A look at tyre stocks

An investor explains why he decided to invest in tyre stocks while another looks at a high-quality company in that space.
By Morningstar |  03-05-18 | 
 

Investor Safir Anand recently spoke to ET Now on why he is eyeing tyre stocks even though that is not a high margin business.

You can watch the entire interview here. What is reproduced below are his insights on the tyre sector.

Narrow down on a sector when it is being completely ignored by the market.

My bet on the tyre sector started when MRF was at a market cap of about Rs 2,400 crore. MRF’s current market cap should be in excess of Rs 35,000 crore. Ceat’s market cap was about close to Rs 500 crore and Ceat must have gone up may be about 10-12-14 times.

Perceive it as more than a commodity stock.

Tyres have been viewed as a commodity play and is dependent upon rubber prices.

1) There has been a complete transformation on the technology side of tyres with greater focus being spent on creating businesses that were more safety aligned as opposed to just a commodity. If you see the transition of the advertisements that were being released by the tyre companies for the last two or three years, the essential mindset is of human safety.

2) When MRF was at a market cap of around Rs 2,500-crore it announced a capex in excess of Rs 6000 crore. Looking at its history, there is no doubt that it is a very strong brand and, therefore, not really a commodity.

3) If we think tyre companies are commodities, then typically they should not be subject to antidumping duties or competitive pressures like Competition Commission. Because those typically apply to businesses that are cartels or businesses that have a monopoly and not really commodities in the typical sense.

See what the balance sheet reveals.

If you looked into the balance sheet, the entire company has been built around share capital of about Rs 2 crore. With a kind of capex can take on a Rs 6,000-crore expansion and set up an MRF Cricket Academy that does large deal sponsorship -- the cost of one sponsorship that they do of a cricket bat would be more than the entire equity capital -- then you have to understand the transition is happening in those businesses.

Look at industry dynamics.

The tyre segment in India was seeing the entry of larger players from overseas, the likes of Bridgestone and Michelin. And had not really seen any acquisition except that companies like JK Tyres were making acquisitions and the turnaround was quite favourable. So, it was a mindset of the consumer, it was an effective allocation of capital that was improving.

The threat from China was more centric around the business of trucks and heavy auto vehicles and not really on the passenger car segment or the 2-wheeler segments. Therefore it amounted to a reasonable bet at that point of time which is continuing right now also because of the benefits of rubber prices.

Sanjay Bakshi, in a post in MoneyLife discusses stock prices with an interesting analogy. He claims that high absolute prices should not deter investors. A persistently high stock price should be used, with caution, as one of the indicators of a high-quality business.

You can read the entire article here. What is reproduced below is only his view on the MRF stock – India’s largest tyre manufacturer and retailer.

Is the persistence of high absolute stock prices, especially over the long term - say 5 years - a signal of a high quality? Maybe. But for a number of psychological reasons, investors perceive high absolute stock prices as “expensive” as if they were a boulder being pushed up on a hill.

The stock price of MRF hit Rs 80,570. That’s a huge boulder. But here’s the thing. MRF’s stock was a huge boulder 5 years ago (Rs 33,787). It was a huge boulder 10 years ago (Rs 4,593) and it was a pretty big boulder even 15 years ago (Rs 1,106). But none of that prevented that boulder from being pushed up a very steep hill.

Why did this happen? 1) Excellent fundamental performance in terms of revenue, post-tax earnings and EPS. 2) No issuance of new shares — for cash, in mergers, as bonus, or for stock splits. Indeed, MRF has had 4,241,143 shares outstanding like forever. And when outstanding shares do not change, and the business grows over time, its market value also grows over time and stock price keeps going up.

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Sujeet Singh
May 6 2018 04:45 PM
In the 10th line, "Types" should be "Tyres". Please fix it.
rohit sehgal
May 4 2018 06:57 PM
sir,
what is your opinion on Balkrishan industries ( offroad tyre mfg. company
regards
rohit sehgal
Rishabh Adukia
May 4 2018 12:16 PM
well explained article in a simple manner and the simplicity comes with the depth of knowledge.
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