Varroc Engg: Will the momentum continue?

ET INTELLIGENCE GROUP: New order wins, improving utilisation across facilities, debt reduction plans, and cheaper valuation have fuelled a rally in the stock of Varroc Engineering, a supplier to global car makers and domestic bike makers. The stock has gained 40 per cent in the past five days and 144 per cent in three months. The company has reached 92 per cent of its pre-covid revenue in July. After posting an operating loss in the June quarter, it has once again turned operationally profitable. The supply schedule for August and September too remains intact, which may help in sustaining the stock momentum.

The company earns two-third revenue by selling lighting parts in the overseas market while the rest is obtained from the domestic two-wheeler segment. It expects a strong momentum in the export business from September after a relatively slow July and August. Besides, the new orders for Volkswagen‘s two electric vehicle platforms may help revenue for FY21 to reach the previous year’s level. The overseas lighting business had a revenue of 900 million euros in FY20. The company expects revenue to reach 1,200 million euros by FY22.

Varroc had an order pipeline of 100 million euros at the end of June 2020. The new overseas facility which attracted an investment of 165 million euros may result in peak revenue of 1.5-1.6 billion euros at full capacity utilisation after the company invests the remaining $ 65 million of committed capital expenditure.

In the domestic market, the company’s content per vehicle is rising following the implementation of BS-6 emission norms. In addition, rising revenue from new customers such as Hero MotoCorp and the TVS Group augurs well. The company expects a revenue of around Rs 4,500 crore for FY22.

Varroc is in the process of streamlining operations. It reduced 20 per cent of the fixed cost and 15 per cent of research and development cost in the June quarter. Its full effect will be visible from the September quarter with better operating margin. Varroc expects 11 per cent margin in FY22 compared with 7.6 per cent in FY20.

The company has also cut capital expenditure to Rs 550-600 crore, which is nearly half of the average in the last three years. It plans to reduce debt to the FY20 level of around Rs 2,600 crore by March 2021 from Rs 3,410 crore in June 2020.

The stock gained over 17 per cent on Thursday. At around Rs 320, it is available at FY22 forward price-earnings multiple of 13, which is at nearly 40 per cent discount to the sector average. The attractive risk-reward ratio and improved growth visibility may help in sustaining the stock momentum.