Tractor sales boost M&M's Q2 show

Lower raw material costs, better product mix prop up margins and help the company post better than expected profits

Buoyed by robust volume growth from the tractor segment, strong operating profits and lower taxes, India’s largest utility vehicle (UV) maker posted a 10 per cent year-on-year increase in standalone net profit to Rs 989 crore, which was way better than Street expectations.

Most analysts had pegged the number at Rs 860-875 crore. Including MVML (its 100 per cent subsidiary, through which M&M sources components), net profit stood at Rs 1,028 crore. Its standalone operating profit margin, too, beat estimates and came at 12.8 per cent, up 142 basis points year-on-year, while those including MVML came at 14.5 per cent and were up 70 basis points up year-on-year. The combined margins were the highest in the last 10 quarters, according to the company.

Pawan Goenka, president, Auto and Farm Equipment Segments, said the margin improvement was largely on the back of benign commodity prices, price increase and better product mix.

The increased proportion in sales of high margin tractor business was one of the key reasons for the margin surprise. The share of tractors in the product mix stood at 33.4 per cent versus 26.1 per cent in the year ago quarter. Tractor margins at 17 per cent were more than analysts’ expectations and are much better than the Auto segment margins of 11.2 per cent.

The company took a price increase in April which given lower raw material prices helped it to boost margins. The company has indicated that raw material prices are moving up and therefore it took a price hike in October. While the price hikes in tractors were on an average to the tune of Rs 3,500 per unit that for UV were about 0.5 per cent of the selling price.

M&M’s standalone revenues were down nine per cent year-on-year to Rs 8,990 crore which were in line with analyst expectations. The fall in revenues was on the back of seven per cent decline in overall volumes. The volume drop is due to the 16 per cent year-on-year fall in the auto segment which (especially UV segment) is struggling amidst increasing competition.

Given the robust margin performance and strong tractor sales, analysts have a Buy rating on the stock. Most analysts have a target price of Rs 1,000-1,100 for the stock, which is currently trading at Rs 895.

Outlook
The company barely managed to keep its overall volume growth for FY14 to date in the positive territory. Volume growth for the first seven months of the fiscal was up a tad 0.6 per cent largely on the back of a 23.7 per cent increase tractor volumes. The farm equipment segment accounts for about a third of overall volumes. The company has indicated that the tractor sector will grow at 15-17 per cent for FY14 even if sales in the second half are flattish. The company is looking at growing faster than the tractor sector growth.

Its auto division volumes (UVs, three wheelers, LCVs, heavy vehicles) were down 9.4 per cent year-on-year in the first seven months. While most of the sub-segments within auto division reported a decline in volume growth, the utility vehicles which account for 79 per cent of the auto segment volumes was the key disappointment down seven per cent. The bright spot for the company, however, is that its bread and butter models Scorpio and Bolero (largely rural focussed) don't face competitive threat from new models, believes Amit Mishra of Macquarie Capital Securities.

The management, too, reiterated that the two models are immune to competition given their positioning and rural presence. In fact, its Scorpio model sales in October at 5,320 were, according to the company, the highest ever monthly sales number since its launch. The pain point in the auto division continues to be the muted sales of Quanto and Xylo, which is where the company needs to take remedial measures. Analysts expect UV volumes to fall 15 per cent year-on-year in FY14.

Post results though, given the margin up in tractor business, expect analysts to marginally upgrade their earnings estimate for M&M for the current financial year.