Shares of tyre makers are in a downward trend. Their prices are down 20-60 per cent from 52-week high levels. And there is some sense behind the fall. Potential structural changes on account of EV adoption, rising raw material prices, rising cost of vehicle ownership, production cuts owing to semiconductor shortages — the challenges have been plenty. However, the overreaction of the market is also at play, note analysts.
“Not all tyre companies are facing the same storm,” said analysts at Ventura Securities. “Rising costs and fragile demand recovery seem to have affected the two-wheeler (2W) and three-wheeler (3W) segment badly. Not surprisingly then, the performance of TVS Srichakra has been lacklustre. On the other hand, companies such as
have taken a huge knock despite having a more diverse portfolio.”
CEAT draws 30 per cent of its revenue from selling tyres for buses and trucks, and about the same from 2W and 3W segments. Rest of its revenue comes from passenger vehicles, farm & speciality and light commercial vehicles. The diversity works as insurance as the slowdown in any segment will not hit its revenue by a large amount. But, still, investors have not been kind to its shares. The counter is down about 40 per cent from its 52-week high hit in February.
Though it is not as if everything is also hunky dory with the company. It has been facing margin pressures. Moreover, in the quarter gone by, the company took up a debt of Rs 220 crore to add capacity and meet working capital requirements. The management said the company’s overall debt is likely to go up by “a few hundred crores” in H2FY22, which seem to have dampened investors’ sentiments as this will also result in higher finance cost in the coming quarter.
Any capex will start showing results only after a gap of 18-24 months, analysts noted. The company’s net free cash flows might start showing a significant improvement once the company comes out of a capex phase, they add.
But do debt and delay in any sales impact require such beating of CEAT shares? It is debatable. But there is a very good chance for the company to deliver profits.
The biggest opportunity and challenge for any tyre maker today is the emerging electric vehicles (EV) market. EVs require heavier tyres and unlike the vehicles running on petrol or diesel engines. EVs don’t make noise and hence need tyres too that are noiseless.
Analysts tracking the company say CEAT already has a 50 per cent market share in 2W EVs and has been working on expanding its EV portfolio as the market advances. “The company is expecting EV revenue as a percentage of total revenue to remain under 10 per cent over the next couple of years. But on a slightly longer time horizon, say 5 years, the management of CEAT is expecting EVs to make up 30-40 per cent of the company’s revenue,” said Ventura Securities.
If these estimates turn out to be correct, CEAT ushers into a new era.
Price hikes needed
Driven by rising material cost, tyre companies have already taken price hikes by 10-13 per cent during the current calendar year. But the hikes still lag inflation in raw material prices.
“Our analysis suggests that in order to maintain healthy margins, tyre companies would have to further hike prices in the replacement segment by 3-5 per cent. As the price hike lags RM cost inflation, we believe that H2FY22 margins are likely to remain below sustainable levels,” said Nitinn Aggarwala of JM Financial.
He expects margin to recover back to a sustainable level by H1FY23 as strong underlying demand in the replacement market is likely to support tyre companies to take the required price hike in the coming months.