Edelweiss Research report on Engineers India:
Engineers India’s (EIL) Q4FY07 profits were lower than our expectations due to higher employee expenses and other operating costs. Revenues were marginally higher than estimates due to lumpiness of revenues in Q4FY07.
EIL ended this quarter with an order book of Rs 21.3 billion; order book includes an Rs 9.2 billion LSTK contract from IOC. Q4FY07 order intake was Rs 0.7 billion compared to Q4FY07 revenues of Rs 1.6 billion.
Revenues were lower by 11.2% Y-o-Y and higher by 24.0% Q-o-Q due to lower share of LSTK (lump sum turn key) business. EBIT margins improved on Y-o-Y basis from 21.2% to 25.1%, but fell from 33.0% in Q3FY07. EIL factored in increase in employee costs w.e.f. January 1, 2007; this has dented EBIT margins. EIL expects the salary hikes to be 50%. We have provided for increase in salaries which resulted in increase in the company’s employee expenses and hence, we are lowering our earning projections for the company.
We have reduced our FY08E EBITDA and EPS from Rs 2.0 billion and Rs 35.3 to Rs 1.3 billion and Rs 27.0, respectively. We have also reduced FY09 EPS estimates from Rs 41.8 to Rs 35.9. EIL is highly levered to increase in salaries; every 1.0% increase in salaries reduces the company’s FY08E profits by 1.0% (Rs 0.3/share).
EIL’s order book at 3.7x FY07 revenues provides comfort over sustainability and growth of revenue over the next four-five years. However, EIL’s earnings are not expected to grow significantly as higher employee costs may not be passed on Till FY08.
At Rs 506, EIL trades at 18.7x and 14.1x on FY08E and FY09E EPS, respectively. On an EV/EBITDA basis the stock trades at 14.2x and 8.5x, our FY08 and FY09 earnings. Global firms— Technip, Jacobs, Flour, McDermott—in similar business trade at one-year forward EV/EBITDA and P/E of 11-12x and 23-24x, respectively. We are downgrading the stock
to ‘ACCUMULATE’.
Strong order book; ends Q4FY07 with highest-ever order book of Rs 21.3 billion
EIL’s Q4FY07 order intake of Rs 0.7 billion resulted in the company maintaining high order book for FY07 year end. We estimate the current order book at Rs 21.3 billion. Current order backlog stands at 3.7 years of FY07 revenues. FY07 LSTK order stands at Rs 9.2 billion, with the remaining Rs 12.1 billion from conventional engineering business. Most of the LSTK order is expected to accrue in FY09. In FY08, we expect EIL to bag orders from CPCL’s modernization project (Rs 1.5 billion revenues for EIL) and HPCL’s Bhatinda refinery (Rs 6.0 billion). IOCL’s Paradip refinery project (Rs 10 billion) is another large project on the horizon.
Q4FY07 and FY07 revenues dip due to lower LSTK contribution
EIL’s Q4FY07 revenues of Rs 1.63 billion were lower by 11.2% Y-o-Y due to lower LSTK revenues booked in the quarter. LSTK revenues, which constituted 34.0% of total revenues in Q4FY06, fell to 5.2% in the reporting quarter. Similarly, FY07 revenues fell by 27.8% as LSTK’s share fell from 46.2% to 14.4%. We expect LSTK revenue share in FY08 to remain around same levels as IOC’s LSTK project will have a significant impact on EIL’s revenues from FY09 onwards.
Employee costs to drag future earnings; valuations full; reduce to ‘ACCUMULATE’
EIL’s Q4FY07 employee expenses increased by 28.2% Y-o-Y, which resulted in lower-thanexpected earnings. Salaries for all public sector undertakings (PSUs) are due for a hike from January 1, 2007 onwards. EIL has taken steps for the same and has provided for the increases in salaries from Q4FY07 onwards. The company expects the salary hikes to be 50%. We have provided for increase in salaries, which resulted in increase in the company’s employee expenses and hence, we are lowering our earning projections for the company. We have reduced our FY08E EBITDA and EPS from Rs 2.0 billion and Rs 35.3 to Rs 1.3 billion and Rs 27.0, respectively. We have also reduced FY09 EPS estimates from Rs 41.8 to Rs 35.9. EIL is highly levered to increase in salaries; every 1.0% increase in salaries reduces the company’s FY08 profits by 1.0% (Rs 0.3 per share). EIL’s order book at 3.7x FY07 revenues provides comfort over sustainability and growth in revenue over the next four-five years. However, EIL’s earnings are not likely to grow significantly as higher employee costs may not be passed on till FY08. At Rs 506, EIL trades at 18.7x and 14.1x on FY08E and FY09E EPS, respectively. On an EV/EBITDA basis the stock trades at 14.2x and 8.5x, our FY08 and FY09 earnings. Global firms— Technip, Jacobs, Flour, McDermott—in similar business trade at one-year forward EV/EBITDA and P/E of 11-12x and 23-24x, respectively. We are downgrading the stock to ‘ACCUMULATE’.