Tata Motors to see pressure on standalone business: Emaky

• Key macro indicators still showing no respite - Downward shift in economic growth trajectory points towards sub-par growth in freight availability.
• Down-cycle in FY09 did not completely play out because of government’s stimulus expect the same to play out in the near term given GDP (Ind) growth has remained weak.
• Fleet owner profitability at historic lows Freight rates and utilization per round trip has declined by 10% each.
• Channel checks suggest that delinquency levels of truck loan portfolios are on the rise; a pullback in financing from institutions could severely impact vehicle off take.

Our trend check of various economic activities indicates a significantly lower growth trajectory as compared to the up-cycle of the previous decade. In fact, these indicators point to a still deteriorating growth trajectory, leading to a period of below-par growth for the truck industry in the near-term. A check on freight availability, using export/import and freight activity by railways as a proxy indicates that post ’09 crisis, activity levels did not pick up significantly. However, the CV industry posted sharp growth, possibly indicating a buildup of excess tonnage capacity by fleet operators. Our house estimates for Agri GDP and IIP growth in FY13 stand at a lackluster -1.3% and 4% respectively. We do not expect any sharp improvement in freight availability from either segment this year.

Freight scenario getting worse:

Freight rates continue to remain under pressure and IFTRT, an autonomous research body, suggests that freight rates have already dropped 10% in FY13 so far. The 25-30% drop in cargo flow from medium manufacturing units is a major cause of concern. Moreover, a drop in freight availability has lead to 10-15% lower utilization levels per truck for each round trip. Our analysis indicates that fleet operator profitability is under significant pressure due to rising costs and drop in freight rates.

CV cycle could see some more pain:

Our analysis of CV cycles indicates a possibility of excess capacity build up during FY09- FY12, where the GDP (Industrial) grew by a moderate 6.3% but truck sales grew at a CAGR of 26.1%. Historically, periods where volumes CAGR have outpaced the GDP growth rate by such an extent has been followed by period of sub-par growth. The longest expansion cycle of FY01-08 terminated with 36.3% contraction in FY08-09. However, the government’s stimulus package in FY09 greatly neutralized the correction. In our opinion however, the stimulus only delayed the correction and there is a high likelihood of truck tonnage capacity following the slow GDP (Ind) growth seen post FY09.

Macro indicators still not showing any respite:

Our trend check of various economic activities indicates a significantly lower growth trajectory as compared to the up-cycle of the previous decade. In fact, moving averages for these indicators point towards further deterioration, indicating below-par growth for the truck industry in the short term. Given the limitations on data availability of freight transported by road due to the unorganized nature of the industry, we used export/import (Exhibit 1&2) and freight activity by railways (Exhibit 3) as a proxy to monitor freight availability, all of which indicate that even post ’09 crisis, activity levels did not pick up significantly. However, the CV industry posted sharp growth rate, possibly indicating a buildup of excess tonnage capacity of fleet operators.

Freight scenario getting worse:

Freight rates continue to remain under pressure and IFTRT, an autonomous research body, suggests that freight rates have already dropped 10% in FY13 so far. The 25-30% drop in cargo flow from medium manufacturing units is a major cause of concern. Our analysis in Exhibit 10, 11 indicates that fleet operator profitability is under pressure due to rising costs and drop in freight rates. Moreover, a drop in freight availability has lead to lower utilization levels per truck for each round trip.

What does this mean for the stocks?

Taking Ashok Leyland as a proxy for CV stocks (it’s the only pure play), what is interesting to note is that in both the past two down-cycles which saw 4 quarters of truck industry degrowth, the stock bottomed out after witnessing the second quarter of volume de-growth. The stock bottomed out at ~0.8x P/BV. Currently, the stock is still trading at 1.8x P/BV indicating a possibility of more downside to the stock.

In terms of pecking order, after AL which is a pure play on CV, the most affected player is Eicher Motors (CV business accounts for 50% of consol profits), where we have recently downgraded our estimates for the CV business.

We expect the dominant CV player Tata Motors (MHCV 19% and 6% of consol revenues) to see its standalone business under pressure as well, but expect its JLR business (65% of consol revenues) to drive stock performance.

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