Decline in North America Class 8 truck orders in November the first in two years; expensive valuation; ‘Neutral’ retained
Order inflows for Class 8 trucks in North America (NA) in November, 2018 at 27.9k units, declined 14%
y-o-y (-35% m-o-m), for the first time in the last two years, according to preliminary data from ACT. This is despite November being a slightly stronger seasonal month, adjusted for which order intake for Bharat Forge will be only 26.8k units as per ACT. This is a sharp drop from the average order inflow of 42k over the past 12 months. Our November SAAR drops to 314k units, compared to the past six months’ average of 560k units.
Truck production rates have averaged at 30k units for the past 5 months (production up 22% YTDFY19 vs production of 274k units in FY18), and this is likely to sustain for a few more months. However, we expect the cycle to peak out in 1HFY20F as production of trucks normally lags orders by 6-7 months.
For Bharat Forge (BHFC IN), we have factored in 25/15% growth in export Commercial Vehicles (CVs) for FY19F/20F. We currently expect 5% decline in revenues in FY21F, but this can happen earlier if this slowdown continues. BHFC derived 20% of its standalone revenues from the North America heavy trucks segment.
On the domestic MHCV side as well, industry volumes have dropped sharply by 10% in Nov-18 vs 43% growth in 7MFY19. The stock is currently trading at 20x FY20F EPS, after factoring in the 13% EPS CAGR over FY20-21F, which is expensive, in our view.
Also, Motherson Sumi’s (MSS IN, Buy) subsidiary PKC (unlisted) commands 62% market share in the NA HD segment. This segment contributes 7.5% of FY19F consolidated revenues for the company and it could also face a slowdown in growth momentum from FY20F. MSS currently trades at 19x FY20F EPS, which is attractive, in our view, given an EPS CAGR of 22% over FY18-21F.
We value BHFC on a P/E basis and apply a 22x target P/E multiple to our average FY20F-21F consolidated EPS estimate to arrive at our target price of Rs 667.
Risks: Downside— Adverse US regulations (import tax, dollar devaluation) could impact earnings: Exports to the US should contribute 28% of BHFC’s FY19F standalone revenues. Any government regulation to impose import tax or devalue the dollar could hurt BHFC’s profitability. Our sensitivity analysis indicates a 10% weaker USD/INR could impact Ebitda by 12% and EPS by 14%.
Upside risks: Strong new order wins in the non-auto segment in India. BHFC’s promoter Kalyani Group is vying for various opportunities in the defence segment. Order wins by the promoter entity would present significant upside for BHFC related to the supply of components.