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Key Takeaway
We initiate coverage of Ashok Leyland with a Buy rating and PT of Rs37.
We believe FY13E will mark the reversal of factors that have, so far, led to
AL’s underperformance in a resilient CV market. We see AL’s volume growth
reviving as demand in south improves. Production ramp-up at its tax-exempt
plant and operating leverage should aid margins. With the peak in capex/
investments behind us, we expect the strain on balance sheet to ease.
Volume revival in a steady market: Commercial vehicle demand has been surprisingly
resilient this year despite a considerable slowdown in the economy. Underlying indicators,
mainly related to the health of financiers’ CV loans, operator profitability and freight rates,
continue to be healthy. Therefore, we view this as a mid-cycle slowdown rather than the
beginning of a new down-cycle, and expect the industry to grow at high single-digit/low
double-digit rates in the medium term. Amid the general strength in the market, though,
Ashok Leyland's (AL) volumes have suffered largely on the back of weak demand in the
southern region and production issues at its Uttaranchal plant. We see a reversal in both
of these factors - demand in south seems to be bottoming out, while production rampup
at Uttaranchal should accelerate in the coming months. We expect AL’s MHCV volumes
to grow at 10% p.a. in FY12E-14E. Aided by mix improvement/pricing and growth in nonvehicle
businesses, we forecast revenue growth of 15% p.a. over FY12E-14E.
Profitability and cash flow to improve: Weak volumes and high commodity cost
pressures have impacted AL’s margins in FY12E (-c150bps YoY). Going forward, we expect
operating leverage as well as benefits from its tax-exempt plant to boost margins (c160bps
expansion over FY12E-14E). Balance sheet health, on the other hand, is also set to improve
as the company passes the peak in capex spends/JV investments. Lastly, we also forecast an
improvement in its working capital cycle, which in the past few quarters has deteriorated
on account of production mismatches and weak volumes.
Valuation/Risks
Our PT of Rs37 is based on an EV of 7.5x FY13E EBITDA (typical mid-cycle multiple). AL
currently trades at an EV of 6x FY13E EBITDA, below its historical average. With revenue
growth of 15% p.a. and EBITDA growth of 24% p.a. over FY12E-14E, we see significant
potential upside to current valuations. Moreover, we observe a strong correlation between
AL’s P/B multiples and return trends. Given our expectation of improving returns (25% in
FY14E vs 17% in FY12E), we expect the stock to re-rate going forward. Risks a) a sharp
decline in the CV industry and b) intense competition from new players
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Key Takeaway
We initiate coverage of Ashok Leyland with a Buy rating and PT of Rs37.
We believe FY13E will mark the reversal of factors that have, so far, led to
AL’s underperformance in a resilient CV market. We see AL’s volume growth
reviving as demand in south improves. Production ramp-up at its tax-exempt
plant and operating leverage should aid margins. With the peak in capex/
investments behind us, we expect the strain on balance sheet to ease.
Volume revival in a steady market: Commercial vehicle demand has been surprisingly
resilient this year despite a considerable slowdown in the economy. Underlying indicators,
mainly related to the health of financiers’ CV loans, operator profitability and freight rates,
continue to be healthy. Therefore, we view this as a mid-cycle slowdown rather than the
beginning of a new down-cycle, and expect the industry to grow at high single-digit/low
double-digit rates in the medium term. Amid the general strength in the market, though,
Ashok Leyland's (AL) volumes have suffered largely on the back of weak demand in the
southern region and production issues at its Uttaranchal plant. We see a reversal in both
of these factors - demand in south seems to be bottoming out, while production rampup
at Uttaranchal should accelerate in the coming months. We expect AL’s MHCV volumes
to grow at 10% p.a. in FY12E-14E. Aided by mix improvement/pricing and growth in nonvehicle
businesses, we forecast revenue growth of 15% p.a. over FY12E-14E.
Profitability and cash flow to improve: Weak volumes and high commodity cost
pressures have impacted AL’s margins in FY12E (-c150bps YoY). Going forward, we expect
operating leverage as well as benefits from its tax-exempt plant to boost margins (c160bps
expansion over FY12E-14E). Balance sheet health, on the other hand, is also set to improve
as the company passes the peak in capex spends/JV investments. Lastly, we also forecast an
improvement in its working capital cycle, which in the past few quarters has deteriorated
on account of production mismatches and weak volumes.
Valuation/Risks
Our PT of Rs37 is based on an EV of 7.5x FY13E EBITDA (typical mid-cycle multiple). AL
currently trades at an EV of 6x FY13E EBITDA, below its historical average. With revenue
growth of 15% p.a. and EBITDA growth of 24% p.a. over FY12E-14E, we see significant
potential upside to current valuations. Moreover, we observe a strong correlation between
AL’s P/B multiples and return trends. Given our expectation of improving returns (25% in
FY14E vs 17% in FY12E), we expect the stock to re-rate going forward. Risks a) a sharp
decline in the CV industry and b) intense competition from new players
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