Giant — rising from slumber? We believe the M&M stock is significantly undervalued; focus on efficient capital allocation will unlock the value of tractor and LCV businesses. Our bull-case fair value of the stock comes to Rs 950/share if the capital allocation concerns are addressed, while the current base-case fair value is Rs 650/share as we still model subsidiary losses to continue till FY2023.
Maintain ‘buy’ rating on the stock with fair value of Rs 650 (from Rs 640 earlier). Over the past six years, the M&M stock has traded at a significant discount to its long-term historical trading range, largely due to two key factors — a deteriorating return profile led by significant investments in loss-making subsidiaries and loss in market share in the SUV business.
Consolidated RoIC (excluding financing businesses) has declined from 19% in FY2010 to 4% in FY2020 due to losses in some subsidiaries. We expect consolidated RoE to improve to 17-19% in FY2023E from 7% in FY2020, if the company takes steps to exit from Ssangyong Motor, Peugeot Motorcycles and curtails losses in the international subsidiaries of the tractor segment. The company has defined 18% RoE target for the consolidated business in the near term, which can be achieved in our view. We assign a bull-case fair value of Rs 950/share for the M&M stock, which assumes — the company is able to curtail losses of loss-making subsidiaries from Rs 38 billion in FY2020 to Rs 4.5 billion in FY2023, tractor and LCV business revenues grow at 11-12% CAGR over the next 18-20 years and maintain their leadership positions in the respective segments, and the company does not burn cash in the SUV business. In our bull-case scenario, we assign `550/share value to the tractor business (higher than current market price), Rs 225/share to the LCV business, only `21/share value to the SUV business and subsidiary value of Rs 156/share.
We would like to highlight if the management focuses on conserving capital and does not let the SUV business burn cash due to significant investments, we reckon it should not matter to investors as the value of that business is insignificant.
We reckon tractor and LCV businesses are jewels in M&M’s crown, but the intrinsic values of these businesses are not getting captured in the stock currently. In our base-case scenario, we assign fair value of Rs 650/share to the stock, valuing the tractor business at Rs 440/share, LCV business at Rs 140/share, SUV business at Rs 21/share and Rs 50/share value of subsidiaries.