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The Indian Auto sector has largely exhibited the characteristics of
the FMCG sector, with ROEs not only more stable, but also much
higher than those of most sectors and their global peers. These high
ROEs have been sustained by high asset turnover, high capacity
utilisation, falling tax rates, and a reasonably favourable business
cycle.
That said, the sector’s high ROEs owe much to two-wheeler
companies and Tata Motors. The two-wheeler business has limited
capital re-investment needs, a high level of outsourcing, and
demands relatively little by way of investment in product
development. Over the years, balance-sheets of two-wheeler
companies have also become leaner: Bajaj Auto has demerged the
auto business into a separate company, and Hero Motocorp has paid
large dividends in the last two years.
As for Tata Motors, its current high ROEs are largely because JLR’s
product development costs are currently not reflected in the P&L (Tata
Motors is capitalising the bulk of product development spends, unlike
Ford, which was expensing these costs when it owned JLR). We expect
Tata Motors’s ROEs to decline sharply in the next five years.
Leverage for the sector has increased on account of increase in
leverage at Tata Motors following the JLR acquisition. Tax rates have
come down for the sector as a whole as companies have set up
plants in areas with tax incentives, availed of higher tax benefits on
R&D spends, and JLR has a tax shield on account of accumulated
losses.
With the Indian market gaining critical size, a number of foreign
players have aggressive plans for the Indian market. As such, we
expect the industry’s margins to come under pressure (this is
already evident in the passenger-car space). Competition will also
dictate increasing investments in developing technologically superior
products to gain or maintain market share. The increased investment
requirements would bring ROEs under pressure in the medium term.
Two-wheeler manufacturers, Bajaj Auto and Hero Motocorp, have
historically generated high ROEs, and both have seen significant ROE
expansion in the last two years: Bajaj, because it has demerged its
financial-services business and other investments; and Hero
Motocorp, because its networth has reduced following a one-time
special dividend payout from reserves. Given the high cash balance,
as such the core ROEs of these companies are even higher. We
expect two-wheeler companies’ ROEs to decline from their FY11
highs, but they will nonetheless remain high.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
The Indian Auto sector has largely exhibited the characteristics of
the FMCG sector, with ROEs not only more stable, but also much
higher than those of most sectors and their global peers. These high
ROEs have been sustained by high asset turnover, high capacity
utilisation, falling tax rates, and a reasonably favourable business
cycle.
That said, the sector’s high ROEs owe much to two-wheeler
companies and Tata Motors. The two-wheeler business has limited
capital re-investment needs, a high level of outsourcing, and
demands relatively little by way of investment in product
development. Over the years, balance-sheets of two-wheeler
companies have also become leaner: Bajaj Auto has demerged the
auto business into a separate company, and Hero Motocorp has paid
large dividends in the last two years.
As for Tata Motors, its current high ROEs are largely because JLR’s
product development costs are currently not reflected in the P&L (Tata
Motors is capitalising the bulk of product development spends, unlike
Ford, which was expensing these costs when it owned JLR). We expect
Tata Motors’s ROEs to decline sharply in the next five years.
Leverage for the sector has increased on account of increase in
leverage at Tata Motors following the JLR acquisition. Tax rates have
come down for the sector as a whole as companies have set up
plants in areas with tax incentives, availed of higher tax benefits on
R&D spends, and JLR has a tax shield on account of accumulated
losses.
With the Indian market gaining critical size, a number of foreign
players have aggressive plans for the Indian market. As such, we
expect the industry’s margins to come under pressure (this is
already evident in the passenger-car space). Competition will also
dictate increasing investments in developing technologically superior
products to gain or maintain market share. The increased investment
requirements would bring ROEs under pressure in the medium term.
Two-wheeler manufacturers, Bajaj Auto and Hero Motocorp, have
historically generated high ROEs, and both have seen significant ROE
expansion in the last two years: Bajaj, because it has demerged its
financial-services business and other investments; and Hero
Motocorp, because its networth has reduced following a one-time
special dividend payout from reserves. Given the high cash balance,
as such the core ROEs of these companies are even higher. We
expect two-wheeler companies’ ROEs to decline from their FY11
highs, but they will nonetheless remain high.
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