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Maruti: Conference call excerpts!

Nov 7, 2005

Post the 2QFY06 on October 28, 2005, Maruti held a conference call to give an insight into its 2QFY06 performance and future plans. The excerpts of the conference call are as follows:

What is the company’s business?
Sales strategy revamp - Rationale: Recently, Maruti revamped its sales and marketing strategy by bringing in more decentralization and autonomy in decision-making. As per the new strategy, the country is divided into four zones. The zonal head is responsible for all the marketing and sales strategy. As per the management, this move is to give more power and accountability at the lower level and speed up the decision making process.

We believe that the move is in right direction, as the earlier policy of the company to view India as a single market had its own limitations. The new strategy will enable Maruti to meet the requirements of different regions in accordance with the local environment. Further, as per the management, there will not be a significant rise in the cost as a result of this new strategy.

Declining exports: The management attributed decline in exports in 1HFY06 to two factors. Firstly, lower demand for company’s other vehicles (except ‘Alto’) in European markets post the launch of ‘Swift’. The supply of ‘Swift’ is catered by the Suzuki Motor’s Hungary plant. Secondly, due to production constraints, the company had to reduce exports of ‘Alto’ to meet domestic demand. Going forward, Maruti has clarified that its first priority will be Indian market.

Lower depreciation charge: The depreciation charge for 1HFY06 has shown a decline of 40% YoY. This has been the result of change in depreciation policy in respect of certain dyes (fully charged-off in the previous year). While we expect depreciation charge to be on lower side for the current fiscal year, considering the huge capital expansion plans, we expect higher depreciation charges from FY07 onwards.

Capex: Maruti has outlined an ambitious capital expenditure involving a total outlay of Rs 60 bn (over the next two to three years). Of the above, around Rs 15 bn will be for setting up a fourth plant with an initial capacity of 100,000 cars. The project is expected to be on stream by end of CY07. Around Rs 30 bn (Maruti’s share) has been earmarked for the diesel engine plant. The plant will be a joint venture between the company and the parent, with Maruti holding 49%. The funding of this plant will be through equity and debt in the proportion of 35:65 respectively. The diesel plant is expected to be operational by end of CY07.

New product launches: Maruti plans to introduce 5 new models in next five years. The new launches will be in the current range of product portfolio. Apart from this, it is also planning to introduce variants of ‘Alto’, ‘Wagon R’ and ‘Baleno’.

Raw material costs: For 1HFY06, there has been a 190-basis point increase in the raw material costs as a percentage of sales. As per the management, around 130-basis point increase is on account of the changing product mix. It should be noted that higher the sales of ‘A2’ and ‘A3’ segments of the total volumes sold, the higher would be the ratio of raw material to sales. Further, due to the company’s policy of meeting its raw material requirements on annual contract basis, it was unable to cash on the recent decline in the steel prices. Going forward, Maruti will continue to procure its steel requirement on annual contract basis.

Pre-owned car venture: Maruti ventured into the pre-owned car market through one of its subsidiary. Currently, the company is selling around 3,000 cars per month. Going forward, we expect an increase in the number of pre-owned cars sold by the company as most of its ‘True Value’ outlets are new (less than 1 year of existence). However, we expect the volumes to gather steam post FY07. Apart from this, like any other automobile player, the company is aiming to provide all the ancillary services like insurance and financial assistance. The main objective of all the above-mentioned activities is not to make profits but to increase customer loyalty and boost volumes.

What to expect?
At Rs 555, the stock is trading at price to earnings multiple of 16.4 times its annualised 1HFY06 earnings. With the fall in ‘M800’ coming a full circle, we expect stability on this front going forward. Further, given the prospective new launches (diesel and petrol), we believe that Maruti can outperform industry growth. It should be noted that currently, the company is catering to only 60% of the ‘A3’ market and 80% of the ‘A2’ market. Thus, there exists tremendous scope to improve its volumes post the diesel launch. However, as the launch is expected by end of CY07, we expect the volume growth will materialize only post FY08. However, the huge capacity expansion plans is likely to exercise pressure on net margins. Hence, at current price we feel that the stock is reasonably valued.

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