Maruti Suzuki India - Small car for the long haul

Maruti looks well placed to recover from its weak Sep 08 quarter results with the help of product launches amid easing commodity and fuel prices. We trim our EPS estimates, factoring in a gradual recovery in the demand, but maintain our Buy rating.

September 2008 results: EBITDA margins hit a new low
Maruti's Sep 2008 results disappointed us, with EBITDA margin 8% lower than we expected due to higher manufacturing and other expenses. Still, an improving product mix extended the sharp rise in realisation per vehicle. The discrepancies between our expectations and the results include the impact of currency fluctuations on imports and higher power and promotion expenses.

New product launches to limit the impact of weak demand
Maruti's new product launches in the coming quarters should help limit the impact of weak demand. We expect any recovery in car demand to be gradual, especially in an environment of job insecurity, pay cuts in the private sector and limited vehicle finance availability. Maruti's focused efforts to convert government employees' sixth-pay-commission benefits into car purchases should offer some relief. We trim our domestic sales volume estimates 3-6% for FY09-10F to reflect a 7% CAGR in domestic volume. We maintain our export targets, however.

Easing commodity prices to boost profitability in the coming quarters
We expect EBITDA margins to bottom near Sep 2008 levels as new product launches in the compact segment help reduce promotion expenses, and easing commodity prices support profitability. However, factoring in our concerns about domestic volumes, we trim EPS 5% for FY09-11F. We expect a higher yield on the company's Rs52bn investment book to help limit the impact of margin pressure.

We maintain our Buy rating
Maruti looks well placed to weather these turbulent times given its cash-rich balance sheet, and new expanded capacity to support new products and engine series for both the domestic and export markets. We expect competition from international car majors to ease, especially in capacity build and new product launches. On our revised EPS estimates, Maruti trades at the low end of its historical forward PE band, at 10.5x FY09F. We lower our target price to Rs750 to reflect our EPS changes. It remains our top pick in the Indian auto sector.