Ashok Leyland Share price: Target price revised to Rs 137; Positive read from Tata Motors strong CV performance II DAM Capital maintains outperform rating

Ashok Leyland share price: Tata Motors CV business witnessed strong 8% EBITDA margin (up 280bps yoy/480bps qoq) during Q3 FY21, despite volumes still lower by 4% yoy (up 61% qoq). The performance was primarily driven by sharp reduction in discounts under BS-VI regime, supported by aggressive cost-reduction initiatives (refer our report, All-round strong performance and outlook). Tata Motors management expects CV margins to inch towards double-digit levels during Q4FY21, and volumes to improve further as the replacement cycle kicks in, while managing commodity inflation.

Tata Motors strong CV performance, supported by a positive outlook, presents a robust read across for Ashok Leyland. DAM Capital reiterate their positive view on Ashok Leyland as a pure play on the CV uptrend, and maintain Outperformer rating, with a revised target price of Rs 137 (10x FY23R EV/EBITDA + Rs6/share book value investment for Hinduja Leyland Finance).

Ashok Leyland Key risks:

Sharp rise in competitive intensity, delay in economic recovery

Tata Motors strong CV margins pose upside risk to Ashok Leyland’s margins:

Tata Motors CV volumes grew by a strong 61% yoy (yoy decline narrowing to 4%) in Q3, as the economy returned to normalcy. Most key macro indicators turned positive and collection efficiencies for financiers improved (now above pre-COVID levels). EBITDA margin at 8% was up 480bps qoq (280bps yoy higher) on better demand and rationalisation of discounts under BS-VI regime. DAM Capital sees a high correlation between Ashok Leyland and Tata Motors CV margin profile, and expects an upside risk to our EBITDA margin estimate of 7.8%/8%/10.8% for AL for Q3FY21/FY22E/FY23E respectively.

CV volumes could see strong growth in FY22E, as the replacement cycle kicks in:

Tata Motors expects an upswing in replacement-led demand during FY22E, as improving macro indicators drive fleet utilisation back to 90-100% of pre-COVID levels, along with multi decade average fleet age (due to sharp 65% fall over FY19-21E vs 35-40% during earlier downturns). Improved cost economics for BS-VI trucks (more productive in terms of higher power, better mileage, etc) will likely trigger replacement demand further.

Upgrading estimates for Ashok Leyland; Reiterate Outperformer:

DAM Capital expect volume growth to rebound sharply Q4 FY21E onwards (trucks turned positive yoy in Q3 FY21 with 16% growth), as steeply as it fell 65% from the peak (35-40% in earlier downturns). Replacement cycle will likely kick in with multifold growth over next two years to touch nearly FY19 peak volumes by FY23E, with much higher profitability (ASP hikes under BS-VI, discount rationalization & cost reduction measures, etc). This, in turn, should drive strong earnings rebound for Ashok Leyland (DAM Capital estimate FY23E EPS at Rs8.1 vs Rs7 during FY19 peak; 16% upgrade). Reiterate Outperformer with a revised Target price of Rs 137 (including Rs 6/share book value investment for Hinduja Leyland Finance).