Broker's call: Ashok Leyland (Buy)

Target: ₹143

CMP: ₹123.35

Ashok Leyland’s Q4-FY21 operating performance beat consensus estimates as EBITDA margin came in at 7.6 per cent. This was driven by driven tighter control on fixed costs, strong operating leverage even as gross margins shrunk (nearly 248 bps Q-o-Q to 23.1 per cent) due to high input cost pressures.

Key industry monitorables: Pace of recovery of economic activity and capex trends in key segments (e.g. infrastructure); used vehicle demand/pricing trends; and trends in freight rates.

We estimate Ashok Leyland's volumes to rebound at about 29 per cent CAGR FY21-FY23 driven by M&HCV revival coupled with market share gains in LCV segments. Improved asset utilisation and rising margins is likely to aid healthy FCF generation (about ₹2,200 crore cumulative FCF in FY22E/23).

CV segment has been in a downcycle since FY18 and Ashok Leyland, with nearly 60-70 per cent revenue contribution from M&HCVs, is likely to benefit from the upcoming demand upcycle. GOI’s infrastructure push along with strong demand from mining sector is expected to drive HCV demand (about 35-40 per cent CAGR FY21-FY23).

Ashok Leyland has used the downcycle as an opportunity to remodel its portfolio towards next-gen platforms with the launch of a unique AVTR platform for trucks and bring in new LCVs (e.g. Bada Dost).

The new LCV range would help it bridge the existing product gaps (3-3.5T) and increase its addressable market to about 65-70 per cent.

Ashok Leyland remains a good proxy play to a cyclical recovery in autos. Valuations have turned reasonable (FY23: FCF yield: 6 per cent/ EV/EBITDA: 12x). We value the core business at 14x (unchanged) FY23 EV/EBITDA on the improving CV cycle outlook and add ₹6/share (earlier: ₹7/share) for investments to arrive at an SoTP-based target price of ₹143 (earlier: ₹132).