Strong financials and expanded capacities, combined with increased demand for transformers on the back of power reforms lend strength to the earnings prospects for Bharat Bijlee over the medium term.
At the current market price, the stock trades at 13 times its expected earnings for FY08. We reiterate a `buy' on the stock with a medium-term perspective. Returns may, however, be moderate in contrast to the manifold gains over the past couple of years.
Bharat Bijlee manufactures power and distribution transformers and a range of electric motors. After restructuring its business portfolio, which involved divesting its elevator field operations, the company has focussed on its transformer business. This resulted in an increase in the segment revenue from 34 per cent in FY2005 to about 50 per cent in FY2006. The company expanded its transformer manufacturing capacity from 4800 MVA to 8000 MVA in March 2006. This is already reflected in the 50 per cent jump in revenues for the nine months ended December 2006 against the same period last year. This expansion appears well timed and augurs well for the company's revenue growth given the current boom in offtake of power equipment. Until 2005, Bharat Bijlee lagged its peers in terms of operating profit margins (OPMs). It has since then improved its OPMs by moving to higher range transformers that typically yield better margins. Its OPMs for the third quarter of FY2007 at 20 per cent are superior to most similar sized companies in the industry. The motor division, which has clients such as NTPC and Reliance Industries, accounted for about 30 per cent of the revenues over the last two years. We expect the current capital spending by various industries to aid steady growth for this division. Bharat Bijlee has a comfortable cash position, despite operating in a working capital intensive industry with long gestation periods. Internal accruals and a solid investment book is likely to take care of further expansion plans, without the need for equity dilution. Any hike in price of raw materials such as copper can impact margins. The financial health of State Electricity Boards, who are major clients for the company, still remains a cause of concern. However, fund assistance through power reform programmes has mitigated the above risk to some extent.