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Blue Star: Cost overruns impact profitability

Aug 2, 2011

Blue Star has announced first quarter results for financial year 2011-2012 (1QFY12). The company reported a 6.0% YoY growth in sales while its net profits have declined by 73.6% YoY. Here is our analysis of the results.

Performance summary
  • Standalone topline grows by around 6.0% YoY during 1QFY12. Sales growth was led by the cooling products (CP) segment which grew by 29.5% YoY.
  • Operating profit declined 54.9% YoY during 1QFY12.
  • Net profits declined by 73.6% YoY during 1QFY12. Muted performance at the operating level, cost overruns, delayed execution and sharp rise in the interest costs led to the decline in net profits.
  • Order book as on June 30, 2011 stood at Rs 20.9 bn, with an order inflow of Rs 8.5 bn.

Financial performance snapshot
(Rs m) 1QFY11 1QFY12 Change
Income from operations  6,648 7,047 6.0%
Expenditure 6,037 6,771 12.2%
Operating profit (EBDITA) 612 276 -54.9%
Operating profit margin (%) 9.2% 3.9%  
Other income 1 1 -33.3%
Interest 20 76 278.0%
Depreciation 76 71 -5.6%
Profit before tax 517 130 -74.9%
Tax 150 32 -78.9%
Extraordinary gain/(loss) 4    
Profit after tax/(loss) 372 98 -73.6%
Net profit margin (%) 5.6% 1.4%  
No. of shares   89.9  
Diluted earnings per share (Rs)*   14.2  
P/E ratio (x)*   18.7  
* On a trailing 12 months earnings
^Excluding extraordinary items

What has driven performance in 1QFY12?
  • The 6.0% YoY growth in Blue Star’s net sales during 1QFY12 was a result of a strong performance from its cooling products (CP) business. Revenues from the CP business increased 29.5% YoY as the company enhanced its distribution reach in the other cities. However, revenues from electro-mechanical projects & packaged air-conditioning systems (EMPS) business declined 8.7% YoY. Slowdown in commercial real estate impacted the execution in EMPS segment. It may be noted that 70-75% of the order book belongs to commercial real estate where there has been a slowdown in existing as well as new deliveries.

  • The EMPS segment reported a loss at the EBIT level in the current quarter. Increase in input prices impacted the profitability of the EMPS segment. Majority of the projects in the EMPS segment are on a fixed price basis which rules out the possibility of cost escalation to the customer in the event of raw material price inflation. Further, delay from the client side also resulted in cost overruns which impacted the margin profile of the segment. Considering the current environment, management expects the margins of EMPS segment to decline by 3-5% in the near term.

  • The operating margins of the company declined to 3.9% during the quarter as compared to 9.2% in 1QFY11 due to cost overruns and slow execution pace across key projects.

    Segment-wise performance
    (Rs m) 1QFY11 1QFY12 Change
    Electro-Mech. Proj. & Packaged A/C Sys. (EMPS)
    Revenue    3,742    3,417 -8.7%
    % share  56.7% 48.6%  
    PBIT margin 9.0% -2.6%  
    Cooling Products (CP)
    Revenue 2,534 3,281 29.5%
    % share  38.4% 46.7%  
    PBIT margin 14.1% 13.5%  
    Professional Electronics & Industrial Systems (PEIS)
    Revenue 323 333 3.2%
    % share  4.9% 4.7%  
    PBIT margin 16.9% 23.9%  
    Revenue 6,598 7,032 6.6%
    PBIT margin 11.3% 6.1%  

  • Net profits declined 73.6% YoY due to increase in interest cost and muted performance at the operating level. Interest expenses increased due to higher debt (Debt was taken to fund acquisition) However, the tax rate declined to 24.5% during the quarter compared to 29.0% in 1QFY11. The blended tax rate for the year is expected to remain in the region of 25% due to weighted deduction on R&D expenses.

  • The company plans to incur a capex of Rs 500 m in the current year.

What to expect?
At the current price of Rs 265, the stock is trading at a multiple of 10.4 times our FY14 earnings estimates. Management categorically stated that slowdown in commercial real estate impacted the execution cycle in the EMPS segment. Further, rise in commodity prices and cost overruns (due to execution delays) impacted the overall margins of the company. The situation is unlikely to improve in the next 3-6 months. Hence, the margins of EMPS segment are likely to decline by about 3-5% as compared to historical average. The CP segment registered a strong performance during 1QFY12 despite shorter summer and healthy competition. Enhancing the distribution reach propelled sales growth. Considering the recent slowdown in commercial real estate, we expect the next 2-3 quarters would be challenging for the company. However, on a longer term basis, we maintain our positive view on the stock.

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