Maruti Suzuki India (MRTI.BO) : Strong demand may not translate into earnings; Sell on strength
What's changed
Maruti Suzuki (MSIL) is up 19% MTD in September, outperforming the BSE
Sensex by about 8% and BSE Auto Index by about 10%. We believe this is
mainly due to announcement of capacity expansion plans by the company
(from about 1.2mn units currently to 1.75mn units by 2013E), and strong
industry demand in advance of the Indian festive season.
Implications
1) Demand growth may not necessarily equal earnings growth - While
industry demand has improved over last two quarters, MSIL’s margins
have structurally declined during the same period due to: a) higher royalty
payments, and b) Rising commodity costs amid lower pricing power. Even
the most optimistic projection on the street implies FY10-12E EPS CAGR
of 16% (taking Bloomberg High EPS estimate) vs. a historical 24% 5-year
CAGR and 17% 3-year CAGR. 1QFY11 earnings performance further
reinforces this point in our view – while sales volume grew 25% yoy, EPS
declined by 20% on a yoy basis.
2) Industry structure likely to be more challenging than before - MSIL will
battle 8 competitors going forward, vs. 2 competitors historically, implying
challenges to longer term margins and valuation multiples in our view.
3) Further headwinds to performance - adverse forex rates (Euro and Yen)
and higher commodity costs could pose additional headwinds in our view.
Valuation
The stock is trading at upcycle multiples on Bloomberg consensus
estimates, and close to peak on our own estimates. Valuation also looks
high relative to history on EV/EBITDA, EV/GCI and P/B methodologies. We
believe this is unsustainable in light of the arguments discussed above,
and reiterate our Sell rating with 12-month FY11E P/E based TP of Rs1,126.
Key risks
Higher consumer confidence, lower than expected success of competitors.
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