Detailed Rationale

CRISIL Ratings has downgraded its ratings on the bank facilities and debt instruments of Hero Cycles Limited (HCL; part of the Hero Cycles group) to ‘CRISIL A+/CRISIL A1’ from ‘CRISIL AA-/CRISIL A1+’; the ratings continues on 'Rating Watch with Negative Implications’.

 

The downgrade reflects the weaker-than-expected operating performance of the remaining cycle business of HCL after the demerger of its auto components business into Hero Motors Ltd (rated ‘CRISIL A+/Stable/CRISIL A1’). Consolidated revenue for fiscal 2023 is estimated to remain at ~Rs 2,100 crore (similar to fiscal 2022). Though there has been slight improvement year on year in the operating profits from the domestic cycle business in fiscal 2023, it remains lower than CRISIL expectations. Furthermore, slower-than-expected turnaround in the subsidiaries has led to continued pressure on the operating performance for the overall cycle business. Ramp-up in subsidiaries and subsequent turnaround in overall operating profitability in fiscal 2024 will be a key monitorable.

 

Consolidated net debt for the cycle business is estimated to have increased to ~Rs 580 crore as on March 31, 2023, from ~Rs 420 crore as on March 31, 2022, due to larger working capital requirement given pile-up of inventory amid subdued demand, and loss funding for subsidiaries. However, liquidation of excess inventory and other liquidity events, including asset monetisation, in the near term should reduce net debt going forward.

 

The ratings remain on watch because HCL has announced the demerger of its cycle business including its subsidiaries like Hero E-Cycles Pvt Ltd (HECPL; rated ‘CRISIL A+/CRISIL A1+/Watch Negative), into a new entity, Hero Cycles Group Pvt Ltd, which will be owned directly by the promoters of HCL; the transaction is pending requisite approvals. CRISIL Ratings is in talks with the management and will resolve the watch once there is clarity on the balance sheets of the entities after the demerger.

 

The management has indicated steps, including monetisation of non-core assets in the near term, which may bring in significant liquidity. Timely execution of these liquidity events, leading to reduction in debt, will remain a rating sensitivity factor.

 

The ratings reflect the strong position of HCL in the domestic bicycles market and expansion plans in the overseas markets, and financial flexibility backed by a healthy liquidity and asset monetisation plans. These strengths are partially offset by subdued profitability in the cycle business and modest debt protection metrics.

Analytical Approach

CRISIL Ratings has combined the business and financial risk profiles of HCL and its subsidiaries, joint ventures and associates. This is because all these entities, together referred to as the Hero Cycles group, are under a common management and have strong business and financial linkages.

 

Please refer Annexure - List of entities consolidated, which captures the list of entities considered and their analytical treatment of consolidation.

Key Rating Drivers & Detailed Description

Strengths:

• Strong position in the domestic bicycles industry and expansion plans in the overseas markets: The group is the biggest player in the domestic bicycles market, backed by its large manufacturing capacity, strong brand and pan-India distribution network. HCL has the biggest manufacturing capacity with ~65 lakh bicycle per annum. It remained the market leader with around 35 lakh bicycles sold in fiscal 2023 against 43 lakh in fiscal 2022, despite a dip in overall industry volumes. A new unit was set up under the wholly owned subsidiary, HECPL, with installed capacity of 20 lakh units on a two-shift basis. HECPL has capability to manufacture high-end e-bicycles to meet the requirement for premium bicycles as well as e-cycles for both the domestic and the more lucrative foreign markets.

 

Moreover, acquisition of BSH Ventures Pvt Ltd (BSH), InSync and HNF GMBH which have provided them a presence in premium foreign markets like UK, Germany etc.

 

Growth of the domestic bicycles market is expected to be muted in the near term. Hence, ramp-up of sales in foreign subsidiaries and HECPL, leading to improvement in operating performance over the medium term, will remain a monitorable.

 

• Healthy liquidity and high financial flexibility: Liquidity is estimated at ~Rs 195 crore as on March 31, 2023. Furthermore, the group monetised real estate investments worth Rs 80 crore in April, which has provided a further boost to liquidity. Other non-core assets such as land parcel in cycle valley further enhance financial flexibility. Moreover, the established Hero brand enables the group to contract debt from the capital markets and banks. Adjusted consolidated networth was over Rs 1,350 crore as on March 31, 2022, while gearing has sustained below 1 time historically. Therefore, despite a weak profitability leading to modest debt protection metrics, strong liquidity and high financial flexibility will continue to support overall financial risk profile.

 

Weaknesses:

• Subdued profitability in the cycle business: Consolidated operating margin in the cycle business is weak due to marginal operating losses incurred in fiscals 2023 and 2022. This was due to slower-than-expected ramp-up in loss-making subsidiaries and subdued industry demand. HCL had acquired three businesses − Firefox Bikes Pvt Ltd (Firefox), Insync and BSH − for Rs 135 crore in fiscal 2016; HNF GMBH in fiscal 2019; and infused over Rs 150 crore in HECPL to wards setting up a new manufacturing unit for expansion in the cycle business. Significant investments to scale up the subsidiaries, including financial support during their initial ramp-up, led to muted return on capital employed. Turnaround in the operating performance of the subsidiaries, thereby improving consolidated operating profit in fiscal 2024 will be a key rating sensitivity factor.

 

• Modest debt protection metrics: Low cash accrual due to Though scale of operations is large, modest profitability has kept cash accrual relatively subdued. As a result, net cash accrual to total debt and adjusted interest coverage ratios for HCL were estimated to be muted at 0.2 time and below 3 times, respectively, in fiscal 2022. Consolidated net debt for the cycles business is estimated to be ~Rs 580 crore as on March 31, 2023 compared to ~Rs 420 crore as on March 31, 2022. This increased due to higher working capital requirement given pile up of inventory amid subdued demand and loss funding for subsidiaries. Management is taking steps to liquidate excess inventory and liquidity events including asset monetisation in the near term should lead to reduction in net debt going forward. Reduction in debt and improvement in debt protection metrics, in line with expected improvement in operating performance, will remain a key rating sensitivity factor.

Rating Sensitivity factors

Upward factors

• Significant improvement in operating performance, including of subsidiaries, and consolidated operating margin sustaining above 4-5%
• Substantial reduction in net debt leading to improvement in the financial risk profile

 

Downward factors

• Fall in revenue and operating margin resulting in lower-than-expected cash accrual, and interest coverage ratio sustaining below 3 times
• Large investments in subsidiaries or significant capital expenditure (capex) further impacting capital structure

About the Group

Incorporated in 1956, HCL is the largest bicycles manufacturer in the world. The company has capacity of 65 lakh bicycle per year, with units in Ludhiana, Bihta (Bihar) and Ghaziabad (Uttar Pradesh). It also manufactures auto rims and components. Operations are managed by Mr Pankaj Munjal and his family.

 

In fiscal 2016, the group completed three acquisitions: Firefox, Insync and BSH. Firefox is a leading player in the premium bicycles segment in India and currently sells over 100 different models. Insync is one of the top three distributors of bicycles, e-bikes, bicycle parts and accessories, with presence across Europe. BSH is a bicycle manufacturer based in Sri Lanka, with state-of-the-art manufacturing plant that will supplement sales of HCL in southern India and Europe.

 

HCL had entered the commercial real estate business through Munjal Hospitality Pvt Ltd (MHPL) and acquired an under-construction hotel property in Gurugram in fiscal 2012. In 2019, the company diluted 60% stake in MHPL for a consideration of Rs 438 crore. Also, the company acquired the HNF brand in Germany in fiscal 2019 to become a full-range supplier in the European market.

Key Financial Indicators

As on / for the period ended March 31	Unit	2022	2021
Revenue	Rs crore	3036	2436
Profit after tax (PAT)	Rs crore	71	109
PAT margin	%	2.3	4.5
Adjusted debt/adjusted networth	Times	0.68	0.57
Interest coverage	Times	2.64	4.53

 

Any other information: Not applicable

Annexure - Details of Instrument(s)

ISIN	Name of instrument	Date of allotment	Coupon rate (%)	Maturity date	Issue size (Rs crore)	Complexity Level	Rating assigned with outlook
INE668E07080	Debentures	06-Nov-20	7.50%	06-Nov-24	100.00	Simple	CRISIL A+/Watch Negative
NA	Commercial paper	NA	NA	7-365 days	250.00	Simple	CRISIL A1/Watch Negative
NA	Cash Credit*	NA	NA	NA	15.00	NA	CRISIL A+/Watch Negative
NA	Cash Credit	NA	NA	NA	2.00	NA	CRISIL A+/Watch Negative
NA	Cash Credit & Working Capital Demand Loan*	NA	NA	NA	105	NA	CRISIL A+/WatchNegative
NA	Cash Credit & Working Capital Demand Loan*	NA	NA	NA	190.96	NA	CRISIL A+/Watch Negative
NA	Proposed Term Loan	NA	NA	NA	41.68	NA	CRISIL A+/Watch Negative
NA	Term Loan	NA	NA	02-Jan-25	43.75	NA	CRISIL A+/Watch Negative
NA	Proposed Long Term Bank Loan Facility	NA	NA	NA	0.57	NA	CRISIL A+/Watch Negative
NA	Letter of credit & Bank Guarantee	NA	NA	NA	18.00	NA	CRISIL A1/Watch Negative
NA	Letter of credit & Bank Guarantee#	NA	NA	NA	65	NA	CRISIL A1/Watch Negative
NA	Letter of credit & Bank Guarantee#	NA	NA	NA	44.04	NA	CRISIL A1/Watch Negative
NA	Letter of credit & Bank Guarantee*	NA	NA	NA	20.00	NA	CRISIL A1/Watch Negative

*Two-way interchangeability between fund-based and non-fund-based

#Two-way interchangeability between fund-based and non-fund-based including standby letter of credit

Annexure – List of entities consolidated

Entities consolidated	Relationship	Rationale for consolidation
Hero International BV	Fully consolidated	Strong financial and business linkages
UT Bikes Pvt Ltd	Fully consolidated	Strong financial and business linkages
Hero Transmission Pvt Ltd	Fully consolidated	Strong financial and business linkages
Hero E-Cycles Pvt Ltd	Fully consolidated	Strong financial and business linkages
Firefox Bikes Pvt Ltd	Fully consolidated	Strong financial and business linkages
Hero PBG Cycles Pvt Ltd	Fully consolidated	Strong financial and business linkages
Spur GMBH	Fully consolidated	Strong financial and business linkages
BSH Ventures Pvt Ltd	Fully consolidated	Strong financial and business linkages
Insync Bikes Ltd	Fully consolidated	Strong financial and business linkages
Parker’s (Manchester & Bolton) Ltd	Fully consolidated	Strong financial and business linkages
Parkers (BDA) Ltd	Fully consolidated	Strong financial and business linkages
Momentum International Ltd	Fully consolidated	Strong financial and business linkages
Munjal Kiriu Industries Pvt Ltd	Equity method	Proportionate consolidation
ZF Hero Chassis System Pvt Ltd	Equity method	Proportionate consolidation
Hero Youon Pvt Ltd	Equity method	Proportionate consolidation
Hero Financial Services Pvt. Ltd	Equity method	Proportionate consolidation
Munjal Hospitality Pvt Ltd	Equity method	Proportionate consolidation
HNF GMBH	Fully consolidated	Strong financial and business linkages
OPM Universal Solutions Ltd	Fully consolidated	Strong financial and business linkages