Hold – Hero Motocorp, Bajaj Auto, TVS Motors; Buy – Eicher Motors
Market expectations have moderated: Hero (-24%), Bajaj (-16%) and TVS (-13%) have underperformed the Sensex (-3%) this year. While the de-rating indicates a tempering of growth and margin expectations by investors, we highlight that the near-term outlook for two-wheelers (2W) remains weak. Current stock prices are implying volume CAGR (FY15-17e) of 8%-20%, which is optimistic in our view. We retain Hold on Hero (TP R2,500), Bajaj (TP R2,200) and TVS (TP R250). Eicher is our only Buy-rated 2W stock (TP R18,000) as it continues to ride the strong growth in its operating niche. Our scenario analysis suggests a relatively better risk-reward for Eicher and Hero compared to Bajaj and TVS.
Bull-/bear-case scenarios—Eicher/Hero better placed than Bajaj/TVS: Eicher and Hero’s stock prices are implying two-year volume CAGRs (compound annual growth rates) of 29%/8%, which appear reasonable for their respective segments. We forecast Eicher and Hero’s volume CAGRs at 43%/7.5%. For Bajaj and TVS, the stock prices are implying volume CAGRs of 12%/19%, which would require market-share gains. Our analysis suggests potential upside of 32%/26%/ 17%/18% for Eicher, Hero, Bajaj and TVS under respective bull-case scenarios. Under bear-case scenarios the potential downsides are 21%/17% /20%/31%, respectively.
Cutting our FY16/17 industry volume forecasts by 4-5%: We are cutting our two-wheeler volume CAGR (FY15-17e) to 10% from 12%.
We forecast growth at 16% per annum for scooters and 40% p.a. for high-end motorcycles (>250cc) as urban demand remains relatively robust. Growth for mass-market motorcycles (100-250cc) is expected to be slower at 6.5% p.a. as they have a high dependence on slowing rural demand. Honda should continue to gain share (+150bps over two years) due to its dominance in scooters.
Earnings view: We are cutting our EPS (earnings per share) forecasts for Hero and Bajaj by 3-5%. Our target prices for Hero and Bajaj are 7-15% below consensus and imply a PE (price-to-earnings ratio) of 15x FY17e (long-term average). We believe that consensus is not factoring the impact of the rural sales slowdown. We are in line with consensus on TVS and our target price implies a PE of 17x FY17e, which is currently supported by market-share gains. Our forecasts for Eicher are 15-20% higher than consensus.
Strong balance sheets and high ROEs provide downside support to 2W stocks: Indian 2W companies generate significant free cash flows, and their ROEs (returns on equity) are generally in the range of 30-50%. This can provide support to valuations during times of low growth and margin contraction. Also, any announcement related to an increase in the dividend payout would be viewed positively by investors.
We prefer 4Ws over 2Ws; Maruti and M&M are our top picks: We forecast 4W volume growth (14.5% p.a.) to outpace that of 2W over FY15-17. Maruti should continue to gain market share during the recovery, driven by new product launches. For M&M, we believe its new launches in the compact UV (utility vehicle) segment should enable it to claw back some of its lost market share. M&M is trading at 11.5x FY16e core PE—a 35% discount to its peers.