Aided by weak commodity prices and some recovery in pricing power, the Indian auto OEM industry posted a decade-high gross margin, notes CLSA.
However, Abhijeet Naik and Nitij Mangal of CLSA in their August 27, 2015 research report on “Indian Autos” point out that in two-wheelers, Ebitda margins are still below their previous peaks.
Indian auto OEM's gross margins will rise higher
Naik and Mangal point out that in 1QFY16, the Indian auto industry’s gross margin at 30% was at the highest level in the last 10 years. The analysts reckon the improvement has been primarily driven by two factors, viz.: benefits of weaker commodity prices have started to flow through and pricing power has started to improve with incrementally better demand environment, mainly in 4-wheelers:
The CLSA analysts point out that Maruti and Ashok Leyland have benefited the most with their 1Q gross margins well above previous peaks, while gross margins of Hero Honda, M&M and Tata Motors (India) are still slightly lower than the previous peaks:
Turning their focus in the 2-wheeler space, the analysts note Bajaj Auto’s gross margin was at a decade-high level, while Hero and TVS’s margins are still below their previous peaks:
Focusing on Ebitda margins, Naik and Mangal point out that auto OEM industry’s Ebitda margin has also improved, though is still below FY10 peak level:
The analysts argue the industry couldn’t scale its FY10 peak due to higher fixed costs to sales ratio partly eating away at the benefits of the better gross margin.
Of note, staff and other costs as a percentage of sales are close to decade-high levels for the industry, as a long demand downturn has resulted in operating leverage playing against most companies. The analysts believe the current demand recovery in 4Ws is still in its early days.
The CLSA analysts point out that Maruti’s 1Q Ebitda margin at 16.3% is well above the FY07 peak, while 1Q margins of other OEMs are still below their previous peaks:
Scope for improvement in margins at auto companies
Naik and Mangal anticipate a further expansion in gross margins as the full benefit of weaker commodity prices comes through in the coming quarters. The analysts also believe improving demand should also result in better pricing power, which should boost gross margins as well.
Going forward, they project the fixed costs to sales ratio to also come off as demand recovers and operating leverage benefits flow through.
On the whole, most auto companies are likely to witness a further expansion in Ebitda margins over the next two years, and the analysts see potential for sector Ebitda margin to scale a new high as well.
However, striking a cautionary tone, the CLSA analysts point out these all-time high margins are unlikely to be sustainable over the long term, and should come off in the next demand downturn or when competition rises sharply. However, the analysts believe margins could stay at elevated levels through FY16 and FY17.
They maintained their preference for 4-wheeler over 2-wheeler companies, with Maruti, Tata Motors and M&M as their top BUY picks.
The post Indian Auto OEM Industry’s Gross Margin At Decade High: CLSA appeared first on ValueWalk.
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