Ashok Leyland - Headwinds get stronger than ever - LKP Research

Worst ever quarter with margins touching new lows in Q3

Ashok Leyland (ALL)'s Q3 FY14 results were significantly below our soft expectations. Volumes during the quarter(exc. Dost) dipped by 27% yoy and 33% qoq as the CV industry is going through one of its toughest phases. The company's market share remained flattish at 22.7% on a yoy basis as the weakness in south was offset by growth in eastern and central geographies. In line with the strong volume dip, EBITDA margins came in at a negative 5% indicating the sorry state of heavy discounting and higher marketing expenses. This was the worst ever margin performance of the company as ALL also faced added pressure from adverse product mix. RM to sales expanded to 79.7% of sales on lower operational leverage. Employee costs to sales jumped to 12.3% from 10.9% yoy and 10% qoq although some retirement schemes were made applicable. Other expenses to sales went up to 13% from 11.5% qoq due to higher promotional expenses and discounting despite the cost reduction measures taken by the company. The company in this quarter took some strong measures to reduce debt by selling some of its non-core businesses, which resulted into lower interest costs sequentially. Reported bottomline losses came in at Rs1,672 mn, while adjusting for gains arising from sale of investments and assets, losses would have zoomed up to Rs 2.59 bn.

Outlook and valuation

We believe the company's volumes will continue to face pressure in Q4 as well, but since Q4 has been seasonally a better quarter, we expect a growth in volumes over Q3. With sluggish economy continuing, consumer sentiments and industrial activities both being subdued and interest rates moving up, recovery in CV industry seems to be further delayed. In such a scenario, we believe the impact of new launches will be negligible and with higher discounts in the industry, the company will have to increase the discounts to maintain market share, which may lead to a negative EBITDA in FY 14E. The recent partial lifting up of mining ban in Karnataka will have a miniscule impact with our investment time horizon. LCV segment also is expected to show a soft performance in the current year which is getting reflected in ALL's volumes of Dost. FY 15E is expected to show a growth in ALL's volumes on low base and hopes of some recovery in the economy. Despite the company's efforts to cut costs at both employee as well as other expenses level EBITDA coming in negative territory in Q3 is a huge blow to ALL. The company is planning to increase prices shortly, but this may hamper their market share which was stable this quarter. We have trimmed down our estimates on volume as well as profitability front for both FY14E/15E and now forecast (0.6%)/6.4% EBITDA margins in FY14E/15E respectively. With higher depreciation costs (capex and investments guidance of Rs700-800 cr) and interest costs on highly leveraged balance sheet, we expect the company to incur losses to the tune of Rs600 cr in FY14E and post profits in FY 15E with some recovery in volumes and margins expected by then along with a considerable improvement in balance sheet. We maintain our SELL rating on the stock with a pruned down target price of Rs 11.7, which is a 35% downside from current levels.

Source : Equity Bulls

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