Demand recovery to keep road smooth for tyre manufacturers
Shares of tyre manufacturers have gained 12-50 per cent over the past month, after reporting a stellar Q3 operating performance.
MRF reported its results on Thursday, which were a strong beat on the operational front.
Operating profit rose 58 per cent over the year-ago quarter to ~964 crore, against the Street’s expectation of ~825 crore, while margins jumped nearly 600 bps to a 17-quarter high of 21.1 per cent during the same period.
This was the second consecutive quarter of a 600-bp yearon-year (YOY) margin expansion. Profit more than doubled to ~512 crore, versus ~237 crore in the year-ago period.
With growth coming from all segments (trucks/buses, passenger cars, and twowheelers), thus easing production-related issues and capacity expansion in commercial vehicles nearing completion, analysts expect MRF to post double-digit sales growth.
While Q3 was strong, the stock — closing in on the ~1lakh mark — shed over 7 per cent on profit-booking after a 31 per cent uptick in 3 months.
The strong financial performance was visible across the sector, with Ceat and JK Tyre reporting record margins. Most of the gains in operating profit came on the back of operating leverage, with continued traction in the replacement segment and strong recovery in demand from OEMS.
Sanjeev Aggarwal, CFO of JK Tyre, said margin gains were led by volume growth, capacity utilisation reaching 95 per cent, and cost cutting.
Replacement demand, which accounts for 70 per cent of tyre sales by value, has seen strong demand, mainly on account of the rising preference for personal mobility in the post-covid era, pent-up demand, and restrictions on import of passenger car radial (PCR) tyres. Channel checks by analysts, as well as management commentary following the Q3 results announcement, indicate the demand momentum will sustain well into the next financial year.
The Ceat management said during its investor call that it expected demand buoyancy in the replacement segment to continue for the nine months.
It had projected a 15-, 20and 25-per-cent YOY growth in two-wheeler, PCR, and truck and bus radial replacement demand, respectively, in Q3.
Apollo Tyres saw its market share increase 500, 400, and 300 bps in agri, PCR, and truck and bus tyres, respectively, over the April-october period.
OEM sales are directly correlated to the overall automobile demand, which was otherwise going through a rough patch since two years.
An increased upfront insurance cost, coupled with the broader consumption slowdown and disruptions caused by the transition to BS-VI norms, had already hurt sales.
Then, the lockdown to contain the spread of Covid-19 stalled operations at companies and dealerships, as automakers witnessed a complete washout in Q1FY21.
The revival was not restricted to PVS, as the CV industry has also been staging a comeback to. This is particularly beneficial for the likes of JK Tyre, which derives close to 60 per cent of its revenue from this segment.
With no large capacity expansion plans, firms are focusing on generating free cash flows and reducing debt. For instance, JK Tyre plans to reduce its overall debt by 4045 per cent over the next three years, and achieve a debt-toebitda of less than 3x. This is in addition to around ~1,000 crore repaid by the company in the present financial year.
Although top line growth momentum is expected to continue, replicating these operating profit margins may not be possible, say experts.
With shares of most firms having hit their 52-week highs, valuations — even on a forward basis — are largely in line or at a premium to their long term averages. Investors must exercise caution and follow a buyon-dips strategy, say experts.