Why Mahindra & Mahindra is stopping the tractor ride

The automaker said in the September quarter (Q2FY23) post-earnings call on Friday that retail sales of tractors grew by nearly 10% year-on-year (YoY) in the festive season. M&M’s market share in tractors stood at 41.4% in FY13 as of October, an increase of 80 basis points (bps) year-on-year. One basis point is 0.01%.

After factoring in the higher base of Q4FY22, M&M is expecting a growth of over 5% for the tractor industry in FY23. Rural spending remains a key monitorable here.

“October wholesale volumes for tractors and festive retail indicate early signs of recovery in the tractor industry. Kumar Rakesh, an automobile and technology analyst at BNP Paribas Securities India, said, “We consider M&M’s guidance conservative and see an upside risk to tractor volumes.” In October, tractor wholesale volume of M&M’s increased nearly 11%. M&M acknowledged the increase could be between 5.2% and 6.5%. However, it still stuck to its earlier guidance of 5%.

Higher tractor volumes will lead to better margins. In Q2, the earnings before interest and tax (EBIT) margins of the tractor and auto businesses grew by 40 bps to 16.4% and 6.1%, respectively. A rise in prices in the range of 1-2% in recent months along with a general softening in commodity costs should help margins of both the segments.

The auto segment will also benefit from the removal of introductory pricing for the XUV700 and Thar.

The new launches will impact the company’s margins. However, M&M isn’t bothered by this as mature products “should be able to take a slightly lower margin than the new ones.”

In Q3FY22 when auto ebit margin stood at 3.7%, the company had guided for a growth of 300 bps. The automaker has given a 240 bps margin improvement.

What’s more, as auto volume expands with easing supply positions and production ramp-up, operating leverage will kick in. Q2 saw the highest ever volume of 174,098 units. The lack of a chip requires a closer look, as according to the automaker, it’s still not out of the woods on this front.

Keeping in view the growth in Sport Utility Vehicles (SUVs), the company is expanding the capacity in this segment. M&M sees a capacity of 39,000 per month by the end of FY23 and 49,000 per month by the end of FY24. Still, demand will be well ahead of capacity. M&M’s SUV order book stood at over 260,000 units as of November 1.

The low cancellation rate for products like XUV700 at less than 5% is comfortable. However, the long waiting period poses a major risk. According to Varun Bakshi, analyst at Nirmal Bang Equities, there is a risk of duplication in orders. “If it is higher, the actual order book may be less than the current number,” he said.

Investors in M&M’s stock have taken note of a meaningful rebound in its auto business. Small wonder then that the shares in the Nifty Auto index have gained nearly 19% so far in CY22. The sharp rally may limit significant upside in the near future.

The continued support to the company’s stock is critical to meeting strong demand. Also, investors will have to keep an eye on the increasing competition in the SUV segment and the implementation of its electric vehicle plans.