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AUTOMOBILES

Analysts:

The new two wheels of growth

Ashvin Shetty, [email protected]: +91 22 3043 3285

December 2015

Ritu [email protected]: +91 22 3043 3292

Gaurav Khandelwal, [email protected]: +91 22 3043 3132

‘80s

‘90s

Electrification

RegulationsE-commerce

Automobiles

December 22, 2015 Ambit Capital Pvt. Ltd.

CONTENTS

The new two wheels of growth ……………..……………………………………… 3

Indian 2Ws: Healthy but volatile track record of growth...………………………4

2Ws could grow 8% over FY15-FY25 .………………………………………………6

Key risks to India’s 2W industry growth …………………………………………..11

Hindi belt to drive further scooterisation over the next five years …………….13 (42% by FY2020)

Premium bikes’ share to rise to 27% by FY2020 ………………………………..15

Category/segment shifts have significantly influenced …………………………18 market share changes

IBAS framework: HMSI is the clear winner, rest score average ……………….25

TVSM to ride shifting product preferences, Hero at a disadvantage………….27

Upgrade TVSM to BUY ………………………………………………………………30

Can disruptive technologies impact the 2W industry? ………………………….35

COMPANIES

TVS Motor Company (BUY) …………………………………………………………37

Bajaj Auto (SELL) ……………………………………………………………………..53

Hero MotoCorp (SELL)……………………………………………………………….61

Eicher Motors (SELL)………………………………………………………………….69

Ambit Capital and / or its affiliates do and seek to do business including investment banking with companies covered in its research reports. As a result, investors should be aware that Ambit Capital may have a conflict of interest that could affect the objectivity of this report. Investors should not consider this report as the only factor in making their investment decision.

The new two wheels of growth

We estimate domestic 2W industry to post 8% volume CAGR over FY15-FY25 (10% over FY05-FY15) given continued low penetration (<7.0%) in states comprising ~58% population. However, this growth will likely be delivered by scooters (FY15-FY20 sales CAGR 18%) and premium bikes (12%) as against commuter bikes (5%). TVSM appears best placed to ride these product shifts whereas Hero, the most vulnerable. With 2W OEMs multiples largely tracking earnings growth, we value Hero/Bajaj at historical multiples (14.7x) but TVSM (14.3x) at a premium. After factoring in BMW tie-up benefits, we now upgrade TVSM to BUY.

Domestic 2W to deliver 8% volume CAGR over FY15-FY25 … Our cluster based analysis (we classify Indian states into clusters based on their 2W penetration) indicates that domestic 2W industry has the potential to deliver 8% volume CAGR over FY15-FY25. This sales growth would be driven by rising 2W penetration and scooterisation in the cluster 1 states (which account for a massive 58% of Indian population but with merely 6.9% 2W penetration currently). Key risks to this growth rate are Government regulations and emergence of a well-entrenched public transport system. … led by scooters and premium bikes We expect scooters to continue to gain market share in domestic 2Ws as their acceptability improves in the cluster 1 states (where currently the scooter sales mix is low at 16% vs 28% for all-India). We estimate scooters’ share at 42% of domestic 2W sales by FY2020 (implying sales CAGR of 18% over FY15-FY20). Within the shrinking motorcycle segment (sales CAGR of 5% over FY15-FY20), premium bikes’ (150cc and above) share would rise to 27% by FY20 vs 20% now (sales CAGR of 12%) driven by rising household incomes, customer aspirations and commuting needs led by scooters. TVSM to benefit from changing preferences, Hero at a disadvantage Our deep dive into evolution of the Indian 2W competitive landscape indicates that shifting product preferences and technological edge (enabling differentiated and reliable products) are the key success/failure factors. While our IBAS framework gives a clear competitive edge to Honda (other players score average), we expect TVSM to be the key beneficiary of scooterisation and premiumisation (its BMW tie-up likely helping here). On the other hand, Hero appears most vulnerable in terms of both technology and product shifts. Electrification and e-commerce not an immediate threat Electric 2Ws would involve long gestation in India, impeded by steep acquisition costs (low scale, lack of supplier ecosystem) and absence of adequate infrastructure (charging points). E-commerce is yet not a threat and may be restricted to a facilitation role (sales booking). Upgrade TVSM to BUY After witnessing significant de-rating post Hero Honda split but an equally rapid re-rating in 2HFY15, Bajaj/Hero (14.7x) are now trading close to historical averages. TVSM’s higher net earnings growth (40% CAGR over FY15-18) than Hero/Bajaj (12-13%) but lower RoICs justify marginal discount (14.3x vs. 14.7x for Hero/Bajaj) but significant premium to its own historical P/E. Maintain SELL on Hero (rising competitive intensity and vulnerable to segment shifts), Bajaj Auto (market share loss in premium segment, muted exports growth), Royal Enfield (expensive valuation) but upgrade TVSM to BUY (factoring in BMW benefits, market share gain in domestic motorcycles).

THEMATIC December 22, 2015

AutomobilesPOSITIVE

Key Recommendations

TVS Motor Company BUY

Target Price: `330 Upside: 16%

Bajaj Auto SELL

Target Price: `2,410 Downside 5%

Hero MotoCorp SELL

Target Price: `2,580 Downside: 4%

Eicher Motors SELL

Target Price: `15,500 Downside: 5%

HMSI scores well on most of the IBAS parameters Hero Bajaj HMSI TVSM

Innovation

Brands/Reputation

Architecture

Strategic Asset

Overall

Source: Company, Ambit Capital research Note:

=Strong, =Moderate and =Weak

TVSM best placed to benefit from Scooterisation & Premiumisation

Premiumisation Scooterisation

Hero Bajaj HMSI TVSM Source: SIAM, Company, Ambit Capital research Note: = Strongest; = Relatively Strong;

= Average; = relatively weak and = Weakest

Analyst Details

Ashvin Shetty, CFA

+91 22 3043 3285

[email protected]

Ritu Modi +91 22 3043 3292

[email protected]

Gaurav Khandelwal, CFA +91 22 3043 3132

[email protected]

Automobiles


Indian 2Ws: Healthy but volatile track record of growth Growth and penetration The Indian 2W Industry has posted 10% volume CAGR over past 10 years ...

The Indian 2W industry has delivered 10% CAGR in its volumes over the past ten years. This growth has been driven by rising household incomes, increasing use of 2Ws as the preferred choice for low-cost commuting and improving 2W penetration across urban and rural areas.

… but punctuated by frequent periods of volatility …

However, this long term growth has been punctuated by several periods of volatility.

Exhibit 1: Evolution of the domestic 2W industry over the last 2 decades

Source: SIAM, companies, Ambit Capital research

Healthy growth years through 1990s and mid-2000s with some aberration: Through the 1990s, domestic 2W industry volumes grew at a healthy rate (14% CAGR over FY93-FY2000) driven by rising penetration and emergence of high mileage four- stroke motorcycles. Between FY2000-FY02, industry volumes slowed on account of weak economic conditions. However, demand bounced back and grew at 13% CAGR between FY02-FY07, as the Indian economy regained momentum during this period.

Significant demand volatility between FY08 to FY11: The industry yet again went into a tailspin in FY08 (volume decline of 8%) and FY09 (volumes up only 2.5%) as the economy slowed down and the major financiers such as ICICI and Citi Financial tightened credit standards for 2W financing (based on high delinquencies). In FY10 and FY11 the industry witnessed a sharp rebound with volumes growing at 26% each year due to recovery in economic activity and stimulus from the Indian government (such as increased rural spending and reduction in excise duty rates). This period also coincided with implementation of the Sixth Pay Commission recommendations.

Subdued demand since FY13: However, the growth momentum could not continue into FY13 and FY14 (industry volumes grew merely by 3% and 7% respectively) due to rising inflation/interest rates, reinstatement of higher excise levies and moderation in economic growth. This particularly impacted 2W sales in the urban areas. Sales in rural markets (constituting 40% of the 2W sales), however, continued to hold up due to high Government spending.

This trend however reversed in FY15 and FY16 where urban demand rebounded to some extent due to lower fuel prices/inflation and interest rates. However, two continuous years of weak rainfall (2014 and 2015) together with lower rural spending by the new Government, resulted in stress in rural demand. This impacted

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Domestic 2W industry ('000s) YoY growth - RHS

Growth led by rising penetration and emergence of high mileage four stroke motorcycles

Weakeconomicconditionsimpact2W sales

Strong growth ineconomy

Tightening financing credit for 2Ws

Fiscal sops, improving economy

Rising inflation/UrbanSlowdown

Rural stress

After witnessing three consecutive years of muted growth from FY2000-FY03, the Indian 2W industry had its best run to FY07

Automobiles


2W sales in the rural areas. Industry volumes grew by 8% in FY15 but declined by 4% in 1HFY16.

... and shifting customer preferences between motorcycles and scooters

Scooters dominated the 2W market until the mid-1990s: Geared scooters dominated the Indian 2W market till the mid-1990s, achieving a peak market share of 48% vs 30% share for motorcycles in FY95. The strong growth of scooters during this period was driven by its relatively lower cost, higher mileage and lower maintenance costs compared with existing two-stroke motorcycles at that time.

Introduction of 4-stroke motorcycle led to the decline of scooters: Entry of Hero Honda in the motorcycle segment with its 4-stroke Japanese technology brought reliability, durability and convenience particularly on poor roads. These motorcycles also delivered much superior mileage over scooters particularly in the scenario of rising fuel prices (post the Gulf War). This resulted in a shift of consumer preference towards motorcycles. This shift was led by the launch of Splendor in 1994. This shift was so profound that between FY94 and FY07 motorcycles registered 22% volume CAGR vs flat volumes for scooters. By end-FY07, share of scooters in the 2W industry reduced to just about 12%.

Gearless scooters drive the re-birth of scooters: This trend once again started to reverse from FY08. This change was driven by Honda Motorcycle and Scooters India (HMSI’s) Activa, a gearless scooter introduced in 2000. The strong growth of scooters was driven by factors such as improving mileage, adoption by females and usage as a family vehicle. From FY08-FY15, motorcycle volumes registered 9% CAGR vs 22% CAGR registered by scooters. Consequently, scooters’ share in the domestic 2W industry bounced back to nearly 28% in FY15.

Exhibit 2: Mid 1990s and late 2000s have been inflection points of shifting product preferences between motorcycles and scooters

Source: SIAM, Ambit Capital research

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Scooter share Motorcycle YoY growth Scooters YoY growth

Geared scooters dominated the Indian 2W market due to their lower cost and higher mileage vs motorcycles

Entry of Hero Honda with its 4-stroke Japanese motorcycle technology. High fuel prices post the Gulf War also helped motorcycle sales

Customer preference started shifting towards ungeared scooters with launch of HondaActiva

Over the past thirty years, there have been two major shifts in scooter/motorcycle preferences (one starting mid 1990s and the one we are witnessing since FY2008)

Automobiles


2Ws could grow 8% over FY15-FY25 Our cluster-wise growth/penetration analysis indicate further room for 2W growth in India Despite healthy growth of 10% over the last twenty years, we believe, the 2W industry volumes have room for further growth albeit at a marginally lower pace than the historical growth rate of 10% over FY05-FY15.

We believe the domestic 2W industry has the potential to deliver 8% CAGR in volumes over FY15-FY25. Our expectation is primarily centered on our growth and penetration analysis across different regions. Based on our estimates for 2015, regions (or states) constituting nearly 58% of Indian population have 2W penetration of only 6.9%. This is nearly 40% lower than the all-India penetration level of 11.3% and 60% lower than the penetration level of other clusters 2 and 3, at 16.5%.

Consequently, we expect 2W industry growth over the next 10 years to be led by sales growth in these under-penetrated regions. Our cluster based analysis is explained in detail in the following section.

Introduction to our cluster based growth and penetration analysis (based on 2005 data)

We have classified the various Indian states (regions) under “clusters” based on their 2005 2W penetration levels. The key attributes of these clusters are as shown in exhibit 3 below.

Exhibit 3: Cluster classification based on 2005 2W penetration levels

Cluster States considered Population Per capita

GDP (̀ ) 2W sales

(mn) Average 2W Penetration in mn % of

total

1

Assam, Bihar, Chhattisgarh, Himachal Pradesh, Jammu & Kashmir, Jharkhand, Madhya Pradesh, Odisha, Rajasthan, Tripura, Uttar Pradesh, Uttarakhand, West Bengal

629 58% 17,671 2.2 3.1%

2 Andaman, Andhra Pradesh, Haryana, Karnataka, Kerala, Maharashtra

294 27% 34,845 2.3 6.7%

3 Gujarat, Punjab, Tamil Nadu 146 13% 35,522 1.4 10.9%

4 Delhi, Chandigarh, Goa, Puducherry 18 2% 70,237 0.3 20.6%

All India 1087 100% 25,588 6.2 5.4%


Cluster-wise growth in sales/penetration over FY05-FY15 shows interesting trends

Our observations from the cluster-wise 2W sales and penetration trends over FY05-FY15 are:

Cluster 1 states which had the lowest 2W penetration in 2005 at an average 3.1% recorded the highest 2W volume CAGR of 11.3%. This cluster has more than doubled its 2W penetration to 6.9% by end- FY15. However, this penetration level is still 40% lower vs that of all India 2W penetration;

Clusters 2 and 3 states which had relatively fair 2W penetration levels of 6.7% and 10.9% respectively in 2005 also recorded a healthy 9%-10% CAGR in 2W sales. However, we also observe that an increase in the level of scooterisation, especially from 2010, played an important role in 2W growth in these clusters. Both these clusters have about 40% scooter share in their overall 2W sales, much higher than ~30% at the all India level. This implies that the growth from higher penetration levels would need support from scooters (incremental new demand from females/elderly citizens).

Despite healthy growth of 10% over the last twenty years, we believe, 2W industry volumes have room for further growth

Growth from higher penetration levels would need support from scooters

Automobiles


Exhibit 4: Cluster 1 states have recorded highest growth over FY05-FY15 due to their low base, whereas scooterisation has played an important role in Cluster 2/3 states’ 2W growth

Cluster Population (in mn) Per capita GDP 2W Sales (in mn) 2W stock (in mn) 2W penetration Scooter

share

2005 2015 2005 2015 2005 2015 CAGR 2005-15 2005 2015 2005 2015 1HFY16

1 629 749 17,671 57,365 2.2 6.4 11.3% 19.3 52.0 3.1% 6.9% 16%

2 294 333 34,845 122,250 2.3 5.3 8.9% 19.6 48.7 6.7% 14.6% 39%

3 146 170 35,522 123,217 1.4 3.6 9.7% 15.9 35.7 10.9% 21.0% 35%

4 18 22 70,237 244,559 0.3 0.6 8.0% 3.7 7.6 20.6% 35.2% 54%

Total 1,087 1273 25,588 86,311 6.2 16.0 9.9% 58.6 144.0 5.4% 11.3% 28%

Source: SIAM, Census, Ambit Capital research

FY15-25 2W volume growth of 8.0% to be led by cluster 1 states

Going forward, we believe there is further room for growth of 2Ws in India. Our expectation is primarily centered on the rising penetration and scooterisation in the cluster 1 states.

Average 2W penetration in cluster 1 states (comprising 58% of the Indian population) stood at 6.9% as at FY15-end. This level of penetration is the same as what cluster 2 achieved in 2005. Furthermore, the average per capita GDP for cluster 1 states at `57k as at FY15-end, is in fact higher than that of cluster 2 states’ per capita GDP of `35k as at FY05-end. Hence, we believe that growth in 2W sales in cluster 1 states can mirror the cluster 2 sales growth between FY05-FY15. We expect cluster 1 states’ average 2W sales to witness 9% CAGR between FY15-FY25 (similar to the growth trajectory of cluster 2 states from FY05-FY15). However, at the same time, we believe that the rising level of scooterisation would play an important role in 2W sales growth in cluster 1 (discussed in detail in the scooterisation section on page 13). This would imply a penetration level of 14% at the end of FY25 assuming a population growth of 1% p.a.

We expect 2W sales in the cluster 2 and 3 states (comprising 40% of the Indian population) to grow at an average CAGR of 7.0% over FY15-FY25. This rate is lower than that of the cluster 1 states and lower than sales growth witnessed by these clusters over 2005-15. This is primarily on account of increased 2W (including scooters) penetration in these clusters. This would imply a penetration level of 28% at the end of FY25.

Based on these cluster-wise growth expectations, we believe the domestic 2W industry can witness a volume CAGR of 8.0% over FY15-FY25 driven by 9.0% volume CAGR in cluster 1 states and 7.0% volume CAGR in cluster 2/cluster 3 states. Whilst cluster 1 growth will be driven by scooterisation, 2W sales growth in clusters 2 and 3 will be driven by replacement demand and premium bikes. (Detailed in the section on premiumisation on page 15)

Exhibit 5: We believe domestic 2W industry can witness a volume CAGR of 8.0% over FY15-25

Cluster Population (in mn) Per capita GDP 2W sales (in mn) 2W stock (in mn) 2W penetration Scooter

share

2015 2025 2015 2025 2015 2025 CAGR 2015-25 2015 2025 2015 2025 1HFY16

1 749 835 57,365 148,982 6.4 15.1 9% 52 115 6.9% 13.8% 16%

2 333 368 122,250 386,009 5.3 10.5 7% 48 91 14.6% 24.6% 39%

3 170 184 123,217 427,407 3.6 7.2 7% 36 65 21.0% 35.4% 35%

4 22 23 244,559 851,503 0.6 1.0 5% 8 11 35.2% 48.2% 54%

Total 1273 1410 86,311 258,807 16.0 33.7 8% 144 282 11.3% 20.0% 28%

Source: Ambit Capital research

We expect cluster 1 states’ average 2W sales to witness 9% CAGR between FY15-25 (similar to the growth trajectory of cluster 2 states from FY05-15) driven by rising penetration and scooterisation

Automobiles


Exhibit 6: FY05-FY15 2W sales growth led by low base of cluster 1 states and scooterisation in clusters 2/3

Note: SIAM, Ambit Capital research. Note: Size of the bubble indicates population in 2005 and 2015

Exhibit 7: FY15-FY25 2W sales growth to be led by rising penetration and scooterisation in cluster 1 states

Note: SIAM, Ambit Capital research. Note: Size of the bubble indicates population in 2015 and 2025

Our 8.0% volume CAGR estimate over FY15-FY25 implies 80% 2W penetration amongst affordable households by FY2025 We estimate the monthly cost of owning and maintaining a motorcycle (commuter bike like Splendor) to be close to `2.8k or `34k annually. This includes monthly repayment of loan instalments. As a result, we believe a household with an annual income of `200k can afford a 2W. As of FY14, there were ~211mn households in India with an average annual income of >`200k and hence in a position to afford a 2W. This implies 2W penetration of ~53% amongst affordable households.

Exhibit 8: We estimate ~211mn households in India who can afford a 2W Population quartile based on per capita income

No. of households in

2013-14 (in mn)

Share of India’s HH income

Average HH income at 2013-14 prices HH income

CAGR over FY05-14 2004-05 2013-14 2004-05 2013-14

Bottom 20% 43.9 5.2% 6.6% 64,137 136,727 8.8

21-40% 47.9 8.7% 11.0% 99,204 208,595 8.6

41-60% 54.9 12.8% 15.0% 139,089 247,955 6.6

61-80% 60.8 20.6% 21.2% 220,122 315,894 4.1

Top 20% 62.5 52.7% 46.1% 519,210 669,417 2.8

Total 270.1 219,469 335,643 4.8

Source: Industry, Ambit Capital research

Cluster 1, FY05

Cluster 2,FY05

Cluster 3,FY05

Cluster 1,FY15

Cluster 2,FY15

Cluster 3,FY15

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Monthly cost of owning a Hero Splendor 100cc (` 2,800)


EMI51%

Fuel cost31%

Maintenance14%

Parking4%

Automobiles


Going forward, we expect trends toward nuclearisation and increase in the household income to result in an increase in the number of households who can afford a 2W. We estimate the number of households who can afford a 2W to reach 307mn by 2025 (assuming, 1% population growth rate p.a. and decline in the average family size from 4.7 in FY15 to 4.1 in FY25). As against this, our 8.0% volume CAGR estimate for 2W industry growth between FY15-FY25 implies a 2W park of 250mn units by FY2025-end. This suggests 2W penetration of 80% amongst affordable households by FY2025-end.

Indian 2W penetration to be higher than developed markets but lower than the East Asian nations Divergent trends in 2W growth/penetration across various countries

In global markets, we find divergent trends in 2W growth and penetration across different countries. Developed countries have a much lower 2W penetration level as compared to the developing countries. In developed markets such as the USA, Japan and Germany, 2W penetration levels are lower at 3%-9%. On the other hand, in developing countries, the 2W penetration levels are higher, particularly in China and the East Asian countries like Indonesia (26%), Vietnam (32%) and Thailand (29%).

Exhibit 9: Significant divergence in 2W penetration levels across different countries


Limited 2W population/penetration in developed countries, driven primarily by their use for recreation

Given the high level of incomes in the developed markets, passenger vehicles (PVs) are the primary mode of commuting. On the other hand, the use of motorcycles is limited to recreation purposes rather than commuting. Also, the availability of better urban infrastructure severely limits the use of 2Ws for commuting in these countries. Consequently, developed countries have limited 2W population and penetration. In fact, within 2Ws, there is a far higher share of premium/powerful bikes in these countries.

China not a right comparable for 2Ws due to pre-dominance of electric 2Ws

China is the world’s largest market for 2Ws, selling close to 47.5mn units (~50% of the global demand). Demand grew by nearly 20% CAGR over 2003-08, due to strong economic and per capita income growth. New household formation (462mn in 2015 vs 324mn in 1990) and strong growth in the urban population during this period also supported the demand for 2Ws.

However, nearly ~75% of the 2Ws sold in China are electric motorcycles. Internal combustion engine (ICE) based 2Ws are banned in around 200 cities in China and many parts of the country have mandatory scrapping requirements for older motorcycles owing to high pollution levels. The penetration rate of ICE-based 2Ws in China is 10%, which is somewhat similar to that in India.

Kenya India

VietnamSri Lanka

Indonesia

ThailandChina (excluding electric 2W)

China (Including electric 2W)Colombia

MalaysiaBrazil

Spain ItalyJapanGermany

AustriaUS

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Developed markets have a very high share of super-premium bikes

Source: Eicher Motors

East Asian countries have a high affinity for 2Ws

Automobiles


Socio-cultural factors and unique usage patterns have fuelled 2W growth in East Asian countries - This is unlikely to be replicated in India

Several East Asian countries like Indonesia, Vietnam and Thailand have a significantly higher level of 2W penetration than India.

Demand for motorcycles in Indonesia is 7.8mn units annually with a high penetration level of 26%. Sales in Indonesia nearly tripled between 2003 and 2013 (similar to India) as the economy grew at a swift pace and living standards improved (per capita income of US$3,492 for Indonesia vs US$1,596 for India at the end of CY14). Further, the following factors fuelled strong growth of motorcycles in Indonesia: (a) increasing use of 2Ws as taxis; (b) strong female participation in workforce; and (c) high financing penetration of more than 90%. Similarly, Thailand and Vietnam have a relatively high level of 2W penetration at 28% and 30% respectively somewhat driven by similar factors as Indonesia.

We expect 2W penetration in India to increase from 11.3% as at FY15-end to ~20.0% as at FY2025. Versus our expectation of 10 years for India, the time taken by Indonesia to bridge these penetration levels was nearly half, at 5 years (from 2005 to 2010). We believe it is highly unlikely that India can reach East Asian 2W penetration levels due to low female participation in the work force and different usage patterns.

Female participation in workforce is much higher in East Asian than India


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Automobiles


Key risks to India’s 2W industry growth We see the following risks to our long term volume growth estimate of 8% CAGR for the domestic 2W industry:

Any significant regulations imposed on the 2W industry

A number of different laws and regulations have impacted the motorcycle industry in specific countries. The regulations are generally more common and comprehensive in developed nations. These restrictions on use of 2Ws are implemented mainly to enhance the rider’s safety and/or to reduce the emission levels. Some of these restrictions have greatly reduced the appeal of motorcycles relative to other modes of transportation in these countries.

On the other hand, in some countries, local policies have positively impacted 2W sales. For example, subsidies in certain countries like China, Spain and Taiwan have helped electric 2W sales, though it has negatively impacted ICE motorcycles.

Currently, there are no specific regulations surrounding the usage of 2Ws in India. The only regulations are those surrounding emission norms. In line with other vehicle categories, the 2W industry in India currently follows BS-IV (equivalent to Euro IV) emission norms in 63 cities across certain states (BS III is applicable across most of India). As per the recent notification1 from the Union Ministry of Transport, BS-V and BS-VI emission standards for two-wheelers will be implemented from 2019 and 2022, respectively (vs earlier guidelines of its rollout in 2022 and 2024 respectively).

Exhibit 10: Major regulations surrounding 2W industry in various countries

Country Regulations impacting 2Ws

Indonesia Requirement of 25% down payment in 2012 resulted in significant decline in 2W sales in 2012 and 2013

China

Restrictions on the use of Internal Combustion Engine (ICE) motorcycles in ~200 cities due to high pollution levels. Additionally, there are some cities which have banned use of electric bikes due to the belief that they lead to accidents and road congestion

Japan, Hong Kong All motorcycles of <125cc have been banned from freeways

South Korea Banned motorcycles from toll ways, major highways, and designated bridges

Taiwan All motorcycles have been banned from freeways

Africa Banned use of 2Ws as taxis (which were popular in Africa) in a number of countries because of safety issues

Philippines Banned riding on the back seat of motorcycles in many cities in an effort to curb a wide range of crimes


Emergence of a strong public transport system can negatively impact 2W sales

Presence of an established public transport system reduces reliance on 2Ws. In other words, countries/cities/regions with an unreliable and overcrowded public transportation system usually have a higher proportion/population of 2Ws. This is also one of the reasons why developed countries have relatively lower 2W population vs developing countries. This also holds true for 2W penetration in different regions within a country. For instance, Mumbai, which has much larger population than Pune, has lower 2W population than the latter due to presence of a relatively better public transportation system (particularly local railway networks).

We see limited substitution risk from entry-level cars

There is a considerable difference in the cost of ownership of an entry level car and a commuter motorcycle. For instance, the monthly cash cost of owning a Hero Splendor is ~`2.8k which is 70% lower vs that of entry level car Alto 800 (̀ 10.3k/month). We estimate a household with a monthly income of `200k can afford an entry level bike while a household with a monthly income of `500k can afford an entry level car. Hence, we believe there is clearly no trade-off between owning an entry level bike and an entry level car. This also holds true for the mass-premium bike segment like

1 http://morth.nic.in/showfile.asp?lid=1859

Pune has higher 2W penetration than Mumbai

Name 2W park (2013)

2Ws /’000

Population

Mumbai 2,187,398 175

Pune 3,739,824 397

Source: SIAM, Census, Ambit Capital research. Note: Population taken as per Census 2011

Automobiles


Pulsar 150, which has a substantially lower cost of ownership than an entry level car. Furthermore, our discussions with industry experts indicate that there is generally no trade-off between owning a premium/high-end bike (200cc and above) and that of cars as decisions to purchase bikes in those categories are generally driven by aspirations to own and ride a bike.

Exhibit 11: Cost of owning a bike is far lower than that of an entry level car

` Splendor Pulsar Pulsar Alto 800 LXi

100cc 150cc 220F Petrol

On-Road price 52,412 79,826 96,781 347,715

% financed through Loan 70% 70% 70% 75%

Cash down payment 15,724 23,948 29,034 86,929

Loan Component 36,688 55,878 67,747 260,786

Interest rate 24.8% 24.8% 24.8% 11.0%

Loan Duration 3 years 3 years 3 years 5 years

Monthly Instalment (a) 1,455 2,216 2,686 5,670

Mileage (Km/l)- Actual 63 45 33 17

Average Distance travelled (km) 30 30 30 30

Fuel consumption/month (l) 14 20 27 53

Monthly fuel cost (b) 872 1,221 1,665 3,233

Monthly spares & Maintenance cost (c) 400 600 700 800

Parking charges (d) 100 100 100 600

Total monthly cost (a + b + c + d) 2,827 4,137 5,152 10,303

Source: Industry, Company, Ambit Capital research

Automobiles


Hindi belt to drive further scooterisation over the next five years (42% by FY2020) Product improvements and social changes have fuelled scooter growth in recent years

As discussed in the preceding sections, factors driving the increasing share of ungeared scooters in the overall 2W mix are: (i) reducing mileage gap between motorcycle and scooters; (ii) rising adoption by the female population; (iii) increasing use as a ‘family’ vehicle; (iv) greater storage space; and (v) improving quality of roads in the urban areas (given lower ground clearance, scooters are more suitable for good roods vs bad). These factors have fuelled an increase in the share of scooters in the overall domestic 2W market from 15% in FY08 to 28% in FY15. The scooter share has continued to rise in FY16 (31%). The month-wise cost of owning a scooter is ~10% higher than an executive motorcycle.

But scooters are still largely concentrated in a few urbanised states

Our state-wise scooter growth and share analysis indicates that scooters are largely concentrated in a few urbanized states. We find that cluster 2 and cluster 3 states have an average 40% scooter share in the 2W sales mix. On the other hand, the lesser developed cluster 1 states have an average scooter share of only 16% in the 2W sales mix. More particularly, some of the rural dominant states with relatively high 2W population have a low scooter share such as Bihar (4%), Uttar Pradesh (11%), Rajasthan (17%) and Madhya Pradesh (18%). While these four states account for nearly 33% of total Indian 2W sales, they account for only 16% of total scooter sales.

Exhibit 12: Scooterisation is skewed towards a few states


Exhibit 13: Certain largely populated states have a very low scooter share


Rising penetration in rural and the Hindi belt to drive further scooter sales (42% by FY2020)

From our interaction with dealers and experts, we understand that scooters are gaining pace even in cluster 1 states (58% of India’s population). More particularly, scooters have started accounting for a significant share of the 2W sales mix in urban centers in these states. For example, while scooters account for only 6% of the total 2W sales share in Bihar, it accounts for 32% of Patna’s 2W market sales. Dealers also believe that over the next five years, this trend may catch up even in rural areas. As a result, we believe the shift towards scooters will continue. We estimate the share of scooters in overall 2W sales to reach 50% in cluster 2/3 states and 30% in cluster 1 states by FY2020 (vs 40% in cluster 2/3 states and 16% in cluster 1 states currently). This could lead to scooter share rising to 42% by FY2020 at the India level.

62%

38% 37% 36% 33% 31% 27% 28%

0%10%20%30%40%50%60%70%

Kera

la

Guj

arat

Mah

aras

htra

Karn

atak

a

Tam

il N

adu

Punj

ab AP

Nat

iona

l

2011 2014 2015

21% 18% 17% 14% 11% 11% 4%38% 28%

0%

20%

40%

60%

80%

100%

Wes

t Ben

gal

Mad

hya

Prad

esh

Raja

stha

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Jhar

khan

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Utt

ar P

rade

sh

Tela

ngan

a

Biha

r

Rest

of I

ndia

Indi

a

Scooters Motorcycles Mopeds

Poor roads/infrastructure and reluctance to change have limited scooter growth in rural areas of Bihar so far but we are seeing slow but steady changes

– a Patna based 2W dealer

Scooter share in overall 2W sales

Activa vs Splendor maintenance cost comparison

-

1,000

2,000

3,000

4,000

Activa 110CC Splendor 100cc

EMI Fuel Maintenance Parking

Automobiles


Exhibit 14: We expect scooter share to rise to 42% of 2W sales mix by FY2020

Cluster FY15-end FY20-end

Total 2W sales (in mn)

% scooter share

Total 2W sales (in mn)

% scooter share

1 6.4 16% 9.8 30%

2 5.3 38% 7.5 50%

3 3.6 39% 5.1 50%

4 0.6 55% 0.8 60%

India 16.0 28% 23.2 42%


Scooterisation has also occurred at a rapid pace in certain countries

In Indonesia, scooterisation took place at a more rapid pace. Scooters which used to constitute 20% of the 2W sales mix in 2009 increased to 60% in 2014. Similar to India, scooters in Indonesia became popular because of their universal appeal (as per the World Bank, female labour force participation rate is high at 52% in Indonesia v/s 27% in India). Similarly, in other East Asian countries (except China, where electric vehicles are popular) the share of scooters is between 50%-60%.

Scooters share is ~60% in Indonesia

Automobiles


Premium bikes’ share to rise to 27% by FY2020 Premium bikes are gaining share in the overall bike market

Premium motorcycles (150cc and above) have registered 11% CAGR in volumes over FY10-FY15. This is higher than 8% CAGR in the overall domestic motorcycle industry volumes for the corresponding period. Consequently, share of the premium segment in overall motorcycles has increased from 17% in FY10 to 20% in FY15. Share of the premium segment has further increased to 21% in April-October 2015 (premium motorcycles grew by a remarkable 8% YoY in April-October 2015 even though overall motorcycle industry volumes declined by 3% during the same period).

However, it has not been a one-way journey for premium motorcycles over the last five years. Share of the premium motorcycle, in fact, has shrunk from 19% in FY12 to 16% in FY14. This was mainly on account of a sharp rise in fuel prices and an urban slowdown over FY13 and FY14. Our analysis of premium motorcycles’ volume growth over the last 5-10 years indicates a strong correlation between premium bike sales and the level of economic activity (positive correlation of 0.98) and fuel prices (negative correlation of close to ~0.74). Positive developments with the stated parameters (economic activity, fuel prices) have helped a revival in the growth of premium motorcycles in FY15 (premium bikes up 22% vs 3% for overall motorcycles).

Exhibit 15: Premium segment share has witnessed significant growth over FY15 to YTDFY16

Source: SIAM, Industry, Ambit Capital research. Note: YTD indicates Apr-Oct’15

Exhibit 16: Premium bikes have a significant correlation with GDP growth and fuel prices

Source: SIAM, Industry, Ambit Capital research

Within premium segment, >150cc bikes are gaining higher traction

The premium segment is currently dominated by 150cc bikes (costing around `80k) which accounted for nearly 60% of the total premium bike sales in 2015. However, within the premium segment, demand has been shifting away from 150cc segment to higher cc segments more particularly to >150 to 200 cc and 350 & above cc categories. Consequently, the 150cc segment bike share within the premium bike market has come down from 76% in FY12 to 59% now. On the other hand, >150cc bikes have grown at a healthy CAGR of 23% over FY12-FY15.

Our interaction with industry sources indicates that this growth in higher cc bikes has been driven by strong demand for Royal Enfield bikes, new launches in >150 cc bikes (Suzuki Gixxer, new TVS Apache, KTM), increase in household incomes and rising aspiration levels.

19% 17% 18% 19% 18% 19% 23%

64% 64% 65% 64% 65% 62% 57%

17% 18% 17% 16% 17% 19% 21%

-10%

0%

10%

20%

30%

40%

-20%

0%

20%

40%

60%

80%

100%

FY10

FY11

FY12

FY13

FY14

FY15

YTD

FY16

Premium ExecutiveEconomy Premium YoY growth (RHS)

36%

3%

-4%

7%

15%

-10%

0%

10%

20%

30%

40%

-10.0%

0.0%

10.0%

20.0%

30.0%

40.0%FY

11

FY12

FY13

FY14

FY15

GDPYoY growth in petrol pricesYoY growth in premium segment (RHS)

Automobiles


We expect the Premiumisation trend to continue

We expect the momentum towards premiumisation in domestic motorcycles to continue. Our expectation is based on the following factors:

(a) Low penetration amongst households that can afford a premium bike: We estimate that households with an average income level of `400k can afford a 150cc and above motorcycle. According to our estimates, there are currently 60mn households in India with income levels of greater than `400k. Compared with this, we estimate the vehicle park of 150cc and above bikes to be only around 14.6mn. This implies a very low penetration level of 24% for premium bikes amongst households that can afford a premium bike. Furthermore, we also expect the number of households which can afford a premium bike to rise by 26% over the next five years to 79mn (implies a CAGR of 5%). This will likely also aid growth of the premium motorcycle.

(b) Opportunity from upgradation of current commuter bikes: While premium bikes currently account for close to 20% of annual bike sales, they account for a much lower, ~14%, of the total motorcycle park. Particularly against the backdrop of declining fuel prices and rising financing penetration, we find the cost of owning and maintaining a premium motorcycle has come down over the last 1-1.5 years. Further, we estimate that there is no significant difference in the cost of ownership between a commuter bike like Hero Splendor and a premium bike like Pulsar 150 for a customer aspiring for premium bikes.

Exhibit 17: Ownership cost comparison - premium bike vs commuter bike

` Splendor Pulsar RE Classic 350

100cc 150cc 350cc

On-Road price 52,412 79,826 136,760

Loan 70% 70% 70%

Cash down payment 15,724 23,948 41,028

Loan Component 36,688 55,878 95,732

Interest rate 24.8% 24.8% 24.8%

Loan Duration 3 years 3 years 3 years

Monthly Instalment (a) 1,455 2,216 3,796

Mileage (Km/l)- Actual 63 45 31

Average Distance travelled (km) 30 30 30

Fuel consumption/month (l) 14 20 31

Monthly fuel cost (b) 872 1,221 1,895

Monthly spares & Maintenance cost (c) 400 600 800

Parking (d) 100 100 100

Total monthly cost (a + b + c + d) 2,827 4,137 6,591


(c) Strong OEM focus can also drive premium bike sales: We also expect increasing focus and several new launches by the OEMs to drive up the share of the premium segment in the coming years. Some of the major launches planned in the premium segment over the next one year are shown in exhibit 18 below.

Automobiles


Exhibit 18: Premium bikes scheduled for launch in 2016

Launches Displacement (cc)

Bajaj Auto Pulsar 180 NS 180

Pulsar AS180 180

Pulsar RS400 400

KTM Duke 125 125

Eicher Motors Himalayan 400

Hero Hero HX 250R (Sports) 250

HMSI Hornet 160

CBR 400RR 400

Suzuki Gixxer 250 250

TVS Motor Apache RTR 200 200

G 310 R 310

Yamaha YZF-R25 (Sports) 250

MT-15 150


Annual premium bike share (>150cc) to rise to 27% by FY2020

We expect sales growth of premium motorcycles over FY15-FY20 to exceed the growth of overall 2W sales over FY15-FY20. For this period, our expectation of a higher growth rate for premium motorcycles is based on the following factors: (i) We expect 5% CAGR increase in the number of households that can afford a premium bike; and (ii) we expect the penetration of premium motorcycles amongst affordable households to increase from 24% currently to 30%. Based on this calculation, we expect premium motorcycle sales volumes to deliver 12.0% CAGR over FY15-FY20 as against only 9.0% CAGR in overall 2W sales for the corresponding period.

We expect premium motorcycle sales volumes to deliver 12.0% CAGR over FY15-20 compared to only 9.0% CAGR in overall 2W sales for the same period.

Automobiles


Category/segment shifts have significantly influenced market share changes Over the past 10-15 years, the domestic 2W industry has witnessed significant changes in the competitive landscape.

Phase 1 (FY1995- FY2000) – Decline of Bajaj Auto, Emergence of Hero Honda

1990s witnessed the emergence of Hero Honda in the Indian 2W space. The shift of customer preference towards motorcycles (at the expense of scooters) played a key role in the surge of Hero Honda. Share of motorcycles in the 2W sales pie increased from 30% in FY95 to 48% in FY2000. Furthermore, Hero Honda even strengthened its market share in the domestic motorcycle space on the back of launch of four stroke motorcycles, which gave better mileage than the prevailing two stroke motorcycles. The launch of the four stroke Hero Honda Splendor in FY1994 played a key role in establishing Hero Honda as a prominent 2W player by FY2000 (Hero Honda’s market share gain primarily came at Bajaj Auto’s expense). Hero Honda’s share in Indian 2W industry more than doubled from 8.3% in 1995 to 20.4% in FY2020.

Hero Honda’s emergence also coincided with and led to the decline of Bajaj Auto for exactly the same reasons – the shift of the 2W demand away from scooters (from 48% in FY1995 to 33% in FY2000) – a segment dominated by Bajaj Auto. It also witnessed market share loss in the scooter segment (from 61.7% in FY1995 to 46.3% in FY2000) due to launch of Scooty by TVS-Suzuki JV. Bajaj Auto’s market share in the Indian 2W industry declined from 42.1% in FY1995 to 26.1% in FY2001.

Exhibit 19: Hero Honda gained significant share from Bajaj Auto in the 1990s …


Exhibit 20: … helped to a large extent by sales shift to motorcycles


Phase 2 (FY01-FY10) – Motorcycles and Hero Honda cement their dominance in the Indian 2W space

Through 2000s, Hero Honda further strengthened its hold in the Indian 2W market. Its market share more than doubled from 20.4% in FY2000 to 48.1% in FY2010. Hero Honda’s market share in domestic motorcycles also rose from 42.7% in FY2000 to 58.5% in FY2010. Besides strong sales of Splendor, the launch of Passion in FY2001 also cemented Hero Honda’s leadership. Furthermore, continuing shift in favour of motorcycles (share in overall 2W increased from 48% in FY2000 to 78% in FY10) also helped the further rise of Hero Honda.

Bajaj Auto lost its Indian 2W leadership in FY2001 and its market share declined from 28.8% in FY2001 to 19.1% in FY2010 as it moved out of scooters in FY10. While Bajaj Auto maintained its market share in domestic motorcycles at around 24% between FY2000 to FY2010, the increasing shift towards motorcycles and away from scooters led to Bajaj’s diminishing market share in Indian 2Ws during these years.

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

FY95 FY96 FY97 FY98 FY99 FY00

Hero Honda Bajaj Auto TVS MotorYamaha Kinetic

48% 47% 45% 42% 39% 33%

30% 30% 33% 37% 41% 48%

0%10%20%30%40%50%60%70%80%90%

100%

FY95 FY96 FY97 FY98 FY99 FY00

Scooters Motorcycles Moped

Automobiles


Other players too struggled during this phase – the break-up of TVS-Suzuki JV and the declining sales of mopeds led to TVSM’s market share coming down from 23.6% in FY2001 to 14.5% in FY2010. Royal Enfield’s market share also stagnated at 0.5% during these ten years. Kinetic Engineering, whose market share had fallen from 7.4% in FY2001 to 0.6% in FY2008 sold its motorcycle division to Mahindra in FY08.

It may be noted that Honda Motorcycles and Scooters India (HMSI) began its independent Indian operations during FY2000. These operations were restricted to gearless scooters (Activa launched in FY2000) and non 100/110 cc bikes (125cc CB Shine was launched in 2006). HMSI’s share stood at 12.7% by FY2010.

Exhibit 21: Hero Honda grew its leadership in Indian 2Ws


Exhibit 22: Motorcycle share in 2W sales crossed 80% by mid-2000s


Phase 3 (FY11-present): Hero Honda JV breaks, scooters make a comeback, and smaller players re-emerge

This phase is marked by two defining points (i) break-up of Hero Honda’s joint venture in FY11; and (ii) re-emergence of scooters (gearless) from FY08.

Hero and Honda announced the break-up of their JV (Hero Honda) in December 2010. Since then, HMSI has aggressively targeted the Indian 2W market through aggressive product launches and rapid expansion of its distribution network. This has helped HMSI gain market share in domestic motorcycles from 6.2% in FY10 to 16.4% in FY15. Furthermore, HMSI also benefitted from the re-emergence of the scooter category from FY08 (share of scooters increased from 15% in FY08 to 28% in FY15). Consequently, HMSI’s market share in the overall domestic 2W increased from 12.7% in FY10 to 27.8% in FY15.

On the other hand, Hero and Bajaj Auto were the biggest losers during this phase – both as a result of rising competition from HMSI in domestic motorcycles as well as the rising share of scooters in domestic 2Ws. Bajaj Auto’s market share in overall domestic 2Ws declined from 19.1% in FY10 to 11.5% in FY15. Hero’s market share declined from 48.1% in FY10 to 41.0% in FY15.

Conversely, Royal Enfield saw resurgence during this phase on the back of significant product improvement, launch of Classic 350 in FY10 and strong customer pull towards the brand. Market share of RE in domestic motorcycles improved from 0.7% in FY10 to 3.0% in FY15. Similarly, contrary to market expectations, TVSM has been able to hold on its market share in the Indian 2W industry (from 14.5% in FY10 to 13.7% in FY15) as it benefitted from rising scooter share and its new launches in motorcycles such as new Star City and Apache.

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

60.0%

FY01

FY02

FY03

FY04

FY05

FY06

FY07

FY08

FY09

FY10

Hero Bajaj TVS Yamaha

24% 22% 17% 17% 15% 13% 12% 15% 15% 16%

58% 69% 76% 78% 80% 82% 83% 80% 79% 78%

0%10%20%30%40%50%60%70%80%90%

100%

FY01

FY02

FY03

FY04

FY05

FY06

FY07

FY08

FY09

FY10


Hero and Honda announced the break-up of their JV (Hero Honda) in Dec 2010. Since then, HMSI has aggressively targeted the Indian 2W market through aggressive product launches and rapid expansion of distribution network

Automobiles


Exhibit 23: HMSI gaining share since its split with Hero in FY2011 …


Exhibit 24: … helped also by rising share of gearless scooters (segment dominated by HMSI)


Yamaha and Suzuki unable to make much of their first mover advantage in India Yamaha – failure to sense the shifts cancels the first mover advantage

Yamaha Motors made its India foray in 1983 through a licensed agreement with Escorts Motors whereby Escorts was authorised to sell Yamaha licensed bikes in India. The first product was ‘Rajdoot RD350’, licensed copy of two stroke Yamaha RD350B, launched in 1983. However, the real success came with the launch of RX100 in 1985. Through late 1980s and early 1990s, Yamaha gained significant market share in the Indian 2W primarily from Royal Enfield. In 1996, the license agreement was converted to a JV in which Escorts transferred its motorcycle manufacturing facility and saw equity investment by both partners.

The JV’s fortunes reversed from mid 1990s when Hero MotoCorp (then Hero Honda) launched its higher mileage four stroke motorcycle Splendor in 1994. From 24% market share in domestic motorcycles in FY1995, Yamaha’s market share plummeted to 7.1% in FY2001. In 2001, Escorts exited from its JV by selling the entire stake to Yamaha. From 2000-08, Yahama had only few launches and its market share dropped to a lowly 2%.

In 2008, Mitsui entered into an agreement with Yamaha to become a joint-investor in the company. Since then, the company has launched a range of products in the market, particularly in the premium segment, including the FZ16, FZ-S, Fazer, and R15, which has been well received by the market. Its market share in the premium segment stood 14.0% in FY15. The company, however, continues to struggle in the commuter bike (market share of 0.5%) and scooters (market share of 5.0%).

Suzuki: Breakup of TVS JV/temporary exit from Indian 2W market cost dearly

Suzuki entered the Indian market through a technical collaboration agreement with Sundaram Clayton. The JV’s first product (AX-100) was launched in 1984, followed by several products over the years, such as the Suzuki Samurai, Suzuki Shogun and Suzuki Fiero. On back of these launches TVS Suzuki gained market share from 14% in FY85 to 20% in FY99. However, in 2001, differences in opinion of how to run the JV, eventually led to the two partners going their separate ways and the company was renamed TVS Motors (Sundaram Clayton bought Suzuki’s stake in the JV). As per the parting agreement, there was 30-months moratorium during which Suzuki was barred from entering the Indian 2W market with competing products.

In 2007, Suzuki re-entered the Indian 2W market. Since then it has launched Heat, Zeus, Sling Shot and Hayate in the executive segment. However none of the products have been able to make a significant mark and the company has already withdrawn

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

FY11 FY12 FY13 FY14 FY15

Hero Bajaj TVSHMSI Yamaha

18% 19% 21% 24% 28%

76% 75% 73% 71% 67%

0%10%20%30%40%50%60%70%80%90%

100%



The launch of four-stroke Hero Splendor in 1994 resulted in downfall of Yamaha’s most loved bike RX100

A break from the Indian 2W market from 2001 to 2007 cost Suzuki dearly

Automobiles


Heat and Zeus from the market. In FY15 its market share in the executive segment was a mere 0.3%. In the premium segment, the company’s recent launch, GIXXER has seen some success (Suzuki’s market share in premium motorcycle segment stands at 1.8% currently). In the overall domestic motorcycle market, the market share stood at only 0.6%. Similarly, in the scooter segment, Suzuki is the 4th largest player with a market share of only 6% in FY15.

Premium bike segment has seen the maximum market share shifts in the last 5-6 years Economy bike segment (20% of total bike market): Dominated by Hero but Bajaj giving tough competition

The economy segment accounts for around 20% of the total domestic motorcycle market by volumes. The segment is primarily aimed at rural areas with price and mileage being the key selling points. The segment is dominated by domestic players viz. Hero with 44.5% market share followed by Bajaj Auto (38.7%) and TVSM (16.1%). HMSI is absent from this segment.

Hero has been able to maintain its market share over the last 6-7 years. However, it has lost some of the market share gains in the last nine months to Bajaj Auto. On the other hand, Bajaj Auto, after losing heavily between FY10-FY15 (market share down to 23.2% in FY15 from 30.2% in FY10) has made a strong comeback through the launch of CT100 in February 2015. Consequently, Bajaj’s market share has improved to 37% in April-October 2015 which is in fact higher than FY10 levels. TVSM has been the loser in this segment.

Exhibit 25: Economy segment is dominated by domestic players

Positioning Price band (Delhi –

On-road) (̀ ) Key products

Market share Key purchasing

factors

Rural/Urban Age

FY10 FY15

Hero Mileage, economy,

pricing

Rural, small towns

Neutral 42k-51k

HF Deluxe 43.5% 53.3%

Bajaj Auto Platina, CT 100 30.2% 24.9%

TVSM TVS Star City 24.5% 20.6%

Source: SIAM, Industry, Company, Ambit Capital research

Executive segment – the biggest volume segment but it is Hero all the way

Executive segment is the biggest volume segment accounting for around 60% of the total domestic motorcycle market. This segment is targeted across both rural and urban regions with the key segment selling attributes being mileage and product durability. Consequently, resale value is an important factor in this segment.

This segment has the most number of motorcycle models but Hero’s Splendor and Passion brand account for nearly 62% of the total segment volume size. While Hero has maintained its dominance in the segment (segmental market share of 73.0% in FY10 maintained in YTDFY16), there has been significant churn in market share between HMSI and Bajaj especially from FY12 onwards on the back of HMSI’s Dream series launch and CB Shine ramp-up coinciding with the diminishing sales of Bajaj Discover.

Exhibit 26: Executive segment is the largest motorcycle segment (by volumes) but clearly dominated by Hero

Positioning Price band (Delhi

– On-road) (̀ ) Key products Market share Key

purchasing factors

Rural / Urban Age

FY10 FY15

Hero Mileage,

Durability Rural

urban Neutral 52k-65k

Splendor Pro, Passion Pro 73.0% 66.4%

HMSI CB Shine, Dream Yuga 7.5% 22.3%

Bajaj Auto Discover 100 16.9% 8.3%


While Hero has maintained its dominance in the executive segment, there has been significant churn in market share between HMSI and Bajaj especially from FY12 onwards

Automobiles


Premium segment – the most fragmented and evolving segment

Premium segment, accounting for nearly 20% of the motorcycle market, is the most fragmented segment. The top four players account for 74% of the market share (vs 99% in the economy segment and 98% in the executive segment). The selling attributes in this segment are speed, performance and design. Bajaj is the market leader in the segment with 34% market share followed by Eicher Motors with 21%.

Most of the strong incumbents have lost significant market share over the last 5-6 years: Bajaj’s market share has come down from 45.1% in FY10 to 29.5% in April-October 2015. Similarly, Hero’s market share has come down sharply from 19.7% in FY10 to 5.6% in April-October 2015. HMSI, too, after witnessing market share increase from 8.2% in FY10 to 17.6% in FY14, saw market share coming down sharply to 10.7% in April-October 2015. One of the key reasons for this loss of market share has been resurgence of the leisure segment led by Royal Enfield. During the last 5 years, RE has gained ~1,600bps market share in the premium segment. Similarly, but to a smaller extent, TVSM has improved its market share from 9.0% in FY10 to 11.8% in April-October 2015. Yamaha, too, has been able to maintain its market share over the last five years at around 15%.

Exhibit 27: Bajaj Auto, Hero and HMSI have witnessed significant market share erosion to Royal Enfield in the last five years

Positioning Price band

(Delhi – On-road) (̀ )

Key products Market share

Key purchasing

factors

Rural / Urban Age

FY10 FY15

Hero

Power, speed,

features, looks

Urban Youth >68k

X-treme, Karizma 19.7% 7.9%

HMSI CB Unicorn 8.2% 13.9%

Bajaj Auto Pulsar, Avenger, KTM 46.2% 34.6%

TVSM Apache 9.0% 10.0%

Yamaha FZ , R15 10.4% 15.0%

Royal Enfield Bullet, Classic 4.1% 16.0%


Scooters - HMSI has maintained/grown its dominance as Hero and TVSM fight for the second spot The scooter segment is dominated by three players HMSI, Hero and TVSM with aggregate market share of close to 87%. HMSI has continued to maintain its leadership and in fact grown its market share from 50.6% in FY10 to 59.0% in April-October 2015. The second place has witnessed a fight between Hero and TVSM. Hero’s market share saw an increase from 9.8% in FY08 to 19.2% in FY14. This was mainly on account of successful response to its Maestro scooter launched in 2012. On the other hand, TVSM lost share from 23.8% in FY08 to 12.7% as HMSI ramped up its Activa production and Hero launched its new scooter Maestro. TVSM’s market share was also impacted by the shrinking size of <90cc scooters (a segment TVSM dominated) from 11.8% of domestic scooter market in FY12 to 5.5% in FY14.

However, since the launch of Jupiter in 2HFY14, TVSM has seen a revival in its market share in domestic scooters. From 12.7% in FY14, TVSM’s market share has revived to 15.3% in April-October 2015. The impact of Jupiter has been primarily borne by Hero’s Maestro (Hero’s market share has come to 14.0% in April-October 2015 vs 19.2% in FY14). On the other hand, HMSI has been able to maintain its market share at 57.2% in April-October 2015.

Most of the strong incumbents (Bajaj, Hero, HMSI) have lost significant market share in the premium segment over the last 5-6 years to players like Royal Enfield, TVSM and Yamaha

Market share of key 2W players in domestic scooters

FY13 YTDFY16

HMSI 48.6% 57.2%

Hero 18.8% 14.0%

TVSM 14.5% 15.3%

Source: SIAM, Ambit Capital research Note: YTDFY16 indicates Apr-Oct’15

Automobiles


Ability to ride the product/segment shifts and launch differentiated products are key success/failure factors Based on the above understanding of the evolution of competition, market share performance over the last 15-20 years and analysis of the segmental market share movement over the last 5-6 years, we believe the following factors are the key determinants of the success/failures in the 2W space:

Ability to ride the shifting customer preferences

As discussed in detail in the preceding sections, consumers’ preference for motorcycles or scooters has played an important role in influencing the market share shifts amongst various players – those starting in the mid-1990s when motorcycles started finding favour with customers (which helped Hero Honda and negatively impacted Bajaj Auto) and those starting in the late 2000s (which is helping HMSI but negatively impacting Hero and Bajaj Auto).

Similarly, given significant divergence in market share across different segments (economy, executive and premium segments), the inter-se movement among various sub-segments of motorcycles would also influence the market share of a player in overall 2W market.

Our expectations of market share movement for the key 2W players across categories (i.e. motorcycle/scooter) and motorcycle segments (i.e. executive/economy/premium) until FY18 are detailed in exhibit 35 on page 29.

Innovative, differentiated and ‘value for money’ products have been the key recipe for success

The Indian 2W industry has a high product concentration with the top 5 motorcycle brands accounting for nearly 60% of the domestic motorcycle market and the top 3 scooter brands constituting 70% of the total scooter sales in the industry.

We find that most of the products which have tasted success in the Indian 2W industry have been those which came in with substantially improved technology (four stroke Splendor vs the then prevailing two stroke motorcycle) or innovative products for the market (Pulsar, Activa). The key success factors of some of the largest selling and most loved 2W brands in India are explained in the exhibit below.

Exhibit 28: Key factors underpinning the successful 2W brands

Brand Company Launch year

Share in overall 2W

market Key success factors

Splendor Hero Honda (now Hero MotoCorp) 1994 17%

Four stroke motorcycle - high mileage compared to the existing two stroke motorcycles. Legendary brand campaign - Fill it -shut it- forget it

emphasing mileage Known for durability and longevity - high resale value

Passion Hero Honda (now Hero MotoCorp) 2001 8% Replicated Splendor virtues but targeted towards youth

and urban population.

Activa HMSI 2001 17% Pioneered gearless scooter in India Targeted towards both male and female population

Shine HMSI 2006 6%

Less flashy/styling compared to the then existing 125cc bikes

Universal in appeal (one of the largest selling bikes globally)

Known for its reliability

Pulsar Bajaj 2003 4%

Created the affordable premium (150cc) bike market in India

Much more stylish and powerful compared to then existing commuter bikes

Classic 350

Royal Enfield 2010 2%

Substantial improvement over existing RE bikes (mileage, durability)

Significant pricing gap with Harleys Rejuvenated/grew the leisure biking segment in India

Source: Industry, SIAM, Company, Ambit Capital research

High product concentration in India’s 2W industry

Share in overall volumes YTDFY16

Top 5 motorcycles 58.2%

Top 5 scooters 70.0%

Source: SIAM, Ambit Capital research Note: YTDFY16 indicates Apr-Oct’15

Automobiles


On the other hand, most of the failures in the Indian 2W market have been products which did not offer significant improvement over the existing well established brands (and hence little incentive for customers to switch) had issues surrounding the quality/utility and/or incorrect pricing. The key reasons for failures of some of the models are explained in exhibit 29 below.

Exhibit 29: Key reasons for failure of some brands

Brand Company Launch year Key success factors

Ignitor Hero MotoCorp 2012 Similar looks as Karizma.

Tried to position against CB Stunner with little differentiation.

Stallion Mahindra 2010 The product had issues in the clutch and gear box. The company had to halt the production and the brand was

withdrawn from the market.

Jive TVS Motor 2010

An experimental bike model with an ‘auto-clutch’ technology (though there was a precedent in the form of Hero Honda ‘Street’ launched in 1997 which had not performed well). However, the bike did not find takers

because many riders were not enthusiastic about the clutch-free concept of Jive.

Dream Neo HMSI 2012 Not much differentiation from Dream Yuga

Boxer Bajaj Auto 2011

Launched as a 150cc rural motorcycle, however it got a very soft push on the marketing front. Boxer was the cheapest 150cc motorcycle available in the

Indian market at that time. However, it was still 20% more expensive compared to commuting 100cc motorcycle like HF Deluxe. Further, due to 150cc engine it also had lower level of fuel efficiency.

Source: Industry, SIAM, Company, Ambit Capital research

Distribution important but not as critical as getting the product right

Having a widespread sales and service network is certainly an advantage for the company especially in the rural areas and for the economy/executive bike segments. While, Hero has a definite edge over peers in terms of distribution/service network, there is no significant gap between the top four players in terms of distribution/service (unlike significant divergence that we find in case of Maruti and other players in the domestic passenger vehicle industry). Smaller size of the showroom and consequently lower investment makes opening a 2W dealer/service center relatively easier. As a result, while we acknowledge that distribution/service spread is important, we believe it may not be as critical as getting the products right.

Our belief is also supported by the following instances: (i) the launch of CT 100 in February 2015 has brought Bajaj Auto within striking distance of Hero’s leadership in the economy bike segment. This is despite Hero’s distribution/service edge over Bajaj in the rural areas where economy segment bikes sell the most; and (ii) market share loss of Bajaj in the executive segment (namely Discover) to HMSI despite the former’s distribution edge over the latter.

Automobiles


IBAS framework: HMSI is the clear winner, rest score average Innovation: HMSI well above others, Hero is the most vulnerable HMSI has the strongest franchise in terms of innovation/technological capability. The company was the first to introduce gearless scooters (Activa) in India. Our discussion with the industry participants indicate that Honda is best placed in terms of technological capability. Honda’s (HMSI’s parent) global R&D spend in its motorcycle division at 5.9% for FY15 stood head and shoulders above the R&D spend of the Indian players.

Bajaj Auto has played an important role in pioneering the affordable premium bike segment in India through its Pulsar brand. Furthermore, the tie-up with KTM augurs well for its product development capability in the premium segment. The company’s R&D spends for FY15 as % of sales stands at 1.7%, which is lower than that of HMSI.

TVSM’s R&D spend for FY15 was 1.9% of sales. However TVSM has been historically slow in introducing innovative products in the market (except for low cc female oriented scooters in 1996). The company’s frequency of production introductions historically has also lagged that of its peers like Hero Honda and Bajaj Auto. However, we have witnessed an improved frequency of product launches in the last 2 years. Furthermore, our interaction with industry participants also rate TVSM’s engineering capability and quality comparable with that of Japanese OEMs. Also, we believe the recent tie-up with BMW provides an opportunity for TVSM to rev up its technological capability in the premium segment.

On the other hand, we rate Hero as the most vulnerable on the technological front. Historically, Hero had relied on Honda for meeting 100% of its technological requirements. While Hero has been investing to spruce up its indigenous R&D capability, presently there are significant uncertainties surround this feature.

Brand: Hero and HMSI score due to their dominant leadership in the most selling segments While Hero has a relatively weak market share of 6% in the premium segment, it has undisputed leadership in the biggest volume segment i.e. executive motorcycles with a market share of 70% (through its brands - Splendor and Passion). Furthermore, it commands leadership in the economy segment with market share of 44%.

HMSI has undisputed leadership in scooters 59%, it is still finding its place in domestic motorcycles (market share of 22% in executive segment and 9% in the premium motorcycles while having no presence in the economy segment).

On the other hand, Bajaj Auto has leadership in premium motorcycles with 34% market share and a strong position in the economy segment of 39% market share; it has witnessed significant market share loss in the executive segment. Furthermore, the company has no presence in the scooters segment.

TVSM is the sole player in mopeds and enjoys a healthy market share in domestic scooters at 15%, it has a relatively weak markets share in domestic motorcycles.

Architecture: Not much to choose between players Our interaction with 2W dealers indicate that for like-to-like models, generally HMSI pays the highest dealer commission (as a % of selling price) whereas Hero has the lowest dealer commission (as a % of selling price). However, Hero also offers a credit period to dealers unlike other players. As a result, we did not come across any significant relative difference in dealers’ policies/ rewards amongst various 2W OEMs.

R&D expenditure

Name R&D expenditure as a % of sales

Hero 0.6%

Bajaj 1.7%

Honda (globally) 5.9%

TVSM 1.9%

Source: Companies, Ambit Capital research

Automobiles


We believe that having plants in tax-free zones/ tax holidays gives a manufacturer better flexibility in terms of pricing versus peers. However, we also note that most of these tax holidays will expire in the next 2-3 years. Hence we do not expect these to contribute significantly to the company’s competitive advantage.

Exhibit 30: 40% of Hero’s revenue is generated from its plant located in the tax free zone

Company name Excise free Plant % contribution to FY15 revenue Last year of exemption

TVSM Haridwar 11% FY18

Bajaj Auto Pantnagar 25% FY17

Hero Haridwar 40% FY18

Source: Company, Ambit Capital research

Strategic assets: HMSI - second largest distribution and access to Honda technology gives an edge Hero has the largest distribution network in India with more than 6,000 touch points. HMSI, on the other hand, has also been expanding rapidly and now has the second largest network in India with 4,800 touch points. Bajaj and TVSM have the third and fourth largest number with 4,000 and 3,000 touch points respectively.

Exhibit 31: Hero has the largest dealer outlet, but HMSI not far behind

Player No. of touch points No. of dealers

Hero 6,000+ 800

Bajaj Auto 4,000 675

HMSI 4,800 768

TVSM 3,000 900

Source: Company, Ambit research

HMSI has access to Honda’s global technology (being its 100% subsidiary); Bajaj and TVSM have technological association with KTM and BMW respectively. Hero currently does not have any technical collaboration/association with any global OEMs. However, it has tie ups with technology/design providers like AVL (Austria), Engines Engineering (Italy) and Magneti Marelli (Italy).

Putting it all together: HMSI a clear winner, others lag behind From the above analysis, it appears that HMSI has the strongest franchise in Indian 2Ws scoring well across most of the four parameters. Hero while having strong brand name (market share) and dealer network faces significant uncertainty surrounding its technological capability. Bajaj Auto’s absence in scooters and market share losses in the executive segment offsets its advantage in the premium segment/tie-up with KTM. TVSM, while having average strengths across most of the parameters – has an opportunity to leverage BMW’s strengths to rev up its technological capability (it also helps that the company’s recent launches have been doing much better than its historical performance).

Exhibit 32: HMSI scores well on most parameters

Hero Bajaj HMSI TVSM

Innovation

Brands/Reputation

Architecture

Strategic Asset

Overall

Source: Company, Ambit Capital research Note: =Strong, =Moderate and =Weak

Automobiles


TVSM to ride shifting product preferences, Hero at a disadvantage Eicher Motors (Royal Enfield) to be biggest beneficiary of premiumisation

As discussed earlier, we expect the premiumisation trend to gain momentum in domestic motorcycles. We expect the premium segment to grow by 12% CAGR over FY15-FY20, higher than the 9.0% CAGR for the overall 2W market.

We assess a player’s ability to benefit from this trend on the following parameters: (i) the market share commanded by it in the premium segment; (ii) the ability to retain/grow its market share in the premium segment; and (ii) share of its revenues from the premium segment.

Based on the evaluation on the above parameters, we expect Eicher Motors to be the biggest beneficiary of the premiumisation trend. Eicher has a healthy market share in premium bikes at 21% and nearly 100% of RE’s EBITDA (70% of Eicher) accrues from the premium segment. Furthermore, we expect the market share of Eicher in the premium segment to expand from the current level of ~21% to 26% in FY18 driven by increase in capacities (to help meet waiting periods) and distribution expansion.

On the other side, we believe Hero would be the biggest loser from the premiumisation trend, as it has only marginal 5% volume share in the premium motorcycle market .

Bajaj is the market leader in the premium segment with a market share of ~36% (mainly due its top selling brand Pulsar) but it has lost a significant ~1,300bps market share over the past five years. While TVSM has ~12% market share in the premium motorcycle segment, it has gained ~450bps market share in the last five years due to successful launch of its Apache motorcycle.

Exhibit 33: Royal Enfield is the best placed to benefit from the premiumisation trend and Hero to be the biggest loser

Particulars Hero Bajaj HMSI TVSM Royal Enfield

Market share in premium segment 5.1% 35.6% 9.5% 12.0% 21.3%

Rank

Contribution of premium segment to revenues 3.2% 18.2% 12.1% 11.7% 100%

Rank

Ability to retain/grow market share (change in premium market share from Apr11-Oct’15)

(1,208)bps (1,260)bps 95bps 435bps 1,741bps

Rank

Overall Rank

Source: SIAM, Industry, Company, Ambit Capital research Note : = Strongest; = Relatively Strong; =

Average; = Relatively weak and = Weakest.

Automobiles


TVSM to be one of the biggest beneficiaries of scooterisation

We believe, winners from the scooterisation trend will be the ones with established brand presence and a relatively high proportion of revenues from the segment. Furthermore, we believe growth of scooters could lead to cannibalisation of sales in the executive motorcycle segment. Hence, players with significant exposure to the executive bike segment will likely be negatively impacted due to scooterisation.

We believe that TVSM will be one of the biggest beneficiaries of this trend. It is the second largest player in the scooter segment with ~15% volume market share. Further, its revenue contribution from the executive motorcycle segment is only 2%.

Bajaj and Eicher are not present in the scooter segment, hence they will not benefit from the trend. However, their revenue contribution from the executive segment is also low at 9% and NIL respectively, which will limit any impact on the negative side.

Hero, on the other side, will be most negatively impacted due to heavy dependence on the executive motorcycle segment (63% of the revenues) and lower presence in the scooter segment (third largest player with only 12% volume market share).

HMSI, despite being the largest scooter player by a mile, the benefits from its scooter dominance is somewhat offset by its high exposure to executive motorcycle segment.

Exhibit 34: TVSM is one of the best placed to benefit from the scooterisation trend and Hero/Bajaj to be the biggest losers

Particulars Hero Bajaj HMSI TVSM Royal Enfield

Scooter market share 12.8% 0.0% 59.0% 14.7% 0.0%

Rank

Scooter contribution to revenues 10% 0% 49% 24% 0%

Rank

Percentage revenues from executive segment 63% 9% 34% 2% 0%

Rank

Overall Rank

Source: SIAM, Industry, Company, Ambit Capital research Note : = Strongest; = Relatively Strong; =

Average; = Relatively weak and = Weakest.

Automobiles


Player-wise market share movement from FY16 to FY18 We expect HMSI and TVSM to gain market share in the Indian 2W market While we expect HMSI to benefit from scooterisation, we expect TVSM to benefit from both scooterisation as well as premiumisation. Further, we also expect TVSM to gain share in the executive bike segment on the back of launch of Victor (early FY17) and in the premium segment riding on the launch of Apache 200 (4QFY16) and a TVS branded variant (mid-FY17) of the TVS-BMW bike.

On the other hand, we expect Hero and Bajaj Auto to lose market share both as a result of their relatively low or no exposure to scooters and rising competition especially in the executive and premium bike segments.

Exhibit 35: We expect HMSI and TVSM to gain market share in domestic 2Ws

Market share FY12 FY13 FY14 FY15 Apr-Oct’15 FY16E FY17E FY18E

Economy segment Hero 44.7% 53.2% 56.4% 53.3% 44.5% 44.5% 45.5% 45.0%

Bajaj Auto 28.7% 24.9% 24.2% 24.9% 38.7% 38.2% 37.7% 37.2%

TVS Motor 25.0% 20.2% 17.9% 20.6% 16.1% 16.8% 16.0% 16.0%

Executive segment Hero 68.7% 62.6% 61.0% 66.4% 71.5% 71.0% 69.6% 68.0%

Bajaj Auto 20.1% 20.2% 14.5% 8.3% 4.1% 4.1% 4.1% 4.1%

HMSI 9.3% 14.6% 19.7% 22.3% 22.0% 22.2% 22.2% 23.5%

Premium segment Hero 19.4% 16.0% 11.0% 7.9% 6.1% 6.0% 5.0% 5.0%

Bajaj Auto 42.1% 40.7% 37.1% 34.6% 33.5% 34.0% 33.5% 33.0%

HMSI 9.5% 14.3% 17.6% 13.9% 9.0% 9.0% 9.0% 9.0%

TVS Motor 8.5% 7.4% 8.2% 10.0% 11.7% 11.8% 12.1% 12.8%

Eicher 4.6% 7.4% 11.5% 16.0% 20.7% 21.8% 24.9% 25.8%

Motorcycles Hero 56.0% 53.2% 51.8% 52.9% 51.9% 52.0% 50.4% 49.0%

Bajaj Auto 25.4% 24.4% 20.0% 16.5% 18.0% 17.6% 17.7% 17.7%

HMSI 7.6% 11.8% 15.8% 16.4% 14.4% 14.7% 15.0% 15.9%

TVS Motor 6.2% 5.5% 5.5% 6.2% 6.7% 6.6% 7.6% 8.0%

Eicher 0.8% 1.2% 1.9% 3.0% 4.3% 4.4% 5.4% 5.7%

Scooters Hero 16.3% 18.8% 19.0% 16.7% 14.0% 15.6% 17.0% 17.5%

Bajaj 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%

HMSI 47.8% 48.6% 52.7% 55.5% 57.2% 54.7% 53.5% 53.0%

TVS Motor 19.4% 14.5% 12.6% 15.2% 15.3% 15.4% 14.9% 14.7%

Eicher 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%

Mopeds TVS Motor 100% 100% 100% 100% 100% 100% 100% 100%

2W Industry Hero 45.1% 42.9% 41.3% 40.2% 40.2% 38.5% 37.5% 36.6%

Bajaj Auto 19.1% 17.9% 14.2% 11.1% 12.0% 11.4% 11.3% 11.1%

HMSI 14.9% 18.9% 24.0% 26.6% 25.7% 26.2% 26.4% 27.1%

TVS Motor 14.1% 12.8% 11.8% 13.2% 13.1% 13.5% 13.9% 13.9%

Eicher 0.6% 0.9% 1.4% 2.0% 1.9% 2.9% 3.4% 3.6%


Automobiles


Upgrade TVSM to BUY Indian 2W players command a justified premium over global peers

On FY18 P/E, Indian 2W players on an average command a premium of nearly 65% to their global peers. On FY18 EV/EBITDA, too, Indian companies command a premium of nearly 45% to their global peers. We believe the key reasons for the premium commanded by domestic 2W players over their global counterparts are:

(i) The net earnings CAGR for Indian 2Ws over FY15-FY18 is nearly twice that of their global counterparts (27% vs 13% for global companies);

(ii) The return ratios for Indian 2W players are also nearly twice that of the global peers (average of 37% vs 18% for global companies over FY16-FY18)

Exhibit 36: Relative valuation

Mcap EV/EBITDA (x) P/E (x) CAGR (FY15-18) Price perf (%) RoE

US$ mn FY16 FY17 FY18 FY16 FY17 FY18 Sales EBITDA EPS 3m 1 yr FY16 FY17 FY18

India Bajaj Auto 10,857 12.7 11.4 10.4 19.8 17.6 15.9 10 12 12 8 1 32 32 32

Hero Motocorp 8,120 11.8 10.9 9.7 17.3 16.2 14.8 9 14 13 11 (12) 43 40 38

Eicher Motors 6,561 22.1 15.7 12.8 42.5 36.4 28.5 33 45 46 (13) 10 38 42 40

TVSM 2,069 17.0 11.9 8.6 28.3 18.1 12.7 19 36 39 24 14 27 34 37

Average 15.9 12.5 10.4 27.0 22.1 18.0 18 27 27 35 37 37

Global Honda Motor Co 58,102 8.0 7.4 7.0 12.0 10.5 9.5 6 11 13 2 9 8 9 9

Suzuki Motor Corp 17,039 6.0 5.5 5.1 13.7 14.0 12.8 5 11 19 (4) 0 10 10 10

Harley Davidson 8,657 10.3 9.8 9.5 12.3 11.0 10.1 (3) (1) 5 (18) (30) 30 36 43

Yamaha Motor Co 7,870 7.2 6.5 5.9 14.1 9.7 8.8 6 19 17 12 11 14 18 17

Average 7.9 7.3 6.9 13.0 11.3 10.3 4 10 13 15 18 20

Source: Company, Bloomberg, Ambit Capital research

2W stock multiples now largely tracking the earnings growth

The Hero-Honda split has impacted the valuation multiples of Hero and Bajaj in FY12 and FY13

The formalisation of the Hero-Honda split towards the end of FY11 led to concerns about the structural rise in the competition in the Indian 2W space. As a result, the P/E multiples of domestic 2W OEMs de-rated significantly between FY11-end till about FY13-end. The EV/EBITDA multiple of Hero and Bajaj Auto averaged 9.7x in March 2013. This was nearly 15% lower than the average EV/EBITDA multiple commanded by Hero and Bajaj over FY10 and FY11.

The multiples of Hero and Bajaj have, however, re-rerated back in the last 2 years …

After witnessing de-rating over FY12 and FY13, 2W companies witnessed significant re-rating since the start of FY14. The key reasons for this re-rating have been: (i) Lower-than-expected customer response to HMSI’s Dream Series bikes – HMSI’s answer to Hero’s Splendor and Passion bikes; (ii) Healthy uptick in Hero’s volumes starting from the early part of FY14 on account of strong growth in rural areas; (iii) On the other hand, despite market share loss of 440bps in domestic motorcycles in FY14, rupee depreciation helped Bajaj Auto’s margins/net earnings in FY14.

… and now trade near historical averages, tracking the earnings growth

After witnessing a peak multiple of 13.8x in December 2014, the average EV/EBITDA multiple of Bajaj Auto and Hero has contracted to 11.1x which is very near the five-year average of 10.7x. This decline in multiple has been on account of contraction in the one-year forward EBITDA growth expectations since March 2015 on the back of weak 2W demand.

Automobiles


Exhibit 37: Hero and Bajaj multiples have largely tracked earnings growth

Source: Bloomberg, Company, Ambit Capital research. Note: One-year forward EV/EBITDA and EBITDA growth is average of Bajaj Auto and Hero MotoCorp

TVSM looks attractively priced compared to its peers

We expect TVSM and Eicher to benefit from market share gains and high operating leverage benefits. On the valuation comparison, TVSM stands out with strong growth prospects, decent valuations (as against its peers) and relatively healthy RoEs.

On comparative valuation based on current market prices, TVSM (standalone) is trading at 17.8x FY17E net earnings, which is at a marginal premium to the multiples commanded by peers (average of 16.6x for Bajaj and Hero). However, on FY18 estimates, TVSM is trading at a 14% discount to the multiples of Bajaj and Hero. Whilst TVSM’s RoIC is lower vs peers (FY17 RoIC at 44% vs average of ~100% for Bajaj Auto and Hero), we expect TVSM’s net earnings growth (39% CAGR over FY15-FY18) to be ahead of peers, Hero (13%) and Bajaj Auto (12%).

Exhibit 38: TVSM appears attractively priced on valuation

Source: Company, Ambit Capital research. Note: Size of the bubble

represents FY18 RoE of the company

Exhibit 39: TVSM to report strong net earnings growth over FY16-FY18

Source: Company, Ambit Capital research. Note: Hero’s EPS growth in FY15 is high on account of discontinuation of royalty payments to Honda from 2QFY16; Eicher data pertains to the motorcycle business

-5%

0%

5%

10%

15%

20%

25%

30%

35%

40%

8.0

9.0

10.0

11.0

12.0

13.0

14.0

15.0

16.0

Apr

-11

Sep-

11

Feb-

12

Jul-

12

Dec

-12

May

-13

Oct

-13

Mar

-14

Aug

-14

Jan-

15

Jun-

15

Nov

-15

1-yr fwd EV/EBITDA EBITDA growth - RHS Avg EV/EBITDA

Hero-Honda split led to de-rating Volume recovery led toBajaj/Hero trading at peakvaluations

Valuations converge to historical average

BajajHero

Eicher

TVS

0%

10%

20%

30%

40%

50%

60%

8 9 10 11 12 13 14 15

EBIT

DA

CA

GR

(FY1

5-18

)

One-year fwd EV/EBITDA (x)

-40%

-20%

0%

20%

40%

60%

80%

100%

120%

140%

FY12

FY13

FY14

FY15

FY16

E

FY17

E

FY18

E

Bajaj Hero Eicher TVS

Automobiles


DCF assumptions – Higher growth expectations for TVSM/Royal Enfield than Hero/Bajaj

We have valued the 2W companies using a three-stage DCF model. Our FCFE model has three distinct phases:

FY15-18: Driven by rising competitive intensity, scooterisation and premiumisation, we expect revenue and earnings CAGR for Bajaj Auto (11%/12%) and Hero (9%/13%) to be lower than TVSM (20%/40%) and Royal Enfield (42%/49%).

FY19-22: We fade the revenue and earnings CAGR gradually so that by FY22 the revenue CAGR for the period is 8%-9% for Bajaj and Hero and 12%-23% for TVSM and Royal Enfield. TVSM and Royal Enfield continue to outperform Bajaj and Hero.

FY23-26: We further moderate revenue and earnings growth over this period.

Driven by operating leverage benefits and healthier product mix, we expect TVSM’s EBITDA margin to expand over FY18-FY26.

We build in terminal growth of 4% for Bajaj/Hero, lower than the 6% terminal growth for Royal Enfield as we believe there exists higher long-term volume potential for Royal Enfield.

Exhibit 40: DCF assumptions

FY15-18 FY19-22 FY23-26

Revenue CAGR

Hero 9% 8% 7%

Bajaj 11% 9% 8%

TVSM 20% 13% 10%

Royal Enfield 42% 23% 14%

Avg EBITDA margin

Hero 14.3% 14.6% 14.6%

Bajaj 21.2% 20.5% 20.1%

TVSM 8.0% 9.6% 9.6%

Royal Enfield 26.9% 27.8% 26.9%

EPS CAGR

Hero 13% 8% 7%

Bajaj 12% 9% 8%

TVSM 40% 12% 10%


Avg RoE

Hero 39% 35% 31%

Bajaj 35% 33% 30%

TVSM 31% 30% 26%


Terminal growth rate

Hero 4%

Bajaj 4%

TVSM 5%

Royal Enfield 6%


Automobiles


We value Hero/Bajaj near to historical average but TVSM/Eicher at a premium

We value Hero and Bajaj near to its historical average given our analysis of their valuation multiple performance over the last five years indicates that the multiple tends to converge to the mean and tracks earnings growth.

We believe a premium to historical valuations is justified for TVSM as: (a) its business prospects (both volumes and margin) have significantly improved as compared to the earlier years on the back of successful responses to new launches; and (b) TVSM has increased its focus on cash generation and reduction in the debt levels over the last two-three years. The above factors have/are likely to result in a nearly 1.8x improvement in RoIC in FY15-FY18 vs the FY11-FY14 average.

Similarly, given significant improvement in volumes, margin and return ratios, we believe premium to historical average multiple appears justified for Eicher.

While we assign higher than historical average P/E multiple to TVSM, it is at marginal discount to Hero and Bajaj given its lower return ratios.

Exhibit 41: We value Hero/Bajaj close to the historical average multiple but TVSM/Eicher at a premium

Company Stance TP (̀ ) Implied valuation multiple

Historical average Remarks

Bajaj Auto SELL 2,425 14.7x Dec'17 EPS 15x Marginal discount to historical average due to significant increase in competition

Hero MotoCorp SELL 2,580 14.7x Dec'17 EPS 15x

Marginal discount to historical average due to significant increase in competition

Eicher Motors SELL 15,500 RE – 27.3x Dec’17 EPS; VECV – 9.7x Dec’17 EBITDA

-

Significant premium to historical average on the back of strong improvement in Royal Enfield prospects

TVS Motor BUY 330 14.3x Dec'17 EPS 11.5x

Premium to the historical average on the back of market share regains and higher earnings growth prospects

Upgrade TVSM to BUY

We have maintained our domestic 2W industry volume estimates for FY16 to FY18 - domestic motorcycle industry volumes to grow by 2% in FY16; 8% in FY17 and 10% in FY18. However, in line with the recent trends, we have downgraded export volume estimates for most of the 2W OEMs. This results in marginal downgrades to Bajaj Auto’s FY16-FY18 net earnings. On the other hand, we have upgraded our domestic motorcycle and scooter market share assumptions for TVSM. This results in 4%-7% upgrade to TVSM’s FY16-FY18 net earnings.

Exhibit 42: Summary of change to estimates/valuation

Company Mcap (US$ mn) Stance

Target Price Upside

New EPS (̀ ) Change

New (̀ ) Change FY16 FY17 FY18 FY16 FY17 FY18

Bajaj Auto 10,857 SELL 2,410 0% -5% 128 144 159 -2% -1% -1%

Hero 8,120 SELL 2,580 0% -4% 156 167 182 0% 0% 1%

Eicher Motor 6,561 SELL 15,500 -2% -5% 479 558 714 -1% -2% -2%

TVS Motor 2,069 BUY 330 31% 16% 10.1 15.8 22.4 -2% 4% 7%


Automobiles


Change in stance

Upgrade to BUY: TVS Motor Company (TVSL IN, mcap US$2.1bn, BUY, TP `330, 16% upside)

Positive reviews to G310R and its imminent launch in mid-FY17 make us factor in BMW tie-up benefits (`45/share). Market share gains from strong product cycle (new Apache, Victor in next six months), strong response to Jupiter and long-awaited margin uptick in 2QFY16 lead to 4-7% upgrade to FY16-18 standalone EPS. Improving RoEs (26% in FY15 to 34% in FY17 and 37% in FY18) and higher earnings growth (39% over FY15-18) lead to only 3% P/E multiple discount to Bajaj and Hero (vs. 5% earlier). TVSM appears best placed to ride the scooterisation and premiumisation shifts in 2Ws. We turn BUYers.

Maintain SELL on other 2W stocks

Bajaj Auto (BJAUT IN, mcap US$10.8bn, SELL, TP `2,410, 5% downside)

We expect increasing competition from Royal Enfield, TVS and Honda to impact market share in the highly lucrative premium segment (loss of 100bps over FY16-FY18 in continuation of the 750bps loss over FY12-FY15). Macro/political issues and increasing difficulty in market share gains in export markets to restrict export volume growth to 9% over FY16-FY18. INR depreciation benefits would be limited by significant devaluation in local currencies/price cuts. While Bajaj trades close (14.7x) to historical multiples, subdued earnings growth are likely to weigh in on share price.

Hero MotoCorp (HMCL IN, mcap US$8.1bn, SELL, TP `2,580, 4% downside)

Uncertain product development capabilities and low exposure to scooters and premium bikes make Hero the most vulnerable in domestic 2Ws (405bps market share loss in domestic 2Ws over FY15-18). Export volumes to be restricted by Bajaj/TVSM’s well entrenched presence. Margin gains beyond FY16 to be limited due to rising competitive intensity and deteriorating product mix. Net earnings growth to decelerate from 22% in FY16 to 8% CAGR over FY16-18.

Eicher Motors (EIM IN, mcap US$6.6bn, SELL, TP `15,500, 5% downside)

Export success remains uncertain because of lack of brand, distribution networks and broader product portfolio (we estimate only 5% volume contribution by FY2020). Higher R&D spends and export market expenses (marketing and personnel costs) likely to restrict EBITDA margin gain from domestic volume growth. Premium valuation (27.3x for Royal Enfield vs 14.7x for Bajaj/Hero) and VECV (5% premium to Ashok Leyland) leaves little upside on the table.

Automobiles


Can disruptive technologies impact the 2W industry? Electric 2Ws in India: Will involve long gestation but OEMs need to be prepared Electric 2Ws – High acquisition costs mar large scale adoption

An alternative to the currently dominant internal combustion engine (ICE) technology that has emerged in recent years is the electric vehicle technology. It is more environmental friendly than ICE motorcycles and does not contribute to air pollution, which is a large concern for major cities around the world. They are smoother to drive generate less noise and are designed to have more storage space. Additionally, cheaper operating costs of E-bikes adds to their appeal. On the flip side, high acquisition cost (high component costs due to under-developed technology and sub-optimal scale) and lack of infrastructure (plug points) are the key impediments to the growth of electric 2Ws globally.

China is the only 2W market with dominance of electric 2Ws

Electric 2Ws have gained a strong presence in China, where almost 75% of the ~50mn 2W market is on electric technology. The key driver for large scale adoption of electric 2Ws in China has been the government subsidies and incentives. Furthermore, e-bikes also received a boost from government’s move to ban ICE 2Ws in around 200 cities. The large scale of electric 2Ws also facilitated the creation of variable of eco-system for supplies of key components like batteries, cells and motors.

Due to scale and well-developed eco-system, e-bikes are available in China for around US$300-350 (vs US$1,300 in India). These bikes, though, are dubious for their longevity (our interaction with industry sources indicate that these bikes are only suitable for 30-42 months) and primarily targeted towards the low salaried factory workers.

We believe electric 2Ws will involve long gestation in India

In FY14, the size of the electric 2W market was a measly ~15,000 units (vs 37.5mn p.a. in China). The acquisition cost of electric 2Ws is high (however, the total cost of ownership over a 5-year lifecycle is equal, because of electric 2Ws’ much lower operating cost). At present, most of the Indian OEMs have no competence in electronic vehicle technology. Japan’s Terra Motors, is currently building a production facility for electric scooters in India and has already rolled out an e-scooter (A4000i). Various other players like Hero Electric and Ather Energy (which is planning to launch an e-scooter in 2016) are also working on the electric technology.

In our view, higher upfront acquisition cost would deter any significant shift in favour of electric 2Ws over the next 4-5 years. Further, load shedding, few charging points and fewer service centers will play up as additional dampeners for electric 2W sales. The only exception to this belief is if there are strong incentives/measures announced by the government in favour of electric 2Ws. Note that the government made a small beginning in the most recent budget where it approved 30% tax credit for investments in fuel cells, micro-turbines, or an energy storage system for use with electric or hybrid-electric vehicles.

Automobiles


E-commerce in automobiles – a facilitator not a disruptor Recently, Snapdeal launched its new platform which allows customers to book automobiles on line. We note that, as of now internet is only a research platform (like bikewale.com, bikedekho.com etc.) for 2W. Eventually, the customer has to visit the brick and motor dealership to collect the 2W. This is so because, there are various procedures including documentation for RTO registration, completion of the KYC procedure, fulfilling of certain statutory norms before one is allowed to own a 2W. Additionally, as of now, services such as vehicle loans, insurance etc. are not available on line. This creates hindrances for growth of e-commerce platforms for the automobile industry. Hence, in the current form, internet is only a facilitator in booking of the vehicle and would not significantly change the brick and mortar distribution network.

The e-commerce route in automotive trade will not take off in a meaningful way, unless there is a significant change in the legal and commercial framework (e.g. registration process, online loan approval etc.) for online sales.

Internationally also e-commerce in automobile has not taken off due to somewhat similar factors.

Exhibit 43: E-commerce in automobile industry



Key financials – standalone (including exports to BMW) Year to March (̀ mn) FY14 FY15 FY16E FY17E FY18E

Operating Income 79,619 100,888 113,780 136,420 168,262

EBITDA 4,781 6,489 8,224 11,782 16,270

EBITDA margin 6.0% 6.4% 7.2% 8.6% 9.7%

Adjusted EPS (`) 5.08 8.41 10.1 15.8 22.4

Debt:Equity (x) 0.3 0.6 0.3 (0.0) (0.2)

RoE (%) 18% 26% 27% 34% 37%

P/E 56.2 33.9 28.3 18.1 12.7


Victor of the next decade

Positive reviews to G310R and its imminent launch in mid-FY17 make us factor in BMW tie-up benefits (`45/share). Market share gains from strong product cycle (new Apache, Victor in next six months), strong response to Jupiter and long-awaited margin uptick in 2QFY16 lead to 4-7% upgrade to FY16-18 standalone EPS. Improving RoEs (26% in FY15 to 34% in FY17 and 37% in FY18) and higher earnings growth (39% over FY15-18) lead to only 3% P/E multiple discount to Bajaj and Hero (vs. 5% earlier). TVSM appears best placed to ride the scooterisation and premiumisation shifts in 2Ws. We turn BUYers.

Competitive position: WEAK Changes to this position: POSITIVE BMW tie-up yielding results BMW-TVSM’s first jointly developed <500cc motorcycle (G310R) has received positive reviews. We now build in volumes of this bike as well as the TVS branded variant for mid-FY17. We estimate exports of <500cc motorcycle from TVS to BMW to reach 162k units by FY22 (near to BMW’s current sales of its 650cc and above bikes), transfer price at `200k and EBITDA per bike of `20k (vs BMW’s current >`161k/bike). Exports to BMW will add 10%-15% in accretion to TVSM’s standalone FY18-FY20 net earnings. TVSM re-entering strong product cycle even as existing products do well New launches (Jupiter, Star City) in FY14/FY15 were largely responsible for TVSM’s market share gain of ~180bps over FY13-YTDFY16 in domestic 2W (ex-mopeds). Further, we expect new launches - Apache 200 (Feb ‘16), delayed Victor (commuter bike, early FY17) and TVS-BMW variant (mid-FY17) to drive further 134bps market share gain over FY16-FY18 in domestic motorcycles. Better-than-expected sales of Jupiter in recent months lead to market share upgrades of 55bps in domestic scooters for FY16 and 40bps for FY17 (we now estimate only 50bps market share loss over FY15-FY18). Margin expansion (322bps over FY15-FY18) should follow TVSM’s 2QFY16 margin clearly surprised our estimates driven by weak commodity prices, favourable product mix and operating leverage. With our expectations of healthy revenue growth (18% CAGR over FY16-FY18) and favourable product mix (Victor, premium bikes), we expect TVSM’s margin to expand from 7.2% in FY16 to 8.6% in FY17 and to 9.7% in FY18. We upgrade FY17-FY18 EBITDA margin by 17bps-29bps to factor in revenue upgrades. Upgrade to BUY as we now build in BMW exports into valuation We upgrade our SOTP to `330 (core standalone business `273, BMW’s exports `45, other investments `12) from `252 earlier. We upgrade our core standalone value to `273 (from `240) driven by 4%-7% upgrade to FY17-FY18 EPS and upgrade to long term margin estimates (9.6%). Our implied one-year forward valuation for core business is 14.3x, 3% lower than Bajaj and Hero as TVSM’s higher net earnings growth is offset by its relatively lower RoIC vs these peers. Key risks: Delay in launches, any royalty by BMW.

CHANGE IN STANCE TVSL IN EQUITY December 22, 2015

TVS Motor CompanyBUY

Auto & Auto Ancillaries

Recommendation Mcap (bn): `137/US$2.1 3M ADV (mn): `617/US$9.3 CMP: `285 TP (12 mths): `330 Upside (%): 16

Flags Accounting: AMBER Predictability: AMBER Earnings Momentum: AMBER

Catalysts

Market share gains in domestic motorcycles to 7.6% in FY17 vs 6.2% in FY15

EBITDA margin improvement – 7.6% in 2HFY16 vs 6.8% in 1HFY16

Performance

Source: Bloomberg, Ambit Capital research

85 95

105 115 125 135

Dec

-14

Jan-

15Fe

b-1

5M

ar-1

5

Apr

-15

May

-15

Jun-

15Ju

l-1

5

Aug

-15

Sep-

15O

ct-1

5N

ov-1

5

Sensex TVS

Analyst Details

Ashvin Shetty, CFA

+91 22 3043 3285

[email protected]

Ritu Modi

+91 22 3043 3292 [email protected]


[email protected]

TVS Motor Company


Fruits of BMW tie-up now closer Tie-up to leverage BMW’s technology and TVSM’s frugal manufacturing capabilities

In April 2013, TVSM and BMW Motorrad, the motorcycle division of BMW, signed a long-term cooperation agreement. The key terms of the tie-up are:

BMW and TVSM will jointly develop a series of <500cc motorcycles for the Indian and global markets. (BMW’s current motorcycle engine range starts from 650cc).

Each company will offer its own vehicle derivatives to be sold through their own distribution channel in India and global markets; and

Both players will use each other’s strengths (BMW’s technology and TVSM’s frugal manufacturing capabilities, particularly for smaller cc engines).

TVS will invest €20mn towards this venture (most likely to be invested in manufacturing facilities). BMW’s contribution is not known but media articles suggest that the cost of development and testing will primarily be borne by BMW Motorrad.

Our interaction with industry sources suggest that while BMW is the driving force behind the technology and product development, TVSM would contribute the manufacturing capabilities for the joint venture.

First motorcycle (BMW G 310R) recently unveiled in EICMA Motorcycle Show (Milan) to positive reviews

The tie-up’s first bike BMW branded G310R was recently showcased in the EICMA Motorcycle Show, Milan. The bike has a single-cylinder, four-stroke 313cc engine and will compete against the likes of KTM 390, Yamaha YZF-R3 and Honda CBR 250R/300R amongst others. On designing, looks and certain technical aspects, G310R has borrowed from S1000RR - one of the BMW’s best-selling bikes. G310R has received favourable reviews from technical experts and auto journalists1 2.

We factor in benefits from the BMW-tie up in our estimates for TVSM

The BMW branded bike is set to be commercially launched in 3QCY16. Similarly, TVSM management, in the recent 2QFY16 results call, mentioned that TVS-BMW bikes will be launched in FY17 which together with media articles3 implies that the TVS branded variant will also be launched around the same time (TVS branded variant will be most likely showcased in the 2016 Delhi Auto Expo in February 2016).

Given this impending launch, we now build in benefits from the TVS-BMW tie up in our estimates for TVSM.

We factor 162k units of <500cc motorcycle exports by TVSM to BMW by FY22

Globally, BMW currently sells close to ~150k units of 650cc and above bikes (1HCY15 annualised). Its nearest competitor KTM sells close to 147k units (1HCY15 annualised) of which <500cc bikes (KTM390, 200 and 125) exported by Bajaj accounted for nearly 40% share in CY14.

Globally, the mid-size (250cc-500cc) motorcycle market is close to 1.2mn units, of which close to 40% is accounted for by Royal Enfield (the rest being KTM and others). This segment has been growing strongly on the back of: (i) success of Royal Enfield; and (ii) new product introductions in this category - for instance, introduction of KTM390 in 2013 has resulted in KTM's <500 cc motorcycle sales increasing to nearly 3x between FY13 and FY15. We believe, globally, the mid-size segment would continue to grow and reach 2.4mn units by FY22 (implying CAGR of ~13% over FY15-FY22) both as a result of new demand as well as cannibalisation of higher cc

1http://www.gizmag.com/bmw-g-310-r/40347/ 2http://overdrive.in/news/bmw-g-310-r-debuts-first-motorcycle-of-bmw-tvs-joint-development-project/ 3http://www.financialexpress.com/article/industry/automobiles/tvs-bmw-g-310-r-revealed-to-be-produced-at-tvs-facility-in-india/164699/

BMW-TVS G310R (BMW branded)


Both KTM & BMW have witnessed strong volume growth

Euro mn CY14 1HCY15

KTM Volumes 140,518 73,630

YoY growth 23% 20%

Revenue 865 515

YoY growth 21% 26%

EBITDA Margin 13.0% 13.6%

BMW Volumes 123,495 78,418

YoY growth 7% 10%

Revenue 1,679 1,189

YoY growth 12% 19%

EBITDA Margin 10.5% 15.0%


We factor in `200k realisation for TVS exports to BMW

`/bike Realisation

BMW (9MCY15) 1,075,007

KTM (1HCY15) 514,540 Bajaj exports to KTM (FY15) 143,769

TVS exports to BMW (FY18) 200,000

Source: Company, Ambit Capital research. BMW and KTM realisation in Euro has been converted to INR using Rs73.55=Euro

TVS Motor Company


motorcycle sales (we estimate >500cc bike segment sales to be relatively subdued at 2% CAGR over FY15-FY22).

BMW currently has around 14.0% market share in the >500cc motorcycle market (1.0mn units). We estimate that BMW can capture around 7.0% market share in the <500cc motorcycle segment by FY22 (lower market share than that in >500cc segment due to competition from players like Royal Enfield in <500 segment). Consequently, we expect BMW Motoradd’s sales in the <500cc motorcycle segment to touch around 162k units by FY22 as it introduces a series of products in this category.

We factor in average realisation of `200k in TVSM’s exports to BMW

The average realisation currently generated by BMW Motoradd is close to 15k Euros/bike (`1,075k). Similarly, KTM’s average net realisation per bike is close to ~7k Euros/bike (`515k). Bajaj’s average net realisation on exports to KTM was ~`150k/vehicle. But Bajaj’s exports included nearly 60% of much smaller displacement engines like KTM 125 and KTM 200. We believe TVSM could earn higher realisation prices on its BMW exports than what Bajaj earns on its KTM exports. Furthermore, KTM 390 retails at nearly US$5,200/bike in Germany (source: dealer websites). We build in an average realisation/bike of `200k for TVS’ exports to BMW with an average annual inflation rate of 1%.

We expect TVSM to earn EBITDA margin of 10.0% on BMW exports

BMW Motoradd made an EBITDA margin of close to 15.0% (adjusted for currency one-off) in 9MCY15. Similarly KTM made an EBITDA margin of 13.6% in 1HCY15. We factor in an EBITDA margin of 10.0% for TVS on its exports to BMW, which is lower than the EBITDA margin made by BMW and KTM. Furthermore, our EBITDA margin assumption of 10.0% implies EBITDA/bike of `20k for TVSM, which is significantly lower than BMW’s current `161k/bike and KTM’s `70k/bike.

Exhibit 1: Key assumptions and estimates – TVS’ exports to BMW


Volumes (units) 50,000 80,000 110,000 137,500 162,250

YoY 60% 38% 25% 18%

Average selling price (`) 200,000 202,000 204,020 206,060 208,121

YoY 1% 1% 1% 1%

Revenues (` mn) 10,000 16,160 22,442 28,333 33,768

YoY 62% 39% 26% 19%

EBITDA (` mn) 1,000 1,616 2,244 2,833 3,377

EBITDA margin 10.0% 10.0% 10.0% 10.0% 10.0%

EBITDA (`/bike) 20,000 20,200 20,402 20,606 20,812

Post-tax profit (` mn) 750 1,212 1,683 2,125 2,533


We expect BMW exports to add 10%-15% to standalone EPS

Based on the above estimates, we expect BMW exports to add `0.8bn-`1.7bn to TVSM’s FY18-FY20 standalone net earnings. This implies `1.6-`3.5 earnings per share or 10%-15% accretion to TVSM’s FY18-FY20 standalone net earnings.

Expansion of scope in existing tie-up can provide upside risk

Certain media articles4 suggest that TVS and BMW plan to expand their existing partnership to develop 500-600cc twin cylinder engine adventure bikes. Media reports indicate that the prices of these mid-capacity motorcycles could be ~`500-600k. Whilst there are no confirmed reports suggesting such an extension of partnership, if the scope of the existing agreement (restricted to <500cc motorcycles) is expanded to include the 500-600cc bikes, we believe this could provide upside risk to our estimates.

4 https://www.team-bhp.com/news/rumour-tvs-bmw-plans-twin-cylinder-adventure-tourer

We factor in `20k EBITDA/bike and 10.0% EBITDA margin for TVS exports to BMW (FY18)

EBITDA (̀ /bike)

EBITDA margin

BMW (9MCY15) 161,211 15.0%

KTM (1HCY15) 70,124 13.6% TVS exports to BMW (FY18) 20,000 10.0%

Source: Company, Ambit Capital research. BMW and KTM EBITDA in Euro has been converted to INR using Rs73.55=Euro

TVS Motor Company


TVSM re-entering strong product cycle A key reason for the increase in TVSM’s market share in domestic 2Ws (ex-mopeds) from 7.6% in FY13 to 8.9% in FY15 has been the new launches such as scooters, Jupiter and Scooty Zest; and the motorcycle, new Star City (these launches took place between September 2013 and May 2014).

Exhibit 2: New launches since September 2013…

Model Displacement (cc) Launch date

Jupiter 110cc Sep-13

Star City+ 110cc May-14

Scooty Zest 110cc Aug-14

Phoenix (refresher) 125cc Apr-15

Source: Industry, Company, Ambit Capital research

Exhibit 3: ... have helped drive market share gains for TVSM in domestic 2Ws

Source: SIAM, Company, Ambit Capital research

However, TVSM did not have any major launches (except for refreshers) for the last 12 months.

134bps market share gain in domestic motorcycles over FY16-FY18

Going forward, we see TVSM re-entering the phase of a strong product launch pipe-line with the following launches:

(a) Apache 200 to help Apache brand register 15% volume CAGR over FY16-FY18

The first to come is Apache 200 bike in the premium segment. We expect it to be launched in February 2016. Apache, TVSM’s current sole brand in the premium space, has been doing well over the last two years and witnessed an increase in market share in the premium segment from 8.2% at FY14-end to 11.7% in Apr-Oct’15. Apache has gained market share in the past few months (242bps YoY in Apr-Oct’15), helped by the launch of new colour variants. Most of Apache’s market share gain has been mainly at the expense of Hero and HMSI and partly from Bajaj and Yamaha. We expect Apache 200 to complement TVSM’s current 160cc and 180cc Apache offerings. We build in monthly volumes of 5k units for Apache 200 for FY17. We also expect some cannibalisation impact of Apache 200 on the sales of Apache 160/180. We expect Apache 200 to help the Apache brand register 15% volume CAGR over FY16-FY18.

(b) TVS branded bike from BMW tie-up - we build in 1.5k units/month (FY18)

As discussed, the TVS branded version of G310R is likely to be introduced in mid FY17. We are currently building in only 1k/month units for 2HFY17 and 1.7k/month units for FY18. This is lower than the 6.3k/month of Bajaj’s Pulsar 220c, given the large price gap likely between the two.

We believe this bike, together with the new Apache 200, will strengthen TVSM’s market share in the premium segment from 10.0% in FY15 to 12.8% in FY18 (see exhibit alongside).

(c) Victor – we build in 15k/month starting FY17

The next important launch from TVSM is Victor in the crucial executive segment. This segment accounts for nearly 57% of the domestic motorcycle market and averages 521k sales/month. The executive segment is crowded with little room

6.5%7.0%

7.5%

8.0%8.5%

9.0%

9.5%10.0%

10.5%

Oct

-13

Dec

-13

Feb-

14

Apr

-14

Jun-

14

Aug

-14

Oct

-14

Dec

-14

Feb-

15

Apr

-15

Jun-

15

Aug

-15

Oct

-15

TVS market share in domestic 2Ws (ex-mopeds)

TVSM’s market share in premium segment to improve

FY15 FY16E FY17E FY18E

TVSM volumes (‘000s)

201 262 310 370

market share 10.0% 11.8% 12.1% 12.8%

YoY growth 39% 30% 18% 19%


TVSM’s market share gain in premium segment mainly at the expense of Hero and HMSI

Apr-

Oct’14 Apr-

Oct’15 Change

(bps)

Hero 9.8% 6.1% (368)

Bajaj 36.1% 33.5% (257)

HMSI 14.0% 9.0% (505)

TVS 9.2% 11.7% 242

RE 14.6% 20.7% 611

Others 16.2% 19.0% 278


TVS Motor Company


for differentiation and scooterisation is impacting the overall executive bike category. Furthermore, the executive segment remains the key focus area of HMSI to gain leadership in the motorcycle and the overall Indian 2W market. Consequently, much of HMSI’s product launches and marketing campaigns over the last 2-3 years have been focused around the executive segment in India. Besides HMSI, other MNC players such as Suzuki and Yamaha are also focusing on this segment. TVSM currently has a negligible market share in this segment. The playing field having changed significantly compared to when Victor was originally launched in 2001 with a significantly larger number of players and a much larger number of products. Consequently, we build in modest volumes for Victor (at 15k/month for FY17 and 18k/month for FY18). Nevertheless, based on our estimates, we expect Victor to bring in 92bps YoY and 14bps YoY of incremental market share for TVSM in domestic motorcycles in FY17 and FY18 respectively.

Exhibit 4: Expectations from TVSM’s new launches in domestic motorcycles

Model Launch date Expected Price range (̀ )

Key competing products

Volumes built in our estimates Comments

FY16 FY17 FY18

Victor 1QFY17 50-52k Splendor/Passion/ Dream Series - 180,000 216,000

We build in 15k monthly volumes for FY17 and 18k monthly volumes for FY18

Apache 200 Feb-16 90-100k Pulsar 180/Pulsar 200/Apache 180 1,712 48,000 60,000

We expect some cannibalisation of Apache 160/180 sales and expect Apache segment to witness 15% CAGR over FY16-FY18

TVS-BMW Mid-FY17 180-200k KTM Duke 390 - 4,000 20,993 We build in 1.7k monthly volumes for FY18

Source: SIAM, Industry, Company, Ambit Capital research Note: Prices expected are ex-showroom Delhi

On the back of new launches (Apache 200, Victor and TVS branded BMW bike), we expect TVSM to gain 134bps market share in the domestic motorcycle space. We expect TVSM’s domestic motorcycle volumes to record 16% volume CAGR vs industry CAGR of merely 6% over FY15-18.

Exhibit 5: We expect market share gains in domestic motorcycles for TVSM

FY15 FY16E FY17E FY18E CAGR (FY15-18)

Domestic motorcycle industry (‘000s) 10,744 10,905 11,778 12,955 6%

% growth 3% 2% 8% 10%

TVS domestic motorcycle sales (‘000s) 668 725 898 1,034 16%

% growth 17% 9% 24% 15%

Market share 6.2% 6.6% 7.6% 8.0%


Scooters – Jupiter’s performance in recent months has surprised us

TVSM’s Jupiter continues to clock strong volumes and its performance in the recent months has surprised us positively. Our recent dealer checks indicated strong demand for TVS Jupiter during the festival season. TVSM’s market share in domestic scooters in August-November 2015 rose to 15.7% versus 15.0% in April-August 2015. The market share in November 2015 stood at 18.1% vs our last published market share estimate of 14.9% for FY16.

TVS Motor Company


Exhibit 6: TVSM has increased its market share in domestic scooters since the last 10 months …


Exhibit 7: ... driven by a stronger-than-expected response to Jupiter


As a result of higher-than-expected market share of TVSM in the recent months, we now expect TVSM to clock market share of 15.4% in FY16 (similar to FY15 and 50bps higher than our earlier estimate) and 14.9%/14.7% in FY17/FY18 (40bps/20bps higher than our last published estimates).

Exhibit 8: TVSM’s Jupiter sales have surprised us positively resulting in upgrades to domestic scooter volume estimates

FY13 FY14 FY15 FY16E FY17E FY18E CAGR

FY11-14 FY15-18

Domestic scooter industry (‘000s) 2,923 3,603 4,506 5,154 5,927 6,816 20% 15%

% growth 14.2% 23.2% 25.1% 14.4% 15.0% 15.0%

TVS domestic scooter sales (‘000s) 424 457 685 794 883 1,002 1% 14%

% growth -14.6% 7.7% 49.8% 16.1% 11.2% 13.5%

Market share 14.5% 12.7% 15.2% 15.4% 14.9% 14.7%


12.0%

13.0%

14.0%

15.0%

16.0%

17.0%

40,000

50,000

60,000

70,000

80,000

90,000

Jan-

15

Feb-

15

Mar

-15

Apr

-15

May

-15

Jun-

15

Jul-

15

Aug

-15

Sep-

15

Oct

-15

TVS domestic scooters (nos) TVS market share - RHS

58%

60%

62%

64%

66%

68%

70%

72%

22,00026,00030,00034,00038,00042,00046,00050,00054,00058,00062,000

Jan-

15

Feb-

15

Mar

-15

Apr

-15

May

-15

Jun-

15

Jul-

15

Aug

-15

Sep-

15

Oct

-15

Jupiter sales (nos) as % of TVS scooter volumes

TVS Motor Company


Margin expansion should follow (322bps over FY15-FY18) 2QFY16 witnessed the much-awaited margin improvement for TVSM

TVSM’s EBITDA margin for 2QFY16 at 7.4% (up 129bps YoY and 111bps QoQ) was 65bps higher our expectation. This has been the company’s best margin performance in several years. The key reasons for margin improvement were soft commodity costs (gross margin expanded by 71bps QOQ and 178bps YoY), better product mix and healthy revenue growth (10% QoQ and 7% YoY). It may be further noted that the company derived operating leverage benefits in 2QFY16, with its ‘other expenses’ declining by 50bps YoY and 21bps QoQ and coming in 12bps lower than our expectations.

We continue to expect further expansion in TVSM’s margin driven by:

(a) Decline in marketing and employee costs on the back of rising volumes: Compared with peers like Hero MotoCorp and Bajaj Auto, TVSM’s marketing spends and employee costs as a percentage of sales are significantly higher. With rising volumes (capacity utilisation to scale up from 67% in FY14 to >90% in FY16) and improvement in product mix (revenue mix in favour of motorcycles and bigger scooters) over the medium term, we believe advertising spend, employee costs and other fixed expenses will come down, as these cost items would be spread over a larger revenue base. We expect employee costs to come down from 5.8% of sales in FY15 to 5.1% of sales in FY18 (down 73bps) and advertising and marketing spends to decline by 67bps over FY15-FY18 (however, we expect operating leverage benefit from advertising/marketing to be somewhat limited in FY17 - down 20bps only as % of sales and up 20% YoY in absolute terms driven by new launches such as Victor, Apache 200 and the TVS branded BMW bike).

(b) Rising share of higher realization products such as Apache and Victor: As TVSM re-enters the phase of strong product launch pipeline (as discussed in the earlier section), the rising share of profitable products like Apache and Victor will also contribute to margin improvement going forward.

We upgrade the EBITDA margin for FY17 and FY18 by 17ps and 29bps respectively due to revenue upgrades. We expect EBITDA margin to improve by 80bps in FY16 (to 7.2%), 141 bps to 8.6% in FY17 and further 100bps in FY17 to 9.6%.

TVSM’s employee and A&P spends higher than peers as % of FY15 sales

Employee costs

A&P spends

Hero 4.3% 2.4%

Bajaj 3.9% 1.5%

TVSM 5.8% 5.6%


TVS Motor Company


Exhibit 9: Operating leverage and better product mix to drive margin improvement (ex-exports to BMW)

` mn FY15 FY16E FY17E FY18E Remarks

Revenues 100,888 113,780 136,420 158,262

YoY growth 27% 13% 20% 16%

Raw material costs 72,971 81,512 97,404 112,920 Improvement in FY16 on account of favourable impact of low commodity prices and excise duty hike at duty-free Haridwar plant. FY17 benefit from higher mix of more profitable products such as Victor and Apache.

YoY growth 29% 12% 19% 16%

as % of sales 72.3% 71.6% 71.4% 71.4%

Employee expenses 5,854 6,557 7,370 8,033 Operating leverage benefits build in FY17/FY18 YoY growth 23% 12% 12% 9%

as % of sales 5.8% 5.8% 5.4% 5.1%

Power & fuel 913 1,057 1,205 1,349

YoY growth 14% 16% 14% 12%

as % of sales 0.9% 0.9% 0.9% 0.9%

Advertising/marketing 5,614 6,145 7,051 7,749 Operating leverage benefits in FY17. To continue in FY18. YoY growth 4% 9% 15% 10%

as % of sales 5.6% 5.4% 5.2% 4.9%

Packing & freight charges 4,109 4,619 5,389 6,330

YoY growth 35% 12% 17% 17%

as % of sales 4.1% 4.1% 4.0% 4.0%

Other operating expenses 4,938 5,666 6,220 6,611 Operating leverage benefits build in FY16/FY17 YoY growth 20% 15% 10% 6%

as % of sales 4.9% 5.0% 4.6% 4.2%

EBITDA 6,489 8,224 11,782 15,270

YoY growth 36% 27% 43% 30%

EBITDA margin 6.4% 7.2% 8.6% 9.6%

Source: Ambit Capital research.

TVS Motor Company


Key assumptions and estimates (ex-BMW exports) Exhibit 10: Key assumptions and estimates (ex-exports to BMW) FY15 FY16E FY17E FY18E Remarks

Motorcycles (domestic) volume growth 17% 9% 24% 15%

We are factoring in industry volumes to deliver 6% CAGR over FY15-18E. We expect TVSM to increase its market share (by 177bps) over FY15-FY18E on the back of the new launches such as Victor and Apache 200.

Motorcycles (exports) volume growth 33% 10% 18% 15% We expect strong momentum in export volumes to continue and record 14% CAGR over FY15-FY18E.

Scooters (domestic + exports) volume growth 49% 18% 13% 14%

We expect volume growth for scooter industry to be better than motorcycles. We expect TVSM to lose about 49bps market share over FY15-FY18 in domestic scooters.

Mopeds (domestic + exports) volume growth 5% -1% 7% 5% We expect a modest volume growth of 4% CAGR in mopeds over

FY15-FY18E.

3Ws (dom. + exports) volume growth 34% 17% 15% 15% We expect 3W export growth to remain healthy though moderate on a rising base.

Revenues (` mn) 100,888 113,780 136,420 158,262 We expect revenue growth of 16% for FY15-FY18E on the back of strong volume growth (12% CAGR over FY15-18E) across categories. YoY growth 27% 13% 20% 16%

EBITDA (` mn) 6,489 8,224 11,782 15,270 We expect improvement in margin on the back of rising volumes and improving product mix. We expect 33% CAGR in absolute EBITDA over FY15-FY18E.

EBITDA margin 6.4% 7.2% 8.6% 9.6%

EBITDA YoY growth 36% 27% 43% 30%

Adjusted PAT (` mn) 3,997 4,790 7,497 9,898 We expect interest costs to moderate going forward on the back of reduction in debt levels. As a result, the net earnings growth is likely to be marginally higher than the EBITDA growth. We expect net earnings CAGR of 35% over FY15-18E.

Adjusted PAT margin 4.0% 4.2% 5.5% 6.3%

Adjusted EPS (`) 8.4 10.1 15.8 20.8

Adjusted EPS YoY growth 66% 20% 56% 32%

Work cap days (ex-cash) - closing 12 1 1 1 We expect moderation in working capital in FY16 (vs FY15).

Work cap days (ex-cash) - average 4 6 1 1

CFO (post-tax) (̀ mn) 848 9,493 9,009 11,448 Rising profitability and stable working capital to result in CFO bouncing back strongly in FY16E and FY17E.

Capex (net of sales proceeds) (` mn) 4,052 3,413 2,046 2,374 Capex estimate in line with the management guidance. Inv. in Indonesia and other entities (Gross, before sale of invts) (` mn) 1,249 1,500 - - We expect fund infusion of `1,000mn into TVS Motor Services and

`500mn into TVS Indonesia in FY16. No funds infusion thereafter.

FCF (` mn) (ex-sale of investments) (4,453) 4,579 6,963 9,074 FCF to bounce back strongly from FY16E on the back of increase in CFO outpacing the growth in capex.

Net debt/(cash) (̀ mn) 9,651 5,566 (76) (7,361) We expect net debt levels to come down in FY16E and FY17E on the back of positive FCF generation.


Exhibit 11: Change in estimates (` mn) (ex-exports to BMW)

Standalone New estimates Old estimates Change (%, bps)

Remarks FY16E FY17E FY18E FY15E FY16E FY17E FY16E FY17E FY18E

Domestic 2Ws (‘000s) 2,260 2,574 2,869 2,243 2,511 2,793 1% 2% 3%

We have broadly maintained our FY16 volume estimates. For FY17/FY18, we upgrade our overall volumes on the back of upgrades to domestic motorcycle and scooter market share being offset to some extent by downgrades to export volumes

YoY growth 7% 14% 11% 6% 12% 11%

Export 2Ws (‘000s) 377 456 532 398 481 561 -5% -5% -5%

YoY growth 16% 21% 17% 22% 21% 17% 3Ws (‘000s) (domestic + exports) 127 146 167 128 148 168 -1% -1% 0%

YoY growth 17% 15% 15% 18% 15% 14%

Total volumes (‘000s) 2,764 3,176 3,568 2,770 3,140 3,522 0% 1% 1%

YoY growth 9% 15% 12% 9% 13% 12%

Revenues (` mn) 113,780 136,420 158,262 114,174 133,980 154,112 0% 2% 3% Upgrades to volumes coupled with marginal increase in average realisation drives upgrades in revenues.

YoY growth 13% 20% 16% 13% 17% 15%

EBITDA (` mn) 8,224 11,782 15,270 8,342 11,345 14,418 -1% 4% 6% Marginal upgrades to EBITDA margin estimates on the back of higher than expected 2QFY16 margin performance

EBITDA margin 7.2% 8.6% 9.6% 7.3% 8.5% 9.4% (8)bps 17bps 29bps

PBT (̀ mn) 6,518 10,200 13,652 6,635 9,763 12,804 -2% 4% 7% Net earnings upgrades mirror the upgrades to EBITDA. PAT (` mn) 4,790 7,497 9,898 4,877 7,176 9,283 -2% 4% 7%

EPS (`) 10.1 15.8 20.8 10.3 15.1 19.5 -2% 4% 7%


TVS Motor Company


BMW benefits leading to upgrade to BUY We upgrade our valuation of the standalone business by 14% to `273/share. We also now factor in the benefits from TVSM’s tie-up with BMW and expect TVSM’s exports to BMW to touch 162k units by FY21 with an EBITDA margin of 10.0%. We arrive at a fair valuation of `45/share implying 12.6x FY20 net earnings. Our December 2016 SOTP-based target price is revised upwards by 31% to `330/share, implying 16% upside to the current market price. We upgrade our stance on the stock to BUY.

Standalone business (ex-BMW exports) upgraded by 14% to `273/TVSM share

As discussed in the earlier sections, we upgrade TVSM’s FY17E and FY18E standalone net earnings by 4% and 7% respectively. Using a WACC of 15% and terminal growth of 5%, our revised DCF-based valuation for the standalone business (December 2016) is `273/share, 14% higher than the last published valuation (which was `240/share).

The upgrade to the standalone business’ valuation by 14% or `33/share is driven by: (i) Upgrade to FY18 EBITDA by around 6% respectively; (ii) Upgrade to long-term EBITDA margin assumption by 30bps; and (iii) Roll-forward of the TP date from November 1, 2016 to December 1, 2016.

This revised valuation implies 14.3x one-year forward EPS, a premium of 5% to TVSM’s last three-year average and the multiple implied by our earlier valuation estimate. However, it is at a marginal discount of 3% to the multiple we assign to Hero MotoCorp and Bajaj Auto. Whilst we expect TVSM’s net earnings growth (35% CAGR over FY15-FY18) to be ahead of its peers, Hero MotoCorp (13%) and Bajaj Auto (12%), its RoIC is lower vs peers (FY17 RoIC at 44%% vs average of ~100% for Bajaj Auto and Hero MotoCorp) due to its lower EBITDA margin. As a result, we assign a marginal discount to TVSM’s multiples vs peers despite its higher earnings growth prospects.

Exhibit 12: TVSM to witness much stronger earnings growth compared to peers …

Source: Company, Ambit Capital research. Note: Hero’s EPS growth in FY15 is high on account of discontinuation of royalty payments to Honda from 2QFY15; Eicher data pertains to the motorcycle business

Exhibit 13: …but lower RoIC (due to lower margin) than peers


-40%

-20%

0%

20%

40%

60%

80%

100%

120%

140%

FY12

FY13

FY14

FY15

FY16

E

FY17

E

FY18

E


0%

100%

200%

300%

400%

500%

600%

700%

FY12

FY13

FY14

FY15

FY16

E

FY17

E

FY18

E


TVS Motor Company


Exhibit 14: FCF profile (standalone)


Exhibit 15: FCF assumptions (standalone) – ̀ mn

PV of FCF for forecasting period (FY17- FY26) 66,035

Terminal value 69,363

Enterprise value 135,398

Less: net debt/ (cash) at 31 March 2016 5,566

Implied equity value 129,832

Fully diluted equity shares (mn nos) 475.1

Implied equity value (̀ /share) 273


No capital allocation in unrelated business since FY13

TVSM has been making investments into companies/ventures outside of the standalone business. After reaching a peak of 77% of the standalone net worth in FY12, the investments outside of the standalone business have been reducing (67% of standalone net worth in FY15). Furthermore, the company has stopped investing in unrelated businesses (not related to 2Ws such as housing and energy) since FY12. In fact, the company sold 90.5% of its stake in Green Infra BTV Limited (formerly TVS Energy Limited) during the year, bringing down its stake to 4.0% as compared to 94.5% before the sale. The investments since FY13 have been restricted mainly to its Indonesian subsidiary and the 2W financing business (TVS Motor Services).

Exhibit 16: TVSM has not made any investments in unrelated businesses since FY13

` mn FY11 FY12 FY13 FY14 FY15

TVS Indonesia 3,524 4,742 4,742 5,240 5,490

TVS Energy 518 768 768 33 33

TVS Housing 1 401 401 401 401

TVS Motor Services 1,768 2,464 2,714 3,464 4,464

Sundaram Auto Comp 360 609 609 609 609

Total 6,226 9,041 9,297 9,815 11,064

as % of networth 62% 77% 76% 69% 67%


Exports to BMW valued at `45/TVSM share

As discussed in the earlier sections, we now build in benefits from the TVS-BMW tie up in our estimates for TVSM. We expect BMW Motoradd’s <500cc bike sales to touch 162k units by FY22. We build in an average realisation/bike of `200k for TVS exports to BMW (higher than what Bajaj earns on its KTM exports as Bajaj’s exports include much smaller displacement engines like KTM 125 and KTM 200) and an EBITDA margin of 10.0% (lower than EBITDA margins made by BMW and KTM). The total investments made by TVSM towards BMW are close to Euro20mn which is captured in our capex estimates for the standalone business.

Using a WACC of 15% and terminal growth of 3%, our DCF-based valuation for the TVSM’s exports to BMW (December 2016) is `45/share, implying 12.6x FY20 net earnings.

10%

15%

20%

25%

30%

35%

40%

45%

5,000

5,500

6,000

6,500

7,000

7,500

8,000

FY16

E

FY17

E

FY18

E

FY19

E

FY20

E

FY21

E

FY22

E

FY23

E

FY24

E

FY25

E

FY26

EPVFF (LHS) (Rs mn) WACC (RHS) RoIC

TVS Motor Company


Exhibit 17: FCF profile (exports to BMW)


Exhibit 18: FCF assumptions (exports to BMW) – ̀ mn




Fully diluted equity shares (mn nos) 475.1

Implied equity value (̀ /share) 45


TVS Motor Services (`11/TVSM share) and Sundaram Auto Components (`1/TVSM share)

Given that TVS Motor Services is a profitable entity, we assign a valuation of 1.0x end-FY16 book value to the equity investment made by TVSM in TVS Motor Services, which amounts to `11/TVSM share. We expect fund infusion of `1bn in FY16, which would result in a cumulative investment of `5.46bn at end-FY16.

We also assign `1/TVSM share for TVSM’s investment in Sundaram Auto Components Limited based on 1xFY16-end P/B.

Investments into Indonesia and other entities (NIL/TVSM share)

TVSM has made investments of `5.4bn (equity + preference) into the Indonesia business and other entities (excluding TVS Motor Services) as at end-FY15 (before impairment provision of `1.25 bn). We expect a further infusion of `500mn in FY16 (which we have reduced from standalone FCF/core business valuation) and no further equity infusion thereafter (cumulative investment of `5.99bn as at FY16-end before impairment provision). Given that Indonesia and other entities continue to make losses, we are not assigning any value to the investments made by (and to be made by) TVSM into these entities. At 1.0x P/B, these investments would have accounted for `12/TVSM share as at end-FY16, which is not considered in our valuation estimate for TVSM.

Exhibit 19: Key investments by TVSM from the standalone entity

Particulars (̀ mn) Latest equity stake held by TVSM

FY14 FY15 FY16E FY17E

Indonesian 2W venture (TVS Motor Co. (Europe) B.V. + TVS Motor (Singapore) Pte. Ltd. + PT. TVS Motor Co. Indonesia) 100.0%

5,240 5,490 5,990 5,990

Less: Impairment provision (1,247) (1,247) (1,247) (1,247) Net Book value 3,993 4,242 4,742 4,742 Energy ventures TVS Energy Ltd. 4.5% 33 33 33 33

Housing ventures TVS Housing Ltd. 100.0% 1 1 1 1 Emerald Haven Realty Ltd. 48.8% 400 400 400 400

Net Book value 401 401 401 401 Auto component ventures Sundaram Auto Comp. Ltd. 100.0% 609 609 609 609

Engine technology Pinnacle Engines Inc., USA 117 117 117 117

Net Book value 5,152 5,401 5,901 5,901 Net Book value Per TVSM share 11 11 12 12 As % of standalone networth 36% 28% 24% 19%


12%

13%

14%

15%

16%

17%

700

900

1,100

1,300

1,500

FY18

E

FY19

E

FY20

E

FY21

E

FY22

E

FY23

E

FY24

E

FY25

E

FY26

E

PVFF (LHS) (Rs mn) WACC (RHS)

TVS Motor Company


Overall, we arrive at a one-year forward (December 2016) sum-of-the-parts (SOTP) based valuation of `330/share, which implies 16% upside from the current levels and 31% higher than our last published target price. We change our stance to BUY.

Exhibit 20: SOTP valuation for TVSM (`330/share vs ̀ 252 earlier)

Segment Methodology Implied multiple (x) Value (̀ /TVSM share) New Old Change

Core business FCF 14.5x FY17 EPS 273 240 14% Exports to BMW FCF 12.6x FY20 EPS 45 - NM Investments in TVS Motor Services and Sundaram Auto Components

P/B 1.0x FY16-end P/B 12 12 -

Total (̀ ) 330 252 31%

Source: Company, Ambit Capital research Relative valuation – TVSM trading in line with peers

On comparative valuation, TVSM (standalone) is trading at 17.8x FY17E net earnings, which is at a marginal premium to the multiples commanded by peers (average of 16.6x for Bajaj and Hero). However, on FY18 estimates, TVSM is trading at a 14% discount to Bajaj’s and Hero’s multiples. Whilst we expect TVSM’s net earnings growth (39% CAGR over FY15-FY18) to be ahead of its peers, Hero MotoCorp (13%) and Bajaj Auto (12%), its RoIC is significantly lower vs peers (FY17 RoIC at 44% vs average of ~100% for Bajaj Auto and Hero MotoCorp).

Cross-cycle valuation – Deserves premium to historical average

On a cross-cycle EV/EBITDA multiple comparison, TVSM (standalone) is trading at a significant premium to its three-year as well as five-year average EV/EBITDA multiples. Similarly, on a cross-cycle P/E comparison, TVSM (standalone) is trading at a premium of 36% to the three-year average and 81% to its five-year average.

We believe TVSM deserves to trade at a much higher multiple than the historical average P/E multiples due to improved business prospects compared with the earlier years. All the above factors are likely to result in a nearly 1.8x improvement in RoIC for FY15-18 compared to FY11-14.

Exhibit 21: Cross-cycle P/E

Source: Bloomberg, Ambit Capital research. Note: P/E bands arrived at using Bloomberg consensus estimates for respective periods

Exhibit 22: Cross-cycle EV/EBITDA

Source: Bloomberg, Ambit Capital research. Note: EV/EBITDA bands arrived at using Bloomberg consensus estimates for respective periods

Exhibit 23: Explanation for our forensic accounting scores on the cover page

Segment Score Comments

Accounting AMBER TVSM’s accounting score is in line with the sector average accounting score.

Predictability AMBER Given that automobile companies publish their volume numbers on a monthly basis, generally no significant positive/negative surprises are seen in revenues. However, the margins tend to be less predictable and are generally the source for actual results coming in above/below consensus expectations.

Earnings momentum AMBER Bloomberg shows marginal downgrades to consensus numbers in recent weeks.


4 6 8

10 12 14 16 18 20 22 24 26 28

Apr

-06

Dec

-06

Sep-

07

Jun-

08

Mar

-09

Dec

-09

Sep-

10

Jun-

11

Feb-

12

Nov

-12

Aug

-13

May

-14

Feb-

15

Nov

-15

TVS 1-yr fwd P/E Avg P/E

2.0 4.0

6.0 8.0

10.0 12.0

14.0 16.0 18.0

Apr

-06

Dec

-06

Sep-

07

Jun-

08

Mar

-09

Dec

-09

Sep-

10

Jun-

11

Feb-

12

Nov

-12

Aug

-13

May

-14

Feb-

15

Nov

-15

TVS 1-yr fwd EV/EBITDA Avg EV/EBITDA

TVS Motor Company


Key catalysts Market share gains in the domestic motorcycle segment

We expect the new launches - Apache 200 (February 16), Victor (commuter bike, early FY17) and the TVS-BMW variant (mid FY17) to drive 100bps market share gain YoY in FY17. We expect TVSM’s domestic motorcycles to witness 24% YoY growth in FY17 (including domestic scooters, up 17% YoY in FY17).

EBITDA margin improvement

We continue to expect further expansion in TVSM’s margin driven by: (i) decline in marketing and employee costs on the back of rising volumes; and (ii) rising share of higher realisation products such as Apache and Victor. We expect TVSM to register an EBITDA margin of 7.6% for 2HFY16 vs the 6.8% achieved in 1HFY16.

Key risks Any delay in launches

We expect Apache 200 to be launched in 4QFY16 and Victor in 1QFY17. Furthermore, a TVS branded bike from the BMW tie-up is expected to be launched in mid-FY17. Any delay in timelines of these launches could pose a risk to our estimates.

Advent of discount/pricing war in 2W space

Despite the slowdown in 2W demand in recent years, 2W players have (largely) stayed away from offering discounts (unlike PVs and CVs which are witnessing significant discounts). Any advent of discounts in the 2W space can have a significant negative impact on TVSM’s margin. That said, looking at the track record of the industry over the past 5-6 years and our discussions with 2W companies/dealers, we do not expect any such discounting to resume in the near to medium term in the domestic 2W space.

Bajaj Auto’s foray into scooters

In 2009, Bajaj exited the scooter market to focus on the domestic motorcycle segment. Since then, despite the domestic scooter segment outperforming the motorcycle category, Bajaj Auto has maintained its focus in the motorcycle space. If Bajaj were to re-enter the scooter space, it could pose a risk to the market share of incumbents including TVSM. Bajaj’s management has, however, maintained that motorcycles would remain their key focus area.

TVSM’s market share in 2W (ex-mopeds) space

FY15 FY16E FY17E FY18E

Market share 8.9% 9.5% 10.1% 10.3%


TVS Motor Company


Balance sheet (standalone including exports to BMW)

Year to March (̀ mn) FY14 FY15 FY16E FY17E FY18E

Shareholders' equity 475 475 475 475 475

Reserves and surpluses 13,678 15,979 19,071 24,305 32,119

Total net worth 14,153 16,454 19,547 24,780 32,594

Debt 5,276 9,705 5,190 3,838 3,838

Deferred tax liability 1,247 1,528 1,528 1,528 1,528

Total liabilities 20,676 27,686 26,264 30,145 37,959

Gross block 24,723 28,218 31,631 33,677 36,201

Net block 11,257 13,296 14,914 15,001 15,429

CWIP 544 999 999 999 999

Investments (non-current) 8,959 10,125 11,552 11,552 11,552

Cash & cash equivalents 826 54 (376) 3,914 11,768

Debtors 3,341 5,039 5,682 6,813 8,403

Inventory 5,482 8,197 7,833 9,392 11,584

Loans & advances 5,238 8,334 7,320 8,673 10,575

Total current assets 14,886 21,623 20,460 28,792 42,331

Current liabilities 13,760 16,869 19,024 22,810 28,133

Provisions 1,211 1,488 2,636 3,388 4,217

Total current liabilities 14,971 18,356 21,660 26,198 32,350

Net current assets (85) 3,267 (1,200) 2,594 9,981

Total assets 20,676 27,686 26,264 30,145 37,959


Income statement (standalone including exports to BMW)


Revenues 79,619 100,888 113,780 136,420 168,262

% growth 11% 27% 13% 20% 23%

Operating expenditure 74,838 94,399 105,555 124,639 151,992

EBITDA 4,781 6,489 8,224 11,782 16,270

% growth 17% 36% 27% 43% 38%

Depreciation 1,317 1,533 1,795 1,959 2,096

EBIT 3,465 4,956 6,429 9,823 14,173

Interest expenditure 254 274 286 54 -

Non-operating income 302 326 375 431 474

Adjusted PBT 3,513 5,008 6,518 10,200 14,648

Tax 1,101 1,010 1,727 2,703 4,004

Adjusted PAT 2,411 3,997 4,790 7,497 10,643


TVS Motor Company


Cash flow statement (standalone including exports to BMW)


Net profit before tax 3,485 4,562 6,518 10,200 14,648

Depreciation 1,317 1,533 1,795 1,959 2,096

Others 99 11 (89) (377) (474)

Tax (1,275) (1,407) (1,727) (2,703) (4,004)

(Incr)/decr in net working capital 1,613 (3,851) 2,995 (70) (98)

Cash flow from operations 5,238 848 9,493 9,009 12,167

Capex (net) (2,580) (4,052) (3,413) (2,046) (2,524)

(Incr)/decr in investments (276) (1,183) (1,427) - -

Others 257 302 375 431 474

Cash flow from investments (2,598) (4,933) (4,466) (1,615) (2,050)

Net borrowings (1,064) 4,424 (4,515) (1,352) -

Interest paid (230) (285) (286) (54) -

Dividend paid (690) (831) (656) (1,697) (2,263)

Cash flow from financing (1,984) 3,308 (5,457) (3,104) (2,263)

Net change in cash 656 (776) (430) 4,290 7,854

Free cash flow 1,288 (4,453) 4,579 6,963 9,074


Ratio analysis (standalone including exports to BMW)

Year to March (%) FY14 FY15 FY16E FY17E FY18E

EBITDA margin (%) 6.0% 6.4% 7.2% 8.6% 9.7%

EBIT margin (%) 4.4% 4.9% 5.7% 7.2% 8.4%

Net prof. margin (%) 3.0% 4.0% 4.2% 5.5% 6.3%

Dividend payout ratio (%) 32% 27% 35% 30% 27%

Net debt: equity (x) 0.3 0.6 0.3 (0.0) (0.2)

Average Working capital days (x) (2.2) 4.3 5.9 1.0 1.0

Gross block turnover (x) 3.4 3.8 3.8 4.2 4.8

RoCE post tax 32% 35% 38% 60% 85%

RoIC (%) 22% 28% 28% 44% 62%

RoE (%) 18% 26% 27% 34% 37%


Valuation parameters (standalone including exports to BMW)

Year to March FY14 FY15 FY16E FY17E FY18E

Diluted EPS (`) 5.08 8.41 10.1 15.8 22.4

Book value per share (`) 29.8 34.6 41.1 52.2 68.6

Dividend per share (`) 1.4 1.9 3.0 4.0 5.0

P/E (x) 56.2 33.9 28.3 18.1 12.7

P/BV (x) 9.6 8.2 6.9 5.5 4.2

EV/EBITDA (x) 29.3 21.6 17.0 11.9 8.6

EV/EBIT (x) 40.4 28.2 21.8 14.2 9.9



COMPANY INSIGHT BJAUT IN EQUITY December 22, 2015

Discovering competition

We expect increasing competition from Royal Enfield, TVS and Honda to impact market share in the highly lucrative premium segment (loss of 100bps over FY16-FY18 in continuation of the 750bps loss over FY12-FY15). Macro/political issues and increasing difficulty in market share gains in export markets to restrict export volume growth to 9% over FY16-FY18. INR depreciation benefits would be limited by significant devaluation in local currencies/price cuts. While Bajaj trades close (14.7x) to historical multiples, subdued earnings growth are likely to weigh in on share price.

Competitive position: STRONG Changes to this position: NEGATIVE Rising competition, no scooters – lack of market share imminent Bajaj lost 861bps market share in its core and highly profitable premium bike segment over FY12-YTDFY16 to Royal Enfield, Yamaha and TVSM. While Bajaj will launch new Pulsars (including 400cc variants) over the next 1-2 years, the expanding Royal Enfield capacities and competitive launches (from TVSM, Honda) are likely to result in further market share losses to the tune of 100bps over FY16 to FY18 in this segment. Absence of scooters will add to the overall market share loss in domestic 2Ws (33bps) over FY16-FY18. Exports growth unlikely to mirror past growth rates Bajaj’s export volumes have been extremely weak in the last two months (down 17% YoY) on the back of macro headwinds (fall in crude oil prices, foreign exchange availability and political issues) in key geographies such as Africa, Latin America and Nepal. With such macro/political issues persisting, and strong market share already having been reached across most export markets, rising competition in exports from players like TVSM, we factor in a much lower 9% CAGR in FY15-FY18 export volumes (15% over FY10-FY15). INR depreciation benefit passthroughs in export markets to limit margin gains INR has depreciated to the extent of 5% against US$ in the last six months but we expect limited benefits to Bajaj (43% revenues from exports); we expect the benefits to be offset by devaluation of local currencies/benefit passthroughs (price cuts) in local international markets (Africa) to aid demand. As a result, we expect Bajaj’s FY17/FY18 average margin at 21.4% to mirror FY16 levels. Valuation – Earnings growth to be muted, Maintain SELL We largely leave our FY16/FY17 net earnings estimates unchanged (down 1-2%) and are 2%-5% behind consensus. In our SOTP of `2,410, we value the core business at `2,250, 14.7x one-year forward EPS, a 3% discount to the last five-year average. While Bajaj is trading close to its historical multiples, we expect subdued earnings growth to weigh in on the share price. We expect Bajaj Auto’s net earnings growth to be at 12% CAGR over FY16-FY18. Key risks: Adverse currency movements, strong response to new launches.

Bajaj AutoSELL


Recommendation Mcap (bn): `720/US$10.8 3M ADV (mn): `744/US$11.2 CMP: `2,513 TP (12 mths): `2,410 Downside (%): 5

Flags Accounting: GREEN Predictability: AMBER Earnings Momentum: AMBER

Catalysts

Market share challenges driven by increasing competitive intensity

Macro challenges to key export markets

Performance


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Sensex Bajaj Auto

Analyst Details

Ashvin Shetty, CFA

+91 22 3043 3285

[email protected]

Ritu Modi



[email protected]

Key financials - standalone Year to March (̀ mn) FY14 FY15 FY16E FY17E FY18E Net Sales 203,531 218,175 237,437 264,018 293,014 EBITDA 43,861 44,292 51,211 56,944 62,319 EBITDA (%) 21.6% 20.3% 21.6% 21.6% 21.3% EPS (`) 112 113 128 144 159 RoE (%) 37% 32% 32% 32% 32% RoCE (pre-tax) (%) 116% 111% 109% 121% 198% P/E (x) 22.6 22.5 19.8 17.6 15.9


Bajaj Auto


Key assumptions and estimates Exhibit 1: Key assumptions and estimates (standalone) ` mn unless specified FY15 FY16E FY17E FY18E Remarks

Motorcycles (domestic) - Volume growth -16% 8% 9% 10%

We expect domestic motorcycle industry to record 9% volume CAGR over FY16-18E. We expect Bajaj to maintain market share of 17.7% over FY16-FY18E on the back of new launches and low base of FY16.

Motorcycles (exports) -Volume growth 15% 4% 12% 11% We expect export volumes to record 9% CAGR over in FY15-FY18.

3W (domestic + exports) - volume growth 16% 8% 12% 11% Growth in export markets as well as permit issuances in the domestic market to help 3W volumes.

Revenues (` mn) 218,175 237,437 264,018 293,014 We expect 10% revenue growth over FY15-FY18E mainly on the back of market share gains in the domestic motorcycle industry and growth in export volumes.

YoY growth 7% 9% 11% 11%

EBITDA 44,292 51,211 56,944 62,319 Rising competitive intensity in domestic 2Ws would likely keep margins more or less stable. We expect absolute EBITDA to record 12% CAGR over FY15-FY18E.

EBITDA margin 20.3% 21.6% 21.6% 21.3%

EBITDA YoY growth 1% 16% 11% 9%

Adjusted PAT 32,619 36,934 41,638 46,106

Net earnings growth to mirror EBITDA growth. Adj PAT margin 15.0% 15.6% 15.8% 15.7%

Fully Diluted EPS (`) 113 128 144 159

YoY growth in EPS 1% 13% 13% 11%

Work Cap days (ex-cash) - closing 11 11 10 10 Working capital days broadly retained at FY15 levels.

Work Cap days (ex-cash) - average 7 11 10 10

Capex (` mn) (2,952) (3,000) (3,000) (3,300) Capex mainly towards capacity expansion and maintenance

FCF 18,521 36,800 41,615 45,980 FCF and net cash position to remain healthy but pace of FCF growth to moderate due to deceleration in EBITDA growth. Net debt (` mn) (83,429) (102,873) (123,663) (143,614)


Exhibit 2: Change in estimates

Standalone (̀ mn) New estimates Old estimates Change (%, bps)


Domestic motorcycles (mn units) 1.91 2.09 2.29 1.92 2.06 2.25 -1% 1% 2% We have marginally upgraded our

market share assumption mainly on the back of the recent monthly market share trends. YoY growth 8% 9% 10% 9% 7% 9%

Export motorcycles (mn units) 1.59 1.78 1.97 1.64 1.84 2.04 -3% -3% -3% We reduce our export volume

estimates due to recent monthly trends and macro challenges in key export geographies YoY growth 4% 12% 11% 8% 12% 11%

Domestic 3Ws (mn units) 0.24 0.27 0.31 0.25 0.28 0.31 -3% -3% -3% We reduce our 3W volume estimates due to recent monthly trends and macro challenges in key export geographies

YoY growth 4% 12% 12% 7% 12% 12%

Export 3Ws (mn units) 0.32 0.36 0.39 0.33 0.37 0.41 -4% -4% -4%

YoY growth 12% 12% 10% 17% 12% 10%

Total volumes (mn units) 4.07 4.50 4.97 4.15 4.55 5.01 -2% -1% -1% Downgrades to export and 3W volumes lead to overall downgrades to total volumes YoY growth 7% 11% 10% 9% 10% 10%

Total operating income 237,437 264,018 293,014 242,579 267,449 295,938 -2% -1% -1% Downgrades to revenues driven by downgrades in volumes.

EBITDA 51,211 56,944 62,319 52,320 57,684 62,941 -2% -1% -1% We have retained our FY16-FY18E EBITDA margin assumption at earlier levels. EBITDA margin 21.6% 21.6% 21.3% 21.6% 21.6% 21.3% - - -

PBT 55,126 62,146 68,815 55,814 62,405 68,886 -1% 0% 0% Marginal downgrades to net earnings driven by downgrades to EBITDA. PAT 36,934 41,638 46,106 37,674 42,123 46,498 -2% -1% -1%

EPS (`) 128 144 159 130 146 161 -2% -1% -1%


Bajaj Auto


Exhibit 3: Ambit vs consensus (standalone)

` mn Ambit Consensus % divg. Remarks

Revenues Our revenue estimates are lower than consensus estimates. The divergence is significant at the EBITDA level, because we continue to present Bajaj's EBITDA in line with the old format (for like-to-like comparison with earlier years) whereas most of the consensus estimates are based on revised Schedule VI formats, which leads to reclassification of some items that were earlier accounted under operating income and into non-operating income now.

FY15E 237,437 237,108 0%

FY16E 264,018 270,377 -2%

FY17E 293,014 301,753 -3%

EBITDA FY15E 51,211 49,385 4%

FY16E 56,944 56,089 2%

FY17E 68,197 62,638 9%

EPS (̀ ) FY15E 128 130 -2%

FY16E 144 150 -4%

FY17E 159 168 -5%


Bajaj Auto


Retain SELL with TP of `2,410 We remain concerned of the industry demand, rising competition and scooterisation. Domestic motorcycle industry volumes declined 3% YoY in April-October 2015, driven by weak demand trends, particularly in rural areas. Bajaj’s market share has remained stable sequentially (17.7% in 2QFY16 vs 17.9% in 1QFY16) in domestic motorcycles. We believe the performance track record of Bajaj’s new launches in recent years does not arouse much confidence that Bajaj would be able to recoup its earlier market share losses (900bps over the FY12-FY15). While Bajaj will launch new Pulsars (including 400cc variants) over the next 1-2 years, expanding Royal Enfield capacities and competitive launches (from TVSM, Honda) are likely to result in further market share loss to the tune of 100bps over FY16 to FY18 in the premium segment. Furthermore, the absence of a scooter portfolio will further impact its market share in the overall domestic 2Ws (33bps over FY16-FY18). Similarly, with macro/political issues persisting in the export markets, a strong market share already having reached across most export markets; and with rising competition in exports from players like TVS, we factor in a much lower 9% CAGR over FY15-FY18 in export volumes (27% over FY08-FY12).

Our DCF assumes a WACC of 14.0% (cost of equity of 14.0%) and terminal growth rate of 4%, translating to a one-year forward valuation of `2,410 (`2,250 for the core standalone business and `160 for Bajaj’s stake in KTM AG), 1% lower than our last published estimates. The valuation, so arrived, implies a multiple of 14.7x one-year forward net earnings, which is at a marginal discount to Bajaj’s historical multiples.

The downgrade to valuation is driven by equivalent downgrades to FY17/FY18 EBITDA and net earnings.



Exhibit 5: FCF assumptions (standalone – ̀ mn)




Less: net debt/ (cash) at 31 March 2016 (102,873)


Fully diluted equity shares (mn) 289.4

Implied equity value (̀ /share) 2,250


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PVFF(LHS) (Rs mn) WACC (RHS) RoE (RHS)

RoE’s to remain stable over FY15-18


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Bajaj Auto


Relative valuation On a relative valuation comparison on FY18 EV/EBITDA, Bajaj is trading at a 15% premium to its Indian OEM peers (TVS and Hero). Similarly on FY18 P/E, Bajaj is trading at a 17% premium to its domestic auto OEMs’ average multiple. On comparison with Hero, Bajaj is trading at an 8% premium to FY18 P/E and EV/EBITDA multiple. We believe the current level of multiple for Bajaj Auto will likely come down due to deceleration in earnings growth. However, we estimate Bajaj Auto’s diversified business model to deserve a marginal premium to the multiples commanded by TVS Motor.

Exhibit 6: Comparative valuation

Mcap EV/EBITDA (x) P/E (x) CAGR (FY15-18) Price perf (%) RoE

US$ mn FY16E FY17E FY18E FY16E FY17E FY18E Sales EBITDA EPS 3m 1 yr FY16E FY17E FY18E

India Bajaj Auto 10,857 12.7 11.4 10.4 19.8 17.6 15.9 10 12 12 8 1 32 32 32

Hero Motocorp 8,120 11.8 10.9 9.7 17.3 16.2 14.8 9 14 13 11 (12) 43 40 38

TVS 2,069 17.0 11.9 8.6 28.3 18.1 12.7 19 36 39 24 14 27 34 37

Average (ex-Bajaj) 14.4 11.4 9.2 22.8 17.1 13.8 14 25 26 35 37 38

Global Honda 58,102 8.0 7.4 7.0 12.0 10.5 9.5 6 11 13 2 9 8 9 9

Suzuki 17,039 6.0 5.5 5.1 13.7 14.0 12.8 5 11 19 (4) 0 10 10 10

Harley 8,657 10.3 9.8 9.5 12.3 11.0 10.1 (3) (1) 5 (18) (30) 30 36 43

Yamaha 7,870 7.2 6.5 5.9 14.1 9.7 8.8 6 19 17 12 11 14 18 17

Average 7.9 7.3 6.9 13.0 11.3 10.3 4 10 13 15 18 20

Source: Company, Bloomberg, Ambit Capital research; Note: * TVS’s valuations are based on Ambit estimates

Cross-cycle valuations On a cross-cycle comparison, Bajaj is currently trading close to its historical P/E and EV/EBITDA multiples (11%-18% premium). While we expect marginal recovery in earnings (12% CAGR over FY16-FY18 vs 7% for FY13-FY15), net earnings growth in FY17 and FY18 is likely to be lower versus FY15 levels (as currency and commodity tailwinds dissipate). Hence, we do not expect any significant re-rating in multiples as earnings growth remains muted.

Exhibit 7: Cross-cycle P/E band

Source: Bloomberg, Ambit Capital research. Note: P/E bands arrived at using Bloomberg consensus estimates for respective periods

Exhibit 8: Cross-cycle EV/EBITDA band

Source: Bloomberg, Ambit Capital research. Note: EV/EBITDA bands arrived at using Bloomberg consensus estimates for respective periods

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Bajaj Auto


Exhibit 9: Bajaj’s earnings to taper down over FY16-FY18

Source: Company, Ambit Capital research.

Exhibit 10: Bajaj’s RoEs to remain stable over FY15-FY18


Key risks to our SELL stance Adverse currency movements

The INR depreciation relative to USD (5% in the last six months) has been a positive trigger for Bajaj’s margin. Whilst we expect this benefit to be offset by devaluation of local export market currencies (example – Nigeria) and competitive pressure in the domestic market, any higher-than-expected depreciation in INR relative to USD could pose a risk to our estimates and valuations.

Much better-than-expected success of new launches

Whilst a recovery in urban demand and the new Pulsar/Avenger launches will likely help Bajaj’s sales, increasing capacities (Royal Enfield, Honda) and competitive launches (from almost all players across most categories) may restrict the benefits to Bajaj’s volumes. As a result, we do not see Bajaj’s market share (YTDFY16 at 18.0%) reviving in FY16/FY17. However, a much better-than-expected response to new launches poses risks to our earnings/valuation estimates and hence the SELL stance.

Key catalysts Market share challenges

The 2W segment has remained highly competitive especially post the Hero and Honda split. Between FY12 and YTDFY16, Bajaj Auto has lost about 751bps (from 25.5% to 18.0%) market share in the domestic motorcycle segment. We continue to believe that given increasing competitive intensity in the 2W space, market share gains would be a challenge. Whilst we believe a likely recovery in the premium segment (Bajaj has a market share of 35% in the premium segment) could arrest further market share declines from its current levels. However, we believe market share regain to the earlier levels would be a difficult task for Bajaj.

Exhibit 11: Explanation for our forensic accounting scores on the cover page Segment Score Comments

Accounting GREEN In our forensic accounting model, Bajaj Auto’s average accounting score ranks amongst the best for Indian auto stocks.

Predictability AMBER Given that automobile companies publish their volume numbers on a monthly basis, generally no significant positive/negative surprises are seen in revenues. However, the margins tend to be less predictable and are generally the source for actual results coming in above/below consensus expectations.

Earnings momentum AMBER No major changes in Bloomberg consensus earnings in recent weeks.


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EEBITDA growth EPS growth

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Bajaj Auto


Balance sheet (standalone)


Shareholders' equity 2,894 2,894 2,894 2,894 2,894

Reserves & surpluses 93,187 104,028 120,147 135,766 147,181

Total net worth 96,080 106,921 123,041 138,660 150,075

Debt 592 1,124 1,124 1,124 1,124



Gross block (inc. Goodwill on merger) 40,770 41,009 44,009 47,009 50,309

Net block (inc. Goodwill on merger) 20,060 19,172 19,027 18,659 18,358

CWIP 2,830 3,483 3,483 3,483 3,483

Investments (non-current) 12,868 12,842 12,842 12,842 12,842

Cash & cash equivalents 77,583 84,552 103,996 124,786 144,737

Debtors 7,962 7,170 7,803 8,676 9,629

Inventory 6,397 8,142 8,860 9,852 10,934

Loans & advances 19,775 20,262 21,745 23,791 26,023



Provisions 19,737 19,920 23,616 29,134 38,149


Net current assets 62,345 73,963 90,229 106,215 117,931

Total assets 98,104 109,461 125,580 141,199 152,614


Income statement (standalone)


Revenue (inc. other op income) 203,531 218,175 237,437 264,018 293,014

% growth 1% 7% 8.8% 11.2% 11.0%


EBITDA 43,861 44,292 51,211 56,944 62,319

% growth 13% 1% 15.6% 11.2% 9.4%

Depreciation 1,790 2,668 3,146 3,368 3,601

EBIT 42,072 41,624 48,065 53,576 58,718

Interest expenditure 5 65 10 10 10

Non-operating income 4,231 3,770 7,071 8,579 10,107

Adjusted PBT 46,298 45,329 55,126 62,146 68,815

Tax 13,901 12,711 18,191 20,508 22,709

Adjusted PAT/ Net profit 32,397 32,619 36,934 41,638 46,106

% growth 13% 1% 13% 13% 11%


Bajaj Auto


Cash flow statement (standalone)


Net Profit Before Tax 46,321 40,848 55,126 62,146 68,815

Depreciation 1,790 2,667 3,146 3,368 3,601

Others (4,587) (3,865) 10 10 10

Tax (13,153) (12,854) (18,191) (20,508) (22,709)

(Incr) / decr in net working capital 4,319 (5,825) (290) (401) (437)

Cash flow from operations 34,689 20,971 39,800 44,615 49,280

Capex (net) (2,547) (2,952) (3,000) (3,000) (3,300)

(Incr) / decrease in investments (21,843) (3,546) - - -

Other income (expenditure) 2,975 2,354 - - -


Net borrowings 505 532 - - -

Interest paid (5) (65) (10) (10) (10)

Dividend paid (15,182) (16,909) (17,346) (20,815) (26,018)

Cash flow from financing (14,682) (16,442) (17,356) (20,825) (26,028)

Net change in cash (1,408) 386 19,444 20,790 19,951

Free cash flow 32,142 18,019 36,800 41,615 45,980


Ratio analysis (standalone) Year to March (%) FY14 FY15 FY16E FY17E FY18E

EBITDA margin (%) 21.6% 20.3% 21.6% 21.6% 21.3%

EBIT margin (%) 20.7% 19.1% 20.2% 20.3% 20.0%

Net profit margin (%) 15.9% 15.0% 15.6% 15.8% 15.7%

Net debt: equity (x) (0.8) (0.8) (0.8) (0.9) (1.0)

RoCE (pre-tax) (%) 116% 111% 109% 121% 198%

RoIC (%) 116% 111% 109% 121% 133%

RoE (%) 37% 32% 32% 32% 32%


Valuation parameters (standalone) Year to March FY14 FY15 FY16E FY17E FY18E

EPS (`) 112 113 128 144 159

Diluted EPS (`) 112 113 128 144 159

Book value per share (`) 332 370 425 479 519

Dividend per share (`) 50.0 50.0 60.0 75.0 100.0

P/E (x) 22.6 22.5 19.8 17.6 15.9

P/BV (x) 7.6 6.9 6.0 5.3 4.9

EV/EBITDA (x) 14.8 14.7 12.7 11.4 10.4

EV/EBIT (x) 15.4 15.6 13.5 12.1 11.1



Unlikely Hero of the coming times

Uncertain product development capabilities and low exposure to scooters and premium bikes make Hero the most vulnerable in domestic 2Ws (405bps market share loss in domestic 2Ws over FY15-18). Export volumes to be restricted by Bajaj/TVSM’s well entrenched presence. Margin gains beyond FY16 to be limited due to rising competitive intensity and deteriorating product mix. Net earnings growth to decelerate from 22% in FY16 to 8% CAGR over FY16-18.

Competitive position: STRONG Changes to this position: NEGATIVE Rising competitive intensity and scooterisation to impact market share Hero is highly susceptible to market share losses (est 389bps over FY15-FY18) in domestic motorcycles given the rising competitive intensity (from HMSI, TVSM), lack of meaningful presence in fast growing premium segment and uncertainty surrounding technology. Further, rising scooterisation would negatively impact its 2W market share as not only Hero has a low (12%) market share but also low contribution from scooters in overall volumes. We expect Hero’s domestic 2W to witness a lower-than-industry 6% CAGR over FY15-FY18. Exports unlikely to offset domestic market share loss Building brand name and distribution networks in the export markets would involve long gestation periods particularly against the well-entrenched presence of existing Indian players (Bajaj Auto and TVSM). Whilst we expect Hero’s export volumes to post 17% CAGR over FY15-FY18E (high growth largely due to low base), exports would still contribute merely 4% to FY18E volumes and hence unlikely to offset the market share loss in domestic 2Ws. We do not expect margin expansion beyond FY16 We expect Hero to post margin expansion of 211bps (to 14.9%) in FY16 on the back of weak commodity prices and low base of FY15. However, we remain circumspect of any margin expansion in FY17 (est 30bps decline) due to: (1) rising competitive intensity in the domestic 2W market, (2) costs required to set up a brand and distribution network in the exports market, and (3) the deteriorating product mix for Hero (rising share of scooters). Valuation - Retain SELL with TP of `2,580 We expect Hero’s net earnings to grow at 8% CAGR over FY16-FY18; our FY17-FY18E net earnings estimates are 3%-5% lower than consensus. Using FCF, we arrive at a fair value of `2,580 (similar to earlier valuation), implying 14.7x December 2017 net earnings. This implied multiple is at 3% discount to the last five year average as earnings growth remain subdued and competitive concerns persist. Key risks: Any significant traction in the export markets, successful response to new launches.

COMPANY INSIGHT HMCL IN EQUITY December 22, 2015

Hero MotoCorpSELL


Recommendation Mcap (bn): `504/US$7.6 3M ADV (mn): `949/US$14.2 CMP: `2,698 TP (12 mths): `2,580 Downside (%): 4


Catalysts

Market share loss of 164bps in domestic motorcycle space in FY17 to 50.4%

Deteriorating product mix and increasing costs to impact FY17/18 EBITDA margin (down 30bps over FY16)

Performance


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Sensex Hero MotoCorp

Analyst Details

Ashvin Shetty, CFA

+91 22 3043 3285

[email protected]

Ritu Modi



[email protected]

Key financials - standalone

Year to March (̀ mn) FY14 FY15E FY16E FY17E FY18E

Net Sales 252,755 275,853 287,048 316,798 354,168

EBITDA 35,401 35,422 42,909 46,406 51,880

EBITDA (%) 14.0% 12.8% 14.9% 14.6% 14.6%

EPS (`) 106 127 156 167 182

RoE (%) 40% 42% 43% 40% 38%

RoCE (pre-tax) (%) 88% 90% 103% 114% 123%

P/E (x) 25.5 21.2 17.3 16.2 14.8


Hero MotoCorp


Key assumptions and estimates Exhibit 1: Key assumptions and estimates (standalone) ` mn unless specified FY15 FY16E FY17E FY18E Remarks

Domestic motorcycles (mn units) 5.68 5.67 5.93 6.35 We expect Hero’s domestic 2W volumes to record only 4% CAGR over FY15-FY18E. We expect Hero to lose market share in the domestic motorcycle space (389bps between FY15-FY18) on the back of rising competitive intensity.

YoY growth 5% 0% 5% 7%

Domestic Scooters (mn units) 0.75 0.80 1.01 1.19

YoY growth 9% 7% 26% 18%

Export 2Ws (mn units) 0.20 0.20 0.26 0.32 We expect export volumes to record 17% CAGR over FY15-FY18 helped primarily by low base. YoY growth 53% 2% 25% 27%

Total 2Ws (mn units) 6.63 6.68 7.19 7.86 We expect Hero’s overall 2W volumes to record 6% CAGR over FY15-FY18. YoY growth 6% 1% 8% 9%

Total operating income ( ̀mn) 275,853 287,048 316,798 354,168 We expect revenues to record a CAGR of 9% over FY15-FY18 driven by volumes and increase in realisation

EBITDA (` mn) 35,422 42,909 46,406 51,880 Rising competitive intensity, deteriorating product mix and cost required to set up the distribution network would likely impact margin. This would partly be offset by lower commodity prices in FY16. We do not expect any further margin improvement in FY17/FY18. EBITDA margin 12.8% 14.9% 14.6% 14.6%

PAT (` mn) 25,407 31,084 33,325 36,362

We expect net earnings to record a 8% CAGR over FY16-FY18E driven by EBITDA growth.

PAT margin 9.2% 10.8% 10.5% 10.3%

EPS (̀ ) 127 156 167 182

YoY growth 20% 22% 7% 9%

Working capital (ex-cash) closing days 1 (3) (3) (3) No significant change in working capital levels from FY16 levels.

Working capital (ex-cash) average days (1) (1) (3) (3)

CFO (` mn) 22,500 33,971 33,377 36,617 We expect cash conversion (CFO before tax) to remain strong at ~100% of EBITDA over FY15-FY18E.

Capex (` mn) 11,530 4,880 5,702 6,729 Capex to be spent on product development, capacity expansion and marketing infrastructure in the export markets.

FCF (` mn) 10,970 29,091 27,675 29,887 Strong cash flow generation and moderation in capex to result in improvement in FCF generation.

Net debt / (cash) (̀ mn) (42,063) (33,134) (59,429) (72,782) Positive FCF to further lead to improvement in net cash position.


Exhibit 2: Change in estimates

Standalone (` mn) New estimates Old estimates Change (%, bps)


Domestic motorcycles (mn units)

5.67 5.93 6.35 5.65 5.90 6.25 0% 1% 1% We have marginally upgraded our market share assumption for FY17 and FY18 on the back of recent trends. YoY growth 0% 5% 7% -1% 4% 6%

Domestic scooters (mn units) 0.80 1.01 1.19 0.80 1.01 1.19 0% 0% 0% We have maintained our domestic

scooters volume estimates for Hero YoY growth 7% 26% 18% 7% 25% 18%

Export 2Ws (mn units)

0.20 0.26 0.32 0.22 0.28 0.35 -7% -8% -8% We have downgraded our export volumes on the back of recent monthly trends. YoY growth 2% 25% 27% 10% 25% 27%

Total 2Ws (mn units) 6.68 7.19 7.86 6.67 7.18 7.80 0% 0% 1% No significant changes to our volume

estimates. YoY growth 1% 8% 9% 1% 8% 9%

Total operating income 287,048 316,798 354,168 286,918 316,391 351,605 0% 0% 1% Marginal upgrades to FY18 revenues driven by upgrade to volumes.

EBITDA 42,909 46,406 51,880 42,890 46,347 51,505 0% 0% 1% We maintain our EBITDA margin estimates EBITDA margin 14.9% 14.6% 14.6% 14.9% 14.6% 14.6% - - -

PBT 43,173 46,609 51,946 43,153 46,550 51,573 0% 0% 1% The upgrades to net earnings in FY18 on the back of upgrades to our EBITDA estimates.

PAT 31,084 33,325 36,362 31,070 33,283 36,101 0% 0% 1%

EPS (̀ ) 156 167 182 156 167 181 0% 0% 1%


Hero MotoCorp


Exhibit 3: Ambit vs consensus (standalone)

` mn Ambit Consensus % divg. Remarks

Revenues

Our revenue estimates are broadly in line with consensus estimates. Our margin and net earnings assumptions are marginally lower than consensus estimates, as we expect rising competitive intensity, deteriorating product mix and increasing costs (to set up distribution network in the export market) to impact margins.

FY16E 287,048 283,185 1%

FY17E 316,798 313,865 1%

FY18E 354,168 345,368 3%

EBITDA FY16E 42,909 42,477 1%

FY17E 46,406 47,462 -2%

FY18E 51,880 52,104 0%

EPS (̀ ) FY16E 156 155 0%

FY17E 167 175 -5%

FY18E 182 187 -3%


Hero MotoCorp


Reiterate SELL with TP of `2,580 Using FCF, we arrive at a fair value of `2,580/share (similar to our earlier valuation). We use a WACC of 13.5% (CoE of 13.5%) and terminal growth rate of 4%. The fair value so arrived at implies a multiple of 14.7x one-year forward EPS, a 3% discount to the five-year average multiple commanded by Hero. We believe this discount to the historical average is justified by the structural rise in competition in the domestic 2W industry and Hero’s susceptibility to the same.

We expect Hero’s EBITDA margin to decline 30bps over FY16-FY18 on the back of rising competitive intensity, deteriorating product mix (rising share of scooters in overall volumes) and costs required to set up the distribution network in the export markets. We expect absolute EBITDA to record 10% CAGR over FY16-FY18E. Net earnings growth is likely to mirror EBITDA growth. On the back of margin improvement in FY16, we expect RoEs to marginally inch up in FY16 but plateau post FY17.



Exhibit 5: FCF assumptions (standalone – ̀ mn)









Relative valuation On a relative valuation comparison of FY18 EV/EBITDA, Hero is trading at a marginal 3% premium to its Indian OEMs peers (TVS and Bajaj). Similarly, on FY18 P/E, Hero is trading at a marginal 4% premium to its domestic auto OEMs’ average multiple.

Cross-cycle valuations On a cross-cycle comparison, Hero is currently trading at a 5-10% premium to its historical P/E and EV/EBITDA multiples. Whilst, Hero’s RoE and RoCE would witness an improvement in FY15/FY16 due to discontinuance of royalty payments to Honda (wef June 30, 2014) and weak commodity prices, we believe there would not be any further expansion in RoE and RoCE as company continues to lose market share in the domestic 2W space and its margin remains stagnant.

0.0%5.0%10.0%15.0%20.0%25.0%30.0%35.0%40.0%45.0%

16,000

18,000 20,000 22,000

24,000 26,000

28,000 30,000

FY17

E

FY18

E

FY19

E

FY20

E

FY21

E

FY22

E

FY23

E

FY24

E

FY25

E

FY26

E

PVFF (Rs mn) WACC (RHS) RoE (RHS)

Hero’s net earnings growth to plateau from FY17


-40%

-20%0%

20%

40%

60%

-20%

-10%0%

10%

20%

30%

FY13

FY14

FY15

FY16E

FY17E

FY18E

EPS growth RoE - RHS

Hero MotoCorp


Exhibit 6: Hero’s RoCEs to remain stable over FY15-FY18


Exhibit 7: Hero's net earnings growth to be subdued from FY17


Key risks to our SELL stance Successful new launches

Hero has been able to hold on to its market share on the back of its flagship brands, Splendor and Passion. However, post the split with Honda, Hero hasn’t been able to come up with any successful brand using its indigenous R&D. We believe, any successful new launches by Hero would pose a risk to our volume estimates.

Key catalysts Market share challenges

After rapid market share loss in the early years post the split with Honda, Hero has been able to hold on to its market share in the last 1-1.5 years on the strength of its strong distribution network in rural areas. However, with HMSI fast spreading its distribution reach in the interiors of India, we believe Hero is highly susceptible to a further market share loss. We expect a 164bps YoY mkt share loss in FY17.

Deteriorating product mix and increasing costs

Hero’s deteriorating product mix with rising share of scooters and lower cc models in the overall portfolio will likely restrict market share gains. Also, the costs required to set up a brand and distribution network in the export markets would increase the overall costs of the company. We expect Hero’s margin to decline by 30bps in FY17/FY18, much lower than the management’s target.



Accounting GREEN We did not come across any significant concerns surrounding Hero’s accounts

Predictability AMBER Since the volume numbers are published on a monthly basis by automobile companies, there are generally no positive/negative surprises on revenues. However, the margins tend to be less predictable and are generally the source for actual results coming in above/below expectations.

Earnings momentum AMBER No major changes in Bloomberg consensus earnings in recent weeks


-300%

-200%

-100%

0%

100%

200%

300%

-20%

-10%

0%

10%

20%

30%

40%

FY12

FY13

FY14

FY15

E

FY16

E

FY17

E

FY18

E

EBITDA growth RoCE - RHS

-40%

-20%

0%

20%

40%

60%

80%

-15%

-10%

-5%

0%

5%

10%

15%

20%

25%

30%

FY12

FY13

FY14

FY15

E

FY16

E

FY17

E

FY18

E

EPS growth RoE - RHS

Hero MotoCorp


Balance sheet (standalone)




Total net worth 55,999 65,413 77,539 89,536 102,200

Deferred payment credits - - - - -

Deferred tax liability (1,060) (735) (735) (735) (735)


Gross block (inc. royalty to Honda) 69,089 81,140 57,063 62,766 69,495 Net block (inc. unamortised royalty to Honda) 22,433 29,127 29,855 31,124 33,050

CWIP 10,040 8,937 8,937 8,937 8,937

Cash & cash equivalents 42,063 33,134 59,429 72,782 86,210

Debtors 9,206 13,896 11,796 13,019 14,555

Inventory 6,696 8,155 7,864 8,679 9,703

Loans & advances 9,477 11,234 11,796 13,019 14,555



Provisions 15,943 7,997 19,777 22,232 24,708



Total assets 54,939 64,678 76,804 88,801 101,465


Income statement (standalone)


Revenue (inc. other op income) 252,755 275,853 287,048 316,798 354,168

% growth 6% 9% 4% 10% 12%


EBITDA (before royalty to Honda) 35,401 35,422 42,909 46,406 51,880

% growth 8% 0% 21% 8% 12% Depreciation & amortisation (inc royalty to Honda) 11,074 5,400 4,151 4,434 4,804

EBIT 24,327 30,022 38,758 41,972 47,077


Non-operating income 4,464 4,927 4,435 4,656 4,889

Adjusted PBT 28,673 34,839 43,173 46,609 51,946

Tax 7,582 9,432 12,088 13,283 15,584

Adjusted PAT/ Net profit 21,091 25,407 31,084 33,325 36,362

% growth 0% 20% 22% 7% 9%


Hero MotoCorp


Cash flow statement (standalone)



Depreciation 11,074 5,400 4,151 4,434 4,804

Others (4,163) (2,831) (4,415) (4,636) (4,869)

Tax (6,495) (9,998) (12,088) (13,283) (15,584)

(Incr) / decr in net working capital 545 (3,359) 3,150 255 320


Capex (net) (9,328) (11,530) (4,880) (5,702) (6,729)

Payment to deferred credits to Honda (6,854) (2,873) - - -

(Incr) / decrease in investments (1,460) 13,188 - - -

Other income (expenditure) 1,448 1,336 4,435 4,656 4,889

Cash flow from investments (16,193) 121 (445) (1,046) (1,840)

Interest paid (118) (111) (20) (20) (20)

Dividend paid (14,031) (22,194) (7,210) (18,958) (21,328)

Cash flow from financing (14,149) (22,305) (7,230) (18,978) (21,348)

Net change in cash (708) 316 26,295 13,353 13,428

Free cash flow 13,453 8,097 29,091 27,675 29,887


Ratio analysis (standalone) Year to March (%) FY14 FY15 FY16E FY17E FY18E

EBITDA margin (%) 14.0% 12.8% 14.9% 14.6% 14.6%

EBIT margin (%) 9.6% 10.9% 13.5% 13.2% 13.3%

Net profit margin (%) 8.3% 9.2% 10.8% 10.5% 10.3%

Net debt: equity (x) (0.8) (0.5) (0.8) (0.8) (0.8)

RoCE (pre-tax) (%) 88% 90% 103% 114% 123%

RoIC (%) 65% 64% 74% 81% 86%

RoE (%) 40% 42% 43% 40% 38%


Valuation parameters (standalone) Year to March FY14 FY15 FY16E FY17E FY18E

EPS (`) 106 127 156 167 182

Diluted EPS (`) 106 127 156 167 182

Book value per share (`) 280 328 388 448 512

Dividend per share (`) 65 60 80 90 100

P/E (x) 25.5 21.2 17.3 16.2 14.8

P/BV (x) 9.6 8.2 6.9 6.0 5.3

EV/EBITDA (x) 14.3 14.3 11.8 10.9 9.7

EV/EBIT (x) 20.8 16.8 13.0 12.0 10.7


Hero MotoCorp


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COMPANY INSIGHT EIM IN EQUITY December 22, 2015

10x demand priced in

Export success remains uncertain because of lack of brand, distribution networks and broader product portfolio (we estimate only 5% volume contribution by FY2020). Higher R&D spends and export market expenses (marketing and personnel costs) likely to restrict EBITDA margin gain from domestic volume growth. Premium valuation (27.3x for Royal Enfield vs 14.7x for Bajaj/Hero) and VECV (5% premium to Ashok Leyland) leaves little upside on the table.

Competitive position: MODERATE Changes to this position: POSITIVE Export success remains uncertain even as domestic potential builds in Royal Enfield’s (RE) strong domestic potential (increasing addressable customer base, expanding sales network and rising penetration amongst customers) is already built in in our 47% volume CAGR over CY14-FY17 and 1.1mn p.a. units by FY20. However, its export success remains uncertain because of lack of brand, distribution networks and broader product portfolio needed for the export markets. Thus we estimate only 5% contribution from exports by FY2020. Higher R&D spends and export foray could impact RE’s margin RE’s R&D spend (1.1% of CY14 sales) is currently lower than global peers’ (2.5% for Harley) and domestic peers’ (TVSM at 1.7%). Further, exports thrust will result in higher marketing/distribution and employee costs. This could cap the operating leverage arising from volume growth in domestic markets. We not only build in lower (35bps-45bps) than consensus EBITDA margin but also cut 48bps-51bps to 27.5% for FY16-FY18. We downgrade RE’s FY16-FY18 net earnings by 1%-2%. Significant market share gain in heavy trucks unlikely for VECV VECV’s struggling in the MHCV space with market share in the heavy trucks (HD) segment declining from 4.6% in CY13 to 3.9% in CY14. Low base of market share, new products (pro-series trucks) and distribution expansion should help market share gains but up to only 5.8% by FY18 (lower than: management guidance of 15.0% and our last published estimate of 6.4%) as VECV finds it difficult to upstage well entrenched incumbents (Tata Motors, Ashok Leyland). We are cutting VECV’s FY16-FY18 net earnings by 4%-6%. Premium valuation leaves little upside; maintain SELL In our SOTP of `15,500 (vs `15,800 earlier), we value (i) RE at `13,500/share, implying 27.3x December 2017 net earnings, an 85% premium to Hero/Bajaj’s multiples; (ii) VECV at `2,000, implied valuation at 9.7x December 2017 EBITDA, a 5% premium to Ashok Leyland. The premium multiples capture RE’s long-term growth potential as well as VECV’s market share gains. Key risks: Significant export/outsourcing opportunity from Volvo.

Eicher MotorsSELL


Recommendation Mcap (bn): `435/US$6.5 3M ADV (mn): `1,068/US$16.1 CMP: `16,067 TP (12 mths): `15,500 Downside (%): 5


Catalysts

Impact on RE’s margin in the near term due to higher R&D spend and expenses towards export market foray

Lower-than-expected market share gain in heavy trucks over FY16-17

Performance


75

100

125

150

175D

ec-1

4Ja

n-15

Feb-

15

Mar

-15

Apr

-15

May

-15

Jun-

15Ju

l-1

5A

ug-1

5Se

p-15

Oct

-15

Nov

-15

Sensex Eicher Motors

Analyst Details

Ashvin Shetty, CFA

+91 22 3043 3285

[email protected]

Ritu Modi



[email protected]

Key financials (consolidated)* Year to December CY13 CY14 FY16E FY17E FY18E

Net Sales (` mn) 68,098 87,383 158,268 166,636 204,105

EBITDA (` mn) 7,132 11,148 24,660 27,639 33,878

EBITDA (%) 10.5% 12.8% 15.6% 16.6% 16.6%

EPS (`) 145 226 477 556 711

RoCE (pre-tax) (%) 34% 40% 61% 81% 103%

RoE (%) 28% 31% 38% 42% 40%

P/E (x) 110.8 71.1 42.1 28.9 22.6

Source: Company, Ambit Capital research. Note: The company has changed its accounting year to fiscal year from calendar year, and hence FY16 is a 15-month year

Eicher Motors


Key assumptions and estimates Note that the company has changed its accounting year-end from December to March, and hence FY16 is for the 15 months ended March 31, 2016.

Exhibit 1: Key estimates and assumptions Key Assumptions CY14 FY16E FY17E FY18E Remarks

Motorcycles (Standalone)

Volumes (nos) 302,592 612,716 647,835 768,696 We expect healthy volume growth (36% CAGR over CY14-FY18) due to continued high waiting period and dealer network expansion. We also factor in moderate increase in average realisation (CAGR of 5% over CY14-FY18).

YoY growth 70% 62% 32% 19%

Net sales (` mn) 30,312 63,609 70,094 86,394

YoY growth 78% 68% 38% 23%

EBITDA (` mn) 7,336 17,405 19,258 23,762 We expect EBITDA margin to remain stable despite strong volume growth due to higher R&D spends and export foray. EBITDA margin 24.2% 27.4% 27.5% 27.5%

PBT (̀ mn) 7,980 17,148 19,306 24,494 Strong revenue growth and EBITDA margin improvement to reflect in strong net earnings growth. PAT (` mn) 5,589 11,497 13,072 16,839

YoY growth 101% 65% 42% 29%

Closing work cap (ex-cash) days (57) (57) (56) (55) Working capital days to remain stable.

Capex (` mn) (3,714) (6,679) (3,505) (2,592) Capex to increase in FY16 on account of capacity addition and product development. Capex spend to moderate in FY17.

Free cash flow (` mn) 3,173 10,345 10,270 15,829 Improvement in profitability to drive improvement in FCF generation.

Net debt/ (cash) (̀ mn) (11,178) (21,000) (29,988) (45,439) Net cash position to get stronger.

Commercial vehicles (VECV)

Volumes (nos) - MHCV trucks 23,855 33,554 32,931 39,757 We expect the MHCV industry to record 19% CAGR over CY14-FY18E and 192bps gain in market share in heavy duty trucks for VECV.

YoY growth -7% 13% 23% 21%

Net sales (` mn) 57,071 94,659 96,542 117,711

YoY growth 12% 33% 27% 22%

EBITDA (` mn) 3,812 7,254 8,380 10,116 EBITDA margin to improve on the back of recovery in volumes and consequent reduction in discount levels. EBITDA margin 6.7% 7.7% 8.7% 8.6%

PBT (̀ mn) 2,354 4,619 6,498 8,346 Net earnings to show strong growth on the back of strong revenue growth and improvement in margin. PAT (` mn) 1,836 3,464 4,774 5,842

YoY growth -36% 51% 72% 22%

Closing work cap (ex-cash) days 5 6 6 6 Working capital days stable YoY.

Capex (` mn) (5,448) (5,941) (1,748) (2,125) Capex would be mainly towards product development and capacity additions. Capex spend to moderate in FY17.

Free cash flow (` mn) (2,125) (364) 4,962 5,250 Improvement in profitability and moderation in capex to lead to improvement in FCF generation.

Net debt/ (cash) (̀ mn) (2,757) (1,726) (5,978) (10,694) Net cash position to remain strong.

Consolidated

Net sales (` mn) 87,383 158,268 166,636 204,105

Strong revenue growth as well as margin improvement driven by both RE and VECV.

YoY growth 28% 45% 32% 22%

EBITDA (` mn) 11,148 24,660 27,639 33,878

EBITDA margin 12.8% 15.6% 16.6% 16.6%

PBT (̀ mn) 9,926 21,358 25,259 32,160

Strong net earnings growth on the back of improvement in revenues as well as margins.

PAT before minority interest (` mn) 7,017 14,553 17,301 22,001

YoY growth 34% 66% 49% 27%

PAT after minority interest (` mn) 6,154 12,974 15,124 19,337

Closing work cap (ex-cash) days (16) (20) (20) (20) Working capital days to remain stable.

Capex (` mn) (9,720) (12,620) (5,253) (4,717) Capex to moderate significantly in FY17 at both VECV as well as RE which will result in improvement in FCF generation. Net cash position to remain strong.

Free cash flow (` mn) 782 9,878 15,150 20,997

Net debt/ (cash) (̀ mn) (14,970) (23,762) (37,001) (57,066)

Minority share (` mn) 10,851 12,014 13,656 15,739 Minority share to increase in line with profit and cash generation of VECV


Eicher Motors


Exhibit 2: Change in estimates*

` mn New estimates Old estimates Change in estimates


Motorcycles (standalone)

Volumes (nos) 612,716 647,835 768,696 617,037 647,835 768,696 -1% 0% 0% We marginally downgrade our volume estimates for CY15 (by 1% to 458k units) to factor in production disruption in December 2015 due to heavy rains in Tamil Nadu. We maintain our volume estimates for FY17 and FY18. We have marginally downgraded our EBITDA margin assumption to factor in higher R&D spend and expenses for setting up export business.

Net sales 63,609 70,094 86,394 64,026 70,094 86,394 -1% 0% 0%

EBITDA 17,405 19,258 23,762 17,536 19,614 24,176 -1% -2% -2%

EBITDA margin (%) 27.4% 27.5% 27.5% 27.4% 28.0% 28.0% (3)bps (51)bps (48)bps

PBT 17,148 19,306 24,494 17,275 19,657 24,904 -1% -2% -2%

PAT 11,497 13,072 16,839 11,581 13,304 17,109 -1% -2% -2%

Commercial vehicles (VECV)

Volumes (nos) - CVs 59,235 58,861 70,084 59,452 59,875 71,577 0% -2% -2% We have downgraded our volumes estimates on the back of recent monthly trends. We have marginally downgraded our EBITDA margin assumption to factor in lower-than-expected 3QCY15 margin. Net earnings downgrades driven by downgrades to EBITDA margin

Net sales 94,659 96,542 117,711 94,870 97,551 119,271 0% -1% -1%

EBITDA 7,254 8,380 10,116 7,525 8,696 10,454 -4% -4% -3%


PBT 4,619 6,498 8,346 4,895 6,831 8,715 -6% -5% -4%

PAT 3,464 4,774 5,842 3,671 5,019 6,101 -6% -5% -4%

Consolidated

Net sales 158,268 166,636 204,105 158,896 167,645 205,666 0% -1% -1%

Overall, driven by downgrades to RE volumes for CY15 and VECV volumes in FY17/FY18 our consolidated revenue, EBITDA and net earnings estimates face marginal downgrades.

EBITDA 24,660 27,639 33,878 25,060 28,310 34,630 -2% -2% -2%


PBT 21,358 25,259 32,160 21,761 25,944 32,939 -2% -3% -2%

PAT before minority interest 14,553 17,301 22,001 14,844 17,779 22,530 -2% -3% -2%

PAT after minority interest 12,974 15,124 19,337 13,170 15,490 19,748 -1% -2% -2%

EPS (`) 477 556 711 484 569 726 -1% -2% -2%

Source: Ambit Capital research. Note: *The company has changed the accounting year-end to March from December earlier. Hence, the company will report for 15 months ended March 2016.

Eicher Motors


Maintain SELL with revised TP of `15,500 Royal Enfield value lowered by 1% to `13,500/Eicher share

Our DCF-based valuation (WACC of 15.0%) using a forecast period of 13 years (FY17 to FY29) and a terminal growth rate of 6%, is `13,500/share (1% lower than the last published estimate). This terminal growth is higher than the growth rates used for other 2W companies (Hero, Bajaj and TVS) of ~4%, as we believe there exists higher long-term volume potential for RE. Our revised valuation of `13,500/share (target date of 1 December 2016) implies a multiple of 27.3x one year forward core EPS (i.e. earnings excluding dividend from the commercial vehicle subsidiary i.e. VECV). This multiple is at a nearly 85% premium to that implied by our fair valuations for domestic 2W peers like Hero MotoCorp and Bajaj Auto. We believe the premium is justified due to stronger growth prospects and return ratios for RE vs these peers. RE’s unique positioning (affordable premium) amongst leisure/utility users, much stronger volume/earnings prospects and limited competitive risks unlike the case for Hero/Bajaj justify its premium valuation.

Given the increasing addressable customer base, low base and expanding sales network, we build 47% volume CAGR over CY14-FY17 and 1.1mn p.a. units by FY20 (CAGR of 20% over FY18-FY20). Beyond FY20, we expect RE’s domestic volume growth to moderate with easing capacity constraint and increasing competitive intensity in the 2W space and expect 11% CAGR over FY21-FY29

We have downgraded our net earnings estimates for FY17/FY18 by 2%. The downgrades to earnings is offset to some extent by roll-forward of target price date to December 2016 (vs November 2016 earlier) resulting in 1% downgrade to RE’s valuation.

Exhibit 3: FCF profile (Royal Enfield) – ̀ mn


Exhibit 4: FCF assumptions (Royal Enfield) – ̀ mn




Implied core P/E multiple (one-year forward) 27.3x






VECV value lowered by 5% to `2,000/Eicher share

Using FCF, we arrive at a fair value of `3,467/share, with a WACC of 15% and terminal growth rate of 4%. The fair value so arrived at implies a multiple of 9.7x one year forward EBITDA, a premium of around 5% to the valuation ascribed to its domestic competitor, Ashok Leyland. We believe the premium is justified due to Eicher’s higher return ratios. The fair value attributable to Eicher (54.4% stake in VECV) is `2,000/share (vs `2,100/share earlier). The downgrade of 5% in VECV’s valuation is on account of a similar 4%-5% downgrade to our FY17/FY18 earnings estimates.

10%15%20%25%30%35%40%45%50%55%

9,500

11,500

13,500

15,500

17,500

19,500

FY17

E

FY18

E

FY19

E

FY20

E

FY21

E

FY22

E

FY23

E

FY24

E

FY25

E

FY26

E

FY27

E

FY28

E

FY29

E

PVFF (LHS) (Rsmn) WACC (RHS) RoE (RHS)

Eicher Motors


Exhibit 5: FCF profile (VECV) (` mn)


Exhibit 6: FCF assumptions (VECV – ̀ mn)




Implied EV/EBITDA multiple (one-year forward) 9.7x



Implied equity value for Eicher’s stake (54.4%) 51,334




Valuation – Retain SELL with SOTP of `15,500; 5% downside

Our valuation of the motorcycles business (standalone) and the listed entity’s equity stake in VECV gives us a consolidated valuation of `15,500/share, a 5% downside from current levels and 2% lower than our previous target price. We believe for both RE and VECV business, the multiples implied by our valuation fully capture the superior business model/growth opportunities. We retain SELL.

Exhibit 7: SOTP valuation for Eicher Motors (`15,500/share)

Segment Methodology Value

(ex-cash) (̀ mn)

Implied EV/EBITDA (one-year

EBITDA)

Net Cash /(debt) (̀ mn)

(FY16 end)

Equity Value incl. cash

(̀ mn) Eicher stake %

Value ̀ /Eicher share

New Old Change

Motorcycles FCF 350,076 15.7 21,000 371,077 100% 13,500 13,700 -1%

Commercial vehicles FCF 92,637 9.7 1,726 94,364 54% 2,000 2,100 -5%

Total 15,500 15,800 -2%


5%

10%

15%

20%

25%

3,000

3,500

4,000

4,500

5,000

5,500

FY17

E

FY18

E

FY19

E

FY20

E

FY21

E

FY22

E

FY23

E

FY24

E

FY25

E

FY26

E

FY27

E

FY28

E

FY29

EPVFF (LHS) WACC (RHS) RoE (RHS)

Eicher Motors


Relative valuation – Trading at significant premium to peers On FY17 EV/EBITDA, Eicher is trading at a premium to its peers: to domestic 2W players and CV players by 51%, global 2W players by 108% and global CV players by 66%. The multiple is at a significant premium commanded by Harley Davidson (premium of 55%). On FY18 EV/EBITDA, Eicher is trading at a premium to its peers: domestic 2W players and CV players by 46%, global 2W players by 80% and global CV players by 55%.

Similarly on FY17 P/E, Eicher is trading at a premium to almost all its peers. The premium on both the EV/EBITDA as well as P/E multiple appears justified due to Eicher’s stronger than peers’ EBITDA as well as net earnings CAGR over FY5-FY18E.

Exhibit 8: Comparative valuation

Mcap EV/EBITDA (x) P/E (x) CAGR

(FY15-18) Price perf

(%) RoE

US$ mn FY16E FY17E FY18E FY16E FY17E FY18E Sales EBITDA EPS 3m 1 yr FY16E FY17E FY18E

India* Maruti Suzuki 21,120 13.0 11.0 9.5 24.4 19.2 14.8 16 26 37 3 38 22 24 26

Tata Motors ̂ 18,692 5.0 4.7 4.9 13.4 12.2 14.1 10 (5) (8) 15 (21) 20 20 17

M&M 11,971 15.4 12.6 11.3 21.8 17.7 15.7 12 17 13 8 5 17 18 18

Bajaj Auto 10,857 12.7 11.4 10.4 19.8 17.6 15.9 10 12 12 8 1 32 32 32

Hero Motocorp 8,120 11.8 10.9 9.7 17.3 16.2 14.8 9 14 13 11 (12) 43 40 38

Eicher Motors 6,561 22.1 15.7 12.8 42.5 36.4 28.5 33 45 46 (13) 10 38 42 40

Ashok Leyland 3,832 12.3 9.7 8.5 21.5 15.5 13.4 23 44 99 1 77 23 25 24

TVS 2,069 17.0 11.9 8.6 28.3 18.1 12.7 19 36 39 24 14 27 34 37

Atul Auto 169 15.1 11.9 8.3 23.8 18.6 13.5 19 30 27 16 (15) 32 32 35

Average (Ex-Eicher) 12.8 10.5 8.9 21.3 16.9 14.4 15 22 29 27 28 28

Global CVs Volvo 19,732 8.2 8.2 7.7 11.7 11.2 9.8 5 21 98 (7) (7) 18 16 16

PACCAR 15,962 7.7 7.9 8.0 9.9 10.9 10.9 (3) (3) 3 (18) (33) 26 22 19

MAN 14,658 27.8 17.8 13.9 NA 48.0 35.8 5 (1) 14 (2) (1) 0 5 9

Navistar 699 6.1 4.6 4.1 NA 10.9 5.8 (4) 116 (158) (46) (74) 2 (3) (4)

Average 12.4 9.6 8.4 10.8 20.2 15.6 1 33 (11) 12 10 10

2Ws

Honda 58,102 8.0 7.4 7.0 12.0 10.5 9.5 6 11 13 2 9 8 9 9

Suzuki 17,039 6.0 5.5 5.1 13.7 14.0 12.8 5 11 19 (4) 0 10 10 10

Harley 8,657 10.3 9.8 9.5 12.3 11.0 10.1 (3) (1) 5 (18) (30) 30 36 43

Yamaha 7,870 7.2 6.5 5.9 14.1 9.7 8.8 6 19 17 12 11 14 18 17

Average 7.9 7.3 6.9 13.0 11.3 10.3 4 10 13 15 18 20

Source: Company, Bloomberg, Ambit Capital research. Note: * based on Ambit estimates except for M&M and Atul Auto; ^Proforma figures are arrived at by adjusting EBITDA/PAT for normalised R&D spends (by expensing 70% of R & D costs instead of current 20%).

Eicher Motors


Cross-cycle valuation – Trading significantly higher than historical multiples On a cross-cycle basis, Eicher is currently trading at 29.3x 12-month rolling forward net earnings. This is at a premium of 38% to its five-year average. On the cross-cycle EV/EBITDA band, Eicher is trading at a premium of 47% to the five-year average. The stock has seen significant re-rating in the past two years on the back of the strong performance of the RE business.

Exhibit 9: Eicher is currently trading at ~40% premium to historical average

Source: Bloomberg, Ambit Capital research; Note: P/E bands arrived at using Bloomberg consensus estimates for respective periods

Exhibit 10: Cross-cycle EV/EBITDA band with historical averages

Source: Bloomberg, Ambit Capital research; Note: EV/EBITDA bands arrived at using Bloomberg consensus estimates for respective periods

Key catalysts Despite strong volume growth, EBITDA margin to remain stable in FY17/FY18 from higher R&D spend and exports foray

RE’s R&D spend (1.1% of sales in CY14) is currently lower than its global peers (Harley Davidson at 2.5%) and domestic peers (TVS at 1.7%). We expect RE’s R&D spend to rise in FY16/FY17 (the company is setting up R&D centres in Chennai and UK). Besides R&D, we expect the thrust in export markets to result in higher marketing/distribution and employee costs. Whilst strong volume growth would drive operating leverage benefits, we believe higher R&D spends and other expenses pertaining to setting up business in the export markets would limit EBITDA margin expansion from current levels. We expect EBITDA margin for RE to remain flat over FY16-FY18 at 27.5%

Market share challenges in heavy trucks

Whilst the medium and heavy commercial vehicles (MHCV) industry is witnessing a recovery (up 32% YoY), VECV has struggled to increase its market share and has in fact lost market share (down 159bps YoY in Apr-Oct ’15). Furthermore, the recovery in the intermediate commercial vehicle (ICV) segment has been slower than our estimate. Whilst we expect the new Pro-series truck launch and distribution expansion to help market share gain in the long term, we are building in only 87bps expansion in the heavy duty trucks segment over CY14-CY17.

51015

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Eicher Motors


Key risks and sensitivities Volume and margin

Any material change in RE’s volumes and margin assumption is likely to have a significant impact on our earnings and valuation estimates. In our current estimates, RE constitutes nearly 35%-42% of Eicher Motors’ consolidated revenues and 66%-70% of consolidated EBITDA over CY14-Y16. Exhibit 11 below shows the sensitivity to our valuation estimates to changes in RE’s CY14-CY16 volumes and average EBITDA margin.

Exhibit 11: Sensitivity of RE valuation to CY14-FY17 volumes and EBITDA margin

CY14-FY17 Volume CAGR

15% 35% 46% 50% 55%

Average EBITDA margin

(CY14-FY17)

22.0% 12,108 12,192 12,393 12,252 12,293

24.0% 12,724 12,815 12,989 12,893 12,690

26.5% 13,436 13,584 13,500 13,723 13,776

27.5% 13,698 13,843 13,982 13,944 14,022

29.5% 14,011 14,424 14,577 14,522 14,606


Significant export/outsourcing opportunity from Volvo

The medium duty engine (MDEP) outsourcing project from Volvo is operational wherein VECV exports engines to Volvo to be fitted into its medium duty trucks. In CY14, VECV shipped ~12k engines. Furthermore, VECV’s low-cost manufacturing advantage coupled with Volvo’s strong distribution network in the Emerging Markets can provide significant outsourcing opportunity to VECV. However, lack of details regarding these opportunities continues to restrict us from building in a significant exports opportunity. Any material outsourcing/export opportunity for VECV could have an impact on our earnings and valuation estimates.



Accounting GREEN

Eicher’s key accounting ratios such as CFO to EBITDA stand out amongst its peers (for CY13, Eicher’s CFO as a percentage of EBITDA at 107% is much higher than the average 95% of listed peers, namely Tata Motors and Ashok Leyland). On Ambit’s forensic accounting, Eicher is categorised in the 2nd decile of the Auto universe (comprising eight companies)

Predictability AMBER Whilst the volumes are reported by the company (in line with the industry practice) on a monthly basis, the margin performance reported in the quarterly earnings tends to be unpredictable due to the high nature of fixed costs involved in the business. However, this is an industry-wide phenomenon.

Earnings momentum AMBER Bloomberg shows no significant upgrades/downgrades to consensus numbers in recent weeks.


Eicher Motors


Balance sheet (consolidated)*

Year to December (̀ mn) CY13 CY14 FY16E FY17E FY18E



Total net worth 20,554 25,159 35,325 47,562 63,402

Minority Interest 10,397 10,851 12,014 13,656 15,739

Debt 839 584 584 584 584



Gross block 22,993 31,609 47,596 54,218 58,935

Net block 16,561 23,199 34,963 37,778 38,259

CWIP 5,551 5,867 2,500 1,131 1,131

Cash & Cash equivalents 15,151 15,553 24,345 37,585 57,650

Debtors 5,125 5,622 10,025 10,242 12,492

Inventory 5,268 6,455 11,898 12,547 15,547

Loans & advances 5,709 7,380 13,534 14,028 17,144



Provisions 2,159 3,213 5,674 5,864 7,137



Total assets 33,595 38,986 50,316 64,196 82,118

Source: Company, Ambit Capital research; Note: *The company has changed its accounting year-end from December to March, and hence FY16 is for 15 months ended March 31, 2016

Income statement (consolidated)*


Net Sales 68,098 87,383 158,268 166,636 204,105

% growth 7% 28% 45% 32% 53%


EBITDA 7,132 11,148 24,660 27,639 33,878

% growth 30% 56% 77% 40% 53%

Depreciation 1,300 2,198 4,223 3,807 4,235

EBIT 5,831 8,950 20,437 23,832 29,643


Non-operating income 545 666 1,013 1,490 2,579

Adjusted PBT 6,298 9,518 21,358 25,259 32,160

Tax 1,452 2,909 6,805 7,958 10,159 Adjusted PAT before minority interest 4,846 6,609 14,553 17,301 22,001

% growth 2% 36% 76% 49% 59%

Minority Interest 1,314 864 1,580 2,177 2,664

Adjusted PAT after minority interest 3,531 5,746 12,974 15,124 19,337

Reported PAT after minority interest 3,531 5,746 12,974 15,124 19,337

Source: Company, Ambit Capital research Note: *The company has changed its accounting year-end from December to March, and hence FY16 is for 15 months ended March 31, 2016

Eicher Motors


Cash flow statement (consolidated)*



Depreciation 1,300 2,198 4,223 3,808 4,238

Others (819) (833) (927) (1,447) (2,551)

Tax (1,504) (2,810) (6,880) (8,166) (10,410)

(Incr) / decr in net working capital 1,491 2,020 4,641 710 1,986


Capex (net) (7,054) (9,682) (12,635) (5,273) (4,748)

(Incr) / decr in investments - - (6,000) (1,000) (1,000)

Other income (expenditure) 731 598 1,019 1,509 2,613


Net borrowings 610 (255) - - -

Issuance/buyback of equity 17 79 (0) 0 0

Interest paid (80) (98) (92) (62) (62)

Dividend paid (1,020) (1,348) (2,008) (3,337) (3,450)

Cash flow from financing (474) (1,622) (2,100) (3,399) (3,512)

Net change in cash 377 (205) 2,992 12,689 19,559

Closing cash balance 6,883 4,863 7,875 20,564 40,124

Free cash flow 120 820 10,073 15,580 21,458


Ratio analysis (consolidated)* Year to December (%) CY13 CY14 FY16E FY17E FY18E

EBITDA margin (%) 10.5% 12.8% 15.6% 16.6% 16.6%

EBIT margin (%) 8.6% 10.2% 12.9% 14.3% 14.5%

Net profit (bef min. int.) margin (%) 7.1% 7.6% 9.2% 10.4% 10.8%

Dividend payout ratio (%) 21% 22% 19% 17% 16%

Net debt: equity (x) (0.3) (0.2) (0.2) (0.4) (0.6)

Working capital turnover (x) (35) (26) (25) (19) (20)

Gross block turnover (x) 3.6 3.2 4.0 3.3 3.6

RoCE (pre-tax) (%) 34% 40% 61% 81% 103%

RoIC (%) 27% 28% 41% 56% 70%

RoE (%) 28% 31% 38% 42% 40%


Valuation parameters (consolidated)*

Year to December CY13 CY14 FY16E FY17E FY18E

EPS after minority interest (`) 146 227 479 558 714

Diluted EPS (`) 145 226 477 556 711

Book value per share (`) 760 928 1,303 1,755 2,339

Dividend per share (`) 30 50 93 95 115

P/E (x) 110.8 71.1 42.1 28.9 22.6

P/BV (x) 21.1 17.3 12.3 9.2 6.9

EV/EBITDA (x) 60.2 38.5 21.8 15.5 12.7

EV/EBIT (x) 73.7 48.0 26.3 18.0 14.5

Source: Company, Ambit Capital research; Note: *The company has changed its accounting year-end from December to March, and hence FY16 is for 15 months ended March 31, 2016

Eicher Motors


Institutional Equities Team Saurabh Mukherjea, CFA CEO, Institutional Equities (022) 30433174 [email protected]

Research

Analysts Industry Sectors Desk-Phone E-mail

Nitin Bhasin - Head of Research E&C / Infra / Cement / Industrials (022) 30433241 [email protected]

Aadesh Mehta, CFA Banking / Financial Services (022) 30433239 [email protected]

Aakash Adukia Oil & Gas / Chemicals / Agri Inputs (022) 30433273 [email protected]

Abhishek Ranganathan, CFA Retail / Mid-caps (022) 30433085 [email protected]

Achint Bhagat, CFA Cement / Roads / Home Building (022) 30433178 [email protected]

Ashvin Shetty, CFA Automobile (022) 30433285 [email protected]

Bhargav Buddhadev Power Utilities / Capital Goods (022) 30433252 [email protected]

Deepesh Agarwal, CFA Power Utilities / Capital Goods (022) 30433275 [email protected] Dhiraj Mistry, CFA Consumer (022) 30433264 [email protected]

Gaurav Khandelwal, CFA Automobile (022) 30433132 [email protected] Gaurav Mehta, CFA Strategy / Derivatives Research (022) 30433255 [email protected]

Girisha Saraf Mid-caps / Small-caps (022) 30433211 [email protected]

Karan Khanna, CFA Strategy (022) 30433251 [email protected]

Kushank Poddar Technology (022) 30433203 [email protected] Pankaj Agarwal, CFA Banking / Financial Services (022) 30433206 [email protected]

Paresh Dave, CFA Healthcare (022) 30433212 [email protected]

Parita Ashar, CFA Metals & Mining (022) 30433223 [email protected]

Prashant Mittal, CFA Derivatives (022) 30433218 [email protected]

Rahil Shah Banking / Financial Services (022) 30433217 [email protected]

Rakshit Ranjan, CFA Consumer (022) 30433201 [email protected]

Ravi Singh Banking / Financial Services (022) 30433181 [email protected]

Ritesh Gupta, CFA Oil & Gas / Chemicals / Agri Inputs (022) 30433242 [email protected]

Ritesh Vaidya, CFA Consumer (022) 30433246 [email protected] Ritika Mankar Mukherjee, CFA Economy / Strategy (022) 30433175 [email protected]

Ritu Modi Automobile (022) 30433292 [email protected]

Sagar Rastogi Technology (022) 30433291 [email protected]

Sumit Shekhar Economy / Strategy (022) 30433229 [email protected]

Utsav Mehta, CFA E&C / Industrials (022) 30433209 [email protected]

Vivekanand Subbaraman, CFA Media (022) 30433261 [email protected]

Sales

Name Regions Desk-Phone E-mail

Sarojini Ramachandran - Head of Sales UK +44 (0) 20 7614 8374 [email protected]

Dharmen Shah India / Asia (022) 30433289 [email protected]

Dipti Mehta India / USA (022) 30433053 [email protected]

Hitakshi Mehra India (022) 30433204 [email protected]

Krishnan V India / Asia (022) 30433295 [email protected]

Nityam Shah, CFA USA / Europe (022) 30433259 [email protected]

Parees Purohit, CFA UK / USA (022) 30433169 [email protected]

Praveena Pattabiraman India / Asia (022) 30433268 [email protected]

Shaleen Silori India (022) 30433256 [email protected]

Singapore

Pramod Gubbi, CFA – Director Singapore +65 8606 6476 [email protected]

Shashank Abhisheik Singapore +65 6536 1935 [email protected]

USA / Canada

Ravilochan Pola - CEO Americas +1(646) 361 3107 [email protected]

Production

Sajid Merchant Production (022) 30433247 [email protected]

Sharoz G Hussain Production (022) 30433183 [email protected]

Nikhil Pillai Database (022) 30433265 [email protected]

E&C = Engineering & Construction

Eicher Motors


TVS MOTOR (TVSL IN, BUY)


Bajaj Auto Ltd (BJAUT IN, SELL)


Hero MotoCorp (HMCL IN, SELL)


Eicher Motors Ltd (EIM IN, SELL)


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TVS MOTOR CO LTD

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EICHER MOTORS LTD

Eicher Motors


Explanation of Investment Rating

Investment Rating Expected return (over 12-month)

BUY >10%

SELL <10%

NO STANCE We have forward looking estimates for the stock but we refrain from assigning valuation and recommendation

UNDER REVIEW We will revisit our recommendation, valuation and estimates on the stock following recent events

NOT RATED We do not have any forward looking estimates, valuation or recommendation for the stock Disclaimer

This report or any portion hereof may not be reprinted, sold or redistributed without the written consent of Ambit Capital . AMBIT Capital Research is disseminated and available primarily electronically, and, in some cases,

in printed form.

Additional information on recommended securities is available on request.

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Disclosures 26. The analyst (s ) has/have not served as an officer, director or employee of the subject company. 27. There is no material disciplinary action that has been taken by any regulatory authority impacting equity research analysis activities . 28. All market data included in this report are dated as at the previous s tock market closing day from the date of this report. 29. Ambit and/or its associates have financial interest/equity shareholding in Bajaj Auto, Hero MotoCorp & Eicher Motors. Analyst Certif ication Each of the analysts identified in this report certi fies , with respect to the companies or securi ties that the individual analyses, that (1) the views expressed in this report reflect his or her personal views about all of the subject companies and securities and (2) no part of his or her compensation was, is or will be directly or indirectly dependent on the specific recommendations or views expressed in this report. © Copyright 2015 AMBIT Capital Private Limited. All rights reserved.

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