For Bajaj Auto and TVS Motor, sustaining Q3 margins may not be an easy ride

Exports accounted for nearly half of Bajaj Auto's two-wheeler volume in FY23 (Bloomberg)
Exports accounted for nearly half of Bajaj Auto's two-wheeler volume in FY23 (Bloomberg)

Summary

Costs of certain raw materials have increased, adding to inflationary pressures on demand. Recovery in export markets has also lagged expectations, with the Red Sea crises adding to the woes

Investors have reacted quite in opposite directions to the December-quarter (Q3FY24) results of Bajaj Auto Ltd and TVS Motor Co. Ltd. On Thursday, while shares of Bajaj Auto gained by over 5%, those of TVS Motor fell by 3%. Bajaj’s Q3 results were a step ahead of analysts’ estimates, while TVS Motor fell short, albeit only slightly.

Even so, Q3 was a decent quarter with both the automakers clocking multi-quarter high Ebitda margins. Bajaj’s Ebitda margin stood at 20.1%, while that of TVS was 11.2%. The festive season was strong, and demand continued to hold post that, Bajaj said in its earnings call. Also, commodity cost tailwinds worked in its favour.

Still, the path ahead is not all smooth and it remains to be seen if the momentum in margins sustains. For one, there is a slight uptick in the costs of certain raw materials and Bajaj expects some level of inflation in Q4.

Also, recovery in the export market has lagged expectations, which impacts Bajaj more than TVS. Exports form a larger share of Bajaj’s portfolio—about 48% of two-wheeler volume in FY23, versus 26% for TVS.

In addition to elevated inflation levels, devaluation of local currencies, and currency availability issues, there is also the Red Sea crisis that’s causing interruptions in the shipping line and resulting in delays. Also, freight costs have doubled.

In this backdrop, Bajaj now expects its export volume to improve by 2-5% sequentially, versus its earlier estimate of 10%. The silver lining is that the devaluation of emerging market currencies appears to have ceased.

Given Bajaj’s earnings outperformance so far this fiscal year, analysts at HDFC Securities have raised their estimates for FY24-25 by 3-9%. But the broking firm opines that Bajaj’s performance is unlikely to sustain as exports will take longer to revive in key markets such as Africa and Latin America.

Other reasons include lack of adequate rainfall this fiscal year and expectations of normalization in domestic growth rates for motorcycles and three-wheelers because of a high base.

Further, TVS and Bajaj are focusing on scaling up their electric vehicle portfolios. TVS iQube is currently available across 400 dealers and it aims to double this over the next three months. Bajaj aims to clock a monthly volume of about 15,000 EV units in Q4.

While this is encouraging, the expanding scale is likely to weigh on the automakers profitability as the EV portfolio is margin-dilutive.

For TVS, there is an additional headwind given its significant presence in scooters.

“We believe rapid adoption in EV segment as well as aggressive pricing strategy by the competition will impact the demand for ICE scooter and weigh on profitability of EV and ICE scooter segment in the coming quarters," said analysts at Kotak Institutional Equities in a report on 24 January. ICE refers to regular internal combustion engines used in vehicles.

Meanwhile, it augurs well that the domestic demand is on a firm footing. Bajaj expects the motorcycle industry to grow at 8-10% in the coming months. TVS noted that there were early signs of improvement in the rural market.

To be sure, shares of Bajaj Auto and TVS have risen by about 104% and 87%, respectively, over the past year.

Valuations are not exactly cheap, which has led to some broking firms having a cautious stance on the two stocks. According to Bloomberg data, shares of Bajaj trade at about 26 times and that of TVS at 35 times their FY25 estimated earnings.

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