M&M: Raw material costs bite

Weak tractor sales and margin erosion in automotive segment worry market

Mahindra & Mahindra is the latest company to have disappointed the Street. In the prevailing environment, the company has found it tough to grow net profit, even as revenues have grown at a steady clip. While revenues (standalone) grew 34.3 per cent year-on-year to Rs 8,978.7 crore in the December quarter, profit after tax grew just 7.3 per cent to Rs 662 crore, after excluding an exceptional item in the year-ago period. Last year, the company had booked an exceptional profit of Rs 117.5 crore by selling its holdings in Owens Corning India.

Analysts say high raw material prices are eating into profitability. Raw material as a percentage of sales has jumped to 74.3 per cent from 69 per cent in the year-ago period. The fall in the rupee made matters worse, further fuelling input inflation. Despite this cost push, operating margins improved to 12.2 per cent from 11.9 per cent in the September quarter. The company has managed to expand margins by keeping a check on other expenses and employee costs as a percentage of sales, say analysts.

While operating margins have improved sequentially, the market has been spooked by the low margins clocked in the utility vehicles (UV) segment, as costs rose due to the XUV 500 launch. The segment’s Ebit margins stand at 8.2 per cent, the lowest in two-and-a-half years, says Deepak Jain of Sharekhan. This was a negative surprise for the market. In contrast, farm equipment margins stood at 15.6 per cent. However, Jain believes margins would improve from the next quarter, as the company has already undertaken a price increase of three per cent in UVs. Also, depreciation was higher in the third quarter due to new launches.

Going forward, analysts feel two major factors may affect the stock’s performance. First, in case the government imposes a high tax on diesel vehicles, the demand for M&M’s UVs may suffer. The other concern is tapering demand for farm equipment. So far, the segment has grown ahead of the market. However, in the December quarter, tractor sales grew in line with industry. According to the company, the domestic tractor industry grew at a moderate pace, with sales growing 12.7 per cent over the year-ago period. In comparison, M&M’s tractor sales grew 12 per cent year-on-year. Dhananjay Sinha, equity strategist at Emkay Global, believes the revenue and profit beat may not continue, as tractor sales are slowing due to the cost factor and slowing credit growth in rural India.