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Siemens (SIEM)
Industrials
Limited potential for upside to estimates; valuations expensive. Retain REDUCE as
high valuations appear unjustifiable given volatile business and limited potential for
upside to estimates. FY2010 margin expansion aided by mobility segment profitability
(likely to sustain) and high power T&D margins (unlikely to sustain -return to normalized
levels already seen in 4Q). Industrials remain weak—growth primarily led by low base.
Annual report highlights strong cash generation, lower project business revenue share.
Strong operating cash generation; y/e cash of Rs18.5 bn—about Rs55/share
Siemens generated strong operating cash flow of Rs10 bn—double that of FY2008-09 levels of
about Rs4-5 bn. Net working capital improved marginally to 5 days of sales; however, we note
that the company reported high inventory and debtor levels of about 190 days of sales which was
offset by high creditor and advances. The strong operating cash flow generation led to a net
increase of Rs4 bn in cash leading to a year-end cash balance of Rs18.5 bn (Rs55/share).
Base effect aids industrial inflow growth in 2HFY10; inflows still remain below 2HFY08 levels
Siemens reported a 35% yoy increase in industrial segment order inflows in 2HFY10 primarily led
by low base effect of 2HFY09 (industrial inflows had declined by 28%). The inflows still remain
marginally below 2HFY08 levels highlighting that industrial capex momentum is yet to pick up.
This is further substantiated by sedate growth in Industrial short-cycle sales (sum of industrial
automation & drives and building technologies) of about 6% in 4QFY10.
Operational cash generation doubles to Rs10 bn versus last two-year levels
Siemens generated operating cash of Rs10 bn during FY2010 (fiscal year-ending September
30). This is versus cash generation of about Rs4-5 bn in the past two years (FY2008-09).
Siemens (standalone) reported a net working capital of 5 days of sale at end-FY2010; a
marginal improvement versus FY2009-end levels. Adjusted for loans and advances to
subsidiaries, the working capital stood at -15 days of sales. However, we highlight that
despite improved working capital levels, inventories (at 60 days of sales) and debtors (128
days of sales) remain high at about 190 days of sales (cumulatively. The high current assets
are counterbalanced by sundry creditors of 113 days of sales and advances of 57 days of
sales.
Year-end cash balance of Rs18.5 bn—about Rs55/share
The operating cash generation of Rs10 bn was utilized towards (1) Rs3 bn of capex (primarily
towards plant & machinery), (2) Rs2 bn of dividend payments and (3) about Rs1 bn of
increase in investments (balance acquisition of stake in Siemens Building Technologies Ltd).
The remaining Rs4 bn was added to the cash balance of the company resulting in a year-end
cash and bank balance of Rs18.5 bn—about Rs55/share (from Rs14.5 bn at end-FY2009).
Base effect aids industrial inflow growth in 2HFY10, but still below 2HFY08
Industrials segment reported a 35% yoy growth in order inflows in 2HFY10 to Rs20.8 bn
versus Rs15.3 bn in 2HFY09. This growth was primarily led by low base effect of FY2009 as
industrial orders had declined by about 28% yoy in 2HFY09. In fact, the industrial order
inflows still remain below the 2HFY08 levels of Rs21.2 bn. Industrial short-cycle sales (sum of
industrial automation & drives and building technologies) grew by only 6% on a yoy basis in
4QFY10 highlighting that near-term momentum is yet to build up fully. This was a bit of a
surprise post the strong growth recorded by these segments in 9MFY10—Industry
Automation & Drives segment revenues growth by 28% yoy. However, we note that the
9MFY10 growth would have been aided by low base effect; segment had witnessed a
revenue decline of 19% in 9MFY09.
Power T&D led the revenue growth in 4QFY10
The revenue growth in 4QFY10 was led by the power T&D segment which recorded a strong
74% yoy revenue growth partially aided by low base effect of 4QFY09 (revenues had
declined by about 18%).
Provisions increased by Rs2 bn; creation/reversal not out of line with past trend
Total provisions have increased by Rs2 bn to Rs15.7 bn from Rs13.6 bn and thus there is no
write-back of provisions. Creation/utilization and reversals of provisions in FY2010 seem to
be in line with earlier years apart from the fact that FY2009 seemed to have had one-time
excess creation of liquidated damages provision of Rs4.6 bn. Thus provisions write-backs etc.
have not contributed to margins expansion during the year.
Siemens reported a 170 bps EBITDA margin expansion in fiscal year-ending September 30,
2010 to 13.8% versus FY2009 margin of 12.1%. In 4QFY10, Siemens reported EBITDA
margin of 13.2%, up 340 bps yoy
Profitability in mobility segment likely to sustain; while high T&D margins
unlikely to sustain
Siemens reported a 170 bps EBITDA margin expansion in fiscal year-ending September 30,
2010 to 13.8% versus FY2009 margin of 12.1%. In 4QFY10, Siemens reported EBITDA
margin of 13.2%, up 340 bps yoy. The margin expansion was contributed by (1) high
margins in power T&D segment—reported 14.8% EBIT margin in FY2010 versus 13.9% in
FY009 and (2) profitability in mobility segment (EBIT margin of 8.4% in FY2010) versus
losses in FY2009. We note that while profitability in mobility segment may be sustainable,
high margins in power segment may not be sustainable, and even the exit quarter (4QFY10)
had margins of only 11.8% in the power segment in line with our full-year projection of
12% for FY2011E and FY2012E.
Decline in share of projects business in total revenues; may imply higher margins
Share of project business of Siemens to the total revenues declined to 38% in FY2010 versus
almost 50% in FY2008. The decline in contribution of the project segment business may
imply potential higher margins for Siemens as project business margins are, on an average,
lower than the product business margins.
Project business share in total revenues declines in FY10; limited potential for upside to estimates
Share of project business of Siemens to the total revenues declined to 38% in FY2010 versus
almost 50% in FY2008. However, we believe there is limited upside to our revenue and margin
estimates as (1) revenue growth is likely to lag order backlog growth with increasing proportion of
large-size orders in the backlog which are likely to have longer execution cycles and (2) our margin
assumptions of 12.3% are in line with peer level as well as historical trend of the company. Margin
expansion in FY2010 was primarily led by profitability in the mobility segment and high margins of
the power T&D segment. While the mobility segment profitability may be sustainable, we believe
high margins in power T&D are unlikely to sustain. Note that the EBIT margin in this segment
already reverted to normalized level of 11.8% in the previous quarter (4QFY10).
Marginally revise estimates; reiterate REDUCE with a target price of Rs735/share
We revise our estimates to Rs28.4 and Rs34 (from Rs27.9 and Rs33.7) for y/e Sept 2011E and
2012E. Reiterate REDUCE (TP: Rs735) on (1) high valuations, (2) difficulty in judging core
performance, (3) weak pricing environment and (4) potential for negative surprise on margins.
Overseas projects business also much smaller
Overseas projects contributed Rs13.5 bn in FY2010 to revenues v/s Rs17.3 bn in FY2009.
Turbines (7%), electric motors (5%), medical equipment (7%) have increased contribution
by about 2% each.
Limited upside to our revenue and margin estimates
We expect Siemens to report a revenue growth of about 22% in FY2011E to Rs115 bn
versus Rs94 bn in FY2009. We expect EBITDA margins to revert to historical average levels of
about 12-12.5% despite the strong margins witnessed in FY2010. We believe there is
limited potential of upside to our valuations based on
` Revenue growth estimate lags backlog growth as share of large orders increases:
Despite the 32% yoy growth in order backlog in FY2010, we build in only a 22% revenue
growth in FY2011E. We note an increase in the share of large orders in the total backlog
of the company which are likely to have longer execution periods. Siemens has won
several large orders in FY2010 contributing to the year-end order backlog of Rs135 bn
including (1) Rs24.9 bn substation order from Qatar General Electricity & Water Corp. and
(2) Rs8 bn orders from Torrent Power.
` Margin estimates based on industry average and historical trend. While Siemens
has been reporting very volatile operating margins performance over the past two years,
we have modeled Siemens earnings based on 12.3% EBITDA margin for y/e September
2011E and 2012E. We believe Siemens is unlikely to be able to sustain higher margins
based on peer margin levels and historical trend.
Siemens rolling stock losses, Flender goodwill write-off leads difference
between standalone and consol. results
Siemens rolling stock contributed significant losses, i.e. revenues of Rs108 mn and loss of
Rs212 mn as this company is in a start-up phase and is yet to pick up traction. Flender
goodwill to the extent of Rs646 mn has been written off contributing to high depreciation
and losses at consolidated level.
Siemens Building Technologies, however, bucks the trend; comes in green this year
Siemens Building Technologies group has contributed to a turnover of Rs3.4 bn (Rs2.6 bn
last year) and a net profit of Rs77 mn (loss of Rs234 mn last year). Flender and Siemens
Rolling Stock have effective date of amalgamation as October 1, 2009 and Siemens Building
Technologies has effective date of amalgamation as October 1, 2010.
Other takeaways from recent analyst meeting
` Target of Euro1 bn in FY2020E for base level products is too low and too far out,
in our view, to be excited. Siemens is building target of Euro1 bn sales of base level
(without expensive bells and whistles) products by FY2020E. We believe that this target is
small and is very long term to be a driver of operating performance in the medium term.
Siemens though believes that globally base level products are a market worth Euro240 bn
currently versus total Siemens addressable global market of Euro850 bn.
` Opportunities in other geographies may come as parent may be compelled to
rope in Indian entity for cost competitiveness. Siemens India may get to participate in
the business done by Siemens AG in other countries and Qatar is just one example. This is
not a matter of right for Indian entity but for Siemens AG to be competitive in these
markets, presence of Indian entity in this consortium is probably necessary. Siemens India
may get to participate in some opportunities in Africa as well incrementally.
` Pricing pressure in market continues; no specific guidance on margins though
wishes to be evaluated on longer term business cycle. Siemens agreed to pricing
pressure prevalent in markets not just in T&D space but in other segments of business as
well. Siemens suggested that it should be evaluated over a longer period business cycle.
Even one year is too short a period as about 70% of business is originating from longterm projects, where provisioning cycle may affect near-term results.
` Torrent order to the extent of Sugen 400 MW plant apart from Turbine set (to
come for Siemens AG) has been recognized in 4QFY10. This may have contributed
about Rs8 bn or so to order booking in 4QFY10, fully explaining the difference in the
order booking of Rs30 bn and usual quarterly run rate of Rs20 bn.
` Building technologies segment margins low on intersegment issues. Building
technologies segment (low voltage panels for industrial use) margins are lower as it
sources switchgear from other segments, so profitability of this segment actually gets
recorded in industrial automation segment.
` Other income too low on conservative policy. Other income too low on cash balance
of Rs18 bn at end of FY2010 (operational cash generation of Rs10 bn in FY2010) as
investment policy of this cash is very conservative.
Marginally revise estimates; reiterate REDUCE with a target price of Rs735/share
We have marginally revised our earnings estimates to Rs28.4 and Rs34 from Rs27.9 and
Rs33.7 for September year-ending 2011E and 2012E, respectively. We correspondingly
revise our target price to Rs735/share (from Rs725/share) based on 23.5X March-12E
earnings. We reiterate our REDUCE rating based on (1) high valuations unjustifiable given
volatile nature of business performance, (2) high risk of negative surprise on margins given
volatile nature in the past and (3) continued pricing pressure across business segments.
Key upside risks arise from better-than-expected order booking, revenue growth and
margins leading to positive earnings surprise. Key downside risks arise from (1) repetition of
problems witnessed in the earlier quarters in other orders and (2) residual dependence on
large orders that potentially yield lower margins.
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