An iffy market has seen the stock of lubricant maker Castrol India slip about 14 per cent since last July. This is despite the company’s robust double-digit profit growth in the past three quarters. At ₹430, the stock now trades at about 35 times its trailing 12-month earnings, lower than its three-year average of about 37 times. This seems a good buying opportunity for investors with a long-term perspective.

Impact of crude prices Two key factors — low oil prices and healthy auto sales — work in favour of Castrol India. The continuing rout of crude oil has dragged the benchmark Brent price to under $30 a barrel now, a 12-year low. This has significantly reduced the cost of base oil — the company’s main raw material — and given a boost to the company’s margins and profits.

For the nine months ended September 2015, operating margin was above 30 per cent, much higher than the 22 per cent in the year-ago period. Net profit during the period grew nearly 40 per cent. Global oversupply and weak demand conditions should keep crude oil price subdued. There is a lag of about a quarter between the change in crude oil prices and base oil cost. Castrol India should, therefore, continue to benefit from low material cost.

The company’s profits grew strongly despite its revenue declining marginally. Volumes slipped due to the company’s focus on high-margin premium automotive lubricants and weakness in industrial lubricant sales.

Also, passing on a portion of cost benefits to customers pushed down sales realisations. There is a good possibility though that volume growth could revive.

Improved sales The auto segment, which accounts for almost 90 per cent of Castrol India’s revenue and profit, is in the midst of a cyclical upturn. In particular, the personal mobility segment on which Castrol has been increasing focus, is doing very well. This should translate into increased sales of automotive lubricants, both to new vehicles and to cater to replacement demand, which should kick in with time.

Replacement demand, which is more resilient, accounts for about 75-80 per cent of the company’s automotive volumes.

Industrial lubricant sales which took a hit in the first half of calendar 2015 due to weak manufacturing activity in the economy gained some ground in the last September quarter.

As the economy picks up, volume growth should gain pace in this segment too.

Castrol India is the market leader in a fragmented lubricant market; it has a share of about a fifth despite the premium pricing of its products.

In spite of increasing competition, the company should be able to hold its own, thanks to its technological prowess, strong brand, extensive distribution network and premium products such as synthetic lubricants. A strong balance sheet with zero debt is also a positive.

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