Apollo Tyres’ stock deflates after Hungary issues economic warning

Apollo Tyres Ltd’s shares have fallen 21% in the past two trading sessions, and are now at a six-year low.

News of a larger-than-expected economic impact of the coronavirus pandemic on European nations, which account for about 33% of the tyre maker’s consolidated revenue, had already made investors jittery.

Wednesday’s statement by the Hungarian Prime Minister Viktor Orbán that the country’s economy would be hit hard by the pandemic has further hit sentiment for the stock. Note that the company’s Hungarian plant, which makes passenger car (PC), and truck and bus radial (TBR) tyres, was beginning to stabilize after operations began in 2018.

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In fact, the Q3 FY20 analysts’ call highlighted the management’s confidence of revenue traction and profitability from its European operations. The Hungarian plant’s utilization was at 70% even as sales outperformed industry growth rates in both the PC and TBR segments in Europe.

Analysts’ forecast of a 5-6% growth rate between FY20 and FY22 from European operations could go haywire if demand hits the skids due to the pandemic. Expectations that the virus outbreak in China may thwart Chinese tyre imports to European nations, and therefore boost the company’s sales have waned too.

That’s not all. The drop in sales volumes in Indian operations in Q3 FY20 was sharper than expected, given the weak offtake from original equipment manufacturers. In the coming quarters, it’s not clear how domestic demand would pan out following uncertainties on account of the pandemic and transition to BS-VI emission norms.

The only silver lining is that the recent infusion of about ₹1,000 crore through compulsory convertible preference shares issued to Warburg Pincus, will reduce its high leverage. “The funds infusion eases concerns on the company’s balance sheet in an uncertain environment, and is a key positive,” said a report by Elara Securities (India) Pvt. Ltd. Net debt-to-equity for FY20 will drop to 2.5 times from the earlier estimate of about 3.1 times.

Fortunately for the company, the funds were tapped at an opportune moment when the tyre maker is set to incur a capital expenditure of ₹2,400 crore in FY20 and an additional ₹1,400-1,500 crore in FY21.

That said, the pandemic-led demand and supply shock is quite pronounced in the auto and component sectors. This is bound to pull down Apollo Tyres’ revenue growth across markets, at least in the near term. Perhaps, benign raw material costs on the back of soft rubber prices and tumbling crude oil price would shore up profit margins.

Further, given the company’s exposure to several international markets, currency volatility may also impact earnings in the coming two-three quarters. Undoubtedly, the Apollo Tyres stock may face downward pressure until clarity emerges.