22 December 2011 Update | Sector: Capital Goods

Cummins India
BSE SENSEX S&P CNX

15,685

4,693

CMP: INR326

TP: INR406

Buy

Domestic sales moderates; outlook for exports encouraging

Expect margin recovery to drive up FY13 earnings; Buy

Bloomberg Equity Shares (m) 52-Week Range (INR) 1,6,12 Rel. Perf. (%) M.Cap. (INR b) M.Cap. (USD b)

KKC IN 277.2 571/322 -1/-21/-18 90.4 1.7

In our recent meeting, the management sounded cautious due to subdued demand in the domestic market. However, impact of the slowdown on Cummins India will be moderate given its diversified business mix . The outlook for exports remains encouraging. The parent, which has identified India as a key outsourcing destination, sees good growth in CY12 and has maintained its CY15 revenue target. After bottoming out in 3QFY12, we expect margins to pick up in FY13, led by better product mix and likely correction in raw material prices. The stock trades at 17x FY12E earnings. We maintain Buy.

Y/E March

2011 2012E 2013E 47.3 8.7 6.3 22.6 18.5 72.5 14.4 4.5 9.6 1.8 32.3 32.0

Net Sales (INR b) 40.6 42.7 EBITDA (INR b) 7.8 7.1 NP (INR b) 5.9 5.3 EPS (INR) 21.3 19.1 EPS Gr. (%) 33.1 -10.6 BV/Sh. (INR) 64.5 67.5 P/E (x) 15.3 17.1 P/BV (x) 5.1 4.8 EV/EBITDA (x) 10.6 11.6 EV/Sales (x) 2.0 1.9 RoE (%) 35.5 28.9 RoCE (%) 35.3 28.7

Domestic demand muted, but sales unlikely to drop sharply: The demand environment in the domestic market continues to be muted, though secondary sales have picked up in recent months. Growth across end-user markets has moderated, as buyers have postponed capex due to sluggish business environment and high interest rates. We believe, however, that Cummins India (KKC) will not see a sharp drop in domestic sales in FY13 even if the slowdown persists, given its diversified product mix and relatively lower dependence on Infrastructure-related sectors. Outlook for exports encouraging; parent sees good growth in CY12: Outlook for export sales remains encouraging. Cummins Inc has maintained its USD30b revenue target for CY15, as against USD18b in CY11. It has identified India as a key outsourcing destination for its global markets. Bulk of KKC's exports is for Power Generation applications; it supplies K and N series engines of various displacements like 28 liters, 38 liters and 50 liters. HHP engines (with a rating of >500kVA) constitute ~70% of KKC's exports. KKC is also setting up an export-oriented unit of small gensets (<200kVA), with an eventual capacity of 40,000 units per annum. The plant will start production by FY14 and provide significant upside to exports. EBITDA margin to remain under pressure in 2HFY12; expect recovery in FY13: KKC's EBITDA margin has been impacted by three key factors: (1) higher pig iron prices, (2) declining share of HHP engines in overall sales mix, and (3) high share of exports. We believe that adverse revenue mix will persist for the remainder of FY12 due to moderate growth in HHP power generation engines. We expect EBITDA margin to decline from 20% in FY10 to 16.5% in FY12. We believe that margins will pick up in FY13, led by better product mix, likely correction in raw material prices and favorable impact of price increases / cost cutting initiatives. Valuation and view: We have cut FY13 earnings by 8% and now expect KKC to clock revenue and PAT CAGR of 8% and 3%, respectively over FY11-13. EBITDA margin is likely to expand to 18.4% in FY13 after dipping to 16.6% in FY12. The stock trades at 17x FY12E earnings, at par with its 5-year average P/E. Over the years, the stock got re-rated due to significant improvement in domestic revenue visibility and its parent's increasing thrust on outsourcing from India. Fundamental earnings drivers remain intact and will continue to drive KKC's growth in the long term. We maintain Buy, with a target price of INR406 (18x FY13E earnings).

Shareholding pattern % (Sep-11)

Others, 15.7

Foreign, 11.4

Domestic Inst,21.9

Promoter 51.0

Stock performance (1 year)

Cummins India Sensex - Rebased 600 525 450 375 300 Dec-10 Apr-11 Aug-11 Dec-11

Dhirendra Tiwari (Dhirendra.Tiwari@MotilalOswal.com); Tel: +91 22 3029 5127 Deepak Narnolia (Deepak.Narnolia@MotilalOswal.com); Tel: +91 22 3029 5126

Cummins India

Domestic demand muted, but sales unlikely to drop sharply

Diversified sales mix to limit downside; management maintains long-term guidance

The demand environment in the domestic market continues to be muted, though secondary sales have picked up in recent months. Growth across end-user markets has moderated, as buyers have postponed capex due to sluggish business environment and high interest rates. We believe, however, that KKC will not see a sharp drop in domestic sales in FY13 even if the slowdown persists, given its diversified product mix and relatively lower dependence on Infrastructure-related sectors and large industries. Though the management has reduced its domestic sales growth guidance for FY12 to 5-10%, it maintains its long-term guidance of high-teen growth.

Company has recently reduced its domestic sales growth guidance for FY12 to 5-10% from 10-15% earlier, while maintaining its longterm guidance of high-teen (around 20%) growth

Domestic sales have slowed down Domestic sales, which accounted for 73% of FY11 revenue, have slowed down considerably in the last two quarters, largely due to slowdown in the Power Generation segment. Growth in Commercial Realty, Infrastructure, Banking and Telecom has moderated to 5-6%, while Auto, Retail/IT and Hospitality continue to perform well, registering 8-10% growth. The Telecom segment, though small, is now showing a declining trend down 15% YoY against a growth of 25% earlier. The Industrials segment also slowed down due to cyclical downturn in the Water Well Rigs segment (25% of Industrials segment), which is likely to drop by 50% in FY12. However, other sub-segments like Construction, Mining, Drills and Portable Compressors should see healthy growth of 10-15%. but a sharp decline is unlikely; long-tem outlook positive The management views the moderation in growth during FY12 as a short-term phenomenon. It has reduced its domestic sales growth guidance for FY12 to 5-10% from 10-15% at the beginning of the year due to demand slowdown resulting from high interest rates and rising inflation. However, it maintains its long-term guidance of high-teen (around 20%) growth.
Domestic sales flat in 1HFY12
Domestic (INR m) 5,320 5,444 7,598 Grow th (%, YoY) 7,915 7,793

4,448

4,130

4,445

7,409

6,940

61 15 1QFY09 21 2QFY09 8 3QFY09 4QFY09

29

67 22 -22 30

5,904

45 -6

6,934

32

7,495 8 1QFY12

-5 2QFY12

1QFY10

2QFY10

3QFY10

4QFY10

1QFY11

2QFY11

3QFY11

Source: Company/MOSL 22 December 2011

4QFY11

7,519

Cummins India

Domestic sales: Expect moderate growth in FY12 and FY13

Domestic Sales (INR b) 32.5 29.6 25.1 18.3 20.4 16.3 8.4 7.1 12.2 9.5 12.6 8.0 15.8 23.6 29.2 23.8 31.6 34.6 9.3 FY13E Revenue Grow th (%)

8.4 FY12E FY09 FY10 FY11

FY04

FY05

FY06

FY07

FY08

Source: Company/MOSL

Demand in 1HFY12 has weakened, especially in high HP segment

1. Power Generation: Broad-based demand to mitigate risk of decline in sales In FY11, Power Generation sales grew 29%, despite negative sales growth in the low horsepower (LHP) Telecom segment. During FY12, this segment saw recovery in gasbased gensets, with 19MW of gas-based power generation projects under execution. Demand has been muted in 1HFY12, due to postponement of purchases by customers. We believe KKCs domestic Power segment sales will continue to witness strong growth due to broad-based nature of demand. According to Powericas DRHP, the size of the Indian DG set market (for DG sets rated 15kVA to 2,000kVA) is 153,305 units, with overall revenue of INR66b (FY10). The size of the domestic market for medium horsepower (MHP; rated 375kVA to 750kVA) and high horsepower (HHP; rated 750kVA to 2,000kVA) DG sets is 6,255 units, with overall revenue of INR22b (1/3rd of the total market). While the domestic DG set industry is likely to grow at a CAGR of 10% over FY10-15, the MHP market is likely to post a CAGR of 6.2% and the HHP market a CAGR of 9.8%.
Size of domestic MHP/HHP DG set market
kVA Range 375.1-750 750.1-2,000 Total Units 5,220 1,035 6,255 Revenue (million) 12,745 7,898 20,642 Source: Powerica DRHP

In FY10, the MHP segment accounted for 19.4% and the HHP segment for 12% of Indias total DG set market. Demand continues to be broad-based IT/ITES, Healthcare, Other Services, and Manufacturing.
Demand for nearly 70% of Cummins' powergen engines comes from a host of services sectors, led by IT, ITES and healthcare industries; will see limited impact of slowdown in economy

Indian genset market (375-2,000 kVA) by revenues

Others 25% Healthcare 12%

IT/ITES 31% Industries 32%

Source: Company 22 December 2011

Cummins India

Impressive product mix; enjoys 35% market share: KKC enjoys a strong 35% market share in the domestic diesel engines industry. It has a market share of over 70% in the HHP segment, 30-40% in the MHP segment and ~15% in the LHP segment. KKC has maintained leadership despite intense competition and we believe that it can increase its market share, further. Our belief stems from the following:
Cummins' strategy of introducing innovative products and strong focus on distribution has helped the company grow its market share over years

New product programs and fit for market solutions: New product programs and fit for market strategy has helped KKC to increase its market share despite stiff competition. The company launched many new products and redesigned existing ones to make them fit for market requirements. It has customized products according to specific customer and market needs. New emission norms: All diesel engines used for power generation have to comply with new emission norms, starting July 2013. The company expects to gain significant competitive advantage from this due to its superior product development capabilities. The average realization (and profitability) of such engines is likely to be significantly higher. Strong presence in distribution segment: KKC has a strong presence in the distribution segment, which has been growing at a good pace. It reported robust performance across all lines of business with a growth of 14% YoY in FY11. KKC has achieved significant improvements in profitability across its operations in this segment through stringent cost control measures. Changing technology, product platforms, fuels and emission regulations creates new business opportunities for KKC. It has gained market share in this segment by providing unique solutions to customers. Meeting rising customer expectations, and creating high service standards have given KKC a competitive advantage over peers, which will help the company to sustain its market share.
Cummins' powergen range

Source: Company

22 December 2011

Cummins India

KKC has 70% market share in high HP segments, and is gradually growing in the mid and low HP segments

Dominant position across Indian DG set market Cummins India (KKC) has built a strong presence in the Indian DG set market and commands over 35% market share. It has ~70% market share in HHP segment (750kVa+), despite the presence of Caterpillar and Perkins. In the MHP segment (350-750kVa) segment too, it is the leader, despite intense competition (Kirloskar, Ashok Leyland, Volvo, and many other global companies). KKC has partnerships with three original equipment manufacturers (OEMs) in India for the assembly and distribution of DG sets. While it concentrates on engineering, manufacturing, sales and servicing, its partners add value through assembly (of engines, generators and control systems), turnkey solutions and installation. In a typical DG set, the engine constitutes 50% of total value, the generator 30%, control systems 10%, and other assemblies 10%. All of KKCs OEM partners source generators from Cummins Generator Technologies, its associate company. KKC has control over 7580% of the value chain of a DG set.

Typical layout of a DG set assembly

Excitation Control

Partnering with OEMs: KKC'S business model

Cummins India

Engine Manufacturing Sudhir Gensets Powerica, Jakson

Diesel Engine

A.C. Generator

Controls

Load

Generator OEM

CSS

Fuel Control Accessories Foundation

Customer

Customer

Customer

After Sales Service

5 Cs of an Engine: Cylinder block, Cylinder head, Crank shaft, Cam shaft and Connecting rods

Source: Company 22 December 2011

Cummins India

2. Industrial Segment: demand from mining segment looks promising: In FY11, Industrial sales grew by 27% YoY driven by strong performance in key sectors such as Construction, Compressor & Mining. The compressor segment reported a growth of 42% YoY triggered by strong performance of water-well and portable compressor segments. The construction segment grew by 43% YoY. The mining and rail segments registered a growth of 26% and 25% YoY. We believe that Bharat Stage III emission norms, which have been implemented since April 2011 on off-highway wheeled construction equipments, would provide an opportunity for the Company to consolidate its position in the market.
Industrials: Offering products for vast range of applications
Segment Construction HP Range 50-300 HP Products Compactors, Crawlers, Loaders Excavators, Surface miners, Dump truck, Dozers Diesel powered Screw Compressors Diesel powered portable Screw Compressors Diesel engines, coaches Ships Deep drilling rigs, Work Over Rigs OEMs Telcon, L&T-Komatsu, JCB, Hyundai, Volvo, CAT, TIL, TWL, Vectra (VAE), Dynapac, LiuGong, Schwing Stetter, Wirtgen, L&T Case, Terex Vectra, Greaves, Escorts, ACE. BEML, CAT, Telcon, Revathi, L&T- Kansbahal, L&T Komatsu, TWL, Volvo etc. Euclid-Hitachi, Terex, Liebherr, O&K. Elgi Equipments, Atlas Copco, Kirloskar Pneumatic, Revathi Equipments, Doosan Atlas Copco India, Doosan, Elgi Equipments, Kirloskar Pneumatic ICF Chennai, RCF Kapurthala, Plasser, Faridabad, BHEL, DLW, Phooltan. Indian Navy, Coast Guard, Commercial Marine and Fishing Trawlers Jiva International, John Energy, Ramsharan & Co., BHEL, BPCL Source: Company/MOSL

Mining Water well rigs Compressors Rail Marine Oil field

300-3500 HP 60 - 200HP 60-1600HP 240HP-3800HP 50HP-2500HP 100HP-3000HP

3. Automotives: Management confident of maintaining growth Automotive segment sales were flat in FY11 due to base effect (in FY10, sales of CNG engines to the Automotive segment were high because of Commonwealth Games). However, de-growth in gas engines was offset by growth in diesel engines. KKC expects to maintain its strong position in this segment, with a wide portfolio of products. KKC manufactures 8.3-liter C-series engines. It also sources 3.9/5.9-liter B-series engines from Tata Cummins Phaltan facility, upfits them and sells to auto and powergen users. Tata Cummins, which can sell only to Tata Motors or to KKC, will have a manufacturing capacity of 120,000 B-series engines per year (similar capacity as its Jamshedpur plant). Tata Cummins is also developing an 8.9-liter L-series engine for larger trucks. KKCs automotive customers include Tata Motors, Ashok Leyland, Asia Motor Works and Eicher. Globally, Volvo uses Cummins 15-litre engine. This is, however, unlikely to be launched in India in the near future.

22 December 2011

Cummins India

Changing emission norms: A wining proposition for Cummins Diesel generators are increasingly used in rural and urban areas due to power shortage and increasing commercialization. DG sets are often blamed for high emission of toxic gases due to poor standards. While it has been made mandatory for vehicle manufacturers to use advanced diesel engines so that vehicles sold in the cities conform to BS-IV emission norms, a large number of DG sets sold are obsolete models and are not BS-III complaint. All diesel engines used for power generation have to comply with new emission norms, starting July 2013. KKC expects to gain significant competitive advantage from this due to its superior product development capabilities. The average realization of such engines is likely to be significantly higher. BS-III emission norms (based on EU Stage IIIA) have been implemented since April 2011 for off-highway wheeled construction equipment wheel loaders, skid steer loaders, motor graders, compactors, pavers and cranes. This would provide an opportunity for KKC to consolidate its position in the market.
A snapshot of changing emission standards
Market/Application U.S. on-highway Europe on-highway Brazil on-highway China on-highway India on-highway U.S. off-highway Europe off-highway 2010 EPA10 Euro V Euro IV Euro IV (Major Cities) Tier 4i Stage 3B Tier 4i Tier 4F Stage 4 Source: Copmpany 2011 2012 2013 EPA 13 2014 CO2 Euro VI 2015 2016+ EPA 16 CO2 Euro IV Euro V Euro IV Euro (Country wide) V

Higher emission drive content per engine US example

On-highw ay Euro 3 Tier 3 Off-highw ay

Euro 4 & 5

Tier 4 interim

Euro 6

Tier 4 Final

$0

$2,000 $4,000 $6,000 $8,000

$0

$2,000 $4,000 $6,000 $8,000

Source: Copmpany

Emission norms set limits to the amount of pollutants that can be released into the environment, by automobiles, industry, power plants and equipment such as diesel generators. Frequent policy actions have been taken in various countries to regulate the emissions of 4 pollutants, namely, nitrogen oxides (NOx), sulfur oxides, particulate matter (PM), carbon monoxide (CO). NOx is a byproduct of combustion that combines in the atmosphere to create smog. NOx is controlled by reducing the combustion temperature inside the cylinder. HC and CO are minor constituents of diesel exhaust and are controlled by improving combustion efficiency. PM is made up of soot particles in diesel exhaust from unburned carbon and is controlled by optimizing the combustion temperature and improving combustion efficiency. Companies like Cummins have developed advanced in-cylinder combustion technologies, fuel injection systems, advanced electronic controls to reduce emission.

22 December 2011

Cummins India

Outlook for exports encouraging; parent sees good growth in CY12

New product addition to be key growth driver

Though there was a lull in 3QFY12, the outlook for export sales remains encouraging. Despite the global slowdown, Cummins Inc has maintained its USD30b revenue target for CY15, as against USD18b in CY11. It has identified India as a key outsourcing destination. KKC meets 7-8% of its parents global powergen engine sales. It is also setting up an export-oriented unit of small gensets (<200kVA), which will provide significant upside to exports.

After a sharp decline in FY10, KKC's exports grew by over 100% in FY11;

Cummins Inc has identified India as a key outsourcing destination for its global markets. KKC meets 7-8% of its parents global powergen engine sales. Despite the global slowdown, Cummins Inc has maintained its USD30b revenue target for CY15, as against USD18b in CY11. This augurs well for KKC. After a sharp decline in FY10 due to global slowdown, KKCs exports bounced back in FY11, with over 100% growth. Power generation applications constitute the bulk of KKCs exports. It supplies K and N series engines of various displacements like 28 liters, 38 liters and 50 liters, and gensets to its parent. In a new development, KKC will also supply <200kVa DG sets to meet its parents global requirement. It is spending INR1.5b to set up a new factory in the SEZ part of the Phaltan mega-site (Pune) for this product. The eventual capacity will be 40,000 units by FY14 and provide further fillip to exports. We believe that new product addition will be a key growth driver. New products may include engines for industrial applications, apart from power generation applications.
Exports grow by 19% YoY in 1HFY12
Exports (INR m) Grow th (%, YoY) 130 69 40 -68 2,940 3,450 3,050 2,780 940 -79 720 -72 840 -35 1,820 2,160 2,760 2,650 2,700 1QFY12 2722 3,146 2QFY12 48 26 14 283

Powergen engines constitute bulk of KKC's exports, largely to its parent

215

113 60

1QFY09

2QFY09

3QFY09

4QFY09

1QFY10

2QFY10

3QFY10

4QFY10

1QFY11

2QFY11

3QFY11

Source: Copmpany/MOSL

4QFY11

22 December 2011

Cummins India

Cummins Inc maintains long-term guidance

Cummins Inc sees demand across geographies, led by market growth, new emission norms across world and market share gain; outsourcing form low cost countries to aid margins Sales (USD b) 14% CAGR EBIT (%)

18

30

14.5

18 13

9.4

2007

2011

2015

2007

2011

2015

Cummins Inc: Powergen sales mix

ROW 9% China 10%

Powergen: Cummins Inc maintains target

6.2
15% CAGR

Latin America & Mexico 11%

US & Canada 23%

3.1

3.5

India 13% Europe & Middle East 31% Africa 3%

2007

2011

2015

KKC: Exports to grow at 11% CAGR over FY11-13

KKC's exports have grown at a CAGR of 17% over FY05-11; expect to maintain 10-15% growth in the long-term; introduction of new products to drive growth

Exports (INR b) 36

Exports (% of Revenues) 39

33 24

33

31 26 13.1 17 10.3 11.1 12.8 26 27

21

1.7 FY03

2.2 FY04

4.0 FY05

5.3

6.1

7.2 4.9 FY12E FY13E FY08 FY09 FY10 FY11

FY06

FY07

Source: Copmpany/MOSL

22 December 2011

Cummins India

EBITDA margin to remain under pressure in 2HFY12; expect recovery in FY13

Better product mix, likely correction in raw material prices to drive margin expansion

KKCs EBITDA margin has been impacted by three key factors: (1) higher pig iron prices, (2) declining share of HHP engines in overall sales mix, and (3) high share of exports. We expect EBITDA margin to decline from 20% in FY10 to 16.5% in FY12. We believe that margins will pick up strongly in FY13, led by better product mix, likely correction in raw material prices and favorable impact of price increases / cost cutting initiatives.

EBITDA margin to pick up strongly in FY13 KKCs EBITDA margin has been impacted by three key factors: (1) higher pig iron prices, (2) declining share of HHP engines in overall sales mix, and (3) high share of exports. We believe that adverse revenue mix will persist for the remainder of FY12 due to moderate growth in HHP power generation engines. We expect EBITDA margin to decline from 20% in FY10 to 16.5% in FY12. We believe that margins will pick up strongly in FY13, led by better product mix, likely correction in raw material prices and favorable impact of price increases / cost cutting initiatives.
EBITDA margins impacted by rising input prices/adverse sales mix
EBITDA Margin (%) 22.6 18.7 13.3 18.1 13.2 13.3 18.4 20.4 21.3 18.1 19.9 17.6 17.8 19,000 16.1 15,500 12,000 1-Oct-09 1-Oct-10 1-Apr-09 1-Apr-10 1QFY09 2QFY09 3QFY09 4QFY09 1QFY10 2QFY10 3QFY10 4QFY10 1QFY11 2QFY11 3QFY11 4QFY11 1QFY12 2QFY12 1-Apr-11 1-Oct-11
1 7.8 65.7

Pig iron prices showing no signs of softening

26,000 22,500

Pig iron (INR/MT)

24,751

1-Jul-09

1-Jan-10

1-Jul-10

1-Jan-11

Exports-domestic sales mix

Exports (INR b) Domestic Sales (INR b) Exp / Sales (%)

RM/Sales
EBITDA Margin (%) RM (% of sales)

12 9 6 3 0 1QFY09 2QFY09 3QFY09 4QFY09 1QFY10

48% 36% 24% 12% 0%

70.0

70.6 67.8 1 8.7 1 8.4 1 8.1 1 3.2 63.6 1 3.3 62.8 62.4 20.4 63.9 62.0 61 .7 1 9.9 63.5 64.1 22.6 21 .3 1 8.1 1 7.6

1 3.3

6.1 64.6 64.2 1

2QFY10

3QFY10

4QFY10

1QFY11

2QFY11

3QFY11

4QFY11

1QFY12

2QFY12

1QFY09

2QFY09

3QFY09

4QFY09

1QFY10

2QFY10

3QFY10

4QFY10

1QFY11

2QFY11

3QFY11

4QFY11

1-Jul-11
1QFY12

Source: Copmpany/MOSL 22 December 2011

2QFY12

10

Cummins India

Cost cutting programs have helped to sustain margins KKC has been highly successful in its cost saving programs. Its EBITDA margin improved after the launch of ACE in FY08. During FY11, it successfully completed ACE-II (launched in FY08), achieving 96% of targeted savings (INR538m). The TRIMS program, launched in FY10 with the objective to reduce indirect material cost by 10% per year over three years, achieved bottomline savings of INR124m and avoidance savings of INR397m.
Cost cutting programs help sustain margins
EBITDA (INR b) EBITDA Margin (%) 20.1 13.7 15.8 13.1 8.7 7.1 15.6 19.2 16.6 18.4

Material Cost Reduction (INR m) Material Cost Reduction (% of PBT) 14.4 12.6 12.2 10.5 8.3 751 572 309 423 611 662 12.3

10.0

11.9

7.8 5.2 0.9 FY04 1.4 FY05 2.0 FY06 2.9 FY07 3.1 5.8

FY12E

FY13E

FY08

FY09

FY10

FY11

FY06

FY07

FY08

FY09

FY10

FY11

Source: Copmpany/MOSL

22 December 2011

11

Cummins India

Balance sheet strong; expect earnings recovery in FY13

Estimate PAT CAGR of 3% over FY11-13

We have cut FY13 earnings by 8% and now expect KKC to clock revenue and PAT CAGR of 8% and 3%, respectively over FY11-13. KKCs balance sheet continues to be strong. Cash and investments together constitute 46% of its total balance sheet. RoCE has consistently improved over FY04-11 from 20.5% to 44.5%. Excluding cash and investments, RoCE is exceptionally high at 74% (up 510bp) as at endFY11.

Estimate revenue CAGR of 8%, PAT CAGR of 3% over FY11-13 We expect KKC to clock revenue and PAT CAGR of 8% and 3%, respectively over FY11-13. EBITDA margin is likely to expand to 18.4% in FY13 after dipping to 16.6% in FY12.
Sales (excluding other operating income)
Revenues (INR b) Revenue grow th (% YoY) 27.9 12.5 23.5 39.5 33.5 28.4 25.8 26.4 8.3 23.5 10.8 42.4 38.7

Earnings to recover in FY13

PAT (INR b) PAT Grow th (%) 37.8 28.0 19.1 6.3
42.7 47.3

54.5

33.1

25.6 16.0 5.9 4.1 5.3 FY12E 2.4 2.4 2.8 4.4 9.9 6.3
2010 99 1 100 21 47 28 4 100

12.0

14.8

18.6

9.4

1.8

0.9

FY12E

FY13E

FY03 1.0

-15.0 FY07 FY08 FY09 FY10 FY11

FY04

FY05

FY06

1.1

1.4

-3.7 FY13E FY11

FY02

FY04

FY05

FY06

FY07

FY08

FY09
99 1 100 24 40 30 6 100

Source: Copmpany/MOSL

Balance sheet remains strong In FY11, KKCs balance sheet increased by 16%, mainly driven by significant increase in investment in fixed assets and higher working capital requirement. Cash and bank balance almost doubled from INR559m in FY10 to INR1,037m in FY11. KKC continues to be virtually debt-free and is cash-rich. Cash and investments together constitute 46% of KKCs total balance sheet.
Strong balance sheet (INR m)
2011 Net worth Loans Total capital employed Fixed assets Investments Net working capital Cash and bank Total assets 17,875 183 18,058 4,411 7,255 5,356 1,037 18,058 2010 15,440 87 15,527 3,337 7,329 4,301 559 15,526 2011 Common Size (%)

Source: Company/MOSL 22 December 2011

FY10

12

Cummins India

Reduction in working capital (as a percentage of sales) continues Working capital declined from 14.8% of sales in FY10 to 13.2% in FY11, driven by reduction in inventory days and increase in creditor days. Inventory declined from 52 days in FY10 to 47 days in FY11 while creditors increased from 47 days in FY10 to 55 days in FY11. Interestingly, working capital requirement has been continuously decreasing over the last 8 years.
Continuous decline in working capital as a percentage of sales
NWC (INR b) 28.5 18.4 25.6 22.5 17.9 19.5 15.1 13.6 11.4 11.3 NWC (% of Sales)

Debtors days 89 91 90 83 86 74 64 53 49 45 63 52

Creditors days

66 47

65 55

70 55

70 55

1.7 FY04

3.4 FY05

3.8 FY06

4.2 FY07

4.2 FY08

6.5 FY09

4.3 FY10

5.4 FY11

4.9 FY12E

5.4 FY13E

FY12E

Source: Company/MOSL

RoCE has improved to 35%, despite significant capex KKCs return on capital employed (RoCE) has consistently improved over FY04-11 from 20.5% to 35%. Total asset turnover ratio increased to 4.4x in FY11 from 3.7x in FY10. KKC is cash-rich, with cash and investments constituting almost half the balance sheet. Excluding cash and investments, its RoCE was high at 74% (up 510bp) as at end-FY11.

RoE and RoCE maintained

Capital Employed (INR m) 33.1 28.3 23.0 19.5 13.6 11,191 13,945 15,527 18,058 18,886 20,278 27.5 30.2 RoCE (%) 35.3 32.0 28.7

Capital employed excl. cash & inv (INR m) RoCE (%) (excl cash and investments) 68.7 41.5 29.7 10,066 10,921 FY12E 19.5 16.7 5,486 47.9 38.9 12,917 FY13E 73.8 61.5 63.4

3,804

5,703

6,308

7,047

9,929

6,824

7,366

7,948

9,222

FY12E

FY13E

FY04

FY05

FY06

FY07

FY08

FY09

FY10

7,938

FY04

FY05

FY06

FY07

FY08

FY09

FY10

FY11

Source: Company/MOSL

FY11

FY13E

FY04

FY05

FY06

FY07

FY08

FY09

FY10

FY11

22 December 2011

13

Cummins India

Capacity building in full swing; spending USD300m-500m over 3-5 years High Horsepower Engine Rebuild Center: KKCs facility to rebuild HHP engines began operations in March 2011. Parts Distribution Center (PDC): A PDC, which undertakes kitting of parts and components, and distributes these from a centralized location commenced operations in 3QFY12. Unit for manufacture/assembly and upfit of B, C and L series engines: This facility is likely to commence operations by 1HFY13. It will have an annual capacity of ~20,000 engines, catering to construction, compressor, marine and fire pump markets. Power gensets and G-drive manufacturing facility in L/MHP range: This facility is being set up at the MIDC SEZ in Phaltan and should commence production by the middle of 2012. It would have a matured annual capacity of 51,000 units by 2015, mainly for export markets.
Significant capex planned over FY11-13
Capex (INR m) % of sales 4.5 3.5 3.0 2.8 2.9 2.1 1.2 1,062 1,440 1,750 2,000 FY13E 355 181 522 981 623

4.1

4.2

FY05

FY06

FY07

FY08

FY09

FY10

FY11

FY12E

Source: Company/MOSL

22 December 2011

14

Cummins India

Valuation and view

Maintain Buy with a target price of INR406

Over the years, the stock got re-rated due to significant improvement in domestic revenue visibility and its parents increasing thrust on outsourcing from India. KKC trades at 17x FY12E earnings, at par with its 5-year average P/E. Fundamental earnings drivers remain intact and will continue to drive growth. Buy, with a target price of INR406 (18x FY13E earnings).

Fundamental earnings drivers remain intact and will continue to drive growth. Buy, with a target price of INR406 (18x FY13E earnings)

KKC trades at 17x FY12E earnings, at par with its 5-year average P/E. Over the years, the stock has got re-rated, which we believe will be a continuing trend. We assign following reasons for the same: Improved earnings visibility: There has been significant improvement in revenue visibility in the domestic market. Coupled with its parents increasing thrust on outsourcing from India, this imparts high visibility to KKCs revenues and earnings. Sustained RoE over the long-term: The company has maintained healthy RoE since FY04, which we believe is the key reason for re-rating.
Maintaining healthy RoE

Source: Company/MOSL

High dividend payout: Companies with high growth and high payouts command higher P/E. KKC has maintained high dividend payout without sacrificing growth and investments. We believe this trend will continue in future, thereby providing support to valuations.

Maintaining high dividend payout

DPS (INR/Share) 72.5 57.7 45.1 32.7 32.4 43.0 53.5 Dividend Payout (%) 70.4

2.9 FY04

2.9 FY05

2.9 FY06

2.9 FY07

3.3 FY08

6.4 FY09

8.6 FY10

15.0 FY11

Source: Company/MOSL 22 December 2011

15

Cummins India

Cummins India P/E band

31 24 18.0 17 15.0 10 3 Jun-08 Jun-09 Jun-10 Dec-06 Dec-07 Dec-08 Dec-09 Dec-10 Jun-11 Jul-07 Dec-11 6.9 P/E (x) 28.7 Avg(x) Peak(x) Min(x)

Cummins India P/B band

Indian Engineering Sector: Earnings and Valuation Summary

Company ABB# Rating M-Cap CMP TP EPS (INR) USD INR/sh INR/sh FY11 FY12E FY13E Neutral 2.4 567 509 3.0 23.1 44.7 14.3 21.3 69.7 25.1 32.0 22.0 8.0 26.3 36.4 8.0 19.1 75.7 29.7 36.3 28.9 17.0 30.1 33.3 11.2 22.6 83.5 37.0 39.3 35.8 P/E FY11 FY12E FY13E 190.1 10.1 4.0 7.7 15.3 14.3 26.1 12.3 17.4 71.2 8.9 4.9 13.8 17.1 13.2 22.0 10.9 13.2 7.8 5.4 9.8 14.4 12.0 17.7 10.1 10.7 EV/EBITDA FY11 FY12E FY13E 38.1 5.2 5.0 7.5 11.6 11.1 12.0 6.0 9.1 20.2 5.1 5.3 5.4 9.9 10.4 10.1 6.4 7.5 5.9 2.9 4.9 10.6 11.7 15.4 7.4 11.6 RoE (%) FY11 FY12E FY13E 2.6 6.8 13.2 31.4 28.8 27.3 38.9 25.2 19.7 30.5 14.6 18.0 35.5 28.9 32.2 18.3 17.0 15.7 23.2 24.3 25.9 31.9 29.4 26.1 42.0 38.0 33.8 Source: Company/MOSL

33.4 136.4

BHEL Neutral 10.9 234 301 BGR Energy Neutral 0.2 180 266 Crompton Neutral 1.3 110 138 Cummins Buy 1.7 326 406 L&T Buy 11.5 999 1,306 Siemens## Neutral 4.6 654 743 Thermax Neutral 0.9 395 472 Havells Buy 0.9 383 501 # Year end December; ## Year end September

22 December 2011

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Cummins India

Financials and Valuation

Income Statement
Y/E March Total Revenues Change (%) Raw Materials Staff Cost Other Expenses EBITDA % of Total Revenues Depreciation Other Income Interest PBT Tax Rate (%) Adjusted PAT Extra-ordinary Income (net) Reported PAT Change (%) Adj. Consolidated PAT Change (%) 2008 23,507 26.4 16,225 1,384 2,828 3,069 13.1 330 1,227 7 3,960 1,153 29.1 2,807 0 2,807 16.0 3,246 21.2 2009 33,480 42.4 22,338 2,130 3,803 5,209 15.6 456 1,070 26 5,798 1,654 28.5 4,145 192 4,337 54.5 4,438 36.7 2010 28,990 -13.4 18,003 1,983 3,189 5,816 20.1 361 676 21 6,111 1,670 27.3 4,440 0 4,440 2.4 4,440 0.0 2011 40,612 40.1 25,808 2,546 4,466 7,792 19.2 366 617 19 8,023 2,114 26.3 5,909 0 5,909 33.1 5,909 33.1

(INR Million)
2012E 42,728 5.2 27,987 2,801 4,828 7,112 16.6 392 700 21 7,399 2,220 30.0 5,282 514 5,693 -3.7 5,282 -10.6 2013E 47,343 10.8 30,442 3,221 4,971 8,709 18.4 516 770 24 8,940 2,682 30.0 6,258 0 6,258 9.9 6,258 18.5

Balance Sheet
Y/E March Share Capital Reserves Net Worth Loans Deferred Tax Liability Capital Employed Gross Fixed Assets Less: Depreciation Net Fixed Assets Investments Curr. Assets Inventory Debtors Cash & Bank Balance Loans & Advances Other Assets Current Liab. & Prov. Creditors Other Liabilities Provisions Net Current Assets Application of Funds E: MOSL Estimates 2008 396 10,641 11,037 288 -134 11,191 6,477 3,929 2,549 4,321 10,729 3,215 5,556 123 1,935 24 5,541 4,031 0 1,510 4,198 11,191 2009 396 13,551 13,947 213 -231 13,945 7,414 4,324 3,090 3,993 14,247 4,680 6,821 323 2,663 83 6,494 4,762 0 1,732 6,539 13,945 2010 396 15,214 15,610 87 -170 15,527 7,776 4,440 3,337 7,329 12,113 4,097 5,229 559 2,695 93 6,402 3,768 0 2,634 4,301 15,526 2011 396 17,667 18,063 183 -187 18,058 9,144 4,734 4,411 7,255 15,767 5,190 7,182 1,037 3,297 98 9,432 6,129 1 3,302 5,356 18,058 2012E 554 18,337 18,891 183 -187 18,886 10,894 5,126 5,768 7,255 17,659 6,438 8,194 1,011 2,927 100 10,538 6,438 2 4,097 4,852 18,886

(INR Million)
2013E 554 19,728 20,283 183 -187 20,278 12,894 5,642 7,253 7,255 19,556 7,134 9,080 407 3,243 100 11,677 7,134 3 4,540 5,365 20,279

22 December 2011

17

Cummins India

Financials and Valuation

Ratios
Y/E March Basic (INR) Adj EPS Cash EPS Book Value DPS Valuation (x) P/E Cash P/E EV/EBITDA EV/Sales Price/Book Value Dividend Yield (%) Profitability Ratios (%) RoE RoCE Turnover Ratios Debtors (Days) Inventory (Days) Creditors. (Days) Asset Turnover (x) Leverage Ratio Debt/Equity (x) 2008 10.1 11.3 39.3 3.3 2009 15.0 16.6 49.5 6.4 2010 16.0 17.3 55.7 8.6 2011 21.3 22.6 64.5 15.0

(INR Million)
2012E 19.1 20.5 67.5 15.0 2013E 22.6 24.4 72.5 15.0

15.3 14.4 10.6 2.0 5.1 4.6

17.1 15.9 11.6 1.9 4.8 4.6

14.4 13.3 9.6 1.8 4.5 4.6

27.9 27.5

33.7 33.1

30.5 30.2

35.5 35.3

28.9 28.7

32.3 32.0

86 50 63 3.6

74 51 52 4.5

66 52 47 3.7

65 47 55 4.3

70 55 55 3.8

70 55 55 3.6

0.0

0.0

0.0

0.0

0.0

0.0

Cash Flows Statement

Y/E March PBT before EO Items Add : Depreciation Interest Less : Direct Taxes Paid (Inc)/Dec in WC CF from Operations EO Income CF from Oper. Incl. EO Items (Inc)/Dec in FA (Pur)/Sale of Investments CF from Investments (Inc)/Dec in Networth (Inc)/Dec in Debt Less : Interest Paid Dividend Paid CF from Fin. Activity Inc/Dec of Cash Add: Beginning Balance Closing Balance E: MOSL Estimates 2008 3,960 330 7 1,153 (7) 3,136 0 3,136 (1,062) (1,496) -2,557 (35) 263 7 1,066 (844) (265) 388 123 2009 5,798 456 26 1,654 (2,341) 2,286 192 2,478 (981) 329 -652 578 -75 26 2,102 (1,625) 200 123 323 2010 6,111 361 21 1,670 2,238 7,059 0 7,059 (623) (3,337) -3,960 59 -126 21 2,775 (2,863) 236 323 559 2011 8,023 366 19 2,114 (1,054) 5,241 0 5,241 (1,440) 75 -1,366 1,391 96 19 4,865 (3,397) 478 559 1,037

(INR Million)
2012E 7,399 392 21 2,220 503 6,096 514 6,610 (1,750) 0 -1,750 (0) 0 21 4,865 (4,886) (27) 1,037 1,011 2013E 8,940 516 24 2,682 (513) 6,285 0 6,285 (2,000) 0 -2,000 (0) 0 24 4,865 (4,889) (604) 1,011 406

22 December 2011

18

Motilal Oswal Company Gallery

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