BackAutomobiles: low raw material cost fattens profit margins
Plunging global commodity prices and domestic markets powered profitability, like in the March quarter
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For the June quarter, auto companies rode on fat profit margins, in spite of subdued demand and weak sales growth. Plunging global commodity prices and domestic markets powered profitability, like in the March quarter.
Of the pack of listed firms, truck maker Ashok Leyland Ltd surpassed expectations on all counts, mainly on market share gains. Competitor Tata Motors Ltd, normally ahead in the pack, disappointed, as its UK subsidiary Jaguar Land Rover Plc failed to meet expectations on profit and margins, due to an adverse product mix and challenges in the Chinese market.
Heavy commercial vehicle sales were in the spotlight, with strong growth on a relatively low base. Interestingly, the sales contraction in light commercial vehicles was less in magnitude.
Meanwhile, untimely rains led to poor rural auto sales. Urban demand slackened in the quarter as economic sluggishness continued into the quarter. Hence, retail consumption was hit, which in the auto sector translated into poor sales of passenger vehicles and two-wheelers.
Of course, like in the recent past, Maruti Suzuki India Ltd was the outlier during the quarter, as net revenue rose by 18% on the back of a 13% growth in domestic sales and an even higher export sales growth of 27%. Mahindra and Mahindra Ltd, on the contrary, played spoilsport, with both tractor and utility vehicles contracting during the quarter.
There was little to cheer about even on two-wheeler sales, which expanded in the low single digits. Bajaj Auto Ltd’s robust show was thanks to better realization on exports. Domestic sales across manufacturers mirrored tepid demand. Only Royal Enfield’s premium motorcycles sales maintained their rocketing sales, as the segment is less sensitive to macroeconomic and income trends.
Against this backdrop, the one thing that lifted investor sentiment was the robust operating margin. Low steel and aluminium prices, due to the global commodity market meltdown, were the catalyst. Raw material cost as a percentage to sales fell by 300 basis points (bps), which, in turn, powered gross margin (sales less raw material cost) by about 100-200 bps. One basis point is one-hundredth of a percentage point.
Added to this was a better product mix at some firms such as Ashok Leyland, currency benefits at others such as Maruti and Bajaj Auto, and control on marketing expenses, all of which lifted operating performance.
Of the lot, Tata Motors Ltd disappointed the most as operating margin waned from the earlier quarters.
The range-bound movement of the BSE Auto index over the last few months reflects lack of investor enthusiasm. One cannot ride on low raw material prices for long as there is bound to be a reversal. Meanwhile, most stocks are trading at a historically high average price-earnings ratio, which means that the positive factors that drive stock prices are already factored in.
There is, in short, no alternative but to wait and watch for the triggers that spell a comeback of robust demand.
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