Stock Pick From The Oil & Gas Sector

Choice Scrip is a Blue Chip stock pick that is expected to give returns within a 6 months-1 year horizon. The recommendation is based on a fundamental analysis of the company.

The company recommended as the Choice Scrip for this issue is a leading manufacturer of automotive gears in India, and makes gears for commercial vehicles as well as tractors.

Castrol India - Zooming Ahead

HERE IS WHY

• The company has the ability to steer well in varied economic cycles.
• It is debt free and has a strong dividend payment history.
• Increasing vehicle density is leading to higher demand for its products.
• Declining crude prices are expected to result in better operating margins.

It is important to know how a company has navigated through difficult economic environments in the past. The market always puts a premium on companies which tide over difficult economic phases with as much ease as the good times. One company that aptly fits into this category is Castrol India.

Even in 2008, when most of the companies witnessed a decline in their bottomline, Castrol managed to post strong growth. In addition to this, other compelling factors like its debt-free status and consistent dividend payment history provide comfort during uncertain times like those we are currently facing. Further, the declining crude prices (along with some appreciation in the rupee) augur well for the company, as it results in an improvement in its operating margins. The scrip is trading 16.04x its trailing four quarter EPS and at an EV/EBITDA of 17.02x, which make it fairly attractive on the valuations front too.

The lubricants industry in India broadly caters to three industry segments – automobiles, industrial and marine & energy, though a major part of the revenues come from the automobiles segment. In terms of volumes, 50 per cent of the market is with Castrol, IOC, BPCL and HPCL put together. Within this, Castrol has a 22 per cent market share, next only to that of IOC.

The slowdown in manufacturing (including automobiles, which contribute to 85 per cent of Castrol’s revenues) has impacted its sales volumes marginally in CY11. However, the company has managed to grow its topline and bottomline consistently. Going ahead, we feel that even if there is a slowdown in the sale of new automobiles, the replacements market for Castrol is quite huge. This considerably mitigates the likely impact of an uncertain economic scenario on the company’s fortunes.

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On the cost front too, the firm has managed to pass on any increase that comes its way to its customers. As a result, despite a significant increase in crude oil prices, the impact on the operating margins has remained minimal. This clearly shows the ability of Castrol to maintain its profitability even in adverse market conditions.

The company’s fundamentals are quite robust, and shield it from difficult economic conditions. It has been debt-free for the past three years, while its current ratio has always been above a healthy 1.5. Both these factors portray a healthy liquidity position and higher profitability because of the lack of interest outgo. Moreover, Castrol has been consistently providing a dividend of Rs 15 per share for the past four years, resulting in a dividend yield of 2.8 per cent.

Even in market conditions that are not highly conducive to growth, the company’s revenues from the automotive segment have grown by 3.6 per cent. Its revenues from the non-automotive sector were up by 7.3 per cent in the first quarter of CY12. It posted a topline of  Rs 784.30 crore and a bottomline of Rs 122.90 crore as against Rs 772.70 crore and Rs 106.80 crore respectively for the quarter ended December 2012.

With the demand for automobiles expected to improve in the second half of the year, the future growth picture for Castrol looks brighter. With this in mind, the company plans to strengthen its network as well as its presence in rural India, which is expected to be a major growth driver over the next few years. The company’s fundamentals, its past performance, steadiness and fair valuations make this scrip worth investing in at the current levels.

LAST FIVE QUARTERS (Rs/CR)