We see numerous opportunities for the company such as more organised players in the economy, strong exports, robust industry prospects, its defence strategy and focus on electric vehicles
Ashok Leyland (AL), India’s second largest commercial vehicle (CV) manufacturer, started FY19 with a strong set of numbers for the first quarter on robust volume growth and cost management. We see numerous opportunities for the company such as more organised players in the economy, strong exports, robust industry prospects, its defence strategy and focus on electric vehicles (EVs).Quarter at a glance
Strong volume growth
The company posted significant (47.5 percent) year-on-year (YoY) revenue growth. The latter was primarily driven by strong volume growth (47.9 percent). Net realisation, however, witnessed a marginal blip because of prevalent discounting in the industry.
The medium and heavy commercial vehicle (M&HCV) segment, including exports, grew 54 percent, whereas the light commercial vehicle (LCV) segment grew 33 percent. Volumes grew on the back of last year’s lower base owing to transition towards Bharat Stage IV and opportunities arising from rollout of Goods & Services Tax.
Despite a significant rise in raw material (RM) prices and huge discounting pressure, AL continues to maintain its profitability. Operating profit margin in the June quarter rose 320 basis points (bps) on the back of operating leverage and better cost efficiencies. The management could manage the rise in RM prices by undertaking a price hike. It sounded positive on future growth, citing multiple opportunities.Focus on profitability
For FY18, the company continued to gain market share across segments driven by new launches — 17 of them — and wide acceptance of its iEGR technology. Its M&HCV market share fell 4.5 percent in Q1 as the management is focusing on profitability and trying to strike a balance between profitability and market share. It however gained market share in the LCV business.Robust industry prospects to continue
The CV sub-sector has been a stellar performer within the auto industry. Growth has been fuelled by the government’s focus on infrastructure, increase in mining activity and normal monsoon lifting rural sentiment. With an impetus on the rural economy in an election year and continued focus on infrastructure in selected pockets, the CV segment should have a strong run going forward as well. While admitting to the competitive intensity, the management was confident about its products and position in the market.Impact of increase in axle load
There could be some impact expected from the increase in axle load. Sources said this rule would be implemented prospectively and hence all new purchases would come under this ambit. If this occurs, then it may lead to a spurt in demand as fleet operators would want to replace old trucks with new higher capacity vehicles. If the policy is implemented retrospectively, then it would impact demand negatively as the existing fleet would be able to carry more load. Additionally, lack of clarity may lead to deferment in buying.
Since there is already overloading happening in various states, this norm and implementation of e way bill would make it more difficult to overload beyond the enhanced permitted limits and would not impact CV volumes. The management sees no substantial impact on CV demand.Focus on EVs
The management has a focused strategy for developing EVs. It expects EVs to constitute a large part of its future business. Towards this end, AL is making significant investments in various technologies. It is not clear at this stage which of those would deliver the optimum result. Its focus is on keeping vehicle cost low as that will be a critical factor in wider adoption. The company also launched India’s first electric bus with battery swap technology. It would be supplying vehicles to the Gujarat government in the next few months.Strong position in defence
Given the government’s increasing focus on defence, the management is confident about the long term opportunities in the sector. It does not see any slowdown in defence spend in the near to medium term and sees huge potential. During FY18, the company bagged 12 defence tenders and expects this momentum to continue.ValuationThe stock has corrected quite significantly, more than 30 percent, from its 52-week high making the valuation much more reasonable giving investors a opportunity to accumulate. At the current price, the stock trades at a reasonable valuation of 18.9 and 15.5 times FY19e and FY20e earnings, respectively.
We remain positive on the stock. It has also bolstered its position in the market and looks set to gain from infrastructure spending and increase in the number of organised players in the economy. We, however, need to watch out for the clarity on axle norms.Moneycontrol Research page