Wednesday, January 14, 2009

Auto Sector ; Margin Expansion V/s Demand Contraction



Auto Sector

 

Margin Expansion V/s Demand Contraction


The current decline in metal prices in a bleak volume scenario is viewed as a positive for the automobile sector. We analyzed historical data to understand the importance of decline in metal prices on EBIDTA margins and stock performance vis-à-vis Sensex. We conclude that

n Volumes are the most important factor for EBIDTA margin expansion and stock outperformance.

n In absence of volumes, the impact of decline in metal prices is diluted. Decline in metal prices may cushion the margins but not facilitate stock outperformance.

n Despite the decline in metal prices, actual earnings have failed to beat initial expectations. This is evident from the fact that stock outperformance has been accompanied by increase in 1 year forward valuations, based on actual earnings. The subsequent underperformance of the stock vindicates our stand.

n It is difficult to accurately determine the benefits from decline in metal prices on raw material cost and EBIDTA margins. We expect surprises, both positive and negative, in FY10.

We have a cautious outlook on demand, despite a series of positive steps taken by the government. We believe that the steps taken by the government takes care of only the liquidity aspect of demand. The more important aspect of spending power (capital and confidence) is still uncertain. Unless there is a revival in spending power, we do not expect liquidity to have a significant impact on demand. We are hopeful of demand revival due to a series of steps taken by the government and the RBI on the liquidity front (and expect FY10 to end on positive note). However, it is difficult to determine the timing and the pace of revival. Also, we do not rule out sacrifice of the benefits of decline in metal prices for bringing in volumes. Infact, we do not rule out downward revision to estimates, as at present, there is no clear indication of timing of revival in the spending power.

Given the above facts, we prefer the two wheeler segment, as we have higher confidence on the demand scenario due to strong rural economy, 50% share of demand from rural and semi urban areas and lower dependence on finance.

Reco

Company

CMP (Rs)*

TP (Rs)

SELL

ALL

15

16

REDUCE

BAL

426

435

BUY

HH

801

946

HOLD

M&M

311

370

REDUCE

MSIL

584

575

HOLD

TML

163

200

SELL

TVS

19

19

* CMP as on 9th Jan-2009


1 comment:

yashkaushab said...

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