The Hindu Business Line : Hero Honda: Hold

Challenged by interest rate scenario
Favoured by shifting consumer preferences
Margins to witness pressure
A favourable product mix, planned launches and tax benefits from the Uttarakhand plant will positively impact Hero Honda’s earnings in the medium term.

Mr Brijmohan Lall Munjal (left), Chairman, and Mr Pawan Munjal, MD and CEO…Launches such as the Hunk have fuelled growth.

Parvatha Vardhini C

Hero Honda is one of the better-positioned players in the two-wheeler industry. In a lacklustre year (April 07-March 08), the company managed to hold its ground, recording flat volumes compared to the year before. Aided by better realisations from the sale of high-end bikes, sales in value terms grew 13 per cent in 07-08.

Other two-wheeler majors, Bajaj and TVS, have seen a fall of about 19 per cent in volumes during this period. Shareholders can continue to hold the stock.

A favourable product mix, planned launches/model variants and tax benefits from the Uttarakhand plant will positively impact Hero Honda’s earnings in the medium-term.

But rising raw material prices, competition in the executive segment and a subdued outlook for the industry imply that fresh exposures need not be considered at this point in time. The stock too has run up sharply from its 52-week low of Rs 561 in January and is no longer cheap. At the current market price of Rs 847, it trades at around 15 times the estimated FY-09 earnings.

Higher-end models sell better

In a year marked by stiff interest rates and tight availability of finance, the company’s sales in the rate-sensitive entry and entry-premium segments of the bike market fell by about three per cent. At the same time, sales in the higher-end segments (125 cc and above) grew by a robust 67 per cent, though on a smaller base of about 1.06 lakh bikes last year.

Launches like the CBZ Extreme in the previous year and the 150 cc Hunk and variants of the Super Splendour and Glamour introduced this year have fuelled growth. This is reflective of the industry trends, with this segment clocking a 14 per cent growth while the lower-end bikes saw a 18 per cent shrinkage in sales last year. This trend marks an interesting shift in customer preferences for motorcycles, from ‘economy’ and ‘value for money’ to ‘style’ and ‘sophistication’, thanks to higher disposable incomes.

Competition heats up

While the above shift augurs well for the company’s realisations, competitors too are fast catching up. Given the weakening consumer interest in the entry-level segment and the fact that margins in the entry segment are not attractive,

Hero Honda’s dominance (approximately 70 per cent market share) in the entry-premium and executive segments is likely to be challenged by Bajaj and TVS over the next few years.

Bajaj has already launched the XCD, claiming to have identified the next trend — a 125cc bike with features of a premium bike and performance of a 125 cc engine, but at entry-level prices.

The battle would heat up further with the launch of the 125cc Flame from TVS and other planned launches in the executive segment. As a counter to this, Hero Honda plans to launch six new models in the next two years; but the fight for market share will certainly hot up.

As a consequence, higher promotion/marketing expenses, royalty payments to Honda and price reductions to boost volumes (given the industry scenario) may keep margins under pressure.

Fourth quarter results

In the March 2008 quarter, net sales grew 2.9 per cent year-on-year to reach Rs 2,743 crore. Growth was aided by an equal increase in realisations, with volumes remaining flat. Operating margins too improved by 2.6 percentage points and stood at 13.9 per cent in the same period, partly helped by relatively stable prices of raw materials such as aluminium and nickel.

Higher realisations and cost-control initiatives also saw net profits jump by 31 per cent over the same period last year. But spiralling costs of steel and hardening aluminium prices since January 08 may increase raw material costs for the company over the coming quarters.

Uttarakhand Plant

What brightens the margin outlook for the medium term is the 100 per cent income tax (for five years) and 100 per cent excise (for 10 years) exemption available at the Uttarakhand plant, which commenced operations in April. The company plans to shift production of its high-margin products (read executive and premium bikes) to this facility, to get the maximum benefit.

As for the surplus capacity that may remain in its two plants at Dharuhera and Gurgaon, as a result of this shift in production, the company is considering utilising this to make components and export motorcycle kits. The earnings contribution from this venture, if undertaken, remains to be seen.

More Stories on : Two/Three Wheelers | Stocks | Recommendation | Hero Honda Motors Ltd

Article E-Mail :: Comment :: Syndication :: Printer Friendly Page

Stories in this Section
AIA Engineering: Buy

DSPML Balanced Fund: Invest

HDFC Top 200: Invest

Hero Honda: Hold

ABB: Buy

Titan Industries: Buy

New venue for investors

No, for now, to a new house

Index Outlook