Hero MotoCorp Limited - King of tough times... Upgrade to BUY! - Antique

Earlier expectations of an easing liquidity/rate cycle have suffered a blow post RBI's recent measures. Resultantly, we believe that Hero/Bajaj will relatively outperform the more rate-sensitives given that 2Ws are less discretionary a purchase and hence a good play till the macro gets more sure-footed. Also, an uncertain macro re-rates better businesses (2Ws over cars/CVs) owing to its higher return ratios/asset turns/FCF yields. While both Bajaj and Hero fit the bill, Hero is now trading at a ~17% discount to Bajaj's valuation, even while it has historically traded at a premium. Admittedly, Honda is the perennial pain for both Hero and Bajaj, but we highlight that response to Honda's new products have been quite tepid, and recent market share gains have been more channel-expansion driven. Irrespective, Hero's current valuations (FY15e P/E at ~12.1x) look very attractive to us juxtaposed the >60% RoCE/>5% FCF yield/>4% dividend yield. Furthermore, Hero (more than other players) would be a key beneficiary from a good monsoon. We upgrade the stock to BUY (HOLD previously), and also highlight that the stock is quite under-owned.

The results were marginally lower than estimated (owing to higher tax post a surcharge levy), but the positive management commentary more than made up for it - ongoing vendor rationalization can improve gross margins by >400bps eventually (not built into our numbers); retails up >7% YoY during the quarter, even while dispatches were down 5%.

Attractive valuations; Great play till macro gets back on track... Upgrade to BUY!

For starters, our channel checks suggest that Honda's market share gains have been driven more by aggressive channel expansion and less by development of strong sub-brands (essential to sustain growth over a longer period).

Concerns have been allayed - the brand transition from 'Hero Honda' to 'Hero' has been quite smooth. Furthermore, technology is not a steep mountain to climb in Indian 2Ws (which is more sub-brand centric). Irrespective, on conservative estimates, Hero's trading at FY15e P/E of ~12.1x (adjusting for non-recurring royalty FY14 P/E of 12.9x), which looks very attractive to us juxtaposed the >5% FCF yield/>4% dividend yield and >60% RoCE. Upgrade to BUY with a target price of INR2,028 (14x FY15 EPS).

Source : Equity Bulls

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