This is the Biggest Risk to the Stock of M&M

In the weeks following the market crash of March 2020 (Covid-19), the stock of Mahindra & Mahindra (M&M) traded close to its book value.

At its lowest point the stock was at 0.5 times sales.

It's not common for the stock one of India's largest conglomerates to trade at such deep discount. But M&M had more than the pandemic to blame for investor apathy back then.

M&M had been a laggard in new product launches for a while.

You would also recall the stock of ITC becoming a meme-favourite during the pandemic. ITC had underperformed its peers long enough to become the subject of stock market jokes.

M&M wasn't far behind.

In one of my videos, I asked readers if they thought M&M to be the ITC of the auto sector.

But my biggest reason to call M&M the ITC of auto sector, was my conviction that the business was at an inflection point. Especially, in the post pandemic recovery phase.

While the markets were focused on the poor quarterly performance of M&M, smart investors bought into the stock betting on the business' long-term potential. Its deeply discounted valuations offered massive downside protection.

And guess what? Investors who believed the ITC-M&M hypothesis made 100% gains in just two years.

But this is not a story of an undervalued stock getting its due. We have enough such examples in the post-lockdown phase. Plenty of stocks have made fresh 52-week highs in the last 12 months.

In the case of M&M, the stock doubled over the past twelve months. But the key risk is not its valuations.

Rather it's a product core to M&M's business is at the point of obsolescence.

M&M is one of the most diversified automobile companies in India with presence across 2-wheelers, 3-wheelers, passenger and commercial vehicles, tractors and earthmovers.

But the company is identified as a tractor maker. It has retained its leadership position in tractors (nearly 40% market share) for the last four decades.

The farm equipment business contributes nearly 40% of M&M's revenue.

However, tractors are far from being easily accessible for India's massive agri-tech opportunity. They are both expensive and bulky for relatively smaller sized farms.

At the same time, smaller, affordable and digitally equipped farm technologies are gaining prominence.

For instance, drones.

The use of drones in the agriculture sector has risen significantly. The equipment has several novel applications in aerial seeding, pesticide spraying, and remote data collection for research.

Future possibilities are limitless. So much so that experts believe drones may even replace tractors one day!

Digital farming tools like drones help farmers work smarter. They combine their expertise and knowledge of their land with modern, digitally enabled tools that collect and organize more data.

Thus, they provide them with actionable insights that allow better decision making.

As the world's population grows, factors such as climate change, urbanisation and soil degradation limit the amount of arable farmland.

Hence, agricultural productivity will need to increase to safeguard food supply in the long term.

Digital tools on drones gather data that help agri tech companies deploy their resources efficiently and sustainably. They also enable farmers to get the most out of their fields while using less land and fewer inputs (fertilisers and pesticides).

As the hardware of agro-drones becomes more sophisticated, so does the software. Plenty of artificial intelligence (AI) companies are working with drone makers. Their software will enable drones to use AI to identify exactly where and how much chemical is needed.

Such technology can change plant by plant rather than blanketing an entire field with the same treatment.

Now, the use of drones all across Indian farms may seem too far fetched for the time being. Especially, if the technology is not government funded. Also, it may be a while before tractors become completely obsolete.

But investors would do well to recognise the massive shift underway in India's agricultural sector.

The use of drone technology to increase India's agri output and meet the growing needs of the population is a necessity.

For instance, take the case of the second most populous country in the world - China.

China had only about 4,000 crop protection drones in 2016, according to data from the country's National Agro-Tech Extension and Service Center (NATESC).

In 2021, more than 120,000 drones were used to spray pesticides on over 71.3 million hectares) of farmland across the country.

China has now become the country with the largest area of farmland served by agricultural drones in the world.

Drones have played an active role in reducing costs and increasing efficiency in agriculture, emergency rescue and disaster relief, and food security, while advancing agricultural modernisation.

Its only a matter of time before the use of drones in India's agricultural sector becomes commonplace.

Also, companies that have access to cutting edge research on agri tech could lead the pack of agricultural stocks in India.

My recent recommendation in StockSelect is one such opportunity in the making.

So, the risk to M&M's business from technological obsolescence is not immediate. However, the risk is far bigger than just volatility in quarterly earnings and valuations.

Warm regards,


Tanushree Banerjee
Editor, StockSelect
Equitymaster Agora Research Private Limited (Research Analyst)