MOST upgrades earning estimates of Tata Motors, Maruti

Motilal Oswal has come with its December`12 quarterly earning estimates for auto sector. According to the research firm, demand improves with festive season, but MHCVs remain under stress.

Demand improves with festive season, but MHCVs remain under stress: With the festive season falling in 3Q this financial year, growth in wholesale volumes has picked up YoY across two-wheelers, passenger vehicles and tractors. We estimate that retail demand has grown 5-7% for two-wheeler companies and 8-9% for Maruti Suzuki (MSIL). Tractor sales recovered, with flat YoY sales during the festive season (compared to YoY decline earlier). The MHCV segment, however, continues to be under stress, with 30% YoY decline in 3Q, reflecting weak macroeconomic conditions. This coupled with higher competitive intensity has led to sharp increase in discounts. LCVs, however, continued their growth momentum, driven by proliferation of the hub and spoke model and relatively stable consumption spend. While long-term demand drivers remain intact, expected softening in interest rates and reformdriven improvement in the macro environment and consumer sentiment should drive volumes over the next few years. Margins to expand QoQ on higher volumes, better mix, favorable forex movement and stable RM cost: We expect EBITDA margins for our Auto Universe to expand 50bp QoQ (and 10bp YoY) on higher volumes, better mix [Bajaj Auto (BJAUT), Hero MotoCorp (HMCL), MSIL, Mahindra & Mahindra (MM)], favorable forex movement (depreciating JPY against USD - HMCL, MSIL) and stable RM cost. However, demand slowdown and higher competitive intensity would impact the performance of CV companies [Tata Motors (TTMT) standalone, Ashok Leyland (AL), and Eicher Motors (EIM)]. While HMCL and MSIL would report 190bp and 110bp QoQ margin expansion, respectively, AL is likely to report 170bp QoQ contraction to 8.5%. Easing of macro headwinds to be key catalyst for demand recovery: Over the last few months, major auto financiers have reduced lending rates. This augurs well for the auto industry, particularly for PV and CV demand. Moreover, with expected monetary easing in CY13, economic activity and consumer sentiment would improve. Price increases and softening of commodity prices would be an added advantage for auto companies. Easing macro headwinds would be the key driver of volume growth and profitability, and in turn, for re-rating. Valuation and view: We are downgrading our earnings estimates for BJAUT (factoring in volume and margin weakness) and AL (factoring near-term weakness in MHCV demand). On the other hand, we are upgrading our estimates for MSIL (to factor in recent JPY depreciation against USD), TTMT (factoring in volume upgrades in JLR) and HMCL (favourable forex movement). Changing competitive landscape in the auto sector would be one of the key determinants of stock performance. While we believe that the worst of competitive pressure is behind for passenger cars, increasing competitive intensity for two-wheelers, UVs and CVs pose a challenge for incumbent OEMs. We prefer TTMT and MSIL. Within mid-caps, we like EIM and AL. (INR Million)

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