AKD Securities Limited – INDU: Auto financing to improve earnings

Karachi, May 12, 2015 (PPI-OT): Pakistan Auto Sector remained one of the top performer at the KSE-100 Index in CY15TD where it posted a return of 23% against market’s return of 1.2%, outpacing it by 22.2%. Similar has been the trend of the AKD Universe where with return of 23% in the aforementioned period, Auto Sector reigned supreme, beating AKD Universe’s return of 0.8%.

AKD Securities Limited sights 281%YoY/60%QoQ earnings growth of AKD Auto Universe, backed by 7% GMs expansion as the chief propellant behind aforesaid price performance. Within Pakistan Auto space, INDU with 177%YoY/63%QoQ earnings growth posted its highest ever NPAT of PkR3.27bn.

Going forward, the key concern in the minds of the investors remain whether INDU can improve upon its 3QFY15 performance or not. In this regard, with expected 156%YoY improvement in 4QFY15 sales on the back of pre-booking of its Corolla variant coupled with better margins (expected at 17% vs. 9% in 4QFY14) AKD Securities Limited believes the stage is set for INDU to punch in yet another all-time high return.

Adjusting for improved margins and robust volumetric growth, AKD Securities Limited raises AKD Securities Limited’s earnings estimates for INDU by 1.1%-1.2% across FY16F-FY17F while at the same time upgrade AKD Securities Limited’s Dec’15 TP by 7% to PkR1,242/share, Accumulate!

9MFY15 Result Highlights: The company posted NPAT of PkR 6.42bn (EPS: PKR 81.70) during 9MFY15, up 177% YoY compared to PKR 2.32bn (EPS: PKR 29.53) reported during 9MFY14. Growth is mainly driven by: 1) increase in top-line by 55%YoY and 2) improved gross margins (by 8%YoY) on back of depreciating JPY against USD and PKR.

On sequential basis, the company experienced NPAT growth of +63%QoQ to PKR 3.3bn (EPS: PKR 41.72). While 4QFY15 order book is strong, the company expects demand to taper off in FY16 as new model euphoria subsides. Besides that, presently it seems unlikely that the company has any plans of capacity expansion.

Volumes to grow: With DR at a decade low, revival of auto financing and launch of new Corolla variant is expected to deliver a 4 year revenue CAGR of 10% for INDU that would raise capacity utilization to 100% by FY19F (last achieved in FY12).

This is underpinned by buoyant auto financing where outstanding auto finance loans were recorded at PkR76bn at Mar’15, up by 23%YoY and at their highest level in 5yrs. Going forward, volumetric growth is expected to remain strong for the auto industry in general and INDU in particular on account of: 1) orders in hand, 2) agricultural income cycle.

In this regard, AKD Securities Limited have increased AKD Securities Limited’s volumetric growth assumptions to 5% per annum (previously 3.5%) which is still conservative when pitted against avg. annual volumetric growth of ~22% posted in the previous economic bull cycle (FY06-08). Also, the current GMs of 17% are unlikely to sustain in the medium to long run.

That said, AKD Securities Limited estimates the company’s GMs to hover around 11.5% mark on avg. for the next 3-years. Recall, similar margins were last seen in economic boom cycle (FY06-08). That said, any adverse movement in steel prices and/or USD/JPY would reflect negatively on AKD Securities Limited’s GMs estimations for INDU.

Investment Perspective: INDU has gained 29%CYTD, outperforming the broader market by 28% in the process, to trade at a FY15F P/E of 11.7x and FY16F P/E of 10.52x. Going by AKD Securities Limited’s projected 20% NPAT CAGR across FY14-FY19F, AKD Securities Limited believes the stock can sustain higher valuation multiples. AKD Securities Limited’s revised target price of PkR1,242/share implies an Accumulate stance. Key risks to thesis include any adverse currency/steel price movements and any negative surprises in the upcoming auto policy.