Commodity pressure persists: Ashok Leyland (AL) reported a 28% EBITDA (Rs 2.2bn) miss due to lack of complete cost pass-through. As a result, gross margin continues to dip (120bp QoQ to 22.1%). AL has introduced a CNG-based ICV, which allows it to participate in 30% of the market. This along with the launch of three tippers and a multi- axle vehicle would help AL regain part of the market share loss. We remain bullish on M&HCV demand as tailwinds such as higherthan-normal fleet age, delayed replacement cycle and stable freight rates continue to exist. However, we are cutting FY23E EBITDA by 19% to factor in a rising inflationary scenario. Maintain ‘BUY’ with a TP of Rs 157 (earlier INR178) as we roll over to June-23E.
Q3FY22: Cost pressure all over: Revenue at Rs 55bn (up 15% YoY, 24% QoQ) came largely in line. However, gross margin slid 1,200bp QoQ to 22.1% (two quarters of decline) as commodity cost under-recovery impacted gross margin. AL has been taking price hikes for the last three quarters. Despite that, a much stronger rise in steel price restricts the ability – industry-wide – to fully pass on cost pressure. Management indicated that AL has been able retain 95% of the price hikes effected over the last two quarters, indicating underlying strength in demand. Hoping to continue to raise prices as demand recovers and economy normalises to reduce the under-recovery. Also with new launches, management expects to recover the market share; hence, operating leverage will also support EBITDA margin.
Outlook improving; USD200m fund-raise in Switch Mobility: Encouraging economic indicators, supportive policies, diversifying product portfolio and well-managed debt and liquidity positions imply AL is poised to capitalise on the potential uptick in demand. Besides, unrelenting focus on efficient operations to lower breakeven should support margins, in our view. In the near term, fund-raise in its EV arm will be a key event to watch out for. Management was categorical of maintaining significant majority stake post-fund raise. The defence business remains on a weak footing due to lack of government orders.
Outlook and valuation: Play on potential upcycle; retain ‘BUY’: We like AL’s efficient manufacturing and sound balance sheet (ex-vehicle financing business). Maintain ‘BUY/SO’ with a TP of Rs 157 (17.5x Jun-23E EV/EBITDA and Rs 10/share for financing business). The stock is trading at FY23E/24E PE of 29.5x/22.2x.