Auto - Volume Growth to remain robust - Motilal Oswal

AUTO DASHBOARD: Monthly update for February 2011 - Positive volume outlook, although short-term headwinds exist

Volume growth to remain robust: Volume growth is expected to continue, driven by strong economic recovery, improved financing conditions and new product launches by existing and new global players. This coupled with strong exports would support strong volumes. The volume guidance provided by automakers indicates a favorable environment for FY12.

Margins to moderate from higher levels impacted by commodity cost inflation: Commodity cost inflation, especially in Steel, Aluminum and Rubber, is putting pressure on profitability. This coupled with increasing competitive intensity in some segments would restrict pricing power. However, cost reduction measures, productivity improvement programs and high operating leverage would dilute impact of higher RM cost. As a result, we estimate EBITDA margins to revert to mean for the industry.

Headwinds gather momentum, may impact short-term outlook: Auto industry to face multiple headwind in the short-run as (a) Increase in cost of ownership as selling price increased due partial pass through of cost inflation in RM cost, (b) Increase in cost of operations as fuel prices increased by 15-22% in last 1 year, (c) rising competitive pressures to restrict pricing power in the short term, and (d) hardening in monetary policy resulting in increase in interest rates for automobile. However, the long term volume outlook is positive due to improved economic activity, easy availability of finance and improved export outlook.

Valuation and view: No increase in excise duty in the Budget is positive as any increase in selling price would have reduced headroom for the auto industry to pass-on cost inflation and could have impacted demand. Strong momentum in volumes is expected to continue across segments. However, EBITDA margins are expected to moderate from peak levels of FY10 and revert to mean due to macro headwinds. Most auto stocks have outperformed benchmarks in last 12 months, driven by strong volumes and margins. Prefer players less vulnerable to competitive dynamics, enabling dilution of short-term headwinds. Our top picks are Baja Auto, M&M and Tata Motors.

Source : Equity Bulls

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