1. M&M Rating: Buy; Guiding robust volume growth

M&M Rating: Buy; Guiding robust volume growth

Weak rural cash flows a concern; new vehicle launches to aid growth

By: | Published: March 30, 2015 12:05 AM

Analysts’ meet with Pawan Goenka, CEO: The key takeaways were robust volume guidance (10%+ for PV (passenger vehicle) on industry growth, re-iteration of new model launch time line (three products by Q3FY16), tractor growth guidance at 5-7% in FY16, the management is focused on containing inventories and SGA (selling, general and administrative) costs, company remains committed to two-wheeler and commercial vehicle businesses and is targeting significant volume growth and gross margin improvement in the medium term, and Ssangyong is not likely to require equity support from M&M in the medium term. We maintain Buy with a target price of R1,440.

Valuations: Our overall target price of R1,440 is made up of a DCF (discounted cash flow) value of R985 per share for the core parent business and R455 for M&M’s stakes in its subsidiaries. We use a 15-year time-frame for our core business DCF. We expect revenue growth to trend down from 18% in FY17 to 8% by the end of the period (FY31). We expect capex/sales to stabilise at around 4.5% and the Ebit (earnings before interest and taxes) margin to trend down to 9.4% over the same period, from 11% in FY17.

M&M Mahindra

Automotive division– optimistic outlook

M&M forecasts PV industry growth at 10% in FY16. We are forecasting PVs to grow at 16% in FY16e. utility vehicles (UVs) are expected to grow at 16%, and M&M is forecast to grow at 21%. The detailed management takeaways for the Auto segment were:
* New launches should aid market share: M&M believes that the compact UVs should address the product gap in the UV portfolio and enable it to increase market share (37.2% in 11M(month)FY15 vs. 47.7% in FY13).
* Existing models should be stable in FY16: M&M expects its existing UVs (Bolero/Scorpio/ XUV) to be flat or have marginal growth in FY16.
* Petrol-diesel pricing gap will narrow: M&M feels customer preference in the compact UV segment would be skewed towards petrol variants.
* New products would have a higher break-even point due to investments: M&M indicated that the average development cost for each of the newer models is around R10 billion.

Tractor division – a slow recovery in the medium term: M&M expects FY16 tractor volume growth at 5-7% versus a 13% decline in FY15. We forecast 8% growth in tractor volumes for FY16e. Takeaways:
* Rural cash flows remain weak: A poor monsoon during the sowing season combined with unseasonal rains has impacted farm production. A lower yield and falling crop prices have resulted in weak cash flows to farmers.
* A normal monsoon is critical for a recovery: Two consecutive weak monsoons could push back the expected recovery in tractor volumes by another year.
* H1FY16 could remain negative: M&M expects a recovery in H2FY16, which could be driven by a normal monsoon and an increase in non-farm usage of tractors due to an increase in infrastructure and mining activity.
* Long-term CAGR of 7-8% should continue until FY23: M&M’s internal calculations suggest tractor penetration could saturate in FY23.

Commercial vehicles–expecting gain in an up-cycle: M&M expects the medium and heavy truck industry to stay on a recovery path in FY16e with a 20%-plus growth rate. It also expects to grow faster than the market and gain share (from a low base).

In the 11 months of FY15, the industry has grown at 15%, while M&M has grown at 39%. Its market share has increased from 1.6% in FY14 to 1.8% in 11 months of FY15. We are forecasting a sharp revival in industry MHCV volume growth to 27% and 21.5% in FY16e and FY17e.

However, we believe M&M has a relatively weaker competitive position compared to its peers.

Two-wheelers (2W)–significant scale-up required: M&M guided that it needs a material improvement in its volumes and gross margins for the long-term sustainability of the 2W business. It believes the current model line-up of motorcycles and scooters is competitive, but it needs to attain annual volumes of 1 million units to reach breakeven. In FY16e, the company aims at a monthly run-rate of 30-35,000 units (from 12,000 now) and improved gross margins.

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