For Q4’09, Hero Honda Motors Limited (HHML) announced better-than-expected results.
While its top line surged 22.3% y-o-y to Rs. 34.1 billion, the adjusted net profit jumped 34.6% y-o-y to Rs4 billion.
A decline in raw material prices, coupled with increased contribution from Haridwar plant, which is entitled for 10 years of excise duty exemption, helped the company report an improvement in the operating margins.
The company registered a healthy 12.9% y-o-y growth in volumes as against ~5% y-o-y industry growth. The robust performance was largely attributed to the increased penetration in the rural areas.
During the quarter, HHML witnessed a jump in net price realizations, up 8.4% y-o-y to Rs 34,192 per unit, mainly on account of increasing contribution from its Haridwar plant.
It enjoys 100% excise exemption for the first 10 years, and 100% income tax exemption for the first 5 years from this plant.
Going forward, HHML is planning to increase its production from the new plant (around 1.2mn per year by FY10), which is clearly going to reduce both the excise duty and the income taxes.
We do not expect the Company to completely pass on these benefits to the consumers and hence expect an improvement in net price realizations, which should lead to a further improvement in operating margins.
Accordingly we estimate that HHML will be able to maintain its EBITDA margin around 15.8% and 16% for FY10E and FY11E, respectively.
Outlook and valuation
We have revised our estimates for the company based on its robust performance during FY09.
Though, our estimates on the volume growth remains intact (~6% growth for FY10), we believe that HHML will be able to maintain its operating margins around 5.8% and 16% for FY10E and FY11E, respectively, primarily driven by higher net price realisations.
Accordingly, we expect the company’s EPS to be nearly Rs. 81.5 and Rs. 88.7 for FY10E and FY11E, respectively.
At Rs1,191.8, the stock is trading at a forward P/E of 14.6x and 13.4x for FY10E and FY11E, respectively.
We have used the Discounted Cash Flow (DCF) method of valuation, assuming a 11.8% WACC and a 5% terminal growth rate. Our valuation suggests a target price of Rs. 1,143, which represents a mere 4.1% downside from the CMP.
Hence, 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.