Can Apollo Tyres, once caught between ‘RRR’ and Harshad Mehta, break out?

Three decades ago, Apollo Tyres was in the middle of a legendary tug of war between the trio of Radhakishan Damani, Rakesh Jhunjhunwala and Raju ‘chartist’ on one side and the big bull of that era, Harshad Mehta, on the other.

Mehta was, of course, pumping up the share price of the tyre maker while RRR—as they were known on Dalal Street—were shorting the stock, convinced it was overvalued.

Apollo Tyres has gone through its highs and lows and has scaled up much since then to become the second-largest tyre company in India. It did try to go one up on MRF with a $2.5 billion deal a decade ago with Cooper Tire but was forced to scrap the transaction after it was seen by the market as too much to chew. But a previous deal with Vredestein did give it a boost.

Nevertheless, it now commands a market cap of over $2 billion and even counts marquee private equity firm Warburg Pincus among its backers.

The stock had touched a lifetime high four years ago but had been sliding since then and the onset of the pandemic cracked its price to just one-fourth of the previous high.

It did recover thereafter, almost tripling from the lows within a year. But it has been almost trading sideways for the last 18 months only to see some momentum over the last few weeks.

Now, the stock is just around 10% shy of its all-time high. The question is can it break out this time?

Financial performance

Apollo is the leading manufacturer of radial tyres for the domestic truck and bus segment with just under a third of the overall market and has established its position in the light commercial vehicles, tractors and passenger car radial divisions.

Last year, the Asia Pacific, Middle East and Africa operations accounted for around 58% of the consolidated revenue, followed by Europe (around 26%), and the US.

In terms of overall segmental diversity, the replacement market accounts for 81% of the consolidated revenue, thereby assuring steady revenue flow.

Due to the modest ramp-up of the Hungarian operations and high production cost, profitability in Europe had been declining since 2018. It restructured its European operations, by shifting much of the production to the new low-cost Hungary plant and rightsizing of workforce. Now, its plants are operating at near-full utilisation and this has helped the company to improve operating margin for the Europe business.

The company had previously lost the interest of investors as it hit a big speed bump. Revenues had flatlined around Rs 12,000-13,000 crore for almost six years during FY12-FY17. The tyre maker did manage to step on the gas for the next two years only to be hit by the slowdown in the auto sector and thereafter the pandemic.

But investors had another reason to skip the counter. The company’s bottomline had hit a plateau, at around Rs 1,050-1,100 crore for four years from FY14 through FY17.

In fact, this is one area that has remained the reason why the stock remains a contrarian players’ pawn, at least for now.

The company’s topline did break out to touch almost Rs 21,000 crore last year even though profits remain much low the highs.

While operating margin in the domestic business was impacted in H2 FY22 due to a rise in raw material prices, overall margin has been supported by robust growth in demand from Europe.

Strong demand across segments is expected to sustain owing to the uptick in economic activity in fiscal 2023.

The company says it has retained the target to hit a $5 billion revenues by FY26, this could mean nearly doubling of turnover over the next three years.

A lot will depend on continued growth in the economy and business sentiments as the company derives much of its sales from truck and bus tyres that sees demand cyclicity and moves in tandem with the economy.

In the international business, Apollo Tyres feels the next phase of growth will come from its push in the US market.

If we look at how it fared in the first quarter ended June 30, Apollo Tyres reported a 30% rise in revenues on a low base to hit Rs 5,942 crore. But margins remain under pressure and is likely to remain so for next few quarters to a year. However, analysts are seeing a silver lining.

What do experts say?

Analysts tracking the company and sector feel the worst is behind Apollo Tyres. One brokerage house said the company beat its EBITDA margin expectations in Q1 and it now feels the benefits of moderating input prices may show as soon as the third quarter ending December 2022.

But it has still pencilled a lower EBITDA margin for FY23 as a whole compared to FY22. This, it expects, will turn for good the following year and Apollo Tyres could see 50% growth in topline over the next three years with net profit more than doubling in the same period.

Another brokerage house, which was also surprised by the margin picture in the first quarter, had a lower expectation on the revenue growth till FY25 but expects Apollo Tyres to do even better in terms of profit.

At the same time, the run up in the share price over the last few weeks has already made the stock cross the upward revised price targets of most brokerages.

Investors could be looking at some consolidation in the near term till the quarterly results are declared next month. That could give a direction for the stock. If it manages to surprise again with margin improvement with continuing rise in topline it may see the stock move beyond the Rs 300 a share price barrier.