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Maruti Suzuki India
2Q FY3/11 – Weak operating results
Event
Maruti Suzuki reported poor set of 2Q FY3/11 numbers that were ~12% below
our estimates on operating level. We maintain Underperform as we believe
that heightened competition and higher royalty will limits earnings growth.
Impact
Weak operating results: Net sales at Rs89.4bn (up 27% YoY) were largely
in-line with estimates. Operating profit at Rs8.4bn were ~12% below
estimates. However PAT pre-exceptional at Rs6.3bn (up 11% YoY) was 5%
below our expectations supported by higher than expected other income.
Margins impacted by higher other costs: Adjusted for RM cost hikes for
last quarter, operating margin stood at 9.3% for the quarter, down 240bps
YoY. While raw material costs as % of sales reduced as estimated, other
manufacturing and selling expenditure rose more than expected. With higher
proportion of new models and appreciating Yen, royalty as % of sales also
increased to 5.3% in the quarter as compared to 5.1% in previous quarter.
Higher RM costs and forex to keep margins under pressure: While prices
of steel is likely to remain stable for rest of the year, management indicated
that with increasing prices of rubber, precious metals and copper, RM costs
are expected to remain high. Further with only 25% of imports now hedged,
an appreciating Yen will act as a major headwind for margins. Management
also indicated that royalty payment as % of sales is unlikely to come down in
next 3-5 years despite company spending ~Rs15bn on new R&D facility.
Heightened competition to limit price hikes: Maruti has done reasonably
well so far in limiting market share losses despite increasing competition (See
fig 5 & 6). However going forward we believe that the company will not be
able to increase prices to combat both rising raw material prices and higher
royalty payments without impacting sales. We also expect marketing and
selling expenses to increase in the coming years as new players enter the
compact car space and overall industry growth slows down. Thus we expect
margins to remain at current low levels despite increasing volumes.
Earnings and target price revision
We marginally increase earnings by 2-4% for FY12 and FY13 mainly on
account of higher volume assumptions. Accordingly increase target price to
Rs1250 from Rs1170 earlier.
Price catalyst
12-month price target: Rs1,250.00 based on a DCF methodology.
Catalyst: Further loss in market share and rise in raw material prices
Action and recommendation
Maintain Underperform: With high competitive intensity, rising raw material,
selling & distribution and royalty expenses, we estimate earnings growth to be
in single digit over the next 3 years. At over 16.5x FY12E PER, the stock
remains expensive.
Key Conference call takeaways
Volume remains robust: Maruti’s volumes for 2Q increased at a healthy rate of 27% YoY to
313,654 units. Good demand for Wagon R, Alto K10 and new variants lifted domestic volumes by
33%, whereas withdrawal of scrappage incentives in Europe caused a YoY decline of 4% in
exports. Overall volumes also increased as de-bottlenecking increased production rate by 10% in
2Q to 1.3m units pa run rate. Going forward, demand is expected to remain strong however
growth rates would decline due to increasing base effect of the last year.
Capacity expansion to fructify only after 3QFY12: Out of the new capacities, Mansar B (250k)
will begin operations in 3Q of FY12 and Manesar C (250k) will come on-line only in FY13. Also,
further debottlenecking is not expected to increase production volumes significantly. Hence
company will not be able to expand production beyond 1.3m units pa run rate till new plant comes
on-line in Oct – Nov 2011.
Raw material cost pressures to continue: Margins were impacted by 0.5-0.7% due to increase
in steel prices, even after company employed cost reduction initiatives. In the remaining half of this
fiscal, steel prices are expected to remain flat, whereas other commodities are expected to get
more costly. This we believe will continue to impact margins.
Currency appreciation impact profitability: The significant appreciation of Yen has caused a
dent in margins. With exports hedged at 80% and imports hedged at only 25% of the total, Maruti
has a significant exposure to exchange rate volatility. Indirect exposure on the vendor side also
remains a concern. Further these currencies have already appreciated by around 3% in October
compared to the previous month. Thus margins are expected to remain under pressure as foreign
exchange appreciation can exert significant pressure in the coming quarters.
Royalty payments to increase with newer models: Revision in royalty rates for newer models
increased other expenses in 2Q by Rs2.2bn. Royalty payments are expected to rise going forward
as company's product mix changes due to new launches and also because of the fact that it now
has to makes the entire royalty payment in Yen. As Indian R&D is still dependent on Suzuki for
technological upgradation of the new models, management does not expect royalty rates to come
down over the period of next 3-5 years.
Diesel portfolio increasing steadily: Maruti is selling diesel variants for Switz, Dzire and Ritz
models. Around 14,000 diesel variants of Swift and Dzire are sold in a month and the Ritz variant
clock sales of around 3,000 units per month. The company has no plan to introduce any other
diesel engine apart from the 1.3 litre variant.
Capital expenditure to progress as per plan: Maruti is proceeding on track with its plan of
setting up a new plants which would take its total capacity to 1.75m by 2013.It aims to spend
Rs28bn in the current fiscal.
No clarity on partnership with Volkswagen: Suzuki is still in talks with Volkswagen and they
may announce a joint project only by the next calendar year.
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