MANAGEMENT DISCUSSION AND ANALYSIS

Overview

The Management Discussion and Analysis brsented in this Annual Report focusses on reviewing the performance of the Company in the past year. The Financial Statements have been brpared in compliance with the requirements of the provisions of the Companies Act, 2013, guidelines issued by the Securities and Exchange Board of India (SEBI) and the Generally Accepted Accounting Principles (GAAP) in India. Our management accepts the responsibility for the integrity and objectivity of these financial statements, as well as for the various estimates and judgments used therein. The estimates and judgments relating to the financial statements have been made on a prudent and reasonable basis, so that the financial statements reflect in a true and fair manner the form and substance of transactions, and reasonably brsent our state of affairs, profits and cash flows for the year.

Economic Overview FY 2014 - 15

GDP growth of India registered a growth of 7.2% in FY 2014-15. This turnaround was possible on account of the improved performance in the crucial industrial & services sector; though the agriculture sector registered just a marginal growth. The reopening of the mining sector has also helped improve the sentiment though any meaningful pick up is yet to take place. Increase in the economic activity and reduction in inflation has also helped the Reserve Bank of India to reduce interest rates. According to estimates by various Indian and international agencies, FY 2015-16 is likely to see India's GDP grow by around 7.7%. This growth would be driven by infrastructure, mining and power sectors. Government's focus on rural and agricultural growth is likely to sustain the growth trajectory of GDP in coming years as well.

The year under review saw a slowdown in the global economy. Emerging markets, especially China witnessed their first ever slowdown in a decade with rapid increase in employment costs. This increase itself has led to questions pertaining to its competitiveness in this technologically advanced manufacturing sector as well as services sector. Japan, Russia and Europe continued to remain under brssure throughout the year. The recent drop in oil prices saw a decline in the economy of Oil exporting countries. Among the developed economies, the American economy showed signs of marginal recovery on account of factors such  as improvement in domestic demand and accommodative monetary policies. Going forward, upheavals in the global financial markets, uncertainty in oil prices and stagnation of certain developed economies are likely to result in challenging times ahead for global economies. The global automotive sector is looking for significant cost reductions. This provides the company greater opportunity to enter these segments at competitive prices.

India is at the threshold of a new era of opportunity and growth. The new Indian Government's main concern has been the revival of growth in the Indian economy and it has rightly so, chosen to give the Industrial sector a structural boost. The Indian Government's "Make in India" initiative which aims to make Manufacturing sector the engine of growth will result in creating employment and improve skills. This initiative will focus on new processes, new infrastructure resulting in the much needed economic boost. Development in these areas is likely to have a dual impact of increasing confidence in the economy and raising growth rate of the economy and make manufacturing more competitive.

Auto Industry:

The Indian automotive industry comprising of the automobile (cars & commercial vehicles) and auto component sector is one of the key segments of the economy having multiple linkages to other sectors of the economy. It contributes approx. 22% to the country's manufacturing GDP and is a reasonable barometer to gauge the economic growth of our country. After a two year downward cycle, the automotive industry is showing signs of an upward trend.

During the year under review, the automotive industry grew by 8%. While the overall Commercial Vehicle sector registered a de-growth of 1.3% over the brvious year, the MHCV segment registered a growth of 17% as compared to a de-growth of 23% in the brvious year. (Source :ACMA)

The Indian Auto component industry is currently in a prime position where it has significant opportunities to enter the next growth phase; particularly market leaders can use this opportunity to become global players. Over the years, it has developed capacity and capability to manufacture the entire range of auto components and technologies of the vehicle at right cos and brmium quality. On one hand, the domestic market is attracting global OEM's in need of localization and on the other hand, developed economies, beset with slow growth are looking for right cost manufacturing to optimize their operations. Being an ancillary industry, it is significantly influenced by the demands of the automobile industry. Indian auto components industry is well poised to achieve strong growth in coming years owing to rising domestic demand in the OEM market, expanding replacement market and increasing global opportunities. With global sourcing policies and economies of scale driving further growth opportunities for right cost players, the market is seemingly global while the local industry has started its growth story after two years of severe downturn.

Your Company's Operational Highlights in FY 2014-15:

1. During the year under review, the Indian economy witnessed a modest growth resulting in the MHCV sector showing positive signs of pickup after 2 years of down turn. Launch of new products, acquisition of new customers and penetration into to Rs. 389 cr in the brvious year.

5. On a Standalone basis, the operating EBIDTA grew by 63% at Rs. 56 cr compared to Rs. 34 cr in the brvious year; and on a consolidated basis EBIDTA grew by 35% at Rs. 64 cr compared to Rs. 47 cr in the brvious year. This growth was on account of deeper penetration into aftermarket segment having better margins, weakening of Euro resulting in cheaper imports and marginal reduction in commodity prices.

6. Profit Before Tax on a standalone basis grew by 16% at Rs. 28 cr compared to Rs. 24 cr in the brvious year. On a consolidated basis PBT grew by 46% at Rs. 26 cr against Rs. 18 cr in the brvious year.

7. Standalone Net Worth of your company increased to Rs. 171 cr from Rs. 158 cr in the brvious year. Consolidated Net Worth increased to Rs. 173 cr from Rs. 159 cr in the brvious year. newer markets helped your company to maintain its dominant position of being India's largest supplier of M&HCV clutches to OEM's in India.

2. During the year under review your company has started supplying its LIPE brand of MHCV clutches to renowned Commercial Vehicle OEM "Mahindra & Mahindra" and European Commercial Vehicle Manufacturer "MAN Commercial Vehicles" Indian requirements. These were the only two which were not supplied by Setco earlier.

3. The current financial year saw the first full year of operation in the Independent After-Market (IAM) segment for sales and distribution of its wide range of LIPE brand of clutches. This initiative called "LIPE FOR LIFE" was successfully rolled out and your company is happy to say that its range of clutches is available across 47 distribution points across the county and has been well accepted in the market. This strategy has made your company a dominant force across channels such as OEM, OES & IAM.

4. On a standalone basis, your company recorded a robust growth of 39% in sales at Rs. 458 cr in FY 2014-15 compared to Rs. 329 cr in brvious year

On a consolidated basis your company crossed milestone turnover of Rs. 500 cr and registered a growth of 34% with sales of Rs. 524 cr compared

8. The Board of Directors has recommended a dividend of Rs. 3.00 (including interim dividend of Rs 1.50 paid during the year) per equity share of Rs 10 each compared to Rs. 2.65 per equity share in the brvious year.

Your company now operates in 4 market segments;

OEM, OE Spares (OES), Independent After-Market (IAM)  and International Business (IB). The graph above gives the contribution of revenue from each of these segments:

OEM:

Revival of the Indian economy, various government initiatives and a focus on infrastructure development has stimulated the growth of key industry verticals like auto. Increased GDP, lower inflation and increase in economic activity resulted in spurt in demand for medium and heavy commercial vehicles during the year. As a result, sales of commercial vehicles registered a growth of around 17% during FY 2014-15. Better industrial scenario, introduction of new products and supplies to new OE customers helped the company register a growth of 45% in its OEM sales.

Higher budgetary allocations to infrastructure projects at Rs 70000 crores in Union Budget and opening of mining sector is likely to boost demand for commercial vehicles. Lower fuel costs and softer interest regime

are likely to act as additional growth drivers. However, long term recovery would depend upon various initiatives like 'Make in India', GST, Smart City, Infrastructure growth, coupled with improvement in ease of doing business. Global commercial vehicle manufacturers who have recently set up manufacturing facilities in India like Daimler, MAN, Scania are keen to turn their Indian operations as a global sourcing point in addition to capturing a pie in domestic market. Your company being a major strategic supplier to all such players sees this as a great opportunity to increase our market base and also help in expanding its global footprint.

Aftermarket / Replacement Market (OES & IAM):

Over the last decade, the Indian automotive market has encouraged the entry of global players. This increased competitive environment has resulted in a change in market dynamics. Like the developed nations, Indian automotive customers have started assessing their purchases based on the service network, availability of spare parts and maintenance costs. Realizing the change in consumer brferences and the huge opportunity the aftermarket segment offers, OEM's have now started to give emphasis on the aftermarket segments. The Indian automotive aftermarket segment is now one of the fastest growing segments in the country. It is estimated to be approx. $16.20 Bn industry by 2021, growing at a CAGR of 12% (Source: Frost & Sullivan). The average life of a commercial vehicle in India is estimated at around 15 years. Clutches being an integral part of the transmission system requires regular replacement in commercial vehicles. Over the approx, life of 15 years of a commercial vehicle it requires about 6 to 7 clutch replacements. The poor condition of roads, poor driving habits and overloading consequently increases wear and tear of clutches in the commercial vehicles in India. Your company has a sizable brsence in this lucrative segment, which contributes approx. 62% of the total revenues. In a business such as clutch being cost effective is not the only important thing. With commercial vehicles constantly turning around for maximizing use, a reliable transmission is necessary. The clutch is a 'fuse' in the system that is designed to fail optimally thus protecting the drive train components. Also changing the clutch is a 10-hour job that is highly technical in nature. Therefore we as market leaders have to provide good parts, good service and timely delivery in whichever market we choose to operate in.

Original Equipment Spares (OES):

Global Commercial Vehicle manufacturers who have set up base in India are launching state of the art vehicles in the Indian market. At the same time, Indian commercial vehicle manufacturers have adopted global technology and moving towards manufacturing sophisticated vehicles. Increased awareness among drivers, better maintenance facilities and high cost of vehicle being idle due to break down have boosted the demand for genuine spare parts. This segment  generally caters to the replacement demand in initial 5 years of the commercial vehicle's life or the first ownership cycle. Hence the clutch of choice here is the OEM supplier. This market segment continues to be supplied and serviced by your company.

Independent After Market (IAM):

With the successful launch of LIPE for LIFE program last year, your company has completed the first full year of its brsence in the Independent Aftermarket. By entering into this segment, your company has ensured that its clutches are used in the entire vehicle lifecycle after the first ownership cycle; from the OEM stage through its entire aftermarket life. Truly a "LIPE for LIFE" experience to the owner. This segment continues to make a significant contribution to the overall business of your company.

International Business (IB):

India has emerged as an attractive hub for global sourcing in view of cost advantages, brmium quality and availability of skilled manpower to service vehicle needs. This has attracted global commercial vehicle manufacturers to start operations in India - not only to tap vast potential domestic demand but also to use it to meet their global requirements. Setco, being the brferred choice for supply of clutches in India, has got a strong foothold with all such global players, meeting their stringent quality norms. This has put your company on radar of global sourcing teams - both for the OEM as well as after-market requirements. Your company has already made some break-through with a few such opportunities and is confident of them materializing in the medium term.

International Business (IB) will play a significant role in company's growth plans. With development of new products for various markets and new applications and seeding efforts over the past few years in 64 countries has helped IB to be at a take-off stage through tie-ups in major geographies. With successful field and lab tests, and a diverse portfolio of clutches, your company is now focusing its penetration strategies to grow IB contribution into the business, thus substantially improving margins.

Our Subsidiaries:

Setco Automotive (UK) Ltd - (SAUL)

Prolonged slowdown of the European economy coupled with the recent Ukraine crises as well as increasing crises surrounding the Eurozone with the possible threat of Greece, which further added major challenges to the European Continent. However, we believe in the long term potential of the European market and SAUL has been working towards developing new products and penetrating new markets in the European region. Your U.K. subsidiary has registered sales of Rs 41.5 cr (£ 4.16 Mn), an imbrssive growth of 20% compared to Rs 33.7 cr (£ 3.48 Mn) in the brvious year. In the brvious year SAUL made significant penetration in markets of Russia, and BALKANS regions. This penetration has made significant headway in the current year. However, increasing costs of imports from India and China and fierce competition in the Eastern European region combined with increased initial market seeding costs have resulted in your subsidiary reporting a loss of Rs 4.3 cr (£ 0.43 Mn.)

Company's U.K. subsidiary plays a critical role in Research and Development of new products for global operations and also plays a role of service provider to its customers in Europe.

Your management is confident that this initial investment will pay off in the medium run. This business is to be seen as a business development investment where finally market leads will be supplied to from India.

Setco Automotive (NA) Inc. (SANAI)

Among the developed economies, the American economy was the only economy to show growth signs. Improved consumer spending, reduction in unemployment and falling oil prices resulted in the American economy growing by 2.4%. The American recovery is looking encouraging in the current year. Your American subsidiary has two product lines; the core business of MHCV clutches and Hydraulic Pressure convertors for the off highway construction equipment. On account of slowdown in the construction activity, the brvious year saw a sharp decline in the Hydraulic Pressure Convertor business. However marginal revival of the economy and revived construction activity saw a turnaround in this business which resulted in a 20% growth in hydraulic brssure convertor business. Overall Company's American subsidiary recorded sales of Rs 47.3 cr ($ 7.64 Mn) against sales of Rs 42.1 cr ($6.92 Mn) in the brvious year, a growth of approx. 10%. Higher Sales and better cost management has resulted in a turnaround and your American subsidiary has registered a profit of Rs 1.1 cr ($0.18 Mn) compared to a loss of Rs 1.6 cr ($ 0.26 Mn) in the brvious year.

Over the last 2 years, your company is working to develop new range of clutches for the North American Market. We are planning to market our "LIPE" brand of clutches through well-known distribution channels across America. These products have been successfully field tested and are expected to be commercially launched in the 2nd half of FY 2015-16.

Both your overseas subsidiaries are an integral part of your company's growth plans and efforts made by both your subsidiaries in the last few years will strengthen company's business and strategic footprint.

Lava Cast Pvt. Ltd.

Ferrous Machined Castings form an integral part of raw material in the automotive component industry. To ensure that company achieves its growth plans, regular and uninterrupted supply of quality castings with superior finish is critical. In the brvious year, we had informed you about your company's backward integration plan of setting up a ferrous alloy casting foundry. With a set up at a cost of Rs.182 cr, this  foundry is called 'Lava Cast Pvt. Ltd', in which your company will hold 80% stake. Lava Cast is a joint venture (JV) with M/s. Lingotes  Especiales, Spain, who have an equity stake of 20% and will provide Technical & Operational know-how. The construction of the foundry and installation of major machinery is completed and we expect the commercial production to begin in the 2nd Quarter of FY 2015-16. This foundry has a capacity of approx. 30,000 MT / year out of which your company will use around 35% of the production for its captive needs and balance production would cater to demand from outside customers in the domestic and international markets. Trial production has begun as this report is being written.

Indian castings industry has grown by around 43% over 2008. Around 35% of annual production around 10 million tons is consumed by auto and auto components industry. Based on plans of automotive industry, demand for castings is expected to grow three folds in the next ten years.

Your company's JV partner, Lingotes is a leading player in European market and supplies fully machined quality castings to major commercial vehicle manufacturers like Ford, Volkswagen, Renault, Fiat, and others. Many of these players have operations in India also. This association with Lingotes would help the company not only in getting business from Indian companies but would also facilitate to get entry into international markets, which have huge potential and better returns. Looking at the vast potential upside, the company proposes to double the current capacity in next 2 - 3 years.

Lava Cast has the additional benefit of a state of the art machine shop, which is critical towards being able to offer value added finished products to customers.

Opportunities:

- Indian economy is at an inflexion point and is set for sustained growth in the coming years. Reduced interest rates, lower oil prices, increasing urban population, higher per capita income translates into higher spending which directly leads to increased freight movement and increased demand for commercial vehicles.

- The Government's plan for creation of 100 smart cities till 2022 will result in increased demand for Commercial Vehicles in the long term. The Smart City model will boost the organized retail sector which will directly encourage the hub and spoke model for transportation and better logistics efficiency. This will also lead to higher penetration of commercial vehicles in the country.

- The Government's commitment towards the "Make in India" initiative will result in a massive push to the manufacturing sector leading to higher growth.

- India is also rapidly modernizing its freight corridors for efficient transport.

- India continues to remain a brferred destination for quality manufacturing at competitive price. While there are multiple routes for Global players to enter India; partnerships, mergers and joint ventures have been brferred routes as both the Indian and Global partners can leverage each other's strengths to their advantage.

- Your company is by far the largest supplier of MHCV clutches to some of the global commercial vehicle manufactures who have set up their factories in India. This gives us an opportunity to work with these Global OEM's to cater to their international requirements.

- Your company also has set its vision to become a leader in the clutch business worldwide with a clutch for every truck in its product portfolio.

- Your company's new product development has also ensured entry in the LCV and Farm Equipment markets for clutches.

Threats:

- Commodity price fluctuation and foreign exchange fluctuations have a significant impact on the manufacturing costs.

- Competition from other low cost countries like China, Thailand and Taiwan may pose some competitive threat to India. However, India is best placed in terms of talent, capability and delivery compared to other low cost nations.

- Dependence on monsoon and poor irrigation facilities resulting in slow agriculture growth directly impacting the economic progress

Human Resource:

Value creation through human capital

Intellectual capital has always been a cherished and valuable asset at SETCO, making the Company proud of its endeavors. A vibrant and progressive intellectual capital drives the centre of engineering excellence at SETCO. The people-driven Company, gains its competitive advantage by deriving models of intellectual excellence by adhering to international parameters.

Capability Development

Your company has made great emphasis on training and development. A series of training programs have ensured continuous skill enhancement and increased efficiency at the work place. As part of the skill development calendar, the 2014-15 fiscal saw Setco initiate 130 thought empowering behavioral and technical/functional training programs involving both external agencies as well as internal faculty for its workforce, across all hierarchies.

Leadership Development

Your company has encouraged spirit of leadership amongst the young management team and launched a thought empowered initiative titled "Setco Team's Young Leaders Excellence Programme - STYLE" in 2014-15. The STYLE initiative will see the high performing and high  potential individuals grow into leaders in their respective functions by way of engaging, grooming, empowering and skill developing ideas. As a part of the STYLE Programme, these employees shall be put on an accelerated career progression commensurate with their demonstrated capability and performance at current assignment based on their potential for growth.

Competency Management

We are creating a future-ready organization to meet the current and emerging business challenges. Paving the way forward for achieving a future-ready stature are activities lined up in the initiative calendar that focuses on Capability Development under the aegis of the "Competency Mapping" project. This project aims to help us in mapping the capability gaps in individuals, functions, departments and at Business Unit levels.

Risk Management & Internal Controls

Safeguarding all the stakeholders interest is of utmost priority for your company. In line with corporate best practices, your company has developed an elaborate Risk Management Charter, which will monitor, evaluate and execute all mitigation actions in this regards.

Your company's internal control systems are adequate and commensurate with the nature and size of its business model. These systems are periodically tested and duly verified by the Internal Auditors as well as the Statutory Auditors. These are then reviewed by the Audit Committee from time to time.

Striding Towards Growth

Revival of Indian auto sector, deeper penetration into domestic replacement market and advanced stage of new products development for international customers / markets, your company is on an accelerated path to achieve its growth targets. All strategic investments to vertically integrate your company to achieve cost and quality advantages have been successfully initiated to ensure product excellence. As the company is moving ahead, the manufacturing & engineering teams are revamping production, material handling, supply chain management and more.

A rejuvenated Setco with strong management believes in the future growth and is all set to achieve a benchmark of excellence and value creation.

Cautionary Statement:

Statements in this Report, particularly those which relate to Management Discussion and Analysis, describing the company's objectives, projections, estimates and expectations may constitute 'forward looking statements' within the meaning of applicable laws and regulations. Actual results may differ materially from those either exbrssed or implied