Stock Review: BAJAJ AUTO

THE only disappointment in Bajaj Auto's otherwise impressive results for the September 2010 quarter was the impact of the rising input cost structure. As a result, the company's profit margin declined 150 basis points year-on-year to 20.7%, despite net sales showing an increase of 50.4% to 4,341.8. Bajaj Auto is the second-largest player in the motorcycle segment.

   Its realisations per unit rose 4.4% compared with a year ago, but that could not fully offset the higher cost of rubber-based inputs, and the strengthening metal prices. As a result, its adjusted raw material costs as a percentage of net sales increased 440 basis points to 67% in the September quarter compared with a year earlier.

   Buoyant sales of variants of its Pulsar and Discover models helped the company attain a market share of 34% in the motorcycle segment, a growth both on a sequential and year-on-year basis. Strong sales volume also helped the company's net profit improve by 69.3% to 682.1 crore compared with a year earlier.

   The company recently brought on stream additional production capacity at its Pantnagar plant in Uttarakhand, which would ease the supply constraints on its premium models, Pulsar and Discover. Also, tax breaks in the state and better realisations from these models should help Bajaj Auto to deal better with the rising cost structure, say analysts.

   Apart from raw material costs, analysts are increasingly worried about the growing competition in the motorcycle segment, with the recent entry of diversified player Mahindra & Mahindra. Also, Honda's probable exit from Hero Honda and its plans to scale up its presence in the motorcycle segment could further put pressure on margins in this segment.

   Bajaj Auto's stock fell marginally by 0.6% to 1,512.6 in a weak broader market on Tuesday but it is still not too far away from its 52-week high reached in early October. At these levels, its trailing 12 months P/E works out to be 19.2. Sector leader Hero Honda's stock trades at a P/E of around 16. The premium valuation of Bajaj Auto can be attributed to its superior operating margin compared with Hero Honda's. Going ahead, analysts expect strong sales momentum of the company to continue. However, its current valuations appear to have fully factored in the future incremental growth.