maruti suzuki india sell

Please refer to important disclosures at the end of this report

Market Cap Rs2,260bn/US$42.3bn Year to Mar FY17 FY18E FY19E FY20E

Reuters/Bloomberg MRTI.BO /MSIL IN Revenue (Rs bn) 680.3 796.2 903.4 997.2

Shares Outstanding (mn) 302.1 Net Profit (Rs bn) 73.4 80.5 94.1 105.7

52-week Range (Rs) 9802/3237 EPS (Rs) 243.0 266.7 311.7 350.0

Free Float (%) 43.8 % Chg YoY 36.8 9.8 16.9 12.3

FII (%) 25.8 P/E (x) 37.6 34.2 29.3 26.1

Daily Volume (US$/'000) 76,789 CEPS (Rs) 329.1 357.9 406.9 452.7

Absolute Return 3m (%) (2.5) EV/E (x) 25.4 21.8 19.4 17.6

Absolute Return 12m (%) 49.1 Dividend Yield (%) 0.8 0.9 1.1 1.3

Sensex Return 3m (%) (1.9) RoCE (%) 25.3 26.4 26.6 26.0

Sensex Return 12m (%) 16.3 RoE (%) 24.7 23.0 23.2 22.7

Equity Research April 16, 2018 BSE Sensex: 34193

ICICI Securities Limited is the author and distributor of this report

Automobiles

Target price Rs7,700 Earnings revision

(%) FY19E FY20E Sales ↓ 1.9 ↓ 4.3 EBITDA ↓ 2.0 ↓ 4.4 PAT ↓ 2.1 ↓ 4.8

Target price revision Rs7,700 from Rs8,827 Shareholding pattern

Jun ‘17

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Promoters 56.2 56.2 56.2 Institutional investors 36.8 36.8 36.8 MFs and UTI 6.3 6.0 5.6 FIs/Banks 5.5 5.5 5.4 FIIs 25.0 25.3 25.8 Others 7.0 7.0 7.0

Source: BSE

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Maruti Suzuki India SELL Downgrade from HoldThere’s no such thing as a free lunch! Rs9,138 Reason for report: Company update and recommendation change

Research Analysts:

Nishant Vass [email protected] +91 22 6637 7260

Venil Shah [email protected] +91 22 2277 7649

Success in India’s ever growing passenger vehicle (PV) market remains elusive toglobal giants like Toyota, VW, Ford (together at ~8% market share after decadesof presence). The Korean giant Hyundai’s success (~17% market share) is still anexception in this market and its presence is set to be boosted with entry of KiaMotors in 2019. Signs are clear that global OEMs want a bigger pie of this market,we take a closer look at Toyota & Suzuki’s recent moves from a Japanese lens. Emerging three power centres amongst Japanese OEM’s– new alliances,

different paths: 1) Nissan Motor Co: The 19-year old Renault-Nissan alliance hasled the way, achieving considerable success (scaled to the top globally), bolsteredby the recent addition of Mitsubishi into its fold; 2) Honda Motor Co: It has taken thepath of joining forces with specialized partners to be future-ready (associations withWaymo for autonomous driving, and with Hitachi Automotive for electrifieddrivetrains); 3) Toyota: Historically though not very successful in managingassociations, Toyota has gone ahead with tie-ups with players like Suzuki andMazda albeit in differing ways even as it already has like Daihatsu, Hino in its fold.

Suzuki and Toyota desire a win-win association; a huge test of Indiacommitment: As per the various joint announcements till date between Suzuki andToyota, Suzuki is expected to gain: a) access to Toyota’s electric vehicle (EV)technology without any capital contribution into R&D, and b) license to sell Corolla inIndia. In return, Toyota will benefit from: a) Suzuki’s low-cost manufacturing in Indiaas it will supply it with electric vehicles; and b) license to sell Baleno and Brezza inIndia. The joint statements made together definitely resonate the desire to succeedin this arrangement, but we cannot help perceive that Maruti Suzuki India (MSIL)might have to do heavy lifting to fulfill Suzuki’s end of the bargain.

Looking closer into distribution strength argument vis-à-vis Toyota: The streetbelieves that MSIL’s vast overall distribution network (~2,100 dealers) insulates itfrom any significant volume loss in its sales channel vis-à-vis Toyota Kirloskar (~275dealers. We tried mapping the dealership data on a state and city wise basis for bothToyota Kirloskar and NEXA (as MSIL’s Baleno is sold only via NEXA), and found asignificant locational overlap (>80%) between the two channels. Also, combining thiswith the sales throughput/per dealer data of Toyota and MSIL it becomes evidentthat Toyota dealerships remain on a strong footing in terms of volumes and couldscale up further if MSIL supplies adequate volumes to them.

Visible risks outweigh potential technology gain; cut peak multiples: Balenoand Brezza have been a huge success (together command 11.3% market share) forMSIL and instrumental in improving MSIL’s brand image. We believe the scales arecurrently tilted toward the risk of loss of market share and dominance vis-à-vis futurebenefits of EV technology. We thus cut our multiple to 22x FY20E EPS (earlier 24x).We downgrade the stock to SELL from Hold with a target price of Rs7,700/share.

INDIA

Maruti Suzuki, April 16, 2018 ICICI Securities

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Is Japanese automotive market gravitating towards a ‘Big-3’?

Japan’s automotive industry has remained fragmented for long but increasingly seems to be witnessing a trend of aggregation/collaboration against the backdrop of the industry undergoing severe shakeup. Old ways of building cars and strong sales and service aren’t proving to be enough for the consumers. New areas – such as cleaner powertrains like EVs, autonomous driving, artificial intelligence, and connected cars – are becoming especially important for buyers. Thus, OEMs are being caught in between ‘a rock and a hard place’ in terms of deciding how to address these challenges.

Paths being adopted toward achieving the Japanese OEMs’ long term survival are: a) a few have chosen to independently invest but partner with technology giants to develop proprietary solutions; b) some have chosen to develop partnerships to share investment burden and reduce the learning curve disadvantage; and c) a few have been risk-averse / pragmatic to depend on outsourced technology from a possibly larger/competent entity. All are hoping for a win-win scenario in their respective ecosystems of partnerships and associations.

For us, the big challenge is to be able evaluate the probabilities and timelines of success in such scenarios as all paths are likely to have different success quotient with differing time horizons.

We try to take a closer look each of these three approaches:

Table 1: Global Car makers’ volumes shows intense competition for top spot

(mn units) Sales volumes (mn)

CY12 CY13 CY14 CY15 CY16 CY17 Renault-Nissan-Mitsubishi# 9.10 9.30 9.60 9.50 9.96 10.61 VW 9.20 9.50 9.94 9.75 10.13 10.53 Toyota 9.70 9.80 10.06 9.98 10.01 10.20 GM** 9.30 9.70 9.92 9.84 9.96 9.60 Hyundai-Kia 7.10 7.40 7.70 7.70 7.82 7.27 Ford 5.70 6.30 6.30 6.60 6.66 6.61 Honda 3.80 4.30 4.60 4.70 4.97 5.19 FCA 4.20 4.40 4.40 4.60 4.72 4.74 PSA 3.00 2.80 2.90 2.97 3.15 3.60 Suzuki* 2.60 2.70 2.88 2.90 2.86 3.30 Daimler 1.70 1.80 2.00 2.30 2.54 2.77 BMW 1.80 2.00 2.10 2.20 2.37 2.46 Mazda 1.20 1.30 1.40 1.50 1.55 1.61

Source: Company, Bloomberg, I-Sec research | *includes consolidation of MSIL | **includes GM-SAIC-Wuling |#volumes adjusted for alliance

Nissan Motor Co: Renault-Nissan-Mitsubishi is now a 19-year old Franco-Japanese automotive alliance which has led the way in terms of successful partnerships by scaling the peak of global autos (the alliance had sales of 10.61mn vehicles in 2017 and is also is the world’s largest EV manufacturer). This alliance got boosted in 2016 with the addition of Mitsubishi (Nissan bought 34% stake) into its fold as the latter struggled with the fuel-economy data scandal.


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Chart 1: Renault-Nissan-Mitsubishi Alliance structure

Source: Company, I-Sec research

The alliance has evolved significantly over the years in terms of synergy development and now has strategically agreed on the convergence of four core business functions: a) engineering, b) manufacturing and supply chain management, c) purchasing, and d) human resources. This has led to significant gains (EUR4.3bn) in the first year of implementation and the trend of synergy improvement is expected to increase in the estimate of the alliance.

Be it on the engineering side ranging from co-development of platform architecture system to co-development and sharing of powertrains (~75% of powertrains are shared in the alliance) to common purchasing organisation, this alliance structure sets the strong fundamentals for keeping the win-win feeling amongst all stakeholders.

Honda Motor Co.: The Japanese giant has decided to chart an alternate path toward meeting the seismic challenges in the automotive industry. It has historically ruled out any cross-ownerships / equity holdings in other OEMs; however, it has been steadily partnering with specialists who can bridge its learning gaps and make it future-ready, e.g. associations with Waymo for autonomous driving, Sense Time to develop artificial intelligence, and Hitachi Automotive Systems on electrified drivetrains.

Honda believes in playing to its own strength and to adapt to changes in a more gradual way, not follow the route taken by other fellow Japanese OEM’s. Honda recently also started a technology incubator project named Honda ‘Xcelerator’, which plans to support new technology start-ups around the globe for potential companies that could have expertise in segments like battery technology, materials engineering, robotics, and autonomous vehicles. These start-ups could become an instrumental part of evolution of the winning technology at Honda, thus reducing the need for a concessionary arrangement with another OEM for potential scale benefits.

Table 2: R&D spends showcase the need for smaller OEMs to form alliances R&D (US$ bn) FY14 FY15 FY16 FY17 FY18E Toyota 9.1 9.1 8.8 9.1 9.6 Honda Motor Co 6.3 6.1 6.0 6.4 6.8 Nissan 5.4 4.2 4.0 4.4 4.6 Suzuki 1.3 1.1 1.1 1.2 1.4 Mazda 1.0 1.0 1.0 1.2 1.3 Mitsubishi 0.7 0.6 0.6 0.5 0.9



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Honda, true to its philosophy, is creditably investing significant monies into research & development and overall capital expenditure with the new global trends in mind (refer table below). The benefits seem to be trickling in terms of new products and the more mass-market ‘Urban EV’ retro product could just kick-start its big push into EVs.

Table 3: Gap in capex (incl. product development) between Toyota and others Capex (US$ bn) FY14 FY15 FY16 FY17 FY18E Toyota 10.0 10.7 10.8 11.3 11.6 Honda Motor Co 5.0 5.2 4.8 4.5 3.9 Nissan 5.0 4.6 4.4 4.6 4.7 Suzuki 2.1 1.8 1.4 1.9 2.0 Mazda 1.3 1.2 0.9 0.9 1.1 Mitsubishi 0.7 0.6 0.6 0.5 0.9


Toyota: Toyota is the one of largest global automotive companies and has been long considered amongst the pioneers of the industry, leading with ‘The Toyota Way’ philosophy. However, Toyota had long remained sceptical about the future of pure EVs and was in favour of hybrid technology as well as the potential for hydrogen fuel cells. But the automaker has finally joined the EV race with strong intent with the group president Akio Toyoda putting himself in charge of a new EV Business Planning Department. One of Toyota’s biggest challenges is to figure out the production engineering needed for the mass production of EVs with solid-state batteries at the scale and cost needed for equipping millions of its vehicles in future.

Over the past few years, players like Mazda and Suzuki have slowly started to align towards one of the ‘Big-3’ in Toyota. These budding partnerships/associations could be seen as important supports for such automakers in Japan who feel the going concerns about risk associated with being alone, might be too big to be overlooked anymore. It is interesting to note that Toyota is being more open to alliances even as, by its own admission, it has lagged other larger global peers in managing such partnerships.

Toyota’s association with Mazda

The announcement of alliance between Toyota and Mazda in 2015 was preceded by collaboration between the two companies for more than a year. The collaboration included the licensing of Toyota's hybrid technologies to Mazda and the production of compact cars for Toyota at Mazda's plant in Mexico. Under this earlier agreement, Mazda started to produce a version of its own car Mazda2 for Toyota with minor styling changes, with the vehicle to be sold by Toyota badged under Yaris brand in the Americas.

Initially, the loosely announced relationship started on the broad premise of jointly- developing exciting cars for the future for worldwide customers. Though Mazda sells a fraction of vehicles vis-à-vis Toyota, it has high brand perception of developing exciting cars. Interestingly, the first comments from Toyota’s top management also highlight Mazda’s key strengths as seen in the following comment:

Key comment of Toyota president Mr. Akio Toyoda:

"As evidenced by their SKYACTIV Technologies and KODO – Soul of Motion design, Mazda has proven that it always thinks of what is coming next for vehicles and technology, while still managing to stay true to its basic car making roots. In this way,


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Mazda very much practices what Toyota holds dear: making ever-better cars. I am delighted that our two companies can share the same vision and work together to make cars better. I can think of nothing more wonderful than showing the world – together – that the next 100 years of cars will be just as fun as the first the partnership”

Current state of partnership: The Toyota-Mazda partnership has now evolved into equity participation between them (Toyota took 5% stake while Mazda took 0.25%). Mazda, Denso Corporation, and Toyota formed a new company, called EV Common Architecture Spirit Co. to jointly develop basic structural technologies for electric vehicles across categories. Toyota and Mazda have gone ahead and also announced joint capital investment of US$1.6bn to build a new US plant with capacity of 300,000 vehicles p.a. with both sharing the output equally.

What could be in it for Toyota and Mazda: For Toyota, the deal gives it a position to not only work with Mazda but also possibly study Mazda. Many of Mazda’s competitors have been fascinated by the tiny Japanese rival, its ability to churn out high-quality vehicles on a shoestring budgets and even so at high profitability. Mazda in return gains from the scale benefits of Toyota and its significant R&D investments toward dealing with challenges like electrification.

Table 4: Chronology of the Toyota-Mazda collaboration

Announcement Details

Nov-12 Announcement of collaboration between Toyota and Mazda

Under this agreement Mazda started to produce a version of its own car Mazda2 for Toyota with minor styling changes, with the vehicle to be sold by Toyota badged under Yaris brand in the Americas. The agreement also includes the licensing of Toyota's hybrid technologies to Mazda.

May-15 Toyota and Mazda enter agreement to build a mutually beneficial long term partnership.

By leveraging the resources of both companies to complement and enhance each other's products and technologies, the partnership will result in more appealing cars that meet the diverse needs and tastes of customers all over the world.

Aug-17 Toyota to take 5% stake in Mazda and jointly build a plant in the US.

The companies agreed to: 1) establish a joint venture that produces vehicles in the United States (a US$1.6bn assembly plant); 2) jointly develop technologies for electric vehicles; 3) jointly develop connected-car technology; 4) collaborate on advanced safety technologies; and 5) expand complementary products.

Sep-17 Toyota, Mazda, and Denso form partnership to build EVs.

Toyota will assume a 90% stake and commit to most of the funding, with Mazda and Denso each taking 5%, according to Toyota. Mazda, Toyota, and parts maker Denso have created a new company ‘EV Common Architecture Spirit Co’ to accelerate the production of electric vehicles, expand synergy, and catch up with their rivals in the electric arms race. The new company will bring together budgets and expertise to develop technology for all types of electric cars, including SUVs, sedans, and light trucks.


Toyota’s association with Suzuki

Suzuki has had a long history of past associations with global OEMs like GM and VW both having large equity stakes in the company. These associations for various reasons were not able to achieve the desired results each partner hoped for. The hopes ranged from technology gains for Suzuki to the application of low-cost manufacturing learning (gained in India through MSIL) to VW. It was a difficult position to be in for Suzuki as it had hoped to advance capabilities on new-age technologies from these associations.

Mitsubishi’s entry into the Renault-Nissan alliance in mid-2016 amidst the fuel-economy data scandal could have caused ripple effects amongst the other independent yet relatively smaller sized OEMs. In late 2016, Suzuki and Toyota


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announced their intention to explore a business partnership. Interestingly, Suzuki chairman Mr. Osamu Suzuki disclosed that he himself made the approach to Mr. Shoichiro Toyoda (honorary chairman) to consider exploring ideas of collaboration with Toyota.

Interestingly, early in 2016, Toyota had acquired complete control (raised stake from 51% to 100%) of its small car subsidiary Daihatsu for nearly US$3.0bn and had announced an elaborate plan for Daihatsu to be the small car brand in the emerging markets. Daihatsu competes with Suzuki in Japan in the mini-vehicle segment, and they together control ~63% of the market. Daihatsu now seems most likely to remain away from India as its Suzuki association becomes stronger.

Key comment of Suzuki chairman, Mr. Osamu Suzuki:

"Under the leadership of President Akio Toyoda, Toyota was enthusiastic throughout our discussions regarding partnership, even though such was sought by Suzuki, which was concerned about the development of advanced technologies. I want to express my heartfelt appreciation. In response to Toyota's display of enthusiasm, Suzuki also intensively engaged in the discussions, and we now stand at the starting point for building a concrete cooperative relationship. I want to give this effort our fullest and to aim at producing results that will lead Toyota to conclude that it was the right thing for Toyota to have decided to work together with Suzuki."

Key comment of Toyota president, Mr. Akio Toyoda:

"We received an offer from Suzuki regarding collaboration possibilities on advanced and future technologies such as in information technology. Suzuki made a frank proposal to us, and in understanding that Toyota is facing the challenges which I had mentioned earlier, we thought that with the relationship between both companies, there is an opportunity for a business partnership to help solve such challenges. As such, we decided to explore such possibilities together,"

Current state of the association: If Suzuki’s desire to make the association a win-win for Toyota is not evident enough in the above-mentioned words of its Chairman; the two jointly announced an agreement towards mutual supply of hybrid and other vehicles for the Indian market. Specifically, Suzuki will supply the Baleno and Vitara Brezza vehicle models to Toyota, while Toyota will supply the Corolla vehicle model to Suzuki. These vehicles would be sold in India via the sales channels of their respective domestic subsidiaries. In addition, Suzuki is to produce EVs for the Indian market and will supply some to Toyota, while Toyota is to provide technical support.

What could be in it for Toyota and Suzuki: Toyota has not been able to gain its targeted foothold in India, one of the fastest growing car markets in the world, which is poised to be possibly the 3rd largest car market by 2020. The market with one of the most favourable trends in demographics, premiumisation, consumerism, etc. definitely could be allure enough for a global giant like Toyota. However, not just the market but the scale and cost of manufacturing at which Suzuki operates in India (possibly, ~2.2mn units by FY20) could be extremely useful in overcoming the challenges mass scale production of EVs.

Suzuki on the other hand is the only Japanese car maker (Honda chooses to go alone) that was left alone without a tie-up with any global automotive alliance. Change


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is the only constant and amidst the gigantic changes emerging in the global automotive industry, Suzuki definitely did not want to be left behind. Success of this association remains critical to it and will ensure it remains equally relevant in the future.

Table 5: Chronology of the Toyota-Suzuki partnership

Announcement Details

Oct-16 Exploration of business partnership

Suzuki and Toyota announced that both companies have agreed to start exploring ideas directed toward a business partnership. Mr. Osamu Suzuki, chairman of Suzuki, stated: “Toyota is the industry-leading, and the most reliable company which is actively working on various advanced and future technologies. I am appreciative that Suzuki is able to start discussions with Toyota to explore ideas on a partnership. I first spoke about this possibility with Toyota’s honorary chairman Mr. Shoichiro Toyoda, and am very grateful that the group president Akio Toyoda has also showed an interest. We will proceed with discussions for the future of Suzuki.”

Feb-17 MoU toward business partnership

Confirmation of a memorandum of understanding (MoU) to jointly begin concrete examinations for partnership in areas including environmental, safety and information technologies, as well as mutual supply of products and components. To that end, the two companies are to immediately establish an implementation framework aimed at bringing to realization the points agreed on.

Nov-17

MoU for EV introduction in India

Toyota and Suzuki have concluded a MoU on moving forward in considering a cooperative structure for introducing EVs in the Indian market, circa 2020. Specifically, Suzuki is to produce EVs for the Indian market and will supply some to Toyota, while Toyota is to provide technical support.

Mar-18 Agreement toward Mutual supply of Hybrid and Other Vehicles in India

Toyota and Suzuki have concluded a basic agreement toward the mutual supply of hybrid and other vehicles between the two companies for the Indian market. Specifically, Suzuki will supply the Baleno and Vitara Brezza vehicle models to Toyota, while Toyota will supply the Corolla vehicle model to Suzuki. For the vehicle models covered by the basic agreement, the two companies will enhance their efforts to procure components locally to the extent possible. The two companies will continue to explore other collaborative projects also.


MSIL’s role critical for the Suzuki-Toyota win-win deal

The association between Suzuki and Toyota should be looked in light of the failures of past partnerships Suzuki faced and the difficulties Toyota has endured to gain a meaningful share in India, one of the fastest growing automotive markets. As mentioned above, we can clearly see the rationale behind the association for the Japanese companies and believe it could turn out to be a win-win for both.

However, a key question in our mind is the role MSIL might need to play for the success of this win-win arrangement.

We believe MSIL might need to take up the mythical role of ‘Atlas’ and hold aloft this deal and make it a win-win as it battles a buoyant Toyota Kirloskar augmented by its very own popular products Baleno and Brezza.

Taking a closer look at the distribution strength argument

The sell side consensus believes that MSIL’s vast overall distribution network (~2,100 dealers) insulates it from any significant volume loss in its sales channel vis-à-vis Toyota Kirloskar (~275 dealers*).


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We tried mapping the publicly available dealership data on a state and city wise basis for both Toyota Kirloskar and MSIL’s NEXA* (~259 current dealers as per MSIL’s website) as Baleno is sold only via this channel. The mapping was done with the underlying objective of establishing clear one-to-one associations between NEXA and Toyota Kirloskar operating cities. This as per us could provide a possible assessment on the end sales point demand shift risk MSIL could face. We also looked at dealer throughput across both these players to evaluate Toyota Kirloskar’s existing capabilities of sales vis-à-vis an MSIL dealer.

Table 6: Toyota-MSIL dealer analysis showcases relatively higher profitability for Toyota dealers

Channel

Number of dealerships**

Units sold/month#

Units sold/ month/dealer

Annualized units sales/dealer

MSIL

NEXA 259 27,201 105 1,260 Baleno 259 15,839 61 734

Regular 1,841 110,591 60 721 Vitara Brezza 1,841 12,301 7 80

Toyota Kirloskar

Total 275 11,720 43 511 Innova Crysta 275 6,108 22 267 Fortuner 275 2,040 7 89

Source: Company, I-Sec research | ** Nexa dealerships as per current data on company’s website

Table 7: High overlap of NEXA/Toyota dealerships contrasts popular opinion

State

Toyota Maruti Suzuki NEXA % of

Overlap Number of dealers*

Number of Cities

Number of dealers

Number of Cities

1 Andhra Pradesh 15 14 9 7 100% 2 Assam 5 5 5 3 60% 3 Bihar 4 3 3 2 67% 4 Chandigarh 2 1 3 1 100% 5 Chhattisgarh 2 2 3 2 100% 6 Delhi 8 1 14 1 100% 7 Goa 3 3 2 1 100% 8 Gujarat 18 14 28 16 75% 9 Haryana 16 17 21 16 86% 10 Himachal Pradesh 5 5 2 2 100% 11 Jammu & Kashmir 2 3 0 0 NA 12 Jharkhand 6 3 7 4 86% 13 Karnataka 23 14 21 8 95% 14 Kerala 25 20 10 8 100% 15 Madhya Pradesh 8 9 10 6 100% 16 Maharashtra 29 20 34 17 82% 17 Meghalaya 1 1 0 0 NA 18 Nagaland 1 1 0 0 NA 19 Odisha 6 5 6 4 100% 20 Punjab 15 14 11 9 82% 21 Rajasthan 15 13 14 9 93% 22 Sikkim 2 1 0 0 NA 23 Tamil Nadu 25 23 17 8 100% 24 Telangana 7 3 11 3 82% 25 Tripura 1 1 0 0 NA 26 Uttar Pradesh 22 18 16 12 88% 27 Uttaranchal 3 3 5 4 80% 28 West Bengal 6 4 7 3 86% Total 275 221 259 146 88%


Key observations:

Analysing the dealership data between the NEXA and Toyota channels as per our process led us to the output of overlapping in excess of 80%.

On an average a per dealership basis, NEXA channel has a significantly higher throughput vis-à-vis its conventional MSIL dealership. Annualizing the current data, each NEXA dealer on an average sells >1,250 vehicles on an annual basis while the conventional MSIL dealer sells >700 vehicles. Though the difference in


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average dealership volumes is >1.7x, the store revenue difference could be even higher considering more premium priced cars are sold via NEXA, thus aiding dealer profitability.

On the compact hatchback Baleno model sold via NEXA channel, the throughput per dealership is the highest across models for MSIL. It currently stands at close to >700 units on an annualized basis, which is equivalent to the total of conventional MSIL channel.

On the compact SUV Vitara Brezza model sold via the conventional channel, the average throughput is significantly lower at >80 units on annualized basis per dealership.

On the Toyota Kirloskar dealerships, the annualized throughput remains >500 units per dealership, which is close to the MSIL regular channel throughput at >700.

Another interesting observation is that Toyota dealerships’ SUV portfolio sales (Innova and Fortuner models) are >4.0x times MSIL’s Brezza on a per dealership basis.

Considering the significantly higher average transaction prices at dealerships of Toyota Kirloskar vis-à-vis MSIL’s regular channel coupled with the former’s strong channel throughput, we believe dealer turnovers could be comparable between both.

Table 8: Quarterly trend of model-wise market share showcases strong acceptance for Baleno/Brezza Models Q1FY16 Q2FY16 Q3FY16 Q4FY16 Q1FY17 Q2FY17 Q3FY17 Q4FY17 Q1FY18 Q2FY18 Q3FY18 Alto 10.7 10.4 9.7 9.6 8.0 9.2 8.4 8.1 8.9 8.4 8.5 Dzire 8.5 8.2 7.2 6.3 5.8 5.9 5.8 5.8 4.4 8.1 7.2 Dzire Tour 1.3 1.5 1.5 1.5 1.2 1.3 1.1 0.9 0.1 1.3 1.4 Celerio 3.3 3.9 3.1 3.1 3.3 2.9 3.7 3.7 3.1 3.0 3.6 Swift 8.7 8.5 6.4 6.5 5.7 5.8 6.2 5.6 7.3 4.7 4.7 Baleno - - 3.5 3.1 4.1 3.8 4.4 4.6 6.0 6.2 6.3 Ciaz 2.2 1.7 2.1 2.4 2.1 2.4 2.2 2.3 2.3 2.2 1.4 Wagon R 6.5 7.1 6.3 6.1 6.2 6.2 6.3 5.4 6.2 5.3 5.2 Ignis - - - - - - - 1.9 1.8 1.5 1.1 Ritz 0.8 0.7 0.5 0.8 1.4 1.2 0.0 - - - - Gypsy 0.1 0.1 0.4 0.1 0.1 0.1 0.1 0.1 0.3 0.2 0.3 S-Cross - 1.5 1.0 1.1 0.7 0.6 0.8 0.8 0.8 0.4 1.6 Vitara Brezza - - - 0.8 3.3 3.9 4.0 3.8 4.6 5.0 5.0 Ertiga 2.5 1.7 2.5 2.5 1.9 2.4 2.3 2.2 2.7 2.3 1.8 MSIL (ex-van) 44.5 45.4 44.2 43.9 43.8 45.7 45.4 45.3 48.5 48.4 48.1 Source: SIAM, Company, I-Sec research

Baleno and Brezza models have been huge success products (together reached 11.3% market share since launch) for MSIL. The table above highlights the stellar contribution of these products in increasing MSIL’s passenger vehicles segment (ex-vans) as most of its other models have lost market share. The impact of Baleno and Brezza has not just been on volumes, but has also been instrumental in breaking the glass ceiling of brand perception of ‘not just a small car manufacturer’ for amongst MSIL’s loyal consumers. Toyota Kirloskar on the other hand does not a face a similar branding issue and customers also have strong brand loyalty for popular Toyota products, e.g. Innova Crysta.

Overall, looking at the throughput data and overlap between NEXA and Toyota Kirloskar regions, we believe if MSIL supplies enough volumes (Baleno and Brezza), the Toyota Kirloskar dealerships could be successful in handling enough throughput to cause a negative impact on MSIL’s overall market share.


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Evaluating possibility of Suzuki becoming one of Toyota’s own

We have had heard investors opinions on possibilities of this current Suzuki Toyota deal turning into a possible long term equity exchange between Toyota and Suzuki. Possibly even leading towards an ownership change in India thereby could be beneficial for MSIL’s shareholders. We tried to evaluate the possibility of the same from a market dominance perspective.

Chart 2: Japan car market continues to be dominated by the mini/small segment

Standard35%

Small32%

Mini33%

Japan Passenger Cars (% share) 2017

Source: JAPA, Company, I-Sec research

Toyota group companies already dominate the Japanese auto market. In 2017, Toyota, together with Daihatsu, held ~ 43% share. Adding Subaru, where Toyota holds a 16.5% stake via Hino, the combined market share goes up to ~46%. Suzuki holds ~12% market share. Thus, any collaboration which starts to turn into significant equity ownership could fail the test of market dominance, possibly construed as anti-competitive. Thus, going by the current market structure, it would seem that a major change of the existing relationship between Toyota and Suzuki from an equity/ownership perspective seems considerably unlikely.

Table 9: Higher share for “Toyota alliance OEMs” … 2017 passenger cars (% share) Standard Small Mini Total Toyota 42.3 52.8 1.5 32.2 Daihatsu 0.0 2.0 31.9 11.1 Subaru 9.0 0.3 1.5 3.8 Suzuki 0.6 7.2 28.5 11.9 Mazda 6.9 3.5 2.1 4.2 Honda 8.6 17.8 21.8 15.9 Mitsubishi 1.5 0.8 3.0 1.8 Nissan 10.1 13.6 9.8 11.1 Lexus 2.9 0.0 0.0 1.0 Others 18.0 2.0 0.0 7.0 Total 100.0 100.0 100.0 100.0



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Chart 3: …could be viewed as anti-competitive by the Anti-monopoly Act

Toyota32%

Lexus1%

Daihatsu11%

Subaru4%

Mazda4%

Suzuki12%

Honda16%

Nissan11%

Mitsubishi2%

Others7%



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Outlook and valuations

Risks outweigh potential future technology benefits; cut peak multiples: Baleno and Brezza have been huge success products (together reached 11.3% market share since launch) for MSIL not just on volumes, but also brand perception amongst consumers. The lack of significant data on the details of the product sharing agreement between Suzuki and Toyota constrain us from correctly assessing the financial implications. However, on a conservative basis reduced our estimates for both Baleno and Brezza for FY19E/FY20E by~1%/ ~3% respectively.

However, assessing the risk of market share loss and reduction of brand dominance for MSIL compared with the potential EV technology adoption and success in India, we believe that risks are higher on the downside. We cut our target valuation multiple to 22x FY20E EPS (earlier 24x). We downgrade the stock to SELL from Hold with target price of Rs7,700/share.

Table 10: MSIL standing tall amongst huge global peers on market cap basis

MCap

(US$ bn) FCF

(US$ bn) Gross

Margin (%) Operating

Margin (%) RoE (%)

2-yr fwd P/E (x)

2-yr fwd EV/EBITDA (x)

Toyota 210 20 17.6 7.2 13.2 9.8 12.1 VW 108 (16) 18.4 4.8 12.7 6.3 1.8 Daimler 86 (10) 20.9 8.2 17.3 6.9 2.4 BMW 72 (2) 20.2 10.0 17.0 7.9 6.4 Honda 63 4 22.4 6.0 13.6 9.3 8.2 GM 55 9 21.1 6.9 (9.8) 6.2 2.8 Ford 46 11 10.4 3.1 23.7 7.5 2.9 Nissan 44 8 19.6 6.3 16.9 7.6 3.7 Maruti 42 1.2 29.9 14.7 23.0 26.1 17.6 FCA 35 2 15.3 6.9 17.5 5.6 2.3 Renault 34 4 20.9 6.7 16.0 5.8 3.5 Hyundai 31 1 18.2 4.8 4.6 7.7 8.7 Suzuki* 27 2 28.6 8.4 15.9 12.0 5.1 PSA 23 3 18.6 4.7 14.2 7.3 2.0 Kia 12 1 16.7 1.2 3.6 5.6 2.9 Mitsubishi 11 - 17.1 0.3 11.9 11.8 4.0 Mazda 9 1 23.8 3.9 9.1 8.5 3.9 Source: I-Sec research, Bloomberg | *includes consolidation of MSIL

Table 11: MSIL’s trends in industry segment and expectations FY15 FY16 FY17E FY18E FY19E FY20E

Mini 425,742 432,977 428,682 470,342 530,011 585,232 Compact 306,347 346,012 402,883 463,005 509,443 552,384 Super Compact 208,291 234,242 199,878 234,271 248,549 266,090 Mid-size 33,151 54,233 64,448 61,633 68,305 75,704 UVs 68,198 94,415 195,741 259,080 292,271 320,805 Vans 128,973 143,471 152,909 165,170 172,405 178,303 Domestic 1,170,702 1,305,350 1,444,541 1,653,500 1,820,984 1,978,519 Exports 121,713 123,897 124,062 126,074 136,160 147,053 Total 1,292,415 1,429,247 1,568,603 1,779,574 1,957,144 2,125,572

Source: Industry data, I-Sec research


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Table 12: Estimate revision (Rs bn, year ending March 31)

FY18E FY19E FY20E

Previous New Chg (%)



Sales 777.9 796.2 2.4 921.1 903.4 (1.9) 1,041.8 997.2 (4.3) EBITDA 120.1 122.7 2.2 142.3 139.5 (2.0) 162.4 155.2 (4.4) PAT 77.3 80.5 4.2 96.2 94.1 (2.1) 111.1 105.7 (4.8) EPS (Rs) 256.0 266.7 4.2 318.4 311.7 (2.1) 367.8 350.0 (4.8)

Source: Company data, I-Sec research

Chart 4: 2-year rolling forward P/E

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Source: I-Sec research, Bloomberg

Chart 5: 2-year rolling forward EV/EBITDA

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Source: I-Sec research, Bloomberg


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Financial summary (standalone)

Table 13: Profit and Loss statement (Rs mn, year ending March 31)

FY17 FY18E FY19E FY20E Total Op. Income (Sales) 680,348 796,198 903,388 997,164 Operating Expenses 576,818 673,453 763,907 841,935 EBITDA 103,530 122,745 139,481 155,229 % margins 15.2% 15.4% 15.4% 15.6% Depreciation & Amortisation 26,021 27,541 28,747 31,004 EBIT 77,509 95,204 110,734 124,226 Other Income 22,798 20,410 25,738 27,997 Gross Interest 894 895 3,869 3,869 PBT 99,413 114,719 132,603 148,354 Less: Taxes 26,036 34,186 38,455 42,652 Less: Extraordinaries 0 0 0 0 Net Income (Reported) 73,377 80,533 94,148 105,703 Net Income (Adjusted) 73,377 80,533 94,148 105,703 Source: Company data, I-Sec research

Table 14: Balance sheet (Rs mn, year ending March 31)

FY17 FY18E FY19E FY20E ASSETS Current Assets 74,200 94,493 103,130 111,131

Cash & cash eqv. 131 7,917 5,633 3,683 Current Liabilities & Provisions 158,149 183,999 210,475 238,052 Net Current Assets (83,949) (89,506) (107,346) (126,921)

Investments 262,857 307,357 367,857 441,857 Net Fixed Assets 142,439 154,898 171,151 180,148

Capital Work-in-Progress 10,069 10,069 10,069 10,069 Long term loans & advances 13,497 13,497 13,497 13,497 Other non-cuurent asset 90 90 90 90 Total Assets 334,934 386,336 445,249 508,671 LIABILITIES Borrowings 4,836 4,836 4,836 4,836

long-term borrowings 0 0 0 0 short-term borrowings 4,836 4,836 4,836 4,836

Deferred Tax Liability 4,741 4,741 4,741 4,741 Other Non-current Liabilities 1,224 1,224 1,224 1,224 Equity Share Capital 1,510 1,510 1,510 1,510 Reserves & Surplus 322,623 374,025 432,938 496,360 Net Worth 324,133 375,535 434,448 497,870 Total Liabilities 334,934 386,336 445,249 508,671 Source: Company data, I-Sec research

Table 15: 5-stage Du-Pont (Rs mn, year ending March 31) All figures in % FY17 FY18E FY19E FY20E Tax Burden (Adj. PAT/PBT) 73.8 70.2 71.0 71.3 Interest Burden (PBT/EBIT) 128.3 120.5 119.7 119.4 EBIT Margin (EBIT/Sales) 11.5 12.1 12.5 12.7 Asset Turnover (Sales/Total Assets) 220.0 218.1 212.8 204.8 Financial Leverage (Total Assets/Equity) 103.0 103.1 102.7 102.3 ROE 24.7 23.0 23.2 22.7 Source: Company data, I-Sec research

Table 16: Cashflow statement (Rs mn, year ending March 31) FY17 FY18E FY19E FY20E Cash flow before working capital changes 95,622 103,794 117,861 130,665 Working Capital Changes 31,308 13,343 15,556 17,625 Operating Cash Flow 126,930 117,137 133,416 148,290 Capital Commitments (30,713) (40,000) (45,000) (40,000) Free Cash Flow 96,217 77,137 88,416 108,290 Cash flow from Investing Activities (115,713) (84,500) (105,500) (114,000) Issue of Share Capital - - - - Inc/(Dec) in Borrowings 4,062 - - - Dividend paid (22,650) (25,670) (30,200) (36,240) Others - - - - Cash flow from Financing Activities (18,588) (25,670) (30,200) (36,240) Net Cash Flow (7,371) 6,967 (2,284) (1,950) Closing Cash & Bank balance 949 7,917 5,633 3,683 Source: Company data, I-Sec research

Table 17: Key ratios (Year ending March 31) FY17 FY18E FY19E FY20E Per Share Data (in Rs.) EPS (Basic) 243.0 266.7 311.7 350.0 EPS (Adjusted) 243.0 266.7 311.7 350.0 Cash EPS 329.1 357.9 406.9 452.7 Dividend per share (DPS) 75.0 85.0 100.0 120.0 BVPS (Adjusted) 1,072.2 1,243.5 1,438.6 1,648.6 Growth Ratios (%) Total Op. Income (Sales) 18.2 17.0 13.5 10.4 EBITDA 16.5 18.6 13.6 11.3 Net Income (Adjusted) 36.8 9.8 16.9 12.3 EPS (Adjusted) 36.8 9.8 16.9 12.3 Cash EPS 21.5 8.7 13.7 11.2 BVPS (Adjusted) 19.9 16.0 15.7 14.6 Valuation Ratios (x) P/E (Adjusted) 37.6 34.2 29.3 26.1 P/BV (Adjusted) 8.5 7.3 6.3 5.5 EV/EBITDA 25.4 21.8 19.4 17.6 EV/Sales 3.9 3.4 3.1 2.8 Return/Profitability Ratio (%) EBITDA Margin 15.2 15.4 15.4 15.6 Net Income Margin (Adjusted) 10.9 10.2 10.6 10.8 RoCE 25.3 26.4 26.6 26.0 RoNW 24.7 23.0 23.2 22.7 Dividend Payout Ratio 30.9 31.9 32.1 34.3 Dividend Yield 0.8 0.9 1.1 1.3 Solvency/Wkg. Cap. Ratios (x) Net D/E (37.3) (22.4) (11.8) (4.7) Debt/EBITDA 4.7 3.9 3.5 3.1 EBIT/Interest 86.7 106.4 28.6 32.1 Current Ratio 0.5 0.5 0.5 0.5 Quick Ratio 0.5 0.5 0.5 0.5 Inventory (days) 27 27 27 27 Receivables (days) 8 8 8 8 Payables (days) 61 61 61 61 Source: Company data, I-Sec research


15

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New I-Sec investment ratings (all ratings based on absolute return; All ratings and target price refers to 12-month performance horizon, unless mentioned otherwise)

BUY: >15% return; ADD: 5% to 15% return; HOLD: Negative 5% to Positive 5% return; REDUCE: Negative 5% to Negative 15% return; SELL: < negative 15% return

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