Hero Honda is best placed among two wheeler makers to weather the macroeconomic turbulence and improve its market share going ahead.
After a disastrous FY08 when two wheeler sales fell for first time in two decades, things are looking better. The first five months of FY09 have seen a smart improvement with two wheeler sales moving up 13.4 per cent to 29.54 lakh units compared to the previous year, albeit on a lower base.
While numbers were good for all two wheeler makers, Hero Honda has led from the front with its sales volume jumping 19 per cent to 14.81 lakh units for the first five months of the current fiscal year.
If the current trend continues, analysts estimate that the company will top the 36 lakh unit mark for the year. What has caused this movement upwards for the two wheeler segment and for Hero Honda in particular?
While the high interest rates have dented the fortunes of other two wheeler players who get 50 per cent of their revenues from sales driven by credit (loans), Hero Honda’s lower dependence (just 15 per cent of total sales) and rising demand from rural markets, which contributes half of its sales, have helped it to give a stellar performance so far.
Analysts believe that a good monsoon and the launch of new models should keep the sales volume and revenues of the company robust for the rest of the year.
Improving market share
Although its sales improved, what must be worrying for Hero Honda is that the share of motorcycles in the two wheeler market in FY08 has shrunk from 83 per cent to just over 79 per cent for the first time in a decade.
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Higher interest rates have seen the price sensitive entry segment’s share of the overall market decline to 30 per cent from 36 per cent; the segment has seen a drop of 10 per cent in market share over the last two years.
The sharp dip in the share of the entry segment saw the executive bike share move up to 57 per cent from 52 per cent in FY07, despite a fall in volumes. The premium segment, which is the least affected by higher interest rates, saw a growth in volumes and market share. This segment has a 13 per cent share of the motorcycle volumes, up from 11.1 per cent in FY07.
Despite a decline in its volumes in the entry and executive segments by 6 per cent and 1.2 per cent for FY08, Hero Honda managed to improve its market share in the two segments to 36.6 per cent and 71.5 per cent, respectively due to weak competition.
In the premium segment, dominated by Bajaj Auto, it increased its share from 15 per cent to nearly 24 per cent, thanks to the launch of Hunk and higher sales of CBZ X-treme and Karizma.
While the company boasts of models such as CD Deluxe (97.2 cc) in the entry segment, Glamour (124cc), Splendor + (97.2 cc) and Passion Plus (97.2 cc) in the deluxe/executive segment and Hunk (150 cc), CBZ X-treme (156 cc) and Karizma (225 cc) in the premium segment, overall volume growth has largely come about due to the launch of the Splendor NXG bike and the Pleasure scooter.
Maintaining margins
Despite the high input costs (steel, aluminium, copper and rubber), the company managed to enhance its margins from 11.9 per cent to 13.1 per cent in FY08 by price increases, improving process efficiencies and supply chain rationalisation.
While double digit inflation and high interest rates might hamper sales, the company is pinning its hope on rural connect programme launched in December 2007, wherein it is planning to tap 23,000 villages with a population of around 5,000 each, tie-up with regional non-banking financial institutions and launch 11 new models over the next one year to do the trick.
Tax breaks on the Haridwar facility, which started production in April 2008 and the price hikes (about 3 per cent) in the last four months should enable the company to overcome the problem of higher raw material costs going forward.
Higher volumes from the Haridwar facility with an installed capacity of 500,000 (to be increased to a million units by the end of this year and 1.5 million thereon) will help bring down costs due to economies of scale. Post these expansions, the company will have a total annual capacity of 4.5 million units from its three manufacturing units.
| HEALTHY PROSPECTS | |||
| Rs crore | FY08 | FY09E | FY10E |
| Sales volume* | 33.37 | 35.71 | 39.28 |
| Net Sales | 10,332 | 11,365 | 12,615 |
| EBIDTA | 1,349 | 1,591 | 1,892 |
| Net Profit | 968 | 1,250 | 1,451 |
| EPS (Rs) | 48.50 | 59.00 | 63.00 |
| P/E (x) | 17.71 | 14.56 | 13.63 |
| E: Estimates * in lakh units | |||
Investment rationale
In FY08, the company has been able to double its cash flow from operating activities to Rs 1,211 crore due to better working capital management and lower capex. Effectively controlling the receivables and inventories (creditor days have increased to 37 from 28 in FY07) has helped it to work with negative working capital.
In the current fiscal, riding on a 16 per cent annual increase in turnover to Rs 2,890 crore and an EBIDTA margin of about 11.99 per cent, the company reported a 28 per cent rise in profit before tax of Rs 350.5 crore. Thanks to the tax benefits available at the Haridwar facility, a lower tax outgo (down 7.44 per cent) led to a jump of 44 per cent in the net profit to Rs 272.87 crore in Q1FY09.
While the long-term prospects due to rising disposable incomes and low penetration level of two wheelers look good, the short term outlook could improve if the decline in commodity prices holds and inflation starts tapering.
Risks for growth come in the form of credit availability and increase in financing cost, which could impact consumer spending in FY09. Though the stock (at Rs 859) has run up 35 per cent since mid-July and 9.5 per cent over the last fortnight, investors can look at buying the scrip at dips (Rs 800-Rs 825 levels) to reap decent returns over the next 12 months.