Nitin Agrawal Moneycontrol Research
Highlights: - Leadership position in respective markets - Raw material cost continues to be a concern - Demand sluggish in the near term, long-term outlook positive - Deserves premium valuation given its strong fundamentals --------------------------------------------------
Amid market volatility and weak demand outlook in the automobile segment, some of the leaders in the auto-ancillary space have corrected and deserve attention. Two such companies with strong fundamentals as well as long-term prospects are Wabco India (Wabco) and Bosch. Both companies are sound long-term portfolio candidates due to their leadership position in respective markets and positive long-term end-market outlook. We advise investors to accumulate these companies amid the current market weakness.
Following are the key growth drivers for these companies going forward:
Industry opportunities – sluggish in the near term Fortunes of both Wabco and Bosch are directly correlated to the growth in the commercial vehicle (CV) segment. After performing phenomenally well in FY18, the domestic CV segment has come under a lot of pressure due to a weakening macroeconomic environment, leading to muted sentiment. Subdued market sentiment is also on account of liquidity problems and financing issues. The lagged impact of new axle load norms in the CV segment is also to be blamed partially.
We expect demand to remain weak in the short term, but long-term growth outlook remains promising on the back of economic growth, rising income levels, lower penetration, government’s thrust on increasing rural income and its focus on infrastructure and construction.
What could act as near-term trigger is the upcoming Bharat Stage VI emission norms to be implemented from April 2020. This is expected to bringing forward demand as new BS-VI compliant vehicles would be more expensive than the current ones. Moreover, BS-VI emission norms are expected to open new avenues for Bosch in the two-wheeler (2W) space as carburettors would be replaced by an injection system.
The government’s scrappage policy would potentially lead to replacement of 200,000-300,000 trucks that are over 20 years old, which should also augur well for both companies.
Dominant position Both Bosch and Wabco enjoys leadership position in their product segments. Bosch has garnered 75 percent market share in diesel injection systems and Wabco has 85 percent market share in air-braking systems. Wabco continues to remain preferred supplier to its parent as well. Bosch, on the other hand, has technological leadership among auto-ancillary companies and its technological prowess makes it one of the few companies that have bargaining power with original equipment manufacturers (OEMs).
Recent quarter performance marred by subdued CV demand
Mirroring subdued growth in the CV segment, Bosch posted muted net sales growth of a percent year-on-year (YoY), led by flat growth in the auto segment (80 percent contribution). The auto segment was marred by the lag impact of new axle load norms and liquidity challenge. Power train segment saw a 2.7 percent decline, whereas aftermarket division grew 5.8 percent. Driven by the security system and solar energy divisions, the non-mobility segment grew 4.8 percent.
Wabco posted an 8 percent growth in its net sales, supported by 4 percent and 12.5 percent growth accruing from OEMs and exports, respectively. Aftermarket, however, witnessed a decline of 1.3 percent.
Higher raw material (RM) prices marred operating profitability for both companies. Earnings before interest, tax, depreciation and amortisation (EBITDA) margin contracted 92 bps and 107 bps for Bosch and Wabco, respectively. The fall was arrested by the operating cost reduction efforts undertaken by both companies.
Premium valuation Amid a weak demand outlook and market volatility, the Bosch and Wabco counters have corrected 20 percent and 28 percent from their 52-week highs, respectively.
Bosch and Wabco are trading at 31.4 and 28.2 times FY20 projected earnings, respectively. Given their strong financial performance, these companies deserve premium valuation. We, therefore, advise investors to buy these businesses in a staggered manner for the long-term.
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Disclaimer: Moneycontrol Research analysts do not hold positions in the companies discussed here
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