Battery firms better placed as medium-term outlook looks attractive

Replacement demand, lower lead costs are positives for Exide and Amara Raja.

Stocks of battery makers Exide Industries and Amara Raja Batteries were in the green, even as the benchmarks and the peer index BSE Auto index were down between 1.5 per cent and 4 per cent. The gains for the two were on expectations that replacement demand will bounce back after the lockdown comes to an end, steep fall in lead prices, and inexpensive valuations.

An analyst at a domestic brokerage believes that battery players are placed better among auto component segments, given the replacement demand cycles for batteries. The replacement segment accounts for about 40 per cent of revenues and more than half of their operating profit.

Citing the example of global financial crisis of 2008-09, analysts at Kotak Institutional Equities highlight that gross revenues of Amara Raja and Exide Industries grew 17 per cent YoY in FY09 and 7 per cent YoY in FY10, mainly led by a strong auto replacement segment demand. Further, currently, given their strong balance sheets, the two firms (largely a duopoly) are expected to benefit by gaining market shares from unorganised players.

The other trigger for the sector is the high possibility of battery makers maintaining margins given their ability to retain most of the gains from the fall in raw material prices. Prices of lead, which accounts for 60 per cent of raw material costs of battery makers, are down 11 per cent since February. Analysts say while there will be a hit on the top line, even if some of the gains are passed on by the companies, they will have a cushion on the margin front, especially in the replacement and industrial segments.

Finally, the 35-39 per cent correction in both stocks since their highs this year has led brokerages upgrading the two stocks. Analysts at ICICI Securities, however, prefer Exide Industries given the debt-free nature of its balance sheet, steady cash flow from operations, free cash flow yields of 5 per cent, and healthy return ratios of over 25 per cent.

While the near term could see some pressure because of weak demand from automakers, the medium-term outlook for the battery makers looks attractive.