Limited visibility on any meaningful volume recovery
We cut our medium and heavy commercial vehicle (MHCV) volume estimates for Ashok Leyland by 22% over FY14-15, reflecting overall sluggish industry demand as well as Ashok Leyland?s higher exposure to the southern markets, where demand deterioration has been slightly higher. This also reflects about 40% reduction in our export volume assumption given lacklustre volume dispatches to main export markets.
We expect operating cost pressures to subside slightly given: (i) moderating raw material cost scenario and (ii) cost-cutting initiatives taken by the management. We cut our Ebitda (earnings before interest, taxes, depreciation, and amortisation) estimates by 29 and 27% for FY14 and FY15. However, with higher debt levels, we believe that interest costs would remain elevated resulting in a steep 69% and 59% cuts in our earnings estimates for FY14 and FY15, respectively.
New target price of R20 is based on 9x (times) September 2014e CEPS (cash earnings per share= PAT+depreciation). We roll-forward from March 2014 earlier and increase multiple to 9x from 6x earlier as we believe that we are at the bottom of the cycle. Recovery though will be U-shaped (similar to 1999-2003) given the capex cycle has yet to show signs of recovery. We maintain our Sell recommendation given the limited visibility on meaningful volume recovery for the company.
Pre-exceptional PAT of R157m in a disappointing quarter: Revenues at R37.3 billion were 2% above estimates gross margins declined 390 bps quater-on-quarter and reflect: (i) elevated discounts, (ii) rate negotiations with vendors, and (iii) negative mix shift. Savings on employee costs due to lower number of working days were offset by higher variable pay. Higher SG&A (consultancy expenses, freight costs, higher advt & publicity) resulted in 58% y-o-y decline in Ebitda (R1.98bn)?40/41% below our/ consensus estimates. Reported PAT (profit after tax) of R1.5bn reflects exceptional profit of R1.34bn from asset sale.
Conference call takeaways
* Management expects ALL volumes to slightly outperform industry growth in FY14. It expects MHCV volumes to grow 3-4% in FY14 and expects ALL to grow modestly ahead of this, underpinned by market share gains. Export volumes are expected to grow modestly to 10k in FY14 (9k in FY13) as the company scouts for newer markets in Africa, Middle East, LatAm and non Saarc countries (Sri Lanka and Bangladesh have been deteriorating). Management believes that volumes recovery in the domestic MHCV industry in FY14 would be back-ended with uptick expected in H2, aided by (i) a low base of H2FY13 and (ii) expected uptick in mining activity. Outlook remains challenging over the next one-two quarters.
* Discounts remain elevated in Q4; expected to trend down. Mirroring a weak demand scenario, ALL?s average discounts rose from R110k/vehicle in Q3 to R130k/vehicle in Q4, which have since trended down?the target is ~Rs100k/vehicle. Management noted that the company had lost volumes as record high discounts made sales non-viable in some segments.
* Reducing focus on southern India. Overall industry demand in south India has deteriorated. ALL has a dominant position in the south, and thus the company?s overall volumes were negatively impacted. The company has gained market share in north and eastern India and going forward, it will focus on non-south markets to reduce its high dependence on the southern markets.
* Capex/investment guidance. FY13 capex was R7.25bn, primarily due to the increased expense on A truck range and new engine/gear box manufacturing facilities at Pantnagar plant. Investments in subsidiaries/JVs were R8.2bn in FY13 with Hinduja Foundries being the major contributor at R3bn. Capex is expected to have peaked out in FY13, and FY14 should see significant reduction in capex (R2.5bn) as well as investments in subsidiaries/ JVs (R2.5bn).
* Cost pressures expected to ease, going forward. Q4 results reflected rate re-negotiations with vendors and going forward, material cost pressures should remain subdued.
* Balance sheet snippets. Management noted that ALL?s debt levels are R43bn (R35bn long-term and R8bn short-term), up from R31bn in FY12. It targets to bring debt down to R40bn by FY14-?partly aided by further stake sale in assets. FY13 preliminary balance sheet also reflects significant reduction in inventories— inventory levels of 8,200 vehicles (2k at dealer levels and 6,200 at company level), a significant reduction vs 10,800 vehicle in Q3FY13.