Low volume, high costs hit Maruti's bottom line

Sluggish demand, yen appreciation and competition add to difficulties.

Maruti Suzuki’s (MSIL) results for the quarter ended September were way below expectations. Lower sales, higher raw material and sales promotion costs, as well as costlier imports, meant its net profits tanked a steep 60 per cent over the same quarter previous year.

On Saturday, India’s largest passenger car maker reported net profit of Rs 240 crore, its lowest since the 2008 crisis.

In their October 29 report, Sachin Gupta and Chetan Vora, analysts at Edelweiss Research, said: “Maruti’s profit after tax was 40 per cent below our and consensus expectations.” The two have maintained their ‘reduce’ rating on the stock, with a target price of Rs 1,060.

The Street was expecting a dismal show, but there’s a higher than expected decline in profits. On Friday, a day prior to the results’ declaration, the stock fell 1.6 per cent to close at Rs 1,130.55 on the National Stock Exchange, compared to the three per cent rise in the broader markets.

Increased competition, higher interest rates and production worries have been an overhang on the stock, which has shed 21 per cent in the year on the Bombay Stock Echange, as compared to 11 per cent for the Sensex.
 

DISAPPOINTING SHOW
	Q2’ FY12	% chg  y-o-y
Volume	252,307	-19.6
Net sales (Rs cr)	7,537	-16.0
Ebitda margin (%)	6.6	-410 bps
Net profit (Rs cr)	240	-59.8
P/E (x) *	14.2	NA
* Based on FY12 analysts’ estimates  Source: Company, analyst reports

Strike, demand blues
A strike at Manesar, one of its two manufacturing units in north India, and sluggish demand led to a volume and revenue dip. While volumes fell 20 per cent year-on-year to 252,000 units, revenues tanked 16 per cent to Rs 7,537 crore.

Sales of the company’s top-selling Alto model were down 20 per cent year-on-year during the quarter. The company estimates that it took a hit of Rs 840 crore in the quarter due to the plant shutdown. While sales were lower, average realisations were up by about five per cent over the year-before quarter. This was due to a higher proportion of diesel vehicles in the product mix, says Ajay Seth, chief fnancial officer of MSIL.

While production loss for the September quarter due to the strike at Manesar has been pegged at 28,000 units, the loss for the past two quarters is estimated at 83,000 units. Production is, however, back on track and is expected to be scaled up to an annual rate of 1.55 million from 1.3 mn currently. The company also took a decision to set up a third plant in Gujarat, which would help it scale up production when demand improves.

Given the adverse macro conditions, analysts have cut their volume estimates for 2011-12. MSIL logged sales of 533,000 units for the half-year ended September and is expected to close the year at 1.228 million units, believes Enam analyst Sahil Kedia. This is 3.4 per cent lower than the 2010-11 volume of 1.271 mn units.

Input cost spike
A spike in raw material costs, plus a stronger yen, dented Ebitda (earnings before interest, taxes, depreciation and amortisation) margins, which came in at 6.6 per cent, down 410 basis points over the year-ago quarter (one percentage point is equal to 100 bps). Raw material as a percentage of sales at about 81 per cent was up 200 bps over the comparable quarter, said Seth.

Gupta and Vora of Edelweiss Research note in their report that “MSIL’s Ebitda margin dropped to its lowest in the past seven years, to 6.3 per cent in Q2 of FY12 versus 9.5 per cent in Q1 of FY12”.

What did not help was weakening of the rupee against the yen, which increased the cost of imports.

During the quarter, the rupee was down 15 per cent vis-à-vis the yen, leading to a cost rise of Rs 100 crore. Gupta and Vora say, “The appreciating yen) affected margins by 130 bps on both high royalty and raw material costs. High promotion cost bloated other expenditure by 100 bps and weak product mix and negative effect of operating leverage (since sequential sales dropped 10 per cent) accounted for the balance decline.”

The discounts in the current year’s festive season were at an all-time high, says Seth. The company, however, hopes discounts and commodity prices would come down. Cost reduction and localisation should help the company get back to double-digit Ebitda margin levels, says Seth.

On the flip side and among things to monitor are currency movement and competition. “The full impact of an appreciating yen is likely in the second half of FY12, as the exposure is unhedged, whilst promotion and discounts are likely to stay high, amidst poor demand,” note Edelweiss’ analysts.