Two Wheeler Industry Update

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    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    TWO-WHEELER INDUSTRY

    High on Profitability; Low on Volumes

    S E C

    T O R

    R E P O

    R T

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    Contents

    Industry Overview .......................................................................... 3

    Companies

    Hero Honda Motors .......................................................................... 1 4

    Bajaj Auto .......................................................................... 1 9

    TVS Motor .......................................................................... 2 5

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    TWO WHEELER INDUSTRY

    Vineet [email protected]: +91-22-6618 6388

    Nikhil [email protected]: +91-22-6618 6339

    IntroductionIndian 2-wheelers industry after showing impressiveperformance over 1992-2007 is facing a tough environmentfor the last two years. We believe that this phase istemporary and 2-wheelers will again move into growthphase. Given their operational efficiency, ease inmaneuvering city traffic and low cost of ownership, 2-wheelers continue to be the preferred mode for dailycommuting. We expect domestic 2-wheelers market tostabilise by FY17 with penetration levels of 135 vehiclesper thousand population. We expect entry of low costcars to have some impact on 2-wheelers demand

    especially in scooters segments. Base correction over the last two years: Over the last two

    years, the 2-wheelers industry has seen a base correctionespecially in the entry level segment. This should provide aplatform for the sustainable growth in future.

    Low dependence on financing: During FY02-07,increasing penetration of financing led to strong growth for theindustry. However with high default rates, financing flow hasbeen restricted over the last two years. This augurs well for theindustry and now onwards, we can expect growth in the industry

    on its own merits rather than finance stimulation. Return of financing will provide upside to our volume estimates for theindustry.

    Global financial crisis to impact exports : 2-wheelersexports from India are expected to be adversely impacted byglobal financial crisis. We forecast exports growth to slowdownto single digits in FY10 & post that we expect a growth of 15%.

    Rationality in players behaviour: Over the past one year,we have observed rationality in players behaviour, which has

    led to profitability improvement despite increase in raw materialcost. We expect that this trend to continue and players willrefrain from indulging in price war.

    Sector Summary

    20 March 2009

    Sector View - Neutral

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    2-Wheelers Industry Growth

    2-Wheelers Penetration

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    I N D U S T R Y

    O V E R V I E W

    Hero Honda Motors 991 198 125,998 133,117 73.6 80.1 13.5 12.4 957 (3.4)

    Bajaj Auto 563 82 89,472 96,187 66.9 74.5 8.4 7.6 669 18.8

    TVS Motor 20 5 39,689 43,053 2.1 3.2 9.8 6.4 16 (20.0)

    KEY FINANCIALS

    Company CMP Mkt Cap Net sales (Rs mn) EPS (Rs) P/E (x) TP Potential

    (Rs) (Rs bn) FY10E FY11E FY10E FY11E FY10E FY11E (Rs) upside (%)

    PINC Research reports are also available on Reuters, Thomson Publishers and Bloomberg PINV

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    INDUSTRY OVERVIEW

    Indian domestic 2-wheelerswill have a CAGR of 8% over FY09-17...

    2-wheelers remain the preferred vehicle for daily commuting...

    [email protected]

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    Indian 2-wheelers industry not at saturation levels

    In India, 2-wheelers remain a major mainstay for the daily commuting. Given the shortageof public transportation system in major cities and towns, there are no cost-effective solutionsto the daily commuting. Hence 2-wheelers remain the preferred vehicle for the purpose. In

    rural areas also, they remain one of the major mode of conveyance to nearby urban areas.2-wheelers retain their edge over other mode of transport due to multiple reasons, such as:

    Lower price tag of Rs 35k-50k

    Low operating cost due to better fuel efficiency

    Flexibility in maneuvering the congestion in city traffic

    Currently, 2-wheelers penetration in India is at 90 vehicles per 1000 population. We expectthis to reach a saturation stage by 2017 wherein penetration levels will reach 135 vehiclesper thousand population. To reach these levels of penetration, Indian domestic 2-wheelerswill have a CAGR of 8% over FY09-17. Post that, we expect demand growth to decline to4%.

    Rural India - a major demand driver

    Lower penetration levels in rural areas is another opportunity for the domestic markets andthis has been one of the major reasons for stability in domestic 2-wheeler sales despitegloomy economic scenario. During the current year, rural areas have been the major demanddriver for the industry and we expect this trend to continue due to following:

    Lower penetration

    Trickle down impact of various rural focused schemes of the government (BharatNirman, National Rural Employment Guarantee Schemes etc.)

    Growth in agriculture and related activities

    International 2-Wheeler Penetration (In Nos)

    Source: Crisil, PINC Research

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    Domestic 2-Wheeler Penetration (%)FY09 FY10 FY11 FY12 FY13 FY14 FY15 FY16 FY17

    Penetration % 9.0 10.0 10.4 10.8 11.3 11.8 12.3 12.9 13.5

    Source: PINC Research

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    A significant correction in raw material prices will improve

    profitability of thecompanies...

    Two continuous years of decline will lead to basecorrection for the industry...

    Base correction

    Over FY04-07, Indian 2-wheelers industry especially motorcycles reported an impressiveperformance. The major reason was decline in interest rates and easy availability of financing.To reap the benefits, manufacturers devised aggressive schemes like zero down payment,

    relaxation in loan eligibility norms, relaxation in due diligence procedures etc. This led tohigher growth in the industry and also led to preponement of buying by the customers.However, this took a nasty turn with reversal in interest rates leading to increase in defaultson 2-wheelers loans. Recovery process in 2-wheelers is costly due to small ticket sizeand the problem was aggravated as financiers have not adhered to due diligence process.This forced many financiers to either exit or reduce their exposure in the segment.

    FY07 was the peak for the industry with domestic sales volumes of 7.8 mn units. Post thatit declined by 8% in FY08 and is expected to remain flat during FY09. Two continuousyears of decline will lead to base correction for the industry.

    Low dependence on financing

    Over the last two years, dependence of 2-wheeler industry on financing has come downsignificantly. Financing of 2-wheelers peaked at 65% during FY07 and since then therehas been a contraction in it owing to high default levels. During the current year, 35% of the2-wheelers sold in the domestic markets were financed. Loan to value ratio has also declinedfrom a high of 80% in FY07, it has come down to 65% in FY09. This low dependence onfinancing augurs well for the industry and now the industry can grow on its own meritsrather than finance stimulation.

    Rationality in player behaviour

    Over the last few years, there has been intense price based competition in the motorcyclesegment. This was particularly severe in the entry level segment. In their pursuit of marketshare, manufactures resorted to price cuts and discount schemes which had an adverseimpact on the profitability of the companies. In recent times, there has been a balance inthe behavior of major players and this has started to have a positive impact on profitabilitydespite lower volumes. We believe that this trend will continue and thus provide stability tothe industry.

    Improvement in profitability outlook

    Over the last six months, there has been a significant correction in the raw material pricesand we expect that manufacturers will retain these benefits leading to improvement inprofitability of the companies.

    High returns on investment business

    2-wheelers business remains a high return on investment business especially for HH andBJAUT. 2-wheeler manufacturers have shifted a major part of their capital burden to their vendors and this has led to high RoI for the manufacturers. Due to this, these companieshave created an entry barrier for the new players.

    R&D Capabilities

    Japanese technology is prevalent in the Indian 2-wheelers industry. HH is dependent ontheir joint venture partner Honda Motor Company, Japan for the technology input. Other Indian players - BJAUT and TVSL have developed their own R&D capabilities with supportfrom Japanese companies.

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    [email protected]

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    Advent of Japanesemanufacturers led to a shift towards motorcycles...

    We expect FY10 exportsgrowth to be in low singledigit...

    [email protected]

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    2-wheelers business - cash cow for large manufacturers

    For big players like HH & BJAUT, 2-wheelers business is a cash cow & these two companieshas over the years made a big war chest to take on the competition. Availability of thesurplus fund is helping the companies in tackling the market dynamics. In recent times,

    these companies extended temporary credit lines to their vendors when liquidity in thefinancial system was acute. This is giving the companies a control over their vendor base.

    Impressive performance in tapping the global markets

    Indian 2-wheelers industry has shown impressive performance in the exports market. Themajor export destinations for Indian 2-wheelers are South East Asia, South Asia, Africaand Latin America. Our outlook on exports is cautious in the near term due to globalfinancial crisis. We expect that FY10 exports growth will be in low single digits. Post thatwe expect a recovery in the exports market leading to 15% growth in FY11.

    India 2-wheelers industry structure

    Indian 2-wheelers industry was a scooters market till 1990s. However advent of Japanesemanufacturers led to a shift towards motorcycles.

    2-Wheeler Industry Exports

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    Source: SIAM

    Indian 2-Wheeler Industry Structure

    Source: SIAM

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    By FY07 motorcyclesincreased their dominance to80%...

    [email protected]

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    The major reason for the success of Japanese manufacturers was the fuel efficiency andstyling as compared to rustic looks for scooters. Hero Honda's campaign "Fill it, Shut it,Forget it" captures this theme. In 1993, scooters were almost 50% of 2-wheelers sales inIndia while motorcycles contribution was 25%. By 2007, scooters share in domestic 2-wheelers industry settled at 15% while motorcycles increased their dominance to 80%.

    Indian motorcycle industry

    Indian motorcycle industry is divided into three segments:

    Entry level

    Executive

    Premium

    In the initial phase, the market was predominantly in the executive segment. Later onBJAUT developed the premium segment with their Pulsar range of vehicles. At the sametime, BJAUT and TVSL started to focus on entry level segment. This segmentation becamemuch more visible during FY02-07. With lower price points, BJAUT and TVSL stimulatedthe market and this led to market expansion for the motorcycles. Easy financing acceleratedin this process.

    2-Wheeler Segment-wise Growth Rates (%)

    Source: SIAM

    Entry Executive Premium

    Indicative Price < Rs 40,000 Rs 40,000-55,000 > Rs 55,000

    Major products BJAUT CT 100, Platina BJAUT - XCD, Discover BJAUT Pulsar HH - CD Dawn HH - Splendor, Passion HH Hunk, CBZ

    TVSL Star TVSL Flame TVSL - Apache

    HMSI - Shine HMSI - Unicorn

    Composition (FY08) 33% (1.9 mn units) 54% (3.1 mn units) 13% (0.8 mn units)

    Profitability Wafer thin Good Good

    Typical Buyer Bargain hunter Cost of ownership Performance, Style

    USP Discounts, Price cut Reliability Novelty

    Source: PINC Research

    Motorcycle Industry Segments

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    Easy availability of financing & aggressive pricing led tostrong growth of the entry level segment...

    [email protected]

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    Entry Level Segment

    This segment was the major reason behind the growth in the domestic motorcycle market.TVSL was the first one to penetrate this segment with their 'Max' range; however thismarket was stimulated by BJAUT with ' Boxer' . This segment was then strengthened by'Platina' . Easy availability of financing and aggressive pricing led to strong growth of thissegment till FY07. High defaults in the loan repayment led to exit of many financiers fromthe segment in 1HFY08 leading to demand contraction. Even for the manufacturers thissegment started to become a problem with wafer thin margins. To overcome this, BJAUTstarted to increasingly focus on development of >100 cc segment.

    Pulling out of major financiers and inventory correction in the system led to 24% contractionin the primary sales of entry level segment products. This trend has continued during thecurrent year with further decline of 17% till January 2009. We estimate this trend to continue

    till 1HFY10 and post that we expect recovery to happen in this segment due to basecorrection.

    Motorcycle Industry Segmentwise Product-mix

    Source: CRIS Infac, PINC Research

    Motorcycle Marketshare - Economy Segment (%)

    Source: CRIS Infac

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    Premium segment is the performance segment &customers pay a premium for

    the novelty...

    Executive segment is thelargest motorcycle segment & is a stronghold of HH ...

    [email protected]

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    Executive Segment

    Executive segment is the largest motorcycle segment and this is the stronghold of marketleader HH. Competitors have tried to challenge HH in this segment, however all suchchallenges have fizzled out over time. With higher growth in economy segment, the

    contribution of this segment had come below 50% in FY06. However over the last threeyears, it has made a strong come back and now accounts for almost 60% of the motorcycleshare.

    Premium Segment

    This segment was creation of HH with 'CBZ'; however major boost to the segment wasgiven by BJAUT through 'Pulsar' which has dominated the segment. HH has remained amarginal player in this segment and one of the reasons for this is presence of HMSI in thissegment. This segment remains a small segment in the Indian market with contribution of around 14% to the motorcycle industry. This is the performance segment and customerspay a premium for the novelty. Hence constant upgradation in the product is a requisite for success in this segment.

    Motorcycle Marketshare - Executive Segment (%)

    Source: CRIS Infac

    Motorcycle Marketshare - Premium Segment (%)

    Source: CRIS Infac

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    Over the last 5 years thescooter segment has made arecovery & emerging as aniche segment...

    [email protected]

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    Scooters

    Advent of fuel efficient motorcycles in the Indian 2-wheelers industry led to decline of Scooters. However, over the last five years, it has made a recovery and is emerging as aniche segment targeted towards women commuters. One of the reasons for this is the

    increasing need of mobility for the women commuters especially in the urban areas is dueto higher number of college going girls and greater participation of women in urban workforce.

    The product itself has gone for a complete revamp and now this category mainly consistsof gearless products. This segment is now dominated by Japanese manufacturers withHMSI having the leadership. HH, which is a late entrant in this segment, has also cornereda sizeable marketshare in the scooter segment. Another development in this segment isthe launch of battery operated scooters. However, given the high replacement cost for thebatteries, this has remained a marginal segment.

    Scooter Volumes

    Source: SIAM

    600,000

    800,000

    1,000,000

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    40.0Scooters Growth %

    Scooter Marketshare (%)

    Source: SIAM

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    Mopeds remains a marginal category with just one player in the segment...

    [email protected]

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    Moped Volumes

    Source: SIAM

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    40.0Mopeds Growth %

    Mopeds

    Over the last 15 years, mopeds contribution in overall 2-wheelers has declined significantlyand now it remains a marginal category with just one manufacturer for the product. Itscontribution in the 2-wheelers industry now stands at 5% and we expect that this segment

    will continue to be marginalised. The only player in this segment is TVS Motor.

    Indian 3-Wheeler Market

    Passenger Carriers

    The Indian 3-wheelers passenger market predominantly consisted of passenger vehiclescomprising of 80% of all 3-wheelers sold in FY02. BJAUT was the dominant player holding~85% of the marketshare in passenger carriers segment. The passenger carriers are

    regulated in major towns and cities and require licenses issued by local state governments.Over the last few years, 3-wheelers have become dependent on replacement demand asstate governments have not released many new permits. This has led to subdued CAGR of 6% for the industry over FY02-08. In FY09, passenger 3-wheelers have shown a growthamidst decline in almost all automobile segments. However we expect growth in thesegment to taper-off to a low single digit growth.

    Overall 3-Wheeler Industry Volumes (000)

    Source: SIAM

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    Passenger 3W Goods 3W % Gr (YoY)

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    3-Wheeler goods carriers are primarily used for the Last-mile transportation in thesupply chain...

    [email protected]

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    3-Wheeler Passenger Segment Marketshare

    Source: SIAM

    In FY02, BJAUT held 85% marketshare. However during FY02-08, while the marketexpanded at a CAGR of 6%, the company witnessed its volumes shrink from 137,000units in FY02 to 127,000 units in FY08 resulting in a reduced marketshare of ~55%. Theincreased competition from Piaggio was the primary reason for this downfall. Piaggioincreased its volumes to 90,000 units in the same time frame with an impressive CAGR of 37% thus garnering ~39% marketshare. The Piaggio product being more robust comparedto a BJAUT product, could endure overloading. Further, due to diesel engine, it had lower operating cost making it a hit in semi-urban areas for mass transportation. These are themarkets which at present are unregulated and don't require permits. In FY08, TVSM launchedits passenger 3-wheeler in South India and is scheduled for country wide roll out in FY10.

    Goods Carriers

    3-Wheeler goods carriers are primarily used for the 'Last-mile' transportation in the supplychain. Compared to passenger vehicles, goods carriers have shown a far better performancehowever the same has tapered off since FY06. During the FY02-06 period 3-wheeler goodscarriers grew at a CAGR of 38% albeit on a smaller base. In FY06, Tata Motors (TTMT)launched the sub 1-tonne 4-wheeled Tata ACE which revolutionized the SCV (Smallcommercial vehicle) space. Although, double the cost of the traditional 3-wheeler, the ACEfound acceptance due to the flexibility it offered as well as overloading capacity. Additionally

    3-Wheeler Goods Segment Marketshare

    Source: SIAM

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    3-Wheeler Goods Segment vs LCVs

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    STOCK DATA

    RELATIVE PERFORMANCE

    Market Cap Rs 198 bn.Book Value per share Rs 150Eq Shares O/S (F.V. Rs.2) 199.7 mn.Free Float 45.0%Avg. Traded Value (6 mths) Rs 492 mn52 Week High/Low Rs 1014/630Bloomberg Code HH INReuters Code HROH.BO

    HERO HONDA MOTORS

    Over the last one year, HH has made a strong come back in the Indian2-wheelers market with growth despite a tough environment. Thishas been accompanied with profitability improvement. However, we

    believe that current valuation fairly captures the impressiveperformance of the company.

    Improved marketshare

    An emphasis on rural markets has aided HH to post an impressive volumegrowth in FY09YTD. While domestic motorcycle industry volumes haveremained flat during the current year, HH has managed to post a growth of 11.1% thus expanding marketshare by 540bps to 59%.

    Better margins

    Despite a steep hike in raw material prices, HH has managed to keep acheck on margin erosion through a judicious mix of pricing action and costcontrol. Going forward we expect the companys profitability to improve dueto lower RM costs and higher production from its Haridwar plant which enjoysfiscal incentives.

    No financial leverage

    HH remains a debt free company & continues to operate on negative workingcapital. It has funded the Rs4.2bn initial expansion at Haridwar entirely throughinternal accruals. With the 2-wheelers business continuing to be a cashcow, we see further increase in the cash reserves of the company.

    RISKSFor HH, its joint venture agreement is the major risk. The current agreement

    is valid till 2014. Due to JV, HH has restrictions in approaching the globalmarkets. Further the company remains dependent on the JV partner HondaMotor Company (HMC) for the technology input.

    Increasing aspiration of HMC through its 100% subsidiary HMSI is apotential risk for the company & can restrict its ability to launch new products.

    VALUATION At the CMP of Rs991, HH trades at a P/E of 13.5x FY10E earnings. Webelieve that current valuations are fair considering the growth and risks for the company. We maintain our HOLD recommendation on the stock with arevised price target of Rs957 discounting FY10E earnings 13x.

    PERFORMANCE (%)

    1M 3M 12MAbsolute 6.8 24.3 45.4Relative 10.3 31.9 84.8

    20 March 2009

    Vineet Hetamasaria

    [email protected]

    +91-22-6618 6388

    Nikhil Deshpande

    [email protected]

    +91-22-6618 6339

    Update

    Maintain HOLD

    CMP : Rs991 TP : Rs957

    TOP SHAREHOLDERS

    Name % holding

    LIC India 3.9

    Aberdeen Asset Managers Ltd. 3.7

    Lazard Asset Management LLC 1.1

    BSE Sensex : 9,002

    KEY FINANCIALS (STANDALONE) Rs mn

    KEY RATIOS

    FY07 FY08 FY09E FY10E FY11E

    Net Sales 99,000 103,318 120,437 125,998 133,117

    YoY Gr. (%) 13.6 4.4 16.6 4.6 5.6

    Op. Profits 11,875 13,537 16,799 19,064 20,294

    Op. Marg. (%) 12.0 13.1 13.9 15.1 15.2

    Adjusted Net Profit 8,579 9,667 12,558 14,696 15,997

    YoY Gr. (%) (11.7) 12.7 29.9 17.0 8.9

    Dil. EPS (Rs) 43.0 48.4 62.9 73.6 80.1

    ROCE (%) 49.1 46.9 48.2 43.8 37.8

    RoE (%) 38.3 35.4 37.1 34.4 30.1

    PER (x) 23.1 20.5 15.8 13.5 12.4

    EV/Net sales (x) 1.8 1.7 1.4 1.2 1.1

    EV/EBDITA (x) 15.1 12.7 9.8 8.1 7.1

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    200

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    800

    1000

    Mar-08 Jun-08 Sep-08 Dec-08 Mar-09

    HH BSE (Rebased)

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    Product Portfolio

    The company's offering are largely concentrated on the executive segment wherein itslargest selling models Splendor and Passion have consistently commanded upwards of 65% marketshare. Splendor , launched more than a decade ago, along with its variants is

    the single largest selling model in the world. Even after increased competition in the segmentfrom the likes of Bajaj XCD , TVS Flame and Honda CBF Stunner , HH has maintained itsleadership position due to a strong brand recall and good resale value.

    In the economy segment, HH commands ~27% marketshare trailing segment leader BJAUT(~50% marketshare). This segment is highly price sensitive and the manufacturers operateon wafer thin margins.

    In the premium segment too, with a ~20% marketshare HH is second only to BAL whichenjoys 50% marketshare. The company's products in this segment have failed to make asustained impact in this segment.

    HH is a late entrant in the gearless scooter space and launched it's only offering 100ccPleasure in FY06. It commands a ~15% marketshare while competing with the Activa &Dio from the HMSI stable.

    Capex Plans

    HH commenced operations at its third plant at Haridwar in Apr'08 with an initial capacityof 0.5mn units and an investment of ~Rs4.2bn in the green-field facility. This has taken thecurrent capacity for the company to 4.4mn units which will stand at 5.4mn units after additional capacity creation of 1mn units at the Haridwar facility. The Haridwar facility iseligible for excise duty exemption & sales tax concession for 10 years. Additionally, profitsfrom this plant gets an exemption from income tax to the extent of 100% for the first 5years & 30% for the next 5 years.

    Investment Rationale

    Improved marketshare

    As volumes from urban areas have slumped, a renewed emphasis on rural markets hasaided HH to post positive growth in 9MFY09. While domestic 2-wheelers market remainedflat during the current year, HH has managed to post a growth of 10.7% leading to expansionin its domestic motorcycle marketshare by 450bps to 59%.

    HH commenced Haridwar plant operations in Apr08..

    HH has maintained itsleadership position due to astrong brand recall & good

    resale value...

    [email protected]

    Hero Honda MotorsRESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    HH Domestic Motorcycle Product-mix

    Source: CRIS Infac

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    HHs dependence on retail financing is only 20% ascompared to industry dependence of 35%...

    A judicious mix of pricing action & cost control resulted in stable margins for HH...

    [email protected]

    Hero Honda MotorsRESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    Stable Margins

    Despite a steep hike in raw material prices, HH has managed to keep a check on marginerosion through a judicious mix of pricing action and cost control. Further, eliminating thecash incentives & discounts to customers as well as negotiations with vendors has also

    helped maintain margins. In Q3FY09, HH managed to improve margins by 30bps to 14.5%as a result of a 50bps drop in raw material cost as percentage of sales to 70.2%. WithHaridwar plant increasing its production levels, HH will be able to increase its marginsfurther. The recent cut in the excise duty rates is beneficial for the Haridwar plant, as mostof the raw materials are supplied from Haryana and the excise duty paid on these rawmaterials are not eligible for Cenvat credit. Hence reduction in excise duty rates hashelped the company in further reducing its raw material cost at Haridwar plant.

    Lower dependence on financing

    As compared to peers BJAUT & TVSL, HH has a higher percentage of cash purchases.Interest rates scaling upwards in H1FY09 and leading financers hesitant to lend to thesegment on account of higher delinquencies translated into loss of sales. However HHwith higher proportion of cash purchases was able to improve marketshare. Currently HHdependence on the financing is only 20% as compared to industry finance dependency of 35%.

    Benefits from Haridwar plant

    HH commissioned its second manufacturing unit at Haridwar in Apr'08 with an initial capacityof 0.5mn units. The company has shifted production of its high volume motorcycles Splendor

    & Passion to this location. At present, excise duty benefits from this plant are restrictedas a large number of vendors of the company has not set up their operations in Uttrakhand.To maximise the excise duty benefits local sourcing of raw materials is compulsory. HH istargeting 100% localisation by end FY10. However, we believe that there may be further delay on this given the financial crisis being faced by the major vendors.

    No financial leverage

    HH remains a debt free company. The company continues to operate on negative workingcapital. It has funded the Rs4.2bn initial expansion at Haridwar entirely through internalaccruals. With the 2-wheelers business continuing to be a cash cow, we see further increase in the cash reserves of the company.

    HHs Profitability Trend (%)

    Source: Company

    6.0

    9.0

    12.0

    15.0

    18.0

    Q3FY07 Q4FY07 Q1FY08 Q2FY08 Q3FY08 Q4FY08 Q1FY09 Q2FY09 Q3FY09

    OPM (%) NPM (%)

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    We expect HHs earnings tohave a CAGR of 12.9% over FY09-11...

    HH is entirely dependent ondomestic markets to drivevolume growth...

    [email protected]

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    Risks

    Aging product portfolio

    The mainstays of HHs product portfolio i.e. Splendor &Passion have been launched morethan a decade ago. Although these products have a strong brand image and excellentproduct recall, HH has been unsuccessful in moving beyond these two products. At thesame time, till date except for TVS Victor , there has not been any major challenge to HHsdominance in the executive segment. However, HMSIs planned foray in the executivesegment in CY09 could be one serious challenge to HH.

    Negligible exports

    HH export business is constrained by the joint venture agreement with Honda Motor Company, Japan (HMC) and the companys exports are limited to countries having nodirect competition from HMC. In FY08, HH exported just 90k units representing 3% of itsoverall volumes and in FY09YTD the company has exported 75k units i.e. 2% of overallsales. Thus HH is entirely dependent on domestic markets to drive volume growth.

    Dependence on JV partner

    Unlike BJAUT & TVSL, HH does not have an active R&D for developing newer technology.The company is entirely dependent on its JV partner HMC for providing new technology.HMC over the last ten years has developed their wholly owned subsidiary Honda Motorcycles& Scooters India (HMSI). In this time, they have developed their sales and distributionnetwork and got the flavor of the local market. Currently, HMSI is the market leader in thescooters segment. Beside that they have motorcycles in the premium segment. However,at present they are not competing against HH in the executive segment of motorcycles.This is going to change in CY09 with the launch of 100cc motorcycle from HMSI. Going

    forward, we may see rift in the partner relationship impacting the flow of technology to HH.Outlook

    We expect volumes for HH to grow by 4% during FY10 and 5% in FY11. The company willbe able to improve its profitability due to lower raw material costs and higher productionfrom its Haridwar plant which enjoys fiscal incentives. The profits will get further boost dueto reduction in corporate tax rates. We estimate that average tax rate will reduce to 25%in FY10 and 23% in FY11 from the current levels of 28%. Over FY09-11E, we expectearnings to have a CAGR of 12.9%.

    Valuations

    Over the last one year, the stock of HH has outperformed the market due to volume growthachieved by the company in a tough environment. At the current price, the stock of thecompany is trading at 13.5x FY10E earning and 12.4x FY11E earnings. We believe thatthe current price fairly captures the future growth potential of the company. We maintainour HOLD rating on the stock with target price of Rs957 discounting FY10E earnings 13x.

    Hero Honda Motors

  • 8/6/2019 Two Wheeler Industry Update

    18/[email protected]

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    Income Statement FY07 FY08 FY09E FY10E FY11E

    Year Ended March (Figures in Rs mn)

    Balance Sheet FY07 FY08 FY09E FY10E FY11E

    Equity Share Capital 399 399 399 399 399

    Reserves & surplus 24,301 29,463 37,348 47,371 58,229

    Shareholders' funds 2 4, 70 1 2 9,8 62 3 7, 74 7 4 7, 77 1 5 8, 62 8

    Minorities interests - - - - -

    Total Debt 1,652 1,320 785 185 -

    Capital Employed 2 6,35 2 31 ,1 82 3 8,53 2 47 ,956 5 8,6 28Net fixed assets 13,555 15,648 14,585 14,906 14,935

    Cash & Cash Eq. 20,062 26,885 33,637 43,330 54,737

    Net other Current Assets (6,017) (10,191) (8,380) (8,821) (9,433)

    Investments 35 94 94 94 94

    Net Deferred Tax Assets (1,282) (1,254) (1,404) (1,554) (1,705)

    Total assets 26,352 31,182 38,532 47,956 58,628

    Cash Flow Statement FY07 FY08 FY09E FY10E FY11E

    Profit before tax 12,461 14,091 17,441 19,595 20,776

    Depreciation 1,125 1,474 1,858 2,209 2,501

    Total tax paid (3,802) (4,420) (4,762) (4,749) (4,627)

    Chg in working capital (2,390) 3,675 (2,015) 441 144

    Other operating activities - - - - -

    Cash flow from oper. (a) 7 ,3 94 1 4, 82 0 1 2, 52 1 1 7, 49 6 1 8, 79 4

    Capital expenditure (4,744) (3,567) (795) (2,530) (2,530)

    Chg in investments - (59) - - -

    Other investing activities - - - - -

    Cash flow from inv. (b) ( 4, 74 4) ( 3, 62 7) ( 79 5) ( 2, 53 0) ( 2, 53 0)

    Free cash flow (a+b) 2,650 11,193 11,726 14,966 16,264

    Equity raised/(repaid) - - - - -

    Debt raised/(repaid) (206) (332) (535) (600) (185)

    Chg in Minorities int. - - - - -

    Dividend (incl. tax) (4,554) (3,972) (4,439) (4,673) (4,672)Other financing activities - (67) - - -

    Cash f low f rom f in. ( c) (4,760) (4,370) (4,974) (5,273) (4,857)

    Net chg in cash (a+b+c) ( 2, 11 0) 6 ,8 23 6 ,7 52 9 ,6 93 11, 40 7

    Net sales 99,000 1 03,318 1 20,437 1 25,998 1 33,117

    Growth (%) 13.6 4.4 16.6 4.6 5.6

    Operating profit 1 1,87 5 13 ,5 37 1 6,79 9 19 ,064 2 0,2 94

    Other operating income - - - - -

    EBITDA 11,875 13,537 16,799 19,064 20,294

    Growth (%) (13.0) 14.0 24.1 13.5 6.5

    Depreciation (1,398) (1,615) (1,858) (2,209) (2,501)

    Other income 2,000 2,189 2,528 2,770 3,003

    EBIT 12,477 14,111 17,469 19,625 20,796

    Interest paid (16) (20) (28) (30) (20)

    PBT (before E/o items) 1 2, 46 1 1 4, 09 1 1 7, 44 1 1 9, 59 5 2 0, 77 6

    Tax provision (3,882) (4,424) (4,884) (4,899) (4,778)

    E/o Income / (loss) - - - - -

    Net profit 8,579 9,667 12,558 14,696 15,997

    Adjusted net profit 8,579 9,667 1 2,55 8 14 ,696 1 5,9 97Growth (%) (11.7) 12.7 29.9 17.0 8.9

    Diluted EPS (Rs) 43.0 48.4 62.9 73.6 80.1

    Diluted EPS Growth (%) (11.7) 12.7 29.9 17.0 8.9

    Key Ratios FY07 FY08 FY09E FY10E FY11E

    OPM (%) 12.0 13.1 13.9 15.1 15.2

    Net margin (%) 8.7 9.4 10.4 11.7 12.0

    Dividend yield (%) 1.7 1.9 2.0 2.0 2.2

    Net debt/Equity (x) (0.7) (0.9) (0.9) (0.9) (0.9)

    Net Working Capital (days) (1) (9) (8) (8) (8)

    Asset turnover (x) 2.4 2.2 2.2 1.9 1.7ROCE (%) 49.1 46.9 48.2 43.8 37.8

    RoE (%) 38.3 35.4 37.1 34.4 30.1

    EV/Net sales (x) 1.8 1.7 1.4 1.2 1.1

    EV/EBITDA (x) 15.1 12.7 9.8 8.1 7.1

    PER (x) 23.1 20.5 15.8 13.5 12.4

    Price/Book (x) 8.0 6.6 5.2 4.1 3.4

    P/E Band EV/EBIDTA

    Hero Honda Motors

    4X

    -

    50,000

    100,000

    150,000

    200,000

    Mar-05 Mar-06 Mar-07 Mar-08 Mar-09

    6X

    8X

    10X

    12X

    0

    300

    600

    900

    1200

    Mar-05 Mar-06 Mar-07 Mar-08 Mar-09

    10X

    12X14X

    16X18X

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    STOCK DATA

    RELATIVE PERFORMANCE

    Market Cap Rs81.5bn.Book Value per share Rs110Eq Shares O/S (F.V. Rs.10) 144.7 mn.Free Float 49.7%Avg. Traded Value (6 mths) Rs 91 mn52 Week High/Low Rs 945/262Bloomberg Code BJAUT INReuters Code BAJA.BO

    BAJAJ AUTO

    Over the last two years, BJAUT has disappointed the market withdeclining volumes. However despite lower volumes, we seeprofitability of the company to improve from the current levels.

    Improved product-mix

    While BJAUT has witnessed volume contraction across all motorcyclesegments, the decline was more prominent is the low margin entry levelsegment leading to a overall improvement in the product mix. The focus of the company is increasingly towards 125cc+ with a focus on profitabilityrather than market share.

    Margin expansion led by rupee depreciation

    Despite depreciation of Indian currency during FY09, BJAUT was unable tobenefit from it due to forward contracts. However with old contracts gettingsettled and ~ 30% depreciation in rupee over last one year, we see significantimprovement in export realisations leading to margins expansion.

    New product launches

    BJAUT has been at the forefront of 2-wheeler R&D in India. The company willbe launching 6 models this year to regain marketshare & boost sales. Alsoexpected is a launch of 4-wheeler product in the cargo segment, which hashuge potential in the Indian markets due to emerging hub and spoke modelfor transportation of goods.

    RISKS

    The steep decline in domestic volumes of the company over the last four months raises a concern regarding its ability to safeguard its marketshare.

    Exports which were showing an impressive performance over the last five

    years has been adversely impacted by global economic crisis. We expectexports to show marginal growth in FY10.

    VALUATION

    At the CMP of Rs563, the stock of the BJAUT trades at 8.4x FY10E adjusted earnings. This is a discount of 61% over market leader HH. Given the earningsgrowth and balance sheet strength of the company, we see this steep discount unjustified. We upgrade our recommendation on the stock to BUY with atarget price of Rs669 discounting FY10E earnings 10x.

    PERFORMANCE (%)

    1M 3M 12MAbsolute 23.9 46.1 NARelative 27.4 53.7 NA

    20 March 2009

    Vineet Hetamasaria

    [email protected]

    +91-22-6618 6388

    Nikhil Deshpande

    [email protected]

    +91-22-6618 6339

    Update

    Upgrade to BUY

    CMP : Rs563 TP : Rs669

    TOP 5 SHAREHOLDERS

    Name % holding

    LIC India 5.2

    Jaya Hind Investments Pvt. Ltd. 3.3

    Maharashtra Scooters Ltd. 2.3

    T Rowe Price International Inc 1.6

    FID Funds (Mauritius) Ltd. 1.9

    BSE Sensex : 9,002

    KEY FINANCIALS (STANDALONE) Rs mn

    KEY RATIOS

    FY08 FY09E FY10E FY11E

    Net Sales 86,633 84,816 89,472 96,187

    YoY Gr. (%) - (2.1) 5.5 7.5

    Op. Profits 9170 8599 10224 10917

    Op. Marg. (%) 12.3 12.5 14.1 14.0

    Adjusted Net Profit 8245 7842 9684 10774

    YoY Gr. (%) - (4.9) 23.5 11.3

    Dil. EPS (Rs) 57.0 54.2 66.9 74.5

    ROCE (%) 23.9 37.1 41.3 39.3

    RoE (%) 23.2 44.9 45.2 39.8

    PER (x) 9.9 10.4 8.4 7.6

    EV/Net sales (x) 0.9 0.9 0.8 0.7

    EV/EBDITA (x) 7.6 7.4 5.9 5.0

    250

    350

    450

    550

    650

    May-08 Aug-08 Oct-08 Dec-08 Mar-09

    BJAUT BSE (Rebased)

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

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    Product Profile

    BJAUT currently dominates the economy as well as the premium segments while theexecutive segment is dominated by HH. The executive segment, i.e. the largest segment,however accounts for ~55% of all motorcycles sold in the country. In the economy segment,

    the company's offerings CT-100 &Platina together hold ~50% marketshare. The companyalso introduced an upgraded 125cc variant of its Platina model. As the segment is highlyprice competitive, it has shifted the production of Platina to Uttaranchal so as to avail theduty benefits and price the vehicle more aggressively in the market.

    BJAUT, through its strategy of upgrading commuters from 110cc to 125cc vehicles byoffering a value proposition, is striving to break the stronghold of Splendor/Passion on theexecutive segment. The launch of XCD-125 in Sep'07 was an important step towardsexecuting the strategy, however the product failed to generate the response expected. Thecompany further launched XCD-135 in Jan'09 with added features from its 150cc bikeplatform to boost sales in this segment.

    The premium segment has remained BJAUT's stronghold ever since the launch of Pulsar back in Nov'01. The company has managed to retain marketshare at ~50% throughconsistent launch of upgrades and variants incorporating technologically advanced features.However, increased competition in the segment post launch of Yamaha FZ-16 & Suzuki GS150R has seen BJAUT lose marketshare in this segment. The company is set tolaunch a refreshed Pulsar alongwith an entirely new model in the 150cc range to take onthe competition.

    Three-Wheelers

    BJAUT is the market leader in the domestic three wheeler passenger segment with a~45% marketshare. In the Goods segment however, the company's marketshare has halvedfrom 25% in FY07 to ~12% in FY09YTD, primarily due to preference towards bigger 3-wheelers (>1MT GVW). Piaggio (45% marketshare) is the market leader in the goodssegment while M&M (25% marketshare) holds second position.

    In the passenger segment BJAUT offers a wide range of products that includes 2-strokeand 4-stroke petrol engines. The company also offers diesel powered products and vehiclesfitted with alternate fuel kits such as CNG and LPG. The products offered by the companyare a common mode of public transport in especially Tier II & Tier III cities.

    BJAUT is the market leader in the domestic three wheeler

    passenger segment...

    The premium segment hasremained BJAUTsstronghold since launch of Pulsar...

    [email protected]

    Bajaj AutoRESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    BJAUT Domestic Motorcycle Product-mix

    Source: CRIS Infac

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    BJAUT plans to double its pro-biking outlets at aninvestment of Rs1.5bn incouple of years...

    [email protected]

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    In the goods vehicle category BJAUT has a limited product range with sub 1 tonner productGC Max powered by diesel or CNG.

    Capex Plans

    BJAUT commissioned its Pantnagar, Uttaranchal facility in Apr'07 with a capacity of 0.5mnunits. Post the expansion, the company has no further capex plans for capacity expansion.The company however plans to double its pro-biking outlets from 21 currently, setup at aninvestment of Rs1.5bn, to 42 in the next couple of years. BJAUT is also expected to incur an expenditure of Rs2.5-3.0bn annually on research & development.

    Investment Rationale

    Improved Product-mix

    While BJAUT has witnessed volume contraction across all motorcycle segments, thedecline was more prominent is the low margin entry level segment. This has led to anoverall improvement in the product mix of the company. The focus of the company isincreasingly towards 125cc and above segment and this will help the company in further enriching its product mix. This is a change in the strategy of the company to focus onprofitability rather than market share.

    BJAUTs Profitability Trend

    Source: Company

    BJAUT Overall Product-mix

    Source: SIAM

    88 86 88 88 90 87 91 88 84

    12 14 12 10 13 9 12 1612

    0%

    25%

    50%

    75%

    100%

    Q3FY07 Q4FY07 Q1FY08 Q2FY08 Q3FY08 Q4FY08 Q1FY09 Q2FY09 Q3FY09

    2-Wheelers 3-Wheelers

    Bajaj Auto

    0.0

    5.0

    10.0

    15.0

    20.0

    Q1FY08 Q2FY08 Q3FY08 Q4FY08 Q1FY09 Q2FY09 Q3FY09

    OPM (%) NPM (%)

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    Shift to executive segment products in Uttaranchal facility will now benefit BJAUT...

    The global financial crisis will impact BJAUTs exports inthe near term...

    [email protected]

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    Robust Exports growth

    BJAUT has a strong presence in the export markets, with presence in Srilanka, Indonesia,Egypt, Columbia and African continent. During the 9MFY09 period, the company witnessedtwo wheeler exports surge 42% to 507k units while three wheeler exports grew at 9.5% to

    111k units. The growth in exports has helped BJAUT compensate for the demand slump indomestic markets. Due to global financial crisis, we see exports of BJAUT to be adverselyimpacted in the near term. We estimate that exports will grow by 3% during FY10 asagainst 25% growth expected in FY09. However, despite this subdued volume growth, wesee strong growth in exports value due to depreciation of Indian currency. This will alsohave a favorable impact on the companys profitability.

    Strong product line-up

    BJAUT has been in the forefront of research & development of two-wheelers in India andintroducing newer technology by means of new models or improved variants of existingmodels. The current slump in sales and loss of marketshare has prompted the companyto line-up upto six models in the coming year with an increased emphasis on the executivesegment.

    Tax Savings at Uttaranchal due to change in product mix

    Despite being the first 2-wheelers manufacturer to commence operations at a tax heaven,BJAUT has failed to capitalise on it for increasing its profitability. It used the plant in taxhaven for garnering market share rather than its profits. However, with the shift in company'sstrategy in favour of executive segment products, we expect that company will now benefit

    from the tax exemption available at its Uttaranchal facility.Entry in four wheeler cargo segment

    BJAUT is making a re-entry in the cargo segment wherein it was marginalized by Piaggio.Later on 3-wheelers cargo segment gave way to 4-wheeler products wherein Tata Motorsis the undisputed leader with 'Ace' range of products. During FY10, BJAUT will be launchingtheir product in this category. We expect that this category has huge potential in theIndian markets due to emerging hub and spoke model for transportation of goods. Even asmall market share in the segment will give incremental volumes to BJAUT.

    BJAUT 2-Wheeler Exports

    Source: SIAM

    BJAUT 3-Wheeler Exports

    -

    160

    320

    480

    640

    FY04 FY05 FY06 FY07 FY08 FY09YTD

    -

    20.0

    40.0

    60.0

    80.0

    2WExports ('000s) (LHS) % Gr (YoY) (RHS)

    -

    40

    80

    120

    160

    FY04 FY05 FY06 FY07 FY08 FY09

    YTD

    (30.0)

    -

    30.0

    60.0

    90.0

    3WExports ('000s) (LHS) % Gr (YoY) (RHS)

    Bajaj Auto Ltd.

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    We expect domestic volumes to grow by 7% and 9% during FY10 and FY11respectively...

    BJAUT is developing a low cost car scheduled to belaunched in FY11...

    [email protected]

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    Low cost cars

    BJAUT is developing a low cost car. The objective of the company is to develop an alternativefor its passenger three wheelers. Unlike Tata Motors, BJAUT aims to develop a productwhich will be high on fuel efficiency and robustness. This is a learning from its past experience

    wherein BJAUT lost out to Piaggio and Tata Motors in the cargo segment of 3-wheelers.This product is scheduled to be launched in FY11.

    Profitability improvement

    Despite decline in volumes, BJAUT has been successful in arresting the decline in itsprofitability. The major reason for this was the steep decline in the low margin entry levelsegment. On the exports business during FY09, BJAUT was not able to take the benefit of depreciating rupee due to forward contracts. With rupee depreciating by ~30% over thelast one year, we see benefits to get reflected in BJAUTs profitability in FY10. Beside this,decline in prices of major raw materials will further boost the companys margins.

    Risks

    High dependence on financing

    BJAUT is highly dependant on retail finance for its sales mainly aided by its financing armBajaj Auto Finance. The dependence on financing has reduced from 70% in FY07 to 40%currently. However, it still remains high as compared to market leader HH where dependenceis only 20%.

    Failure of new launch over the last two years

    BJAUT changed its strategy of targeting executive segment through its focus on 125 ccproducts. However, this strategy has not worked with product failing to generate desiredvolumes for the company. For BJAUT, a lot depends on the success of its planned launches

    and disappointment on this front will be a key risk to our estimates.Domestic passenger 3-wheelers market in a declining phase

    3-wheelers has been a hugely profitable segment for the company. However, BJAUT'sexposure in this segment is in the regulated space wherein there have been restrictions onthe issue of new permits. Over the last few years, very few state governments have issuednew permits and as such this market is largely dependent on the replacement demand.This is adversely impacting the performance of the segment.

    Outlook

    We expect domestic volumes to grow by 7% and 9% during FY10 and FY11 respectively.Exports are estimated to grow by 3% and 10% during these two years. However, withrupee depreciation and richer product mix, the company will be in a position to improve itsprofitability. We estimate 160bps improvement in margins to 14.1%. Adjusted earnings for the company are likely to grow by 24% during FY10 and 11% during FY11.

    Valuations

    At the CMP of Rs563, the stock of BJAUT trades at 8.4x FY10E adjusted earnings. Thisis a discount of 61% over market leader HH. Given the earnings growth and balance sheetstrength of the company, we see this steep discount unjustified. We upgrade our recommendation on the stock to BUY with a target price of Rs669 discounting FY10Eearnings 10x.

    Bajaj Auto

  • 8/6/2019 Two Wheeler Industry Update

    24/[email protected]

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    Income Statement FY08 FY09E FY10E FY11E

    Year Ended March (Figures in Rs mn)

    Balance Sheet FY08 FY09E FY10E FY11E

    Equity capital 1,447 1,447 1,447 1,447

    Reserves & surplus 14,429 17,633 22,340 28,854

    Shareholders' funds 15,876 19,080 23,786 30,301

    Minorities interests - - - -

    Total Debt 13,343 12,016 10,821 9,746

    Capital Employed 29,219 31,096 34,607 40,047Net fixed assets 13,034 12,580 12,179 11,928

    Cash & Cash Eq. 12,807 13,048 16,299 21,364

    Net othe r Current As se ts ( 2, 83 7) ( 3, 63 8) ( 4, 06 9) ( 4, 89 4)

    Investments 6,325 8,275 10,274 12,273

    Net Deferred Tax Assets (110) 831 (76) (623)

    Total assets 29,219 31,096 34,607 40,047

    Cash Flow Statement FY08 FY09E FY10E FY11E

    Pre-tax profit 11,685 10,267 12,664 15,034

    Depreciation (2,186) 1,306 1,351 1,401

    Total tax paid (3,928) (4,568) (3,301) (3,713)

    Chg in working capital (2,445) 776 92 318

    Other operating activities (2) (24) (26) (28)

    Cash flow from oper. (a) 3,125 7,757 1 0,77 9 1 3,01 2

    Capital expenditure 1,983 (853) (950) (1,150)

    Chg in investments 58,150 (1,949) (1,999) (1,999)

    Other investing activities (44,075) - - -

    Cash flow from inv. (b) 1 6, 05 8 ( 2,8 02 ) ( 2,9 49 ) ( 3,1 49 )

    Free cash flow (a+b) 19,183 4,955 7,831 9,863

    Equity raised/(repaid) 435 - - -

    Debt raised/(repaid) (2,911) (1,328) (1,195) (1,075)

    Chg in Minorities int. - - - -

    Dividend (incl. tax) (4,735) (3,386) (3,385) (3,724)Other financing activities - - - -

    Cash flow from fin. (c) ( 7,2 11 ) ( 4,7 13 ) ( 4,5 80 ) ( 4,7 99 )

    Net chg in cash (a+b+c) 11,972 242 3,251 5,064

    Net sales 86,633 84,816 89,472 96,187

    Growth (%) (2.1) 5.5 7.5

    Operating profit 9,170 8,599 10,224 10,917

    Other operating income 1,667 2,271 2,750 2,984

    EBITDA 10,837 10,870 12,974 13,901

    Growth (%) 0.3 19.4 7.1

    Depreciation (1,740) (1,306) (1,351) (1,401)

    Other income 3,325 2,181 2,619 2,885

    EBIT 12,423 11,745 14,242 15,384

    Interest paid (52) (250) (350) (350)

    PBT (before E/o items) 12 ,37 1 11 ,49 5 13 ,89 2 15 ,03 4

    Tax provision (4,126) (3,654) (4,208) (4,260)

    E/o Income / (loss) (686) (1,228) (1,228) -

    Net profit 7,560 6,614 8,456 10,774

    Adjusted net profit 8,245 7,842 9,684 10,774Growth (%) (4.9) 23.5 11.3

    Diluted EPS (Rs) 57.0 54.2 66.9 74.5

    Diluted EPS Growth (%) (54.7) (4.9) 23.5 11.3

    Key Ratios FY08 FY09E FY10E FY11E

    OPM (%) 12.3 12.5 14.1 14.0

    Net margin (%) 9.5 9.2 10.8 11.2

    Dividend yield (%) 3.6 3.6 3.9 4.4

    Net debt/Equity (x) 0.0 (0.1) (0.2) (0.4)

    Net Working Capital (days) (18) (24) (25) (24)

    Asset turnover (x) 1.3 1.8 1.7 1.7ROCE (%) 23.9 37.1 41.3 39.3

    RoE (%) 23.2 44.9 45.2 39.8

    EV/Net sales (x) 0.9 0.9 0.8 0.7

    EV/EBITDA (x) 7.6 7.4 5.9 5.0

    PER (x) 9.9 10.4 8.4 7.6

    Price/Book (x) 5.1 4.3 3.4 2.7

    P/E Band EV/EBIDTA

    Bajaj Auto

    -

    250

    500

    750

    1,000

    May-08 Aug-08 Oct-08 Jan-09 Mar-09-

    40,000

    80,000

    120,000

    160,000

    May-08 Aug-08 Oct-08 Jan-09 Mar-09

    6X

    6X

    8X10X

    12X

    14X

    4X

    6X

    10X

    12X

    8X

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    STOCK DATA

    RELATIVE PERFORMANCE

    Market Cap Rs 4.8 bn.Book Value per share Rs 35Eq Shares O/S (F.V. Rs.1) 238 mn.Free Float 42.6%Avg. Traded Value (6 mths) Rs 13.7 mn52 Week High/Low Rs 47/15Bloomberg Code TVSL INReuters Code TVSM.BO

    TVS MOTOR

    TVSL has been consistently losing its market share in the Indian 2-wheelers market over the last five years. The shrinking market shareand leverage on the balance sheet makes it vulnerable to competitive

    environment.Over dependence on price sensitive entry segment products

    TVSL is over dependent on price sensitive entry level products of mopedsand economy segment motorcycles. This is adversely impacting theprofitability of the company.

    Leveraged balance sheet

    While other Indian 2-wheelers manufacturers has huge cash reserves, TVSLhas debt equity of 1:1 with total debt of Rs 5bn. The small cash flow generationwill make it difficult for the company to repay its debt through internal accruals.Rupee depreciation further aggravates the problem as these loans are in

    foreign currency.Aggressive approach to international business

    TVSL has taken an aggressive approach to its international business bysetting up manufacturing facility in Indonesia and foraying into a new productsegment of Step-thrus. This aggressive approach may back fire on thecompany due to big capex involved.

    RISKS

    The ability of the company to make a rebound in the domestic motorcyclemarket is the key risk to our rating. However, we see this as very difficultgiven the product pipeline of the company.

    Any significant ramp up in 3-wheelers business will have a big impact onthe profitability of the company.

    VALUATION

    At the current price, the stock of the company is trading at 9.8x FY10E earnings of Rs2.1. Given its over dependence on price sensitive entry segment

    products and leverage on balance sheet, we see TVSL more vulnerable tocompetitive environment. We downgrade the stock to SELL with a target

    price of Rs16, discounting FY10E earnings 7.5x.

    PERFORMANCE (%)

    1M 3M 12MAbsolute 11.0 (17.8) (44.4)Relative 14.5 (10.2) (5.0)

    20 March 2009

    Vineet Hetamasaria

    [email protected]

    +91-22-6618 6388

    Nikhil Deshpande

    [email protected]

    +91-22-6618 6339

    UpdateDowngrade to SELL

    CMP : Rs20 TP : Rs16

    TOP 5 SHAREHOLDERS

    Name % holding

    LIC India 7.7

    ICICI Pru. Life Insurance 2.0

    Sandstone Cap. India Master Fund 2.3

    Strategic Mgt. & Marketing Consultancy 1.4

    Horticulture Const. Engg. Pvt. Ltd. 1.4

    BSE Sensex : 9,002

    KEY FINANCIALS (STANDALONE) Rs mn

    KEY RATIOS

    FY07 FY08 FY09E FY10E FY11E

    Net Sales 38,550 32,195 36,681 39,689 43,053

    YoY Gr. (%) 19.2 (16.5) 13.9 8.2 8.5

    Op. Profits 1399 440 1207 1399 1727

    Op. Marg. (%) 3.6 1.4 3.3 3.5 4.0

    Adjusted Net Profit 663 318 (492) 493 754

    YoY Gr. (%) (45.9) (52.1) (254.7) n/a 52.9

    Dil. EPS (Rs) 2.8 1.3 (2.1) 2.1 3.2

    ROCE (%) 8.9 2.9 (0.9) 6.6 8.9

    RoE (%) 9.1 4.2 (6.5) 6.5 9.2

    PER (x) 7.3 15.2 n/a 9.8 6.4

    EV/Net sales (x) 0.2 0.3 0.3 0.3 0.2

    EV/EBDITA (x) 6.6 24.4 9.5 7.3 5.4

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    10

    20

    30

    40

    50

    Mar-08 Jun-08 Sep-08 Dec-08 Mar-09

    TVSL BSE (Rebased)

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    Product Profile

    TVSL has a presence across all the motorcycles segments. With its economy offeringStar-City , TVSL has a ~20% marketshare in the segment with the segment leader BJAUTholding ~50% marketshare.

    After resolving legal issues with BJAUT over the design patents for the engine, TVSLreintroduced its Flame model in the executive segment. The model has however failed togenerate a positive response with a meager ~2% marketshare. TVSL has been unsuccessfulover the last five years to come out with a model which can give it a strong foothold in theexecutive segment.

    In the premium segment, TVSL successfully replaced a high selling model like Fierro withanother advanced product Apache . Apache alongwith the recently launched fuel injected(FI ) model have been able to garner a ~10% marketshare. However increased competitionin the segment owing to Yamaha FZ-16 & Suzuki GS150R could translate into loss of marketshare for TVSL.

    The gearless scooter segment has been a stronghold for TVSL ever since the launch of Scooty almost a decade ago. However, the mighty presence of HMSI in this segmentmeans that the marketshare for TVSL is limited to ~20%. The light and zippy Scooty is anideal drive for city conditions & with commuter friendly features TVSL has managed tokeep the product updated.

    Over the last four years, the positive surprise for the company has come from most unlikelysegment of mopeds. This segment had a CAGR of 13% over FY05-09 with strong demand

    from rural areas of South India. At present, TVSL is the only player in the moped segment.In the same timeframe, motorcycles sales for the company had a negative CAGR of 8%.Mopeds which were contributing 22% of TVSLs volumes in FY05, now contributes 32% of volumes. This reflects the marginalisation of the company in the domestic motorcyclemarket. In this process, companys profitability has been adversely impacted due to growingdependence on low margin entry level segment motorcycles.

    Gearless scooter segement has been a stronghold for TVSL ever since the launchof Scooty...

    [email protected]

    TVS Motor RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    TVSLs Domestic Motorcycle Product-Mix

    Source: CRIS Infac

    0%

    25%

    50%

    75%

    100%

    Q3FY07 Q4FY07 Q1FY08 Q2FY08 Q3FY08 Q4FY08 Q1FY09 Q2FY09 Q3FY09

    Economy Executive Premium

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    Over dependence on theeconomy segment hasresulted in wafer thin

    margins...

    [email protected]

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    Foray into Three-Wheelers

    After a project delay of 2 years, TVSL launched its 3-wheelers passenger carrier in endFY08. At present, this product is launched in South India and company intends to have acountrywide presence during FY10. TVS King is currently available with a 2-stroke engine

    in petrol and LPG variants, with 4-stroke version planned for launch by Q2FY10.The 3-wheelers industry in India is in a slowdown phase and is dependent on replacementdemand as there are restrictions on issue of new permits for 3-wheelers in major townsand cities. The market is currently dominated by BJAUT which is developing a 4-wheeledalternative for the 3-wheelers.

    Investment Rationale

    Poor product portfolio

    Though TVSL has a presence in all the segments of 2-wheelers industry, it is too muchdependent on low margins economy segment motorcycles and mopeds. In motorcycles,it derives almost 70% of its volumes from economy segment. This over dependence on

    economy segment is the reason behind wafer thin margins of the company.

    Unable to capitalise on tax benefits

    In FY08, TVSL commissioned its greenfield facility at Nalagarh (Himachal Pradesh) with acapacity of 400k units p.a. with an initial investment of Rs1.2bn. This plant enjoys exciseduty exemption and sales tax concessions for ten years. The company is using the plantfor manufacturing its economy segment motorcycle Star/Star City . Post commissioningof this plant, the company reduced the prices of its products and passed on the excise

    duty benefits to the customers. However this price cut was unable to stimulate the demandand impacted the company adversely.

    TVSLs Overall Product-Mix

    Source: SIAM

    TVS Motor

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    TVSL setup a manufacturing facility in Indonesia in FY08 with a capacity to produce300k units p.a...

    Key export destination for TVSL is South East Asia...

    [email protected]

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    Robust Exports

    Similar to BJAUT, TVSL has a significant proportion of sales through exports. In FY08TVSL exported 137k units comprising of 10.5% of its total sales volume. In FY09YTD,TVSL has already exported 160k units, a growth of 44% comprising of 15% of the total

    sales volumes. Key export destination for TVSL is South East Asia.

    Foray in Indonesia

    As compared to its peers, TVSL has adopted a more aggressive approach towardsinternational business. While its peers has made a gradual move in the international marketsby exporting products from India, TVSL has set up a full fledged manufacturing facility inIndonesia which was commissioned in FY08 with a capacity to produce 300k units p.a.The Indonesian 2-wheeler market estimated at ~5mn units is the third largest market in

    the world after China & India and had a CAGR of 15% over the past 5 years. However, thismarket is different in terms of products and unlike the conventional motorcycles, thismarket has a preference for Step-thrus. TVSL commenced operations in this market withtheir Step-thru product TVS Neo . This strategy of having an investment heavy foray in anew market with a new product is more risky.

    Leveraged balance sheet

    Unlike its peers, TVSL has a leveraged balance sheet. While peers, HH and BJAUT hashuge cash reserves, TVSL has debt equity ratio of 1:1. The depreciation of Indian currencyhas adversely impacted the debt as this debt is in the form of external commercialborrowings. Given, the small cashflow generation, it will be difficult for the company to

    repay this debt through internal accruals and raises the risk for the company.

    TVSLs Two-Wheeler Exports

    Source: SIAM

    -

    50

    100

    150

    200

    FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 YTD0

    50

    100

    150

    200Exports sales '000s (LHS) % Gr (YoY) (RHS)

    TVS Motor

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    Wafer thin margins

    Out of all the listed 2-wheelers manufacturers in India, TVSL has got the least margins.Compared to double digit margins for BJAUT & HH, TVSLs margins have languishedbelow 5%. A high dependence on entry level products such as economy segment

    motorcycles & mopeds has been a drag on the margins. Other expenditure, includingadvertising & marketing expenses, as a percentage of sales is as high as 15% as comparedto 10-11% for its peers.

    Outlook

    We expect that during FY10, TVSL will be able to restrict the decline in its domesticmotorcycle volumes with a growth of 5%. We expect exports to remain flat for FY10 due toglobal financial crisis. Profitability of the company is expected to show marginal improvement

    due to easing of raw material pricing pressure. Due to mark to market losses on foreigncurrency debt, we expect TVSL to end FY09 with losses of Rs 492 mn.

    Valuations

    At the current price, the stock of the company is trading at 9.8x FY10E earnings of Rs2.1.Given its over dependence on price sensitive entry segment products and leverage onbalance sheet, we see TVSL more vulnerable to competitive environment. We downgradethe stock to SELL with a target price of Rs16, discounting FY10E earnings 7.5x.

    [email protected]

    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCHTVS Motor

    TVSLs Operating Margins

    Source: Company

    -3.0

    0.0

    3.0

    6.0

    9.0

    Q1FY07 Q2FY07 Q3FY07 Q4FY07 Q1FY08 Q2FY08 Q3FY08 Q4FY08 Q1FY09 Q2FY09 Q3FY09

    OPM (%) NPM (%)

    We see TVSL morevulnerable to the competitiveenvironment, hence wedowngrade the stock toSELL...

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    RESEARCHRESEARCHRESEARCHRESEARCHRESEARCH

    Income Statement FY07 FY08 FY09E FY10E FY11E

    Year Ended March (Figures in Rs mn)

    Balance Sheet FY07 FY08 FY09E FY10E FY11E

    Equity Share Capital 238 238 238 238 238

    Reserves & surplus 7,855 7,978 7,487 7,841 8,456

    Shareholders' funds 7,507 7,688 7,369 7,853 8,583

    Minorities interests - - - - -

    Total Debt 6,336 6,663 7,381 6,100 5,600

    Capital Employed 1 3,84 3 14 ,3 52 1 4,75 0 13 ,953 1 4,1 83Net fixed assets 10,029 10,431 10,398 9,998 9,617

    Cash & Cash Eq. 1,903 759 746 696 1,111

    Net other Current Assets 1,091 2,043 2,447 1,876 2,031

    Investments 2,410 2,668 2,668 2,853 2,853

    Net Deferred Tax Assets (1,590) (1,549) (1,509) (1,469) (1,429)

    Total assets 13,843 14,352 14,750 13,953 14,183

    Cash Flow Statement FY07 FY08 FY09E FY10E FY11E

    Pre-tax profit 908 354 (702) 657 1005

    Depreciation 743 886 1017 1020 1051

    Total tax paid (310) (168) 410 (204) (291)

    Chg in working capital (362) (1014) (449) 502 (155)

    Other operating activities - - - - -

    Cash flow from oper. (a) 979 57 276 1975 1609

    Capital expenditure (2558) (1287) (984) (620) (670)

    Chg in investments - (258) - (185) -

    Other investing activities - - - - -

    Cash flow from inv. (b) (2 55 8) ( 15 45 ) (984) (805) (670)

    Free cash flow (a+b) (1578) (1488) (709) 1170 939

    Equity raised/(repaid) 73 58 173 130 115

    Debt raised/(repaid) 2485 328 717 (1281) (500)

    Chg in minorities - - - - -

    Dividend (incl. tax) (352) (42) (195) (69) (139)Other financing activities - - - - -

    Cash flow from financing (c) 2 20 6 3 44 6 95 ( 12 20 ) (5 24)

    Net chg in cash (a+b+c) 628 (1144) (13) (50) 415

    Net sales 38550 32195 36681 39689 43053

    Growth (%) 19.2 (16.5) 13.9 8.2 8.5

    Operating profit 1399 440 1207 1399 1727

    Other operating income - - - - -

    EBITDA 1399 440 1207 1399 1727

    Growth (%) (32.4) (68.5) 174.1 16.0 23.5

    Depreciation (895) (965) (1017) (1020) (1051)

    Other income 754 994 (342) 708 758

    EBIT 1259 468 (152) 1 087 1 435

    Interest paid (351) (115) (550) (430) (430)

    PBT (before E/o items) 908 354 (702) 657 1005

    Tax Provision (246) (36) 211 (164) (251)

    E/o loss / (Income) - - - - -

    Net profit 663 318 (492) 493 754

    Adjusted net profit 663 318 (492) 493 754Growth (%) (45.9) (52.1) (254.7) n/a 52.9

    Diluted EPS (Rs) 2.8 1.3 (2.1) 2.1 3.2

    Diluted EPS Growth (%) (45.9) (52.1) (254.7) n/a 52.9

    Key Ratios FY07 FY08 FY09E FY10E FY11E

    OPM (%) 3.6 1.4 3.3 3.5 4.0

    Net margin (%) 1.7 1.0 (1.3) 1.2 1.8

    Dividend yield (%) 4.2 3.4 0.0 2.5 2.5

    Net debt/Equity (x) 0.6 0.8 0.9 0.7 0.5

    Net Working Capital (days) (9) (2) 3 (2) (2)

    Asset turnover (x) 1.9 1.5 1.6 1.7 1.9ROCE (%) 8.9 2.9 (0.9) 6.6 8.9

    Return on equity (%) 9.1 4.2 (6.5) 6.5 9.2

    EV/Net sales (x) 0.2 0.3 0.3 0.3 0.2

    EV/EBITDA (x) 6.6 24.4 9.5 7.3 5.4

    PER (x) 7.3 15.2 n/a 9.8 6.4

    Price/Book (x) 0.6 0.6 0.7 0.6 0.6

    EV/SALES EV/EBIDTA

    TVS Motor

    5X10X15X

    -

    15,000

    30,000

    45,000

    60,000

    Mar-05 Mar-06 Mar-07 Mar-08 Mar-09

    20X25X

    -

    12,500

    25,000

    37,500

    50,000

    Mar-05 Mar-06 Mar-07 Mar-08 Mar-09

    0.2X

    0.4X

    0.6X

    0.8X

    1.0X

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    T E A M

    EQUITY DESK

    Gealgeo V. Alankara Head - Institutional Sales [email protected] 91-22-6618 6466

    Sailav Kaji Head Derivatives & Strategist [email protected] 91-22-6618 6344

    Anil Chaurasia [email protected] 91-22-6618 6483

    Alok Doshi [email protected] 91-22-6618 6484

    Sundeep Bhat [email protected] 91-22-6618 6486

    Gagan Borana [email protected] 91-22-6618 6485

    Ashok Savla [email protected] 91-22-6618 6400

    Raju Bhavsar [email protected] 91-22-6618 6301

    Manoj Parmar [email protected] 91-22-6618 6326

    Hasmukh D. Prajapati [email protected] 91-22-6618 6325

    Pratiksha Shah [email protected] 91-22-6618 6329

    Gaurang Gandhi [email protected] 91-22-6618 6400

    Hemang Gandhi [email protected] 91-22-6618 6400

    Ketan Gandhi [email protected] 91-22-6618 6400

    SALES

    DEALING

    DIRECTORS

    COMPLIANCE

    Rakesh Bhatia Head Compliance [email protected] 91-22-6618 6400

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