Ashok Leyland Ride the buoyant domestic CV cycle:: Macquarie Research,

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Ashok Leyland
Ride the buoyant domestic CV cycle
Event
 Ashok Leyland reported 2Q FY3/11 results that were largely in line with our
estimates at the operating level. We increase our earnings estimates mainly
based on stronger-than-expected volume growth. We upgrade our rating to
Outperform from Neutral and increase our target price to Rs91 from Rs69.5,
as we believe that the company will continue to benefit from the recovery in
the domestic Commercial Vehicle (CV) cycle.
Impact
 2Q numbers in line at operating level: Ashok Leyland reported net sales of
Rs27.1bn, up 72% YoY. Operating profit of Rs3.1bn was in line with our
estimate. Reported PAT of Rs1.67bn for the quarter was ~9% below our
estimate, mainly due to lower other income and higher interest costs. The
operating margin for the quarter was 11.3%, up by more than 126bp QoQ,
supported by a 15% QoQ increase in volume.
 Volume guidance increased by ~10%: Management increased its FY11
volume target to 98k units from 90k units. Our interactions with leading CV
manufacturers and dealers give us confidence that domestic CV volumes will
grow by 22-24% in the current year and by ~15-20% in the next couple of
years, as we are still in the early part of the new CV cycle. With improvement
in demand in the key South India market and in multi-axles and the tractor
trailer segments, and with a recovery in exports, Ashok Leyland’s M&HCV
sales should rise to 96k units in the current fiscal year, in our view, and
should increase by 15% to over 110k units in FY12.
 Price hikes to support margins: Ashok Leyland has increased prices for
BSII compliant vehicles by ~7% so far in FY3/11 to combat rising raw material
prices. Prices for BS III compliant vehicles were increased by 3% to cover the
increased costs of meeting new emission norms. These price hikes should
support margins, and based on strong demand in freight generating sectors,
we believe that industry players will be able to increase prices in phases to
maintain margins.
Earnings and target price revision
 Increasing earnings estimates for FY11, FY12 and FY13 by 12%,16% and
22%, respectively. Target price increased to Rs91 from Rs69.5.
Price catalyst
 12-month price target: Rs91.00 based on an EV/EBITDA methodology.
 Catalyst: Monthly sales and an improvement in margins.
Action and recommendation
 Upgrade to Outperform: We remain positive on the commercial vehicle
space and believe the segment will see the best volume growth across auto
segments for the next couple of years, supported by increasing industrial
production, high agriculture output and a pick-up in the investment cycle. We
estimate a 19% earnings CAGR for the next three years and think that, at a
~13x FY12E PER and ~9x EV/EBITDA, the stock now appears to be
attractively valued.