Monday 12 March 2012

AUTOMOTIVE (NEUTRAL) Sector News Flash: Tighter Lending Not To Blame


TIV plunged in Jan 2012 on slower business activities in a month shortened by fewer working days due to the Lunar New Year holidays. While the tighter lending rules have dampened vehicle sales, its impact should be manageable as banks and dealers adapt to  the situation.  Given that we have no SELLs in our auto coverage, we upgrade our sector call from UNDERWEIGHT to NEUTRAL, with UMW as our top pick. We  are  still cautious on the macro picture  though, as the demand upside would be marginal since the replacement cycle for new vehicles -a  potential sales driver  - has peaked and  upcoming models may  lack the excitement to spur TIV amid deteriorating consumer sentiment.

Tighter lending.  TIV for the month of January dropped by a sharp 25% y-o-y. The Proton Dealers Association claimed that loan approval rates have fallen to 30% against the usual 45%–50% owing to Bank Negara‟s new lending guidelines. Under the new guidelines, credit approval will now be determined by calculating the “debt service ratio” based on a purchaser‟s net income (which is a smaller denominator) instead of gross income previously. Proper documentation is also needed and any additional income must be backed by supporting documents, while lending to civil servants will be capped at a debt service ratio of 60% versus 70%-75% previously.

TIV drop due to fewer working days. Business activities tend to be slower at the start of the new year and the fact that the Chinese New Year fell in January aggravated this slowdown. Furthermore, bonuses are usually not paid so early in the year, and such income can sway consumers when it comes to the timing in purchasing big ticket items. We see the drop in TIV as being weighed down more by the shorter work month in combination with the autoparts shortage sparked off by the Thai floods, rather than due to a higher rejection rate for car loans per se. To point out, loans applied in the banking system for the purpose of purchasing passenger vehicles in January has also dropped by 15% y-o-y to RM6.16bn, while loans approved were down by 15% y-o-y, which has resulted to a drop of 25% y-o-y in vehicle sales for the month. Furthermore, the ratio of loans approved to loans applied for has remained at 49.7%, just 2.58ppt higher m-o-m but 1.77ppts lower y-o-y. Excluding the distortion relating o the Chinese New Year, a more appropriate measure would be to compare sales in Jan 2012 against that in Feb 2011, during which  vehicle sales were higher by 1.4% while loans applied for and approved were higher by 17% and 14% respectively (see Figure 1 below).  The higher growth in loans was, however, overstated given that numbers achieved in February last year was due to the lower base arising from to the fewer working days.

Banks get cautious too. In complying with the  new guidelines, banks  have  become  stricter on documentation and more stringent in initial screening, which has certainly has put a dent on vehicle sales. On the other hand, this may get more manageable as banks and car dealers adapt to and familiarize themselves with the new submission procedure, which has led to the overall loan application period stretching to a week versus the usual 1-2 days. We understand that  the applicants  most hit by the  new guidelines  are civil servants, who are unable to produce supporting documents on their side income. The more stringent lending rules may, however, be a boost for  financing companies owned by auto players such as Toyota Capital (owned by UMW, financing both Perodua and Toyota marques) and TC Capital Resources (owned by Tan Chong, financing Nissan marques), both of which are not under the direct purview of Bank Negara. Our latest checks reveal that financing companies backed by automotive groups were not affected by declining approval rates other than the slowdown in sales due to the shorter working month. However, the smaller balance sheet of these financing companies relative to the banks limits their ability to provide financing for car purchases.

What we expect for February 2012 TIV. We expect TIV to pick by 20-25% y-o-y and m-o-m in February as business activities normalize, although YTD TIV will continue to see single digit negative growth, taking into consideration the possibility that loan applications may temporarily hit a snag due to the more stringent and longer loan approval process.

Buyers may defer purchases pending new model launches. We also reckon Proton sales may slow down as buyers defer their purchasing decision in anticipation of the new Persona replacement being launched at end-March. We tested the car last week and the general feedback among the fund managers and analysts from the trial drives has been largely positive. We see this  purchase delay  similarly affecting  the D and E segments, as well prior to the launch of the new localized Camry, which will likely be cheaper than the CBU model by as much as 15%.

Consumers get cautious. Consumer sentiment remains cautious overall in light of the weak unemployment outlook amid uncertainty in the overall economy; but we think TIV could still grow marginally by 1.1% as new model launches could continue to spur interest. In addition, the replacement cycle for new vehicles that can usually be counted on to boost sales, has peaked. We expect next year‟s  TIV to inch up by a mild 1.1%, based on a forecast 2012 GDP growth of 5.2%.

What the NAP can  offer. The media reported that the Government is considering reopening the 1.8-liter vehicle segment to foreigners. The restriction on foreigners with 100% ownership in manufacturing plants was lifted in the last NAP in 2009, but this was confined to the production of vehicles priced above RM150,000. We do not rule out the possibility of the Government further  relaxing the price criteria, which may pave the way for the entry of other automakers. We  also  understand that currently the Government, together with consultants and industry players, is reviewing key aspects pertaining to the sector in its efforts to drive investment in manufacturing hybrids and electric vehicles and gradually phase out Approved Permits (AP).  The revised NAP is due to be announced in the next two months.
The Outlook for companies under our coverage is detailed in the following pages.

- UMW (BUY, FV: RM7.88). UMW is now our auto sector‟s top pick, on account of the turnaround of its oil and gas segment on  securing  more  oil and gas jobs  and a  foreseeable  better year for its equipment and manufacturing division. While the auto segment may see modest revenue growth, we think its margins  may improve tremendously  this year driven by  a  higher localization rate (for the upcoming Camry), as well as a  stronger ringgit. As for Perodua, we  see volume  growth fuelled by resilient demand, and  expect the company to grow earnings by double digits for the third consecutive year at 14% in 2012.  This  automaker also offers an attractive potential  net  dividend yield of 4.4%. We have a FV of RM7.88 based on SOP (as below), with a BUY call on UMW.

- Tan Chong (NEUTRAL, FV: RM4.00). With the recently launched all-new Nissan Vanette and the upcoming B segment CKD sedan (a new segment where Nissan will be competing head-on with Toyota‟s Vios) slated for launch in September and a number of CBU models in the pipeline, we see a better 2HFY12. Furthermore, its Danang plant should be operational as early as March this year, with a monthly production target of 1,200 units, of which some would be exported to China. Nonetheless, the 1H outlook should remain challenging as demand for its best selling Grand Livina continues to be lackluster in view of the intensifying competition in the MPV segment. Given the higher revenue driven by a 18% growth in vehicle volume for FY12 (Malaysia and Vietnam combined), we see Tan Chong‟s earnings growing by 18.4% y-o-y.  We have a  FV of RM4.00 premised at 10x FY12 PE. Maintain NEUTRAL.

- MBM (BUY, FV: RM5.34). While the recent rights issue raises concerns on a dilution in its earnings base, we think this will be compensated by the earnings accretion potential from Hirotako and the interest cost savings it will achieve upon raising the desired optimized capital. The company‟s longer term prospects remain  reassuring, with the upcoming alloy wheel plant to generate further revenue and the possibility of MBM cross selling airbags to Indonesia. MBM is morphing into an established integrated player with exposure across broad segments and across various supply chains in the automotive sector.  We have a FV of RM5.34 based on SOP (see table 6 overleaf).

- Proton (NEUTRAL, FV: RM5.50).  We have yet to turn optimistic on  Proton‟s  outlook in the immediate term despite DRB‟s impending  takeover  as  many  issues  remain unresolved  in turning around the national automaker and ensuring that it generates decent profits. However, we do agree that DRB‟s entry as a strategic partner and the possibility of Volkswagen localizing production would be positive for Proton. Our reservation rests on how fast DRB can cut costs through its vendor rationalization. We think such a process will not materialize immediately as one will have to address the issue of supply chain continuity and renewing its product design. Our FV at RM5.50 is based on DRB‟s offer price.

- Delloyd Ventures (NEUTRAL, FV: RM3.88) and EPMB (BUY, FV: RM1.38). We expect autoparts makers to post better earnings this year on improved volume  as assemblers localize more of their production in Malaysia,  thus  allowing them to reach bigger  economies of scale. There may be potential sizeable contracts from Volkswagen, which we see setting up an ASEAN production base in Malaysia  while  Daihatsu Motor Corp‟s aggressive expansion into  Indonesia may potentially see Malaysian automakers  become its  parts sourcing partners. Our valuation on Delloyd and EPMB is based on 7x and 5x FY12 EPS respectively.

Upgrade sector to NEUTRAL. As we have no SELLs among our auto coverage currently, we upgrade our sector call from UNDERWEIGHT to NEUTRAL, with UMW as our top pick. Overall, we are still cautious on the macro picture for autos as we think the demand upside would be marginal since: (i) the replacement cycle for new vehicles, which may  boost  sales, has peaked, (ii) upcoming models may not create enough excitement to sufficiently spur TIV growth, (iii) bankers are tightening lending and becoming more stringent in approving loans, and (iv) consumer sentiment is deteriorating and buyers have become more cautious.

Source: OSK188

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