Smooth Treading Ahead on Improving Outlook
Conducive Environment for OEMs Augurs Well
With the dwindling transitory impact of demonetisation/GST roll-out and shift in emission standard to BS-IV from BS-III along with the government’s vision to double farm income by 2022, we envisage that the domestic tyre industry is set to witness a healthy growth trajectory, going ahead. Moreover, a normal monsoon, recovery in demand from a normalised environment, growth in rural sales and a low base in the second half of last fiscal should help the sector to report good volume growth in ensuing years, in our view. We believe the domestic tyre manufacturers would witness >10% volume growth in next two to three years.
Likely Anti Dumping Duty on Chinese Tyres – A Key Catalyst
A likely imposition of Anti Dumping Duty on import of Chinese Truck & Bus Radial (TBR) tyres would enable the domestic players to enhance market share as well as boost their margins with a level playing pricing environment. Notably, prices of Chinese TBR tyres are currently ~10-15% lower than the domestic TBR tyres, which makes the domestic business unviable. Looking ahead, we expect a meaningful reduction in Chinese imports (40-50%) from the peak owing to low profitability, which would offer a better opportunity to the domestic tyre manufacturers i.e. Apollo Tyres, JK Tyre etc.
Replacement Demand Continues to Drive Growth
As per our estimates, the replacement segment continues to dominate the Indian tyre market with contribution of ~69% to the total demand. The major reason for high replacement share is due to the fact that the number of registered vehicles/annual sales remains at ~10x at ~200mn registered vehicles (industry estimates) vis-à-vis ~20-25mn annual vehicle sales. On the backdrop of 11% CAGR in automobile production over last 15 years and the need for tyre replacement post average life of 3-4 years, we envisage the contribution of replacement demand to overall pie would increase further.
Cost Basket to Remain Benign
Looking ahead, we believe that rubber prices – the key raw material accounting for >60% of total input cost – to remain under control on the back of less likelihood of any sharp up-tick in crude prices and healthy production outlook for domestic natural rubber. Further, a significant reduction in rubber prices from the high of Feb-Mar’17 (which has already corrected by 20-30%) will aid the domestic tyre manufacturers to report better margin from the current quarter onwards, as the prevailing prices are 5-10% lower on sequential comparison.
Initiate Coverage on Tyre Industry; Apollo Tyres Top Pick
We initiate coverage on the Indian Tyre Industry as we expect the sector to witness a healthy traction ahead on the back of improving outlook of domestic OEM industry, growing road connectivity across the country and rising aspiration of middle class population. Further, with benign raw material prices and likely benefits from possible imposition of Anti Dumping Duty on Chinese TBRs, we expect Indian tyre manufacturers to report better numbers, going ahead.
Notably, the overall tyre sector trades at a low P/E multiple. We see scope for rerating of the sector (like Battery sector, which has high exposure to lucrative after-market segment and trades at 80- 100% premium to tyre sector) owing to easing competitive intensity, better pricing environment after imposition of Anti Dumping Duty, change in product-mix and likely improvement in return ratios.
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