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Tractor slowdown ahead, but global FES subs turned around

Auto growth to be driven by new launches, good demand in key models

* The beat in Mahindra & Mahindra (MM)’s 1QFY22 operating performance was driven by cost-saving initiatives, which diluted the impact of cost inflation. Growth in Tractor is slowing, particularly on the high base of FY21. However, the Auto segment is expected to see strong momentum in both LCVs (cyclical recovery) and SUVs (led by new products and the easing of supply issues).

* We cut our FY22/FY23 EPS estimate by 9%/13.5%, accounting for an expected slowdown in the Tractor industry. We maintain our Buy rating, with TP of INR890/share (Mar’23E SOTP).

Good performance supported by mix and lower costs

* The merger of MVML in MM was effected from 1QFY22 results, with the effective date as 1st Apr’19. MM’s S/A revenues / EBITDA / adj. PAT declined 12%/17%/7% QoQ to INR117.6b/INR16.3b/INR9.34b in 1QFY22.

* Volumes fell 8% QoQ. Net realizations fell 4.5% QoQ (+7% YoY) to INR629.8k/units (est. INR642.7k), impacted by a mix change. Auto realizations declined 4%QoQ (+1% YoY), while FES realizations were flat QoQ (+5% YoY).

* The EBITDA margin declined just 80bp QoQ to 13.9% (v/s est.12.9%) despite a sharp increase in employee costs (+11% QoQ) – driven by a 120bp reduction in other expenses, despite lower volumes. EBITDA declined 17% QoQ to INR16.3b (v/s est. INR15.5b).

* The PBIT margin for Auto/Tractor was down 330bp/170bp QoQ to 1.7%/20.3%.

* Lower other income restricted adj. PAT to ~INR9.34b (est. ~INR8.35b), a decline of 7% QoQ.

* Core business performances were a mixed bag in 1QFY22, with Auto subs (ex-SYMC) reporting PBIT losses of INR217m (v/s +INR1.15b in 4QFY21). On the other hand, FES subs continued to be PBIT-positive for the fourth consecutive quarter with INR1.06b (v/s +INR291m in 4QFY21).

Highlights from management commentary

* Tractor outlook: Considering the high base, it expects tractor volumes to be muted from 2HFY22; hence it is guiding for low- to mid-single-digit growth for the industry for FY22. It is not seeing anything negative on the ground thus far. MM has built up inventory back to normal levels of 30 days, enabling the recovery of 2.6pp market share to 41.8%.

* Auto outlook: MM is seeing strong demand for its SUV brand, and industry demand is also good. Considering the uncertainty due to a chip shortage, it is building system stock to prepare for the festive season. Inventory is still low at ~72% of 1QFY20 levels.

* Strong booking pipeline in key SUV brands: It has pending bookings for its key brands, viz Thar (39k units; 10 months waiting), XUV300 (10k units; 2 months waiting), Scorpio (6k units; 1.5 months waiting), and Bolero (4k units; 1 month waiting). The recently launched Bolero Neo has opened up a new segment for MM and has already received 5.5k bookings (30k inquiries). The upcoming XUV700 already has 40k inquiries even before the showcasing of the product (the launch is scheduled in 2QFY22 and deliveries would begin from 3QFY22).

* Tractor international subsidiaries: All international FES subsidiaries were profitable in 1QF22, with the highest ever overall PBIT. This marked the fourth consecutive quarter of positive PBIT (v/s INR8.8b loss in FY19 and INR6.5b loss in FY20).

Valuation and view

* We expect the Auto business to take over the growth mantle from Tractor, although deterioration in the mix would result in a lower EPS CAGR of ~18% over FY21–23E (v/s 24% earlier). MM’s valuations are still at a substantial discount to its five-year average, capturing both the pain points of deterioration in UV market share and the performance of its subsidiaries.

* Implied core P/E for MM stands at 11.5x/9.9x FY22E/FY23E EPS. This implies an over 30% discount (on an FY23E basis) to its five-year average core P/E. We maintain our Buy rating, with TP of INR890/share (Mar’23E SoTP), implying 12.8x core PE for FY23E.

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