Attractive Divident Yield & Valuations – Indus Motors (INDU)

Research by - KASB Securities & Economics

Upgrade to Buy with new PO of PRs1,140

We lift Indus Motor Company (INDU) to Buy from Neutral on improved volume outlook, valuation and relative underperformance in past 1-month. We raise our earnings estimates for FY16E/17E by 7%/16% to PRs135.9/135.5 as we revise up our earlier conservative demand outlook in the backdrop of recent sharp cut in local oil prices, low interest rate encouraging consumer financing, and general improvement in buying sentiment. Our revised DCF-based PO of PRs1,140 (-3% from earlier as we increase capex to ~PRs1bn each in FY16-18E) offers 21% upside at current levels. The stock trades at FY16E P/E of 6.9x, offering an attractive FY16E/17E D/Y of 9.3%/9.0%. Despite strong 1HFY16 result, the stock price underperformance (-9.3% relative to index in past 1-month) is reflective of the recent gains in Yen/USD parity (~6% in past 1-month), a twist from earlier expectations of Yen weakness against USD supported by Japanese economic reforms in past two years. We believe stock provides good entry point ahead of year-end (June) results and dividend excitement.

Three key reasons for liking

(1) Volume likely to remain robust in near term …despite weak agri income:Planned model changes in Hilux and minor changes in Corolla model in coming months likely to keep interest alive and could protract the natural decline in interest in new Corolla. We lift our total sales volume assumption by 3% (~1900units) to 60,166 units in FY16E and assume 3.7% YoY decline in FY17E mainly as Corolla sales normalize. Overall, near term demand outlook remains strong owing to reduction in oil prices, increase in development projects/growth, and increase in feel-good factor.

(2) Improved ability to maintain margins: We expect the company will manage to maintain its gross margins in FY17E close to 17% (17.4% in FY16E) despite unfavorable recent currency movement. Given improving demand scenario, pricing power of the auto assemblers in general and INDU in particular has improved. INDU fares better in this case than PSMC (caters to economy and small-low segment) as buyers of medium-high segment are relatively less sensitive to price increase. This is also evident from the swift pass-on of recent increase in taxes/import duty to end prices in Dec-15, resulting in 0.8-1% jump in prices for the flagship model, Corolla. We have incorporated ~1% price increase in Jul-16 to pass-on some of the impact of adverse JPY/USD parity. Our earnings estimate incorporates Yen at current levels (113/USD) for FY17 period average.

(3) Attractive D/Y: INDU remains a key dividend play amongst auto assemblers, offering sector-highest D/Y of 9.3% in FY16E (90bp above 10-yr PIB yield). While the management did not share its capex targets for next two to three years, we have incorporated PRs1-2bn in FY16-17E for the planned Hilux model upgrades and cosmetic changes in Corolla. Cash position remains sound, at PRs22.96bn (equivalent to PRs8.2bn ex-advances) as of 1QFY16.

Risk factors: Pre-budgetary concerns and auto policy inertia

We flag that possibility of limited near term stock price action persists due to sector headwinds.

These include

1. concerns on any budgetary impact on auto sector (budget due in beginning of June)
2. regulatory uncertainty prevails as there is no development with regards to approval of revised auto policy and
3. in case tremors from adverse Yen movement continue to be felt.