Hero Honda says volumes will offset higher spend

Hero Honda Motors on Thursday brushed aside analysts’ concerns on increased marketing and research & development spends this year, saying that if healthy volume growth continues and commodity prices soften further, these expenses will be easily offset.

The company has earmarked Rs100 crore as marketing spend, about a percent of topline on R&D and another 2.1% of topline as advertising spend.

Its capex for the fiscal stands at Rs900 crore, of which Rs500-550 crore is earmarked for a new manufacturing facility of 7.5 lakh units a year.

Speaking to DNA, chief financial officer Ravi Sud, said, “If we continue to grow at 12-15%, in line with industry, this will offset the expenses on marketing and R&D.” He said that Hero Honda’s year-on-year domestic volume growth was 23% against anywhere between 2.5% and 10% for competition; so the company has little to worry about on volumes. Hero Honda has forecast the two-wheeler industry growth at 15% this fiscal against 25% compounded annual growth rate for the last two years.

Admitting that margins have been under pressure for the last five quarters, Sud said that prices of commodities such as aluminium, steel and rubber had fallen and margins should improve going forward. But he declined to provide any guidance for the fiscal.
Margins have dropped from about 14% in the first quarter of fiscal 2011 to 11.2 % (on a comparable basis, after adjusting for royalty payments) in the last quarter.

Morgan Stanley’s Binay Singh and Shreya Gaunekar say though Hero Honda shares are fully priced in near-term earnings growth, they are not discounting long-term risks from Honda’s exit. Singh and Gaunekar also said that Bajaj Auto is launching an “attractively priced 150cc Boxer bike in August. Thus, it could take some market share back from Hero Honda”. They expect margins to improve from 11.4% in F1Q12 to 12.1% for full year, “but branding and R&D costs will likely keep the quarterly run rate volatile”.

Aditya Makharia and Ritesh Gupta of JP Morgan also point towards increased competition from Honda Motorcycle & Scooter India (HMSI) and maintain their ‘underweight’ rating on the stock.
But UBS Investment Research appears positive on Hero Honda’s prospects, pointing towards continued strong rural demand and unchallenged dominance in the 100cc space. During the March quarter, Hero Honda’s rural market share crossed 45%. Overall inventory levels are less than two weeks, against the norm of about three weeks.

Also, the company is not offering any discounts unlike competition which has started offering attractive interest rates or discounts on some products. In fact, Hero Honda took a price hike of Rs500-750 per bike at the end of June.

An analyst with PINC Research says that Hero Honda is currently looking at volumes and not profitability but that’s not the case with Bajaj Auto.

“Hero Honda was always known for premium pricing as compared to Bajaj. But the price differential between two companies has come down now. With commodity prices increasing, there is a huge pressure on company’s margins…The company is not taking required price increases in order to maintain its volume.”