MARUTI SUZUKI: Strong demand, capacity augmentation to drive partial recovery of market share; Lower discounts, reducing forex volatility drive margins; Buy
We met with the management of Maruti Suzuki (MSIL IN, MCap US$9.5, CMP Rs1,480, Buy) to get an update on the business and evolving industry dynamics. Key highlights:
Demand continues to remain very strong resulting in increased order backlog
- Demand at retail level remains very strong. This coupled with capacity constraint has resulted in increasing waiting period for most of its product portfolio.
- Except, Maruti 800, A-Star and Zen Estilo all its products are on waitlist with highest waiting period for Eeco (~5 months), Swift Dzire (~4-5 months) and Swift (~3 months).
- Strong retail demand has resulted in order backlog increasing to ~20-25% of production from ~18-20% over last few months.
- However, it expects to build-up inventory for festive season during Sep-10 due to Shradh period (~7 days in Sep-10). It expects inventory to increase to ~4 weeks from ~3 weeks in Aug-10, which is still below desired levels entering festive season.
- Further, debottlenecking would partly ease capacity constraint. We estimate 2HFY11 monthly run-rate to be ~107,500 units as against 1HFY11 run-rate of 99,500 units.
- Maruti is guiding for volume of 1.2m units for FY11 (v/s our est of 1.24m units).
MOMENTUM IN VOLUMES TO IMPROVE IN 2HFY11
Capacity addition on track
- With addition of ~10,000 units/month capacity from Oct-10, through de-bottlenecking and initiatives like temporary assembly lines, will take total capacity to ~110,000 units/month.
- For FY11, it would be restricting its exports to 0.14m units in order to cater to domestic market.
- Its next major capacity addition would commission in 3QFY12 with 0.25m and another 0.25m units by 4QFY12/1QFY13 at Manesar, taking total capacity to 1.8m units. It expects to produce 0.6m from 0.5m capacity addition.
- The management is cognizant of possibility of China like demand explosion and believes that it would have sufficient capacity to cater to demand atleast till FY14.
- While its vendors are currently keeping pace with its requirement, it believes its vendors (especially tier-2 & tier-3) would need to be prepared to meet any super-normal demand, and expects capital and manpower as key bottlenecks.
TREND IN INSTALLED CAPACITY
Not overtly worried about competition; focus on improving productivity and building on its strength to meet competition
- The management recognizes the fact of increasing competition in small car segment, and is focused on fortifying its competitive advantage.
- It has already competed against many new entrants in past and has defended its market share, which is reflected in just loss of ~300bp since FY04 despite launch of ~62 new models during FY04-10.
- It is focusing on further improving its productivity through reducing import content (import ~22% of revenues), sweating its assets (increased throughput from existing capacity by 0.3m, which would had required investment of ~Rs20b) and build on its strength of distribution, branding and speed of addressing to consumer needs.
- Maruti lost ~150bp market share in last 6 months due to its own capacity constraints, rather than demand-side issues, reflecting in waiting period for several models. Its inherent competitive advantages coupled with capacity augmentation will drive partial recovery of lost market share over next 6 – 12 months.
MARUTI LOST JUST 300BP MARKET SHARE DESPITE LAUNCH OF ~62 NEW MODELS BETWEEN FY04-10
Discounts to be lower by 15-20% in this festive season
- It indicated that discounts during festive season are expected to be lower by atleast 15-20% as compared to last festive season.
- Strong retail demand and refreshed product portfolio (all model except M800, Omni and Gypsy has seen product refreshment/ engine change) has resulted in discounts lower than last year.
- This coupled with increase in prices (~1%-1.5% increase since Apr-10) and strong demand for new products (like Alto K-10 which currently constitutes ~40-45% of Alto demand) would result in increase in net realizations.
- The management indicated that it is offering discounts, despite strong demand, as a marketing strategy and not as a competitive strategy.
TREND IN DISCOUNTS (ABSOLUTE & % OF NET REALIZATIONS)
Reducing exports to Europe translate into reduction of EUR exposure from 2QFY11
- It would be restricting its exports in FY11 at ~1,40,000 units (v/s 1,47,000 units in FY10). However, it expects its exports to Europe to be below 70,000 units (v/s ~120,000 units in FY10), with supplies to Nissan for Pixo less than 30,000 units (v/s 51,000 units in FY10).
- As a result, its exposure to depreciating EUR would gradual reduce from 2QFY11. Depreciating EUR had resulted in its export realizations to be lower by 16.5% QoQ (~8.4% YoY) in 1QFY11.
- This would also aid improvement in realizations from 2QFY11 onwards, as contribution of Europe reduces.
TREND IN EXPORT REALIZATIONS (RS/UNIT)
Other takeaways
- True Value Solutions, Maruti’s pre-owned car subsidiary, is scaling up rapidly, with volumes growing over 30%. It enables customer retention by facilitating re-purchase of new cars and enhances dealers’ profitability through the sale of certified pre-owned cars under the brand Maruti True Value.
- It indicated that it has not yet evolved solution to a recent IRDA order to cancel Maruti’s agency license. This could jeopardize its revenue stream from the insurance business. We estimate impact of ~Rs2.6/share on our FY12E consolidated EPS.
- It is not yet planning to launch new Swift (launched globally in Sep-10) as it is witnessing strong demand for old Swift. We believe it would be launching new Swift to counter competition of Toyota’s Etios (Jan-11).
Strong demand, capacity augmentation to drive recovery in market share and stock performance
- Maruti Suzuki’s stock has underperformed Sensex since Jan-10, driven by concerns about market share loss due to increasing competition, adverse forex movement and increase in royalty.
- While it lost market share since 3QFY10 due to capacity constraint, we believe capacity augmentation through de-bottlenecking will drive recovery of lost market share.
- Adverse forex movement and increase in royalty impacted its margins in 1HCY10. While increase in royalty is permanent, impact of adverse forex movement is expected to reduce as share of Europe exports and overall exports to total volume reduces.
- We estimate gradual improvement in EBITDA margins from 1QFY11 levels of 10.4% to 11.3% for full year, driven by RM cost savings and higher operating leverage.
- The stock trades at 14.4x FY12E EPS, 10.1x FY12 Cash EPS and 13.4x FY12E consolidated EPS. Maintain Buy with a target price of Rs1,763 (~12x FY12E cash EPS).
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