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Bharat Forge: Living on the (h)edge - Views on News from Equitymaster
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Bharat Forge: Living on the (h)edge
Jul 24, 2007

Performance summary
  • Standalone sales grow 18% YoY, courtesy strong 32% YoY growth in exports.
  • Considerable pressure on costs has led to the operating margins eroding by 380 basis points.
  • Bottomline growth remains strong at 26% YoY, aided by more than two-fold jump in other income.
  • Consolidated bottomline grows by 9% YoY, slightly higher than the 8% YoY growth in topline. Operating margins shrink here too, falling by 230 basis points.

Financial performance: Standalonesnapshot
(Rs m) 1QFY07 1QFY08 Change
Net sales 4,206 4,969 18.1%
Expenditure 3,188 3,956 24.1%
Operating profit (EBDITA) 1,017 1,012 -0.5%
EBDITA margin (%) 24.2% 20.4%  
Other income 233 533 129.4%
Interest (net) 176 234 33.0%
Depreciation 229 329 43.7%
Profit before tax 845 983 16.3%
Extraordinary income/(expense) (45) -  
Tax 285 335 17.4%
Profit after tax/(loss) 515 648 25.8%
Net profit margin (%) 12.2% 13.0%  
No. of shares (m) 222.7 222.7  
Diluted earnings per share (Rs)* 9.3 11.6  
Price to earnings ratio (x)**   26.4  
(* annualised, ** on trailing twelve months earnings)

What is the company’s business?
Bharat Forge (BFRG) is the second largest forging company in the world with an installed capacity of 340,000 tonnes. It is the largest exporter of auto components from India and leading chassis component manufacturer in the world. BFRG manufactures a wide range of critical components for passenger cars, commercial vehicles and diesel engines. On the domestic front, the company's clientele includes Tata Motors, Ashok Leyland, Eicher, M&M, Toyota and Maruti Udyog. On the international front, the list consists of Volvo, Caterpillar, Toyota, Renault and Daimler Chrysler, to name a few. In the last two years, the company has expanded its presence geographically through acquisitions. With CDP and Aluminiumtechnik in its kitty, it has gained a strong foothold in Europe

What has driven performance in 1QFY08?
Exports drive topline: The 18% YoY growth in topline during the quarter was led by the 32% YoY growth in exports, which improved its share in total revenues from 37% in 1QFY07 to 42% in 1QFY08. That the company was able to achieve this growth despite the rising rupee was indeed commendable. Domestic sales however, grew at a much lower rate of 9% YoY, and quite understandably so, since the domestic auto industry, especially the CV industry, which is the key driver of the company’s revenues, remained subdued during 1QFY08. However, since Bharat Forge’s business model is now quite adequately diversified, both in terms of product segment as well as geographies, the impact on the overall standalone topline was rather limited. With the company now planning to enter the non-automotive forgings segment, the influence that the domestic auto industry exerts on the company’s fortunes will further reduce. On the consolidated front, topline has grown by a much lesser 8% YoY, due largely to the mature nature of almost all its overseas businesses.

Rising rupee hurts margins: Operating margins, which despite higher cost of commodities had remained rather stable over the past few quarters, have fallen by a considerable 380 basis points and in the process, have completely nullified the buoyant topline growth. This is because while a substantial portion of the company’s revenues was recorded in dollars, all its costs were incurred in rupees. Thus, with the rupee appreciating considerably vis-ŕ-vis the greenback, margins have taken a hit. Operating margins also fell for the consolidated operations, albeit by a lower 230 basis points.

cost break up
(Rs m) 1QFY07 1QFY08 Change
Raw materials 1,864 2,299 23.3%
% sales 44.3% 46.3%  
Staff cost 242 337 39.3%
% sales 5.8% 6.8%  
Manufacturing expenses 723 896 23.8%
% sales 17.2% 18.0%  
Other expenditure 356 425 19.2%
% sales 8.5% 8.5%  

That the company’s standalone bottomline grew by 26% YoY despite the marginal fall in operating profits was made possible for the huge jump in other income, which rose more than two-fold. As a substantial portion of the company’s recent borrowings was in US dollar, the falling greenback had a positive effect on the bottomline as in rupee terms, it resulted into a substantial windfall. Infact, it acted as natural hedge and helped offset the decline in operating profits, that arose mainly due to the rising rupee. The effect was visible even on the consolidated profits of the company, which grew 9% YoY despite the 8% fall in operating profits, due mainly to of course the jump in other income.

consolidated financials
(Rs m) 1QFY07 1QFY08 Change
Net sales 9,878 10,614 7.5%
Expenditure 8,287 9,148 10.4%
Operating profit (EBDITA) 1,591 1,466 -7.8%
EBDITA margin (%) 16.1% 13.8%  
Other income 237 539 127.6%
Interest (net) 219 267 21.6%
Depreciation 422 525 24.3%
Profit before tax 1,186 1,214 2.3%
Extraordinary income/(expense) (68) -  
Tax 382 410 7.1%
Profit after tax/(loss) 736 804 9.3%
Net profit margin (%) 7.5% 7.6%  
No. of shares (m) 222.7 222.7  
Diluted earnings per share (Rs)* 13.2 14.4  
Price to earnings ratio (x)**   21.4  
(* annualised, ** on trailing twelve months earnings)

What to expect?
At the current price of Rs 301, the stock is trading at a price to earnings multiple of 11 times our estimated FY10 earnings. While the current valuation levels may be steep, the company’s expansion plans, especially in the non-automotive forgings space will give its earnings a big boost in the medium term. Given Bharat Forge’s strong execution skills and efforts at continuously adding value to its customers, we remain positive on the long-term prospects of the company.

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