Shares of Ashok Leyland Ltd have bounced back by about 40% from their lows in August last year. After the company’s December quarter results, at least some investors will begin to wonder if the recovery was a bit much and too soon.

After all, the commercial vehicle (CV) maker reported a 93% drop in net profit to 27.8 crore. Of course, analysts were expecting a sharp decline in profits, although the Street’s consensus estimates had pegged the fall at about 75%.

Perhaps investors would have taken this in their stride if the drop in net profit was owing to one-offs and at least the operating performance was in line with expectations. Unfortunately, Q3 Ebitda (earnings before interest, tax, depreciation and amortization) of 225.7 crore fell 65% year-on-year, and was below forecasts.

To be sure, like its peers, Ashok Leyland is battling weak demand and inventory destocking challenges, as the industry is bracing for the BS-VI transition in April.

As a result, CV industry volumes declined 39% year-on-year in Q3, owing to excess capacity with fleet operators and limited freight availability. Besides, the entire auto industry did not see any pre-buying trend that may have alleviated the burden of unsold inventory.

The company’s net revenue of 4,015.6 crore was about 37% lower from a year ago. “Lower revenue was due to a 29% volume decline yoy and a 11% decline in average sales realisations. This was due to higher discounts and an adverse product mix, with the contribution from medium and heavy CVs being lower," explains Mitul Shah, vice president (research) at Reliance Securities Ltd.

(Graphic: Santosh Sharma/Mint)
(Graphic: Santosh Sharma/Mint)

In spite of aggressive cost-reduction efforts by the company, poor operating leverage due to a fall in production dragged profitability. Even softer commodity costs could not help. Ebitda margin plunged 470 basis points year-on-year to 5.6%—lower than the average of 6.7% pencilled in by most brokerage firms. Note that most other auto firms had at least reported a sequential improvement in margins, but in Ashok Leyland’s case, margins fell sequentially too.

Further, there seems to be little solace for investors in the near term. Recovery in auto volumes, especially in the CV segment, is likely only from the second half of FY21, once regulatory uncertainty settles down. The silver lining could be a scrappage policy of old vehicles that could incentivize purchase of new ones.

Some analysts believe that the low base and a pure CV product portfolio augur well for Ashok Leyland. “The modular platform strategy would help the firm cater to a higher number of variants with increased customization and faster time to market," says a report by Yes Securities Ltd.

Meanwhile, Ashok Leyland cannot stave off margin pressure due to weak demand amid intense competition in the near-to-medium term. “We believe that the industry is half way into the ongoing cyclical downturn in M&HCV, with a recovery to be witnessed only in mid-FY21," adds Shah of Reliance Securities.

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