Maruti Suzuki

With a 14 per cent return over the past year, the Maruti Suzuki stock has outperformed the BSE Auto index (17 per cent decline) and has turned out to be one of the best defensive picks. At Rs 848, the stock discounts its four quarter earnings by 19 times. Strong performance has pushed its valuation to a premium over the entire auto pack (about 17 times), limiting possible upside over the medium term. However, shareholders of the company can remain invested for its strong earnings visibility.

With value-for-money offerings in the sedan segment and price increases to offset input costs, the company’s top-line for 2008-09 registered a growth of 13 per cent, beating the automobile slowdown. However, net profits have disappointed, declining by 30 per cent due to higher material costs, a change in depreciation policy and forex losses. With sustained sales growth in April 2009, planned launches and good export prospects, the company appears well-placed to deliver continued sales growth this year. Easing margin pressures, as commodity price declines filter in, suggest that the company is on track to deliver better earnings performance.
Strong product portfolio

Maruti’s key advantage lies in its focus on the passenger vehicle segment, which has weathered the slowdown better than commercial vehicles. Products at almost every price point — Alto, WagonR, Zen Estilo, Swift and A-Star — make the company a market leader in the hatchbacks (A2) segment. Intense competition and tight credit availability that prevailed for most of last year muted its sales growth in this space to 2.4 per cent. But with credit crunch easing out, this segment has shown better growth since the beginning of 2009 (10 per cent increase in sales between December 2008 and April 2009). Maruti has enlarged its market share in this segment to 59 per cent this year as against 53 per cent last year. Swift and the recently launched A-Star have helped these gains. The launch of Ritz this week may strengthen Maruti’s position in the hatchback market, as it occupies a price point between Swift and A-Star.

While the hatchback segment witnessed a slowdown last year, it is the sedan or the A3 segment that has delivered surprising growth for Maruti. Driven by launches of SX4 and Swift DZire (the sedan version of Swift), this segment has grown by 53.9 per cent. The sedans have been less vulnerable to the credit crunch, given that a higher proportion of purchases is funded by cash. The Sixth Pay Commission revision has also aided cash purchases in this segment.

Concerns however remain on Maruti’s entry-level models such as Maruti 800 and Alto. Preferred by the urban middle-class, these cars may face challenges in 11 cities, including Delhi, Mumbai Kolkata and Chennai, after a change in emission norms to Bharat Stage IV mandated by October 2009.

The company may have to either re-engineer these versions or phase them out in these cities to meet the new norms. As of now, there is not much clarity about what it plans to do in this regard. The Tata’s Rs 1 lakh car, the Nano, has also been perceived as a threat to Maruti’s entry level models. About 50 per cent of the bookings for the Nano are estimated to be for its high-end variants which are relatively close to Maruti 800 and Alto in terms of performance.

With the on-road price differential (in Delhi) of about Rs 35,000-Rs 50,000 between Maruti’s entry-level models and Nano’s high-end version, competition from this source cannot be ruled out.
Mighty export ground

Domestic sales apart, exports too are seen as a key growth driver for Maruti over the next couple of years. Engineered to suit European standards, A-Star has lifted Maruti’s exports by 32 per cent for FY09. Exports accounted for 10 per cent of the company’s sales volumes in the last fiscal.

Maruti has a contract with Nissan to manufacture 50,000 of A-Star under the ‘Pixo’ label in Europe and a tie-up with Suzuki to ship 10,000 units of the car to Latin America, Algeria, Australia and some African nations.

Favourable incentives offered by the European countries, for fuel-efficient small cars to replace the older ones, give ample room for the company to expand its export volumes. Maruti has reached 38 per cent of its export target (two lakh units by fiscal year 2010-11) so far. The launch of Ritz (another model that may suit European requirements), could also hold potential.
Financial scorecard

The year 2008-09 ended with a sales growth of 13 per cent, while total volumes grew by 3.6 per cent. Excise duty cuts aided sales margins. High-cost pressures from some raw materials such as steel, aluminium alloys and rubber, and a change in product mix in favour of diesel variants (particularly in Swift and DZire), resulted in the operating profits declining by 48 per cent on a year-on-year basis. The net profits shrank by 30 per cent.

Forex losses incurred in FY-09 may be viewed as a one-off profits dampener since they were on account of import contracts for raw materials. The company has been slow to benefit from softened commodity prices since it has entered into long-term agreements for raw materials.

The effect of lower input costs will trickle in by the first quarter of this fiscal. With initiatives to localise vendors, operating profits are expected to grow by 20-30 per cent in 2010-11. On a sequential basis, the company has seen 33 per cent increase in sales volume and a 19 per cent increase in net profits for the March 2009 quarter.