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Challenging quarter; production to ease in H2

Eicher Motors’ Q1FY22 EBITDA margins (at 17.5%/down 449bps QoQ) missed consensus estimates largely due to negative operating leverage as gross margins remained resilient (up 30bps). The healthy gross margins reflect strong pricing power and improved mix (e.g. exports, accessories). We are admirers of RE’s customer-centricity / market expansion strategy via: a) new product launches to expand addressable market following the success of Meteor-350; and b) improving consumer experience, sales mix with initiatives like MiY vehicle customization.

However, semi-conductor issues are likely to limit production ramp-up in the near term and could delay new product launches in FY22. We believe, volume recovery in FY23E (>70k units/month) is key for unit profitability to surpass previous peak (Refer: Table 2). Valuations remain fair. Maintain HOLD.

* Key highlights of the quarter: Eicher Motors reported ~35% QoQ decline in revenues as volumes fell ~40% QoQ. ASP continued to rise (~Rs154k per vehicle, 8% QoQ higher) driven mainly by: a) price increases to recover RM cost inflation, b), and b) favourable mix (e.g. all-time high exports at ~17.5k units). EBITDA margin at 17.5% (down 449bps QoQ) was lower due to negative operating leverage from lower production and higher employee costs (up 380bps QoQ). Reported PAT declined ~43% QoQ to Rs 2.6 bn aided by other income (up ~19% QoQ).

* Key concall takeaways: Management indicated: a) the sudden exit of Royal Enfield CEO Mr. Vinod Dasari was due to personal reasons (plans to work for social cause); b) production continues to be constrained due to supply-side bottlenecks from semiconductor shortages leading to delay in the launch pipeline, and this is likely to ease in H2; c) EIM has set up its second CKD facility in Columbia for assembly of Himalayan to enter the third-biggest LatAm market; d) RE’s export performance was strong in the Americas, UK (Meteor, Interceptor), New Zealand and Thailand; e) Make-It-Yours (MiY) feature has been enabled in all 2,071 stores and is witnessing ~80% penetration; f) RE has expanded its reach to >2k touch points across India with 1,038 studio stores; in international markets, it added eight exclusive stores and 19 multi-brand outlets (total 140 exclusive, and 653 multi-branded); g) RE targets 20% revenue share from non-auto sales; and h) RE finance penetration stood at 45- 47% as delinquency levels remain among the lowest in industry.

* Maintain HOLD: Eicher Motors is likely to witness growth tailwinds in H2FY22E/FY23E as exports remain solid while new product launches are likely to stimulate domestic demand. However, dynamic supply chain issues and delayed product launches could hinder the pace of improvement. We cut our EPS estimates for RE by 6.7%/7.3% for FY22E/FY23E respectively, and maintain our RE valuation multiple at 25x FY23E EPS. We maintain our HOLD rating on the stock with a revised target price of Rs2,567 (earlier: Rs2,709).

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