Rating Rationale
November 16, 2018 | Mumbai
Escorts Limited
'CRISIL A1+' assigned to CP
 
Rating Action
Rs.100 Crore Commercial Paper Programme CRISIL A1+ (Assigned)
1 crore = 10 million
Refer to annexure for Details of Instruments & Bank Facilities
Detailed Rationale

CRISIL has assigned its 'CRISIL A1+' rating to the commercial paper programme of Escorts Limited (Escorts).

The rating reflects a healthy business profile backed by an established and improving market position in tractors, a diversified revenue profile, and healthy operating efficiency. The rating also factors in a strong financial risk profile, due to healthy cash accrual and strong liquidity with minimal dependence on external debt. These strengths are partially offset by high dependence on the cyclical tractors industry with limited presence in west and south India, weak though improving performance of the construction equipment (CE) segment, and susceptibility to volatility in raw material prices.

The market position is reinforced by a strong position in North India and an improving market share in others geographies. The Powertrac and Farmtrac brands have increased the range of offerings, especially in the last couple of years, benefiting penetration in newer geographies. Additionally, diversity is improving gradually with improved performance of the CE and railways equipment segments with healthy growth and cost reduction initiatives. A healthy compound annual growth rate (CAGR) of 12-15% over next 2 years in revenue is expected over the medium term, which, along with a steady operating profitability margin of 11-13% should result in sustenance of the return on capital employed (ROCE) at 40-50%over the medium term from 58% in fiscal 2018. An improving cost structure in line with the industry average, and better profitability in the CE segment have resulted in a greater ability to sustain the operating profitability margin during negative cycles.  

The promoter (third-generation entrepreneur) and management have a strong understanding of the underlying business drivers. Their extensive experience, focus on product development, continuous cost engineering, and increasing geographic reach have helped maintain healthy operating efficiency. This has resulted in an industry-leading growth rate and higher operating margin (10.8% in fiscal 2018) despite intensifying competition.

Analytical Approach

CRISIL has combined the business and financial risk profiles of its all subsidiaries and other joint ventures proportionately. That's because all these entities, collectively referred to as Escorts, have significant business and financial linkages.

Key Rating Drivers & Detailed Description
Strengths
* Healthy market position in the tractor industry: Escorts is the fourth-largest player in the tractor segment in India (after Mahindra & Mahindra Ltd ['CRISIL AAA/Stable/CRISIL A1+'], Tractors and Farm Equipment Ltd ['CRISIL AA+/Stable/CRISIL A1+'], and Interactional Tractors Limited) backed by an established legacy of 70 years and a market share of 11%. The division offers a wide range of tractors- 10-75HP- primarily under the Farmtrac and Powertrac brands. Revamp of the product portfolio over the past three fiscals, healthy financing tie-ups (including a joint venture with De Lage Landen Financial Services India (DLL)), and an increasing dealer network have helped to gain market share in West India (9.5% in fiscal 2018 against 7.8% in fiscal 2016) and sustain the share in other geographies. New products to serve local needs in opportunity markets such as West and South India along with improving dealer and financing penetration, will help to improve diversity in revenue and add to market share over the medium term. Furthermore, increasing focus on exports (3.7% of revenue in fiscal 2018) should help to sustain 7-9% volume growth over this period.
 
* Diversified revenue profile
The CE and railways equipment business contribute 15% and 6% to total revenue, respectively. The product portfolio in the CE business comprises earth moving, material-handling equipment, and road-construction equipment. This diverse product range enables the company to cater to multiple end-user industries and has resulted in a CAGR of 16.2% during the four fiscals through 2018. Moreover, the second-largest position in the pick-and-carry crane segment and increasing tie-ups improving product portfolio should drive revenue growth in the medium term.

Revenue in the railways equipment business, the most profitable product segment, comprising of brakes, suspensions, couplers for Railway and India Railways, has also had a robust CAGR of 8% during the four fiscals through 2018. Substantial orders of over Rs 400 crore as on September 30, 2018, provide strong revenue visibility.

* Healthy operating efficiency: The operating profitability margin has consistently improved (11.8% for the first six months of fiscal 2019 against 6.9% in fiscal 2017) driven by the cost reduction initiatives taken over the past three fiscals, benefit of operating leverage driven by industry leading growth and exit from the loss-making automotive (auto)-component business. Reduction in raw material cost due to value engineering and lowering employee cost should help sustain the margin over the medium term. Additionally, there was an operating level breakeven in the CE segment in fiscal 2018, and a further improvement in the margin to 4-5% is expected in fiscal 2019 driven by benefit of operating leverage, changing product mix, and cost reduction. The railways business continues to be profitable with the margin at 13.9% in fiscal 2018. This will result in further improvement in the overall operating profitability margin to over 12% in the medium term.

Furthermore, working capital management has been prudent as indicated by a negative working capital cycle. Substantial credit of 90-100 days is received from suppliers against debtors of 40-45 days and inventory of 40 days.

* Strong financial risk profile supported by robust liquidity:  The company's financial risk profile is marked by low debt and comfortable debt metrics with a gearing of 0.05 times and healthy cash surplus of Rs 687 crore, as on March 31, 2018. Cash accrual is expected to remain comfortable at Rs 400-500 crore, and will be more than sufficient to meet modest capital expenditure of Rs 250-300 crore per annum in fiscals 2019 and 2020. The financial profile is likely to remain robust over the medium term despite any small- or medium-size acquisition for inorganic growth. Size and funding of such acquisitions will remain a monitorable. Additionally, liquidity is likely to remain robust over Rs 500 crore in the medium term.

Weakness
* High dependence on the cyclical domestic tractor market and limited presence in South and west India: About 96% of the volume of tractor sales is in the domestic market. The demand for tractors in India is determined by multiple variables such as monsoon, crop prices, and availability of finance. For instance, the company's operating performance was impacted in fiscals 2015 and 2016 due to slowdown in the tractor industry, leading to a volume decline by 13.3% and 13.7%(fiscal-on-fiscal), respectively. Further, the company has limited presence in its opportunity markets (with market share of 3.7% in South and 9.5 % in west India in fiscal 2018).The limited geographical diversity has led to loss of market share during cyclical downturns.

* Weak, though improving, performance of the CE segment
The performance of the CE segment, which accounts for 15% of overall revenue, has improved and earnings before interest and tax (EBIT) were Rs 7.7 crore in the first six months of fiscal 2019. The division has been loss-making in the past due to high fixed costs and cyclical nature of the business. EBIT loss was 4-5% in the three fiscals through 2017, which has improved to 1.9% and 1.6% in fiscal 2018 and the first six months of fiscal 2019, respectively. The turnaround is led by a change in the product mix (increasing proportion of higher tonnage equipment) and cost rationalisation initiatives with vendor rationalisation and price renegotiation, and the margin is expected to gradually improve to 3-4% over the medium term. However, this business has high input costs, is considerably fixed-cost intensive, and faces competition and economic challenges. Further, despite the turnaround and improvement in profitability, the operating margin is still lower than that of peers (6-8%). While the segment has been able to bring down losses, the sustenance of growth and improved profitability will remain a key monitorable.

* Susceptibility of profitability to volatility in raw material prices: The price of the main input, steel (in the CE segment), is volatile. Profitability is also constrained by the limited ability to pass on any increase in raw material costs in full to customers in a timely manner, given the competitive nature of the industry.
About the Company

Mr H P Nanda started the Escorts group through Escorts Agents in 1944 in Lahore, and moved to Delhi after independence. Escorts Limited (Escorts) was converted into a public limited company and wasrenamed as Escorts Limited (Escorts) from Escorts (Agents) Private Limited in January 1960. The company currently operates in three segments: tractors, CE, and railway equipment. It had diversified into other products such as agricultural machinery, auto components, railway equipment, industrial and construction equipment, telecommunication equipment, healthcare, and software services. However, some of its non-core businesses, such as telecommunications (sold Escotel Communications in fiscal 2004), healthcare (sold Escorts Heart Institute & Research Center in fiscal 2005), software (in fiscal 2005), and auto components (in fiscal 2017) have been divested. Escorts also merged Escorts Construction Equipment Ltd, Escotrac Finance and Investments Pvt Ltd, and Escorts Finance and Leasing Pvt Ltd with itself in 2012.

The company is managed by third-generation family member, Mr Nikhil Nanda, who is the chairman and managing director.
It has six manufacturing facilities in Faridabad, Haryana; and Poland. Escorts has total annual capacity of 1 lakh tractors and 10,000 units in construction equipment.

For the six months ended September 30, 2018, net profit was Rs 223.4 crore on revenue of Rs 2,948.7 crore, against net profit Rs 140.2 crore on revenue of Rs 2,403.4 crore in the corresponding period of the previous fiscal.

Key Financial Indicators
Particulars/ ending March 31, Unit 2018 2017
Revenue Rs crore 5,067 4,152
Profit after tax (PAT) Rs crore 347 131
PAT margin % 6.8 3.1
Adjusted debt/adjusted networth Times 0.05 0.61
Interest coverage Times 19.84 9.83
 

Any other information: Not applicable

Note on complexity levels of the rated instrument:
CRISIL complexity levels are assigned to various types of financial instruments. The CRISIL complexity levels are available on www.crisil.com/complexity-levels. Users are advised to refer to the CRISIL complexity levels for instruments that they consider for investment. Users may also call the Customer Service Helpdesk with queries on specific instruments.
Annexure - Details of Instrument(s)
ISIN Name of
instrument		 Date of
allotment		 Coupon
rate		 Maturity
date		 Issue size 
(Rs cr.)		 Rating assigned
with outlook
NA Commercial Paper
Programme		 NA NA 7 to 365 Days 100 CRISIL A1+
Annexure - Rating History for last 3 Years
  Current 2018 (History) 2017  2016  2015  Start of 2015
Instrument Type Outstanding Amount Rating Date Rating Date Rating Date Rating Date Rating Rating
Commercial Paper
Programme		 ST  100.00  CRISIL A1+    --    --    --    --  -- 
All amounts are in Rs.Cr.
Links to related criteria
CRISILs Approach to Financial Ratios
Rating criteria for manufaturing and service sector companies
Rating Criteria for Tractor Industry
CRISILs Criteria for rating short term debt

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