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February 25, 2016

Apollo Tyres Rolling To Strong Earnings

by Sridharan Raman.

When Indian Prime Minister Narendra Modi took office in May 2014, there were high expectations in the business sector. He ran on a platform of business reform, and promised to remove the obstacles to doing business in India and to increase transparency. The stock market rose more than 30% within a year of his election.

However, a year into his term, reality set in and the realization that the promises were easier made than rapidly achieved. In the last year, the BSE SENSEX index is down more than 20%. Of the companies that we follow on the BSE Sensex index, in the last quarter 59% missed estimates and analysts have been busy lowering estimates. Given the pullback, are there now cheap companies with strong fundamentals? We screened for these.

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Source: Eikon/StarMine

Hitting the pavement

First we screen for companies based in India with market cap of over $1 billion. We then search for value by looking at companies in the top quintile of the StarMine Relative Valuation (RV) model. We look for a solid financial base by eliminating companies in the bottom quintile of the StarMine Combined Credit Model.

Finally we look at the basis for earnings, screening for the top quintile of our Earnings Quality model. As you can see below, five companies pass this screen. We’ve already identified BPCL as one that stands out in the market.

Apollo Tyres (APLO.NS) is another company that satisfies all these screens. Let us take a look at some of the fundamentals.

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Source: Eikon/StarMine

Steering down the road

With commodity prices staying low, Apollo benefits because petroleum is a key input. As a result, operating profit margins are reaching five-year highs of 13.6%. That has led to strong return on net operating assets, which have remained above 30% in each of the last three quarters. So, operating efficiency has improved. The company is also benefiting from lower oil prices, since more people are driving. The roads in India are notoriously bad, another reason why Apollo is seeing strong demand!

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Source: Eikon/StarMine

Driving toward results

Apollo has also cut its debt in half to Rs. 9 billion. That means reduced interest payments. At the same time, Apollo has invested in its European operation, and in 2015, almost 30% of revenues came from that region, which represents a higher-margin business.

Car tire sales in India have been weak in the last year, but with the growth in the number of vehicles in the country, that probably won’t be a trend that is likely to continue. Despite the weakness, Apollo Tyres has managed to increase its market share in the region.

The company seems cheap compared to other companies in the area, based on the StarMine Relative Valuation model. The stock trades at a forward 12M P/E of just 7.5. There are now eight strong buy recommendations and seven buy recommendations, and just four hold recommendations. Compare that to five strong buys, eight buys, five holds and one strong sell recommendation just 30 days ago. That indicates that even analysts seem to have taken note of these trends, and are bullish on Apollo Tyres. Based on the screening criteria show above, the company seems to have a full tank of gas – or petrol.

 

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