Bajaj Auto. Why you should accumulate Bajaj Auto

Though the worst of the auto slowdown seems to be behind us, domestic auto sales may take some time to recover. In this context, Bajaj Auto, which gets a chunk of its revenues from the international markets, is in a relatively comfortable position. Exports bring in higher margins than domestic sales on account of greater pricing power for the company in this segment. A stable business outlook for its international market places Bajaj Auto in a sweet spot. The company will begin to fire on all cylinders once domestic two-wheeler sales pick up. While the transition to BS VI emission from April 1, 2020 domestically is delaying recovery, good monsoon, higher rabi sowing, rise in crop prices and the RBI move to cut CRR requirements to make consumer/auto loans cheaper indicate that sales may pick up sooner than later. Bajaj Auto has consciously increased its market share in the entry segment bikes over the past two years, which will help benefit from a recovery in rural markets. Its strong positioning of the Pulsar brand across executive and premium segments will also stand the company in good stead.

The stock currently trades at about 15 times its trailing 12- month earnings, in comparison with peer Hero MotoCorp’s 11 times. However, the valuation is still lower than Bajaj Auto’s own three-year average valuation of 20 times. Given the recent bout of volatility in the market, the stock has corrected 11 per cent since February 20. This correction is a good entry point for long-term investors.

Promising export outlook

Bajaj Auto derives about 40 per cent of its revenues from exports of two- and three-wheelers. In the first 10 months of 2019, while domestic two- and three-wheeler sales showed a 13 per cent drop in volumes year-on-year, the company has seen overall export volumes grow by 5 per cent, driven by a 10 per cent growth in motorcycle exports. Overall export volumes could have been higher for the nine-month period, but for the dampener in three-wheeler sales in Egypt — a big market where it usually sells about 10,000 units a month. The move by the Egyptian government to regularise the three-wheeler industry and issue licence plates affected demand. However, Egypt is now in recovery mode, with the company beginning to sell 3,000-4,000 units a month. The company’s expansion into Iraq, the Philippines and Cambodia for three-wheelers is expected to work well over the medium term. . On the motorcycles front, two key markets of Nigeria and East Africa, along with others such as Egypt and the Philippines have been putting up a steady show in the past few quarters. Although the two-wheeler industry in Latin America is facing demand cooling off, the company continues to do better than the industry in this geography, gaining market share. The good run in motorcycle exports thus is expected to continue.

Bajaj Auto’s export demand is unlikely to be hit hard due to the coronavirus scare as it predominantly exports to the African markets. The company also does not source components or materials majorly from China.

Domestic strategy

In the past two years, Bajaj Auto has focused on improving volumes in the entry segment bikes. An aggressive pricing to gain volumes and market share in this segment — in which Hero MotoCorp is the market leader — has helped the company navigate the slowdown to an extent. The company’s market share in the 75-110 cc segment stands at about 17. 7 per cent now, higher than 17.1 per cent as of March 31, 2019 and a big jump from 12.8 per cent in 2017-18. The 110-125 cc and 125-150 cc segments have also seen market share gains. The company’s strategy to attract customers by introducing variants of existing bikes at incremental engine capacity and price points such as the CT110, Platina 110 H and Pulsar 125 has helped. With its strong positioning in premium bikes (150 cc and above), as well as strategies to attract the lower end of the market, the company is well-placed to ride on a recovery in domestic sales.

Financials

For the quarter ended December 2019, though total volumes dropped by 4.5 per cent year-on-year, the company managed to show a 2.6 per cent growth in revenues to ₹7,436 crore. A 7.5 per cent growth in average realisations helped the topline. The company also benefitted from the depreciation in rupee on the export front. Average realisation per US dollar was ₹71.3 in Q3FY20 against ₹68.5 in Q3FY19.

Operating margins expanded by 150 basis points year-on-year to 17.8 per cent, helped by lower input costs and better product mix. Thanks to the reduction in corporate tax rates, tax as a percentage of profits stood at 24.5 per cent, compared with 29.3 per cent last year. Higher operating margins and lower tax outgo aided the company clock a 14.5 per cent growth in net profit to ₹1,261 crore over the December 2018 quarter.

Margins have improved in recent times, thanks to better product mix. Going forward, though commodity prices have corrected due to fresh scare of a slowdown from the impact of coronavirus, BS VI requirements may shoot up costs. However, price hikes may help margins. Bajaj Auto has commenced despatch of BS VI motorcycles to its dealerships and has already taken price hikes of between ₹6,000 and ₹10,000 across its BS VI motorcycle portfolio.

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