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Suzlon Energy: Airy tales! - Views on News from Equitymaster

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Suzlon Energy: Airy tales!
May 15, 2006

Performance summary
Wind energy equipment major, Suzlon Energy announced excellent results for the fourth quarter and fiscal ended March 2006. Led by strong growth in volumes (MW capacity installed), the company raked in robust growth in both its topline and bottomline during the fiscal. As a matter of fact, the company’s actual topline and bottomline performance is respectively 16% and 10% above our estimates for FY06. The board has recommended a final dividend of Rs 2.5 per share (dividend yield of 0.2%).

Financial performance (Consolidated): A snapshot
(Rs m) FY05 FY06 Change
Sales 19,425 38,410 97.7%
Expenditure 14,840 29,570 99.3%
Operating profit (EBDITA) 4,585 8,840 92.8%
Operating profit margin (%) 23.6% 23.0%  
Other income 234 556 137.5%
Interest 353 508 44.0%
Depreciation 493 716 45.1%
Profit before tax 3,974 8,173 105.7%
Minority interest 2 (10)  
Tax 322 568 76.3%
Profit after tax/(loss) 3,653 7,595 107.9%
Net profit margin (%) 18.8% 19.8%  
No. of shares 86.9 287.5  
Diluted earnings per share (Rs)   26.4  
P/E ratio (x)   50.2  

What is the company’s business?
Suzlon Energy (Suzlon) is Asia’s leading manufacturer of wind turbine generators (WTGs) having around 53% share of India’s domestic installations in 2005. On a cumulative basis, Suzlon has installed around 36% of India’s total wind power capacity of 4,500 MW. As at the end of 2005, the company was among the five largest manufacturers of WTGs globally in terms of annual installed capacity. It is the first Asian company to manufacture WTGs, which have MW and multi-MW capabilities. The products manufactured by Suzlon include rotor blades, control panels, nacelle cover and tubular towers. The company had recently acquired the Belgian Hansen Transmissions, which is one of the three major multi-MW gearbox suppliers in the world. During the period between FY02 and FY06, Suzlon has grown its revenues and net profits at compounded rates of 65% and 61% respectively.

What has driven performance in FY06?
Volumes drive the topline: It was a volume driven topline growth in FY06. The company installed 970 MW of wind power capacity during FY06, representing a growth of 91% YoY. This included 88 MW of international installations. The fiscal also saw Suzlon climb the ladder (ranked number 5 in the world in terms of annual wind power capacity installations), thus capturing over 6% of the global market (1.3% share in FY03). In the domestic market, Suzlon installed around 880 MW of capacity, representing a growth of 74% YoY (508 MW in FY05). On a cumulative basis, Suzlon, with installations of 1,634 MW, represents around 36% of India’s total wind power installed capacity of 4,500 MW (as at the end of 2005). At the end of FY06, Suzlon’s order backlog stood at over Rs 33 bn, including Rs 7.2 bn of domestic orders (22% of the order book) and Rs 25.8 bn of international orders. This backlog represents around 86% of the company’s total sales during FY06.

FY06 was also witness to Suzlon acquiring the Belgium based Hansen Transmission, one of the three major multi-MW gearbox suppliers in the world. The consideration for this acquisition was US$ 564 m (Hansen’s 2005 revenues were US$ 258 m). As a matter of fact, Hansen has a manufacturing capacity of 3,600 MW of wind turbine gearboxes and 3,000 units of industrial gearboxes per year. We believe that this acquisition highlights the strategic importance of the supply chain in the wind turbine industry. Further, Suzlon's control of Hansen is expected to challenge its competitors to source from a major rival and remain price competitive.

The company is also in the process of expanding its manufacturing footprint globally. This includes an investment of US$ 60 m in China, where the company is setting up a 600 MW integrated manufacturing unit, which will produce rotor blades, generators and control panels. This will commence production by September 2006. The company is also investing US$ 25 m in setting up a 600 MW rotor blade manufacturing unit in the US. This unit shall commence production by July 2006. The US and Chinese expansion will take Suzlon’s equipment manufacturing capacity to 2,660 MW by September 2006, from 1,460 MW currently (82% higher).

Input costs weigh heavily on margins: Despite the strong growth in topline, Suzlon reported a 60 basis points (0.6%) contraction in operating margins during FY06. This has mainly been on the back of rise in input costs. As a matter of fact, these costs have risen from 62% of sales in FY05 to 64% in FY06. The effect of this rise in raw material costs has somewhat been pared by decline in other costs and those related to stock adjustments. The operating performance is marginally below our estimates.

Higher topline, other income aids bottomline: Apart from the strong growth in topline, a higher other income component helped Suzlon post a robust 108% YoY growth in its net profits during the fiscal. A lower effective tax rate of 7% (8.1% in FY05) has also aided the bottomline performance. On the back of these factors, the company has improved upon its net margins by a percentage point, which is commendable.

What to expect?
At the current price of Rs 1,327, the stock is trading at a price to earnings multiple of 18.2 times our estimated FY08 earnings. Considering the thrust by policymakers across the world towards ramping up renewable energy capacities (wind power included), the strong growth from Suzlon has been on expected lines. We believe that the full effect of an integrated supply chain shall also be visible in the times ahead. This shall help the company improve its profitability further. The global expansion shall give additional fillip to the growth prospects. We maintain our ‘HOLD’ view on the stock.

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