Balkrishna Industries operates in the specialty tyres segment – Off-Highway Tyres. Pneumatic tyres for special applications for agriculture, construction, earthmoving industry, material handling, forestry, lawn and garden, and All-Terrain-Vehicles (ATV). It has an amazing run and track record in the last 10 years – as it built up a global brand, exports 90% of its produce and enjoys a 4% global market share. In the last 10 years sales have grown at a ~28% CAGR while EPS has grown at over 41% CAGR!
Read this Balkrishna Industries stock story to know why it made it easily to our shortlist of promising mid-cap stocks – that our in-depth process for hand-picked stock-picks throws up.
There are a few questions that came up during our detailed analysis on Balkrishna Industries, its prospects, and risks as we see it. (of course that is entirely based on published sources and without the benefit of a meeting/interview with Management).
We put forward these questions to Balkrishna Industries Management with a request for a meeting/visit to its premises. We met the CFO Mr B K Bansal and spent more than 2 hours with him trying to understand the business opportunities and challenges ahead.
Questions for Balkrishna Industries Management
1. POST-EXPANSION ACHIEVABLE PRODUCTION CAPACITY OF ~230,000 MTPA. AGRICULTURAL TIRES (65%), OTR TIRES (29%), OTHERS (6%).
Please explain to us the current demand-supply situation in Agricultural Tires, and OTR Tires segments. Is demand running far ahead of supplies? What makes for this aggressive expansion of over 80% from current levels? How have you planned for increasing Sales in tandem, or is that a given? What are the risks according to you?
Let me first set the context. The Off-highway Tires business is about $11 Bn globally which is growing at 4-5% annually. We have been growing sales at 25-30% annually for the last 10 years. So obviously we are taking away market share from the more established players. Our current global market share is ~4%.
We have grown sales in FY11 over 40%. If we had the capacities we could have sold much more. There are no doubts in our mind that we can increase sales in tandem with increase in capacities. We have invested in increasing our distribution reach and penetrating deeper in existing markets. We don’t think there are any risks on that front.
2. PREMIUM PRODUCTS. AGRI RADIAL AND OTR RADIALS. BKT IS THE LARGEST MANUFACTURER OF FULL RANGE OF RADIAL TRACTOR TIRES FROM ASIA.
How much of the post-expansion capacity is planned for premium products like Agri Radials and OTR Radials? What is the revenue contribution from Premium products currently and is there going to be increasing focus on premium segments?
Radial/Non-radial products is roughly 30:70 in our Sales mix today and is likely to go upto 40:60 with increased capacities being available. There is little higher contribution from Radials segment but not by very much.
3. OFF-TAKE FROM GLOBAL MAJORS LIKE MICHELIN AND VREDESTEIN CURRENTLY FORMS 6% OF TOTAL SALES.
With large capacities available from BKT especially in premium segments, do you foresee greater interest from Global majors in increasing off-takes from BKT. We know that OEM market margins are lower than the Replacement market, but how are the margins in the Off-take segment?
There is lot of interest from global majors to increase off-takes from players like Vredestein, Trelleborg, Nokian. The margins are also better. However we are not very interested in pursuing that as we believe BKT is a good brand we would rather invest in increasing our market share. We have had offers for a JV from Vredestein too – the enticement is access to more markets through their network and better technology. We have not taken these up as we feel we can handle Technology and we know how to market our products from the experience gained in the last 10 years.
We maintain a certain level of engagement with these players as there are a few things that we do learn form them from time to time. The engagement levels will remain same at some 5-6% of total sales, unlikely to touch something like 10-12% levels.
4. INDIAN MARKET SHARE CURRENTLY FORMS 11% OF SALES AND MOST OF IT COMES FROM OTR SALES. THE INDIAN EARTHMOVING AND CONSTRUCTION EQUIPMENT INDUSTRY IS MEANWHILE EXPECTED TO GROW FIVE FOLD FROM USD 2.3 BILLION TO USD 12 –13 BILLION BY 2015.
Would we see an increasing focus on the Indian OTR tires segment once you do not have any constraints on the capacity front? Who are the existing players in this market –same Michelin, Titan, or there are others? What are their market shares, and how far behind is BKT.
In the Indian market we have chosen to concentrate mainly on the OTR Earthmoving and construction equipment segment. We are not present in the Agri-Tires segment and unlikely to pursue it.
You see in India agricultural tractor use is usually of less than 50 HP. In the developed markets tractors use go as high as 200 HP. They use different equipment for different seasons, even different crops. The Agri tires mix is pretty diverse.
The OTR segment in India comprises some 11% of our Sales. Yes there will be a higher focus from us on this segment and OTR segment sales in India should go up to 20% levels from here with the increased capacities. We do not face international competition here, but its mostly MRF and Apollo.
5. GLOBAL COMPETITION. MICHELIN. TITAN. OTHER PLAYERS LIKE ALLIANCE FROM DEVELOPING MARKETS HAVING SIMILAR ADVANTAGES AS BKT HAVE EMERGED ON THE SCENE TOO.
Michelin 2008 Investor Presentation listed BKT as serious competition in Europe and showed BKT’s share as 3%. Kindly explain what has changed in the last few years. Do you still enjoy the 30% price differential? If there is a demand-supply mismatch situation, the bigger players also must have invested in creating larger capacities?
In Europe BKT has grown much stronger in the last few years and commands 9-10% market share. Price differential has narrowed to something like 25%.
Mehensarias (Alliance Tires) have a strong technical background, they have the Capital backing them up, the benefit of the BKT experience till 2005/6, and have lined up substantial capacities by now, and may well replicate most of the advantages that BKT today enjoys. How closely do you track local competition? Any changes in tactics/plans to tackle this emerging threat.
Yes they are strong players. And yes they should be able to replicate most of the advantanges that we enjoy, eventually.
They invested in a 30000 MTPA capacity in Chennai for Phase I. There were some issues and a strike, and they have deferred the deciaion ton invest for the planned Phase II expansion of another 30000 MTPA. they are looking for a new location. Their Israel facility has ~40000 MTPA capacity.
They way we look at this is simple. It has taken us 10 years to reach where were today. Anyone striving to reach our levels has to go through the same process, they may be able to do it faster but it will still take them 8-10 years. It takes atleast 3 years to stabilise production and reach peak capacity utilisation levels. The 90,000 MTPA capacity we have coming onstream next year will still take us 3 years to reach peak levels, or roughly 30000 MTPA each year. There is no magic formula or shortcuts.
From ground zero, it will take anyone 5 years to reach peak utilisation levels from a 90000 MTPA capacity installation!
So, BKT will have a unchallenged run for the next 5 years, atleast?
The new entrants in a bid to capture greater market share faster may resort to undercutting? Is that not a real threat?
That risk is probably very remote. The market is big and there is enough room for new players to sprout and thrive without resorting to undercutting other small players. Its only when BKT gets to the size of say 25% market share that perhaps this may become a real threat for us.
If it’s possible, kindly share why Mahensarias (who now run Alliance Tires) had to split from the Poddars in 2006. They were actually running the show in BKT till then. To the Poddars’ credit though, BKT has done exceedingly well in the last 5 years since the split.
Well the MD’s brother-in-law was Mr Mahensaria. Mahensaria held 5% in the company and 10% through Promoter Holdings. The Poddars didn’t have a second generation to run the company and thus Mahensarias played the Executive role. To be fair the strong foundation for BKT’s success today was laid by the Mahensarias when they ran this company till 2006, and they had done a very good job. Then the Poddar 3rd generation came along and were ready, naturally they wanted to take back control. The Mahensarias understood and accepted this situation graciously. The parting was perfectly amicable. Today Mr Arvind Poddar is assisted by his son and nephew in running the show at BKT.
There was no non-compete agreement as it was made clear by the Mahensarias that this is the only business that they knew how to run, and it was made clear that they will be attempting to start building a business from scratch.
Its good that they now have secured funding. Both sides are still on very good terms. There is no reason for under-cutting and killing each other, when the market is ripe and low hanging fruits are still available.
6. EUROPE AND AMERICAN MARKETS. FAST GROWING ECONOMIES SUCH AS BRAZIL, ARGENTINA, COLOMBIA, COSTA RICA
Tell us a little more on the penetration that you are making in your fastest growing markets, especially the Americas. Which of these markets will provide you most of the sales growth? Are you able to get similar margins form the South American growing markets?
BKT had initially focused on European markets and is gradually increasing its presence in Americas, which is our fastest growing market, and that is mostly the US. South American markets are also seeing increasing presence but they are smaller markets. Margins are more or less the same.
7. IN FY11 BKT REGISTERED AN IMPRESSIVE 40% PLUS GROWTH IN SALES, BUT SUFFERED AN 11% DEGROWTH ON PAT FRONT DUE TO THE REVERSAL IN RAW MATERIALS PRICING.
How do you see FY12 panning out? You mentioned order booking of 5 months in the last Conference call. Are you protected on the margins front in booked orders? At what levels 18-20%? What is a sustainable level for the full year?
Yes on the booked orders we are protected on the margins front at 18-20% OPM levels.We have seen Price peaks at $6400/tonne, then it corrected somewhat to $5100 levels. Since the last 2 months prices are stabilising at $3500-4000 range. Our understanding is that it will settle lower at $3000+ levels.
How do you do this forecasting or reach an understanding on what levels are likely? Is it that demand supply gaps have narrowed with increased production this year?
Well no such thing as demand supply gap. If that was the reason we should have seen at least some people complaining that rubber is not available the quantity they want. In this whole hullabaloo we did not come across a single situation like that – it was always available at a certain price. It was purely speculative plays!
So far as we can make out and understand from those who track these markets well, rubber prices are expected to stabilise at lower levels this year.
If prices are expected to soften in coming months, how are you booking your current orders?
Well we have not seen anyone rolling back prices since the last time hikes were announced. Neither have we.
8. FINANCIAL STRENGTH. BKT HAS ALWAYS MAINTAINED PRUDENT DEBT LEVELS IN THE RANGE OF 0.7X TO 1.3X. CAPEX FOR FY12 OF ~700 CR IS GOING TO BE A BIGGER BURDEN ON THE BALANCE SHEET THIS YEAR.
We may see Debt-to-Equity levels touching 1.5x or so. Please tell us a little more on the financing costs. Working Capital/ Sales has risen to over 32% of Sales, and is likely to go further up as inventory levels go higher. Is Working Capital also financed in foreign currency? What will be the overall financing cost? Will it be lower than your traditional 4-5%?
The current debt is about 600 Cr. Of the 700 Cr we will be spending about 500 Cr this year and 200 Cr will be used in FY13. So I think we will still be within D/E levels of 1.3x. Yes Working Capital finance is also in foreign currency now. Our overall financing cost will be around 2%
9. EUROPEAN ECONOMY IS TROUBLED. THE CURRENT BAILOUT TO GREECE MAY NOT BE ENOUGH AND THERE ARE FEARS THIS MAY LEAD TO MORE SUCH BAILOUTS FOR GREECE AND THE OTHER COUNTRIES LIKE IRELAND, SPAIN TOO. THE EURO AS A CURRENCY IS UNDER TREMENDOUS PRESSURE. BKT DERIVES ~47% OF REVENUES FROM EUROPE.
What are BKT’s views on the risks from this front and what are its plans to mitigate these risks?
Well these fears have been around for last 3 years or so. we hear them all the time but from customers on the ground we have heard no such fears -they expect business as usual. If there is some turmoil, the Agri-Tires situation (65%) will probably be okay because farming & food business will still carry on. The OTR segment may see some pressures.
The Euro currency front is a cause for concern say if it corrects to being equivalent to dollar levels. We can’t do much on that except the simple 1 year forward contracts that we take to hedge for upto a year ahead.
10.EXPORTS ACCOUNT FOR ~90% OF SALES. MORE THAN 70% EXPORTS ARE TO DEVELOPED MARKETS.
How soon will emerging economies together account for something like 40-50% of Sales? What are BKTs views on entering the Chinese market?
In the post expansion situation of 230,000 MTPA capacity the export dependence on developed markets will continue. The mix may change – Europe may come down to 40% levels from 47% and US market may increase to 30% from 23% currently. Some Other markets may inch up to 4-5%.
Post the 2015 expansion, there may be a higher tilt to emerging economies. Chinese market has established players -but they operate solely within China. We have no plans of entering that market.
11.SUSTAINABLE COMPETITIVE ADVANTAGE. WE HAVE SEEN BKT HOLDING ITS ADVANTAGE THROUGH THE LAST 10 YEARS AND GROWING MORE THAN 10X IN THE SAME TIME IN SIZE.
What are the reasons you have continued to enjoy competitive advantages and have not faced serious threats from emerging or bigger players?
As you know our niche is known by its characteristics as a low volume-large varieties market. The approach needed for production and servicing this niche is completely different from the mainstream high volume commercial tire production market. It needs completely different processes, a completely different factory and a different set of people.
The business is very SKU driven. The larger the number of SKUs that you can manage the larger business you can attract. The reason is because our customer businesses need to run a very tight ship because of the low volumes and large varieties. They will always prefer to deal with a vendor who can support all their requirement sunder one roof, rather than deal with multiple vendors.
For the bigger players, the OHT segment is very small, less than 10% of their business. But if they have to grow this smaller segment profitably, they would have to shift a considerable focus away from their main commercial tire business. Many big players with OHT presence have chosen to exit from the niche.
If we look at tractor tyres in India we see mostly MRF or Goodyear. Why has MRF for example not found it profitable to compete with you in exports for Agricultural tires? It’s not that MRF or Apollo or any of the tire biggies in India aren’t aware that BKT operates at something like 2x their margins and returns!
True, these players have been making some noises from time to time but they have all been running small OHT operations, and the size continues to remain small. For them to scale up the OHT segment would mean a considerable shift of focus from their main bread & butter business, for reasons as explained before. They have been unable/unwilling to take those steps.
Why has no one from the mainstream tire industry ventured out in off-highway tires in a big way despite clearly seeing a decade long growth story unfolding before them?
Exactly the same reasons.
And for the first time there is hint of serious competition coming from players like Alliance who seem to be capable of replicating the same advantages as BKT. Why do you think you will retain sustainable competitive advantages for the next 5 years?
Like most businesses isn’t it true of your business too that 80% of the business comes from 20% of the products? So what prevents a competitor from fast-tracking on the most important SKUs and Alliance for example could be well are of those characteristics.
Well no such luck! Our business is spread more or less evenly across the whole SKU range. The more the number of SKUs we have, the more business we can attract.
In other words, is it fair to surmise that having large number of SKUs is your actual moat – or main competitive advantage today?
12.MANUFACTURING PLANTS & AUTOMATION
The modern automated plant at Chopanki (60000 MTPA) is reportedly delivering 110 TPD at 75-80% utilization. Both the plants are functioning on three shifts per day on a 7 day week. But your Bhiwadi plant (60000 MTPA) is over 18 years old and reportedly still delivers about 135-140 TPD close to 100% achievable capacity. Is this true??
Actually the Bhiwadi plant was acquired from Govind Rubber a subsidiary -which makes bicycle tires in 2001. They had 2 plants one of which was lying idle. That plant was acquired by us and the whole set up was revamped. So its like a 10 yr old plant today. Our Walud plant is the oldest.
This is an amazing record and speaks well of Management’s ability to maintain its plants and progressive de-bottlenecking. It also indicates maneuverability and the expertise of the company to implement a complex manufacturing process and switching it flexibily to accommodate client specific requests.
Both Bhiwadi and Chopanki plants are exactly similar. They have similar levels of automation or manual interventions. The Chopanki plant is new and as mentioned before will need progressive de-bottlenecking to reach peak utilisation levels.
13. MOULD DIVISION MERGER. BKT REPORTEDLY HAS 500-600 MOULDS USED FOR VARIOUS APPLICATIONS IN VARYING SIZES AND DESIGNS LAID IN THESE TWO PLANTS, ALL MANUFACTURED AT BKT’S MOULD MANUFACTURING PLANT AT DOMBIVALI, MAHARASHTRA. THIS DIVISION IS NOW BEING MERGED WITH BKT?
Kindly tell us a bit more on the advantages of having your own mould manufacturing plant. And why this decision now to merge it with BKT?
We had acquired a plant that basically had land. We thought this land could be best used for expanding our mould making facility in BKT moulds which was adjacent. Thus BKT Moulds was merged with BKT.
14.DIVIDEND POLICY. BKT USED TO BE PAYING ABOVE 20% OF EARNINGS AS DIVIDEND TO SHAREHOLDERS. THIS HAS BEEN GRADUALLY COMING DOWN AND HAS SEEN DRASTIC CUTS IN THE LAST 2 YEARS. FY10 DIVIDEND PAYOUT WAS AT 6.48% AND FY11 IS EVEN LOWER
Can you please clarify the Managements thinking on this front? What kind of dividends can we expect in the future?
We do not have a Dividend policy written down. But we are clear that we will pay dividends – we must maintain our uninterrupted dividend paying record. The quantum of dividends paid got reduced yes, during the last credit squeeze, liquidity was very tight. We reckoned that we could better utilise the proceeds by paying lesser dividends and consequent taxes, which otherwise we would have had to raise from the market.
We have taken into consideration views on Dividends from several Investor groups, and in happier times we will try and restore some balance there.
15. $1 BN IN SALES?
What are the important milestones on the way? With a Sales target of 130000- 135000 MTPA for FY12 we are probably doing ~2300-2400 Cr in Sales?
No actually we should do better at some 2700 Crs. We have locked in orders booked at higher realisations.
With 230,000 MTPA achievable capacity from 2HFY13, what kind of Sales is probable in FY13? 3000-3500 Crs?
FY13 would probably see ~30,000 MTPA additional capacity coming onstream. So yes Sales could be in that range.
What kind of market share will this transalate to for BKT? When will we see BKT claiming a 10% market share in the global off-highway tires market?
16. CHALLENGES AHEAD. WE HAVE TRIED TO COVER THE ISSUES BEFORE THE COMPANY AS WE SEE IT FROM OUR LIMITED UNDERSTANDING OF BKT AND THE INDUSTRY.
Please elaborate on the main challenges before the company as it is scaling up in a big way and trying to address the huge opportunities before it.
Well we see the Challenges mainly on 3 fronts.
First Execution Challenges – and this includes resources, labour, training, handling multi-locational issues while executing on-time. Second challenge is handling the RM situation well, and lastly there are challenges on the Currency front like we discussed before.
So Marketing is not a challenge?
No, Marketing is NOT a challenge!
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Donald Francis: No Holdings in the Company; ;
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