Mark to Market | Hero MotoCorp shifts to reverse gear

add_main_imageHero MotoCorp Ltd put up a weak show for the September quarter as revenue and profit fell on lower volumes. While both revenue and profit were expected to fall, the results were weaker than expected. According to an analyst with a foreign brokerage, there’s nothing encouraging about the results—if not for an unusual increase in spare parts sales and a drop in tax rate, the drop in net profit would have been much worse than the reported 27% fall.

But margins fell by 190 basis points as the drop in volumes hit operating leverage, and as advertising expenses rose owing to the company’s rebranding exercise. A basis point is one-hundredth of a percentage point.

According to Abhishek Banerjee, analyst, Asian Markets Securities Pvt. Ltd, “Hero’s higher percentage of fixed cost to sales pulls down margins during a downtrend when sales volumes fall, but acts positively in a buoyant economy.”

Net profit for the quarter fell by 27.4% to ₹ 440.6 crore. The fall would have been worse but for a drop in the effective tax rate. In comparison, Bajaj Auto Ltd was able to contain its fall in net profit to around 6% during the quarter. Bajaj was able to sustain profitability despite a 10% drop in volumes as it has a more diversified play.

This divergence in performance has been priced in to a large extent. In the past three months, Hero shares have fallen by 13%, while those of Bajaj have risen by over 13%. While the management said in a post-results conference call that it is confident that monthly volumes will rebound to the 500,000 mark in the coming months, investors are likely to remain cautious.

Analysts are concerned about the increasing competition in the two-wheeler space. According to Emkay Global Financial Services Ltd, “Expectations were toned down even before the results, but there could still be an 8-10% cut in consensus estimates for fiscal 2013.”