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Industrials
India
Investment cycle lumbers along; focus on margins amid stiff competition. Most
variables (steel, project announcements, credit) besides cement and company feedback
(Sanghvi, Voltamp, Voltas, consumer durable dealers) suggest a weak capex
environment. We present our 4QFY12 expectations but believe the focus would be on
margins incrementally, as intense competition persists in a weak environment. Retain
REDUCE on L&T, Thermax and Cummins; Sell on BHEL and ADD on CRG/Voltas.
Capex indicators suggest lumbering investment cycle; most variables negative apart from cement
Our tracking of key physical indicators suggests a weak investment cycle with (1) project
announcements down another 14% in the March quarter on top of a 43% drop in trailing four
quarters, (2) steel decline of 0.6% during Jan-Feb, (3) non-food credit growth of 18.3% versus
28% average growth rate over FY2005-09. Cement is the only variable that shows pick-up, with
10% growth over the past three months and may continue to do so as April and May 2011 were
very weak months (flat yoy). PMI dipped sequentially but may be less reliable as it did not capture
the drop in order inflows starting from the December 2010 quarter for industrials companies.
Recent interactions have provided weak takeaways for the capex environment
Key takeaways from our recent meetings with Voltas, Sanghvi Movers and a Crompton dealer are:
` Crompton dealer: Market is weak (fans market likely to be flat post a 10-15% drop in FY12E)
with potential threat of new entrants though near-term numbers (10% growth, 11% margins
in FY2013E) seem achievable. Chinese manufacturing losing ground is a medium-term positive.
` Voltas: Projects business lacks momentum in domestic and overseas markets with some pick-up
in overseas inflows re-starting post lowering of margin threshold. New product launches,
rationalization of models, local sourcing may help UCP business but initial feedback is weak.
` Sanghvi Movers: Fresh project start-up activity across sectors (cement, steel, petrochemicals)
remains disappointing and would likely lead to low yields and utilization, causing pressure on
returns. One of the main parts of the business, wind execution, may disappoint in FY2012E.
Industrials may not get much respite in 4QFY12; incremental focus would be on margins
We believe the industrials segment may disappoint in 4QFY12 particularly in terms of margins.
Incrementally, margins may be a bigger risk, based on intense competition for fewer opportunities,
persistent high inflation and no meaningful decline in commodity prices.
Retain ADD on CRG and Voltas, REDUCE on LT, Cummins and Thermax, SELL on BHEL
` CRG (ADD, TP: Rs170): Retain ADD on stability in the domestic business and improvement in
the overseas business, medium-term benefit of recent acquisitions and reasonable valuations.
` Voltas (ADD, TP: Rs125): Reiterate ADD due to low expectations, reasonable valuations (2.2X
P/B FY2013E for 17-18% RoE, 14X P/E), and strong cash flows and balance sheet.
` L&T (REDUCE, TP: Rs1,380): Risk reward is becoming balanced however, weak cycle, inflows
dependence on T&D, roads and buildings (margins and execution) and competition limit upside.
` Thermax (REDUCE, TP: Rs450 revised from Rs500): We lower inflow estimates to Rs8.6 bn in
4QFY12 and Rs46 bn in FY2013 versus Rs41 bn (FY2012) based on peer feedback of lull in
ordering activity and strong competition.
` BHEL (SELL, TP: Rs230): SELL rating is based on potential lull in incremental order wins, rising
domestic competition, and potential for margin contraction.
` Cummins (REDUCE, TP: Rs475): Retain REDUCE with revised TP of Rs475 as relatively
expensive valuations cap incremental upside.
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