You may study a chart pattern or evaluate company financials but what it takes to buy a stock when the index is at an all-time high, isn’t something you will often find in theory. At this juncture, many investors lack the conviction to go long or lack the fortitude to initiate a short.
Sounds like a story close to your heart?
Well, sometimes the answer lies in the addressable market opportunity and the preparedness of a company to capitalize on it. If the market opportunity is large and there are immediate triggers available, investors tend to become tolerant of high valuations and dips get bought too, even if stock prices slide for any reason.
In our past few coverages, we highlighted how the market sentiment about cyclical sectors—banking, capital goods and engineering companies amongst others—has changed post budget. Our post-budget interactions with industry stalwarts like Nilesh Shah reinforced that belief. Nilesh had stated that the best way to play the theme of capex revival is to consider indirect beneficiaries.
Let’s consider bearings to begin with.
Anti-friction bearings is a ~Rs 10,000 crore industry in India with primary drivers being the automotive and railroad sectors. As of now, the bearings demand from the core sector is largely met through imports.
What classifies as ‘core’? Eight industries—coal, cement, steel, natural gas, fertilizers, refineries, crude oil and electricity are the core industries. Leading companies from these sectors have already chalked out sizable capex plans. With the Aatmanirbhar push, domestic sourcing of industrial bearings might pick up.
Indian arms of three MNCs—SKF, Schaeffler and Timken, dominate the Indian landscape and collectively account for ~50-55% of India’s bearings market. No wonder then, the consensus Bloomberg estimate suggests that they are likely to remain expensive in FY22 but growth could be impressive too.
(Source: Bloomberg)
With a record high budgetary allocation of Rs 1.1 lakh crore for FY22, the total capital expenditure of Indian Railways is expected to touch Rs 2.15 lakh crore in the coming Financial—highest ever in a year. The focus areas of the annual plan for FY22 are infrastructure development, throughput improvement, development of terminal facilities, enhancement of the speed of trains, betterment of signaling systems, passenger amenities and safety.
According to the estimates of Timkan India’s management, the railroad market in India for the bearings industry is ~Rs ,1500-1,800 crore and it’s growing.
Many of the stated key areas of the Railways’ FY22 annual plan are interlinked, as far as the market opportunity is concerned. For instance, speed augmentation of passenger trains and offering more comforts and amenities to the passengers on intercity travels would require the Railways to include more Linke Hofmann Busch (LHB) coaches to its fleet.
From the year 2018 onwards, the Railways has stopped the production of conventional coaches and undertaken a replacement drive of the existing fleet as well. Higher capex may accelerate this process, going forward.
Dedicated Freight Corridors might create more opportunities for bearings companies.
Moreover, a vision document 2024, based on the National Rail Plan (NRP) 2030 endeavours to enhance the share of Railways to 40% in freight transportation. Freight LHB is also a big opportunity within the Indian Railways. Apart from the Railways, rapid transportation is expected to provide attractive growth opportunities to bearings companies.
Timken India and SKF are dominant players in the railroad market.
Localization is the favourite theme with bearings companies
Timken India has a significant presence in commercial vehicles, agriculture and the off-highway segment, besides railroads.
On the industrial bearings side, sectors such as paper, power and metal are likely to become key areas for Timken India. Interestingly, Timken India doesn’t manufacture spherical large bearings in India which are a critical component for stationary equipment used by these industries. China is a big manufacturing destination for such bearings on Timken’s (the parent’s) global supply chain map.
Competitors of Timken manufacture spherical bearings in India. If Timken India decides to manufacture them locally, as a part of the risk mitigation strategy of the parent company post COVID, that would help it grow its business in industries that are gaining critical mass.
Exports have a 26% share in Timken India’s overall revenue. The company aspires to make it 50%. Globally, Timken Company (the parent) is focusing on industries such as food and beverages, and wind. But for Timken India it is still a trading segment, meaning, the products are sourced from global factories of Timken. At present, distribution accounts for 30% of its revenue which also includes aftermarket revenue.
India is a critical geography as far as Timken’s long-term global manufacturing strategy is concerned. Perhaps this makes Timken India one of the most expensive bearings stocks despite having only about ~10-12% market share in India.
Like Timken India, Schaeffler India too is a globally integrated player. The company derives 48% of its revenue from the automotive and automotive aftermarket division, while the contribution of Industrial and industrial aftermarket segment accounts for 42% of its top line. The company has been eying a greater share of the auto ancillary market and aiming to increase its share of per vehicle contents by 30%.
SKF India too has a balanced exposure to industrials and automotives with each segment making up ~50% of the top line. However, only about 35% of the industrial bearings sold by SKF India are manufactured in India as of now. The company has set an objective of increasing the domestic sourcing of industrial bearings to 65-70% over the next 3-4 years.
Since the demand for industrial bearings is inconsistent in India, SKF India plans to increase its export share once the local sourcing improves. Exports account for 10-11% in SKF India’s revenue at present.
SKF has been focusing on de-commoditizing its business and making it less product-driven and more performance-driven. The company’s Rotating Equipment Performance (REP) initiative aims to help its customers improve the performance of assets and reduce operating costs. This is a fee-based model.
According to industry experts, Electric Vehicles (EVs) would consume 30% lesser bearings as compared to conventional automobiles. Thus, Schaeffler, which has a significant exposure to Passenger Vehicles (PVs) and the Two Wheelers (2W) segment, has been looking to diversify further in adjacent areas, such as aftermarket and ancillary products for autos. Raising the contribution of the commercial vehicles segment from 7% to 10% remains Schaeffler India’s stated objective.
For Timken India, off-road vehicles and Commercial Vehicles (CVs) already contribute 20% of the company’s revenue. In the rising commodity prices environment, companies having higher operating margins may have a better cushion.
Timken is a US-based group whereas the other two are European majors. Will this make any difference to their supply chain decisions and regional preferences? Well, nobody’s talking about Sino-US trade friction for now. But the future developments would be crucial to track.
You see, a friction between two people or two mechanical components drains energy. Bearing with one another is often a solution. If India is expected to up its manufacturing GDP in the next few years, demand visibility for the bearings industry remains fairly strong.
Yes, stocks are trading at frothy valuations and close to their life-time highs. As they say, markets are always forward looking. That’s why asset allocation is such an important decision in investing.
Bulls will look at opportunities and bears will look at challenges but stock prices are blind. They move only when they sense something’s cooking!
Please Note (read as a disclaimer): None of the stocks discussed in the article are recommendations to buy, hold or sell. This could just be the starting point for deeper analysis that you might want to carry out on your own. You may also take professional help as you feel appropriate.
If you are investing in any family run company, besides governance, you may also want to take stock of significant developments in the lives of the promoters. Sometimes, their personal life can overshadow market sentiments. Also pay attention to issues such as pledging of shares by the promoter group and the working capital.
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Disclaimer:
We, Ventura Securities Ltd, (SEBI Registration Number INH000001634) its Analysts & Associates with regard to blog article hereby solemnly declare & disclose that:
We do not have any financial interest of any nature in the company. We do not individually or collectively hold 1% or more of the securities of the company. We do not have any other material conflict of interest in the company. We do not act as a market maker in securities of the company. We do not have any directorships or other material relationships with the company. We do not have any personal interests in the securities of the company. We do not have any past significant relationships with the company such as Investment Banking or other advisory assignments or intermediary relationships. We are not responsible for the risk associated with the investment/disinvestment decision made on the basis of this blog article.
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