Apollo Tyres stock: Higher volume, steady raw material prices are positives

Apollo Tyres has hit fresh 52-week highs over the last week, gaining six per cent on expectations of improvement in profitability in the coming quarters, led by steady rubber prices, improving volume growth and anti-dumping duty on the truck and bus radial (TBR) segment tyres. Further, stabilisation in its Hungarian operations and gradual increase in contribution from the OEM (original equipment manufacturer) segment would likely to push its profitability further.

Given the strong volume growth, the Society of Indian Automobile Manufacturers (SIAM) has revised its projections for the fiscal year 2018-19 across segments. Passenger vehicle (PV) sales, earlier projected to grow at 7-9 per cent during the fiscal year, have now been expected to grow at over 9 per cent. Similarly, for commercial vehicles (CVs), growth has been revised upwards to 13 per cent, from 4-6 per cent; for two-wheelers it has been pegged at 12 per cent, from 9-11 per cent.

The Indian tyre industry is expected to grow at 8-10 per cent for FY18.

Besides, anti-dumping duty on TBR, goods and services tax (GST) and demonetisation led to a reduction in Chinese imports to less than a third. The current level of truck radial imports is slightly in excess of 50,000 tyres per month vis-à-vis a peak of about 150,000 per month.

Radialisation forms only 45 per cent of the domestic truck and bus tyre market. Apollo has around 28 per cent market share in the segment. Given the scope for higher radialisation, players such as Apollo will benefit. Currently, in the TBR segment, Apollo produces around 9,000 TBR tyres per day, which is expected to go up to 11,500 tyres by the end of 2018, said Gaurav Kumar, chief financial officer, Apollo Tyres. This segment contributes around 35 per cent to Apollo's turnover.

To address the future demand in PVs, Apollo has decided to go for de-bottlenecking to add around 10 per cent to the current plant capacity.

Finally, good winter tyre sales in Europe is expected to improve capacity utilisation at its Hungary plant. Apollo has already started supplies to some of the leading automakers in Europe.

Sales during the third quarter of European operations were at Rs 13.9 billion, a growth of 11 per cent over the same period last year. Earnings before interest, tax, depreciation and amortisation (EBITDA) for the quarter was at Rs 1.2 billion, growing 8.3 per cent.

Within Europe, the Hungary plant is a significant contributor. It now makes 7,000 tyres per day; by end of 2018, it should start getting close to the plant capacity. While Hungary continues to be a loss-making operation (in the third quarter at about €3 million) at the net level, Kumar expects the situation to improve as the capacity ramps up.

“The target internally is to achieve break-even at the operating profit level by the end of this quarter. It will 

start contributing to the profitability next year onwards,” said Kumar.

Industry-wide operating profit margins had slipped sharply in Q1FY18 to a four-year low of eight per cent following the sudden spike in both, domestic and global natural rubber prices and higher than normal stocking by automakers during the February-March 2017 period. But, margins improved in Q3FY18 as rubber prices fell sharply in the four months ending February 2018 and have remained range-bound at Rs 125-130/kg.

Global natural rubber prices continue to trade at a discount, averaging at Rs 117 per kg for 11 months of FY2018. Over the next three months, ICRA expects the domestic natural rubber prices to trade between Rs 130-140 per kg. While margins for the company were up on a sequential basis for its India and European operations in Q3FY18, they were lower as compared to the year-ago period. The Apollo management expects a slight increase in the cost of raw materials. The same should be managable, but any sharp rise could weigh on tyre makers’ profitability, and remains a monitorable.