Amara Raja Batteries’ fortunes are linked to prices of lead

Najaf Ishrati
ET Intelligence Group

Dec 31, 2005,
ET Big Bucks, Pune.

LEAD producers around the world are benefiting enormously from the prevailing high prices, but the same is not the case for consumers of lead. Amara Raja Batteries (ARBL), better known for its “Amaron” brand of car batteries, is at the receiving end. The company makes lead acid batteries for automotive as well as industrial use. Its sales have shown a secular increase over the last five years, growing in FY05 to Rs 236.8 crore from Rs 175.9 crore in the previous year. For the half-year ended September ’05, its net sales were Rs 154.3
crore already, up 64% y-o-y. The company’s profit for FY05 is just Rs 8.6 crore. But this is 525% higher than last year’s and the same is a telling comment on the state of its margins.
The company maintains an OE (original equipment) agreement with Maruti Udyog, Hyundai Motor and other major car makers. The government’s push and shove in the telecom sector continues to underwrite an increasing industrial demand for batteries. Directors maintain that demand from railways is also expected to remain stable. ARBL’s principal nemesis over the last few years has been prices of its primary raw material lead, which have increased by over 200% in the last five years. The percentage of raw material used in net sales was 47% in ’03-04, which rose to 58% in ’04-05. In H1FY06, this ratio has risen to a high of 65%. The fact that lead accounted for 58% of total raw materials in FY04 and a whopping 71% in FY05, gives the investor an inkling of the situation. Simply put, ARBL’s costs were rising at a rate higher than its income.
The company’s return on equity for FY05 was less than 5%, while return on assets was a paltry 2.52%. Its net profit margin, which is the ratio of PAT to sales, was 3.24% in the same year. However, low profitability need not be associated with a lack of financial soundness, and in this regard, Amara Raja shows impeccable records. Its current ratio for the same year was 2.26, while its overall debt asset ratio was a very sound 0.36. The debt to equity ratio stood at 0.55 for the last financial year.
Had ARBL been able to pass on the increase in input prices like international oil companies, the story would have been entirely different. The record books of the company reflect measures taken to rectify its profitability, mainly by an increase in capacity. It showed an expansion in capacity from 12.75 lakh units in March ‘04 to 17.75 lakh by March ’05. It also had plans for a further 50% increase to 26.75 lakh units by December ’05. The company is fully geared to increase sales numbers, as it is not in a position to increase prices. This is apparent when you look at the turnover figures. The increase in net sales mentioned above is almost entirely on account of
an increase in units sold (29%), and not a
hike in price (4%). As costs are increasing, it appears as if the company must continuously increase the number of units sold to keep up the pace. The good news for the company is that with batteries having a three-year life, the auto sector which was already in its boom phase by ’02-03 is underwriting a growing demand.
This said, an increase in demand is good so long as margins do not keep eroding. Ideally, companies would like profit growth to be directly proportional to their turnover growth, after a threshold point. But when in FY01, the average lead price was $469 (per tonne), the PAT was Rs 20 crore. If we jump to FY04 when lead price averaged $628, ARBL’s corresponding PAT tumbled to Rs 1.3 crore. In FY05, when the average lead price was $949, PAT was Rs 8.6 crore. This shows that over the last year, the company has heavily absorbed and discounted the lead price factor with growth in sales. A promising sign is that this far into the current fiscal (April-September ‘05) lead prices have marginally decreased to an average of $947. Corresponding half-year PAT was up 15% YoY, at Rs 6.8 crore. But this again is significantly due to an increase in “other income”, to the tune of Rs 6.3 crore. Thus the future outlook for ARBL will be charted by how it wrests market share from current leader Exide, but any significant change in lead prices will be the key factor.