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UBS Investment Research
India Industrials
Low visibility on order inflow in the sector;
B HEL top pick
BHEL is down 36% YTD; we think this is an attractive buying opportunity
BHEL is among the weakest performers in India capital goods as many key events have
been negative for BHEL over the past 12 months: a) a slowdown in the power sector
leading to lower order inflow; b) concerns on increased domestic competition; c)
announcement of a 5% stake sale through follow-on public offering (FPO) by the
government; and d) muted sales growth and order inflow in Q1 FY12. We think this
could change due to: a) the likelihood of imposition of duty on imports; and b)
postponement of FPO if market conditions do not improve. We maintain our Buy rating
on BHEL.
We are negative on Crompton Greaves and Thermax
We think the near-term outlook for Crompton is still uncertain because: a) Indian T&D
equipment manufacturers continue to face severe competition from overseas
manufacturers; b) the overseas markets remain challenging; and c) inflation is not under
control, which is a negative for consumer products. Thermax management has guided
for a slowdown in ordering activity and we think its diversification strategy (in high
MW boilers) could also be risky. Hence, we think there could be more downside in
these stocks and we maintain our Sell ratings on Crompton Greaves and Thermax.
ABB India is expensive on valuation; maintain Sell on Suzlon
ABB India continues to post disappointing quarterly results, and recently management
also guided for slower order inflows and pressure on margins. Hence, we think it is
expensive at 30x 2012E EPS. We have a Sell rating on Suzlon.
BHEL is our key pick in the Indian capital goods space
We maintain our Buy rating and price target of Rs2,750 on BHEL. This is our top pick
among capital goods stocks.
India Cap Goods: disappointing performance
Stock performance in the India Capital Goods space has been disappointing
We believe the key factors driving the sector are:
1) The power sector has slowed down due to multiple factors such as substantial
losses at distribution companies (SEBs), lack of fuel availability on coal and gas,
and a decline in merchant tariffs. The demand for equipment manufactured by
BHEL, ABB and Crompton Greaves is directly linked to the activity in the
power sector.
2) Industrial orders are not being awarded as capex-incurring industries are
adopting a wait-and-watch policy. Managements at companies such as ABB
India and Thermax have also confirmed that the order inflows have suffered.
3) The Transmission & Distribution (T&D) equipment industry has capacity
utilisation issues. Most of the companies in the T&D space are facing
competition from overseas manufacturers.
4) Some companies such as Suzlon have done well on domestic orders but
international orders have largely been insignificant. This is primarily due to the
uncertain environment in the US, Europe and other geographies in the world.
Crompton Greaves has also faced significant problems in its overseas business
such as lower demand and lower revenue realisations.
Overall, we remain negative on the capital goods space other than for the
companies that have a very strong order book and revenue visibility (such as
BHEL). We believe the near-term outlook remains challenging with less order
inflow activity and increased competition leading to lower profitability
BHEL
BHEL is currently trading at ~10x one-year forward multiple. The disappointing
stock price performance is related to multiple issues, which include: a) a
slowdown in the power sector leading to lower order inflow; b) concerns on
increased domestic competition; c) the announcement of a 5% stake sale through
FPO by the government; and d) muted sales growth and order inflow in Q1
results.
However, we believe the market is ignoring some of the positives, which are:
1) Good pricing for NTPC bulk tender (9x800MW)—the pricing seems
reasonable at Rs16m/MW for boilers and Rs9m/MW for TG. It is competitive
but not aggressive, in our view. From BHEL’s perspective, the total orders could
be Rs65bn. We believe that even the new entrants in this space (Doosan) have
bid rationally. Overall, we believe an order win of four boiler units at a good
price is a clear positive for BHEL. Please refer to our note ‘India Industrials:
9*800MW bulk tender order: good pricing’ dated 19 September 2011.
2) Duty may be imposed on foreign equipment—According to media reports,
the Department of Heavy Industries is pushing for the imposition of import duty
on foreign electrical equipment to protect domestic manufacturers against
competition from duty-free imports. We think the current pricing disadvantage
for domestic equipment manufacturers (BHEL and others) is 15-20% compared
to imported boiler and turbine generator (BTG) equipment. Any import duty on
foreign equipment is positive for BHEL. Please refer to our note ‘BHEL: Duty
may be imposed on foreign equipment’ dated 14 September 2011.
3) FPO may be postponed if market conditions do not improve—There are
news reports that the government is considering postponement of the FPO till
market conditions improve. The earlier announced timeline for the FPO was Q3
FY11 and this could now be postponed to Q4 FY12. The FPO is an overhang in
the near term, in our view, as investors may believe: a) the price band to be fixed
for the FPO will be determined by the current stock price; and b) the
government may offer a discount and the stock will be available at a lower price
later during the FPO.
We believe the key positives for BHEL are:
a) Revenue visibility is very strong for BHEL. With an order book of
US$32bn, even if order inflow continues to decline at 20% YoY,
revenue could keep growing at 10% YoY for the next six years.
b) Even with so many new domestic entrants in the BTG manufacturing
space, we believe BHEL would have significant advantages such as
scale, vendor base, relationship with utilities, government ownership,
and significant experience in the business.
c) The valuations are at rock bottom. For a company with such strong
revenue visibility, quality management and strong corporate
governance, we believe 10x one-year forward EPS is an attractive price.
We maintain our Buy rating and DCF-based price target of Rs2750. BHEL
is our top pick in the capital goods space.
Crompton Greaves
We think the near-term outlook for Crompton is still uncertain: a) Indian T&D
equipment manufacturers are facing severe competition from overseas and this
has led to a structural decline in profitability; b) the overseas markets continue
to remain challenging for Crompton; c) interest rate hikes continue and inflation
is not under control, which is a negative for its consumer products business; and
d) ordering activity has slowed down in industrials.
The outlook for key segments of power systems and consumer products remains
challenging. Indian T&D manufacturers are facing severe competition from
overseas manufacturers and this has led to a structural decline in business
profitability. We also believe this trend may continue in the near term. We
believe Crompton’s Power Systems business is struggling in overseas markets as
well. The key reason is that the markets in Europe and the Middle East continue
to be challenging due to concern over the economic environment, and we think
this would impact Crompton’s business at least for the next few quarters as well.
The competition in consumer products business is intense for Crompton. The
company also highlighted that if the interest rate hikes continue and inflation
does not come under control, the consumer products business could be adversely
affected. Hence, we think growth should remain muted for Crompton in its
consumer products business.
As indicated by companies such as ABB India and Thermax, the companies that
are dependent on industrial capex are struggling as ordering activity has slowed
considerably. The general slowdown in the industry has affected almost all the
sectors in the economy and we think the industrial systems business of
Crompton is also unlikely to see any strong positive momentum.
Although the stock performed well in the previous month (it is flat in absolute
terms but has outperformed other stocks in the space) on promoters raising their
stake and good support from domestic institutional buyers, we remain negative.
We maintain our Sell rating and DCF-based price target of Rs130.
Thermax
We believe the captive power generation sector in India is fundamentally
attractive due to the unreliable and expensive power from electricity grids.
Thermax should benefit from these opportunities as a leading private-sector
captive power generation equipment supplier in India. However, we think the
near-term outlook is negative for order inflow.
Thermax management has also guided for lower order inflows. We think the
beneficiaries of industrial capex (such as Thermax) are struggling as ordering
activity has slowed down. We also think there will be downside to margins in
FY12-13. We expect further dilution in the margin in light of: 1) burgeoning
competition in the power equipment market; and 2) a slowdown in the industrial
segment, which would delay the capacity addition plans of companies.
We are also not convinced about the company’s diversification into higher MW
capacity boilers through a JV with Babcock & Wilcox. Since there are many
new companies entering the sector, it is not sustainable to have so many players
in the space. BHEL would continue to maintain its leadership because it has
considerable experience and its product quality is good. For NTPC bulk
tendering (9x800MW), Thermax has not been able to win any orders and new
BTG orders have slowed down due to issues in the power generation sector. We
also believe that companies with both Boilers and Turbine Generator would be
at an advantage. Not many power utilities would prefer dealing with multiple
vendors for BTG package. This factor may go against companies present in only
boilers or TG such as Thermax.
We maintain our Sell rating and DCF-based price target of Rs450.
ABB India
ABB India continues to post disappointing results. In Q211 as well, results were
below expectations as it reported EBITDA margin of 5% and profitability across
segments is still a major concern. Recently, management also indicated that new
orders are coming in slowly and pressure on margins is likely to continue.
The outlook for T&D equipment and industrial products/systems such as ABB
India remains challenging. Indian T&D manufacturers are facing severe
competition from overseas manufacturers and this has led to a structural decline
in business profitability. We also believe this trend may continue in the near
term. We believe the Industrial Systems business is also struggling in domestic
markets.
We think ABB India is expensive on valuations. We maintain our Sell
rating and DCF-based price target of Rs590 on ABB India.
Suzlon Energy
Suzlon has recorded good momentum in domestic markets and order inflow
from India business is good. However, we continue to wait for international
order inflow to turn around. The company had expected reasonable growth in
the North America market in 2011, but this has not happened e.g. the company
reported that it won 237MW of new orders in Q1 FY12. However, most of them
(205MW) have come from India and only 32MW from North America. The
orders from other overseas businesses are also disappointing.
Overall, Suzlon has done well on domestic orders but international orders have
largely been insignificant. This is primarily due to the uncertain environment in
the US, Europe and other geographies in the world. As at Q1 FY12, the Suzlon
order book has declined to 2,030MW (from 2,231MW as at end-FY11) and is
now less than one year of sales coverage. We believe international orders will be
key for the stock and continue to believe that H2 FY12 will also be a
challenging period for Suzlon.
We maintain our Sell rating with a DCF-based price target of Rs41 on
Suzlon.
Statement of Risk
ABB: We believe the key risk for our rating is a faster-than-expected recovery
and better-than-expected margins on the current order book. We think the keys
risks for ABB are: a slowdown in power sector investment, an industrial
slowdown, raw materials risk, competition, employees’ retention, and execution
risks.
Bharat Heavy: We believe the key risks for BHEL remain execution, delivery,
raw material costs, and order inflows.
Crompton Greaves: We believe the key upside risks to our Sell rating on CG
are: 1) a pick-up in order activity at Power Grid and SEBs; 2) increased
government focus; 3) margin expansion; and 4) a better-than-expected
performance in overseas markets. We think the key downside risks for the
company are: 1) competition; 2) delays in power generation projects; 3) rising
raw material prices; 4) a slower-than-expected recovery in government spending
and industrial activity; 5) a slowdown in the international business; and 6) a
decline in EBITDA margin.
Suzlon Energy: The key risks are liquidity and cash flows for Suzlon, later than
expected recovery in wind orders globally. The key risk to our Sell rating is
faster than expected pick-up in new orders.
Thermax: We believe the key upside risks to our Sell rating for Thermax are: 1)
robust new orders for supercritical equipment; 2) expanding margins; 3) more
regulatory support; for example, an import duty on large-capacity power
equipment; and 4) a pick-up in industrial capex. We believe the key downside
risks are: 1) execution delays in power projects; 2) heavy competition from
foreign manufacturers, especially from China; 3) rising raw material prices; 4)
risks associated with the diversification strategy (in high MW capacity boilers);
and 5) execution risk.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
UBS Investment Research
India Industrials
Low visibility on order inflow in the sector;
B HEL top pick
BHEL is down 36% YTD; we think this is an attractive buying opportunity
BHEL is among the weakest performers in India capital goods as many key events have
been negative for BHEL over the past 12 months: a) a slowdown in the power sector
leading to lower order inflow; b) concerns on increased domestic competition; c)
announcement of a 5% stake sale through follow-on public offering (FPO) by the
government; and d) muted sales growth and order inflow in Q1 FY12. We think this
could change due to: a) the likelihood of imposition of duty on imports; and b)
postponement of FPO if market conditions do not improve. We maintain our Buy rating
on BHEL.
We are negative on Crompton Greaves and Thermax
We think the near-term outlook for Crompton is still uncertain because: a) Indian T&D
equipment manufacturers continue to face severe competition from overseas
manufacturers; b) the overseas markets remain challenging; and c) inflation is not under
control, which is a negative for consumer products. Thermax management has guided
for a slowdown in ordering activity and we think its diversification strategy (in high
MW boilers) could also be risky. Hence, we think there could be more downside in
these stocks and we maintain our Sell ratings on Crompton Greaves and Thermax.
ABB India is expensive on valuation; maintain Sell on Suzlon
ABB India continues to post disappointing quarterly results, and recently management
also guided for slower order inflows and pressure on margins. Hence, we think it is
expensive at 30x 2012E EPS. We have a Sell rating on Suzlon.
BHEL is our key pick in the Indian capital goods space
We maintain our Buy rating and price target of Rs2,750 on BHEL. This is our top pick
among capital goods stocks.
India Cap Goods: disappointing performance
Stock performance in the India Capital Goods space has been disappointing
We believe the key factors driving the sector are:
1) The power sector has slowed down due to multiple factors such as substantial
losses at distribution companies (SEBs), lack of fuel availability on coal and gas,
and a decline in merchant tariffs. The demand for equipment manufactured by
BHEL, ABB and Crompton Greaves is directly linked to the activity in the
power sector.
2) Industrial orders are not being awarded as capex-incurring industries are
adopting a wait-and-watch policy. Managements at companies such as ABB
India and Thermax have also confirmed that the order inflows have suffered.
3) The Transmission & Distribution (T&D) equipment industry has capacity
utilisation issues. Most of the companies in the T&D space are facing
competition from overseas manufacturers.
4) Some companies such as Suzlon have done well on domestic orders but
international orders have largely been insignificant. This is primarily due to the
uncertain environment in the US, Europe and other geographies in the world.
Crompton Greaves has also faced significant problems in its overseas business
such as lower demand and lower revenue realisations.
Overall, we remain negative on the capital goods space other than for the
companies that have a very strong order book and revenue visibility (such as
BHEL). We believe the near-term outlook remains challenging with less order
inflow activity and increased competition leading to lower profitability
BHEL
BHEL is currently trading at ~10x one-year forward multiple. The disappointing
stock price performance is related to multiple issues, which include: a) a
slowdown in the power sector leading to lower order inflow; b) concerns on
increased domestic competition; c) the announcement of a 5% stake sale through
FPO by the government; and d) muted sales growth and order inflow in Q1
results.
However, we believe the market is ignoring some of the positives, which are:
1) Good pricing for NTPC bulk tender (9x800MW)—the pricing seems
reasonable at Rs16m/MW for boilers and Rs9m/MW for TG. It is competitive
but not aggressive, in our view. From BHEL’s perspective, the total orders could
be Rs65bn. We believe that even the new entrants in this space (Doosan) have
bid rationally. Overall, we believe an order win of four boiler units at a good
price is a clear positive for BHEL. Please refer to our note ‘India Industrials:
9*800MW bulk tender order: good pricing’ dated 19 September 2011.
2) Duty may be imposed on foreign equipment—According to media reports,
the Department of Heavy Industries is pushing for the imposition of import duty
on foreign electrical equipment to protect domestic manufacturers against
competition from duty-free imports. We think the current pricing disadvantage
for domestic equipment manufacturers (BHEL and others) is 15-20% compared
to imported boiler and turbine generator (BTG) equipment. Any import duty on
foreign equipment is positive for BHEL. Please refer to our note ‘BHEL: Duty
may be imposed on foreign equipment’ dated 14 September 2011.
3) FPO may be postponed if market conditions do not improve—There are
news reports that the government is considering postponement of the FPO till
market conditions improve. The earlier announced timeline for the FPO was Q3
FY11 and this could now be postponed to Q4 FY12. The FPO is an overhang in
the near term, in our view, as investors may believe: a) the price band to be fixed
for the FPO will be determined by the current stock price; and b) the
government may offer a discount and the stock will be available at a lower price
later during the FPO.
We believe the key positives for BHEL are:
a) Revenue visibility is very strong for BHEL. With an order book of
US$32bn, even if order inflow continues to decline at 20% YoY,
revenue could keep growing at 10% YoY for the next six years.
b) Even with so many new domestic entrants in the BTG manufacturing
space, we believe BHEL would have significant advantages such as
scale, vendor base, relationship with utilities, government ownership,
and significant experience in the business.
c) The valuations are at rock bottom. For a company with such strong
revenue visibility, quality management and strong corporate
governance, we believe 10x one-year forward EPS is an attractive price.
We maintain our Buy rating and DCF-based price target of Rs2750. BHEL
is our top pick in the capital goods space.
Crompton Greaves
We think the near-term outlook for Crompton is still uncertain: a) Indian T&D
equipment manufacturers are facing severe competition from overseas and this
has led to a structural decline in profitability; b) the overseas markets continue
to remain challenging for Crompton; c) interest rate hikes continue and inflation
is not under control, which is a negative for its consumer products business; and
d) ordering activity has slowed down in industrials.
The outlook for key segments of power systems and consumer products remains
challenging. Indian T&D manufacturers are facing severe competition from
overseas manufacturers and this has led to a structural decline in business
profitability. We also believe this trend may continue in the near term. We
believe Crompton’s Power Systems business is struggling in overseas markets as
well. The key reason is that the markets in Europe and the Middle East continue
to be challenging due to concern over the economic environment, and we think
this would impact Crompton’s business at least for the next few quarters as well.
The competition in consumer products business is intense for Crompton. The
company also highlighted that if the interest rate hikes continue and inflation
does not come under control, the consumer products business could be adversely
affected. Hence, we think growth should remain muted for Crompton in its
consumer products business.
As indicated by companies such as ABB India and Thermax, the companies that
are dependent on industrial capex are struggling as ordering activity has slowed
considerably. The general slowdown in the industry has affected almost all the
sectors in the economy and we think the industrial systems business of
Crompton is also unlikely to see any strong positive momentum.
Although the stock performed well in the previous month (it is flat in absolute
terms but has outperformed other stocks in the space) on promoters raising their
stake and good support from domestic institutional buyers, we remain negative.
We maintain our Sell rating and DCF-based price target of Rs130.
Thermax
We believe the captive power generation sector in India is fundamentally
attractive due to the unreliable and expensive power from electricity grids.
Thermax should benefit from these opportunities as a leading private-sector
captive power generation equipment supplier in India. However, we think the
near-term outlook is negative for order inflow.
Thermax management has also guided for lower order inflows. We think the
beneficiaries of industrial capex (such as Thermax) are struggling as ordering
activity has slowed down. We also think there will be downside to margins in
FY12-13. We expect further dilution in the margin in light of: 1) burgeoning
competition in the power equipment market; and 2) a slowdown in the industrial
segment, which would delay the capacity addition plans of companies.
We are also not convinced about the company’s diversification into higher MW
capacity boilers through a JV with Babcock & Wilcox. Since there are many
new companies entering the sector, it is not sustainable to have so many players
in the space. BHEL would continue to maintain its leadership because it has
considerable experience and its product quality is good. For NTPC bulk
tendering (9x800MW), Thermax has not been able to win any orders and new
BTG orders have slowed down due to issues in the power generation sector. We
also believe that companies with both Boilers and Turbine Generator would be
at an advantage. Not many power utilities would prefer dealing with multiple
vendors for BTG package. This factor may go against companies present in only
boilers or TG such as Thermax.
We maintain our Sell rating and DCF-based price target of Rs450.
ABB India
ABB India continues to post disappointing results. In Q211 as well, results were
below expectations as it reported EBITDA margin of 5% and profitability across
segments is still a major concern. Recently, management also indicated that new
orders are coming in slowly and pressure on margins is likely to continue.
The outlook for T&D equipment and industrial products/systems such as ABB
India remains challenging. Indian T&D manufacturers are facing severe
competition from overseas manufacturers and this has led to a structural decline
in business profitability. We also believe this trend may continue in the near
term. We believe the Industrial Systems business is also struggling in domestic
markets.
We think ABB India is expensive on valuations. We maintain our Sell
rating and DCF-based price target of Rs590 on ABB India.
Suzlon Energy
Suzlon has recorded good momentum in domestic markets and order inflow
from India business is good. However, we continue to wait for international
order inflow to turn around. The company had expected reasonable growth in
the North America market in 2011, but this has not happened e.g. the company
reported that it won 237MW of new orders in Q1 FY12. However, most of them
(205MW) have come from India and only 32MW from North America. The
orders from other overseas businesses are also disappointing.
Overall, Suzlon has done well on domestic orders but international orders have
largely been insignificant. This is primarily due to the uncertain environment in
the US, Europe and other geographies in the world. As at Q1 FY12, the Suzlon
order book has declined to 2,030MW (from 2,231MW as at end-FY11) and is
now less than one year of sales coverage. We believe international orders will be
key for the stock and continue to believe that H2 FY12 will also be a
challenging period for Suzlon.
We maintain our Sell rating with a DCF-based price target of Rs41 on
Suzlon.
Statement of Risk
ABB: We believe the key risk for our rating is a faster-than-expected recovery
and better-than-expected margins on the current order book. We think the keys
risks for ABB are: a slowdown in power sector investment, an industrial
slowdown, raw materials risk, competition, employees’ retention, and execution
risks.
Bharat Heavy: We believe the key risks for BHEL remain execution, delivery,
raw material costs, and order inflows.
Crompton Greaves: We believe the key upside risks to our Sell rating on CG
are: 1) a pick-up in order activity at Power Grid and SEBs; 2) increased
government focus; 3) margin expansion; and 4) a better-than-expected
performance in overseas markets. We think the key downside risks for the
company are: 1) competition; 2) delays in power generation projects; 3) rising
raw material prices; 4) a slower-than-expected recovery in government spending
and industrial activity; 5) a slowdown in the international business; and 6) a
decline in EBITDA margin.
Suzlon Energy: The key risks are liquidity and cash flows for Suzlon, later than
expected recovery in wind orders globally. The key risk to our Sell rating is
faster than expected pick-up in new orders.
Thermax: We believe the key upside risks to our Sell rating for Thermax are: 1)
robust new orders for supercritical equipment; 2) expanding margins; 3) more
regulatory support; for example, an import duty on large-capacity power
equipment; and 4) a pick-up in industrial capex. We believe the key downside
risks are: 1) execution delays in power projects; 2) heavy competition from
foreign manufacturers, especially from China; 3) rising raw material prices; 4)
risks associated with the diversification strategy (in high MW capacity boilers);
and 5) execution risk.
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