Results surprise the Street; we continue to prefer Bajaj within the auto sector: Bajaj (target price: R1,750) remains our top pick in the Indian auto sector. The first quarter of FY13 results beat consensus and were broadly in line with our forecasts. The decline in Ebitda (earnings before interest, taxes, depreciation, and amortisation) margins (-180bps q-o-q to 17.9%) was largely on expected lines and management commentary indicated a bottoming of market share and profitability. While industry volume trends have softened, we believe Bajaj's revenue mix will likely improve in Q2FY13 as exports stabilise and new models ramp up volumes. The stock currently trades at 14x FY13e (estimates) EPS (earnings per share)– a 16% discount to Hero. We maintain our Buy rating.
Management commentary suggests inventory build-up for competition: Bajaj indicated that its retail motorcycle market share is stable. This is contrary to the market share data based on wholesale sales implying an inventory buildup by Hero. Domestic motorcycle volumes (wholesale) grew 7% in Q1FY13 compared to -1% for Bajaj and 7% for Hero. On exports, Bajaj lost 45k (2W+3W) volumes due to import barriers in Sri Lanka and disruptions in Egypt. The company expects volumes to normalise by end-Q2FY13. Our forecasts imply 8.5% growth for Bajaj for the remainder of FY13e.
We expect Bajaj to maintain the margin gap with Hero (Q1FY13 result on July 19): We believe Bajaj is likely to continue surprising on margins even though volume momentum may lag peers. Bajaj has maintained a 700bps Ebit (earnings before interest and taxes), margin gap with Hero over the last two years and we expect this to sustain in FY13e. We forecast Hero’s Ebit margins to decline 30bps to 10.4% —680bps lower than Bajaj (17.2%). However, we believe Bajaj’s better margin performance is not reflected in current valuations (P/E of 14x FY13e vs. 16.5x for Hero) and in the relative underperformance (7% vs. Hero over three months).
Key risks: continued slowdown in export volumes and a price war in the domestic market. Bajaj has underperformed Hero by 13% YTD (year-to-date) and 7% over the last three months and is currently trading at a 16% discount. We also note that the market has ignored Bajaj’s higher profit growth trajectory over the last three years. While Bajaj’s quarterly profit run-rate has doubled over the last three years, Hero’s profits have increased by only 20%.
