ALL's well

POUND WISE

A possible strategic partnership and ban on overloading could steer Ashok Leyland in the fast lane.

All's well for ALL (Ashok Leyland Ltd), well almost. The court ruling prohibiting overloading of trucks and continuing growth in commercial vehicle (CV) volumes have paved the way for further acceleration by truck and bus manufacturers.

While, on one hand, further competition is expected from Tata Motors (tie-up with Marco Polo for buses) and Force Motors (JV with Man AG for heavy trucks), Ashok Leyland is likely to rope in some strategic partner (via stake sale) for technological know-how.

Although opinions differ on the possible stake sale by the Hindujas in Ashok Leyland, the company is expected to look out for an established foreign company as a partner.

The ALL management has refused to comment on a possible stake sale to Volvo or any other entity. But, analysts feel that Volvo may want to have a presence in the lower-end CV segment in future, by acquiring a stake in an established player in India.

Emkay Share & Stock Brokers' Huzaifa Suratwala feels that Ashok Leyland will also gain in terms of more foreign markets in case it is able to form a tie-up with a foreign auto major.

Mukesh Kumar Agarwal of IL&FS Investsmart says, "Ashok Leyland is planning to develop second generation buses. It may want to tie up with some global player for R&D."

Industry watchers feel that the foreign tie-ups of Tata Motors and Force Motors could lead to a dent in the market share of Ashok Leyland. But, if the Hindujas sell some stake at a high price, say, Rs 60-70 a share, it could be a major trigger for the company and its stock price. 
 

INDUSTRY SALES TRENDS
No of vehicles	FY06	FY05	Change (%)
M&HCVs	207446	198506	4.50
LCVs	143237	119924	19.44
Source: Siam

The big picture
Agarwal says the ban on overloading has led to a sale of about 4,000-5,000 additional units in Q4 FY06. The high freight rates are another trigger for demand for trucks. Good demand is seen from STUs (state transport undertakings) for buses, going forward.

Analysts predict that this year could mean good growth for CVs on the back of good economic growth.

According to some recent numbers released by Society of Indian Automobile Manufacturers, the highest growth among all segments of the auto sector during April 2006 was witnessed in the medium & heavy commercial vehicles (M&HCVs) where sales jumped 84 per cent. Light commercial vehicles (LCVs) also performed well with a growth of 48.42 per cent.

Volume growth
The company has a capacity to manufacture 75,000 vehicles at present, which is expected to go up to 1,10,000 by FY08. A capex of Rs 600 crore is expected to be made for the same, of which Rs 350 crore could be in FY07.

Agarwal says the company plans to raise about $100-150 million for the same through FCCBs (foreign curreny convertible bonds). In FY06, the company sold about 61,000 units and has targeted volumes of 75,000 in FY07.

Suratwala adds that Q1 FY07 has seen good volumes so far, and the trend is expected to continue. The company has said its April 2007 sales have improved by over 47 per cent y-o-y.

Managing Director R Seshasayee expects a double-digit growth for the industry. The company's bus volumes have increased about 25 per cent in FY06, while those of M&HCVs increased eight per cent. With this trend, Ashok Leyland's current market share of 24 per cent is expected to increase to about 30 per cent in FY07.

Analysts say it currently commands over 40 per cent of the bus market and over 20 per cent of M&HCVs. The corresponding numbers for Tata Motors are about 52 per cent and 66 per cent.

Going forward, branded and customised completely built buses would contribute more to business, according to Suratwala. Ashok Leyland is also focusing on them.

The company has a small presence in LCVs at present. This segment offers great growth potential, even as it will have to face a competitor like Tata Motors that has made a major headway with its immensely popular small truck "� Ace.

Ashok Leyland's exports have been flat for some time now and accounted for 14 per cent of the bus volumes and 5.7 per cent of the M&HCV volumes in FY06. Even as the company has a strong presence in Sri Lanka and the Middle East, analysts do not see the export market to be as important for the company as the domestic market.

Related diversification
Ashok Leyland has got into engineering services through Ashley Design and Engineering Services (ADES), where it plans to draw from its strengths in terms of infrastructure and experience.

ADES has procured orders from overseas original equipment manufacturers tier-I companies for developing and validating vehicular designs and components.

Meanwhile, its Auto Components Group, which facilitates component sourcing from India, has commenced trading and has targeted a business of $100 million (Rs 450 crore) over the next three years.

Moreover, it is launching the Leyparts centres in the premises of large private transport operators. Leyparts is its brand of original spares and is a Rs 200 crore business, according to the company.

Temporary blips
Although the company posted 20.6 per cent growth in FY06 net profit to Rs 327.3 crore, its Q4 net profit dipped seven per cent y-o-y. Steel prices have been increasing for some time.

Moreover, interest costs for the company increased significantly in Q4 to Rs 9.8 crore, compared with a net inflow in the previous March quarter.

However, operating profit has risen 28 per cent during Q4. While Agarwal views the dip in net profit as a one-off case due to the fixed priced defence order, which led to a squeeze in margins, Suratwala feels that margins could remain strained as long as the raw material prices remain high. 
 

ASHOK LEYLAND
Rs crore	FY06	FY05	Change (%)
Net sales	5247.66	4181.90	25.49
Operating profit	540.07	422.85	27.72
OPM %	10.29	10.11	-
Net profit	327.32	271.41	20.60
EPS (Rs)	2.74	2.28	-
P/E 12 months trailing			17.8x

Ashok Leyland trades at 17.8x on the trailing 12-month earnings, while rival Tata Motors trades at 19.68x. Given that the valuation gap between the two stocks is bridged to a large extent, the stock performance in future would be largely driven by any news on the strategic sale.

According to analysts' estimates, at the prevailing market prices, Ashok Leyland and Tata Motors trade at 15.22x and 21.39x on the FY07E earnings of Rs 3.2 and Rs 45 respectively.