Bajaj Auto is a major Indian automobile manufacturer. It is India's largest and the world's 4th largest two- and three-wheeler maker. It is based in Pune, Maharashtra, with plants in Akurdi and Chakan (near Pune),Waluj (near Aurangabad) and Pantnagar in Uttaranchal. Bajaj Auto makes and exports motorscooters, motorcycles and the auto rickshaw. The Forbes Global 2000 list for the year 2005 ranked Bajaj Auto at 1946. Over the last decade, the company has successfully changed its image from a scooter manufacturer to a two wheeler manufacturer. Its product range encompasses Scooterettes, Scooters and Motorcycles. Its real growth in numbers has come in the last four years after successful introduction of a few models in the motorcycle segment. The company is headed by Rahul Bajaj who is worth more than US$1.5 billion. It has been reported that Bajaj is headed for a de-merger into two separate companies: Bajaj Auto and Bajaj Finance. It is expected that the sum of the parts created will be worth more that the current whole, as was the case in the de-merger of Reliance Industries.
Bajaj Auto has taken aggressive steps to re-invent itself. From playing the volumes game in the entry level segment, it has shifted focus to strengthening its dominance in the premium motorcycle segment. The company has also created an identity for Indian motorcycles in the global market, where it is targeting 10% market share by 2010. While we expect core business profitability to improve here on, its insurance business is a potential value driver.
Superior product mix: Bajaj Auto has a stronghold over the performance segment
(>125cc motorcycles), where it has Pulsar and Discover. Its market share in this segment was 60% in FY07. Profitability of performance bikes is higher than entry-level bikes and the launch of its 125cc XCD would help to strengthen the company’s position in this segment, further.
EBITDA margin set to improve: We believe that Bajaj Auto’s EBITDA margin will
improve 2QFY08 onwards. Our view is based on the company’s improving product mix, its reluctance to re-engage in price wars, completion of dealer inventory rationalization, and accrual of higher DEPB benefit. We expect EBITDA margin of 14.7% in 2HFY08 and 15% in FY09 v/s 13.1% in 1QFY08.
Upgrade to Buy: Given the better business prospects, increase in insurance
valuation, and significant underperformance of the stock, we are upgrading our recommendation to Buy. Based on the demerger scheme, we arrive at an SOTP-based price target of Rs3,065. We have valued the auto business at Rs1,190 (15x FY09E earnings), the financial services business at Rs683 and have assigned Rs1,191 value to the holding company. Our SOTP valuation indicates a 21% upside.
Focus is shifting away from entry-level motorcycles…
The boom in motorcycles in FY05, FY06 and 1HFY07 was marked by the success of entry-level products such as Hero Honda’s CD series, Bajaj Auto’s CT-100 and Platina, and TVS Motors’ Star. Eagerness to push these entry-level motorcycles culminated in price wars, aggressive discounts and subvention, ultimately leading to lower profitability. While we believe that the industry would continue to be characterized by high competitive intensity, the focus would now shift away from low-margin entry-level products. Though fuel efficiency remains an important consideration in motorcycle purchases, an increasing number of consumers are demanding better performance bikes. The shift in consumer preferences and industry focus is already evident – in FY07, the share of executive and premium segment motorcycles increased at the cost of economy segment motorcycles.
Bajaj Auto has a stronghold over the performance segment (>125cc motorcycles), where it has its Pulsar and Discover bikes. Its market share in this segment was 60% in FY07, down from 68% in FY06. Profitability of performance bikes is higher than entry-level bikes. Since Bajaj Auto dominates the performance segment, it has greater potential to expand its EBITDA margins. Bajaj auto launched
Discover 125cc motorcycle in September with an aggressive price tag. With a selling price of Rs.43,500 on road in Pune, the 125cc vehicle has been priced Rs.1,000 cheaper than Hero Honda Splendor plus. With higher power and mileage equal to 100cc vehicle, Bajaj plans to take-on Hero Honda in
the executive segment. But considering HHML readiness to cut the prices to maintain its leadership in executive segment, it will be difficult for Bajaj to repeat its success as seen in entry level bikes. But the price war will push-out small marginal players from the arena.
Bajaj Auto unveils revolutionary DTS-Si engine
Bajaj Auto, has achieved a breakthrough with the launch of new ‘Digital Twin Spark - Swirl induction’ (DTS-Si) engine. The new 125cc engine with DTS-Si technology will give an amazing mileage of 109 kilometers per liter under ideal test conditions surpassing the mileage of all current 100cc motorcycles. With this breakthrough there is a huge potential and opportunity to upgrade the 100cc customer with a engine which offers the best of both worlds – 100cc mileage and 125cc
performance. Designed and developed completely by ‘**Ahead’, Bajaj Auto’s R&D, the technology promises to revolutionalise the industry with India’s most fuel-efficient two-wheeler engine. Bajaj Auto presented the DTS-Si technology at their Corporate Headquarters in Pune today.
Digital Twin Spark ignition (DTS-i system)
The Digital Twin Spark – ignition, equipped combustion chamber takes care of the slow rate of combustion in a simple but novel way. The cylinder head is equipped with two spark plugs, instead of the conventional single spark plug. By generating two sparks at either ends of the combustion chamber, (approximately 90°
to the valve axis) the Air-Fuel mixture gets ignited such that, there are 2 flame fronts created and therefore a reduction in flame travel of the order of 40% is achieved. A fast rate of combustion is achieved leading to a fast rate of pressure rise. The obvious outcome of this is more torque, better fuel efficiency and lower emissions. The Digital Twin Spark - ignition or DTS- i is the mother technology for the latest Digital Twin Spark – Swirl induction or DTS-Si technology. Thanks to DTS- i, a fast rate of combustion and therefore the resulting fast rate of pressure rise is harnessed, by optimally positioning this pressure, to deliver maximum possible work and hence obtain more torque, better fuel efficiency and lower emissions. When burning lean Air-Fuel mixtures, the two plugs provide rapid combustion, but at light loads, opportunity exists to improve the combustion further.
Combustion efficiency in lean Air-Fuel mixture conditions can be further improved by generating high turbulence in the combustion chamber. Combustion chambers having low turbulence give rise to propagation of a flame front, which is akin to that of a gradually expanding balloon. This results in a slower rate of
combustion and thus slower rate of pressure rise. End result is lower efficiency. When high turbulence is generated and combustion takes place, the surface of the ballooning flame front fragments itself, with projection like fingers, which increases its surface area, thereby improving combustion further. The straight ports used in conventional engines have limitations in generating high swirl values due to their geometry. One of the ways to generate more swirl is to have a port configuration that promotes this phenomena. An offset port configuration was arrived upon and optimised to generate the required swirl numbers. Incorporated in the new engine, this results in a swirling motion of the incoming charge, which decays itself into turbulence as the piston moves in the Induction and Compression strokes. This results in the Air-Fuel mixture being more thoroughly mixed and spread around the combustion chamber. Sparks provided by the twin spark plugs ignite this highly turbulent and compressed Air-Fuel mixture, leading to a flame front with high surface area, resulting in a rapid rise of pressure due to rapid combustion. The values of turbulence achieved now, are substantially higher than that of a straight port cylinder head, such as in Pulsar. A combination of DTS-i and Swirl induction thus provides extremely rapid combustion, resulting in high efficiency.
Bajaj had first dramatically improved on existing engine technology in 2003 when it launched the DTS-i (Digital Twin Spark-ignition) engine with two Spark plugs located at opposite ends of the combustion chamber (as compared to a single spark plug in conventional 4-stroke engines) to achieve faster and more efficient combustion. The DTS-i technology offered better performance, improved fuel efficiency with lower emissions and helped establish the Bajaj Pulsar and then the Bajaj Discover as leaders in their respective segments. The DTS-i Engine can be
further engineered to deliver either exceptional performance or exceptional mileage.
Bajaj Auto worked on the mother DTS-i technology to design the DTS-Si engine to deliver outstanding mileage. The DTS-Si technology gives the highest possible fuel efficiency by introducing ‘Swirl induction’ to the DTS-i engine to create turbulence in order to achieve extremely efficient combustion.
The DTS-Si engine is far superior to the conventional 4-stroke engines, which dominate the 100cc segment at present. With the new DTS-Si engine the consumer now would not have to compromise between power and mileage - he gets the best of both. Bajaj enjoys a market share of 47% percent in the growing and profitable 125 cc and 150 cc segments, as against a smaller share of 24% percent in the declining but larger 100 cc segment. Says Mr. Amit Nandi, General Manager (Marketing), “Bajaj will offer customers a value proposition much superior to the currently overpriced and underperforming 100cc products with the launch of an all new bike with the DTS-Si engine next month. 100cc customers will upgrade to this 125cc bike that gives superior mileage and superior power.”
Bajaj Auto’s recent changes in the product mix we believe, will help boost volumes but at the cost of realizations and margins. We believe that the recent run up in the stock price has only factored in the positives without taking into account profitability. After regaining market leadership in the Entry-level segment with the success of the CT-100, BAL is now betting big on the voluminous Executive segment with the recently launched 125cc Discover. This marks a strategy shift in BAL’s product mix with premium products like Pulsar and the three wheeler segment giving way to the high volume entry and executive segments. While this would ensure higher volumes, earnings growth may suffer. We rate the stock an Under Performer.
• Strategy shift in product mix to result in dip in realisations and leaner margins: Post regaining its numero uno position in Entry-level bikes with the successful CT-100, BAL is now focusing on the voluminous Executive segment. BAL’s recently launched 125cc Discover, is a high end bike but with the price tag of a 100cc offering in the executive segment. We expect Discover to bolster volumes for BAL but at the cost of realisations and margins.
• Volume game fuels competition in motorcycles resulting in pressure on margins: Competition is hotting up in the motorcycle segment and BAL’s Discover is a pure play on increasing volumes. New products/variants across segments are coming with superior features at aggressive pricing coupled with attractive schemes, sometimes both. We believe that players are bolstering volumes taking a knock on realisations and lower profits.
• Margins expected to come under pressure: Spiraling steel prices, higher marketing spend, higher proportion of low-margin entry level bikes, aggressively priced Discover, declining proportion of premium offering Pulsar and cash cow three-wheelers in the overall sales mix are expected to adversely impact BAL’s margins.
• Volume growth without proportionate profit growth fails to justify rich valuations: At current levels, the scrip trades at 12.9x FY2005E and 11.7x FY2006E earnings. We believe that the rich valuations that the stock is commanding on account of a good volume growth is not proportionately transforming into profit growth. We feel that the current price has only factored in positives like the success of the CT-100 and expectation of good
volumes from Discover minus the adverse impact that they could have on profitability. We do not see any upside in BAL from current levels and rate the stock an Under Performer with a 12-month target of Rs870, which works out to 10x FY2006E earnings.
Product mix shift: To result in lower realisations and margins
Post regaining its numero uno position in Entry-level bikes with the successful CT-100, Bajaj Auto (BAL) is now focusing on the voluminous Executive segment.
BAL’s recently launched 125cc Discover, is a high end bike but with the price tag of a 100cc offering in the executive segment. We expect Discover to bolster volumes for BAL but at the cost of realizations and margins.
Success of CT-100 skews the product mix in favour of low-margin bikes
The runaway success of the recently launched CT-100 has resulted in the entry level segment constituting over 60% of BAL’s motorcycle sales. The CT-100, launched in May’04 in the highly voluminous price sensitive entry level segment, has met with increased acceptance with the consumers. Increasing popularity of the CT-100 has resulted in BAL’s motorcycle product mix getting skewed in favour of low-margin bikes. While success of the CT-100 has enabled BAL regain its market leadership in the entry–level segment, the competitive pricing is likely to have an
adverse impact on its realizations. While the CT-100 has helped BAL boost volumes, a higher proportion of these low-margin bikes have already started showing on revenues. Revenue growth has been lower than volume growth since the launch of CT-100 unlike in the past. Earlier, BAL had reported a higher-than proportionate revenue growth on the back of a healthier product mix. A higher proportion of the premium bike Pulsar in its overall motorcycle sales combined with a steady contribution from the three-wheeler segment helped BAL register strong growth in revenues despite a drastic decline in scooter and step thru sales. Going forward too, we expect revenue growth to be lower than volume growth.
Aggressively priced Discover to ensure volumes but realizations to take a knock The 125cc Discover, the recent offering from the Bajaj stable, has been launched with features available in a high end bike but with the pricing of a 100cc executive bike (the displacement ranges from 100cc to 125cc). The aggressively priced Discover would be directly pitched against 100cc models like Splendor+ and Passion Plus, which currently dominate the executive segment. While Discover’s aggressive pricing and superior features are likely to ensure good volumes for BAL, we do not expect it to contribute much towards improving realizations. Competitive positioning of the Discover in the executive segment may result in some amount of cannibalisation of sales of BAL’s 150cc Pulsar. BAL plans to phase out the Caliber115 and Wind 125 from the domestic market in anticipation of the Discover cannibalizing their sales. The Wind 125 (which was also known as the World bike) will now focus on the export markets only. We believe that positioning of the Discover with superior features at a competitive price does not rule out the possibility of it eating into a small portion of the Pulsar 150cc pie. The Discover (electric start)
is priced at Rs45,600 ex-showroom, Mumbai while the 150cc Pulsar DTS-i (electric start) is priced at around Rs55,000 ex-showroom, Mumbai.
Intensifying competition in the motorcycle segment
Competition has intensified in the motorcycle segment in the past few months with the volume game gaining dominance with increased product offerings across segments. Players are looking at bolstering volumes through aggressive pricing coupled with attractive schemes even if it means taking a hit on realisations and profits. The recently launched Discover from the Bajaj stable is a high-end bike with the price tag of a 100cc offering in the executive segment. BAL has positioned it as a pure play on gaining volumes.
New launches across segments calls for aggressive pricing and superior features Intensifying competition in the motorcycle segment has resulted in most players launching new products/variants at regular intervals, which boast of superior features or attractive pricing, sometimes both. Cut throat competition in all segments combined with the high base has resulted in a plethora of products being launched, with an intention to gain or maintain market share. Moreover, increasing steel prices are exerting severe pressure on the operating margins of two-wheeler companies.
Despite aggressive cost cutting measures, most of the two-wheeler companies have witnessed a decline in their operating margins this fiscal. With no scope for increasing the prices of motorcycles, the two-wheeler companies are aggressively looking at garnering huge volumes to enable them enjoy better economies of scale.
Entry level offerings – Volume drivers
The price sensitive entry level segment, which is characterised by huge volumes and low margins, plays a very important role in the motorcycle market. Even
a small increase in market share in this segment is likely to ensure good growth in volumes for the manufacturer. Bajaj, which used to enjoy market leadership in this segment through Boxer, lost its dominance after Hero Honda launched the CD-Dawn at an aggressive price. By the very price sensitive nature of this segment, Hero Honda gained market leadership in the entry level segment and reported a good volume growth. However, the low margins in this segment saw Hero Honda gain market leadership at the cost of lower realizations and stagnant operating margins. In a bid to recapture its market leadership status in the entry level segment, BAL launched the CT-100 in May’04. Enormous success of the CT- 100 helped BAL regain its market leadership status in the entry level segment and boost its sales volume too. However, we feel that BAL may face similar pressures as Hero Honda did, when the latter’s CD-Dawn became a runaway success.
Executive segment Discover – Higher market share but lower margins
BAL, a market leader in the entry level and premium segments, is now aggressively targeting the high volume executive segment (a Hero Honda stronghold). BAL’s past attempts to make inroads into this segment with its Caliber 115 and Wind 125 came unstuck. This time round to ensure good volumes in the executive segment, BAL aggressively priced its 125cc bike Discover at Rs42,300 ex-showroom, Mumbai which is comparable to a number of 100cc offerings like Splendor+ and Passion Plus. We feel that with this, BAL will gain market share in the executive segment albeit at the cost of lower realizations and profits. 125cc offerings: Emerging new segment straddling executive, premium segments to see intense competition The 125cc bikes, which are now at the nascent stages of becoming a category of their own, are likely to see competition hot up in the near
future. Most two wheeler companies have launched 125cc bikes, while others are on course to launching their offering in the 125cc range. Market leader Hero Honda plans to launch its 125cc bike in December’04. With a number of offerings in this
future. Most two wheeler companies have launched 125cc bikes, while others are on course to launching their offering in the 125cc range. Market leader Hero Honda plans to launch its 125cc bike in December’04. With a number of offerings in this