hidden from the markets. I think I am not able to give a plausible reason for this anomaly.
5. Creation of value for shareholders from the profits retained. Retained Earnings of INR 1,762 crores have created a market capitalization of INR 2,352 since March 2014. So, Rs 1 invested has created a shareholder wealth of Rs 1.33 in the last 10 years.

Management Analysis of Balkrishna Industries Ltd:

A) Subjective parameters

1. Background check of promoters & directors: Web search. There is no information questioning the integrity of promoters & directors
2. Management succession plans. Balkrishna Industries Ltd is a family-run company with professional directors and the MD has his son being trained under his able leadership.

B) Objective Parameters

1. Salary of promoters vs. net profits: Promoters’ salaries are consistently increasing by way of commissions on increased sales. The only worrying fact that I see is that the new heir is still about 5-6 years old in the company but gets a huge remuneration for his services. However, the company sales are increasing and the profits are increasing.
2. Project execution skills: Balkrishna Industries Ltd has recently expanded its capacities by way of a new plant in Bhuj, Gujarat which is a state-of-the-art plant with an R&D facility and modern manufacturing facilities.
3. Consistent increase in dividend payments: Dividend payout has gone down. The dividend payout has gone down largely due to the expansion and growth orientation of the management in setting up new manufacturing facilities.
4. Promoter shareholding is 58%. More than 51% so the promoters’ interests are aligned with the shareholders.
5. FII shareholding~ 13.4%. Seemingly high FII holding.

I have done this analysis and this analysis states that the company is a good buy on all accounts except the fact that the cumulative CFO do not even come close to the cumulative PAT of the company for the last 10 years. I am not sure why. Please help explain the reason if you can Sir.

Regards.

Ashish Malhotra

Dr Vijay Malik’s Response

Thanks for sharing your analysis of Balkrishna Industries Ltd. with the author & the readers. I appreciate the time & effort put by you in the analysis.

Financial Analysis of Balkrishna Industries Ltd:

Balkrishna Industries Ltd has been growing its sales at a decent pace of 20-25% year on year since the last 10 years (FY2005-14). However, the sales growth seems to have moderated since FY2012. An investor should explore the reasons for the recent moderation in growth.

Even though Balkrishna Industries Ltd has been growing its sales, its profitability margins (both OPM & NPM) have been fluctuating wildly. Operating profit margins (OPM) have been varying from 18-27% and net profit margins (NPM) have been fluctuating from 6-15% over the years. Margins have been fluctuating in cycles of low and high margins.

Such fluctuating margins are characteristic of companies, which find it difficult to pass on the increase in raw material costs to their customers quickly and thus take a hit on their profitability margins. It becomes a cause of concern as the company becomes subject to commodity price cycles.

As rightly pointed out by you, the tax payout ratio of Balkrishna Industries Ltd has been in line with the standard corporate tax rate, which is a good sign.

You have mentioned in your analysis that the PAT of Balkrishna Industries Ltd, for the last 10 years is INR 3,361 cr. However, the data provided by the Screener does not corroborate it. I suggest you revisit the data source used and in case of any confusion, use the data from the annual reports of Balkrishna Industries Ltd for final confirmation.

As per the data provided by the screener, Balkrishna Industries Ltd has been able to convert its profits into cash flow from operations. PAT for the last 10 years (FY2005-14) is INR 1,896 cr. whereas the CFO over a similar period is INR 1,930 cr, which is a good sign.

Also read: How to do Business Analysis of Tyre Manufacturing Companies

Operating Efficiency Analysis of Balkrishna Industries Ltd:

Receivables days of Balkrishna Industries Ltd have deteriorated from 52 days in FY2011 to 57 days in FY2014. This would have ideally led to the profits being stuck in working capital (receivables) however; the company has improved its inventory utilization levels during this period, which compensated for the declining collections efficiency. Inventory turnover improved from 6.5 in FY2011 to 7.4 in FY2014.

However, when we assess the net fixed asset turnover of Balkrishna Industries Ltd, we see that it has not been able to improve its efficiency levels over the years. Net fixed assets turnover, which was improved in the past from 2.2 in FY2007 to 3.4 in FY2012, has deteriorated since then to 1.5 in FY2014.

Otherwise, as well, the net fixed asset turnover of Balkrishna Industries Ltd is very low. Low asset turnover indicates that the company needs to put a lot of capital into its operations to grow its sales. Such features are characteristics of industries operating in capital-intensive industries. If companies operating in capital-intensive, industries are not able to generate sufficient cash from operations, then they would have to rely on other sources of cash like equity & debt to fund their cash requirements.

Balkrishna Industries Ltd has been relying on debt to fund its cash requirements, which are not being met by operating cash flows. As a result, debt levels of Balkrishna Industries Ltd have been increasing year on year. The total debt of Balkrishna Industries Ltd has increased from INR 168 cr. in FY2005 to INR 2,344 cr. in FY2014 (about 14 times increase). During the same time, Balkrishna Industries Ltd has increased its sales from INR 488 cr. in FY2005 to INR 3,577 cr. in FY2014 (about 7 times increase). It indicates that the business operations of Balkrishna Industries Ltd are cash-guzzling, which is not a good sign.

Debt of INR 3,577 cr. at a reasonable interest rate of 12%, would require INR 430 cr. of interest payments. The profit & loss statement data shows interest expense of INR 25 cr. only as the rest of the interest amount is being capitalized by Balkrishna Industries Ltd and is added to capital work in progress as part of the cost of expansion projects. However, this payment still needs to be made to lenders on time. Therefore, the actual interest coverage ratio of Balkrishna Industries Ltd comes out to be around 2 on the operating profit of INR 894 in FY2014, which is a precarious situation.

Investors should be very cautious of investing in companies, which have continuously increasing debt levels, as high debt has the potential of increasing the risk of bankruptcy and reduced profitability under tough business conditions. It might even lead to the company landing in a debt trap.

You should read the analysis of two other companies: Ahmednagar Forgings Ltd and Amtek India Ltd, to understand the impact low fixed asset turnover can have on the debt levels of companies. You may read their analysis here:

• Analysis: Ahmednagar Forgings Ltd
•  Analysis: Amtek India Ltd

Margin of Safety in the market price of Balkrishna Industries Ltd:

Balkrishna Industries Ltd is currently available at a P/E ratio of about 15, which, as rightly pointed out by you, does not offer any margin of safety as described by Benjamin Graham in his book The Intelligent Investor.

However, we recommend that an investor read the following articles to assess the PE ratio to be paid for any stock, taking into account the strength of the business model of the company as well. The strength in the business model of any company is measured by way of its self-sustainable growth rate and the free cash flow generating the ability of the company.

In the absence of any strength in the business model of the company, a low PE ratio of the company’s stock may be a sign of a value trap where instead of being a bargain; the low valuation of the stock price may represent the poor business dynamics of the company.

• 3 Principles to Decide the Ideal P/E Ratio of a Stock for Value Investors
• How to Earn High Returns at Low Risk – Invest in Low P/E Stocks
• Hidden Risk of Investing in High P/E Stocks

I notice that in your comparison of retained earnings vs. increase in market capitalization, you have compared retained earnings of the last 10 years (FY2005-14) with an increase in market capitalization of about the last 1 year (since March 2014). I believe that the parameters used by you need a bit of adjustment. An investor should compare retained earnings of the last 10 years with increase in market capitalization of last 10 years.

I prefer comparing retained earnings of the last 10 years (FY2005-14) with the increase in market capitalization from FY2005 until date. Balkrishna Industries Ltd has created a value of INR 7,129 cr. in the last 10 years for retained earnings of INR 1,762 cr, which amounts to INR 4.05 of wealth creation for each INR 1 of profits retained.

I do not like high salaries for successors who are not able to add much value at the initial stages of their association with the company. However, it is a decision, which every investor needs to make by comparing the salaries being paid with the industry benchmarks.

Regarding the promoters’ stake in Balkrishna Industries Ltd being at 58%, it is low but still at a level that the promoter is able to exercise management control. An investor must analyse the trend in change of promoters’ holding to arrive at any final conclusion.

Analysis Summary

Overall, Balkrishna Industries Ltd seems to be a company, which was growing at a good pace with improving efficiency until FY2012. However, since FY2012 its growth rate as well as operating efficiency parameters, as measured by net fixed asset turnover have declined. Balkrishna Industries Ltd is not able to maintain its profitability margins as it gets impacted by changing raw material prices and seems to have low bargaining power with its customers such that it is not able to pass on cost increases immediately. Low net fixed asset turnover with a declining trend has led to increasing debt levels over the years. An investor should keep a close watch on its debt levels.

These are my views about Balkrishna Industries Ltd. However, you should do your own analysis before making any investment-related decision about Balkrishna Industries Ltd.

You may use the following steps to analyse the company: “How to do Detailed Analysis of a Company“

Hope it helps!

Regards,

Readers’ Queries for Balkrishna Industries Ltd

Over time, other readers have asked various queries related to Balkrishna Industries Ltd. including its business, competitive advantages etc. I have compiled these queries and their responses below so that other readers can also benefit from them:

Query

Dear Vijay,

1) I was going through the management concalls of Balkrishna Industries Ltd and as per them, all the debt taken by Balkrishna Industries Ltd is at 3% because it is borrowed from outside. However, interest on ₹3,500 Cr comes up to ₹105 Cr. Even I wasn’t able to understand why they were reporting ₹25 Cr in P&L.

2) I calculated the ratios from the numbers taken from annual reports. Inventory turnover has deteriorated from 7.15 in FY09 to 3.55 in FY14. Inventory days have doubled from 51 days to 102 days. I checked the data on the screener website and found that there is a discrepancy between the data that I have calculated and the data that the screener website has. I used cost of goods sold (COGS)/average inventory to calculate the inventory turnover whereas the screener website may have used sales/average inventory. I wanted to understand why inventory days have gone up from 51 days to 102 days. One reason could be that the management is stocking up inventory as they anticipate raw material prices to go up. What other factors would have caused this?

3) Fixed asset turnover and total asset turnover have also deteriorated. Both these ratios stand at 1.42 and 0.82 in FY14 as compared to 2.17 and 1.07 in FY09. The reasons that I could think of are that the management has completed its expansion in Bhuj and the capex spent is shown on the balance sheet, however, sales from the Bhuj plant will take time to pick up. Further clarification is needed from management on inventory and asset turnover

4) Management has also indicated that they will retire all debt in the next 2-3 years

I feel Balkrishna Industries Ltd is unlike other tyre companies because it operates in a niche off-the-road (OTR) segment. Players like Michelin and Continental are not interested in this segment and that is evident from their drop in market share from 50% to 35%. I feel that this is an opportunity for Balkrishna Industries Ltd.

I have prepared notes for Balkrishna Industries Ltd which cover points from annual reports, investor presentations, industry articles and concalls. I am happy to share the notes with you.

Regards,

Author’s Response:

Thanks for your valuable input.

1) Management would have charged the rest of the interest to fixed assets/CWIP as part of the project cost. It would get expensed as part of depreciation in future years. To get an idea about the exact interest paid in a year, an investor should look for interest outflow in the CFF section of cash flow.

2) Analysis of the annual report in terms of sales, inventory levels, COGS, and quantity sold would give you the answer to your query about inventory turnover.

3) Large capex done by the company seems to be one of the major reasons for declining fixed asset turnover.

4) Your guess is as good as mine about management predictions.

It would be helpful for the author and other readers if you were willing to share your notes on the annual report and other documents. I appreciate the time & effort spent by you in going through these documents.

All the best for investing.

Regards,

Query

Can you elaborate threat from Alliance? As the Alliance MD is Ex Balkrishna Industries Ltd MD. Family rivalry is at its best productive use. It is very much a threat to Balkrishna Industries Ltd

I feel that as Alliance knows every thing about Balkrishna Industries Ltd MOAT, within 6-7 years Alliance can create such a huge empire that can compete with Balkrishna Industries Ltd.

Balkrishna Industries Ltd was set up by Alliance MD and his father after the Balkrishna Industries Ltd promoter recognized the value of Balkrishna Industries Ltd and ditched the Alliance MD duo.

Author’s Response:

Thanks for your valuable input about the management changes at Balkrishna Industries Ltd and Alliance.

Such changes are always subjective and the cause-effect relationship is most of the time very obscure. However, the argument presented by you is logical and it remains to be seen whether the things pan out as explained by you.

Keep your fingers crossed and monitor closely.

Regards,

P.S.

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Disclaimer

Registration status with SEBI:

I am registered with SEBI as a research analyst.

Details of financial interest in the Subject Company:

I do not own stocks of the companies mentioned above in my portfolio at the date of writing this article.