Bharat Forge: Eyeing global leadership

Bharat Forge (BFL), the world's second largest forging company, is aiming to acquire global leadership and in order to fulfill these global designs, the company acquired a Germany based blue chip forging company, Carl Den Peddinghaus (CDP), for a total consideration of US$ 35 m (Rs 1.5 bn). In this article, let us try and analyse the current deal and also have a look as to what the company is further doing to achieve global leadership. As can be seen from the chart below, BFL's exports, which accounted for nearly 40% of its revenues in FY03, were heavily reliant on the US markets. Even in the US markets, the company's expertise lied in the CV segment. Therefore, if the company had to continue with its robust growth, it became imperative for the company to tap the huge potential in passenger car forgings and at the same time diversify its presence across different markets. This is where the acquisition of CDP made a lot of sense.

There are quite a few synergies to be exploited between the two:

As is shown in the figures below, CDP is extremely strong in Europe with almost 80% of its revenue coming from these markets. It has a small presence in Asia, which accounted for just 5% of its revenues in FY03. BFL on the other hand has a strong presence in Asia with India and China accounting for nearly 70% of its revenues in FY03. Therefore, the latter's relatively thin presence in Europe is compensated by the former's strong presence in the same and vice-versa. In the US markets however, both are reasonably placed.

Apart from the geographical synergies depicted above, there exists a good fit of product synergies as well. While 51% of the CDP's revenues in FY03 came from the passenger car segment, it forms a small 6% of BFL's revenues. On the other hand, the CV market accounted for 63% of BFL's revenues, while it contributed 23% to CDP's revenues during the same year.

Therefore, the acquisition will not only help BFL in geographical de-risking, it will also help it in product de-risking. Since the company was heavily reliant on the US CV industry for its exports, the current deal will help it tap the enormous potential in the passenger car industry and that too in two of the strongest car markets in the world, the US and Europe. Moreover, the company's entry into China also augurs well for the company as the best names in the industry have their manufacturing base in China. Not only this, CDP has some top of the heap passenger car makers like BMW, Audi, Volvo and General Motors as its customers and hence BFL can leverage upon these strong customer relationships.

In view of the growth potential in the global arena, the company is planning to add capacities not only through acquisitions but also by expansions at its own plant in India. Therefore, the company is setting up two additional 6,000 MT press line to cater to the passenger car segment. It is also planning to set up a large forging press line to increase forging capacity to meet the demand for machined heavy-duty crankshafts. Besides, the company aims to be an end-to-end solutions provider and in this regard it is also setting up a full-fledged product testing and validation facility, expected to come up by mid FY05.

The capacity expansion plans would entail sufficient capital expenditure and the company has envisaged a capital investment of approximately Rs 3.5 bn in the next 12-15 months. While Rs 1.5 bn would be raised through a rights issue with attached warrants, the balance would be mopped up through company's internal accruals and debt financing.

The stock is currently trading at Rs 764, implying a P/E of 25x its expected FY04 earnings. The company is targeting revenues of US$ 1 bn by FY08, which would require it to grow at a CAGR of nearly 45% from its FY03 levels of US$ 156 m. Although, the company has shown a lot of aggressive intent in achieving its target so far, the bargaining power of an auto ancillary player is on the lower side and pressure on the auto industry will lead to squeezing of the company's margins.