Ashok Leyland: Margins major positive

Despite sales volumes falling by 10 per cent in Q2, earnings were ahead of estimates

In a quarter when volumes are subdued, the earnings expectation also tends to be muted. But, what came from commercial vehicle maker Ashok Leyland was a surprise and, hence, the Street rewarded its stock with 2.5 per cent gain in Tuesday’s trade. Revenues at Rs 4,912 crore dipped by seven per cent year-on-year, but were way ahead of Bloomberg estimates at Rs 4,507 crore. 

What came as a major surprise was the operating profit margins of 11.6 per cent, despite a 14 per cent year-on-year dip in operating profit in Q2. Although operating margins were lower than the year-ago level of 12.6 per cent, it exceeded Bloomberg estimates at 11 per cent. The surprise primarily came on the back of a steep improvement in gross margin.

Gross margins (net revenues less cost of goods sold) at 32 per cent expanded by 190 basis points in Q2, thanks to a 9.5 per cent decline in raw material costs. Overall, net profit expanded from Rs 172 crore a year ago, to Rs 294 crore in Q2 (an improvement of 71 per cent year-on-year). However, last year’s net profit was dented because of impairment losses amounting to Rs 157 crore.

One of the key reasons that could have come to Ashok Leyland’s help is the better-than-anticipated average selling price of commercial vehicles, suggesting that the recent price hike undertaken is yielding results. Price hike has also partly helped offset some of the pressure on account of lower volumes in the company’s key segment. While the overall volumes declined by 10 per cent year-on-year to 33,440 units, sales volumes of medium and heavy commercial vehicles declined by 15 per cent year-on-year to 25,340 units in Q2, while that of light commercial vehicles grew nine per cent year-on-year to 8,100 units. 

But, the question is whether Ashok Leyland can sustain the current margins.

Jay Kale of Elara Capital points out that commodity price impact tends to have a lag effect and they may not reverse too soon. “Margins are expected to be better in the second half of the fiscal as volumes are expected to pick-up leading to possibility of pre-buying in March quarter,” he adds. “However, further clarity from the management is required to be sure on this aspect,” he flags off. The post-results call with investors is to be held on Wednesday. But for now, with Q2 being better-than-anticipated, analysts are confident of a reasonable upside (8-12 per cent) in the medium term for the Ashok Leyland stock if this performance is sustained in Q3 also. Ashok Leyland’s stock has corrected by 13 per cent in the past six months.