Tyre firms are on a roll. The growing demand for vehicles in India is pushing them to expand. Last week, Apollo Tyres Ltd surprised investors as it announced a ₹ 6,500 crore capex spread over the next three years. A large chunk of this investment will be in India, with ₹ 3,800 crore being allocated towards a green field plant in Andhra Pradesh to make truck and bus radials (TBRs), and passenger car (PC) tyres.
Apollo Tyres is not the only one betting big on Indian consumption. A month ago, the RP Goenka-group’s Ceat Ltd announced a large capex plan (about ₹ 4,000 crore) for a manufacturing facility in Tamil Nadu. In a filing with the BSE, it said that the capex would be for “incremental manufacturing capacity of car, lorry, bus radial tyres and two-wheeler tyres."
Others such as Goodyear have been reported in the media to be considering foraying into segments that they are not yet catering to.
The closely held MRF Ltd has earmarked investments every year for some time, apart from its state-of-the art facility planned in Gujarat.
The expansion plans are a result of the conviction that demand for tyres is strong. The June quarter results saw impressive revenue and profit growth—Ceat net revenue rose by about 17% year-on-year (y-o-y), while that of Apollo Tyres jumped 31%. JK Tyres Ltd revenue zoomed by 35%.
Importantly, here’s why the good news will continue. Indications are that demand from original equipment (OEMs) manufacturers, especially TBRs and PCs will continue to grow at the current pace over the next few years.
And, most tyre makers are already working at near-full capacity. Operating leverage has helped firms tide over uncertainties of raw material prices, in spite of high rubber and crude prices prevailing for a while. Strong demand allowed manufacturers to increase tyre prices in the replacement market especially.
June quarter Ebitda (Earnings before interest, tax, depreciation and amortization) margins of Apollo Tyres and Ceat jumped by 390 and 650 basis points (bps), respectively, from a year ago. JK Tyres reported a profit at the operating level from a loss last year. So, strong operating performance has kept cash flows high and stable enough for manufacturers to dream big.
One hundred basis points make up a percentage point.
Also, given strong sales of vehicles across the board in the last two years, growth in the more lucrative replacement market is likely to kick in after a few quarters.
A host of positive factors are therefore playing out in favour of tyre firms.
Further, they do not have to battle technological challenges that some ancillary segments are faced with due to new, stringent regulatory norms.
The only hitch is that most firms would need to raise debt to fund hefty capex. Bharat Gianani, an analyst at brokerage Sharekhan, reckons that rising interest rates along with higher depreciation may slow earnings growth in spite of high demand for tyres.
But this is normal during the capex phase, although perhaps this explains why tyre stocks have been wobbly within a range in the recent past.
However, the point is that in an economic environment where capacity utilization for most industries is still struggling, tyre firms are bullish enough to commit to large capacity expansions.