Lots of people have been asking me to write a note on Eureka Forbes, and honestly it is way overdue. Especially since it is such a simple thesis.

Eureka Forbes is a great business because:

1. It is a super powerful brand that has the trust of the people establishing a clear right to win
2. It is operating in a category that is heavily underpenetrated, providing long headroom for growth
3. It is a 60% GM business; massive opportunity to expand EBITDA margins from the current 11%
4. It is a negative working capital business implying potential for fantastic ROEs and great FCF
5. They have a large network of service centers enabling them to service their water purifiers
6. They are owned by Advent (PE) which has established a new management that is seemingly very competent

That’s it. That is how simple the thesis is. But let me expand a little more for those who need me to.

Question 1: What do you call your water purifier?

If you’re a kid of the 90s or before that, no doubt your answer was ‘Aquaguard’. I cannot over state how powerful a brand Aquaguard is and that is probably the strongest moat that this business has. Shapoorji spent decades establishing this as one of the most trusted brands. However, they were not able to expand this as a category. The current management thinks this is because the old management was fighting for market share instead of growing the market.

This is seemingly a strong argument when you realize that water purifier has only a 5% penetration in the Indian households. I was shocked when I read this figure. TV is 65%, washing machine is 35% but water purifier is only 5%. Just 5%! I grew up with all my friends and family having Aquaguard at their home never realizing that there is a vast majority of this country that cannot afford the same. (It’s embarrassing to realize the extent of my privilege at the age of 33.)

Thus, the new management’s focus on playing the role of category leader and expanding the market makes a lot of sense. They have focused so far on cleaning up their balance sheet and operations so that the business is now negative working capital as it should have been all along and freed up enough cash flow to splurge on the marketing campaigns they need to run to be the category makers.

This coincides nicely with government’s policy push to increase penetration of electricity and tap water connections in households. These are the two basic requirements for water purifiers, and should increase the addressable market for Eureka Forbes significantly.

Question 2: Fine, the opportunity is great, but what’s their right to win?

Besides owning the brand that literally defines the category? The second right to win is their extensive service network.

Water purifiers is a beautiful category that requires constant servicing and filter changes. This forces anyone company that plans to dominate this category to have an extensive servicing network all across the country that can not only install the devices, but also regularly service it and change the filters when required. New players entering this category cannot compete with the network that Eureka Forbes’ has already developed. In fact, Eureka Forbes has an opposite problem – their network is so well established that there are enough local ‘copy cats’ that are already servicing their devices. They are now on the journey to recapture this opportunity from the unorganized sector.

Question 3:  Okay fine, we have a great opportunity and a solid right to win. But does that mean the management will manage to execute?

Well this only time can tell. But the journey so far has been good. The management has done a complete overhaul of the leadership, managed to turn the business cash flow positive with a healthy 11% EBITDA margin and growing the revenue at 14-15% (continued business) even when the consumption economy is in the dumps. They are increasingly spending more on marketing with campaigns focused on expanding the market rather than competing for market share. Furthermore, they have expanded their product portfolio to encourage upgrades as well as make it easier for first time customers try out the products.

Question 4: Is there anything beyond water purifier? Or is that the whole story?

These guys have also entered the vacuum cleaner and air purifier segments which are both up and coming. Vacuums in particular has already witnessed a significant success.

Closing Remarks

At 90 PE Eureka Forbes can seem like a scary price point to invest in. However, between the very long term growth story as well as their ability to increase their EBITDA margins significantly, I believe this is a great stock even now.