Q4FY23 Review: Apollo Tyres: Strong Q4, but margins peaking out

11 May 2023 , 10:23 AM

Apollo’s Q4 Ebitda beat IIFL Capital Services estimate by 10%, led by positive surprise in margins. The margin surprise was both in India and Europe. Apollo’s FCF and ROCE profiles have structurally improved, as they had envisaged. Apollo generated ~Rs9bn FCF in FY23; analysts of IIFL Securites expect Rs22bn in FY24, as capex would be low. Debt reduction would happen at a fast pace. They expect ROCE to improve to 13.6% in FY24.

Q4 Ebitda 10% above estimate: 

Consol. rev grew 12% YoY (in line), entirely driven by pricing. Volume performance was weak with flattish volumes in India and YoY decline in Europe. Ebitda margin expanded 180bps QoQ to 16.0% (140bps beat), with 300bps beat in India margins and 80bp beats in Europe. The margin beat was driven by sharp fall in input cost basket (crude, rubber). Absolute Ebitda came in 10% above analysts of IIFL Capital Services expectation. PAT beat was 40% due to significant leverage in the P&L.

Margins may not improve much from here, as RM tailwind fully captured in Q4: 

Apollo’s current margin is higher than its historical average. Ebitda/ton in India is at an all-time high. The India raw material basket fell 8% QoQ in Q4FY23. Mgmt expects RM basket to be flattish in Q1FY24, indicating that it may not be an incremental tailwind. Tyremakers are no longer implementing price-hikes, as cost pressures have eased. All considered, we believe margins may not improve much from here. If costs increase or players cut prices, margins may come off.

Downgrade from BUY to ADD: 

Analysts of IIFL Capital Services turn NEUTRAL on the domestic tyre sector, after being very positive since mid-2022. Tyre stocks are inherently cyclical, generating high returns when margins recover from sub-normal levels to above-normal. Once margins peak out, earnings growth become lacklustre, mirroring the sub-10% revenue growth. Apollo was our top-pick in the space; analysts of IIFL Capital Services trim it from BUY to ADD after the sharp outperformance (+89% in 12 months).