Shares in automotive component maker Sona BLW Precision Forgings (Sona) have been under pressure year-to-date, losing 16.4%. By comparison, the BSE Auto Index has significantly outperformed the stock, gaining around 20% over this period. While the correction was driven by macro concerns in key markets such as Europe and the US and margin pressures, some brokerages turned positive on the stock given its presence in the auto segments at rapid growth, falling commodity prices and valuation comfort.
Some of the pressures on the sales front, particularly in the internal combustion engine or ICE-based sector, were reflected in the June quarter due to weak global auto sales (Europe and China) in due to supply disruptions, the war in Ukraine and the slowdown due to Covid-related lockdowns. The company said the situation has improved over the past quarter and is expected to improve gradually.
Some of the weakness in ICE activity was offset by the 68% year-over-year increase in the electric vehicle (EV) segment. Given the strong growth of this segment, the share of electric vehicles in overall sales increased to 29% in the first quarter, compared to 25% in FY22.
Although the near term may remain challenging given the looming risk of recession, particularly in the EU geography, the medium-term growth outlook remains strong, say Rishi Vora and Eswar Bavineni of Kotak Institutional Equities. This will be driven by a strong backlog, particularly in the differential assembly and traction motor segments, a higher mix of electric vehicle segments and an increase in content per vehicle thanks to new product launches.
A key trigger for the stock is its exposure to the electric vehicle segment and its healthy order book providing visibility on growth. The company won six new programs and added four new customers in the electric vehicle segment in the first quarter. The overall order book now stands at Rs 20,500 crore. More importantly, two-thirds of the backlog is in the electric vehicle segment; this should increase as its flagship products gain market share.
Growth prospects are strong in the domestic market and Sona has a high market share for differential gears, which ranges between 60-95% across passenger vehicle and commercial vehicle product segments. The two- and three-wheel electric motor controller business is also expected to see strong growth given electrification trends and new orders. However, the company faces the risk of margin pressure in the global market.
Operating profit margins declined 350 basis points year-over-year and 40 basis points sequentially to 24.2%. Margins were impacted by the sharp increase in the cost of raw materials, which was only partially offset by an improvement in the product mix. The correction in raw material prices and the favorable impact of exchange rates should have a positive impact on margins during the current quarter. The company has guided a long-term margin range of 26-28%.
Ronak Mehta and Vivek Kumar of JM Financial expect the company to post 39% annual revenue growth in FY22-24. They believe a diverse revenue stream, growing share of EVs, strong backlog, and financial metrics make Sona Comstar one of the top performers in the EV space.
While there are short-term pressures, the stock’s correction over the past few months has made valuations relatively inexpensive at 40x currently versus 50x FY25 earnings per share at the start of 2022. Additionally, given the strong long-term outlook, investors could add the broth on the dips with a long-term view.