For the stocks, it is crucial that margins don’t narrow further in the farm equipment business.
Escorts Ltd’s shares have gained 56% in the last five months as the company demonstrated margin improvement despite weak sales. Ebitda (Earnings before interest, taxes, depreciation and amortization) margins in the June quarter had improved to 5.9% from 5% a year ago and 2.7% in the March quarter. With cost rationalization measures still playing out and raw material costs easing, the Street was expecting the company to maintain margins in the 4.5-6% range. But if indications from the September quarter are anything to go by, this view may have to be changed. As volume at the core agriculture machinery segment fell 23% and revenue dropped 19%, Ebitda margin narrowed to 3.7% last quarter. True, this margin is still better than the 3.4% margin Escorts registered a year ago. But it is almost one percentage point lower than Street estimates.
Also, the reported numbers reflect the recent restructuring benefits. The company is still implementing cost rationalization measures, which should lend support to margins. But improvement from here on can be a tall order, especially considering the deceleration in sales.
Farm equipment sales in October fell 31% from the year ago. With the agriculture situation remaining challenging, the management believes it would be difficult for the industry to even clock the previous year’s volume in the second half. Earlier, it had guided for flat volume growth in the second half of the fiscal year.
That said, the construction and the railway equipment businesses saw notable improvements. Losses at the construction equipment business came down drastically and operating profit at the railway business grew sharply. With the railway products business having an order book of Rs.65 crore to be executed over the next 3-4 months, the company expects the business to continue to record good growth. Similarly, it expects the construction business to break even at the operating level by the end of the current fiscal year, helped by improving demand from the roads sector.
While that could please investors, for the stock, it is crucial that margins don’t narrow further in the farm equipment business.
The writer does not own shares in the above-mentioned companies.