Hero MotoCorp’s operating margin expansion springs a surprise

Hero MotoCorp’s operating margin expansion springs a surprise

The 20% year-on-year (y-o-y) growth in Hero MotoCorp Ltd’s sales volume for the September quarter, announced a fortnight back, had positively surprised the markets. But the financial results had an even bigger surprise, as it was able to expand margins and profit for the quarter beyond expectations.

What was really encouraging was the better-than-expected expansion in reported operating margin (15.8%). It grew by around 320 basis points from the year-ago period and more impressively by about 220 basis points from the June quarter. One basis point is one-hundredth of a percentage point.

This was because of strong volumes and the resultant operating leverage, apart from the cooling off of raw material prices, mainly aluminium. However, operating margin, once adjusted for royalty expenses, may be a tad lower than the reported figure.

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Another key reason is a drop in other expenses, perhaps because of lower marketing and rebranding expenses during the quarter. However, concerns remain on rebranding and marketing expenses, as well as research and development expenses in the absence of its Japanese partner.

Depreciation charges jumped 57% from the June quarter, which analysts feel could be because of additional fees paid to Japan’s Honda Motor Co. Ltd for its new models. Hero MotoCorp’s net profit rose 19% from the year-ago period, marginally higher than Bloomberg consensus estimates. This outperformance, as the company repositioned itself in its new avatar following turbulent times after the joint venture break-up, seems to have triggered a rally in the stock in the last few months. The stock has steadily outperformed the benchmark indices and its peers since April.

The flip side is that the rally in the stock doesn’t leave much room for further appreciation, as the current market price of 1,985 discounts fiscal 2012 and 2013 earnings by about 17 and 13 times, respectively.

Valuations are rich, though they could be helped by any earnings revision that may follow the analysts’ conference call.

PDF by Ahmed Raza Khan/Mint

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