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Improving Autos dilute weakness in Tractors

Strong order book | Easing semiconductor supplies | Scorpio launch in 1QFY23

* MM’s 3QFY22 operating performance was in line as a strong recovery in the Auto business made-up for weakness in the Tractor business. We expect the Auto business to take the growth baton from the Tractor business, led by strong momentum in both SUVs (driven by new products and the easing of supply issues) and LCVs (cyclical recovery).

* We raise our FY22E EPS estimate by ~3% to factor in higher dividend income, but maintain our FY23E estimate. We maintain our Buy rating with a TP of INR1,125/share (Mar’24E SoTP).

Sequential margin expansion for Autos, decline for Tractors

* Standalone revenue/EBITDA/adjusted PAT increased by 9%/-21%/-21% YoY to INR152b/INR18b/INR13.5b. Revenue/EBITDA/adjusted PAT grew 30%/ 5%/31% in 9MFY22.

* Volumes declined by 4% YoY (+12% QoQ). Net realizations improved by 14% YoY (+2% QoQ) to ~INR711.6k/unit (est. INR704.6k/unit), led by ~16%/8% YoY growth in Auto/Tractor realization.

* Gross margin contracted by ~590bp YoY (-200bp QoQ) to 25.2% (est. 26.2%), due to higher RM cost and weaker mix (lower Tractor contribution).

* However, the benefit of operating leverage diluted the fall in EBITDA margin to ~450bp YoY (~60bp QoQ) to 11.9% (est. 12.2%).

* PBIT margin for the Auto business improved by 100bp QoQ (-370bp YoY) to 3.7%. The same for the Tractor business declined by 140bp QoQ (-610bp YoY) to 17.3%.

* EBITDA declined by 21% YoY (+8% QoQ) to ~INR18.1b (est. ~INR18.3b). Higher other income and lower tax boosted adjusted PAT to INR13.5b (est. ~INR10.2b), a decline of 21% YoY (-20% QoQ).

Highlights from the management commentary

* Order backlog in Autos: It has open bookings of more than 155k units, of which over 70k units are for the XUV700 (after a 10% cancellation rate). It has strong order bookings and backlogs across brands, with a current runrate of over 38k units/month, excluding the XUV700.

* Semiconductor shortage: It lost 20k units in 3QFY22 due to the semiconductor shortages. However, the management feels the worst is behind it as it has taken short and long term steps to address the same.

* Good scope for margin improvement: It sees a 300bp upside in Auto margin, led by operating leverage, normalization in the prices of new products as they stabilize, and a structured cost reduction program (material and other cost).

* FY22 outlook for Tractors: Industry volumes are expected to decline by 6%. Its FY23 outlook is currently unclear, given the emerging negatives (lower government spends than FY21 and terms of trades turning negative for the farmer), while the Rabi crop is expected to be a bumper.

Valuation and view

* We expect the Auto business to take over the growth baton from Tractor, although deterioration in the mix would restrict EBITDA/EPS CAGR to ~15%/~21% over FY21-24E. MM's valuations are still at a substantial discount to its five-year average, reflecting weakness in the Tractor cycle.

* Implied core P/E for MM stands at 10.7x/8.2x FY23E/FY24E EPS. This implies a discount of over 30% discount (on an FY23E basis) to its five-year average core P/E. We maintain our Buy rating, with a TP of INR1,125/share (Mar'24E SoTP).

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