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Inline operating performance

Looking to ramp up total production of HD and Karizma to 10k/month soon

* Hero MotoCorp’s 2Q operating performance was in line, while higher ‘other income’ drove PAT beat. During the initial 17 days of the festive season, HMCL experienced a volume growth of ~15% YoY, driven by the resurgence in rural demand. The order back log for HD X440 stands at ~25k units, which are set to be fulfilled over the next four months. It aims to ramp up production capacity to 10k units/month together for HD and Karizma.

* We raise our FY24/25E EPS estimate by ~7%/5% to factor in for better product mix and higher other income. We reiterate our BUY rating on the stock with a TP of INR3,850 (16x Sep’25E EPS + INR226/INR116 for Hero FinCorp/Ather after a 20% holding company discount).

2QFY24 EBITDA margin for ICE at ~15%, deployed 90bp behind EVs

* 2QFY24 revenue/EBITDA/PAT grew 4%/28%/47% YoY to INR94.5b/ INR13.3b/INR10.5b (vs. est. INR92.5b/12.7b/9.4b). 1HFY24 revenue/EBITDA/Adj PAT grew 4%/28%/49% YoY.

* Net realizations grew 5% YoY to INR66.7k (vs. est. INR65.3k). Volumes declined 1% YoY.

* Gross margins expanded 340bp YoY (up 80bp QoQ) to 31.4% (vs. est. 30.9%), owing to lower commodity costs and a favorable product mix.

* However, despite higher-than-estimated ‘other expenses’ (up 70bp YoY/up 100bp QoQ; as a % of sales) offsetting gross margins gains, EBITDA margins expanded 260bp YoY (up 30bp QoQ) to 14.1% (vs. est. 13.7%). EBITDA grew 28% YoY to INR13.3b (vs. est. INR12.7b).

* Further, higher-than-estimated ‘other income’ boosted adj. PAT, which grew 47% YoY to INR10.5b (vs. est. INR9.4b).

* CFO for 1HFY24 stood at INR10.8b (vs. INR4.5b in 1HFY23), led by strong operating performance. Capex for 1HFY24 was INR3.1b (vs. INR2.3b in 1HFY23). FCFF was at INR7.8b (vs. INR2.2b in 1HFY23).

Highlights from the management commentary

* Festival demand- Within the first 17 days, HMCL has grown 15% compared to the previous festive season. Furthermore, the industry as a whole is thriving. The company has devised a comprehensive strategy encompassing its entire product portfolio. Rural demand has picked up as well. In the last two to three years, the mix had slightly tilted toward the urban segment. Now, it has evenly balanced out, indicating the recovery in rural segment. After the festivals, increased demand owing to the marriage season is expected to fuel growth for HMCL.

* Premium: HD/Karizma has order backlog of ~25k/14k units. Planning to ramp up production capacity between HD and Karizma to 10k units/month in phase-1. Hero 2.0- currently has 200 stores and plans to get to 500 stores in the next six months.

* Electric 2W- EVs are holding a 5% volume share even in the festive season, which indicates increasing adoption of EVs in the rural areas. Vida has breached the milestone of 2k units in monthly sales. This figure is anticipated to rise even further in the coming months. The company’s objective is to extend its presence to more than 100 cities by December’23 and diversify its product offerings by introducing new models at various price points in FY25. Currently, the production run rate stands at ~1k units/week.

* Believe industry is in the Margin recovery phase- In 2Q, the ICE margin was 15%, with 90bp allocated towards EV initiatives. However, as of now, the EV segment has not achieved a positive outcome, even at the gross profit level.

Valuation and view

* We expect a noticeable recovery in the domestic 2W demand to persist. This resurgence is primarily attributed to steady demand in urban markets, improved uptake in rural areas, healthy festive growth, and a lower base from the previous year. In addition to these factors, the stability in RM prices and operational cost savings are expected to contribute to an earnings CAGR of ~21% over FY23-25E.

* HMCL is a pure play in the domestic 2W industry, with its stronghold in the 100cc motorcycle segment. The company has low vulnerability to EVs due to its limited reliance on the scooter segment, which accounts for only 8% of its total volumes. Additionally, its core product, the 100CC Motorcycle is less susceptible to the impact of EVs.

* The stock currently trades at ~15.2x/14.3x FY24E/FY25E EPS. We reiterate our BUY rating with a TP of INR3,850 (16x Sep’25E EPS + INR226/INR116 for Hero FinCorp/Ather after 20% holding company discount).

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