Hero MotoCorp - Sell

When we recommended a ‘buy’ on Hero MotoCorp at Rs 2,084 in July 2012, we expected the company to benefit from a shift in customer preferences towards entry-level bikes amidst a slowdown in two-wheeler sales. After all, persistent inflation, rising petrol prices and high financing costs meant that such bikes could be lighter on customer wallets. But that was not how things turned out. With the company earning almost half of its revenues from the rural markets, lower disposable income among rural customers affected demand for its entry-bikes.

Secondly, going by the industry sales numbers so far, challenges such as high interest rates and fuel prices seem to have prompted aspirants of higher category bikes to settle for the middle-of-the-road bikes (110-125cc) rather than the entry-level ones (75-110cc).

Moving ahead, a reversal in the auto industry fortunes in the medium term could boost volumes. But even then, Hero is not on a strong wicket. The company is facing stiff competition form Honda and Bajaj Auto in its bread-and-butter entry segment. This apart, Hero continues to lose market share to its erstwhile partner Honda. Considering these dampeners to its prospects, Hero’s valuations seem a tad expensive at 16 times its estimated earnings for FY13 (although it is still at a discount to Bajaj Auto). Hence, existing investors can consider exiting the stock at this juncture.

Weakened position

Despite launches, Hero is facing tough times. In the current slowdown battering the auto sector, industry volumes for bikes in the 75-110cc category dipped by 2 per cent in April-November 2012-13, compared with the same period last year.

The launch of the new Passion X Pro notwithstanding, Hero MotoCorp’s volumes (Dawn, Deluxe, Splendor, Passion) dropped by 6 per cent in the same period. However, Honda defied the trend, gaining volumes.

Though this can partly be attributable to its lower base last year, the introduction of the Dream Yuga, offering the best in class mileage in this segment, has helped Honda. Bajaj Auto too recorded a growth in volumes in this segment.

The recent launch of the Discover 100T by Bajaj may further dent demand for Hero.

Two, the value/deluxe segment (110-125cc) evinced consumer interest this year. High interest rates and fuel prices could have prompted aspirants of premium bikes to settle for this category, as they offer good value for money. Hero did make hay from this trend by launching the Ignitor.

However, TVS and Suzuki have also had successful launches such as the Phoenix and Hayate in this segment. Moreover, despite only a refreshed model of the Shine and no fresh offerings, Honda (Shine, Stunner/Fi) managed to grow its volumes by 50 per cent in the first eight months of this year. Honda and Hero now have an equal share (about one-third each) of the market for deluxe bikes.

Scooters no exception

The rising challenge for Hero is present in scooters too. While Honda has always remained the market leader in this segment, 2010-11 saw the company ceding market share to TVS and Hero.

But that remained short-lived. From 43 per cent then, Honda’s market share in scooters has moved up to 49 per cent now.

On the other hand, Hero’s share remains stagnant at 16-17 per cent. With the launch of the Maestro in 2012, Hero has overtaken TVS to become the second largest player in this space. But competition is heating up.

With scooters proving to be a good counter to the slowdown in bike sales, companies are vying with each other to cash in on this trend.

Several launches in the last one year, such as the Vespa from Piaggio, the Yamaha Ray, Suzuki Swish are testimony to this. Whether Hero can hold its ground remains to be seen.

Overall, Honda’s aggressive marketing after the split with Hero has weakened Hero’s dominance in the two-wheeler space, be it bikes or scooters.

While Honda’s market share has moved up from 15 per cent in 2011- 2012 to 19 per cent this year (April-November 2012), Hero’s has come down by 3 percentage points to 42 per cent during the same period. With Honda planning to make India its biggest market for the two-wheeler business, the onslaught is expected to continue.

Financials

The slowdown in the industry has impacted sales and profit growth for the company. For the half year ended September 2012, Hero’s net sales dropped by about one per cent year-on-year to Rs 11,359 crore. Net profits fell by 9 per cent to Rs 1,057 crore. Operating margins stood flat at about 16 per cent.

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