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Published on 7/01/2021 9:16:36 AM | Source: Motilal Oswal Financial Services Ltd

Auto Sector Update - Sharper-than-expected recovery in all segments By Motilal Oswal

Posted in Broking Firm Views - Sector Report| #Auto Sector #Sector Report #Motilal Oswal Financial Services Ltd

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Sharper-than-expected recovery in all segments

EBITDA margins to expand for the first time after eight quarters of decline

* Volume recovery seen in 2Q continued in 3QFY21. Strong momentum was witnessed in retail sales of Tractors and PVs (YoY growth in retails), whereas the same for 2Ws was marginally lower than last year.

* On a wholesale basis, we estimate volumes to grow strongly for Tractors (+22% YoY), PVs (+15% YoY) and 2Ws (+19% on a low base of last year). Among CVs, LCVs saw a good recovery (+1.5% YoY), while the decline is getting smaller for M&HCVs (-8% YoY). 3Ws are witnessing a QoQ recovery in volumes.

* We expect the recovery in EBITDA margins to continue for the second straight quarter despite the initial impact of commodity cost inflation. The same for our OEM (ex-JLR) universe is likely to expand 190bp YoY to 12.2% (+40bp QoQ), led by price hikes (in 2Ws and Tractors), lower discounts, cost cutting, and operating leverage benefits.

* We are revising our FY22E EPS estimates to factor in volume upgrades as well as substantial commodity cost inflation. We upgrade TTMT (+28%), AL (+11%), BHFC (+11%), MSS (+14.5%) and ESC (+6%), whereas downgrade HMCL/MM (-8%).

 

Volumes across segments recover, but the divergence in trends visible

Volume recovery, seen in 2Q, continued in 3QFY21. Strong retail momentum was witnessed for Tractors and PVs (YoY growth in retails), whereas 2Ws retails was marginally lower than last year. On a wholesale basis, we estimate volumes to grow strongly for Tractors (+22% YoY), PVs (+15% YoY) and 2Ws (+19% on a low base of last year). Among CVs, LCVs saw a good recovery (+1.5% YoY), while the decline is getting smaller for M&HCVs (-8% YoY). 3Ws are yet to see any material recovery (- 31% YoY), though volumes have been better on a QoQ basis. With low starting inventory, both PVs and Tractors witnessed a waiting period due to good retail momentum, whereas 2Ws and CVs saw normalization of inventory in 3QFY21.

 

Recovery in EBITDA margins to continue for the second consecutive quarter

We expect the recovery in EBITDA margins to continue for the second straight quarter, despite the initial impact of commodity cost inflation. EBITDA margins for our OEM (ex-JLR) universe is likely to expand 200bp YoY to 12.2% (+50bp QoQ), led by price hikes (in 2Ws and Tractors), lower discounts, cost cutting, and operating leverage benefits. However, 2W players like HMCL (-150bp YoY), EIM (-130bp YoY) and BJAUT (-40bp YoY) would see a YoY decline.

 

Recovery strong, however uncertainties prevail in the near term Contrary to our expectations, demand recovery has been stronger than expected across segments (excluding 3Ws). This is attributable to pent-up demand, positive agri economics, and a shift to private from public transport. This has led to consistent upgrade in volume estimates. However, we do see near-term uncertainties in the form of: a) supply-side disruption due to a global shortage of semi-conductors, b) sharp commodity cost inflation, led price increases, and c) risk to demand (from a price hike, fading benefit of COVID-19 to private transport, etc.). We expect the volume recovery in all segments to sustain in FY22, with core demand growing 5-7% for 2Ws/PVs/Tractors, supported by the benefit of low base of Apr-Aug’20. For 3Ws and CVs, we expect a sharp recovery in FY22.

 

Valuation and view

We are revising our FY22E EPS estimates to factor in volume upgrades as well as substantial commodity cost inflation. We upgrade TTMT (+28%), AL (+11%), BHFC (+11%), MSS (+14.5%), and ESC (+6%), whereas downgrade HMCL/MM (-8%). Being a seasonally slow month, Dec’20 saw decent demand (at par YoY) despite discounts being lower by ~50% YoY. Valuations are reflecting a recovery in 4QFY21, leaving a limited margin for safety from any negative surprises. Hence, we prefer companies with: a) higher visibility in terms of a demand recovery, b) a strong competitive positioning, c) margin drivers, and d) balance sheet strength. MM and HMCL are our top OEM picks. Among auto Component stocks, we prefer ENDU and MSS.

 

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