Auto Industry Equity Valuation Summary

In my previous posts I shared my valuation of the shares of  Bajaj Auto (NSE: BAJAJ-AUTO), Bosch (NSE: BOSCHLTD), Eicher Motors (NSE:EICHERMOT), Hero Motocorp (NSE:HEROMOTOCO), Mahindra and Mahindra (NSE:M&M), Maruti Suzuki (NSE: MARUTI), and the two types of Tata Motors' shares listed on the NSE, the ordinary shares (NSE: TATAMOTORS) and the DVRs or the "A" ordinary shares (NSE:TATAMTRDVR). This covers all the scrips belonging to the automobile industry in the Nifty. Now I undertake a comparative analysis based on my study of the individual scrips to get a picture of how their pricing and valuation may be being influenced by their solvency, liquidity and profitability ratios. The various ratios are tabulated for each scrip in the table below. The largest value is highlighted in green and the smallest in red.

Looking at the premium/discount at which I have valued the scrip compared to the market price, it can be seen that Bosch limited is the most overpriced and it would have to lose 82% of its current price to converge to its value. This is also seen in the price to earnings and the price to book ratios which are much higher than the industry average. However, Eicher Motors, despite having a slightly lower discount of around 66%, still has the largest price to earnings ratios in the industry. The price to earnings ratios of these two scrips are very high and leads one to doubt whether the buoyant investor sentiment about them is justified. They also fare unfavourably in some of the financial ratios, for instance net profit to total equity, also called return on equity, lags the industry for both these scrips. Their sales to receivables and sales to inventory are also low, indicating more proportion of receivables and inventory to sales when compared to the industry. This indicates a not very lean value chain in comparison to the other players, with sales driven by delayed collections and maintaining high inventory levels.  

Maruti Suzuki is another stock with a high price to earnings ratio, but its discount over the traded price is very low when compared to most of the other stocks, which could be because its liquidity ratios are indicative of a lean value chain. The Tata Motors DVR is trading at premium, and quite predictably has the lowest price to earnings ratios of all the scrips.

M&M is another poorly performing scrip in this analysis, with a discount of around 70%. It has a very high debt to assets ratio at 80%, and consequently its interest coverage is very low at around 2. It has the lowest sales to inventory among all the players and its sales to receivables also lags the industry. It also has the lowest net profit to total equity amongst all the players. 

Bajaj Auto and Hero Motocorp also have discounts of the value over the market price of over 30%. Given the high P/E ratios of a few of the other players, the P/E ratios of these two are lower than the industry, despite being in the twenties which can be called high. However, their sales to inventory and sales to receivables ratios are very healthy, and indicative of a lean value chain. On a return on equity basis too, these are the best among the lot.    

My Valuation of the Shares of Bajaj Auto Ltd.

In this post I value the shares of Bajaj Auto Ltd. Within the sub-sectors identified in the automobile sector, Bajaj plays in the two-wheeler and the three-wheeler industry. In the two-wheeler sub-sector, the relevant market share for it is only in the motorcycle segment where it competes with a market share of around 18%. The company had a market share of 90% in the petrol and alternate fuel driven three wheelers. In the small diesel market too it dominated with a 65% market share. In the large diesel category, however, it was a laggard with only 20% market share. After entering the cargo segment in FY 2016, Bajaj has clocked double digit market share in that segment, further growing its presence in the three wheeler segment. It has also been consistently increasing its spare parts sales.

Historicals and Forecast     

Let us consider the trends in the total revenue, total expenses and the net profit margin. The first two are in crores of rupees, whereas the third is in percentage. 2017 onward, the numbers are forecasts.

I now discuss the growth trends in the various income statement items on a CAGR basis between 2012 and 2016. While the net sales increased at a little over 4%, a 10% decline in the other operating revenue kept the revenue from the operations growing a little under 4%. The healthy 8% growth in the other income led the total revenue to grow a little over 4%.

Coming to the expenses side, while the cost of the raw materials remained nearly constant, the expenses due to the purchased gods increased by over 14%. While the expenses due to the employee cost also increased at a little over 14%, the finance costs decreased drastically at over 60%. Although the depreciation and amortization (D&A) and the other expenses showed high growth rates of 20% and 12% respectively, the fact that the cost of the raw materials, which remained nearly flat, was the largest constituent of expenses, led the total expenses to grow at a moderate rate of around 3%. Consequently, the profit before tax grew at around 7%. Since the tax expense grew at around 14%, the profit after tax had a slower growth rate of 6%. 

Coming to the liabilities side of the balance sheet, the growth of the reserves and the surplus by around 22% led the shareholder's equity to grow at around 21%, since the share capital remained essentially unchanged. Since the non-current liabilities and the deferred tax liabilities grew at 13% and 40% respectively and the other long-term liabilities and the long-term provisions decreased by 34% and 19% respectively, the total non-current liabilities remained more or less unchanged. Coming to the current liabilities, while the trade payable remained nearly flat, the other current liabilities grew at 2%. However, the decrease of the short-term provisions at over 37% led the current liabilities to decrease by over 10%.

Coming to the assets side, the fixed assets grew by over 8%, mostly on the back of the growth of the tangible assets by over 7%. Similarly the non-current investments grew by over 22%, which raised the growth of the non-current assets to around 19%, despite the slow growth of the fixed assets. Coming to the current assets, the current investments was its largest component and grew by around 3%, augmented by the growth of the trade receivables by over 14%. However, since most of the other items in the current assets decreased significantly, the total current assets went down by about 3%.

The Valuation

The FCFE decreased to ₹6,273 crore in 2026 from ₹7,482 crore in 2016. To find the value due to the FCFEs in the forecast period from 2016 to 2026, these are discounted based on the cost of equity calculated based on the CAPM model. A risk free rate of 6.5% based on the yield of the 10 year Government of India bond is taken. For the country risk premium, two values for India have been calculated by professor Aswath Damodaran of the New York University Stern School of Business. One of these (7.39%) is based on the Sovereign CDS and the other (8.82%) is based on the local currency sovereign rating provided by a rating agency. I find the former more palatable since the ratings agencies have taken flak for giving excellent ratings to the securitization products that brought the U.S. economy down in 2008. The beta of the stock has been taken from an online source and is 0.63. Together, these yield a cost of equity of 11.16%. The terminal growth rate for the FCFEs is assumed to be 5% since the economy is expected to change its growth rate from around 6% in 2016 to around 3% by 2060, but until 2035, grows at over 5%. The automobile sector's contribution to the economy is thus assumed not to change much since it keeps pace with the economic growth.

The Price

Together, this set of assumptions yields a valuation of ₹1,988 for the Bajaj Auto's share. Hence at over ₹2,833, the scrip seems highly overpriced. A sensitivity analysis based on slightly different values of the terminal growth rate (TG) and the equity risk premium (RP) can be found below.