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Industrials
India
B2B inflows reflect weak capex cycle; B2C though stays buoyant. Weak inflows
across most capital goods cos (19% decline) reflect weak capex cycle. This is in contrast
to strong 1H growth, likely aided by low base - by extension 4Q could be weaker as
base was very strong. Coincidental indicators such as capital goods imports, cement/
steel production also corroborate this weakness. However, same companies’ consumer
businesses have recorded strong growth (27%) in 3Q. Top picks: Crompton, Thermax.
Inflows weaken across the board; 1H momentum likely on low base; 4Q by extension can be weaker
3QFY11 witnessed weak order inflows across most of the capital goods companies versus strong
growth in 1HFY11. Total order inflows (for the six capital goods companies, excluding Siemens),
recorded a yoy decline of 19.4% versus a growth of about 34% recorded in 1H. However, the
growth in the first half is likely to have been aided by low based effect - 1HFY10 recorded a
13.5% decline in order inflows. Further, order inflows had recorded a very strong growth in
4QFY10 (primarily led by BHEL and L&T) which is likely to adversely impact yoy growth in 4QFY11E.
Market fragmentation (several new players) may also be a reason for the slowdown in inflows.
Same companies record strong consumer business growth; divergence cannot continue for long
We note a divergence between the order inflows reported by the capital goods companies (B2B)
and the growth recorded by the consumer businesses (B2C) of these companies. A track of seven
consumer products companies indicated that the total revenues recorded a strong growth of 27%
yoy as well as a strong 18.4% 2-year CAGR. The consumer product revenues have recorded strong
growth for about six consecutive quarters. We believe that this divergence can not sustain and one
of the two would have to fall in line.
Coincidental indicators possibly also reflecting weak capex momentum
Coincidental indicators of capex momentum such as steel production, cement consumption, credit
growth etc. also reflect some weakness in the capex cycle. Key observations include (1) capital
goods imports record average decline of 2.6% in 1HFY11 versus strong 46% average growth over
FY2005-09, (2) cement production growth on the decline for the past three quarters to 5.5%
versus FY2005-09 average growth of 9-10%, (3) sedate growth of about 5% in crude steel
production (in the past three quarter) versus 12.5% in FY2005-09 and (4) credit growth in the last
2-3 quarters has been of the order of 20% (FY2005-09 average growth of 28%).
Require strong residual inflows to meet full-year estimates; ample scope for disappointment
Our full-year order inflow estimates for capital goods companies imply strong asking rate for
remaining 4QFY11E such as (1) BHEL required a strong inflow about Rs210-215 bn in 4QFY11E to
meet its FY2011E guidance of Rs600 bn (16 GW), and (2) our full-year estimates for L&T imply a
strong 25% inflow growth requirement in 4Q (company guidance even higher). Even companies
such as Thermax and Voltas have a high asking rate of about 30-40% growth in inflows in 4Q.
L&T, TMX are deeply cyclical while CG (diversified), BHEL (backlog visibility) may be relatively immune
Crompton: BUY (TP: Rs310) on diversified business and overseas business recovery
TMX: BUY (TP: Rs805) on business opportunity expansion; but wary of capex cycle related risk
L&T: ADD (TP: Rs1,850); would watch for margins and order inflow traction
BHEL: REDUCE (TP: Rs2,400) on sedate inflows leading to lower business traction in the mid
term
Negative on BGR Energy (likely near-term disappointments), ABB and Siemens (high valuations)
Weak order inflow momentum witnessed in 3Q across most companies
Several companies reported relatively moderate-weak inflows potentially reducing visibility
for a pick-up in execution in the near term. Several companies reported sharp decline in
order inflows to the tune of about 25-30% - for instance, Thermax and Voltas reported a
28-29% yoy decline in inflows, L&T also reported a sharp decline of 25% yoy. The strong
growth in Siemens order inflows was primarily on account of a single large order from
Torrent power (quantum unknown). Total order inflows (for the six capital goods companies,
excluding Siemens), recorded a yoy decline of 19.4%.
We note that this trend was significantly in contrast to that witnessed in the first half of the
year where total inflows recorded about 34% yoy growth. However, the growth in the first
half is likely to have been also aided by low based effect - 1HFY10 recorded a 13.5% decline
in order inflows.
High 4QFY10 base likely to adversely impact yoy growth in 4Q
Order inflows in 4QFY10 recorded a very strong growth of over 60% yoy primarily led by
strong order inflows in L&T. Even the other capital goods companies recorded strong yoy
inflow growths of 35-45%.
Consumer business though records strong growth for the same set of companies
We note a dichotomy between the order inflows reported by the capital goods companies
and the growth recorded by the consumer businesses of these companies. Crompton
consumers business recorded a very strong growth of about 30% yoy in 3QFY11 versus a
moderate 8% growth in inflows. Similarly the unitary cooling products business of Blue Star
recorded a strong growth of 31% yoy versus relatively flat inflows in 3QFY11.
A track of seven consumer products companies indicated that the total revenues for the
companies have recorded a strong growth of 27% on a yoy basis as well as a strong 18.4%
2-year CAGR. The consumer product revenues have recorded strong growth for about six
consecutive quarters.
Coincidental indicators possibly reflecting weakness in capex cycle
Incidental indicators of capex momentum such as steel production, cement consumption,
credit growth etc. also reflect some weakness in the capex cycle. Our observations are based
on long term data points for the past 12-15 years (on a quarterly basis). Key takeaways from
the date include:
Capital goods imports: Capital goods imports declined at an average of about 2.5%
over 1HFY11 (delayed data problem). This is versus a strong average growth of about
46% during FY2005-09.
Cement consumption: The growth in quarterly cement consumption has been declining
since 1QFY11. For the two-months, Oct- Nov 2010, cement consumption has recorded a
growth of only 5.5% on a yoy basis. This is the lowest at which this index has been in the
last five years. FY2005-09 average growth of about 9.4%.
Domestic steel production: Domestic crude steel production has recorded a sedate 5%
yoy growth consecutively in the past three quarters. This is versus an average growth of
about 12% over FY2005-09.
Non-food credit: SCBs non-food credit recorded a moderate 14-15% growth in FY2010.
This has improved slightly to about 19-20% in the first two quarters of FY2011. However,
this is still lower than the average growth of about 28% recorded over FY2005-09.
Commercial vehicles: Average growth has been 14.5% in the last three months till
December, versus FY2005-09 average of 12.5%. This indicator as yet does not point to
any weakness.
Power demand: Power demand has grown just 2.3% versus 8% growth during FY2007-
08. Average growth during FY2005-09 has been about 5.5% in power.
Require strong residual inflows to meet full-year estimates
Our full-year order inflow estimates for capital goods companies imply strong asking rate for
remaining 4QFY11E. The implied 4Q inflow requirement for key companies includes:
BHEL: The company has guided for order inflows of about Rs600 bn (about 16,000 MW)
for FY2011E (broadly in line with our estimates) implying a strong inflow requirement of
about Rs210-215 bn in 4QFY11E. The inflow guidance likely includes assumptions of
NTPC 660 MW bulk tender – management expects both the boiler as well as turbine
component of this tender to be awarded in this fiscal.
Larsen & Toubro: Full-year order inflow estimate of Rs790 bn implies additional order
inflow requirement of about Rs290-300 bn in 4QFY11E. This would be about 25% higher
than 4QFY10 reported order inflows of Rs238 bn. L&T has guided for full-year order
inflow growth of 25% yoy for FY2011E, implying an order inflow requirement of about
Rs375 bn in 4QFY11E. The management has cited that a majority of the expected orders
are likely to be booked in March 2012. We also highlight risks to our FY2012E inflow
assumption of Rs940 bn (a yoy growth of 19%) such as increased competition (roads,
hydrocarbons), sector slowdowns (metals, refineries), clearance/allocation issues and
political issues (roads, railways).
Thermax: Our full-year FY2011E order inflow estimate of Rs58 bn for Thermax implies a
strong inflow requirement of Rs17 bn in 4Q - a 29% growth of 4QFY10. This is versus
average quarterly order booking of about Rs15 bn in FY2010 (included a large Rs10 bn
utility order won in 2QFY10).
Voltas: Voltas has reported order inflows to the tune of about Rs22 bn in 9MFY11 just
versus our full-year estimate of Rs31 bn in FY2011E. This implies 4QFY11E inflow
requirement of Rs9.3 bn, a growth of 46% over 4QFY10 inflows and about 28% over
quarterly average inflows in FY2011E.
Stock calls
We prefer companies with expanding opportunity set, diversified business exposure, positive
long-term outlook and relatively cheaper valuations. Our top picks in the industrial sector
include Crompton (diversified presence) and Thermax (wary of capex cycle risks).
Crompton: BUY (TP: Rs310) on diversified business and overseas business recovery
We retain our BUY rating on Crompton with a target price of Rs310 based on (1) diversified
business profile across geographies and segments, (4) strong cash flow generation
characteristics, (3) strong pick-up witnessed in overseas subsidiaries in the past quarters and
(4) strong balance sheet.
Key risks to earnings relate to (1) aggressive competition may pressure revenue growth and
margins - already reflected in sharp decline in average realizations in 9MFY11, and (2)
slower-than-expected pick-up in domestic power segment.
Thermax: BUY (TP: Rs805) on expansion of business opportunity; but wary of capex
cycle related risks
Our BUY rating on Thermax is based on (1) strong expansion of business opportunity across
projects and products: scale up in supercritical JV, potential JV with Siemens in HRSG, EPC of
small/medium sized utilities, (2) extremely strong balance sheet, negative working capital,
among the strongest corporate governance and (3) relatively attractive valuations - stock is
presently trading at a P/E of 15X FY2012E earnings (adjusted for Rs75/share for the
supercritical JV) versus historical trading levels of about 18-19X.
Key risks include (1) capex-cycle related risks - deeply cyclical stock as it does not enjoy the
benefit of large backlog with long execution cycle orders and stable infrastructure segment,
(2) potential margin pressure and (3) delay in setting up supercritical JV facility and winning
large utility orders.
L&T (TP: Rs1,850, ADD): Would watch for margins and order inflow traction
Our ADD rating on L&T is based on (1) incrementally positive on strong execution, (2) legible
explanation on lower margins in 3QFY11, (3) lower-than-expected order inflows likely to be
already factored into the price and (4) relatively reasonable valuations of 16-17X FY2012E
standalone earnings.
We would watch for order inflow traction and margins recovery to be more positive
on the stock.
BHEL: REDUCE (TP: Rs2,400) on sedate inflows leading to lower revenue visibility in
the mid term
We expect BHEL’s future inflows to remain flattish in the medium term as (1) about 3/4th of
XIIth plan ordering may already be complete even assuming optimistic 120 GW execution, (2)
scale-up of competition with credible global partners, and (3) continuing strong Chinese
competition. Lower inflows traction would reduce visibility and revenue growth post
FY2012E despite assuming stronger execution as order book matures. Aggressive price
competition in boiler bulk tender may be a near-term negative catalyst. Order inflows have
primarily come from relatively smaller utilities (Adhunik, India Bulls etc.) potentially exposing
BHEL to higher execution risks.
Voltas: REDUCE (TP: Rs200) on sedate inflows and potential margin risks
Our REDUCE rating on the company is based on (1) sedate order inflows leading to
low revenue visibility , (2) limited upside to our FY2012E based target price, (3)
potential headwind of margins pressure and (4) slow pick-up in execution of new
projects. Key upside risks to our estimates could come from stronger-than expected
order inflows and execution pick-up in the EMP segment, particularly from
international markets.
BGR Energy: REDUCE (TP: Rs600) on earnings risks and potential disappointment on
near-term opportunities
Our REDUCE rating is based on (1) potential disappointment on near-term
opportunities, (2) large dependence of near-term earnings on incremental order
inflows (1/4th and 3/4th of FY2012E and FY2013E revenues depend on incremental
orders), (3) large investment requirement in equipment venture pressing earnings, (4)
rising competition could adversely impact margins, (5) relatively concentrated
customer base and (6) dependence on large projects - any delay/deferral in any of
the projects could materially impact the earnings.
ABB (TP: Rs725, REDUCE)/Siemens(TP: Rs735, REDUCE):
Our negative stance on ABB and Siemens is primarily based on pricing pressures, company
specific issues, volatility in operating performance and very high valuations and growth
expectations
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Industrials
India
B2B inflows reflect weak capex cycle; B2C though stays buoyant. Weak inflows
across most capital goods cos (19% decline) reflect weak capex cycle. This is in contrast
to strong 1H growth, likely aided by low base - by extension 4Q could be weaker as
base was very strong. Coincidental indicators such as capital goods imports, cement/
steel production also corroborate this weakness. However, same companies’ consumer
businesses have recorded strong growth (27%) in 3Q. Top picks: Crompton, Thermax.
Inflows weaken across the board; 1H momentum likely on low base; 4Q by extension can be weaker
3QFY11 witnessed weak order inflows across most of the capital goods companies versus strong
growth in 1HFY11. Total order inflows (for the six capital goods companies, excluding Siemens),
recorded a yoy decline of 19.4% versus a growth of about 34% recorded in 1H. However, the
growth in the first half is likely to have been aided by low based effect - 1HFY10 recorded a
13.5% decline in order inflows. Further, order inflows had recorded a very strong growth in
4QFY10 (primarily led by BHEL and L&T) which is likely to adversely impact yoy growth in 4QFY11E.
Market fragmentation (several new players) may also be a reason for the slowdown in inflows.
Same companies record strong consumer business growth; divergence cannot continue for long
We note a divergence between the order inflows reported by the capital goods companies (B2B)
and the growth recorded by the consumer businesses (B2C) of these companies. A track of seven
consumer products companies indicated that the total revenues recorded a strong growth of 27%
yoy as well as a strong 18.4% 2-year CAGR. The consumer product revenues have recorded strong
growth for about six consecutive quarters. We believe that this divergence can not sustain and one
of the two would have to fall in line.
Coincidental indicators possibly also reflecting weak capex momentum
Coincidental indicators of capex momentum such as steel production, cement consumption, credit
growth etc. also reflect some weakness in the capex cycle. Key observations include (1) capital
goods imports record average decline of 2.6% in 1HFY11 versus strong 46% average growth over
FY2005-09, (2) cement production growth on the decline for the past three quarters to 5.5%
versus FY2005-09 average growth of 9-10%, (3) sedate growth of about 5% in crude steel
production (in the past three quarter) versus 12.5% in FY2005-09 and (4) credit growth in the last
2-3 quarters has been of the order of 20% (FY2005-09 average growth of 28%).
Require strong residual inflows to meet full-year estimates; ample scope for disappointment
Our full-year order inflow estimates for capital goods companies imply strong asking rate for
remaining 4QFY11E such as (1) BHEL required a strong inflow about Rs210-215 bn in 4QFY11E to
meet its FY2011E guidance of Rs600 bn (16 GW), and (2) our full-year estimates for L&T imply a
strong 25% inflow growth requirement in 4Q (company guidance even higher). Even companies
such as Thermax and Voltas have a high asking rate of about 30-40% growth in inflows in 4Q.
L&T, TMX are deeply cyclical while CG (diversified), BHEL (backlog visibility) may be relatively immune
Crompton: BUY (TP: Rs310) on diversified business and overseas business recovery
TMX: BUY (TP: Rs805) on business opportunity expansion; but wary of capex cycle related risk
L&T: ADD (TP: Rs1,850); would watch for margins and order inflow traction
BHEL: REDUCE (TP: Rs2,400) on sedate inflows leading to lower business traction in the mid
term
Negative on BGR Energy (likely near-term disappointments), ABB and Siemens (high valuations)
Weak order inflow momentum witnessed in 3Q across most companies
Several companies reported relatively moderate-weak inflows potentially reducing visibility
for a pick-up in execution in the near term. Several companies reported sharp decline in
order inflows to the tune of about 25-30% - for instance, Thermax and Voltas reported a
28-29% yoy decline in inflows, L&T also reported a sharp decline of 25% yoy. The strong
growth in Siemens order inflows was primarily on account of a single large order from
Torrent power (quantum unknown). Total order inflows (for the six capital goods companies,
excluding Siemens), recorded a yoy decline of 19.4%.
We note that this trend was significantly in contrast to that witnessed in the first half of the
year where total inflows recorded about 34% yoy growth. However, the growth in the first
half is likely to have been also aided by low based effect - 1HFY10 recorded a 13.5% decline
in order inflows.
High 4QFY10 base likely to adversely impact yoy growth in 4Q
Order inflows in 4QFY10 recorded a very strong growth of over 60% yoy primarily led by
strong order inflows in L&T. Even the other capital goods companies recorded strong yoy
inflow growths of 35-45%.
Consumer business though records strong growth for the same set of companies
We note a dichotomy between the order inflows reported by the capital goods companies
and the growth recorded by the consumer businesses of these companies. Crompton
consumers business recorded a very strong growth of about 30% yoy in 3QFY11 versus a
moderate 8% growth in inflows. Similarly the unitary cooling products business of Blue Star
recorded a strong growth of 31% yoy versus relatively flat inflows in 3QFY11.
A track of seven consumer products companies indicated that the total revenues for the
companies have recorded a strong growth of 27% on a yoy basis as well as a strong 18.4%
2-year CAGR. The consumer product revenues have recorded strong growth for about six
consecutive quarters.
Coincidental indicators possibly reflecting weakness in capex cycle
Incidental indicators of capex momentum such as steel production, cement consumption,
credit growth etc. also reflect some weakness in the capex cycle. Our observations are based
on long term data points for the past 12-15 years (on a quarterly basis). Key takeaways from
the date include:
Capital goods imports: Capital goods imports declined at an average of about 2.5%
over 1HFY11 (delayed data problem). This is versus a strong average growth of about
46% during FY2005-09.
Cement consumption: The growth in quarterly cement consumption has been declining
since 1QFY11. For the two-months, Oct- Nov 2010, cement consumption has recorded a
growth of only 5.5% on a yoy basis. This is the lowest at which this index has been in the
last five years. FY2005-09 average growth of about 9.4%.
Domestic steel production: Domestic crude steel production has recorded a sedate 5%
yoy growth consecutively in the past three quarters. This is versus an average growth of
about 12% over FY2005-09.
Non-food credit: SCBs non-food credit recorded a moderate 14-15% growth in FY2010.
This has improved slightly to about 19-20% in the first two quarters of FY2011. However,
this is still lower than the average growth of about 28% recorded over FY2005-09.
Commercial vehicles: Average growth has been 14.5% in the last three months till
December, versus FY2005-09 average of 12.5%. This indicator as yet does not point to
any weakness.
Power demand: Power demand has grown just 2.3% versus 8% growth during FY2007-
08. Average growth during FY2005-09 has been about 5.5% in power.
Require strong residual inflows to meet full-year estimates
Our full-year order inflow estimates for capital goods companies imply strong asking rate for
remaining 4QFY11E. The implied 4Q inflow requirement for key companies includes:
BHEL: The company has guided for order inflows of about Rs600 bn (about 16,000 MW)
for FY2011E (broadly in line with our estimates) implying a strong inflow requirement of
about Rs210-215 bn in 4QFY11E. The inflow guidance likely includes assumptions of
NTPC 660 MW bulk tender – management expects both the boiler as well as turbine
component of this tender to be awarded in this fiscal.
Larsen & Toubro: Full-year order inflow estimate of Rs790 bn implies additional order
inflow requirement of about Rs290-300 bn in 4QFY11E. This would be about 25% higher
than 4QFY10 reported order inflows of Rs238 bn. L&T has guided for full-year order
inflow growth of 25% yoy for FY2011E, implying an order inflow requirement of about
Rs375 bn in 4QFY11E. The management has cited that a majority of the expected orders
are likely to be booked in March 2012. We also highlight risks to our FY2012E inflow
assumption of Rs940 bn (a yoy growth of 19%) such as increased competition (roads,
hydrocarbons), sector slowdowns (metals, refineries), clearance/allocation issues and
political issues (roads, railways).
Thermax: Our full-year FY2011E order inflow estimate of Rs58 bn for Thermax implies a
strong inflow requirement of Rs17 bn in 4Q - a 29% growth of 4QFY10. This is versus
average quarterly order booking of about Rs15 bn in FY2010 (included a large Rs10 bn
utility order won in 2QFY10).
Voltas: Voltas has reported order inflows to the tune of about Rs22 bn in 9MFY11 just
versus our full-year estimate of Rs31 bn in FY2011E. This implies 4QFY11E inflow
requirement of Rs9.3 bn, a growth of 46% over 4QFY10 inflows and about 28% over
quarterly average inflows in FY2011E.
Stock calls
We prefer companies with expanding opportunity set, diversified business exposure, positive
long-term outlook and relatively cheaper valuations. Our top picks in the industrial sector
include Crompton (diversified presence) and Thermax (wary of capex cycle risks).
Crompton: BUY (TP: Rs310) on diversified business and overseas business recovery
We retain our BUY rating on Crompton with a target price of Rs310 based on (1) diversified
business profile across geographies and segments, (4) strong cash flow generation
characteristics, (3) strong pick-up witnessed in overseas subsidiaries in the past quarters and
(4) strong balance sheet.
Key risks to earnings relate to (1) aggressive competition may pressure revenue growth and
margins - already reflected in sharp decline in average realizations in 9MFY11, and (2)
slower-than-expected pick-up in domestic power segment.
Thermax: BUY (TP: Rs805) on expansion of business opportunity; but wary of capex
cycle related risks
Our BUY rating on Thermax is based on (1) strong expansion of business opportunity across
projects and products: scale up in supercritical JV, potential JV with Siemens in HRSG, EPC of
small/medium sized utilities, (2) extremely strong balance sheet, negative working capital,
among the strongest corporate governance and (3) relatively attractive valuations - stock is
presently trading at a P/E of 15X FY2012E earnings (adjusted for Rs75/share for the
supercritical JV) versus historical trading levels of about 18-19X.
Key risks include (1) capex-cycle related risks - deeply cyclical stock as it does not enjoy the
benefit of large backlog with long execution cycle orders and stable infrastructure segment,
(2) potential margin pressure and (3) delay in setting up supercritical JV facility and winning
large utility orders.
L&T (TP: Rs1,850, ADD): Would watch for margins and order inflow traction
Our ADD rating on L&T is based on (1) incrementally positive on strong execution, (2) legible
explanation on lower margins in 3QFY11, (3) lower-than-expected order inflows likely to be
already factored into the price and (4) relatively reasonable valuations of 16-17X FY2012E
standalone earnings.
We would watch for order inflow traction and margins recovery to be more positive
on the stock.
BHEL: REDUCE (TP: Rs2,400) on sedate inflows leading to lower revenue visibility in
the mid term
We expect BHEL’s future inflows to remain flattish in the medium term as (1) about 3/4th of
XIIth plan ordering may already be complete even assuming optimistic 120 GW execution, (2)
scale-up of competition with credible global partners, and (3) continuing strong Chinese
competition. Lower inflows traction would reduce visibility and revenue growth post
FY2012E despite assuming stronger execution as order book matures. Aggressive price
competition in boiler bulk tender may be a near-term negative catalyst. Order inflows have
primarily come from relatively smaller utilities (Adhunik, India Bulls etc.) potentially exposing
BHEL to higher execution risks.
Voltas: REDUCE (TP: Rs200) on sedate inflows and potential margin risks
Our REDUCE rating on the company is based on (1) sedate order inflows leading to
low revenue visibility , (2) limited upside to our FY2012E based target price, (3)
potential headwind of margins pressure and (4) slow pick-up in execution of new
projects. Key upside risks to our estimates could come from stronger-than expected
order inflows and execution pick-up in the EMP segment, particularly from
international markets.
BGR Energy: REDUCE (TP: Rs600) on earnings risks and potential disappointment on
near-term opportunities
Our REDUCE rating is based on (1) potential disappointment on near-term
opportunities, (2) large dependence of near-term earnings on incremental order
inflows (1/4th and 3/4th of FY2012E and FY2013E revenues depend on incremental
orders), (3) large investment requirement in equipment venture pressing earnings, (4)
rising competition could adversely impact margins, (5) relatively concentrated
customer base and (6) dependence on large projects - any delay/deferral in any of
the projects could materially impact the earnings.
ABB (TP: Rs725, REDUCE)/Siemens(TP: Rs735, REDUCE):
Our negative stance on ABB and Siemens is primarily based on pricing pressures, company
specific issues, volatility in operating performance and very high valuations and growth
expectations
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