In our “House view” series, we publish summaries of discussions on Capitalmind slack forum. Think of them as short crowd-sourced primers about the business, before diving deep.
We recently published a take on Kovai Medicals, one on Bajaj Finance and its prospects. This one is about VST Tillers Tractors, the leader in power tillers and primarily operating in the < 30 HP tractor segment.
Industry
The Indian tractor industry is the largest in the world and FY21 has been a very good year for the industry despite the pandemic. Domestic tractor sales for the year stood at 8,99,429 units, the best in the history of the tractor industry.
The top 4 players account for 81% of volumes. M&M is the leader in the tractor market, but has lost market share over the last 2 years.
International tractors (Sonalika) has grown the fastest, In FY21 its volumes grew by 42% when the industry grew by 27%. John Deere, New Holland and Kubota together sold 1,38,247 units in FY21. These 7 players account for 96% of tractor volumes.
Some of the factors that have helped the industry achieve this performance are – good monsoons, stable crop prices, healthy cash flows for farmers and government support programmes like DBTs.
The Indian agricultural equipment market was Rs 977 billion in 2019, and tractors form 80% of this market. Some of the other equipment’s used are power tillers, threshers, weeder and rotavators. The Indian agricultural equipment market is the second largest in the Asia Pacific region. Punjab, Haryana and Uttar Pradesh are seeing faster growth in mechanization in comparison to the rest of the country.
Some of the drivers for the industry going forward are
• Migration of rural workforce to urban areas, so faster adoption of mechanization. Agricultural workers are 40% of total workforce in FY20 as compared to 70% in 1951
• Farm mechanization in India is at 40%. Yields in India are low and area under cultivation has increased from 116 Mn hectares in 1960 to 124 Mn hectares in 2019. Mechanization will have to play a big role for yields to increase.
• Tractor penetration in India is 63 per 1000 hectares, Japan has the highest tractor penetration of 460 tractors per 1000 hectares
• Ease of financing, rising incomes, government initiatives and emergence of contract farming are some other factors
The Company
VST Tillers Tractors was established in 1967 and belongs to the VST group of companies. The group started business as a retailer of petroleum products and distributor of automobiles in Karnataka and Tamil Nadu. VST Tillers was promoted by VST Motors as a JV with Mitsubishi heavy industries, Japan. Currently, Mitsubishi holds 2.93% of the company.
Product Offerings
Power Tillers
Power tillers are primarily used in small fields where usage of tractors is not viable. These products have high demand in low land flooded rice fields and hilly terrains, hence the market of tillers is concentrated in Eastern and Southern parts of India. Average price of a power tiller is in the range of 1.25 -2.15 lakhs whereas a tractor is available at a cost of 4+ lakhs.
The market for power tillers in the country is 55,000-60,000 units and VST is the largest manufacturer with market share of +50%. KAMCO is the other manufacturer in the country. VST sells its power tillers under “VST Shakti” and has 321 exclusive dealers.
30% of the demand for power tillers in the country in met by imports from China, this was 8-10% few years back. Chinese tillers are cheaper by Rs 30,000-60,000. In 2020, the government-imposed curbs on imports of power tillers from China, the product was put under “restricted” category, meaning the importer would need to seek a license from DGFT for imports.
The power tiller market in India has been stagnant over last few years and this is primarily because of subsidies. Every year states announce subsidies for purchase of power tillers. For instance if the cost of a tiller is Rs 2,00,000, subsidies would be Rs 50,000-60,000. Sales pick up only after the states announce subsidies, these subsidies have been reducing and some of the states are not announcing them at all. For instance, in the current year only Karnataka and Assam have announced subsidies. This has been changing off late and farmers are purchasing tillers even if subsidies are not being announced, this is because manufacturers are reducing their prices.
Tractors
The largest segment by volumes is the 41-50 HP, this segment constitutes 50% of the market. 30-35% of the market falls in the 31-40 HP segment. Together these segments constitute 80-85% of the market.
VST currently operates in the < 30 HP segment, which is 10% of the market and VST has a market share of 8-10% of this market. These are tractors that are not very powerful. VST has 296 exclusive distributors for its tractors and exports its products to countries like Netherlands, Germany, Belgium, France, Spain and Portugal. The company plans to enter the Eastern European market in the near future.
VST has taken certain steps that will help it grow the tractor business
- JV with ZETOR tractors, Czech Republic to manufacture tractors > 36 HP, these will be launched in FY23
- Collaboration with Monarch tractors, USA. Monarch is an electric tractor manufacturer in California
- Investments of Rs 11 Cr in Zimeno Inc, USA, an electric tractor manufacturer
- Launch of 27 HP and 30 HP tractors during the year, first company in India to launch 30 HP tractor
- Alliance with Pubert India, to provide solution to marginal farmers on the best practices in mechanization
These are positive developments, especially the move to enter > 36 HP tractors in collaboration with ZETOR. This will not be easy as the market is highly competitive, however it is the right step.
Other Equipments
Some of the other equipments sold by the company are – rice transplanter, power reaper, rotary tillers, power weeders, attachments, solutions and spares and lubs. This segment forms a very small percentage of revenues, however some of the equipments offer a huge runway and provide an opportunity to VST.
Source: VST Tillers, Q3FY21 conference call
Financials
The last 2 years have been very rough for the company. Volumes have fallen off the cliff from FY18. In FY20 tillers sold were 19,302 units versus 30,143 units in FY18, in the case of tractors these numbers stand at 7,147 versus 11,367.
The drop in top line and gross profits is due to variety of factors – lower/ no subsidies for tillers, competition heating up in the compact tractor segment, increase in raw material prices and overall economic slowdown.
Operating and net profits have fallen more than the top line.
What could have caused this?
We need to look at the common size profit and loss to ascertain this, below is the common size P&L for FY18-20
We can observe costs below the gross profit line have increased as % of sales. This indicates another important characteristic of the business, the company is a fixed cost heavy business. In other words a large portion of costs have to be incurred irrespective of how the business fares. Operating leverage in this case has not worked in favour of the company.
This has impacted financials and ratios across the board – CCC, fixed asset turnovers, drop in ROE’s and ROCE’s. On the positive side, the company is a zero debt company and has healthy cash and investments, the scenario would have been much worse if VST had debts on its books.
How has the company fared in FY21?
Volumes of both tillers and tractors have grown impressively. We also observe that operating and net profits have grown way above the top line and is this due to the nature of the business that we had discussed earlier, operating leverage has helped in higher operating and net profit growth.
Factors that have helped in this performance are – good monsoons, strong cash flows for farmers, government schemes like DBT.
Is this performance sustainable?
Source: VST Tillers, Q3FY21 conference call
Road Ahead
The company aims to achieve revenues of Rs 3,000 Cr by 2025, this implies 4X revenues in 4 years. The road map to achieve this is
- Entry into higher HP tractors – 30 HP, > 36 HP in JV with foreign partner
- Tiller market has done well after import restrictions from China, the company has orders for 4,000 tillers as import substitutes. Bangladesh, Myanmar, Vietnam and Sri Lanka which are dependent on China for tillers provides an opportunity for this segment
- Focus on other equipment’s – weeder, transpanters and rotovaters
- Solutions business – this may not contribute to large revenues, but the company will get visibility
- Investments in electric tractor companies, although it is not clear how this segment will play out it is good to see the company being proactive and making investments in a couple of companies
Capitalmind View
The enterprise value (EV) of the company is Rs 1,200 Cr. If the company is able to execute the plans to achieve 3,000 Cr of revenues that it has set itself, this idea looks interesting and needs to be tracked closely.
Slack Discussions
We had a range of discussions on VST Tillers on our slack forum. Below are some insights into VST Tillers and its business from our slack discussions.
One of our members SA who has held the stock for a long time and made a killing on the stock shares his views on the company.
Definitely a value play on agriculture. Fatigue had set in the management and reflects in the performance of the business, however the new CEO seems to be aggressive.
Major reason for the improved recent performance is the import restrictions on tillers from China, if that were to be removed the situation is not that good. In the higher HP tractor space there is lot of competition and I am not sure if VST is cut out for that kind of competition.
Another member DM shares his views on the business
The import ban is helping in the recent performance, I feel the government is keen to develop this space and the restrictions will remain. The other equipment business is the key and that should help in the performance going forward. The management has got aggressive over the past year.
They will find in tough in the lower end of the tractor segment as incumbents are very strong. Investments made by Swaraj Engines and Sonalika will make it more tough. Sonalika is very strong and has one of the best management team in this space.
Agri mechnization is a theme to play, this is due to – labour shortages and land consolidation. Currently the market for tractors is very good, players like Kuboto whose tractors are expensive are able to sell their products in this market.
The valuations are expensive and the stock will look interesting if they are able to execute on the plan that they have outlined. There is JD proposed to unlock value from the land on Whitefield, Bangalore, however no value can be ascribed to this event.
CM observations from the recent conference calls
The CEO Antony Cherukara, does seem to have well laid out plans for growth. For instance, in one of the calls he said that they will spend on advertising and other activities to grow the business, which will impact margins a bit. There was another question on returning money to shareholders and he said shareholders will be better off if profits are reinvested back in the business. There is intent from the management, it now boils down to execution.
Reader H had a question on the current valuations
At what price does the company offer value?
CM View: We need to track the execution closely, as and when they execute their plans one can assess and take a decision. They may end up the year with Rs 85-90 Cr of EBIT, the stock trades at 14-15X operating earnings.
Chart
Additional reading
The Indian tractor industry: In a sweet spot?
Fundas: Understanding Operating Leverage
Our recent #StockOfTheWeek discussions include, Century Ply, Indus Towers, Suryoday SFB, Gujarat Gas, IRCTC, KMCH etc & many more follow.
This article is for informational purposes and should not be considered a recommendation to buy or sell any stock. Stocks discussed might be part of Capitalmind Premium portfolios.
Join Capitalmind Premium to be part of the conversation. Get access to model portfolios, actionable strategies, and of course, premium research.
