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Bharat Forge: Growth story continues

Oct 26, 2004

Performance summary:
Bharat Forge, world’s second largest forging company, has reported robust 2QFY05 and 1HFY05 results. During the quarter, while the topline of the company has grown by a strong 42% YoY, pressure at the operating level and higher tax provisioning has resulted into the bottomline growing at a lower rate of 29% YoY. The corresponding figures for the first half stood at 40% and 29% respectively.

(Rs m) 2QFY04 2QFY05 Change 1HFY04 1HFY05 Change
Net sales 2,038 2,902 42.4% 3,898 5,469 40.3%
Expenditure 1,450 2,091 44.2% 2,766 3,969 43.5%
Operating profit (EBDITA) 587 810 38.0% 1,133 1,501 32.5%
EBDITA margin (%) 28.8% 27.9%   29.1% 27.4%  
Other income 43 7 -83.1% 78 49 -37.1%
Interest (net) 88 83 -5.7% 175 162 -7.8%
Depreciation 116 132 13.6% 227 255 12.2%
Profit before tax 426 603 41.4% 808 1,133 40.2%
Extraordinary item - -   -    
Tax 133 225 68.9% 251 415 65.0%
Profit after tax/(loss) 294 378 28.9% 557 718 29.1%
Net profit margin (%) 14.4% 13.0%   14.3% 13.1%  
No. of shares (m) 37.7 37.7   37.7 37.7  
Diluted earnings per share (Rs)* 31.2 40.2   29.6 38.1  
Price to earnings ratio (x)   20.9     22.1  
(* annualised)            

Background
Bharat Forge (BFRG) is a global player in the auto ancillary sector, focusing primarily on the manufacturing of forgings for automotive manufacturers. Apart from catering to the automobile-forging segment, it also has products catering to drilling equipments used in the oil and gas sector. Exports accounted for 39% of revenues in FY04. It acquired Germany based forging company Carl Den Peddinghaus in FY04. The acquired company is a leading player in Europe in the passenger car forgings business and has some of the top automakers as its customers.

What has driven performance in 2QFY05?
Sales:  Both domestic as well as exports sales have continued to remain strong during the second quarter. While exports grew by 33%, revenues from the domestic markets were higher by 48% as compared to the same quarter last year. Company’s major customers in the domestic market include Maruti, Tata Motors and Ashok Leyland. With all the three companies recording good growth in sales volumes, it has benefited Bharat Forge by way of bigger orders from these players. Highlight of the quarter, however, was the performance of its exports division, which logged in revenues of more than Rs 1 bn for the first time ever. It should be remembered that the company has commenced supplies of passenger car components to European car manufacturers and this has helped the company put up a good show on the exports front.

Operating margin:  Higher expenses incurred towards raw materials purchases have resulted into a 90 basis points hit in the company’s operating margins. Further, with the company foraying into passenger car components, where competition is much more intense, we expect the margin pressure to continue in the near future. Had it not been for the savings on the manufacturing cost front and a lower wage bill, the fall in margins could have been even more severe.

Cost break-up...
(Rs m) 2QFY04 2QFY05 %Change 1HFY04 1HFY05 %Change
Raw materials 771 1,230 59.6% 1,427 2233 56.5%
% sales 37.8% 42.4%   36.6% 40.8%  
Manufacturing cost 381 469 23.2% 753 906 20.4%
% sales 18.7% 16.2%   19.3% 16.6%  
Staff cost 139 173 24.3% 270 331 22.6%
% sales 6.8% 6.0%   6.9% 6.0%  
Other expenses 160 220 37.3% 316 499 57.8%
% sales 7.8% 7.6%   8.1% 9.1%  

Net profits:  Apart from the pressure at the operating level, higher tax provisioning has also affected the bottomline performance of the company. We expect the depreciation charges to increase significantly from the current levels as the company has lined up some major expansion plans. Already, a fair amount of it has been implemented and the enhanced capacity will be available for a substantial part of the year.

What to expect?
At Rs 841, the stock trades at a rich P/E of 22 times its annualised 1HFY05 earnings. The valuations are on account of expectations of significant growth from the company following its expansion plans. The company is doubling its forging capacity and substantially enhancing its component machining capacity. It has already won major long-term contracts from global customers for significant part of the enhanced capacity. To that extent, the valuations look attractive from a long-term perspective. However, investors need to guard against the risk of slowdown in global auto industry and possibility of further erosion in margins following the company’s foray into other businesses.


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