CMP: Rs.138             Recommendation: Buy 
 

Background

Everest Kanto Cylinders (EKC) is a pioneer in the manufacturing and development of Industrial and CNG cylinders with a dominant market share in the South Asian and Middle Eastern markets.

The company has three manufacturing plants in India at Aurangabad, Tarapur and Gandhidham. It also has plants in the Middle East, Dubai and USA. EKC has a total existing capacity of one million cylinders of all sizes.

Analyst’s Note:

The company’s performance in FY 2010 was less than impressive on account of de-growth in the markets of Middle-East and USA. On the domestic front, the company witnessed a flat growth on y-o-y basis. Further, higher cost raw material inventory also impacted the company’s margins, which was further dented by the decline in product realisations.  Thus, lower sales coupled with high cost inventory resulted in a dismal performance for the fiscal gone by. Notably, the operating margin declined sharply to less than 9 per cent for the year FY 2010 as against 31 per cent in FY 2009 resulting in an unimpressive stock price performance until recently.
 
However, with the write-down of high cost inventory entirely accounted for in the previous year, the margins are likely to improve significantly going forward.

Moreover, the company derives almost half  of its revenues from the domestic market and the balance from Dubai, USA and China. Given the growth potential for the high pressure gas cylinders in the country, the company seems to be uniquely positioned to capitalize on the available opportunity.

This coupled with an increased initiative by the Government (Petroleum and Natural Gas Regulatory Board (PNGRB) towards implementation of Compressed Gas Distribution Projects across cities augurs well for the demand of natural gas and thereby cylinders.

With major automakers increasing focus towards the production of Hybrid cars due to increasing availability of CNG, it is likely to have a direct positive demand for EKCs cylinders.

Further with the deregulation of fuel prices CNG is likely to turn more attractive as compared to other fuels. Also higher crude oil prices tend to impact the demand for CNG positively. All this would enhance the consumption demand for natural gas and the company seems to be the direct beneficiary of increased consumption.

The management is on record as having said that  the projected gas supply is expected to increase from 80.5 MMSCMD to a level of about 200 MMSCMD in 2010-11. The company has thus chalked out an extensive expansion plan, including a green field plant in China.

The company also plans to venture into the market for light weight CNG cylinders mainly required by OEMs in Europe and Asia, and the project is expected to go into production in Q3 2010-11. This, along with manufacturing cylinders with billets and plate to diversify raw material risk and expand market share is likely to have a positive impact. 

Conclusion:

Changing product mix, increase in the demand for cylinders across all categories (CNG, Industrial and Jumbo Cylinder Business) along with increase in realizations going forward are likely to boost both the topline and bottomline of the company. For now, the company trades at a P/E multiple of less than 20 times its forward earnings. With most negatives already factored in, considering accumulating the stock at successive declines could prove rewarding for long term investors.