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Emco: Interest bites into profits

Jun 24, 2009

Performance summary
  • Revenues grow by 6% YoY during FY09. Reported revenue number higher by 2% as compared to our estimates.
  • Operating margins expand by 0.2% YoY to 13.9% during the year. Lower raw material costs (as percentage of sales) help in improving margins.
  • Net profits decline by 18% YoY during the year. While the company managed to grow its operating profits, higher interest and depreciation costs lead to decline in profits. Reported profit number lower by 3% as compared to our estimates.
  • Declares dividend of Rs 1.4 per share (dividend yield of 1.9%).

Standalone financial snapshot
(Rs m) 4QFY08 4QFY09 Change FY08 FY09 Change
Sales 3,422 3,743 9.4% 9,443 9,963 5.5%
Expenditure 2,935 3,182 8.4% 8,150 8,579 5.3%
Operating profit (EBDITA) 487 561 15.2% 1,292 1,383 7.0%
Operating profit margin (%) 14.2% 15.0%   13.7% 13.9%  
Other income 1 0 -74.4% 1 1 -46.8%
Interest 45 139 211.4% 240 415 72.8%
Depreciation 38 48 24.9% 98 164 67.3%
Exceptional items (3) (1)   (3) (1)  
Profit before tax 402 373 -7.2% 952 804 -15.6%
Tax 114 137 20.7% 308 273 -11.4%
Profit after tax/(loss) 288 236 -18.2% 644 531 -17.6%
Net profit margin (%) 8.4% 6.3%   6.8% 5.3%  
No. of shares (m)         58.8  
Diluted earnings per share (Rs)*         9.0  
P/E ratio (x)*         8.1  
* On a trailing 12-month basis; adjusted for extraordinary items

What has driven performance in FY09?
  • Emco’s revenues grew by 6% YoY during FY09 and by 9% YoY during 4QFY09. At the beginning of the year, the company had expected to grow its revenues at a robust pace. However, due to the overall slowdown in investments in the economy and especially the power transmission and distribution (T&D) sector, the company’s order inflows remained slow and in the process hampered its revenue growth.

  • Emco marginally expanded its operating margins on the back of lower raw material costs (as a percentage of sales). However, other cost heads such as staff costs and other expenditure increased on a YoY basis. In absolute terms, staff costs increased by around 35% YoY. The management has attributed this to more than required manpower (in anticipation of strong order inflow).

  • Despite recording a 7% YoY growth in operating profits, Emco’s net profits declined by 18% YoY during FY09. The reason behind this was higher interest and depreciation costs. As a percentage of sales, interest costs increased from 2.5% in FY08 to 4.2% in FY09, while depreciation charges increased from 1% in FY08 to 1.6% in FY09.

  • At the end of the quarter, the company had an order back log of Rs 15.6 bn (nearly 1.6 times its FY09 sales), of which about Rs 10 bn is towards projects, which the balance is towards supplying transformers and meters. Further, about 70% of the orders are from the government while the balance is for industries and exports. During 4QFy09, the company bagged five orders worth Rs 5.5 bn from PGCIL, for setting up a 765 Kv transmission line.

What to expect?
At the current price of Rs 73, the stock is trading at a multiple of 8.3 times our estimated FY11 earnings. Emco’s FY09 numbers have come almost in line with our estimates. Going forward, the management has stated that it plans to focus on the projects business to drive the company’s growth. However, considering that this business garners lower margins when compared to the products business, which mainly include transformers and meters, margins will take a hit. To give a perspective, transformers and meters garner margins of roughly 16% and 20% respectively, while projects usually are on around the level of 11% to 12%. However, the management has stated that on a conservative basis, the company could earn margins of around 12.5% to 13% as it able to cherry pick its projects.

Broadly, FY09 was a tough year for Emco considering that a significant part of its profits were wiped out by interest costs. At the end of FY09, the company had a debt to equity ratio of 0.8 times. In addition, its cost of borrowing stood at about 12%. Further, the company also faced working capital issues as inventory days expanded by 10 days to 62 days in FY09. However, the debtor days remained flat at 161 days. As for capex numbers, the company spent nearly Rs 390 m in FY09. For the current year, the management has stated that it plans to invest nearly Rs 310 to 320 m. We shall soon update our research report after integrating the FY09 numbers.

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