Icra optimistic on Ashok Leyland this year; revises rating to stable

Around 80% of the company's revenue is from the cyclical CV segment

Ratings agency Icra has revised upwards its long-term assessment for commercial vehicle (CV) maker Ashok Leyland. The rating was revised from AA (positive) to AA+(Stable), while the short-term rating was reaffirmed at A1-Plus. Icra pointed to sustained improvement in Leyland’s credit profile in the three-year period ending 2018-19. The rationale included strong volume growth in medium and heavy CVs (M&HCV), with 10 per cent compound annual growth in those three years, stable market share at 34 per cent, improving profitability and scale economies, increasing skew towards higher tonnage vehicles, various cost control initiatives, healthy liquidity and robust debt protection metrics, said its report. 

It expects Leyland's volume growth in the current financial year to be supported by strong pre-buying ahead of the change to the higher BS-VI vehicle emission norms. However, domestic  M&HCV demand is likely to be subdued in the first quarter, for stated reasons. Sustained replacement-led demand from state transport undertakings and public transport segments shall support the bus sales, says ICRA.

Around 80 per cent of the company's revenue is from the cyclical CV segment. The rest is from sale of spare parts, defence kits and engines. ICRA says the skew towards CVs exposes earnings to any sharp demand slowdown, as the industry is closely linked to economic development, industrial growth, investments in infrastructure and regulatory changes such as emission norms, scrappage policy, etc. 

Volatile freight rates, which depend on economic growth, also impact the viability of fleet operators and hence the demand for new CVs. More, the segment is characterised by intense competition and pricing pressure.

However, Leyland had sustained its market share in recent years and plans to launch more vehicles under a new platform in the next 12-18 months, says the rating agency.

"ICRA believes Leyland's financial profile will remain healthy, supported by stable demand outlook for the M&HCV and light CV (LCV) segments. The outlook may be revised to Positive with sustained growth in earnings, diversification of revenue base to counter cyclicality and comfortable debt protection metrics (both standalone and consolidated). The outlook may be revised to Negative with any sharp deterioration in the financial profile (both standalone and consolidated) due to weak earnings or large debt-funded capital expenditure," added the report.

With 89 per cent and 86 per cent of consolidated revenue and net profit, respectively, from its standalone operations in 2017-18, growth in the standalone credit profile and improvement in the performance of key investee entities, supported the consolidated credit profile. The report also points to the operational record, experienced leadership, diversified board profile, product and brand recalls, technological capability, network and financial flexibility with its lenders.  

The report observes Leyland reported 13.2 per cent growth in M&HCV domestic sales in FY19, after 13.9 per cent growth in FY18. Supported by underlying demand from core industries, pick-up in construction activity and pent demand after transition to the Goods and Service Tax. The company's truck sales grew 12.4 per cent in FY9; the industry's growth of 15.3 per cent. 

The growth was strong till October, seventh month of that financial year, but then saw a decline in truck sales from a tightened financing environment, surplus capacity created through revised axle norms and viability pressure for small fleet operators because of higher fuel costs and weak freight rates. In the bus segment, the companyL reported 19.1 per cent volume growth, as against industry growth of 9.7 per cent. Aided by higher order flows from state road transport undertakings and stable demand from schools, colleges and the staff carrier segment.

In the LCV segment, there was strong recovery in demand in FY18 and FY19, driven by replacement, consumption-driven sectors and increased requirement of small vehicles for last-mile logistics by the e-commerce sector. Also, favourable monsoons and demand from the construction segment.

Export was down from higher growth in FY18, due to weaker demand from Sri Lanka, Bangladesh and West Asia. While growth in export depends on demand recovery in key markets, the company's entry into newer ones and launch of new products under a new platform is a positive.

"While capital expenditure and investments (in group entities) are expected in the range of Rs 1,500-1,700 crore in FY20, the extent of debt funding shall be minimal. The company's consolidated profile improved in the past three years (ending FY18), aided by strong performance of standalone operations and turnaround in key investee entities (LCV-related subsidiaries Optare, Albonair, etc) as reflected by sharp improvement in cash accrual and net debt turning negative," added the report.