Maruti stock downgrade reflects growing woes of the auto sector

Shares of Maruti Suzuki India Ltd have plunged this year, slammed by worries about future growth at India’s largest carmaker amid changing government rules, especially on electric vehicles, intensifying competition and a demand squeeze.

Maruti’s domestic vehicle sales have fallen more than 19% to 374,481 units in the June quarter, the sharpest drop since the third quarter of 2000-01. This has taken a toll on its financials as well as stock performance.

In 2019, the stock has fallen 25.5%, widely underperforming a 4.49% rise in the Sensex. It also fared poorly last year, falling 23.3% compared with the benchmark Sensex’s 5.91% gain.

“Demand for mass market passenger cars is unlikely to improve in the near future and that is why the stock price is at a its worst possible scenario,” an analyst with a foreign brokerage said on condition of anonymity. “Fundamentally, the company is strong and will retain its leadership position, but consumption demand is not likely to revive in the near future.”

With the 10-month-long slowdown in the automobile sector showing no sign of abating, several brokerages have downgraded shares of Maruti Suzuki. The brokerages have attributed their decision to concerns that automobile demand is unlikely to recover in the upcoming festive season, while regulatory changes and increased competition will continue to weigh on the stock.

The downgrades come at a time when passenger vehicle sales in India in the three months ended 30 June fell the most since the third quarter of fiscal 2000-01. Maruti, being the market leader, had to cut vehicle production in the past five months.

“On the back of massive slowdown and declining return ratios with lower earnings growth, we lower our estimates and valuation multiple of MSIL to 20x (from 22x earlier),” Mitul Shah, an analyst at Reliance Securities, wrote in a note to clients. “In view of its fair valuation at current level, we downgrade our recommendation on the stock to ‘Hold’ from ‘Buy’ with a downwardly revised target price of ₹5,750.”

Maruti Suzuki’s net profit for the three months ended 30 June fell 27% from a year earlier to ₹1,435.5 crore, the steepest decline in the last five years. Operating profit margin contracted by 455 basis points to 10.92% in the quarter from a year earlier due to higher expenses and lower sales. Net sales during the period fell 14% to ₹18,735.2 crore.

“We understand the sector is amidst a slowdown, though we were left surprised by lack of any growth guidance from MSIL considering that the festive season is near,” wrote analysts at ICICI Securities in a note. The brokerage expects Maruti’s margins “to remain under check considering the heightened competitive intensity amidst scarce industry growth”.

ICICI Securities has retained its “Sell” rating on Maruti, with a 13.5% cut in the target price to ₹4,103.

According to Bloomberg data on Monday, 34 brokerages have a “Buy” rating on Maruti. Another 11 brokerages have assigned a “Sell” rating, with most downgrading the stock from “Hold” at the start of this year. Another 10 brokerages have a “Hold” rating, with several downgrading the stock post the weak June quarter results.

In an indication that vehicle sales may remain subdued during the upcoming festival season, Maruti will not push inventories at dealerships before the festive season kicks in as it traditionally does. This decision comes at a time when most dealer partners are financially stressed and as the overall slowdown in the economy continues to keep customers away from showrooms.

“There is no point pushing the stocks in the dealerships when there is no demand in the market. We will take a call regarding production after taking a look at the market situation. We have an inventory of a little more than a month with our dealers since retail sales is under pressure,” R.S. Kalsi, senior executive director for sales and marketing at Maruti Suzuki, said in a conference call with analysts on Friday.

Manufacturers of four- and two-wheeler segments traditionally start pushing inventory to dealerships from August in anticipation of higher sales during the festival season, which traditionally starts with Onam in August and ends with Diwali in November. Vehicle manufacturers generate at least a third of their overall retail sales in a fiscal during the festival season.