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BHEL: Is it time to exit?

Sep 10, 2003

The stock price of engineering major, Bharat Heavy Electricals (BHEL), has doubled in last 8 months and the so-called sleeping sector is back in limelight. It definitely raises a question in one's mind - is the current price level sustainable or is it the right time to exit? To arrive at an answer it is first necessary to look at the reasons for the run up in the first place. BHEL is state owned, and is India's largest engineering company. The company has organised its operations around three business sectors namely power, industry and international operations. The company is the largest power generation equipment supplier and has installed around 65% of India's power generation capacity. The company is also well placed in industrial operations like manufacturing equipments for transportation, tele-communication and renewable energy.

Power business comprises of approximately 66% of the BHEL's revenues. Backed by the reforms introduced in the recent Electricity Act, lot of investment is expected in the sector both in generation and T&D. Moreover, National Thermal Power Corporation (NTPC) is planning to add 20,000 MW to its generation capacity by the end of 2012. Historically BHEL has bagged 85% of the contracts floated by NTPC and in the foreseeable future, such relationship is likely to continue. So that is one major reason for increase in BHEL's stock price.

Orderbook decides the performance of the company in the near future. BHEL's orderbook stood at Rs 164 bn by the end of June quarter, which is 2.3x FY03 revenues. Since then, it has received orders worth Rs 40 bn, which raises the level of optimism for the company. Apart from its traditional business, BHEL has joined hands with NTPC to take up running and maintenance jobs of power plants, besides EPC and other jobs in upcoming power projects. It will further add another stable source of revenues for the company.

In order to improve the financial muscle, the company is looking to strike an alliance with the Export-Import Bank of India for floating international financial services company. The joint venture company will take up funding of BHEL's overseas projects, which will enable BHEL to bag large international orders. It is targeting to enhance its export turnover to 17% of its total sales from the present 13.5% in the next five years.

Company has posted good results in last two quarters. In 1QFY04 it registered 21% increase in topline and managed to reduce looses remarkably. Historically, first quarter has been contributing around 12% to the company's total annual revenues. Going by the trend, BHEL will easily achieve the target of 10% growth in topline. Also, around 60% to 70% of bottomline contribution comes in the fourth quarter, which is yet to come.

At the current price of Rs 350, the stock trades at a P/E multiple of 14.2x our FY04 projected earnings. The current valuations look stretched for an engineering company at the current juncture. However, long-term prospects continue to remain attractive.

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