Auto Ancillary Stocks

Stock Opportunities
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My hypothesis -

a) Given the number of new cars being sold (Maruti Alto alone sells 33000 cars a month) and

b) Given the uptake in the Used Car market I see around me (and in general, across IT companies and Tier I cities (just check Sulekha.com for the number of ads of used cars for a pointer))

I feel that the Auto Ancillary market in India is just taking off.

I have no particular idea on which stock to invest in, but on a macro basis, the hypothesis feels right (feel free to squash this idea).

At a very high level, the auto ancillary market is divided into

a) Engine Parts

b) Electrical Parts

c) Drive and Transmission steering parts

d) Suspension and Braking parts

e) Other equipment parts.

The major companies in this market as of today are -

  1. Bosch

  2. Motherson Sumi

  3. Amtek Auto

  4. Amtek India

  5. Sundaram Clayton

  6. Exide Industries and

  7. Amara Raja batteries.

A query to the group is - Given the potential in the foreseeable future for Auto Ancillary parts, which of these companies (or other companies that I might have missed) are well positioned to take advantage of the demand? Which of these companies have a good track record? Is there any value buy at these levels?

Thoughts?

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Thanks Kiran for bringing up this discussion. Auto Ancilliary stories of any appreciable scale are all probably well discovered:)

There is one story that’s not that well discovered/appreciated. Please read up on Suprajit Engineering and the tremendous dominance it has over the automotive cables niche.

There is value in Amara Raja if you compare with Exide valuations. However, RM volatility is a big overhang there and Exide has a tremendous edge because of captive lead mines that supply upto 45% of RM, reportedly going upto 70% with expanded capacities at its smelters. Doesn’t look like Amara Raja can play catch up with the leader in any hurry. Good to examine if the disparity in valuations will remain or narrow.

ZF Steering is one story not on your list. I have always heard good things about it, but valuations may be rich…never studied it at length though.

Enough, to make some starts:)

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Suprajit Engineering is a very interesting stock. I am researching on this stock in depth. Thanks for bringing it to my notice. (Leader in automotive cables - hmm, that must be something). I’ll probably visit their plant too as I am in Bangalore now :slight_smile:

I will probably post something on ZF Steering this week - valuations are rich, but we can always have it on our radar if some meltdown happens :slight_smile:

Exide and Amara raja - I think I missed this bus 3 years ago :slight_smile: I’ll probably get into them whenever a correction happens :slight_smile: [I am banking too much on a correction, ain’t I?]

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Hi Kiran,

Why do you feel ZF steering’s valuations are rich ?? It may not be outright cheap as it was a year back or so but there is definitely value in there. In this market you are getting a company with 30-40% ROCE for around 8 P/E & div yield of 2.5% . I don’t think you can say that is rich as such & can still be bought if you have a long term horizon. A lot depends on the coming quarters though. If the company delivers there can be rerating in this counter.

:)) :)) :)) :))

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I agree with Siddharth here

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Hi Siddharth,

I analyzed the company over the past couple of days and I agree with you.

However, I have a few concerns.

Just a brief analysis first -

What I liked about the company:

1). Cash and equivalents are almost Rs. 95/sh, which is close to 25% of market cap. Tremendous cushion.

2). Good ratios all around - RoCE, RoE and RoA

3). The best part was this - Capacity utilization for power steering gears (270k) was 51% and mechanical steering gears (180k) was 69%. Even if conservative estimates of 20% and 15% growth is attached for FY11 and FY12, the aggregate capacity utilization bumps up to around 80% - which essentially means, they don’t have to invest in capital assets for the next 2 years, and they’d still be good to go. As RoA improves, we would see the impact in better margins and hence better RoCE and all that.

4). It installed 4 wind turbines over the last one year, bringing its total capacity to 1700KW, which the management says would fulfill 90% of its electricity bills. This would add approx Rs. 3/sh. [(Approx 30% increase in electricity costs y-o-y. FY2010 was Rs. 41,866,834. Increase 30% for FY11 =54426884.2. 90% savings = Rs. 5.4/sh). I approximated increased depreciation would eat away around Rs. 2.4/sh - not an accurate figure, this one]

So far so good.

What are the risks then?

1). Currently, Z F Steering faces competition from Chinese imports, which constitute close to 10% of the market share. Pricing of Chinese imports might put pressure on ZF’s margins

2). With steel prices firming up, I fear higher than anticipated input costs might eat into its margins.

3). With interest rates being slightly on the higher side, the CV growth might not be as much as expected.

Therefore, given the kind of growth vs margin pressures that ZF Steering is under, I would not expect too much appreciation from Rs. 450-525 levels (the stock drop recently on seemingly no reason was obviously a good opportunity to make a quick gain. It would reach Rs. 450 fairly quickly in my opinion). As you said, we need to watch out for the next 2 quarters. [Half yearly EPS FY11 stands at Rs. 23.37. Approx annualizing it, FY11 EPS would stand at Rs. 46.7. Even assuming P/E at around 12 (which is quite aggressive from these levels of 9; a P/E of 11 would be more conservative), we are looking at Rs. 513-Rs. 560/-]

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Hi Kiran,

I am also planning to analyze the company in coming days & have already looked at it & am invested in it. Here are my observations regarding the risks you have pointed out.

1). This is something every Auto Ancillary company has to live with. I was recently reading an article which said that there is tremendous demand for Automobiles in India at the moment & the Auto companies re being held back only due to the Ancillary suppliers who have failed to scale up . So Auto comapnie shave no choice but to go to overseas like china to fulfill the demand.Till now ZF has managed to protect its margins well & i suppos eit will continue to do so

2). Again steel prices is something one has to live with in the sector i wouldn’t try to time that & given the competitive advantage ZF enjoys i guess it can pass on the cost.

3). CV growth is the key, not so much the interest rate as ZF is practically debt free. ZF’s fortune depends mainly on MCV,HCV & tractors & others heavy vehicles that require power steering. i believe there will be good demand from Busses due to govt policies like JNNURM etc. However this is one of those sectors where spending falls first during a recession & rises last during a boom.So a lot again depends on the growth of the economy & indirectly on infrastructure growth which will fuel demand for heavy vehicles.

We will get a clear picture only in coming quarters , the recent correction provided get into the stock. i wouldn’t try to predict stock targets as i am no good at it, all i do is buy when i see value & sit tight & add on dips if required.

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Hi Siddharth,

I agree to point 2.

Point 1 - I am actually surprised by this - “the Auto companies re being held back only due to the Ancillary suppliers who have failed to scale up . So Auto comapnie shave no choice but to go to overseas like china to fulfill the demand.” ZF’s capacity is far more than what it is producing currently (my analysis details that important fact) and it can ramp up easily. So, going to Chinese competitors esp for Steering (I can agree with that argument on automotive cables and electrical contacts) is a bit of a weak argument.

Point 3 - CV growth is tied to interest rates. Higher interest rates would imply companies/people would put off their investments in MCV, HCV and tractors for a later point in the future, affecting ZF’s customers like Tata Motors and Ashok Leyland.

And regarding the statement about price, I would only quote Seth Klarman (which is probably the way I think…learnt to think, rather) “In our view, there is no such thing as a value company. Price is the essential determinant in every investment equation. At some price, every company is a buy; at some price, every company is a hold; and at a still higher price, every company is a sell. We do not really recognize the concept of avalue company - Seth Klarman”

Again, I am not speculating on the future. What I do is capitalize earnings into a share price based on the industry growth (and how much of that industry growth translated into a particular company’s growth in the past for atleast 3-5 years) in a range, and decide to invest if the market price is 2/3 of the lowest price in that range (that is my margin of safety).

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Hi Kiran,

What i mentioned in point 1 referred to the Auto componnet industry in general. ZF is more of a niche player supplying mainly to heavy vehicles & Tractors and not to cars where the real boom is coming. However the situation is this : in 2008-09 AUTO companies cut back on production and that affected all the ancillary makers. I am sure most of them would have had significantly lower capacity utilization. However the quick turnaround and boom in auto industry caught the ancillary makers off guard as they failed to expand capacity in the downturn like the auto companies.So now the situation is that the ancillary companies can’t play catch up. However ZF exactly doesn’t come under this. But i am sure one can see much higher cap utilization even for ZF this year and they need to expand to service the future demand.

Regarding Interest rates, i guess most stocks will be adversely impacted if it moves higher & its futile to try to predict that.

I am glad you follow Seth klarman, he really is an extremely smart investor probably only Buffett is better than him. However you have to realize that he is a different kind of value investor who looks at distressed companies staring at bankruptcy . When every one was buying stocks in the crash of 2008-09 he was buying distresses debt(which are more safer), so he really is ahead of the curve and more of a graham school of investor rather than the modern buffett school. Value like beauty lies in the eye of the beholder is all i can say. what is a buy for me can be a sell for you, that’s what makes a market :slight_smile: .

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Auto industry accounts for 22% of GDP
Organized sector holds a market share of 15% and the rest belongs to unorganized sector.
OEM is expected to have single digit growth whereas replacement industry(tyre, battery, lubricants) is expected to have double digit growth.
At present, exports account for 29 per cent of total component production.

  • Indian passenger vehicle market is expected to grow at a CAGR of 12% to reach 5 mn units by 2020.
  • The two wheeler market is also expected to grow at 12% to 29.5 mn units,
  • The commercial vehicle market will grow at a CAGR of 7% to 1.2 mn units.


http://money.livemint.com/news/sector/outlook/auto-ancillary-industry-to-witness-revival-with-growth-in-auto-sector-350924.aspx

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(Reviving this thread)

… this post is in continuation of my post on a brief intro on the India Auto Ancillary sector and its players.

Here is a further shortlisting of Auto Ancillary players based on Qualitative factors (Capex requirement, Concentration of Business, Future Readiness for EV) & Quantitative factors such as OPM, PE, Sales & Profit Growth, Pledge, Consistent EPS growth, etc.

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(download below working file for better readability)

Sector Shortlist_Auto Component.xlsx (76.5 KB)

Seven names emerge out of this shortlisting exercise. Please note that this shortlisting it valid only till the next quarter and should change with the changing business environment and performance of the sector and companies.

  1. Craftsman Auto
  2. Shriram Pistons
  3. Banco Products
  4. Pricol
  5. Fiem Industries
  6. Talbros Auto
  7. Duncan Engg

Disclaimer: above is not a recommendation to buy, hold or sell. DYOR. I hold Banco & Pricol as mentioned in my PF here.

Next step: SWOT of each of these shortlisted companies to identify their MOAT (if any) and Technical Analysis to identify possible entry points

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News update: Auto parts companies log record sales of Rs 5.6 lakh crore in FY23 - Times of India

This sector is in an upcycle, driven by higher revenue, higher margins and higher profits across the board.

Disclosure: Invested in Banco, Pricol, Rico, SAMIL & Talbros and my views are biased. DYOR.

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Hi …
Can you share study on these companies?

Thank you

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Key points from Dr.Vajay Malik blog.

  • Cyclical Business Performance: The auto ancillary sector is cyclical, meaning that periods of increasing sales and profit margins are typically followed by periods of decline. The source cites Jamna Auto Industries Ltd and India Nippon Electricals Ltd as examples of companies that have experienced this cyclicality.
  • Low Bargaining Power: Auto ancillary companies have very little bargaining power with both their customers (OEMs) and their suppliers (large metal producers). OEMs often have multiple suppliers for each component, giving them leverage to demand lower prices. In addition, auto ancillary companies must compete with imports from other countries, such as China. The source uses India Nippon Electricals Ltd to illustrate the pricing pressure and challenges in recouping increased production costs from customers.
  • Impact on Working Capital: The low bargaining power of auto ancillary companies also affects their working capital management. OEMs often adopt a “just-in-time” approach, requiring suppliers to deliver products just before they are needed, leading to increased inventory holding costs for the ancillary companies.
  • OEM Preference for Large Suppliers: OEMs prefer to work with large suppliers who can provide a wide range of products. This creates a situation where “big becomes bigger” in the auto ancillary sector. Larger suppliers have better bargaining power with OEMs and can achieve economies of scale. Minda Industries Ltd, a large Indian auto component manufacturer, is presented as a case study of a company benefiting from its size and diverse product offerings.
  • Importance of Technology and R&D: Auto ancillary companies must continuously invest in technology and research and development to stay competitive. This is particularly crucial as OEMs often include price reduction clauses in their contracts, requiring suppliers to find ways to reduce costs over time. Companies that fail to keep up with technological advancements risk losing market share. Gandhi Special Tubes Ltd is cited as an example of a company that faced challenges due to its inability to upgrade its technology to meet new emission standards.
  • Technical Tie-ups and Acquisitions: Indian auto ancillary companies often engage in technical tie-ups with global players to gain access to new technologies. This is partly because Indian companies tend to spend less on R&D compared to their counterparts in developed countries. These tie-ups can also help Indian companies gain business from global OEMs operating in India. The source discusses the experience of Minda Industries Ltd, highlighting both the benefits and limitations of technical tie-ups. Acquisitions are another strategy used by auto ancillary companies to gain access to technology, expand product lines, and enter new markets.
  • Challenges of Acquisitions: The acquisition-led growth strategy often results in complex corporate structures with multiple subsidiaries, associates, and joint ventures. This can make it difficult for investors to assess the true financial performance of a company, as consolidated financials may not always provide a complete picture. The source points to the case of Minda Industries Ltd, where consolidated financials did not capture the full turnover of the group. Additionally, the lack of transparency in reporting investments in various entities can hinder investors’ ability to evaluate investment decisions made by the company.
  • Aftermarket/Replacement Market: The aftermarket segment, which involves selling replacement parts, is generally considered more profitable and less cyclical than supplying to OEMs. However, building a significant presence in this market is challenging due to factors like intense competition from the unorganized sector, price-sensitive buyers, and the need for large investments in distribution and marketing. Despite its focus on the aftermarket segment for over a decade, Jamna Auto Industries Ltd struggled to achieve meaningful scale in this area, illustrating the difficulties involved.
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At the moment it seems that the distributors are trying to offload inventory and we can see that from the data of increased inventory and higher discounts.
I would wait and watch at the moment as I expect some patchiness in the auto ancillary sector given that it is a laggard to the actual automobile sales.
Would be interesting to get more inputs on this.