Tyre companies: Demand weak but margin improves

While Ceat reported highest revenue growth among peers in Dec quarter, operating profit margin declined unlike others

From the average of 26% year-on-year growth recorded by leading tyre companies namely Apollo tyres, Ceat, JK Tyre and MRF in FY12, the same dropped to 8% (average) in nine months ended December 2012 mainly due to slowdown in OEM market. In December 2012 quarter, Ceat and MRF reported a growth in revenues compared to flat movement seen by Apollo and decline witnessed by JK Tyre.

Operating profit margin for companies except Ceat jumped in Q3 and are now far ahead of FY12 thanks to softening of rubber prices which gained further pace in December 2012 quarter. Q3 was mainly responsible for improvement in operating margin in nine months ended compared to FY12 (except Ceat).

However, on the net profit margin front, all companies reported an improvement in nine months ended FY13 and December 2012 quarter compared to FY12. While largest player, Apollo, is an undisputable beneficiary of lower input costs, JK Tyre has seen a strong rebound in profitability in nine months ended December 2012, which is expected to continue even in the current quarter.

Companies are likely to end FY13 on a subdued note thanks to demand pressures witnessed in 9MFY13. However margin (both operating profit and net profit) will show an improvement over FY12 (flat for MRF). Analysts see little pick up in topline in FY14 and expect margins to be only maintained as of now.

MRF and JK Tyre outperformed Sensex and its peers namely Apollo and Ceat significantly in last one year and also six months. Except MRF, others have underperformed Sensex in last three months. Thus, further outperformance of MRF looks difficult following a strong bull run in the stock. Also its valuation is now highest among the pack at 8 times FY14 estimates earnings. Largest player Apollo looks most attractive in the pack with valuation of 5.5 times and it is analysts’ top pick.

Ceat and JK Tyre trade at cheapest valuation of 2.7 times each thanks to highest debt to equity ratio which impacted their profitability in FY11 and FY12 though the same has rebounded in nine months ended December 2012. Nevertheless, given the demand woes, upside in the stocks will be difficult even as rubber prices are expected to remain benign.