Sector Report 2 Wheelers 28th August, 2020 Auto 2 Wheelers in a sweet spot – Flag bearer of the recovery in Automotive Segment Indian two-wheelers faced a severe downturn in FY20 and are expected to fall further in FY21 due to COVID-19 and BSVI cost push; however, volumes should rebound by FY22E and FY23E on two years of low base. In light of COVID-19 pandemic, we expect the industry volumes to fall by ~12% in FY21E, followed by strong growth of ~18% and ~14% in FY22E and FY23E. We are bullish on the Indian 2W industry over the next 2-3 years. The auto volumes are back by almost adecade whereas the margins are at cyclical lows; we expect multi-fold earnings growth in the recovery period. We believe Hero Motocorp Ltd will outperform its peers on the back of strong rural demand and preference for entry-level motorcycles. Eicher Motors with its strong franchise and a renewed focus on new products is expected to do well. We are of the opinion that TVS Motors is trading at significantly higher multiples in comparison to other 2 wheeler OEMs and hence we expect limited upside from current levels. We assume coverage on the two-wheeler industry with a BUY rating on Hero Motocorp Ltd (Hero), HOLD rating on Eicher Motors Ltd (EIM) and a SELL rating on TVS Motors Ltd (TVSL). We upgrade our rating from HOLD to BUY on Bajaj Auto Ltd (BJAUT). Covid-19 and Key Regulatory Changes amidst weak cycle India's two-wheeler (2W) industry saw its worst downturn in a decade as volumes fell by 18% YoY in FY20 amid weakening economy and regulatory changes leading to higher insurance and road tax. Near-term outlook in the domestic market has been further weakened due to Covid- 19 and the large 10-20% price hikes on account of transition to BSVI emission norms. Sharp fall in oil prices as a fall out of the demand destruction due to spread of Covid-19 will also hurt 2W exports, which were at a cyclical high after three strong years and hence likely to lag the domestic cycle. We expect FY22E and FY23E to be years of strong growth driven by domestic market as volumes would likely rebound after two years of steep fall, while exports are likely to normalize as crude prices stabilze in $40-50/bbl. Resilient rural economy to support demand We expect lesser impact of COVID-19 on the rural economy as compared to urban as the spread is largely in the latter (due to high population density), and agricultural income is likely to suffer less from the lock-down. Taking all the cues so far, we think rural India is better placed in terms of the virus severity, although the risk remains in the form of reverse migration. Farm income is improving due to better Rabi output, better yields, normal monsoon and better kharif sowing. Moreover, the recent reforms related to abolition of essential commodities act and sale of Agriculture Produce would help further support the farm incomes in years to come. Improving farm incomes is corroborated by the tractor sales data which indicates a revival in the rural economy. Since rural India is more inclined towards motorcycles, we see share of this segment increasing in 2Ws. Shift in Preference towards Personal mobility over shared mobility Covid-19 should also trigger a shift towards personal mobility, where a section of public transportation users would switch to 2Ws or smaller cars, especially in urban areas. A survey conducted by Hero Motocorp suggests that demand share has increased for personal 2W from people going to work, which clearly indicates a shift towards personal mobility. Also due to intermittent lockdowns still going on in many areas across the country, public transport is disrupted which is further boosting the growth for personal mobility. Competitive intensity to remain high We expect competition in 2Ws to stay high as OEMs will remain aggressive to protect and gain market share amid weak demand. Despite benign commodity price, we expect contraction in margins in FY21E amid subdued demand; likely downtrading would lead to adverse product mix and big cost push, but expect an improvement in FY22E as demand recovers. We expect downtrading happening over the medium term on account of BS-VI price increase, lower incomes and job losses if any. We initiate coverage on Hero MotoCorp with a BUY rating as we believe that the rural revival and down-trading in a rising price scenario works well for its motorcycle sales. We prefer Eicher Motors for its strong franchise, long-term growth potential and a renewed focus on products and initiate with a HOLD rating as we believe that the Company is fairly valued at this juncture. We have a SELL rating on TVS Motor as we believe that the premium valuation is unwarranted owing to lower volume growth and pressure on margins. We upgrade our rating from HOLD to BUY on Bajaj Auto as we expect the Company to fare well in the current environment on the back of its diversified portfolio mix and dual focus on entry and premium segment. Key Financials (Standalone) Market Cap CMP Target Price % Up EPS (Rs) P/E (x) Companies Rating Rs (Crs) (Rs) (Rs) /Down F21E F22E F23E F21E F22E F23E Hero Motocorp Buy 62,742 3,141 3,450 9.8% 137.9 179.0 215.6 22.8 17.6 14.6 Eicher Motors Hold 61,097 2,236 2,400 7.3% 55.2 72.1 88.7 40.5 31.0 25.2 TVS Motors Sell 21,811 459 400 12.8% 10.3 17.1 18.2 55.2 30.5 25.2 Bajaj Auto Buy 88,112 3,045 3,300 8.4% 157.6 179.7 198.7 19.3 16.9 15.3 Source: Company, Axis Securities 1 Story in Charts Exhibit 1: Trend in 2W Industry Volume & Volume Growth Exhibit 2: Domestic 2W Industry mix 100% 25.0 26.6% 26.3% 30.0% 6.0 5.9 5.8 5.7 4.9 4.7 4.4 5.1 4.3 4.2 3.7 4.2 20.9% 15.6 14.8% 20.0% 17.6 19.0 21.2 24.3 26.2 20.0 13.9% 13.5% 80% 28.2 30.6 31.9 33.3 31.6 32.0 6.9% 4.9% 7.3% 7.9% 3.0% 2.9% 10.0% 15.0 60% 0.0% 10.0 40% 78.3 76.5 75.2 73.1 -10.0% 70.8 67.1 69.6 -17.8% 65.0 63.1 62.5 64.2 64.4 -20.5% 5.0 -20.0% 20% 0.0 -30.0% 0% Volume (in millions) LHS % Growth Y-o-Y RHS Motorcycles Scooters Mopeds Source: Company, Axis Securities Exhibit 3: Trend in total 2W market share Exhibit 4: Trend in Domestic Scooter market share 100% 0.6 0.9 1.4 2.0 3.0 100% 3.7 4.0 3.8 3.8 4.3 5.2 6.9 7.1 6.5 8.5 9.2 7.4 6.6 6.3 7.68 14.1 12.8 11.8 13.1 6.1 13.4 14.2 14.2 14.8 13.8 14.4 11.3 11.2 8.2 4.4 5.0 6.3 9.2 11.6 6.9 80% 80% 15.2 15.4 14.9 12.7 14.7 16.4 18.9 24.0 19.4 14.5 18.5 18.3 23.7 26.6 26.0 19.9 26.9 28.6 26.1 27.0 19.2 16.7 16.3 14.1 13.1 60% 19.1 60% 10.7 7.2 17.9 16.3 18.8 11.5 14.2 14.4 11.1 11.5 11.4 9.8 12.0 11.9 40% 40% 55.5 56.9 56.9 56.6 52.8 55.4 54.9 50.1 45.1 42.9 41.3 47.8 48.6 20% 40.3 39.0 36.9 36.6 35.9 35.8 41.6 20% 0% 0% FY12 FY13 FY14 FY15 FY16 FY17 FY18 FY19 FY20 Q1FY21 FY12 FY13 FY14 FY15 FY16 FY17 FY18 FY19 FY20 Q1FY21 Hero Bajaj Honda TVS RE Honda Hero Motocorp TVS Motors Suzuki Others Source: Company, Axis Securities, Exhibit 5: Trend in Domestic Motorcycle market share Exhibit 6: Trend in Economy Segment market share 100% 0.8 1.2 100% 1.9 3.0 4.7 5.9 6.4 5.9 5.9 6.1 5.4 6.2 5.5 5.5 6.2 12.5 12.1 9.0 6.7 7.0 7.3 7.4 6.7 5.7 20.2 17.8 20.6 15.8 7.6 11.8 25.0 15.8 16.4 14.0 9.7 80% 13.8 15.5 13.5 13.9 80% 32.2 28.5 35.2 25.4 24.2 32.5 24.4 20.7 24.9 24.9 35.7 20.0 16.5 17.7 18.0 18.5 60% 15.7 18.7 60% 28.7 40% 40% 59.5 62.4 56.0 53.2 51.8 52.9 52.4 52.0 55.5 53.2 56.5 53.3 55.1 55.8 51.3 51.5 50.7 48.1 20% 20% 44.7 0% 0% FY12 FY13 FY14 FY15 FY16 FY17 FY18 FY19 FY20 Q1FY21 FY12 FY13 FY14 FY15 FY16 FY17 FY18 FY19 FY20 Hero Bajaj Honda TVS RE Hero Bajaj TVS Source: Company, Axis Securities Exhibit 7: Trend in Executive Segment market share Exhibit 8: Trend in Premium Segment market share 100% 0.2 0.7 1.3 0.6 1.1 2.6 2.0 3.0 100% 2.5 1.4 1.6 4.0 3.7 2.2 0.64.0 7.9 5.7 4.3 8.3 5.6 11.0 11.8 10.8 14.5 19.5 16.0 11.1 10.6 20.1 20.2 13.3 21.6 15.6 20.8 23.6 21.8 24.0 14.7 11.1 80% 22.3 80% 11.4 14.1 13.2 14.1 8.8 9.3 19.8 15.3 14.6 13.8 13.8 17.5 11.5 11.7 13.8 14.6 60% 60% 9.5 14.3 9.9 8.5 7.4 8.2 24.7 21.9 25.8 4.5 7.3 16.0 27.7 25.1 40% 40% 11.5 68.7 71.8 69.5 69.4 72.0 71.0 62.6 61.0 66.5 42.2 40.6 20% 20% 36.9 34.5 34.8 37.3 32.9 28.6 32.1 0% 0% FY12 FY13 FY14 FY15 FY16 FY17 FY18 FY19 FY20 FY12 FY13 FY14 FY15 FY16 FY17 FY18 FY19 FY20 Hero Honda Bajaj TVS Bajaj Royal Enfield TVS Honda Yamaha Hero Source: Company, Axis Securities 2 COVID-19 Impact The auto sector had witnessed one of the worst slowdowns of the decade, and the segment is likely to remain under pressure in the very near term if the outbreak persists, though the month-on-month sales numbers are indicating that the worst is behind.