Stock Pick from Commercial Vehicles Industry

Here Is Why:

• Focus on exports to increase its contribution to 30 per cent of total sales in the next five years.
• Operating margins will expand by more than 300 bps in the next two years.
• Net debt levels are likely to reduce by 50 per cent in the next two years.

ASHOK LEYLAND: GATHERING GOOD SPEED

After two years of slowdown, the sales volume of medium and heavy commercial vehicles (M&HCVs) turned positive in August 2014 and since then over the past 10 months have registered double-digit growth, month on month, which speaks a lot about the revival in this segment. Therefore, we have picked up a stock from this space, which is expected to grow more than the industry average in FY16.

Ashok Leyland outpaced the M&HCV industry growth in FY15 and reported 28 per cent volume growth while the industry grew at 16 per cent, helping it to increase its market share from 25.8 per cent in FY14 to 28.5 per cent in FY15. Going forward, the company expects volume growth in the range of 10-15 per cent in FY16 at a conservative level. While the mining activity is yet to pick up, the recent volume uptick has largely been driven by higher cement, freight and oil movement.

The other area of growth is revenue from export, which currently contributes at 12 per cent of total sales and the target is to increase it to 30 per cent over the next four to five years. It is planning to strengthen base in select markets in the Middle East and Africa by investing in assembly operations and establishing sales network to boost volumes. Further, the company is looking to expand its presence in the defence space where the ‘Make in India’ concept is likely to open up huge opportunities for the company. Currently, defence constitutes about 4 per cent of the overall revenues and the company expects the contribution to increase going forward.

Over the medium term, demand for new CVs will also be driven by gradual acceptance of advance trucking platforms, progression to the BS-V emission norms (possibly by 2017 onwards), and introduction of technologies such as anti-lock braking system (ABS), which may lead to some advance purchases by fleet operators.

During FY15, the company incurred a capital expenditure of Rs 300 crore out of which Rs 200 crore was on maintenance and Rs 100 crore invested in subsidiaries. The company has spare capacity for the next two years. On a standalone basis the company has successfully brought down the net debt-equity ratio from 0.88x in FY14 to 0.36x in FY15. With a majority of the capex already completed, we believe the net debt levels are likely to reduce by 50 per cent in the next two years from the current level of Rs 1,840 crore in FY15.

In Q4 FY15, Ashok Leyland posted 46.4 per cent YoY growth in net sales to Rs 4,505 crore. Its EBITDA grew 148.5 per cent YoY to Rs 457 crore with the EBITDA margin having increased by 410 bps YoY at 10.1 per cent. We believe the company will expand its operating margins by more than 300 bps in the next two years from 7.7 per cent in FY15. Various factors like debt reduction, divestment plans, focus on cash flow, sharp reduction in cash infusion on loss making entities, better inventory management and consistency in its operating performance over past four quarters has increased our confidence to recommend this stock to our readers with 20 to 25 return in the next one year.