Mr. Aditya Makharia, Institutional Research Analyst, HDFC Securities and Mr. Mansi Lall, Institutional Research Analyst, HDFC Securities
After the initial outperformance by the auto stocks, the sector returns are converging with those of the broader market due to moderating domestic growth trends across 2Ws and commodity-based inflation. OEMs expect an impact of ~300bps due to the rising base metal prices, which will limit the extent of margin expansion from improving leverage (as demand normalises over FY22-23E). Amidst this backdrop, we prefer stocks that have a diversified revenue model such as Tata Motors, Bharat Forge, and Bajaj Auto. We also have a BUY rating on Maruti Suzuki due to the sustained demand for PVs, given the shift towards personal mobility.
Commodity inflation to impact 4QFY21 profitability: The commodity prices over the past six months are up sharply - aluminum (+26%), copper (+32%), crude (+55%), steel (+55%). In our discussion with Bajaj Auto, the company highlighted that the impact on margins will be 300-400bps. Most OEMs are highlighting similar views, with margin impact varying between 200-400bps due to the above. While OEMs will benefit from improved operating leverage as volumes normalise over FY22-23E, the extent of margin improvement will be contained due to the above.
Demand revival - differing trends are emerging: Sales recovery trends have been mixed in 4Q, with PV and tractor demand remaining resilient while 2W sales have been tepid, particularly at the entry level (refer to our note: Divergent Trends in PVs and 2Ws). We believe the recovery in autos is a 'K' shaped one, where the COVID impact (closure of education institutes and dine-ins, weak SME activity, etc.) is affecting the lower end consumer segment. CV sales are recovering, though the expected benefit from the scrappage scheme will now be spread over FY22-24.
Sector returns are converging with the broader market: The NIFTY Auto index returns in 4Q (+7% QoQ) has performed largely in line with the broader index (+5% QoQ) as commodity cost inflation and moderating growth trends across 2Ws have tempered stock price returns, after strong outperformance in 1HFY21. We believe that returns will be stock specific, going ahead, as the recovery is getting factored in (valuations are elevated) and growth rates are now diverging across segments. After several quarters, we have lowered estimates for FY22/23E due to the above factors.
Key recommendations: We are positive on Bajaj Auto, Tata Motors, and Maruti amongst the OEMs. We have recently downgraded Hero to an ADD due to the moderating growth outlook. Amongst auto ancillaries, we have initiated on Bharat Forge with a BUY rating due to an improving outlook for global CVs as well as diversification initiatives (particularly in the defence segment). We continue to prefer Subros amongst domestic auto ancillaries due to its dominant presence in the car AC segment as well as expansion in the home and railway AC segment.
Logistic companies: The rail-based logistic companies expect the benefits from the DFC to reflect from 2HFY22 as the 650km stretch from Rewari (Haryana) to Palanpur (Gujarat) will be commissioned by Apr-May. We reiterate our preference for Gateway Distriparks (BUY) as CONCOR (ADD) will have to contend with higher LLF charges levied by the Indian railways.