Things couldn’t probably get worse for India’s automobile firms.
They are facing significant pressures both on the demand side as well as on the cost front. Oil prices continue to soar and interest rates have also risen, and thanks to these two factors, the demand outlook for auto sales is far from rosy.
Besides, prices of commodities such as steel have continued to rise, putting immense pressure on profit margins.
It’s no wonder that auto stocks have continued to underperform the market this year, after having lagged by a huge margin in 2007. Since January 2007, the Bombay Stock Exchange’s auto index has dropped about 39%, while the benchmark Sensex has lost only 4%.
In this backdrop, it was interesting to see that most auto companies reported decent sales numbers for the April-June quarter. Hero Honda Motors Ltd, Maruti Suzuki India Ltd and Mahindra and Mahindra Ltd (M&M) reported double-digit growth in sales, while Bajaj Auto Ltd also managed a decent 8.5% increase in volumes. It’s not that only firms selling passenger vehicles did well.
For Tata Motors Ltd, passenger car sales fell, but commercial vehicle sales rose by nearly 12%. Tata’s competitor, Ashok Leyland Ltd, posted a less than 5% growth in medium and heavy commercial vehicle (goods) sales, but overall industry sales in that segment were decent.
Sales of the segment were hit last year because of tighter norms for financing, higher interest rates and a high comparable base. With the base having corrected and financing terms easing a bit, sales have picked up this year. Light commercial vehicle sales have continued to grow in strong double digits.
As far as passenger vehicles go, sales have been helped by a cut in excise duty and, as Motilal Oswal Research puts it, because of purchases in anticipation of further price increases by auto manufacturers.
The healthy rise in volumes, however, has hardly led to any improvement in the sentiment for auto stocks. That’s because auto companies haven’t been able to pass on raw material cost pressures entirely to customers. This will result in a drop in margins and restrict profit growth. Besides, firms such as Ashok Leyland, which have increased capital expenditure substantially, will see interest cost and depreciation charges rising sharply.
All this could well lead to a decline in profit for some firms and unexciting profit growth for the others.
Weakness dogs Motilal Oswal
Motilal Oswal Financial Services Ltd had done well to restrict the drop in its net profit to 17.7% in the March quarter compared with the December quarter. After all, equity broking accounted for 80% of the firm’s total revenues in financial year 2007-08 and there had been a sharp drop in volumes on the stock market. The fact that profit fell by less than a fifth from the peak in the December quarter made the 75% peak-to-trough correction in its shares look excessive.
But things have turned worse in the June quarter. Traded volumes in the stock market continued to decline, albeit at a slower pace compared with the sharp fall in the March quarter. But Motilal Oswal’s net profit (before extraordinary items) fell by more than 40% last quarter. Compared with the peak in the October-December period, quarterly profit has now more than halved.
Note that when Motilal Oswal shares had reached dizzying heights of over Rs2000 each in early January, the assumption was that profit would grow from the December quarter levels. With profit having halved, it’s understandable why the shares trade at only Rs555 now.
Unfortunately for Motilal Oswal, its attempts at diversification didn’t help much during last quarter. Fees from investment banking advisory fees fell by 13% quarter-on-quarter. Revenues from its margin funding business were flat and asset management fees fell by nearly 60%.
Although each of these businesses is distinct from equity broking, they all have a strong correlation with the state of the equity markets. In any case, with about 80% of revenues coming from broking, the benefits of diversification would be limited for now.
On the positive side, Motilal Oswal’s losses on account of the volatility in the market have been limited to the Rs3.77 crore the company had provided for in the March quarter.
Based on its fiscal 2008 annual report, the receivable position seems under control. Debtors grew by about 13% last year, much lower than the 80% growth in revenues. While loans and advances have nearly doubled, that’s largely because of the increase in the scale of the margin funding operations.
Motilal Oswal’s shares now trade at about 10 times trailing earnings and a little over two times its trailing book value, which make valuations look attractive. But with the capital markets showing no signs of a recovery, it’s unlikely that there would be a scurry for the company’s shares.
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