After a difficult 2011, when labour issues compounded the impact of a slowing demand hurting top line and a sudden sharp rupee depreciation added to existing cost pressures on profitability, Maruti Suzuki is expected to see a significant improvement in the year ahead. Sales in February suggested volumes were normalising, led by robust sales in the compact car segment (which includes the Swift and the Swift Dzire). New launches, more diesel variants and falling interest rates are expected to fuel latent demand, which should boost sales in the next two years, starting from the second half of 2012-13, according to Spark Capital Research.
The key concern for the auto sector stems from lack of clarity on fuel price increases in the Union Budget and a possible one-time tax on diesel-powered passenger vehicles, which could range between Rs 20,000 and Rs 25,000, according to Surjit Arora, analyst at Prabhudas Lilladher. While an increase in fuel prices could hurt overall demand, analysts believe the quantum of the expected special diesel vehicle tax would have higher impact on diesel vehicle sales, making these even more expensive relative to petrol vehicles. The price premium for diesel cars varies between Rs 80,000 and Rs 1,00,000 within a similar size segment. However, diesel car sales have boomed because of the relative lower cost of ownership, given the lower cost of fuel (Rs 46 per litre on average versus Rs 72 per litre for petrol) and higher fuel efficiencies of 17-18 km per litre for diesel engines against 14-15 km per litre for petrol. It takes a little over a year to offset the difference, believes Arora, and a price rise would extend that time (by at least three to six months, which is not significant). With diesel car sales being largely incremental to volumes for Maruti, the impact of a one-time tax on diesel is unlikely to be major, with the overall demand sentiment being a crucial factor.
Improving volumes and earnings outlook have seen the stock rise 32 per cent in the last three months, including a five per cent rise after the release of February sales numbers. At Rs 1,310 levels, it trades at a fair valuation of 16 times consensus one-year forward earnings. While Maruti remains a top pick of analysts in the sector, given the stock’s rise, investors with a one- to two-year perspective could consider it on corrections.
Neutral to policy outcome
Maruti is at the crossroads while the sector awaits policy decisions. The potential fallout of a one-time tax on diesel vehicles is a shift in sales favouring relatively cheaper petrol-based vehicles, which could boost Maruti’s prospects. IIFL Research sees a potential shift from cheap diesel cars to Maruti’s petrol offerings, if this scenario plays out, reversing the earlier transition to entry-level diesel cars like Chevrolet Beat and Tata Indica.
Even if status quo is maintained, there are gains for Maruti. Continued robust demand for diesel vehicles will allow Maruti’s diesel line-up to boost volumes, which could be another growth lever, according to Spark Capital Research. The company has already seen strong demand for the diesel variants of Swift and Dzire, with both running long waiting periods (two to six months). It is expanding its diesel car production capacities with engines sourced from Fiat (in a three-year deal starting January, which should increase availability of diesel engines by 65 per cent with expanded Suzuki Powertrain capacity) and is expected to introduce diesel variants on other platforms to milk the evident opportunity.
| STRONG EARNINGS MOMENTUM | ||||
| In Rs crore | FY11A | FY12E | FY13E | FY14E |
| Volumes (units) | 1,271,005 | 1,117,853 | 1,315,050 | 1,476,021 |
| Y-o-Y change (%) | 24.8 | -12 | 17.6 | 12.2 |
| Revenues | 37,040 | 35,460 | 44,796 | 51,197 |
| Y-o-Y change (%) | 24.7 | -4.3 | 26.3 | 14.3 |
| Ebitda margins (%) | 10.1 | 7.2 | 10.0 | 10.7 |
| Reported PAT | 2,289 | 1477.0 | 2748.0 | 3410.0 |
| Pre-exceptional EPS (Rs ) | 80.9 | 51.1 | 95.1 | 118.0 |
| Y-o-Y change (%) | -6.4 | -36.8 | 86.1 | 24.1 |
| ROE (%) | 18.2 | 10.2 | 16.8 | 17.7 |
| E: Estimates Source: IIFL | ||||
An increase in fuel prices may, however, impact demand, but IIFL Research posits this may not be significant, as it would come after almost 10 months of relatively steady prices. It would be interesting to watch the impact of an expected two per cent rise in excise duties to 12 per cent on demand. A similar step in February 2010 was passed through on average and still saw car sales jump nearly 30 per cent, albeit in a strong economic environment. The impact of a pass-through is expected to be limited in the small car segment.
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Help from a strong rupee
Increased production is expected to drive operating leverage and boost margins, as will better realisation from higher diesel car sales and stable to lower input costs, with higher local vendor sourcing. With yen-based input costs equating to about 23 per cent of revenue, the rupee’s six per cent appreciation against the Japanese currency in the last three months will also ease margin pressures. Maruti saw a 100-basis point sequential impact on earnings before interest, taxes, depreciation, and amortisation (Ebitda) margins from the sharp rupee depreciation in the December quarter, which included lag effect (by a quarter) on indirect imports by vendors, direct imports and royalty payouts.
A one per cent appreciation of the rupee versus the yen boosts Ebitda margins by 20 basis points, according to IIFL Research, which expects margins to move closer to the historical 10 per cent levels in 2012-13 and a net earnings per share upside of 2.5 per cent at current exchange rates, after adjusting for lower export realisations. However, Spark Research flags the volatile currency environment as a key risk. The company has hedged its yen and euro direct forex exposure (in the March quarter), but its indirect yen and US dollar exposure (through vendor) is not hedged. Its 2012-13 forex exposure is also unhedged, according to Motilal Oswal Research. Thus, any sizeable depreciation in the rupee against the yen could play spoilsport.