Bajaj Auto: Accept

Recommendation: Accept

B. Krishnakumar

BAJAJ Auto has decided to buy back 180 lakh shares (representing 15.08 per cent of the paid up capital) at Rs 400 per share.

Given the consistent pressure on profitability and the subdued trend in share price, existing holders could accept the offer. Besides, considering that the offer price of Rs 400 is at a healthy premium to the current market price of Rs 353.40, existing investors could trim exposures in Bajaj Auto by accepting the buy back offer.

When the competitive dynamics in the two-wheeler industry is undergoing a major change, Bajaj Auto's decision to initiate a share buyback proposal, entailing a cash outflow of about Rs 720 crores, may seem abnormal. However, the reasons behind the buyback proposal may not be far to seek.

The company has traditionally enjoyed strong cash flows, which have been parked in liquid investments. As of March 2000, the company had investment portfolio of Rs 1,952 crores, comprising of equity, corporate bonds and government securities.

The bulging investment portfolio has turned out to be a steady source of income for Bajaj Auto. On the other hand, the company has faced persistent pressure on profitability in core operations. The shift in consumer preference from scooters to motorcycles, coupled with the growing competition in the scooter industry, has been the chief factor behind the relatively lacklustre trend in the company's performance.

In the motorcycle segment, the company had to contend with top brands from companies such as Hero Honda, Escorts Yamaha and TVS Suzuki. On the other hand, Bajaj had a relatively muted success in its efforts to launch products. As a result, the company's profitability has been under pressure.

Reflective of this trend, the company's return on net worth was eroded to 15.55 per cent for March 2000 compared to 32.74 per cent in 1995-96. While the company reported a net profit of Rs 634.85 crores for the year-ended March 2000, the income from and profit on sale of investments topped Rs 400 crores and the total income from other sources was Rs 509.65 crores. This indicates that the steady flow of revenues from investment has helped the company shore up its financials.

In the meantime, the growing competition and the pressure on profitability have led to a steady decline in the price-earnings multiple. The company's share price has broadly underperformed the overall markets in recent years.

The combination of factors such as the subdued trend in the share price and the consistent pressure on profitability, mounting competitive pressure in the core are of operation -- two-wheeler business -- and the strong cash flows appears to have prompted Bajaj Auto to initiate the share buyback proposal to provide some lift to the value of the stock.

Given that more players are venturing into the motorcycle segment, the company's performance would continue to remain under pressure. Already, the company has had to contend with the 14 per cent decline in net profit in the first quarter of this year. Taking into account the recent promotional schemes offered by the company, the chances of a sharp improvement in profitability appear remote.

Given this backdrop, the scope for a significant rise in the company's share price appears limited. Unless Bajaj manages to launch a slew of successful products, its financial performance would continue to remain depressed. Existing holders may, therefore, accept the offer.