Analysts at Citi Research believe tyre companies' gross margins would be under pressure because of the need to import rubber on account of domestic supply issues. Given the import duty of 30 per cent and rupee depreciation, costs are expected to move up. Further, crude oil prices are expected to remain high, impacting derivatives such as carbon black and nylon tyre cord, which are 35-40 per cent of their raw material costs.
Operating profit margins of both MRF and Apollo Tyres were down 50-230 bps on a sequential basis to 12-15 per cent in the June quarter, primarily due to higher prices of crude oil derivatives.
Finally, what could impact the margins would be the tyre makers' pricing action. With capacity building up, companies would aim at selling the incremental production via aggressive pricing; this would depress their margins.
While there are headwinds, analysts at Citi say companies have been consistent in pricing action - they have taken price hikes and cuts in sync, similar to what cement companies have done.
Bharat Gianani of Sharekhan believes that to fully pass on the rise in input costs, tyre companies would need to raise prices by two per cent. He said their pricing power is strong, led by buoyant demand in both the replacement segment and from automobile companies. Barring August, auto companies across segments have reported double-digit growth for the financial year ( from April 1) to date. With the festival season beginning October, analysts expect September despatches to be strong.
However, Hetal Gandhi, director at CRISIL Research, says despite robust demand, tyre makers are able to only partially pass on raw material price hikes.
Apollo Tyres had announced a price hike of around two per cent effective July 30. Other manufacturers are also expected to raise prices. Gianani believes MRF and Apollo, being the market leaders, will see the least impact; they normally lead in any pricing action. Smaller players such as Ceat and JK Tyres could see higher impact. Apollo remains the top pick for most brokerages, given its dominant share in truck and bus radials, which have higher realisations, their capacity expansion and turnaround in the European business.