Maruti Suzuki: Hold

With a 15 per cent return over the past year, the Maruti Suzuki stock has outperformed the BSE Auto index (18 per cent decline) and has turned out to be one of the best defensive picks. At Rs 842, the stock discounts its four quarter earnings by 15 times. Strong performance has pushed its valuation to a premium over the entire auto pack (about 14 times), limiting possible upside over the medium term. However, shareholders of the company can remain invested for its strong earnings visibility.

With value-for-money offerings in the sedan segment and price increases to offset input costs, the company’s top-line for 2008-09 registered a growth of 12 per cent, beating the automobile slowdown. However, net profits have disappointed, declining by 28 per cent due to higher material costs, a change in depreciation policy and forex losses. Easing margin pressures, as commodity price declines filter in, suggest that the company is on track to deliver better earnings performance.

Maruti’s key advantage lies in its focus on the passenger vehicle segment, which has weathered the slowdown better than commercial vehicle. Products at almost every price point — Alto, WagonR, Zen Estilo, Swift and A-Star — make the company a market leader in the hatchbacks (A3) segment. Intense competition and tight credit availability that prevailed for most of last year muted its sales growth in this space to 2.5 per cent. But with credit crunch easing out, this segment has shown better growth since the beginning of 2009 (11 per cent increase in sales between December 2008 and April 2009). Maruti has enlarged its market share in this segment to 60 per cent this year as against 53 per cent last year. Swift and the recently launched A-Star have helped these gains.

While the hatchback segment witnessed a slowdown last year, it is the sedan or the A2 segment that has delivered surprising growth for Maruti. Driven by launches of SX4 and Swift DZire (the sedan version of Swift), this segment has grown by 50.9 per cent.

Concerns however remain on Maruti’s entry-level models such as Maruti 1000 and Alto. Preferred by the urban middle-class, these cars may face challenges in 12 cities, including Delhi, Mumbai Kolkata and Chennai, after a change in emission norms to Bharat Stage IV mandated by October 2009.

With the on-road price differential (in Delhi) of about Rs 45,000-Rs 50,000 between Maruti’s entry-level models and Nano’s high-end version, competition from this source cannot be ruled out.

Domestic sales apart, exports too are seen as a key growth driver for Maruti over the next couple of years. Engineered to suit European standards, A-Star has lifted Maruti’s exports by 33 per cent for FY09. Exports accounted for 11 per cent of the company’s sales volumes in the last fiscal.

Maruti has a contract with Nissan to manufacture 45,000 of A-Star under the ‘Pixo’ label in Europe and a tie-up with Suzuki to ship 11,000 units of the car to Latin America, Algeria, Australia and some African nations.

Maruti has reached 39 per cent of its export target (two lakh units by fiscal year 2010-11) so far. The launch of Ritz, could also hold potential.

The year 2008-09 ended with a sales growth of 14 per cent, while total volumes grew by 3.6 per cent. High-cost pressures from some raw materials such as steel, aluminium alloys and rubber, and a change in product mix in favour of diesel variants , resulted in the operating profits declining by 45 per cent on a year-on-year basis. The net profits shrank by 32 per cent.

With initiatives to localise vendors, operating profits are expected to grow by 23-30 per cent in 2010-11. On a sequential basis, the company has seen 32 per cent increase in sales volume and a 20 per cent increase in net profits for the March 2009 quarter.