Stock Review: Bajaj Auto

 

Bajaj Auto has managed to deal with higher input costs. With its new variants, it is well positioned for a long-term ride

 

   BAJAJ Auto, the country's second largest two-wheeler maker, has benefited from a strong demand condition for its models on robust consumer spending. Its focus on higher margin models like Discover and Pulsar has enabled it to deal better with rising input costs vis-à-vis its peers. Further, the company is the leader in the high-margin three-wheelers segment, including auto rickshaws. Bajaj Auto's focus on higher margin models has enabled it to enjoy superior operating margin compared to its rivals (view table). Bajaj Auto's strong brand recognition and recent capacity expansion will help it take advantage of opportunities in its product segments over the medium term.

PRODUCTS REPERTOIRE:

Bajaj Auto is present across different segments of the motorcycle market, such as 75-125 cc and 125-250 cc. Its key brands for the motorcycle market are the Discover (75 –125 cc) and Pulsar (125-250 cc). These two models and their variants accounted for a large portion of its nearly 18 lakh domestic motorcycle sales in the first nine months ended December 2010. The company's motorcycle exports also grew 34% to 7.53 lakh units during the period.

   Bajaj Auto has recently ramped up its capacity at Pantnagar, Uttaranchal, by 0.3 million units to 1.5 million units. It will further add 0.3 million units. The benefit of increased output would be visible over the next few quarters. In the threewheeler segment, it has a significant presence in export markets like Indonesia, Egypt coupled with booming demand in local markets. The company's total unit sales (two- and threewheelers) stood at 2.9 million units, during the first nine months ended December 31, 2010, a rise of 40.7% year-on-year.
   Hero Honda offers models like Passion and Splendor in the 75-125 cc segment. Hero Honda also has Ambition and CBX models for the 125 cc plus segment.
   It sold nearly 3.95 million units during the first nine of this fiscal, a rise of 15.5% compared to a year earlier. Bajaj Auto's unit sales grew at 7.9% to 2.85 million during this period.

FINANCIAL PERFORMANCE:

Bajaj Auto's operating profit margin fell 170 basis points year-on-year to 20.4% in the third quarter, despite a 26.8% rise in its net sales to 4,177.1 crore in the quarter. The company's realisations per vehicle grew nearly 8.3% compared to a year earlier, but that was not adequate to cover higher costs of metals and rubber based inputs.

   Raw material costs as a percentage of net sales in the quarter had risen 260 bps compared to a year earlier to 67.6%. However, a 17% rise in sales and tight check on other costs helped the company's net profit grow 40.4% year-on-year to 667.1 crore in the third quarter.

   During the trailing 12 months ended December 31, 2010, the company has been able to balance effectively strong growth opportunities at a time when input prices are rising. For instance, during this period, Bajaj Auto's net sales grew at 51.9% to 15,808 crore over the same period year ago, while its operating margins grew 250 basis points to 20.6%.

   In contrast, Hero Honda's net sales grew 19.5% year-on-year to 18,132 crore during this period, while operating profit margin declined 390 bps to 13.3%.

INVESTOR CONCERNS:    

Key inputs, such as steel and non-ferrous products, have shown a pronounced upward trend. Besides, auto loan rates have risen and that could be a speed-breaker for sales growth for the broader auto sector.

   Players like Bajaj Auto have undertaken productivity improvement measures, coupled with price hikes in early January 2010, but it remains to be seen if they fully offset higher input costs in short term. However, the company is strengthening its dealer network in rural areas and that should help it expand its client base and sustain its sales growth over the medium term.

VALUATIONS :

Bajaj Auto trades at a P/E of nearly 15.6 times on a trailing four-quarter basis, while Hero Honda trades at a P/E of 14.4 times. Smaller rival TVS Motor trades at a P/E of 12 times. However, given the superior margins and growth prospects for Bajaj Auto over the medium-term, investors could consider this stock.