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Shanthi Gears
Background:
Market Capitalization: Rs. 3,142 Mn
Shanthi Gears was established in 1969 to manufacture industrial No. of Shares o/s: 81.7 mn
gearboxes. It is led by Mr. P. Subramanian the Chairman and Managing 52 Week High/ Low: Rs. 81 - 24
Director, and his three daughters who independently look after the areas th
of finance, production, and administration. Shareholding Pattern as on 30
June ‘09:
Products: Its products can be divided into two main segments viz., Shareholder Type Holding (%)
standard gearboxes and custom built gearboxes. The sales of custom Promoters 44.7
gearboxes contribute ~60% of the revenues, and the company enjoys Institutions 21.0
higher margins due to this product mix. Foreign 0.8
Public 33.5
International Sales: Shanthi Gears is currently exporting gearboxes to
Altas Copco, Belgium and David Brown, Thailand. The company is also Target Price: Rs. 83
likely to receive orders from other Altas Copco offices in Europe, through
referral from the Belgium unit. Moreover, it is looking to acquire a small Investment Time Frame: 2 years
gearbox manufacturer in Europe to drive growth and improve visibility.
Risk-Return Metrics:
Utilization of Capacity: The Company currently has a capacity utilization Low Medium High
of 75%, and it does not propose to run at full capacity since it uses this Risk Risk Risk
un-utilized capacity for emergency orders. There is no specific installed Low
capacity since the production capacities are not mutually exclusive and Return
the same machines can be used to manufacture various gears. Medium
Return
High
Order Book: The Company has an order book of ~Rs. 750 Mn, which is Return
three to four months of sales, and this is usually the order book size
maintained. The product execution cycle ranges from 45 days to 75 days.
Key Financials:
FY09 FY10E FY11E
Investment Positives: EPS (Rs.) 5.4 5.9 6.5
VPS (Rs.) 36.3 40.6 45.4
I. Product Mix Favouring High Margin Custom Gearboxes:
The product range of Shanthi Gears is split into two main segments, the standard gears and the
custom-built gears. The standard gears account for ~40% of the sales and enjoy operating margins of
only ~15%. The custom-built gears segment accounts for the remaining sales and enjoys operating
margins of ~45%. Unlike other domestic gear manufacturers, Shanthi Gears focuses on the custom
gear segment and ensures that its factory utilization is not more than 75% to take advantage of urgent
and emergency orders. Unlike most of its competitors, Shanthi Gears is able to maintain operating
margins at all times due to its product mix, and the relatively lower raw material costs incurred for
custom built gearboxes.
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S.M.A.R.T Advisors
info@smartadvisors.in
M: +91-99622 13080
B: +91-44-24423139
S.M.A.R.T Advisors
Stock Market Analysis & Research Techniques
Investment Negatives:
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S.M.A.R.T Advisors
Stock Market Analysis & Research Techniques
Industry Snapshot:
The Rs. 10 bn Indian industrial gear industry is dominated by a few major domestic players such as Shanthi
Gears, Elecon Engineering, Premium Energy Transmission, and Flenders. The industry is expected to grow
at ~12% p.a. going forward. Apart from the domestic players, global leaders such as Rossi are entering India
leading to an erosion of market share among the current market leaders. Industrial gears are used in sectors
ranging from sugar to steel to textiles, and the major demand driver for these gears is industrial capex. The
unorganized sector does not pose a threat in this industry as they cater to a different market segment, and
the OEM’s source their gearboxes only from the reputed manufacturers.
Company Approximate
Market Share (%)
Elecon Engineering 26
Shanthi Gears 20
Premium Energy Transmission 17
Flenders 10
Others 27
Financial Overview:
Shanthi Gears has been able to sustain a steady growth rate in its revenues due to its policy of
diversification of the client base and product range. We believe that despite the slowdown, the company will
manage to sustain a growth rate of ~ 10% with operating margins being steady at over 35%.
3000 70
2500 60
50
2000
Rs. Mn
40
1500
30 %
1000
20
500 10
0 0
FY05 FY06 FY07 FY08 FY09
The company has the ability to pass on raw material price increases to its clients, as it holds raw material for
a maximum of 3 months, with the typical order book being completed in 3-4 months. The working capital to
sales ratio has remained stable over the years at 0.3x. Inventory days have been maintained at ~3 months of
sales, with debtor and creditor days both showing marginal increases to 51 days and 71 days respectively in
FY09.
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S.M.A.R.T Advisors
Stock Market Analysis & Research Techniques
Working Capital
140
120
100
Days
80
60
40
20
-
FY05 FY06 FY07 FY08 FY09
Shanthi Gears has enjoyed relatively stable return ratios, with ROE marginally reducing since FY05 due to
equity dilution from FCCB conversion. We expect the return ratios to remain steady in the medium term,
backed by the company’s strong operating profit margins.
Return Ratios
35.0
30.0
25.0
20.0
%
15.0
10.0
5.0
-
FY05 FY06 FY07 FY08 FY09
ROE ROCE
The company enjoys a healthy current ratio of 3.3x. However, the debt-equity ratio is low at 0.4x, while the
interest cover ratio has dropped to 0.37x in FY09. In our view, the company’s profitability and growth
prospects offset any risk from the debt position.
Stability Ratios
4.5
4.0
3.5
3.0
2.5
(x)
2.0
1.5
1.0
0.5
-
FY05 FY06 FY07 FY08 FY09
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S.M.A.R.T Advisors
Stock Market Analysis & Research Techniques
Shanthi Gears boasts high earnings yields of over 10% with dividend payout at ~22%. This provides a
downside support and limits the risk of investing in the company. Given that the long term government bond
yields are ~7%, Shanthi Gears provides better return with only a marginal increase in the risk.
30.0
25.0
20.0
%
15.0
10.0
5.0
-
FY05 FY06 FY07 FY08 FY09
Managerial Remuneration:
In our view, the remuneration of the top management has risen in accordance with the growth in the
company and is within acceptable limits given the size of the business and its growth prospects. We believe
that the management of Shanthi Gears is trying to enhance shareholder value and is not trying to enrich
themselves at the expense of the shareholder.
3000 60
2500 50
2000 40
Rs. Mn
Rs. Mn
1500 30
1000 20
500 10
0 0
FY05 FY06 FY07 FY08 FY09
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S.M.A.R.T Advisors
Stock Market Analysis & Research Techniques
Conclusion:
Shanthi Gears is one of the leaders in domestic industrial gears market, and although there has been a
recessionary trend spreading across the globe, we believe that the government thrust of boosting the
economy will lead to a recovery in the industrial sector in the medium term. This coupled with a trend of
increasing private investments into heavy manufacturing industries gives us confidence that the company’s
prospects are healthy.
It enjoys a strong balance sheet, and is sitting on cash per share of Rs. 6. Using our VPS technique, we
value the company at Rs. 36 per share. We believe that the company’s target price (2 year time frame) will
be Rs. 83. Shanthi Gears is currently trading marginally above its VPS and at 1.5x its book value. In our
opinion, Shanthi Gears is a good investment opportunity for investors who have a low risk appetite, looking
at a long term investment.
Valuation Techniques
80.0 6.0
70.0
5.0
60.0
50.0 4.0
Rs.
Rs.
40.0 3.0
30.0 2.0
20.0
10.0 1.0
- 0.0
FY05 FY06 FY07 FY08 FY09
Shanthi Gears is a company delivering consistent returns to shareholders, and the management is stable
and a succession plan is in place with the second generation of the promoter family helping run the
company. In our view, this is a low risk – medium return stock, and suitable for investors looking for long term
capital appreciation with a smaller risk of capital loss.
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S.M.A.R.T Advisors
Stock Market Analysis & Research Techniques
Detailed Financials:
P&L (Rs. Mn) FY05 FY06 FY07 FY08 FY09
Sales 1,212 1,623 2,014 2,441 2,525
Total Raw Material Cost 457 626 821 951 884
Employee Costs 122 132 154 189 212
Administrative Expenses 51 66 75 169 213
Other Expenses & Service Charges 172 213 237 194 196
EBITDA 409 586 726 939 1,020
Interest 14 30 48 51 86
Depreciation 95 127 182 225 258
Other Income 7 2 15 12 13
PBT 308 431 512 675 689
Tax 115 150 176 234 244
Adjusted Net Profit 192 281 359 442 441
EPS VPS
Our Growth Estimate (%) 9.77% 11.81%
Rs.
Current Price 38.45
Price required for the stock to beat bond returns 77.34
Expected price 83.00
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S.M.A.R.T Advisors
Stock Market Analysis & Research Techniques
Technical View:
Analyst Certification:
The Research Analyst(s) who prepared the research report hereby certify that the views expressed in this research
report accurately reflect the analyst(s) personal views about the subject companies and their securities. The Research
Analyst(s) also certify that the Analyst(s) have not been, are not, and will not be receiving direct or indirect
compensation for expressing the specific recommendation(s) or view(s) in this report.
Disclaimer:
This document is provided for assistance only and is not intended to be and must not alone be taken as the basis for an
investment decision. Nothing in this document should be construed as investment or financial advice, and nothing in
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accuracy, completeness or fairness of the information and opinions contained in this document. S.M.A.R.T Advisors, its
affiliates, and the employees of S.M.A.R.T Advisors and its affiliates may, from time to time, effect or have effected an
own account transaction in, or deal as principal or agent in or for the securities mentioned in this document. This report
has been prepared on the basis of information, which is already available in publicly accessible media or developed
through the independent analysis of S.M.A.R.T Advisors.
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