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PAT down 24% Y-o-Y
Bharat Electronics (BEL) reported Q3FY11 adjusted profit of INR 1.7 bn, a 24% Yo-
Y decline. The disappointment was primarily on account of a sharp rise in
material costs (up 51% Y-o-Y).
Expect a strong fourth quarter
Revenue growth of 10% Y-o-Y was somewhat disappointing given the company’s
strong order book. However, we note that management recently reiterated its
revenue guidance of INR 5.7 bn (up 10% Y-o-Y) for FY11. This seems to imply
strong revenue growth (~36%) in Q4FY11, which should form ~40% of full year
revenues.
While wage expenses declined sequentially 8%, the raw material costs-to-sales
ratio surged 420bps to 59%, possibly on account of higher proportion of boughtout
components.
Strong order book provides comfort
We estimate BEL’s order book at ~INR 140 bn i.e., over two years of sales. In
addition, media reports indicate new potential orders for the company including
one for the upgrade in the electronic systems for Indian Navy aircrafts. For FY11,
management has a sales revenue target of INR 57 bn (implying 10% growth).
Over a three year period, management expects revenue in excess of INR 100 bn.
Outlook and valuations: Better times ahead; maintain ‘BUY’
While Q3FY11 results were below par, we expect Q4FY11 to be stronger. Recent
management guidance suggests revenues may be back ended. With better
operating leverage, EBITDA margins are likely to post strong improvement in the
coming quarter. Our estimates imply a ~31% EBITDA margin in Q4FY11E, which
is in line with the Q4 profitability levels in previous years (barring FY10).
Fundamentally, we believe with a confirmed order book (in excess of two years
sales), a steady recession-proof business, and potential growth opportunity from
the offset clause, the company’s business remains strong. Given the robust
fundamentals, current valuations of ~15x FY11E and ~13x FY12E are
inexpensive. New order announcements could be near-term triggers. We maintain
‘BUY’ recommendation on the stock.
Company Description
Established by GoI under the Ministry of Defence in 1954 to meet the specialised
electronic needs of the Indian defence services, Bharat Electronics Limited (BEL) has
grown into a multi-product, multi-technology and multi-unit company, serving the needs
of customers in diverse fields in India and abroad. BEL offers products and services in a
wide spectrum of technology like radars, military communications, naval systems,
electronic warfare systems, telecommunications, sound and vision broadcasting, optoelectronics,
tank electronics, solar photovoltaic systems, embedded software and
electronic components. The company also provides turnkey systems solutions like
command control communication & computer intelligence (C4I), covering the
requirements of all three forces.
Investment Theme
Bharat Electronics (BEL), one of India’s largest defence public sector undertakings (PSU),
specialises in manufacturing defence electronics. It is likely to be a key beneficiary of the
anticipated increase in defence capital expenditure. Further, domestic companies,
including BEL, are likely to benefit from key changes in government policies, notably the
offset clause (30% of an order must be sub-contracted domestically). Despite the entry
of private players, we believe BEL as a defence PSU is poised to benefit from increased
defence capital expenditure and the offset policy.
BEL has a strong order book, equivalent to nearly two years of revenues. Even without
the offset clause, its order book is slated to grow over the next few years because of
steady demand for its existing product range; potential orders from high value projects
(e.g., tactical communication systems) and growth opportunities in the non defence/
export segments.
Key Risks
Delay/lumpiness in execution of defence contracts
The defence market is monopsonistic in nature with GoI being the sole buyer of defence
equipment, which puts suppliers such as BEL at a disadvantage. Further, defence
procurement procedures are complex and past experience suggests that they have
tended to move at an extraordinarily slow pace. This has a dual impact: the equipment
flow may not occur and it leads to a high degree of lumpiness in the order book.
Increased competition from private players
The government has shown increased intent of involving private players in the defence
procurement process and to develop an active private sector supply to the armed forces.
We believe DPSUs have strong competitive advantages over the private sector in the
near–to-medium term. However, incremental competition, particularly for offset
contracts, could make a negative impact on BEL’s margins.
India Equity Research Reports, IPO and Stock News Visit http://indiaer.blogspot.com/ for complete details �� ��
PAT down 24% Y-o-Y
Bharat Electronics (BEL) reported Q3FY11 adjusted profit of INR 1.7 bn, a 24% Yo-
Y decline. The disappointment was primarily on account of a sharp rise in
material costs (up 51% Y-o-Y).
Expect a strong fourth quarter
Revenue growth of 10% Y-o-Y was somewhat disappointing given the company’s
strong order book. However, we note that management recently reiterated its
revenue guidance of INR 5.7 bn (up 10% Y-o-Y) for FY11. This seems to imply
strong revenue growth (~36%) in Q4FY11, which should form ~40% of full year
revenues.
While wage expenses declined sequentially 8%, the raw material costs-to-sales
ratio surged 420bps to 59%, possibly on account of higher proportion of boughtout
components.
Strong order book provides comfort
We estimate BEL’s order book at ~INR 140 bn i.e., over two years of sales. In
addition, media reports indicate new potential orders for the company including
one for the upgrade in the electronic systems for Indian Navy aircrafts. For FY11,
management has a sales revenue target of INR 57 bn (implying 10% growth).
Over a three year period, management expects revenue in excess of INR 100 bn.
Outlook and valuations: Better times ahead; maintain ‘BUY’
While Q3FY11 results were below par, we expect Q4FY11 to be stronger. Recent
management guidance suggests revenues may be back ended. With better
operating leverage, EBITDA margins are likely to post strong improvement in the
coming quarter. Our estimates imply a ~31% EBITDA margin in Q4FY11E, which
is in line with the Q4 profitability levels in previous years (barring FY10).
Fundamentally, we believe with a confirmed order book (in excess of two years
sales), a steady recession-proof business, and potential growth opportunity from
the offset clause, the company’s business remains strong. Given the robust
fundamentals, current valuations of ~15x FY11E and ~13x FY12E are
inexpensive. New order announcements could be near-term triggers. We maintain
‘BUY’ recommendation on the stock.
Company Description
Established by GoI under the Ministry of Defence in 1954 to meet the specialised
electronic needs of the Indian defence services, Bharat Electronics Limited (BEL) has
grown into a multi-product, multi-technology and multi-unit company, serving the needs
of customers in diverse fields in India and abroad. BEL offers products and services in a
wide spectrum of technology like radars, military communications, naval systems,
electronic warfare systems, telecommunications, sound and vision broadcasting, optoelectronics,
tank electronics, solar photovoltaic systems, embedded software and
electronic components. The company also provides turnkey systems solutions like
command control communication & computer intelligence (C4I), covering the
requirements of all three forces.
Investment Theme
Bharat Electronics (BEL), one of India’s largest defence public sector undertakings (PSU),
specialises in manufacturing defence electronics. It is likely to be a key beneficiary of the
anticipated increase in defence capital expenditure. Further, domestic companies,
including BEL, are likely to benefit from key changes in government policies, notably the
offset clause (30% of an order must be sub-contracted domestically). Despite the entry
of private players, we believe BEL as a defence PSU is poised to benefit from increased
defence capital expenditure and the offset policy.
BEL has a strong order book, equivalent to nearly two years of revenues. Even without
the offset clause, its order book is slated to grow over the next few years because of
steady demand for its existing product range; potential orders from high value projects
(e.g., tactical communication systems) and growth opportunities in the non defence/
export segments.
Key Risks
Delay/lumpiness in execution of defence contracts
The defence market is monopsonistic in nature with GoI being the sole buyer of defence
equipment, which puts suppliers such as BEL at a disadvantage. Further, defence
procurement procedures are complex and past experience suggests that they have
tended to move at an extraordinarily slow pace. This has a dual impact: the equipment
flow may not occur and it leads to a high degree of lumpiness in the order book.
Increased competition from private players
The government has shown increased intent of involving private players in the defence
procurement process and to develop an active private sector supply to the armed forces.
We believe DPSUs have strong competitive advantages over the private sector in the
near–to-medium term. However, incremental competition, particularly for offset
contracts, could make a negative impact on BEL’s margins.
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