Ashok Leyland faces a bumpy ride ahead over surplus capacity, slowdown

Commercial vehicles (CV) sales are the worst affected among auto segments as India's economy slows down. The two largest CV players accounting for over three fourths of medium and heavy commercial vehicle volumes reported a 32-35 per cent year-on-year decline in volumes in November. While sales were better month-on-month, prospects going ahead are rather dim especially for commercial vehicle players such as Ashok Leyland. The stock is down about 7 per cent in the last fortnight.

Anish Rankawat and Ronak Mehta of Nirmal Bang Institutional Equities Research cite the slowdown in the economy, excess capacity post axle load norm revision, subdued freight rates and slower execution of infrastructure projects as the reasons for the year-on-year decline in volumes.

The outlook for the sector, according to analysts is muted. Volumes are expected to decline over the next six months and then stabilise. Expect a recovery (volume growth) only in the second half of FY21, says Mitul Shah of Reliance Securities.

A key reason for the fall in volumes has been the creation of surplus capacity due to new axle load norms. Analysts say bigger tonnage vehicles have been the worst impacted from the slowdown. Ashok Leyland which gets more than half its volumes from the higher tonnage trucks saw a dip in market share due to this. The company has lost about 220 basis points market share given its volume skew towards higher tonnage trucks.

The pressure on volumes is expected to continue given the uncertainty surrounding infrastructure projects. After Andhra Pradesh, Maharashtra recently decided to review infrastructure projects worth Rs 2 trillion. Further, analysts believe that given the weak GDP print of 4.5 per cent for the September quarter, lower forecast for the year, and lack of capital expenditure by the private sector there may not be enough incentive for freight operators to buy additional trucks. This could hurt the BSIV pre-buying trigger that the sector was banking on.    

Though there are near-term headwinds, analysts believe the Ashok Leyland stock which is down nearly 30 per cent from year ago levels may not see a significant price correction from these levels. However, investors should not take an exposure to it given the uncertainties and little visibility on truck demand.