JPMorgan: China vs. India Power Sector Part 1: BHEL still in a stronger position than Chinese power equipment makers, despite -ve headwinds

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 Negative headwinds  on BHEL: The stock has underperformed the market by
20% over the past 12 months on  the back of (1) falling domestic market share,
with Chinese firms now owning >50% share on orders placed for the 12th FYP
so  far, and (2) investor concerns that BHEL might have to expand overseas to
diversify competition risk in India, which might lead to lower margins.
 Most  negatives  priced  in,  more  positive catalysts  ahead: We  believe  most
negatives are now priced in for BHEL, and upcoming positive catalysts include:
(1) impending government bulk-tenders reserved for domestic producers, where
BHEL can ramp-up supercritical technology platform to lower costs and regain
market share in LT; and (2) India’s coal supply problems – private IPPs (which
mostly  use Chinese equipment) might  face more  problems with project  delays
than their public sector counterparts (which mostly use BHEL equipment).
 BHEL’s  fundamentals  still  appear  stronger  than  China  peers’:  BHEL’s
stock decline over the past 12M has eroded BHEL’s valuation premium over its
Chinese counterparts from 40% a year ago to ~0% currently. This is unjustified,
in our view, because even after factoring in the expected margin decline over the
next 2-3 years, (1) BHEL still has stronger LT growth prospects in a market that
is  still  in  an  upcycle,  while  Chinese  peers  are  in a  market  that  has  already
peaked,  (2)  Chinese  peers  are operating  with razor-thin  margins  without  the
ability  to  pass  on material  cost  fluctuations, and  (3) Chinese  peers face  higher
risk  of  increased  receivable  provisions  as  IPPs  slow  down  repayment  on
weakening profits – particularly Harbin, which has the lowest profit margin.
 Overweight  on BHEL,  downgrade Harbin  to  UW: We  stay  OW  on BHEL
(less demanding valuation at 12x FY13E P/E with better LT growth prospects),
and remain  cautious  on  Chinese  equipment  makers, which  are  more  prone  to
receivable  provisions,  especially  Harbin (downgraded  from  N  to  UW  on  the
back of this) which has (1) the lowest profit margin (most sensitive) and highest
exposure  to  coal-fired  IPPs  (in  terms  of  sales),  and (2)  lowest  exposure  to
nuclear. Among the three Chinese firms, we prefer Dongfang – H (OW) thanks
to its (1) higher nuclear exposure, and (2) more upside from hydropower.