Thermax - Looking beyond the near‐term weakness ::Prabhudas Lilladher,

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We hosted the management of Thermax. Following are the key takeaways of the
meeting:
􀂄 Base business orders to grow, large orders taking time: Thermax reiterated its
ability to win base business orders of at least Rs5-6bn per quarter and hence,
does not expect the order flow to be below the Q3FY12 levels (Rs5.9bn). The
peak base business order flow was Rs10.5bn in FY08. The current capacities can
take base business orders up to Rs14bn per quarter. However, with very few
enquiries for large and captive power plants, the order flow is likely to be muted
for the next two quarters due to the given current issues like coal availability
and higher cost of funds. The company expects the recovery to happen by
H2FY13. Sectors like Cement, Steel and Oil & Gas (refineries) are likely to lead
the recovery apart from sectors like Food processing, Hotels and Hospitals which
are already investing. Power sector is likely to take time to recover.
􀂄 Margins can be maintained if recovery happens in the next two quarters:
Given the reduced order carry, sales are likely to de-grow by 8-10% next year.
However, efforts are being made to curtail the fall. Though business like
Chemical, Water, Absorption chiller, Services O&M, Standard boilers etc. are
likely to show growth, large business segments like EPC and Boiler & Heating
are likely to de-grow, leading to over all de-growth. Thermax will try and
maintain margins at ~11% range despite lower turnover by various levers it has
in the employee cost (Rs500m in variable pay and Rs350m in variable man
power). However, if the recovery does not happen by H2FY13, then it will have
to start taking orders even with lower margin to cover fixed cost.
􀂄 Super critical JV update: The JV for super critical boilers with Babcock & Wilcox
is on track and is likely to be commissioned by September 2012. However, with
no enquiries in the pipeline, it is unlikely that the JV will have an order at the
time of commissioning. The burn out for JV assuming no revenues in FY13 or
FY14 (due to lack of orders) could be ~Rs1bn (Thermax share 51%). Some of the
losses could possibly be offset if the JV were to get some international orders
from its partner Babcock and Wilcox. The management did not sound too
worried as the company’s share of losses in the JV is not large compared to the
net worth. Management believed that apart from issues like coal and land, the
biggest hurdle for Power market will be for promoters garner equity. It also
believes that though current preference is for Super critical plants, but given the
constraint of coal and equity, smaller size plants of 150MW and 300MW might
be back in favour. On issues of lack of coal linkage to captive plants, company
commented that the economics will work for captive plants even if they have to
import coal and run the plant as price of electricity is likely to go up further with
capacity addition lagging target.
􀂄 Valuation and Outlook: The stock is trading at 17.8x FY13E earnings. We believe
that though the next few quarters will be weak in terms of earnings and order
flow, Thermax’s ability to bag base orders of ~Rs5-6bn per quarter gives us a
confidence that it will be able to tide the slowdown and participate in the
upturn of the cycle meaningfully and surprise positively in terms of order flow.
Expectation of rate cut aiding recovery of capex cycle will also help support
multiples. We maintain our ‘Accumulate’ rating on the stock