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BLUE STAR LTD
PRICE: RS.211 RECOMMENDATION: REDUCE
TARGET PRICE: RS.227 FY13E P/E: 13.1X
q Numbers are sharply lower than expectations mainly due to MTM loss on
forex exposure coupled with persistent cost pressures in its projects business.
The company has during the quarter continued with its process of
short-closing of sluggish projects and has booked losses on such
projects. It has also done a fresh review of its debtors and has provided
for the same. Thus, as a prudent measure, the company has front-loaded
most of the foreseeable costs in the quarter. Consequently, the performance
should improve progressively in the coming quarters. However,
given the cost inflation, change in profile of order book and presence of
low margin orders, EBITDA margins may continue to remain below normal
levels in FY13 as well.
q The Central Air-conditioning continues to go through a lean phase on the
back of over-supply in office space, which is translating into sedate order
intake.
q In view of the near-term issues related to margin pressure, longer working
capital, oversupply in commercial real estate, increased cost pressures
in room ACs, we have reworked our target price which now stands
at Rs 227 (Rs 300 earlier). Although, the worst in terms of earnings may
be over for the company, we maintain our Reduce rating on the stock in
view of lack of visible triggers in the near term coupled with weak business
outlook.
Contracting environment remain challenging
For the second quarter, net revenues are down 12% yoy primarily due to the lead
segment Electromechanical projects posting a decline of 19% yoy in Q2 FY12.
The electromechanical projects segment is project based and continuing slackness in
commercial real estate development is reflecting in moderation in execution momentum.
In view of the existing oversupply, user segments like Offices and IT developers
have either deferred or slowed down their plans to increase capacity. Since Q4
FY11, billings and cash flow were adversely impacted due to slowdown in the
completion of large projects.
The company has been focusing on managing the capital employed in the segment
with a view to retrieve capital already employed. Basically, the company is linking
project completion to payment of overdue to receivables. The downside of this is
that while there is better control on working capital, the revenue recognition is getting
sluggish. However, in our view the management's strategy is appropriate in the
current environment as the focus should be on cash management rather than on
revenue growth.
The cooling products business comprises room airconditioners and refrigeration products
and systems. This segment grew 12% yoy in the second quarter, thus maintaining
the growth momentum of previous quarters. Robust growth in the cooling products
segment has been due to the renewed thrust on the residential AC segment.
The room AC industry was seeing strong growth till Feb 2011 and AC makers had
built inventory in anticipation of robust demand. However, the summer season of
2011 has been unexpectedly weak for the AC manufacturers. Consequently, most
leading players are saddled with unsold inventory. As a matter of fact, the industry
posted a degrowth in volumes in Q1 FY12.
The professional electronics business posted a growth of 12% yoy, reflecting impact
of general slowdown in demand for industrial products.
Project cost pressures resulted in decline in EBITDA
EBITDA margins declined 670 bps to 1.8% from 8.0% in Q2 FY11. Several ongoing
projects (lumpsum turnkey) have been delayed well beyond their schedule completion
and the management is taking steps to either expedite those or curtail the
scope of work. Given the age of these projects, cost variation between the estimated
costs and actuals on these projects are quite significant on account of the
firm commodity price increases in the last two years. Thus, the company had provided
for these cost overruns in Q1 FY12 and has continued the process in the second
quarter as well. The management foresees continued margin pressure for the
coming 3-4 quarters in the projects business.
The main driver of cost pressure has been the prices of non-ferrous metals like Copper
and Aluminum. During FY11, the company's consumption of non-ferrous metals
increased from 4310 tons in FY10 to 8336 tons. However, due to the sharp rise in
the prices of copper and Aluminum, the cost incurred on these commodities rose
from Rs 1.0 bn to Rs 2.6 bn. Since most of the company's projects are fixed prices,
the company had to incur heavy cost overruns on these projects
The cooling products segment reported sharp drop in margins on a sequential as
well as yoy basis as the industry has been reeling under cost pressures (Copper and
Aluminum) and excess inventory in the system. The recent depreciation in Rupee
has further exacerbated the cost pressures.
Significant MTM loss on account of forex movement
During the quarter, the company incurred MTM loss of Rs 194 mn which was included
as part of interest expenses. The company is a net importer of commodities
like copper and Aluminum to the extent of 15% of revenues. Due to the sharp depreciation
in Rupee vs the USD, the company had to incur MTM losses on its
unhedged positions.
No sign of meaningful rebound in order booking
The Central Airconditioning projects business is a play on the domestic commercial
real estate activity in the country. IT/ITES which is one of the major drivers of Central
Airconditioning systems has not moved to capacity building as yet given sufficient
room for utilization of existing space. The retail segment has slowed down. Moreover,
the commercial real estate remains oversupplied. Given these factors, the
company expects the order intake to remain sedate for the coming 3-4 quarters.
On a quarterly basis, estimated order intake is down 5% yoy to around Rs 6.8 bn.
Sequentially, order intake is down 20% qoq.
We believe the company may also be cautious on taking fresh orders due to poor
pricing scenario and longer cash conversion cycle.
The profile of order backlog has changed with more number of infrastructure orders
in the mix. The company has amalgamated Nasser Electricals into itself and has
started taking electrical projects as well. Thus from a largely Central Airconditioning
projects company, Blue Star is evolving into infrastructure projects company capable
of doing electrical, plumbing as well as fire fighting systems jobs. This has had negative
implications on margins as well as execution cycle.
Order backlog at Rs 21.6 bn is up 8% yoy, providing revenue visibility at 9.0 months
of trailing four quarter revenues.
Capital engagement has remained at elevated levels
The capital employed in Central Airconditioning (CAC) has remained high on a yoy
basis. The company has been grappling with rising payment cycle in the projects
business as given the overcapacity in office space, developers are going slow on
project execution. There has been a general slowdown in cash collection cycle. The
management is focusing on tighter control over its working capital.
The company has taken several measures at correcting its working capital cycle
through intense follow-ups with clients, closing of jobs that have been extensively
delayed and enforcement of contractual terms.
Business Outlook and Concall Highlights
n Outlook for the company's business continues to be weak atleast until the next
12-18 months due to oversupply in the commercial real estate front.
n The company indicated that during the fiscal, its focus has been on short-closing
of orders and front loading any foreseeable losses and bad debts. In the first
quarter, it had short-closed several slow-moving projects and this process has
been continued into the second quarter as well.
n Most of these short-closed projects (running for over 3 years) had suffered cost
overruns due to spiraling prices of Copper and Aluminum. The company has
written-off these losses.
n On the margin front, the company expects H2 FY12 to be much better than H1
FY12. While commodity prices like Copper and Aluminum have come off from
their peaks, the depreciation in Rupee has neutralized the impact.
n The company's current order book has several projects which have been booked
at very low margins. These projects are executable over a 18 month timeframe.
These orders would continue to weigh on margins in FY13. The management
has indicated that EBITDA margins in FY13 would be better than FY12 but lower
than the normal levels of 9-10%.
n The company indicated that it has taken several actions which should result in
margins returning to the normal levels in FY14. It is taking new orders at higher
pricing and is short-closing loss making orders. This should translate in an improved
outlook for margins in FY14.
n In the cooling products (room AC's) segment, the company has seen cost pressures
rising due to higher diesel prices pushing up logistics cost.
Earnings revision driven by lower growth outlook
FY12 earnings have been revised sharply down in view of the loss posted by the
company in 2Q FY12. There has been significant increase in borrowings as well thus
leading to higher interest burden
Target Price Revision - Reiterate Reduce
In view of the near-term issues related to margin pressure, longer working capital,
oversupply in commercial real estate, increased cost pressures in room ACs, we
have reworked our target price which now stands at Rs 227 (Rs 300 earlier). Although,
the worst in terms of earnings may be over for the company, we maintain
our Reduce rating on the stock in view of lack of visible triggers in the near term
coupled with weak business outlook.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
BLUE STAR LTD
PRICE: RS.211 RECOMMENDATION: REDUCE
TARGET PRICE: RS.227 FY13E P/E: 13.1X
q Numbers are sharply lower than expectations mainly due to MTM loss on
forex exposure coupled with persistent cost pressures in its projects business.
The company has during the quarter continued with its process of
short-closing of sluggish projects and has booked losses on such
projects. It has also done a fresh review of its debtors and has provided
for the same. Thus, as a prudent measure, the company has front-loaded
most of the foreseeable costs in the quarter. Consequently, the performance
should improve progressively in the coming quarters. However,
given the cost inflation, change in profile of order book and presence of
low margin orders, EBITDA margins may continue to remain below normal
levels in FY13 as well.
q The Central Air-conditioning continues to go through a lean phase on the
back of over-supply in office space, which is translating into sedate order
intake.
q In view of the near-term issues related to margin pressure, longer working
capital, oversupply in commercial real estate, increased cost pressures
in room ACs, we have reworked our target price which now stands
at Rs 227 (Rs 300 earlier). Although, the worst in terms of earnings may
be over for the company, we maintain our Reduce rating on the stock in
view of lack of visible triggers in the near term coupled with weak business
outlook.
Contracting environment remain challenging
For the second quarter, net revenues are down 12% yoy primarily due to the lead
segment Electromechanical projects posting a decline of 19% yoy in Q2 FY12.
The electromechanical projects segment is project based and continuing slackness in
commercial real estate development is reflecting in moderation in execution momentum.
In view of the existing oversupply, user segments like Offices and IT developers
have either deferred or slowed down their plans to increase capacity. Since Q4
FY11, billings and cash flow were adversely impacted due to slowdown in the
completion of large projects.
The company has been focusing on managing the capital employed in the segment
with a view to retrieve capital already employed. Basically, the company is linking
project completion to payment of overdue to receivables. The downside of this is
that while there is better control on working capital, the revenue recognition is getting
sluggish. However, in our view the management's strategy is appropriate in the
current environment as the focus should be on cash management rather than on
revenue growth.
The cooling products business comprises room airconditioners and refrigeration products
and systems. This segment grew 12% yoy in the second quarter, thus maintaining
the growth momentum of previous quarters. Robust growth in the cooling products
segment has been due to the renewed thrust on the residential AC segment.
The room AC industry was seeing strong growth till Feb 2011 and AC makers had
built inventory in anticipation of robust demand. However, the summer season of
2011 has been unexpectedly weak for the AC manufacturers. Consequently, most
leading players are saddled with unsold inventory. As a matter of fact, the industry
posted a degrowth in volumes in Q1 FY12.
The professional electronics business posted a growth of 12% yoy, reflecting impact
of general slowdown in demand for industrial products.
Project cost pressures resulted in decline in EBITDA
EBITDA margins declined 670 bps to 1.8% from 8.0% in Q2 FY11. Several ongoing
projects (lumpsum turnkey) have been delayed well beyond their schedule completion
and the management is taking steps to either expedite those or curtail the
scope of work. Given the age of these projects, cost variation between the estimated
costs and actuals on these projects are quite significant on account of the
firm commodity price increases in the last two years. Thus, the company had provided
for these cost overruns in Q1 FY12 and has continued the process in the second
quarter as well. The management foresees continued margin pressure for the
coming 3-4 quarters in the projects business.
The main driver of cost pressure has been the prices of non-ferrous metals like Copper
and Aluminum. During FY11, the company's consumption of non-ferrous metals
increased from 4310 tons in FY10 to 8336 tons. However, due to the sharp rise in
the prices of copper and Aluminum, the cost incurred on these commodities rose
from Rs 1.0 bn to Rs 2.6 bn. Since most of the company's projects are fixed prices,
the company had to incur heavy cost overruns on these projects
The cooling products segment reported sharp drop in margins on a sequential as
well as yoy basis as the industry has been reeling under cost pressures (Copper and
Aluminum) and excess inventory in the system. The recent depreciation in Rupee
has further exacerbated the cost pressures.
Significant MTM loss on account of forex movement
During the quarter, the company incurred MTM loss of Rs 194 mn which was included
as part of interest expenses. The company is a net importer of commodities
like copper and Aluminum to the extent of 15% of revenues. Due to the sharp depreciation
in Rupee vs the USD, the company had to incur MTM losses on its
unhedged positions.
No sign of meaningful rebound in order booking
The Central Airconditioning projects business is a play on the domestic commercial
real estate activity in the country. IT/ITES which is one of the major drivers of Central
Airconditioning systems has not moved to capacity building as yet given sufficient
room for utilization of existing space. The retail segment has slowed down. Moreover,
the commercial real estate remains oversupplied. Given these factors, the
company expects the order intake to remain sedate for the coming 3-4 quarters.
On a quarterly basis, estimated order intake is down 5% yoy to around Rs 6.8 bn.
Sequentially, order intake is down 20% qoq.
We believe the company may also be cautious on taking fresh orders due to poor
pricing scenario and longer cash conversion cycle.
The profile of order backlog has changed with more number of infrastructure orders
in the mix. The company has amalgamated Nasser Electricals into itself and has
started taking electrical projects as well. Thus from a largely Central Airconditioning
projects company, Blue Star is evolving into infrastructure projects company capable
of doing electrical, plumbing as well as fire fighting systems jobs. This has had negative
implications on margins as well as execution cycle.
Order backlog at Rs 21.6 bn is up 8% yoy, providing revenue visibility at 9.0 months
of trailing four quarter revenues.
Capital engagement has remained at elevated levels
The capital employed in Central Airconditioning (CAC) has remained high on a yoy
basis. The company has been grappling with rising payment cycle in the projects
business as given the overcapacity in office space, developers are going slow on
project execution. There has been a general slowdown in cash collection cycle. The
management is focusing on tighter control over its working capital.
The company has taken several measures at correcting its working capital cycle
through intense follow-ups with clients, closing of jobs that have been extensively
delayed and enforcement of contractual terms.
Business Outlook and Concall Highlights
n Outlook for the company's business continues to be weak atleast until the next
12-18 months due to oversupply in the commercial real estate front.
n The company indicated that during the fiscal, its focus has been on short-closing
of orders and front loading any foreseeable losses and bad debts. In the first
quarter, it had short-closed several slow-moving projects and this process has
been continued into the second quarter as well.
n Most of these short-closed projects (running for over 3 years) had suffered cost
overruns due to spiraling prices of Copper and Aluminum. The company has
written-off these losses.
n On the margin front, the company expects H2 FY12 to be much better than H1
FY12. While commodity prices like Copper and Aluminum have come off from
their peaks, the depreciation in Rupee has neutralized the impact.
n The company's current order book has several projects which have been booked
at very low margins. These projects are executable over a 18 month timeframe.
These orders would continue to weigh on margins in FY13. The management
has indicated that EBITDA margins in FY13 would be better than FY12 but lower
than the normal levels of 9-10%.
n The company indicated that it has taken several actions which should result in
margins returning to the normal levels in FY14. It is taking new orders at higher
pricing and is short-closing loss making orders. This should translate in an improved
outlook for margins in FY14.
n In the cooling products (room AC's) segment, the company has seen cost pressures
rising due to higher diesel prices pushing up logistics cost.
Earnings revision driven by lower growth outlook
FY12 earnings have been revised sharply down in view of the loss posted by the
company in 2Q FY12. There has been significant increase in borrowings as well thus
leading to higher interest burden
Target Price Revision - Reiterate Reduce
In view of the near-term issues related to margin pressure, longer working capital,
oversupply in commercial real estate, increased cost pressures in room ACs, we
have reworked our target price which now stands at Rs 227 (Rs 300 earlier). Although,
the worst in terms of earnings may be over for the company, we maintain
our Reduce rating on the stock in view of lack of visible triggers in the near term
coupled with weak business outlook.
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