By AltG Research On Behalf Of Poornima Vardhan & Taponeel Mukherjee
A news article published by The Morning Context on how Honda is racing ahead of Hero MotoCorp in the two-wheeler space in India brings the focus back to Hero MotoCorp and its underperforming share price.
This news does not come as a surprise to anyone in the industry as the signs have all been there: Hero has been the most underperforming stock in the Indian Auto Industry by a huge margin - NIFTY Auto INDEX and The SENSEX have performed 7x, offering an 82% return- Hero has underperformed the SENSEX By 71% in the last 5 years!
So why has Hero underperformed the SENSEX by a whopping 71%, and What's the solution?
Simply, While Hero is an able operator, it's a Bad Capital Allocator.
Hero has not been able to adapt to the changing times and has completely missed the tectonic shift in the demands of the 700 million aspirational young Indian consumers and tectonic shifts in technology.
Basically, Hero faces two fundamental challenges. Firstly, it still views itself as a two-wheeler business in a world where Software Is Eating Mobility. Software is becoming an increasingly larger component of the value pool with much higher margins, while Hero stands as a hardware maker stuck in the 20th Century. A mobility software company such as KPIT Tech has outperformed the SENSEX by over 1000% in the last 5 years, while Hero has underperformed by 71%. Software is Eating Mobility, and Hero needs to wake up.
Secondly, Hero is a poor capital allocator. In a world where mobility profit pools are transforming, Hero should invest in growth and not pay dividends. Basically, stop paying dividends and allocate the money into high growth sectors with cash flow visibility.
That said, Poor Capital Allocation isn’t a problem just limited to Hero. Indian corporations need to significantly focus on being exceptional Capital Allocators as opposed to pure Operators. There is at least $1 Trillion of market capitalisation to be created in India via capital allocation.
Essentially, if Hero had taken its dividends from the last 6 years and invested it at a 20%, 25% and 30% ROIC, that would have yielded an additional market capitalisation of 8, 12 and 16 Billion Dollars.
Is it too late for Hero to make a comeback?
The answer is no; however, this is a line-in-the-sand moment- A Last Chance. Similar to Microsoft's comeback from a $250 Billion market cap in 2012 to $ 2.77 Trillion, 11X market cap today. There is hope for Hero, but it must act quickly.
Hero needs a hero - someone who can combine the factories of Hero with Industrial Automation and AI and use the cash flows to invest in future growth. Hero needs to stop thinking of itself as a Motorcycle Manufacturer and become a Mobility Solutions Platform to transform a 71% underperformance versus the SENSEX into a massive outperformance.
Capital Allocation Matters A Lot More Than People Realise!
Hero Fincorp and Bajaj Finance started in the late 80s and early 90s to facilitate two-wheeler loans for the two mobility behemoths. That's where the similarity ends! Bajaj Finance was built into a behemoth with a $52 Billion market capitalisation, while a Hero Fincorp listing is in the news at about a $2 Billion valuation. That 26X difference in market capitalisation boils down to Capital Allocation and building the business in a high-growth segment. Indeed, such capital allocation ensures you outperform the SENSEX by 1000% versus a 71% underperformance.
Hero Needs A Hero and Now!
As experts in Economic History, we at AltG have seen this pattern emerge again and again in old school companies - From Microsoft's re-emergence to the fall of Sears in the US to closer home with Reliance's moving from oil to data to drive growth to the downfall of Zee.
Getting into adjacent businesses is essential for the survival and growth of all companies. Samsung started as a trading business in noodles and fish, and Nintendo was in the business of trading cards. Indeed, both companies are glad they diversified, or else they would have underperformed their benchmarks by a lot more than 71%!
Hero's fundamental challenge is also its greatest opportunity. Launching premium bikes, taking a jab at the scooter market and trying to expand beyond the Hero Splendor model are all short-term solutions that won't matter. The only thing that will matter is whether Hero's promoter group, board and investor base realise that Capital Allocation is the solution to Hero's problem of underperforming the SENSEX by 71%.
Today, Hero faces a crucial choice: To change with the times like Microsoft or to keep the status quo and go the Zee way. You either adapt, or you die in Business!
Disclaimer: In the article "Hero MotoCorp: Will it go the Microsoft way or the Zee Way?" above - Any views, comments or communication (above or in the past) should not be construed to be investment advice by Alternative Growth (hereafter referred to as “AltG”) in any form whatsoever. AltG does not make an offer to sell or solicit to buy any securities.