Hero Honda Motors Limited (HHML) maintained its undisputed leadership by reporting a mere 4% decline in volumes as against the industry average of a 9.9% dip.
Though the paucity of retail finance pressurised the two-wheeler market, HHML continued its robust performance on the back of increased penetration in the rural areas, where the majority of sales are on cash basis.
Therefore, with only 30–40% of sales dependent on loan financing, HHML performed better than peers such as Bajaj Auto and TVS Motors.
Further, the company increased its EBITDA margin to 14.5% even in a tough market environment, led by cost rationalization, improved realizations, and the softening of commodity prices.
We expect the volume to grow by ~10% in FY09 and by ~7% in FY10. With the government announcing various stimulus packages to revive the economy and the interest rates and CENVAT declining by ~1.5% and 4%, respectively, we expect Hero Honda to increase its sales volume.
In addition, the Company’s increased rural focus and new models in the offing are expected to keep the growth story intact.
We have revised our estimates for the company based on its robust performance during the nine months ended December 2008.
Though our FY09 estimate remains intact at ~10% volume growth, we have upgraded our FY10 growth estimate from ~5% to ~7%.
In addition, looking at the operational efficiency of the cmpany and given the fall in commodity prices, we expect its EBITDA margin for FY09 and FY10 to be ~14% and 16% as against our previous estimate of ~13% and ~14%, respectively.
Thus, we expect the EPS to be nearly Rs63 and Rs76.2 for FY09 and FY10, respectively.
At Rs885.05, the stock is trading at a forward P/E of 14x and 11.6x for FY09E and FY10E, respectively.
We have used the Discounted Cash Flow (DCF) method of valuation, assuming a 13% WACC and a 5% terminal growth rate. Our valuation suggests a target price of Rs. 845, which represents a mere 5% downside from Rs885.05.
We believe that the stock is fairly valued and reiterate our HOLD rating. As the DCF valuation is sensitive to the changes in the WACC and the terminal growth rate, we have performed a sensitivity analysis for the same.