Please Share:: 
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Initiate coverage with Overweight rating, Sept-12 PT of Rs2000 based on 16x
Sep13E P/E. BHE, a leading Indian manufacturer of defense electronics, is a play
on rising government expenditure on modernization of Indian defense forces. This
is supported by a favorable policy framework that seeks a higher share of
domestically-produced equipment. With its strong R&D capability, solid execution
track record, and long-standing relationship with the Indian defense
establishment, we think BHE is well positioned to benefit. It currently has an
order book of Rs270B providing revenue visibility for 4-5 years. Valuations have
de-rated over the past few quarters on account of margin pressure owing to oneoff
lower-margin non-defense orders. We expect a rebound in margins to drive
18% EPS CAGR over FY12-FY14E, which should drive valuations higher. We
estimate BHE has Rs55B of cash (Rs685 per share, 45% of market cap) as at 3Q
FY12; with the govt. looking at sources of cash to fund its fiscal deficit, we see a
case for higher/special dividend payout (the govt. has a 75.9% stake in Bharat).
Well positioned to benefit from rising defense expenditure. Indian govt.
spending on defense equipment is expected to rise at a 10% CAGR to USD19B
by 2015 (source CII-Deloitte). While most defense equipment procurement is
from foreign vendors, govt. wants to increase domestic share. Defense
Procurement Policy mandates minimum 30% offset against any foreign capital
acquisition over Rs3B. BEL is well positioned to benefit, given its strong R&D
capabilities and longstanding relationships with Indian defense establishment.
Its current order book of Rs270B is largely skewed towards defense related
orders (80%+) providing steady revenue visibility over next 4-5 years.
Margins set to recover, solid cash profile. We forecast EPS CAGR of 18%
over FY12-FY14E, driven by 8% revenue CAGR and margin recovery. We
estimate BHE has cash balance of Rs55B (Rs685 per share) on its books, which
will increase to Rs63.6B (Rs795 per share) by FY14E.
Price target, valuations and key risks. Our Sep-12 PT of Rs2000 is based on
16x Sep13E P/E, towards the middle of BHE's historical trading range. BHE is
trading at 13xFY13E P/E, which we believe is attractive given its order-book,
earnings growth and cash profile. We expect margin recovery to drive stock rerating.
Key risks to our thesis are increasing competition, delay in execution,
changes to payment terms and slowdown in defense expenditure.
Investment Summary
We initiate coverage on BHE with Overweight rating with price target of Rs2000.
Our price target is based on 16x Sep13E P/E. BHE is a play on Indian defense
modernization which is driving strong growth in defense expenditure.BHE is a
leading domestic player in defense electronics with strong R&D and manufacturing
capabilities. It has core competencies in areas like radars, weapons systems,
electronic warfare systems, network centric systems, electro-optics, tank electronics
and homeland security.
BHE stock has de-rated over the past 3-4 quarters on account of pressure on
operating margins. However, we note that that lower margins have been on account
of one off low margin non defense orders and we expect margins to pick up going
forward as the product mix normalizes. In addition, we see the defense opportunity
for BHE increasing steadily as government puts its modernization plan into motion,
aided by recent favorable policy changes that emphasize the rising share of domestic
procurement. With ensuing margin recovery in FY13E and increasing cash balance,
we expect stock to re-rate going forward. In addition, BHE currently has cash of
Rs55B (Rs685 per share) on its books, which we believe makes case for a higher
dividend payout, esp. as Indian govt. looks at sources of cash to fund its fiscal deficit
(the government has a 75.9% stake in Bharat). A special dividend announcement
could be a potential stock price trigger. Our target P/E multiple of 16x is at the
middle of BHE’s historical trading band of 10x-20x P/E.
India's expenditure on defense equipment has increased at a CAGR of 12% over past
10 years. With the Ministry of Defense putting in place plans to enhance and
modernize India's defense forces, India’s defense capital expenditure is estimated to
increase at a CAGR of 10% over 2012-15 to USD19.2B (source: CII-Deloitte).
Indian government's recent policy framework lays emphasis on higher share of
indigenous procurement for defense equipment. The government has set a notional
target of meeting 70% of its defense requirements domestically. The Defense
Procurement Policy states that any capital acquisition over Rs3B from foreign
players would entail an offset of minimum 30% of the order size. We believe that
potential offset contracts offer a significant opportunity for domestic players like
BHE. BHE management expects USD300M of offset business over next 5 years.
BHE currently has an order book of Rs270B which provides strong revenue visibility
over next 4-5 years. Almost 80% of BHE's order book is related to defense
equipment, which lends confidence on quality of the order book. BHE has strong
R&D capabilities and besides its own R&D setup, it undertakes joint development
with DRDO, a leading government agency responsible for development of
technology for use by the military. Over the years, BHE has increased its R&D
spending, which has allowed it to widen its product slate. While surveillance radars,
communication equipment and electronic warfare products will continue to be focus
areas, going forward, BHE has identified homeland security, nuclear power
instrumentation and control and clean energy solutions as new areas for growth.
We expect a pick up in earnings growth following a slowdown in 9mFY12 on
account of lower margins. We forecast a CAGR in earnings of 18% over FY12-
FY14E. Earnings in 9mFY12 have been tepid on account of lower operating margins
on account of one-off low margin non-defense orders. We expect product mix to
normalize going forward and expect margins to pick up.
BHE has a solid balance sheet, with net cash of Rs55B (about Rs685 per share),
which we estimate will increase to Rs63.6B (Rs795 per share) by FY14E. We see a
strong case for potential increase in dividend payout / special dividend going
forward, esp. as the government is looking for sources of cash to fund its fiscal
deficit. Once of the sources that the govt. is likely to explore is higher / one off
special dividends from cash rich PSUs, a criteria that BHE meets.
Key risks to our rating and price target
Rising competitive intensity
While historically the domestic defense industry has been dominated by PSUs, going
forward we expect higher participation from private players, which will increase
competitive intensity for BHE. Historically, the Indian private sector participation in
defense equipment has been limited to basic and intermediate products. However,
restrictions on participation in arms production have been relaxed and a larger
number of domestic private players are bidding for defense contracts. Some of the
large players include companies from the Tata Group, L&T and Mahindra Defense
Services which are backed by significant resources. We believe that as private
players become more aggressive, BHE could likely face market share losses or may
need to bid for contracts more aggressively.
Delays in execution of orders
Any potential delays in execution of orders could have an adverse impact on
revenues and profits for BHE. Besides, some of its contracts may also include
potential damage claims on delays, which could result in negative earnings surprises
and de-rating of stock valuations.
Late payments from customers / change in payment norms
Potential delays or change in payment norms from customers could have an adverse
impact on cash flows and earnings. Under the current norms, BHE typically receives
15% in advance when a defense order is placed. It receives another 70% (normally in
two trances) which is based on progress of the order and 10% is received upon
dispatch. Thus, for a typical defense order BHE receives 95% of its payments upon
dispatch (75% in case of naval related works). These payment terms allow it to work
on healthy working capital norms and help drive strong cash flows. Any changes to
these norms could stress working capital and put pressure on cash flow profile for
BHE.
Lower than expected defense expenditure
BHE's order book growth is predicated on sustained increase in government
expenditure on defense equipment. Any potential slowdown /cut in defense
expenditure could result in downside to our earnings estimates. In addition, any
adverse changes to defense off set norms / procurement policy could also lead to
lower growth opportunity for BHE.
Raw material cost risks
With rising share of longer cycle execution projects, we believe that BHE is exposed
to higher raw material risks and margins could become more volatile going forward
in the event that contracts do not entail cost escalation clauses.
Valuation and share price analysis
We have benchmarked our target valuation to BHE’s historical trading band and
valuations of its global peer group. Our September 12 price target of Rs2000 is based
on 16x Sep-13P/E.
BHE is currently trading at 13x FY13E and 11x FY14EP/E, lower than last 5 year
one year forward trading average of 15xP/E. It has historically traded in the range of
10x-20x forward P/E multiple. Valuations have de-rated recently owing to recent
quarters of margin disappointments.
However, we note that that lower margins over past 3 quarters have been on account
of one off low margin orders and we expect margins to pick up going forward as the
product mix normalizes. In addition, we see the defense opportunity for BHE
increasing steadily as government puts its modernization plan into motion, aided by
recent favorable policy changes that emphasize a rising share of domestic
procurement. We expect the ensuing margin recovery in FY13E and increasing cash
balance to see BHE trading at the higher end of its valuations going forward. We
therefore attribute 16x target P/E (still at 25% discount to its peak multiple of 20x) to
BHE.
Peer comparison
BHE does not have a well defined domestic pure play listed peer group. We compare
BHE’s valuations to its global peers. BHE is currently trading at 18% and 9%
premium for FY13E P/E and FY14E P/E with respect to its global peer average
valuations. We believe that BHE should continue to trade at a premium to its global
peers given its relatively higher earnings growth profile and better capital return
profile, as well as its strong cash position.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Initiate coverage with Overweight rating, Sept-12 PT of Rs2000 based on 16x
Sep13E P/E. BHE, a leading Indian manufacturer of defense electronics, is a play
on rising government expenditure on modernization of Indian defense forces. This
is supported by a favorable policy framework that seeks a higher share of
domestically-produced equipment. With its strong R&D capability, solid execution
track record, and long-standing relationship with the Indian defense
establishment, we think BHE is well positioned to benefit. It currently has an
order book of Rs270B providing revenue visibility for 4-5 years. Valuations have
de-rated over the past few quarters on account of margin pressure owing to oneoff
lower-margin non-defense orders. We expect a rebound in margins to drive
18% EPS CAGR over FY12-FY14E, which should drive valuations higher. We
estimate BHE has Rs55B of cash (Rs685 per share, 45% of market cap) as at 3Q
FY12; with the govt. looking at sources of cash to fund its fiscal deficit, we see a
case for higher/special dividend payout (the govt. has a 75.9% stake in Bharat).
Well positioned to benefit from rising defense expenditure. Indian govt.
spending on defense equipment is expected to rise at a 10% CAGR to USD19B
by 2015 (source CII-Deloitte). While most defense equipment procurement is
from foreign vendors, govt. wants to increase domestic share. Defense
Procurement Policy mandates minimum 30% offset against any foreign capital
acquisition over Rs3B. BEL is well positioned to benefit, given its strong R&D
capabilities and longstanding relationships with Indian defense establishment.
Its current order book of Rs270B is largely skewed towards defense related
orders (80%+) providing steady revenue visibility over next 4-5 years.
Margins set to recover, solid cash profile. We forecast EPS CAGR of 18%
over FY12-FY14E, driven by 8% revenue CAGR and margin recovery. We
estimate BHE has cash balance of Rs55B (Rs685 per share) on its books, which
will increase to Rs63.6B (Rs795 per share) by FY14E.
Price target, valuations and key risks. Our Sep-12 PT of Rs2000 is based on
16x Sep13E P/E, towards the middle of BHE's historical trading range. BHE is
trading at 13xFY13E P/E, which we believe is attractive given its order-book,
earnings growth and cash profile. We expect margin recovery to drive stock rerating.
Key risks to our thesis are increasing competition, delay in execution,
changes to payment terms and slowdown in defense expenditure.
Investment Summary
We initiate coverage on BHE with Overweight rating with price target of Rs2000.
Our price target is based on 16x Sep13E P/E. BHE is a play on Indian defense
modernization which is driving strong growth in defense expenditure.BHE is a
leading domestic player in defense electronics with strong R&D and manufacturing
capabilities. It has core competencies in areas like radars, weapons systems,
electronic warfare systems, network centric systems, electro-optics, tank electronics
and homeland security.
BHE stock has de-rated over the past 3-4 quarters on account of pressure on
operating margins. However, we note that that lower margins have been on account
of one off low margin non defense orders and we expect margins to pick up going
forward as the product mix normalizes. In addition, we see the defense opportunity
for BHE increasing steadily as government puts its modernization plan into motion,
aided by recent favorable policy changes that emphasize the rising share of domestic
procurement. With ensuing margin recovery in FY13E and increasing cash balance,
we expect stock to re-rate going forward. In addition, BHE currently has cash of
Rs55B (Rs685 per share) on its books, which we believe makes case for a higher
dividend payout, esp. as Indian govt. looks at sources of cash to fund its fiscal deficit
(the government has a 75.9% stake in Bharat). A special dividend announcement
could be a potential stock price trigger. Our target P/E multiple of 16x is at the
middle of BHE’s historical trading band of 10x-20x P/E.
India's expenditure on defense equipment has increased at a CAGR of 12% over past
10 years. With the Ministry of Defense putting in place plans to enhance and
modernize India's defense forces, India’s defense capital expenditure is estimated to
increase at a CAGR of 10% over 2012-15 to USD19.2B (source: CII-Deloitte).
Indian government's recent policy framework lays emphasis on higher share of
indigenous procurement for defense equipment. The government has set a notional
target of meeting 70% of its defense requirements domestically. The Defense
Procurement Policy states that any capital acquisition over Rs3B from foreign
players would entail an offset of minimum 30% of the order size. We believe that
potential offset contracts offer a significant opportunity for domestic players like
BHE. BHE management expects USD300M of offset business over next 5 years.
BHE currently has an order book of Rs270B which provides strong revenue visibility
over next 4-5 years. Almost 80% of BHE's order book is related to defense
equipment, which lends confidence on quality of the order book. BHE has strong
R&D capabilities and besides its own R&D setup, it undertakes joint development
with DRDO, a leading government agency responsible for development of
technology for use by the military. Over the years, BHE has increased its R&D
spending, which has allowed it to widen its product slate. While surveillance radars,
communication equipment and electronic warfare products will continue to be focus
areas, going forward, BHE has identified homeland security, nuclear power
instrumentation and control and clean energy solutions as new areas for growth.
We expect a pick up in earnings growth following a slowdown in 9mFY12 on
account of lower margins. We forecast a CAGR in earnings of 18% over FY12-
FY14E. Earnings in 9mFY12 have been tepid on account of lower operating margins
on account of one-off low margin non-defense orders. We expect product mix to
normalize going forward and expect margins to pick up.
BHE has a solid balance sheet, with net cash of Rs55B (about Rs685 per share),
which we estimate will increase to Rs63.6B (Rs795 per share) by FY14E. We see a
strong case for potential increase in dividend payout / special dividend going
forward, esp. as the government is looking for sources of cash to fund its fiscal
deficit. Once of the sources that the govt. is likely to explore is higher / one off
special dividends from cash rich PSUs, a criteria that BHE meets.
Key risks to our rating and price target
Rising competitive intensity
While historically the domestic defense industry has been dominated by PSUs, going
forward we expect higher participation from private players, which will increase
competitive intensity for BHE. Historically, the Indian private sector participation in
defense equipment has been limited to basic and intermediate products. However,
restrictions on participation in arms production have been relaxed and a larger
number of domestic private players are bidding for defense contracts. Some of the
large players include companies from the Tata Group, L&T and Mahindra Defense
Services which are backed by significant resources. We believe that as private
players become more aggressive, BHE could likely face market share losses or may
need to bid for contracts more aggressively.
Delays in execution of orders
Any potential delays in execution of orders could have an adverse impact on
revenues and profits for BHE. Besides, some of its contracts may also include
potential damage claims on delays, which could result in negative earnings surprises
and de-rating of stock valuations.
Late payments from customers / change in payment norms
Potential delays or change in payment norms from customers could have an adverse
impact on cash flows and earnings. Under the current norms, BHE typically receives
15% in advance when a defense order is placed. It receives another 70% (normally in
two trances) which is based on progress of the order and 10% is received upon
dispatch. Thus, for a typical defense order BHE receives 95% of its payments upon
dispatch (75% in case of naval related works). These payment terms allow it to work
on healthy working capital norms and help drive strong cash flows. Any changes to
these norms could stress working capital and put pressure on cash flow profile for
BHE.
Lower than expected defense expenditure
BHE's order book growth is predicated on sustained increase in government
expenditure on defense equipment. Any potential slowdown /cut in defense
expenditure could result in downside to our earnings estimates. In addition, any
adverse changes to defense off set norms / procurement policy could also lead to
lower growth opportunity for BHE.
Raw material cost risks
With rising share of longer cycle execution projects, we believe that BHE is exposed
to higher raw material risks and margins could become more volatile going forward
in the event that contracts do not entail cost escalation clauses.
Valuation and share price analysis
We have benchmarked our target valuation to BHE’s historical trading band and
valuations of its global peer group. Our September 12 price target of Rs2000 is based
on 16x Sep-13P/E.
BHE is currently trading at 13x FY13E and 11x FY14EP/E, lower than last 5 year
one year forward trading average of 15xP/E. It has historically traded in the range of
10x-20x forward P/E multiple. Valuations have de-rated recently owing to recent
quarters of margin disappointments.
However, we note that that lower margins over past 3 quarters have been on account
of one off low margin orders and we expect margins to pick up going forward as the
product mix normalizes. In addition, we see the defense opportunity for BHE
increasing steadily as government puts its modernization plan into motion, aided by
recent favorable policy changes that emphasize a rising share of domestic
procurement. We expect the ensuing margin recovery in FY13E and increasing cash
balance to see BHE trading at the higher end of its valuations going forward. We
therefore attribute 16x target P/E (still at 25% discount to its peak multiple of 20x) to
BHE.
Peer comparison
BHE does not have a well defined domestic pure play listed peer group. We compare
BHE’s valuations to its global peers. BHE is currently trading at 18% and 9%
premium for FY13E P/E and FY14E P/E with respect to its global peer average
valuations. We believe that BHE should continue to trade at a premium to its global
peers given its relatively higher earnings growth profile and better capital return
profile, as well as its strong cash position.
No comments:
Post a Comment