Apollo Tyres fails to charm analysts despite capex plan, renewed focus on returns

In its investor meet, Apollo Tyres said it will maintain its focus on improving return on capital employed (ROCE) and profitability instead of solely pursuing market share growth

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Shares of Apollo Tyres Ltd opened marginally higher after analysts gave mixed reaction at an investor meet. Kotak Institutional Equities and Nomura have maintained ratings but their target price stands below its current market price. JM Financials and Motilal Oswal Securities, meanwhile, bumped up the target price up to 20 percent.

At 9.17am, the stock was trading at Rs 416 on the BSE, up 0.16 percent from its previous close, while India’s benchmark Sensex gained 0.08 percent to 63027 points.

Brokerage firm Kotak Institutional Equities has maintained its ‘sell’ rating on the stock and target price at Rs 325 a share from current market price of Rs 416 a share. Nomura also retained its neutral rating on the stock and kept target price at Rs 386 from current market price.

Motilal Oswal Securities reiterated the ‘buy’ rating and increased its target price by 20 percent to Rs 500 a share. JM Financial retained its ‘buy’ tag and increased its target price by 8 percent to Rs 450 a share.

In its investor meet, Apollo Tyres said it will maintain its focus on improving return on capital employed (ROCE) and profitability, instead of solely pursuing market share growth. The company aims to achieve this by capitalising on stronger growth opportunities within the passenger vehicle (PV) segment, which offers better profit margins.

Apollo Tyres also plans to leverage the trend of premiumisation in the industry by increasing the sale of higher rim sizes, contributing to improved profitability. The company also anticipates gaining market share in the premium PV categories, which will positively impact its overall margins.

As of now, Apollo Tyres possesses sufficient production capacity to meet the demand until FY25. However, to cater to future demand, particularly in the passenger car radial (PCR) segment, the company may consider investing Rs 15-20 billion in a new plant. This capital expenditure would be spread over approximately 2.5 years, and the new plant would have a production capacity of approximately 8,000 tyres per day.

Apollo Tyres has set forth its goals for the near future, aiming to achieve a revenue of $5 billion by FY2026. Additionally, they plan to enhance their EBITDA margin beyond 15 percent, while consistently maintaining a pre-tax Return on Capital Employed (RoCE) within the range of 12-15 percent. They are determined to keep their net debt-to-EBITDA ratio below 2.

Analyst views after investor meet:

Kotak Institutional Equities: To justify the CMP, the company has to clock in EBITDA per kg of Rs47.6 (10 percent higher than 4QFY23 profitability) over FY2027-35, which we believe is unsustainable. We believe it will be difficult for the company to achieve Rs47.6 per kg sustainably, given (1) the commoditized nature of the industry, which tends to be cyclical, (2) weak pricing power, especially in OEM and CV replacement segments, (3) elevated competitive intensity in select segments and (4) high capex requirements over the cycle. In our reverse DCF analysis, we are building in a revenue CAGR of 7 percent over FY2023-35 and capex spends at 7.5 percent of sales, which is lower than its last 10-year average.

We have increased our FY2024-26 consolidated EPS estimates by 3-4 percent on higher revenue growth assumptions, driven by the recovery in M&HCV replacement segment demand. We believe that the current profitability is not sustainable in the medium term, and margin recovery is completely priced in at the CMP. The stock is currently trading at 16X FY2025E consolidated EPS, which we believe is expensive as the business is unable to generate returns higher than the cost of capital over the cycle. Our FV is revised to Rs 325 (from Rs 310).

Nomura Research: We maintain a 5 percent tonnage growth estimate for Apollo Tyres as OE slows down, modest replacement demand and slow recovery in exports. Stable commodity, profitability focus and low capex intensity should lead to improved ROCE of 13 percent by FY25, in line with its target. However, capex intensity of the next capacity expansion phase seems much higher (Rs 200 million per tonne per day, vs Rs 100 million per tpd in AP plant) and any lumpy spend can drag short-term ROCEs.

We maintain our target EV/EBITDA multiple at 6.5x and apply it on our estimate of FY25F EBITDA to arrive at our TP of INR386. Current valuation at 7.3x FY24F EV-EBITDA factors in the recovery, in our view. Thus, we maintain our Neutral rating.

JM Financial: Current capacity utilisation stands at 75-80 percent at both India and EU operations and this is expected to support medium-term growth. Capex guidance for FY24 stands at Rs 7 billion/ Rs 4 billion for Indian and European operations primarily towards de-bottlenecking (5 percent capacity increase), digitisation and maintenance. The management indicated that it will budget for the next phase of capacity expansion during 2HFY24. Given the available land, the AP plant’s capacity can be expanded by 2-3x which can help avoid large capex going ahead. Current net debt/EBITDA stands at 1.4x. And, the company reiterated its 12-15 percent RoCE target that it expects to achieve in the near-to-medium term led by driving better profitability and astute control on large capex projects.

Motilal Oswal Securities: We have marginally cut our earnings estimates by 1 percent as Apollo Tyres is likely to budget for the next phase of capex starting from FY25. However, unlike in the past, the current phase of capex is going to be brownfield (lower intensity) and would not be bunched up (and hence, manageable from its operating cash flows).

Therefore, we estimate APTY to turn net debt free by FY25. We raise our target multiple for APTY to 15x from 13x, to factor in the company’s sustained focus on capital allocation and the resultant increase in capital efficiencies (RoCE >15 percent).