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Voltas vs. Blue Star: The cooler one?

Mar 11, 2011

The engineering sector is the largest industrial segment of the Indian economy, characterized with the presence of a large number of sub-segments. In this article we will compare Voltas and Blue Star, two major air-conditioning and refrigeration companies. Voltas is the larger company in terms of sales. In this article we will first discuss the business operations and product profile. Subsequently we will highlight how they have performed in terms of profitability, growth and how they stand vis-a-vis each other when it comes to returns and valuations.

A brief about the business
Voltas and Blue Star play India's consumption story through engineering. Voltas Share price and Blue Star share price are mainly engaged in the business of air-conditioning & refrigeration related projects and cooling products. These segments account for over 90% of the revenue for both companies. The electro-mechanical projects comprises of turnkey projects and the integrated mechanical, electrical and plumbing projects. The cooling products portfolio includes products such as different variants of room air-conditioners, commercial refrigerators, water coolers, etc.

Voltas vs. Blue Star: A Comparison

Sales
Sales for Voltas grew at a 3 Year CAGR (FY08-FY10) of 22.5% as against a single digit CAGR of 6.3% for Blue Star. Voltas in dominant player with net sales almost twice that of Blue Star. The growth in operating profits is faster than the growth in sales indicating that operating margins have improved over the past 3 years.

3 Year CAGR Growth Blue Star Voltas
Sales % 6.3 22.5
EBIDTA % 8.2 34.7

Operating profit margins
Though Blue Star seems to be a clear winner in terms of profitability, however, Voltas has consistently bettered its own margins since 2003. Blue Star's EBIDTA margins improved from 5.8% during FY03 to around 10.9% during FY10; whereas for Voltas its EBIDTA margins climbed from 2.5% in FY03 to over 9.6% during FY10.

In fact for FY11, Voltas is estimated to report higher operating margins compared to Blue Star.

Debt-Equity ratio
Voltas has continuously pared its debt since early 2000s in an attempt to improve its balance sheet. It exited unprofitable businesses, reduced its bloated workforce and took steps to regain the market share it lost in the retail AC segment. It transformed itself through a series of restructuring initiatives, which involved high investments in innovation and product development, sprucing up the distribution network and aggressive marketing and distribution initiatives. Resultantly, its leverage has consistently declined over the last decade and its EBITDA margins have consistently improved from 2.1% during FY03 to over 9.6% during FY10. The debt-equity position for Voltas improved substantially from 0.6 times during FY03 to just 0.03 times during FY10.

In comparison, Blue Star was better positioned at the start of the decade with low leverage and comparatively better EBIDTA margins. Blue Star's leverage was marginally higher than the leverage of Voltas between FY05-FY07 primarily because of a surge in debt to cater to the higher working capital needs and the increase in capex. However the company soon cut its debt to comfortable limits and its debt-equity ratio for FY10 stood was at 0.02 times marginally lower than the debt-equity of Voltas.

Return on Capital Employed
Blue Star is again a clear winner in terms of return on capital employed. However a close analysis of the numbers shows that the returns for Blue Star have declined sharply since the downturn began in 2008. On the other hand, Voltas has managed to sustain its RoCE.

RoCE(%) FY08 FY09 FY10
Blue Star 71 64 54
Voltas 44 36 46

Customer profile
The electro-mechanical projects business of Blue Star has a large number of projects from IT/ITeS and commercial real estate market. The commercial real estate projects are moving slowly and thus projects from this segment carries a certain degree of execution risk.

On the other hand Voltas has a large number of projects from large hospitals and the infrastructure segment. Voltas is more positive on the faster execution of projects because of favorable conditions such as completion of design work and customers demand to expedite the projects.

Stock performance and valuations
In terms of stock performance, both Voltas and Blue Star outperformed the benchmark Sensex. However, Voltas outperformed significantly with a return of 459% as compared to the return 236% for Blue Star and a 214% return on Sensex since Mar 2, 2009.

The spectacular growth in sales and profitability of Voltas is the reason for its outperformance. The investors seem to have behaved rationally to reward the peer that outperformed and grew the fastest in the last 3 years.

Valuation-wise there is not much difference, though Voltas commands marginally lower price-to-earning and EV/EBIDTA multiples.

Valuation ratios Blue Star Voltas
Price-to-earnings* Times 17.1 15.1
EV/EBIDTA# Times 9.4 7.5
*Based on current market price (Mar 9, 2011) and trailing 12 month earnings
#Based on FY10 numbers

Which is better?
Voltas has done the catching up throughout the decade to bridge the gap in performance metrics. As depicted in the first table above, Voltas has outperformed its peer Blue Star in terms of sales and profit growth by wide margin over the past 3 years. Though in recent times Voltas seems to be bridging the gap in margins and returns to shareholders with its impressive performance, however Blue Star does not seem to be far behind.

Today both the players enjoy good balance sheets and almost comparable margins. It is important to see if the companies can sustain the margins in the long run. Thus it is important the investor must carefully weigh the future prospects of the individual businesses before making a pick.


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