Bajaj closes the gap

CORPORATE SHOOTOUT

First, Bajaj was king, only to be overtaken by Hero Honda. Now they are neck and neck in the two-wheeler race, but with some significant differences. Chief among them being that Hero Honda uses much less cash to deliver comparable results.

As far as valuation goes, there is not much that separates Bajaj Auto and Hero Honda. While Hero Honda has a market capitalisation of almost Rs 9,000 crore, that of Bajaj is just 4 per cent lower at Rs 8,650 crore.

Their price-earnings multiples too are almost identical at around 11, based on estimated 2004-05 earnings. The only difference is that Bajaj Auto has assets worth Rs 4,800 crore on its books, while Hero Honda is much leaner with an asset base of only around Rs 1,400 crore.

Valued on a price to book basis, therefore, Hero Honda fares much better at 7.9 times, compared with 2.3 times for Bajaj.

This was not the case about two or three years ago, when Hero Honda had a clear edge over Bajaj Auto even in terms of a higher price-earnings multiple and market capitalisation. The reason the markets preferred the former then was that almost 100 per cent of its sales came from the exciting motorcycles segment, compared with just 35.6 per cent for Bajaj Auto.

It is to the credit of Bajaj Auto that it has caught up with Hero Honda in terms of market valuation. In just three years, the share of motorcycles (in value terms) has jumped to 59 per cent -- the segment is now the mainstay of the business.

All the other two-wheeler segments put together now account for less than 10 per cent of sales (34 per cent in FY01), while the balance comes from the profitable three-wheeler segment and sales of spare parts. In terms of profitability, Bajaj Auto reported an operating margin of 15 per cent last financial year, a big jump from the FY01 level of 6.2 per cent.

More importantly, Bajaj's operating margin is now not much lower than Hero Honda's 16.8 per cent. What's more, since the income from its huge treasury chest flows straight to the bottom line, Bajaj's net margin at 16.7 per cent is much higher than Hero Honda's net margin of 12.5 per cent.

What about growth? In the three-year period between FY01 and FY04, Hero Honda has done better than Bajaj Auto. Its sales grew at a compounded annual growth rate (CAGR) of 22.5 per cent, compared with 16.4 per cent for Bajaj.

Net profit grew at a CAGR of 41 per cent for Hero Honda, again higher than Bajaj's 32.5 per cent growth. (All calculations based on earnings exclude exceptionals). Also, the quality of Hero Honda's earnings is better, as only 15.4 per cent of its profit before tax comes from other income, compared with 47.7 per cent for Bajaj.

But the reason why the two companies are valued similarly at this point is simply that the markets cannot make up their minds about the two-wheeler segment and how the top two players in the segment will perform going ahead.

Both companies have "exciting" launches lined up and are expected to be hit by an increase in competition, with Yamaha pulling up its socks and Honda set to hit the markets anytime. The difference is that Bajaj Auto is sitting on a huge cash balance, which can help it buy technology and develop new models, while Hero Honda is mainly dependent on Honda Motors for new technology. It's anybody's guess which strategy will prove to be better.