Shares of Motherson Sumi Systems Ltd have rallied 32% since they hit a 52-week low of ₹127.15 on 12 February. However, they are about 35% below their early 2018 peak, making the current rally look like a dead cat bounce.
The sudden rally has made investors cautious. Goldman Sachs has downgraded the stock to “neutral" from “buy", saying there is limited upside post the recent rally.
Motherson Sumi’s stock trades at 24 times its estimated FY20 earnings per share. This is expensive keeping in mind the average auto and auto component sector valuation of about 17-20 times forward earnings.
Besides, the global auto component manufacturer seems to be falling short of its committed revenue target of $18 billion by FY20.
“Currently, the estimated revenue for FY19 is $9.2 billion. Hence, reaching the target needs a very large acquisition. Given that the company is clear that the acquisition is contingent on attractive valuations and scalability of the acquired business, it may or may not happen in the near term," said Bharat Gianani, analyst at Sharekhan Ltd.
However, there are positives too. Motherson Sumi’s ability to sustain profitability amid challenging times in the domestic and global markets is commendable. The slowdown in domestic auto sector took a toll on stand-alone revenue and profits in the December quarter. The Ebitda (earnings before interest, tax, depreciation and amortization) margin fell by nearly 300 basis points year-on-year. However, with commodity prices falling and rural outlook on passenger cars being stable, there is hope that things can become better from here on.
One hundred basis points equal one percentage point.
Meanwhile, Motherson’s track record of a deft turnaround of acquisitions along with steady improvement in profit margins of overseas subsidiaries is appreciable. Both Samvardhana Motherson Peguform and Samvardhana Motherson Reflectec, among the early acquisitions, have sustained profitability despite relatively low volumes and high costs. December quarter Ebitda margins were flat compared to the previous year. PKC, the recent Finnish acquisition, posted a stellar 230 basis point jump in Ebitda margin.
Over the last five years, the consolidated annual Ebitda margin has been rock steady at around 9%. Bloomberg’s average forecast of 9.1% for FY19 indicates that the trend would sustain.
However, there are headwinds such as Brexit and Worldwide Harmonised Light Vehicle Test Procedure in European markets. These concerns and the volatility in global currency movements had dragged down Motherson Sumi’s stock for most part of 2018.
In addition, the slowdown in global auto sales may weigh on Motherson Sumi just as it would on auto component makers in general. Unless another big-bang acquisition promises to fuel revenue to the company’s targeted levels, the current rally does not seem to have legs.