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BHEL: Tax refunds propel net - Views on News from Equitymaster

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BHEL: Tax refunds propel net

Oct 30, 2007

Performance summary
  • Sales grow 19% YoY in 2QFY08, 20% YoY in 1HFY08. Growth led by 22% YoY growth in ‘power’ segment sales.
  • Operating margins expand by 3.8%, owing to lower raw material and staff costs (both as percentage of sales).

  • Other income grows 195% YoY, led by an income tax refund of Rs 2.7 bn. This leads to a 91% YoY growth in net profits during the quarter.

  • Order backlog stands at Rs 726 bn (4.2 times FY07 sales) at the end of September 2007.

Financial performance: A snapshot
(Rs m) 2QFY07 2QFY08 Change 1HFY07 1HFY08 Change
Sales 33,381 39,654 18.8% 59,975 71,993 20.0%
Expenditure 28,818 32,702 13.5% 52,230 61,934 18.6%
Operating profit (EBDITA) 4,563 6,952 52.3% 7,745 10,059 29.9%
Operating profit margin (%) 13.7% 17.5%   12.9% 14.0%  
Other income 1,699 5,009 194.8% 2,900 7,072 143.9%
Interest 136 193 42.2% 267 214 -19.7%
Depreciation 667 694 4.2% 1,305 1,384 6.0%
Profit before tax 5,460 11,074 102.8% 9,073 15,533 71.2%
Tax 1,860 4,197 125.7% 3,106 5,767 85.7%
Profit after tax/(loss) 3,600 6,877 91.0% 5,967 9,766 63.7%
Net profit margin (%) 10.8% 17.3%   9.9% 13.6%  
No. of shares         489.5  
Diluted earnings per share (Rs)*         57.1  
P/E ratio (x)*         45.8  
* On a trailing 12 months basis

What is the company’s business?
Bharat Heavy Electricals Limited (BHEL) is India's largest public sector engineering company with market leadership in supply of equipments to the energy-related/infrastructure sectors. The company has installed equipments for over 80,000 MW of power generation in the country, which includes capacities set up by utilities, captive and industrial users. Revenues from the power sector form around 74% of the company's total revenues, with the remaining being contributed by the industry segment.

What has driven performance in 2QFY08?

Topline momentum maintained: BHEL grew its topline by 19% YoY during 2QFY08. This growth was duly aided by both the power and industry segments. While the former grew sales by 22% YoY during the quarter, growth for the latter stood at 19% YoY. Execution from the huge existing backlog plus strong order inflows during the quarter aided the growth of BHEL’s power division. The company bagged new orders worth Rs 140 bn during 2QFY08 (Rs 240 bn during 1HFY08). At the end of September 2007, the company’s order backlog stands at Rs 726 bn (4.2 times FY07 sales), indicating strong visibility into the future.

The company has reiterated its plans of raising capacity from the current levels of 6,000 MW. The phased expansion is expected to take its capacity to 20,000 MW by 2012. During this period, the management has also talked about its target of achieving sales growth of 20% per annum, which shall take its topline to nearly Rs 450 bn (FY07 sales of Rs 188 bn). As for competition from Chinese equipment manufacturers, the management has indicated that, as the current capacity is fully utilised and new capacity comes in over the next few years, BHEL shall benefit from economies of scale. This shall help it ward off any competition from Chinese manufacturers, who are currently touted to better the Indian PSU in terms of pricing.

Segment-wise performance
(Rs m) 2QFY07 2QFY08 Change 1HFY07 1HFY08 Change
Revenue 27,141 33,039 21.7% 48,968 60,401 23.3%
% share 72.3% 72.7%   73.0% 73.6%  
PBIT margin 21.3% 23.1%   20.2% 21.5%  
Revenue 10,400 12,422 19.4% 18,106 21,620 19.4%
% share 27.7% 27.3%   27.0% 26.4%  
PBIT margin 12.2% 14.1%   9.0% 9.7%  
Gross Total*            
Revenue 37,540 45,461 21.1% 67,074 82,021 22.3%
PBIT margin 18.8% 20.7%   17.2% 18.3%  
* Excluding inter-segment adjustments

Lower raw material, staff costs aid margin expansion: BHEL’s operating margins expanded by 3.8% during 2QFY08. This was due to decline in raw material and staff costs (both as percentage of sales). Based on segments, while power business’ PBIT margins expanded from 21.3% to 23.3%, those for the industry business rose from 12.2% to 14.1%.

Tax refunds, margins expansion aids bottomline: Apart from the expansion in operating margins, another factor that aided BHEL’s bottomline growth during 2QFY08 was an income tax refund of Rs 2.7 bn. Excluding the same from the other income, net profit growth shall stand at 17% YoY during the quarter.

What to expect?
At the current price of Rs 2,695, the stock is trading at a multiple of 26.4 times our estimated FY10 earnings. The fact that BHEL continues to build upon its order book provides strong visibility into future growth. Over that, economies of scale shall also help the company ramp up its profitability in the future. While we remain positive on the broader business environment in general and BHEL’s prospects in particular, we are cautious on the stock’s steep valuations.

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