Better freight rates, lower debt may drive up Ashok Leyland
Truck maker Ashok Leyland’s stock has surged 45 per cent over the last month bringing cheer to investors.
Historically, the average return of the stock has been 346 per cent during the last five commercial vehicle downturns especially when bought at the trough of this cycle. Returns on this stock were as high as 523 per cent in the period between November 2000 and January 2004.
In the current cycle, early signs of a bottoming-out of truck freight rates and ongoing efforts at de-leveraging the balance-sheet are positives for the country’s second-largest commercial vehicle maker. The revival in truck freight rates has provided the much needed impetus to factor-in the volume growth. Volume growth for the company is likely to rise by 5 per cent in FY15 and 25 per cent in FY16; a significant boost to earnings, given that volumes declined by 20 per cent on a year-on-year basis in the last two financial years.
After remaining either flat or negative for almost 18 months, truck freight rates rose by about 3-4 per cent every month during the last quarter. The direction of freight rate influences any decision on buying new vehicles as profitability of truck operators hinges on this. The utilisation of truck operators was up 70 per cent in March 2013 from 50-60 per cent in 2013.
Historically, when utilisation levels have topped 75-80 per cent, there has been a pick up in sales of new vehicles. The first visible impact of an up-trend in truck freight rates will be seen in a compression of the average discount level in the heavy commercial vehicles industry. Companies are offering an all time high discount level of Rs 1.6-1.7 lakh per vehicle.
Ashok Leyland and Tata Motors reported an operating level loss for domestic operations in the quarter to December 2013. The current downturn in the truck segment has continued for almost 24 months, the longest slowdown in the last two decades. The company's bet on growth in the CV sector went awry after it continued with its investment in building new capacity, despite the continued slide in sales volume.
Ashok Leyland invested Rs 2,400 crore in capital expenditure between FY10 and FY13 and plans to invest Rs 500-700 crore in FY14. Lower earnings on declining volumes, high working capital, and unabated capital expenditure led to elevated debt levels. Its debt at the end of December 2013 was Rs 5,400 crore compared to Rs 2,509 crore in FY09.
The company has been paying an average interest of Rs 100 crore in the last six quarters. The management has been taking several steps to de-leverage its balance sheet, which is gradually paying-off. It plans to sell several noncore assets to lower its debt burden. It sold half of the holdings in IndusInd Bank for Rs 250 crore in March 2014 If volume growth remains over 20 per cent in FY16, it can start pruning its debt. In the past too, it has proved its ability to cut debt with just core earnings.