Eicher: Royal Enfield growth to moderate

Cutting expectations for the two-wheeler venture has led to lower valuation multiple for stock

After sliding from Rs 21,000 levels in August to around Rs 17,500 recently, the Eicher Motors’ stock has again seen some pressure in the past two trading sessions, as brokerages have downgraded it on valuations and moderation of their growth expectations. Eicher’s September quarter performance was a bit below expectations. While the motorcycle (Royal Enfield) business continues an outlier among two-wheeler companies, with strong volume growth and margins, profitability of its commercial vehicle (CV) venture is under pressure.

Volumes of Royal Enfield were up 56 per cent year-on-year, while operating profit was up 76 per cent on higher prices (1.2 per cent rise in August) and lower commodity costs. This, with lower employee costs, helped margins jump 270 basis points to 27.8 per cent. The number was higher than estimates. Analysts expect margins to stay around 28 per cent, as the company is unlikely to get major benefits from raw material costs.

While Royal Enfield volumes continue to move up, with sales volumes up 71 per cent year-on-year in October (51 per cent higher in January-October period), analysts expect this to moderate. Analysts at Kotak Institutional Equities feel with waiting period of Royal Enfield business coming down to one to four months from five months, it indicates some moderation in growth. They believe growth will slow after Eicher achieves a scale of 500,000 units (450,000) annually.

Growth will moderate to 20 per cent in 2016, as the sector volume growth moderates, with a rise in penetration, they add. Eicher is expanding capacity from 450,000 to 620,000 units in 2016 and further to over 900,000 in 2018.  Volumes in the CV venture were up 19 per cent year-on-year in the quarter, driven by a 40 per cent jump in light CVs. Despite the gain due to fall in commodity costs, inferior product mix saw margins for the joint venture come below expectations; it fell 50 basis points to 7.3 per cent. Lower proportion of buses and greater numbers of higher tonnage Eicher vehicles dented the margins. Though the company expects volumes in the trucks segment to improve, given the change in emission norms, it has lagged the sector, with its core segment of five-14 tonne vehicles losing market share. While discounts in the sector are high, the company is not offering any discount on the new Pro series trucks. While analysts at Emkay are positive on the structural story of Eicher’s two-wheeler business, they have downgraded the stock as in FY18, they expect a more normalised growth. Analysts are assigning a lower price-earnings of 30 times one-year forward estimates against 35 times earlier. After the correction, the stock trades at 31 times its FY17 estimates. Investors must await further correction.