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Focus on improving profitability over market share gain

Additional PCR capacity likely to emerge from FY26

Apollo Tyres (APTY) hosted an investor meet followed by the AP plant visit. The plant has dedicated lines for PCR and TBR products with a capacity of 15k and 3k tyres per day, respectively. Further, as the current facility for TBR/PCR is at the center of the 104 Hectare Greenfield campus, it has a scope to expand both on the left and right directions. Management discussed about its FY26 vision of: i) a revenue of USD5.0b (vs. USD3.1b in FY23), ii) an EBITDA of >15.0% (vs. 13.5% in FY23), iii) a ROCE of 12-15% (vs. 10.1% in FY23) and iv) a net debt-to-EBITDA of <2x (vs. 1.4x in FY23). While APTY indicated that capacities will be added in FY26, the next leg of capex is likely to be prudent and will not be bunched up. Hence, we believe it can be funded from operating cash flows.

* Revenue to grow by mid-to-high single digit: Growth will largely be driven by volumes as realizations are not likely to improve materially. There is a healthy demand in T&B replacement category as it has started to recover, while PCR replacement is slightly muted. However, replacement demand is expected to bounce back fueled by strong PV volume growth over the last 2-3 years.

* Near-term demand pressure to sustain in the EU: While the industry is declining, APTY continues to outperform the underlying market. Near-term demand is projected to remain under pressure, which should result in flattish growth in Europe. Recovery in 2HFY24 could not be assessed at this point. The US is estimated to grow on a small base as sales in FY23 stood at USD120m vs. USD58m in FY22.

* Expect steady-state EBITDA margin for both India and Europe: EBITDA margin in the coming quarters should be higher than overall FY23 margin but lower than 4QFY23. The previous quarter’s margin was one of the highest despite RM cost being ~15% higher than the normalized level. There is a quarterly price adjustment for PV OEMs, while in case of CV OEMs, it is negotiable. The company will not operate OE businesses with lower margin.

* Market share gains by cutting prices to be avoided: The company has lost ~100bp market share YoY in TBR and the current market share stands at 28- 29%. This is because the competition is lagging by one price hike. Market share in PCR stands at 20-21%. Market share gain in OE category appears challenging at this point of time.

* Currently operating at 75-80% utilization level, with PCR utilization being slightly at the lower end. Further, debottlenecking should result in 4-5% incremental capacity. Current capacity is sufficient until FY25. However, additional capacity in PCR will be required from FY26. For a capacity of 8k tyres per day, capex of INR15-20b will be required in India and EUR200m will be required in Europe. Budgeting for this capex will be done in 2HFY24. Brownfield capex will be ~15% lower than Greenfield, however, the difference is largely with respect to the timing

* The company aims to improve ROCE beyond 15%, with its first target being to maintain ROCE between 12% and 15%. ROCE is likely to improve driven by profitability through high focus on improving mix and stable capex guidance as the company will not bunch up the capex. PCR mix in India is 22-23% while the same is 70% in the EU. Hence, the capital allocation needs to be efficient with high focus on PCR. ROCE for Indian business is higher than the EU.

* Overall radialization is at 50-55%: For the T&B segment, OE is at 75% and replacement is at 45%. Radialization has been paused in the T&B segment over last 2-3 years since China’s anti-dumping duty. Off-highway segment in India is still largely bias.

Valuation and view

* We have marginally cut our earnings estimates by 1% as APTY is likely budget for the next phase of capex starting from FY25. However, unlike in the past, the current phase of capex is going to be brownfield (lower intensity) and would not be bunched up (and hence, manageable from its operating cash flows).

* Therefore, we estimate APTY to turn net debt free by FY25. We raise our target multiple for APTY to 15x from 13x, to factor in the company’s sustained focus on capital allocation and the resultant increase in capital efficiencies (RoCE >15%). Reiterate BUY with a TP of INR500 (premised on 15x Jun’25E consol. EPS).

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