Mahindra and Mahindra: Weak auto sales mar revenue and profit growth

That the Street was not happy with Mahindra & Mahindra Ltd’s performance for the December quarter was seen by its stock closing lower on Friday, when the benchmark BSE Sensex closed higher. In any case, the stock was beaten down badly by investors as auto sales volume crumbled in the last two months.

For the quarter, the auto division’s sales fell by 7.7% year on year. The hope that prices could compensate for the lower volume was also negated, as net revenue of the division slid by 8%, mirroring weak realizations during the quarter. Sales across products—utility vehicles, multi-purpose vehicles and light commercial vehicles—plunged as the liquidity crunch crippled consumer demand.

Fortunately, though most unexpectedly, given the high impact of demonetization on the rural economy, M&M’s farm equipment sales jumped by 22.1%. This shored up overall performance. Net revenue of M&M along with Mahindra Vehicle Manufacturers’ Ltd therefore was 1.2% higher than a year back, although this too, disappointed investors. Fall in sales cascaded down to lower operating profit, as operating leverage was not in its favour. Staff costs particularly rose as a percentage to sales, although raw material costs were controlled, as was the advertising and sales promotion mix.

One positive in the quarterly result was that operating margin was stable, albeit in a challenging environment. At 13.7%, it was just 20 bps lower than a year back.

Even this did not please investors as they had expected higher profitability on the back of strong farm equipment sales. But then, what let them down was that the 310 basis-point drop in profit margin (before interest and tax) in the auto division was steeper than forecast. One basis point is 0.01%. What’s more, excise benefits at its Haridwar factory being withdrawn also weighed down on its profit margin.

In the final analysis, the combined entity’s reported net profit was about 3% lower, again disappointing investors. Note that the stock’s downward trajectory has mirrored falling auto sales since the note ban.

The company has lost 10% in market capitalization over the last six months. For now, FY2017 sales and profits can ride on strong farm equipment numbers. However, the concern is that the firm’s auto division may not bounce back soon, barring the fact that the low base of FY2016 will aid growth numbers.

In fact, a report by Karvy Stock Broking Ltd says that M&M’s market share in UV declined by 1028 bps y-o-y to 28.3% and by 105 bps to 43.8% in LCV. Blame it on weak product pipeline and new launches or on changing customer preferences, this is not good news for the firm. After all, revenue from the auto division accounts for two-thirds the total revenue and this could delay recovery for M&M as a whole.