When Redington (India) Ltd announced last September that it had added iPhone to the list of products it will distribute for Apple Inc. in India, investors cheered the news. They weren’t far off the mark—sales of iPhones in India jumped 400% year-on-year in the June quarter off a low base, and even grew on a sequential basis. Even so, Redington’s shares have declined by about 25% since September, and by 39% year-till-date.
What gives? While it’s true that iPhones have done well, the decline in sales of BlackBerry phones, another product the company distributes, has been steep. What’s more, Redington’s profit margin (net of marketing expenses) for Apple phones is lower than that for BlackBerry products. With the product mix changing significantly in the company’s mobile phones segment, profit margins in the last two quarters have been lower than investors’ expectations.
In the June quarter, the company reported an Ebitda (earnings before interest, tax, depreciation and amortization) margin of 2.16%, lower than consensus estimates. Apart from the change in product mix, the company’s advertising spend has turned out to be much higher than analysts’ estimates. The company also told analysts that its IT components business, which has relatively higher margins, declined significantly, thereby impacting overall margins. As a result, brokerages such as Nomura have cut earnings estimates for the financial years 2013-14 and 2014-15 by about 10%.
Besides the impact on profit margins, Redington’s overall sales have also been affected by the slowdown in the domestic economy, which, in turn, has hit sales of IT products such as computers.
But the company’s overall revenue and earnings are still expected to grow; it’s only that they won’t grow by as much as investors had anticipated. Analysts at Nomura maintain a buy rating, citing low valuations. “We believe that Redington’s current valuation at a one-year forward price-earnings multiple of 5.9x (5.6x EV/Ebitda) is compelling in the context of an estimated EPS CAGR of 17% between FY13 and FY16, and average ROE/ROCE of around 19%/17%,” the analysts said. Based on the broker’s estimates, the company’s trailing price-book ratio is 1.3 times.
Nomura also noted that the company’s planned exit from the NBFC business will reduce its leverage and boost its return ratios. And as far as the lower profit margins for Apple products are concerned, it points out that the phone company also works on a lower working capital cycle, thereby resulting in better return ratios. Investors willing to rough it out in the stock’s current downfall may well get rewarded later.