Multiple potential triggers could yield substantial returns; given challenges, TP reduced to Rs 500 from Rs 770; ‘Buy’ maintained.
M&M stock is down 70% from the peak (Sep 2018) and 50% (past 2m) in the recent COVID-led fall. Admittedly, the poor performance of the Auto business remains a worry, but investor apathy appears high. The stock is trading at 4x PE (ex conglomerate discount) on our revised FY22e EPS and this is despite an extremely robust Tractor business, which contributes c60% to earnings.
We believe at the current valuations, there could be multiple potential triggers, which may result in disproportionate returns. There may not be major improvement in the fundamentals in the near term, but at this valuation, we believe any gradual improvement is adequate to rerate the stock.
Potential triggers: While it may take 2-3 quarters for the transition at the top management to settle down, we believe there is huge scope for changes in capital allocation and accountability/sustainability of some loss-making businesses. The restructuring of SsangYong should be a top priority. SsangYong business has struggled in the recent quarters, but we believe the real value of SsangYong is in supporting product development for the India UV business.
Second area of value creation could be the Ford JV. Multiple new products are scheduled to be launched in Q4FY2020 and 1H2021 (CY) along with Ford. Still, higher investments in the JV could improve the long-term outlook of the business. The Street has assumed zero probability of recovery for the UV business, in our view, and in that context, risks are skewed to the upside.
Ramp-up in Jawa volumes could be another trigger. On the face of it the business may seem miniscule, but even if it could ramp up volumes to 10K per month, that would be c$800 m in value, which is around 50% value of the core M&M business. Lastly, M&M+MVML has a strong balance sheet with FY20e net cash c20% of the current market cap.
Valuations are unexplainable: No doubt the company has some fundamental issues around capital allocation and tolerance towards under-performing subsidiaries. But then changes are in progress, even if gradual. It’s important to keep in mind that Mahindra is a top quality conglomerate, with no financial leverage.
However, the valuations show a different picture. At the current stock price of Rs 295, around Rs 167 is the value of stake in publicly listed subsidiaries . This means the core business of M&M is trading at 4x FY22e EPS , which factors in reasonable volumes for Autos and Tractors. Even if we assume the domestic UV business has no value, just the tractor and pick-up business is still trading at 6x FY22e PE.