We expect two-wheeler sector volume to sustain its current momentum over FY10-12, led by strong domestic demand and recovery in exports. Among two-wheeler companies, we prefer Bajaj Auto Ltd as we expect it to gain 500-600 basis points (bps) market share by FY12, while Hero Honda Motors Ltd and TVS Motor Co. Ltd are likely to lose market share.
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We expect a 14.9% compounded annual growth rate (CAGR) in two-wheeler volume over FY10-12 with Bajaj’s 22.1% CAGR outstripping the entire industry’s. Higher base and intense competition could lower Hero Honda’s CAGR to 12.1%. TVS may report 9.9% CAGR.
Higher raw material prices will temper operating margins. Growth in profitability could be driven by strong volume growth. We expect Bajaj to report 18.8% earnings per share (EPS) CAGR over FY10-12 against 13.9% for Hero Honda; TVS’ is likely to be 30.4%, but on a relatively lower base.
Among two-wheeler stocks, we prefer Bajaj Auto, given our view that it could report strong volume growth over FY09-12, gain 500-600 bps in the two-wheeler market share, and have a 41.3% EPS CAGR over the same period. Our new target price is Rs2,120. We expect Bajaj to record 24.4% CAGR in two-wheeler volume over FY09-12 (higher than our 16.2% estimate for the industry), owing to good domestic demand and recovery in exports. We estimate that Bajaj is likely to report 520 bps market share gain in two-wheelers and 610 bps in motorcycles by FY12 against FY09.
Given our renewed confidence in Bajaj’s market share gains, we return to our buy call and raise our target price to Rs2,120. We value the company at estimated 15x FY11 core EPS (Rs1,892) plus the value of cash and investments (Rs228).
While Hero Honda has reported good performance in the past two years, we estimate all the positives have been factored in. Hence, we recommend a sell on it. We expect Hero Honda to report a 14.4% volume CAGR over FY09-12.
But we raise earnings estimates to 4.4% and 6.1% for FY11 and FY12, respectively, to factor in higher volume growth. At current valuations of 16.5x estimated FY10 and 14.8x estimated FY11 earnings, the stock is fairly valued. We expect Hero Honda to record a lower earnings before interest, tax, depreciation and amortization margin in the second half of FY10 and FY11, on higher costs.
While we expect TVS Motors to record good growth in profitability, that is mainly due to a lower base, as TVS puts behind a legacy of compounded annual profit decline of 25% over FY04-09. Intense competition and a relatively weak motorcycle portfolio are hurdles.
We expect volume growth at a 10.2% CAGR over estimated FY09-12 for TVS. We expect a 230 bps market share loss by FY12 (over FY09) due to strong competition and weak presence in motorcycles. We estimate TVS’ motorcycles to record a lower 4.8% CAGR over FY09-12, compared with CAGRs of 16.4% and 12% for mopeds and scooters, respectively.
We raise earnings estimates by 85.9% and 105.2% for FY11 and FY12, respectively, to factor in higher volume growth and better operating performance. While its EPS CAGR is a robust 70.5% over FY09-12, we believe that the stock is fairly valued at its current price. Losses at its Indonesian operations and a portfolio tipped towards higher share of mopeds and scooters make the stock unattractive at current valuations.
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