Edelweiss: PSL - banking on Indian pipeline capex; Buy

We recently met the management of PSL Ltd. (PSL) to get an update on the company. Following are the key takeaways of our interaction:

Order book to gain traction with brighter visibility for new order accretion

PSL’s order book currently stands at ~INR 15 bn (~400 KT) with volumes of 200KT for PSL India, ~30-40 KT for PSL Sharjah and ~60-70 KT for PSL USA. Although new order accretion in HSAW pipes has been moderate in FY11 due to slowdown in the oil & gas capex, it has gathered pace for water-based projects, especially from the Middle East; PSL has bids outstanding of ~INR 40-50 bn for water projects (domestic and overseas).

In India, PSL has bagged a 30 KT order for the recently bid Dabhol-Bangalore pipeline of the total orders of 180 KT, due to its pipe mill located in Chennai. Also, it expects orders from domestic water projects (Jaipur) and RGTIL’s upcoming pipelines in East India (Mehsana-Bhatinda, Mallavaram–Bhilwara, Kochi-Mangalore-Bangalore, Jagadishpur-Haldia). Moreover, the company has some bids outstanding in the US.

Leveraging on strategic advantages and X-80 technology for new orders

PSL is currently focused on relocating capacities from its existing facility at Kandla to its mills in Chennai and Jaipur, at a capex of INR 100 mn per mill. Also, the company recently received the X-80 certification for its Vizag mill. Lower freight rates due to strategic location of mills, together with cost savings on X-80 pipes (post technical qualification of its mills) are likely to give PSL a competitive edge in bidding for new orders from GAIL.

The management has guided to EBITDA margins of USD 70-90/MT for PSL USA, USD 60-80/MT for PSL India and USD 80-100/MT for PSL Sharjah. Margins in India would remain at sub USD 100/MT in the near term due to intense competition from other domestic players.

Outlook and valuations: Sector to gather momentum; maintain ‘BUY’

The pipe industry has been facing lower order accretion for some time. This has impacted the net order book of all pipe companies, including PSL. Going forward, we expect orders to pick up as pipeline capex in India fructifies and the oil & gas sector gathers momentum globally. After the recent annual report update, we have revised our earnings estimates (See Table 1) and have also introduced fair value for PSL, valuing it at INR 160/share. At CMP of INR 115, the stock is trading at an attractive P/E of 6x FY12E EPS and EV/EBITDA of 6.2x FY12E. We maintain our ‘BUY/Sector Outperformer’ recommendation on the stock.