Good Q3 key triggers for Ashok Leyland

Stock outperformed peers on robust volumes and expectation of higher growth

Even as other stocks in the frontline auto pack have seen some losses in recent weeks on pollution control measures, slowing volume growth, China slowdown and weakening yen, Ashok Leyland has been making gains in this period. The stock has gained six per cent since the start of the year on strong December volumes, expectations of a good show in the third quarter of FY16 and an export order.

In December, the company reported a 31 per cent year-on-year rise in volumes, led by a 35 per cent growth in medium and heavy commercial vehicles. On the back of new product introduction, upgradation of existing portfolio and expanding its distribution network the company has increased its market share by 600 basis points from FY14 levels to 30 per cent. What has added to the positive sentiment has been the recent order win for 680 vehicles and spare parts from the Zimbabwe government for $50 million (Rs 330 crore).

For the December quarter, the company’s volumes are expected to see a 22 per cent increase year-on-year driven by revival in demand for trucks. Including medium commercial vehicles, volumes in the quarter are expected to top 27 per cent on higher economic activity and improvement in business sentiment, according to analysts at Motilal Oswal Securities. Another positive in the quarter has been some reduction in discounts which will help realisations of Ashok Leyland improve 4.7 per cent year on year. A sharp jump in volumes and an increase in realisations should help revenues for the quarter move up 28 per cent to Rs 4,295 crore. A fall in commodity costs is expected to improve profitability. Raw material to sales for the quarter are expected to fall 400 basis points to 70.5 per cent year-on-year. This should help improve operating profit margins by about 300 basis points to 10.6 per cent.  Strong revenue and margin growth should help the company’s operating profit to grow by 50 per cent year-on-year in the quarter.

Going ahead, any proposal to scrap older commercial vehicles will also benefit Ashok Leyland. According to HDFC Securities, if the government scraps commercial vehicles older than 15 years, 500,000 medium and heavy commercial vehicles will be eligible for the phase-out, which is twice the FY15 commercial vehicle volumes. At the current price, the stock is trading at 18.5 times its FY17 earnings estimates.