Commodity surge to hit two-wheeler pack the hardest among autos

Price hikes to pass on the costs will be difficult amid falling volumes

The NSE Auto index was among the top sectoral losers in trade on Thursday shedding 6.3 per cent. Among the larger listed players, companies with a higher exposure to Europe such as Apollo Tyres (-11.3 per cent), Tata Motors (-10.3 per cent), Motherson Sumi (-7.4 per cent) Balkrishna Industries (6.7 per cent) and Bharat Forge (5.15) were the notable losers. The largest two wheeler maker, Hero MotoCorp fell 6.4 per cent.  The street is concerned about the Russia-Ukraine conflict and the impact it can have on volumes and margins. Within the auto segments, the two wheeler space could feel the pinch of lower volumes and higher raw material prices the most, believe analysts.  

The sector had reported a sequential gross margin expansion Q3FY22 after 4-5 quarters of contraction. Further improvement could be tough given record prices of aluminium and 10-year high prices for Nickel. Palladium, a precious metal used in catalytic converters too, is trading at a 6-month high. 

Say analysts led by Joseph George of IIFL Securities in a report released on February 23, “Two wheelers have higher exposure to aluminium and precious metals (which have witnessed the highest cost escalation). As a result, two wheeler auto makers (as compared to passenger car makers) are more impacted by recent commodity price movements . We estimate two wheeler makers would have to increase prices by 2.0-2.5 per cent to fully pass on the recent impact and maintain gross margins at Q3FY22 level.” The surge in prices will mean the quantum of hikes could be much higher than initial estimates; under recoveries due to higher prices till Q3 for the auto sector is pegged at 3-4 per cent. 

The problem is that the domestic two wheeler makers have already hiked prices thrice so far in FY22. The 6-7 per cent price hikes this year comes on the back of a 10-15 per cent increase witnessed last year post the implementation of BSVI norms. This sharp increase in prices has delayed recovery in two wheeler sales during the current fiscal, any incremental hike may delay recovery in sales further, says CRISIL Ratings. 

The surge in crude oil prices which is expected to be passed on by the government will add to the incremental costs. Says Varun Baxi, Research Analyst at Prabhudas Lilladher Research, “Increasing crude prices has a negative impact on the demand environment as it increases the cost of ownership.  Historically, we have seen a negative correlation between the demand and the fuel prices.” 

The twin impact on demand and margins is coming amidst a falling sales graph. The two wheeler sector (down 24 per cent y-o-y in Q3FY22) is expected to see a volume drop of 8-10 per cent in FY22 making it the first time in a decade that sales are declining for the third consecutive year in a row. Says Gautam Shahi, Director, CRISIL Ratings, “Three consecutive years of decline will take two-wheeler sales volumes back to the fiscal 2014 level and it may take three to four years to reclaim the peak sales volume of 2.11 crore seen in 2019.” Sales in first nine months of FY22 were at 1.07 crore units. 

Given the impact on the lower end of the motorcycle sales has been the highest over the last year and is expected to continue in the near term, Hero MotoCorp could be hit the most going ahead. The leader in the entry and executive segment of motorcycles saw a market share loss of 300 basis points in 9MFY22 to 34.9 per cent and is the only one in the listed space to have ceded ground to peers.

With analysts expecting commodity costs to remain inflated amid geopolitical tensions and volume recovery likely to take longer, the two wheeler sector may be sailing into a perfect storm.