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Sterlite Technologies Limited -Spools of growth
Investment rationale
Operational scale and market leadership
Sterlite Technologies Ltd. (STL) is a market leader in the OF, OFC and Power
Conductors segments and is amongst the ‘Top Five’ global manufacturers in
both segments. It has built up strong manufacturing expertise in noth verticals
and is amongst the cheapest global manufacturers in both segments. Its
domestic market share is ~ 25%, with a sizeable portion of the National Grid
(~25%) set up using its conductors. In the OF and OFC segments, STL has
50% market share in India, 7% in China and 4% in CIS.
Comprehensive product profile
Currently, STL has one of the widest possible product ranges in power
conductors and OFC. Thus, it is not only able to compete with smaller players
in the commoditised categories, but also able to derive strong positioning
advantage at the top end of the product range, where it performs the important
function of import substitution.
Favourable macro headwinds
With power generation capacity of 40-50GW set to come on stream over
the next 3 years, infrastructure in the domestic transmission and distribution
sector is set to be beefed up. This is expected to spawn humongous demand
for power conductors. On the telecom side, international demand for OF
and OFC is arising on account of improving ‘Last-Mile’ connectivity and
higher bandwidth requirements while strengthening of existing networks is
the primary driver of domestic demand.
Valuation and outlook
STL’s ongoing capex, all inclusive nature and technological superiority of its
product profile, coupled with the management’s strong track record inspire
confidence. We believe that the its inherent operational strengths coupled
with a positive demand scenario will reflect STL’s financials. We upgrade our
recommendation to BUY with a price target of INR97, an upside of 39%.
Investment rationale
Operational Recap
Telecom Products and Solutions
Healthy capex by domestic telecom companies as well as robust exports to countries like
China translated into higher despatches and improved realisations as STL’s revenues in
this segment registered a healthy growth of 20% in 1HFY11 to INR3.3bn. However, EBIT
margins were slightly better at ~23% (vs ~22%) due to the rendering of broadband
integration services, which are high margin offerings.
Power Conductors
1HFY11 was wholly unremarkable for STL’s power segment. The absence of any tendering
by key domestic customers like PGCIL resulted in static despatches. Revenues stood at
INR6.7bn (+7%), with EBIT margins of 12% (vs 14%). The decline in margins was
largely on account of inventory carrying costs and execution of lower margins orders.
Future Outlook
Telecom Products and Solutions
Domestic telcos are looking to maximise ARPUs by introducing bandwidth intensive
applications. At current levels, existing networks are incapable of handling the traffic,
with most telecom networks requiring drastic overhaul of their fiber backbones as
well as tower connectivity. Despite infrastructure sharing, new operators will have to
set up basic infrastructure; necessitating fresh demand for OFC.
The defence forces have outlined plans for 60,000kms of OFC, which should result
in crystallisation of 3m Fkms of orders.
BSNL is scheduled to tender for its ambitious rural connectivity program which should
result in 0.5m Fkm of demand in FY11. This demand is set to crystallise into firm
orders from 2HFY11.
While China currently accounts for the highest consumption of OFC, demand is also
picking up with countries like USA, Australia and U.K. lining up ambitious plans for
the overhaul of existing networks.
Power Conductors
The fructification of ~40-50GW of generating capacity over the next three years
has necessitated addition of 60,000Ckm of transmission network. Of this capacity,
~25,000Ckm is to be devoted to beefing up the inter-regional power transmission
network, since ~28GW of generating capacity is set to come on stream in eastern
India, while the largest load centres are in western and northern India.
Additionally, the existing infrastructure, which is largely 400KV AC and 500KV
HVDC, will not be able to support such heavy evacuation loads unless switched
over to Ultra High Voltage (UHV) networks of 765KV/1200KV AC or 800KV DC.
These will serve the dual purposes of not only reducing current levels of transmission
losses but also entail lower land and RoW (Right of Way) requirements.
Towards this, PGCIL’s proposed expenditure outlay for the XIth plan is ~INR550bn.
The GoI’s game plan is to implement a national grid in the XIth plan and have an
interregional power evacuation capacity of over 37,500MW.
Capacity Expansions
Mindful of the tremendous opportunities in both sectors viz. power transmission and
telecom, STL has outlined the following plans:
Expansion of its OF capacity from 12m km to ~ 20m km over the next two years at
an outlay of INR2.5bn. Additionally, STL intends to increase its OFC capacity from
3m Fkm to 5m Fkm in the next 12-18 months at a cost of INR400m. The entire
exercise is to be funded through internal accruals.
Capacity addition in its Power Transmission Business of 40,000MT at a cost of
INR800m.
The UMTP project secured by the company (2 X 462km, 400KVA, running through
3 states) is expected to entail an investment of INR10bn, which STL is expected to
fund in a DER of 4:1. We await more details on the same.
Valuation and outlook
FY12 should mark a return to historical growth rates for STL as the impasse in the
tendering process at PGCIL gets resolved shortly. This should result in improved revenues
in the power vertical. Additionally, we expect the newly installed glass fiber capacity
to stabilise in 1HFY12. Higher output and improved utilisation rates across both
verticals should result in margins settling between 15-16%, with PAT at INR3.5bn.
At the CMP of INR70, STL is currently trading at PER and EV/EBIDTA multiples of 8.1x
and 5.1x, discounting its FY12e numbers. Mindful of its peerset valuations, ongoing
capacity expansion and lucrative opportunities at hand, we recommend a BUY on the
stock with a price target of INR97, which represents an upside of 39%.
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