Ukraine crisis: Brokerages and rating agencies pare estimates for auto cos

While commodity cost inflation will hurt margins, probable increase in fuel prices can potentially lead to demand deferment across segments, according to Motilal Oswal

An imminent hike in fuel prices, coupled with expected supply chain disruption triggered by the global instability, is making brokerages and agencies bearish on the auto sector.
 

Over the last one week, amid a raging war in Ukraine, leading brokerages have pared the earnings’ estimates of several key auto firms. Even credit rating agencies have revised their outlook on the sector downward.
 

While commodity cost inflation will hurt margins, probable increase in fuel prices (15-20 per cent) after the state elections can potentially lead to demand deferment across segments, according to Motilal Oswal’s latest research report.
 

Input cost and fuel price hike will hit two-wheeler firms harder.
 

In the past 18 months, they have increased prices at least five times.
 

Under the current circumstances, brokerages expect manufacturers to resort to further hikes to pass on the cost increase. The hike will come with a lag and this may hurt margins in the interim.
 

Two-wheeler customers have been battling a persistent inflation in the total cost of ownership over the last three years.
 

As a result, brokerages are turning sceptical of a recovery in the segment.
 

Over the last two days, two leading global brokerages — Morgan Stanley and Goldman Sachs — have cut Hero MotoCorp’s estimates.
 

“We lowered volume assumptions for FY22 by 13 per cent to account for a weak run rate,” wrote Binay Singh, equity analyst at Morgan Stanley Asia, in a March 7 report.
 

The two-wheeler industry has passed on all cost pressures to date, but in an ongoing inflationary environment, spot prices imply that the industry will need another price hike of 1.5-2 per cent. This could delay demand recovery, especially for the entry-level segment that Hero is exposed to, wrote Singh.
 

Morgan has lowered the EPS (earnings per share) estimates by 12 per cent each for FY22, FY23 and FY24.
 

Goldman Sachs Equity, which initiated coverage with a ‘sell rating’ on Hero, also points out that the two-wheeler market leader is a lot more vulnerable to impending price increases as compared to its peers. This is owing to its disproportionate reliance — as high as 95 per cent — on the domestic market.
 

The ongoing spike in aluminium prices could necessitate further price hikes in the domestic market. Hero’s ability to pass on further price increases could be limited in the domestic market, wrote Chandramouli Muthiah, equity analyst at Goldman Sachs in a March 3 report. Hero has already witnessed more price increases than export markets due to the recent BS-VI emission standard introductions.
 

“GDP per capita in India has grown only 10 per cent since FY20, much below the high average selling price increases in Hero’s portfolio. We believe these cost and demand elasticity factors could weigh on Hero’s top line growth versus peers,” wrote Chandramouli.  
 

The brokerage expects Hero’s top line to decline 6 per cent in FY22, grow 16 per cent in FY23 and 10 per cent each in FY24 and FY25 in the domestic market.
 

The narrative for auto companies have turned negative just when the winds of change had started blowing in favour of them after the pandemic’s three incessant waves.
 

Ironically, this comes immediately after the December quarter when a positive commentary by the management of companies had prompted upgrades across the sector.
 

Commodity prices have spiked due to Russia’s major presence in key commodities. The prices for commodities relevant to the auto industry have risen sharply, wrote Jinesh Gandhi, analyst at Motilal Oswal.
 

“Based on these spot prices, we estimate the gross impact of raw material cost inflation for two-wheelers, passenger vehicles and commercial vehicles to rise over the second half of CY21 average. The gross impact, albeit, may not fully reflect in Q4 of FY22 due to inventories, contracts and lag effects,” wrote Gandhi.