As OEMs brace for second consecutive year of (sharp) volume deceleration, we find these businesses resilient. This is reflected in higher or similar cash per share (as % of price) compared to GFC, despite a shallower price drop. Our bedrock analysis also indicates that even after 30-65% volume fall (from FY19 peak) and profit dip of 50-100%, OEMs can be FCF neutral. Since more clarity has emerged on the extent of COVID-19 impact. Hence we are in process of re-evaluating our forecasts. We believe FY21 will remain volatile, with any normalcy only in FY22. The recent sharp run-up in stock prices reflects part of the business resiliency. In such an environment, we favour businesses that address utility over aspiration, have a product cycle and availability of finance tailwind & valuation support. Our top picks remain Eicher Motors (EIM), Hero MotoCorp (HMCL) and Tata Motors (TTMT). Since the aforementioned note, they have returned ~-3%, ~25%, and ~22%, respectively, compared with ~12% for S&P BSE Auto.
Edifice remains sound
Despite a shallower price correction than GFC, the cash per share (% of price) across OEMs is similar or higher (table 1). Maruti Suzuki (MSIL) and HMCL hold a more than 20% of their market caps in cash (similar to GFC). Bajaj Auto’s (BJAUT) cash per share of 32% now (~-12% in 2009) reflects the sharp improvement in its overall performance. TTMT and Ashok Leyland (ALL), which have yet to create a cash pile, are still in a better position compared to GFC. Both have taken steps to strengthen their underlying businesses by diversifying products & mix and keeping a tight leash on cost and capex.
Breakeven analysis further demonstrates resilience
We compared our current assumptions with a bedrock scenario, i.e., breakeven volume levels to remain FCF neutral (30–65% volume contraction from peak). This assumes: i) Commodity benefits are retained. ii) Benefit of cost-saving measures initiated due to ongoing pre-COVID-19 slowdown . and iii) Reduction in staff cost and a benign cost environment.
Top picks: First among equals
EIM: Our channel checks indicate that 80-85% of its usage is utilitarian. A strong product tailwind is expected to spur replacement demand. Also, the rate of interest for RE customers is 3-4% higher than for other two wheelers (2W). Besides, current valuations (significantly below its five year average, its peak and relative to its peers) and robust cash per share provide a downside cushion.
HMhttps://www.heromotocorp.com/en-in/CL: Besides a strong balance sheet, HMCL also has the advantage of strong rural exposure (50% of volumes) and ~5% dividend yield.
TTMT: JLR has a strong product tailwind. We also expect a strong stimulus for the sector in the developed world given its utilitarian nature and being a key contributor to the economy. Valuation factors in all the risks san bankruptcy.