Increased competition, higher costs dent market share and profitability of Maruti as well as Hero Honda.
Volume growth for Maruti Suzuki and Hero Honda – market leaders in the passenger car and two wheeler segments, respectively – may continue to impress many, but poor June quarter numbers have resulted in the two scrips losing 6-11 per cent over the last one week. What has made it worse is the steep rise in raw material costs for Hero Honda and royalty payments for Maruti Suzuki in the June quarter.
In addition, analysts are worried about increasing competition and the steady loss in market share over the last few quarters. They believe the two stocks will remain under pressure in the short- to medium-term.
| DROP IN EARNINGS | ||||
| FY12 Estimates | Maruti Suzuki | % chg* | Hero Honda | % chg* |
| Volumes (mn) | 1.30 | 1 | 5.830 | 260 |
| Ebitda margin (%) | 9.10 | -120 | 17.100 | -70 |
| EPS (Rs) | 83.00 | -1850 | 149.900 | -140 |
| P/E (x) | 14.60 |
– | ||
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Source: Nomura, Emkay
Short-term blips, but demand robust
Maruti Suzuki had a 43 per cent increase in royalty payments to its parent, leading to a 20 per cent year-on-year decline in net profits to Rs 465 crore for the June quarter, which the company reported last weekend. On Thursday, Hero Honda reported a 480-basis-point year-on-year jump in raw material costs which, coupled with higher costs of adopting new emission norms, led to a 300-basis-point fall in operating profit margins at 14 per cent.
Despite a sharp jump in raw material costs, the robust demand – which is evident from consistent volumes – has helped the two companies effect price increases. This is expected to alleviate the pressure on margins to an extent. Given this demand environment, both companies are now focusing on expanding capacities to maximise volumes and gain from operating leverage.
Maruti Suzuki is expected to post a 16 per cent increase in volumes year-on-year to a million units for 2010-11, while Hero Honda – given its high base – is expected to grow about 10 per cent to reach a sales volume of 5.1 million units. Increased competition and raw material costs will be their toughest challenges in the future.
Maruti: Tough environment
The problem for Maruti is the jump in options available to the consumer in its bread-and-butter A2 segment, which accounts for about two-thirds of its sales volumes. Crisil Research believes, while the number of competitors in this space have doubled over the last five years to 11, the number of models in the same period have nearly tripled to 25.
Four compacts (Beat, Polo, Spark and Micra) have been launched at attractive price points over the last six months. In addition, a small car from each Honda and Toyota is expected in the next six-nine months. As expected, Maruti’s share has come down, but analysts believe it will also be tough for the competition to maintain their new launches' initial jump in sales.
They say Maruti is likely to hold on to its current 47 per cent share, though higher competition means that it will be circumspect about raising product prices. In an environment of rising costs, this could pose some problems for Maruti with margins getting squeezed further.
Hero Honda: The sub-125cc battle
Hero Honda has been losing market share over the last few quarters, largely due to competitive launches in the 100-125cc executive segment (90 per cent of sales volumes). While TVS Motors – which had launched the Jive (110cc) in November last year and Honda Motors its Twister (110cc) in January this year – has been doing well, it is Bajaj’s Discover 100cc (launched in July last year) that has made serious inroads into the market leader’s territory.
Since July last year, Hero Honda has seen its market share in this category fall from 84 per cent to 69 per cent in March this year. Analysts say Hero Honda is unlikely to yield its advantage so quickly and will launch a new bike in this category to wrest back the advantage.
Valuations
While analysts have revised Maruti’s earnings downwards to the tune of 20 per cent for 2010-11, Hero Honda, too, could face revisions, given margin pressures. While Maruti Suzuki is trading at 14 times 2011-12 earnings, Hero Honda is at 12 times.
Given the short-term negative news flow, await a dip in prices before taking exposure.
