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Thermax: Buoyant environment but...

Dec 3, 2004

Performance Summary
Pune based engineering major, Thermax India, has had a good run on the stock markets over the past couple of months (up 34% since August 2004). On the back of a good performance of both its business segments - energy and environment, the topline of the company recorded a significant 56% growth during the first half of FY05. However, pressure on the operating margins, as well as a decline in other income has seen the company's profits declining by over 22% during 1HFY05.

(Rs m)2QFY042QFY05Change1HFY041HFY05Change
Net operating income1,4232,19854.4%2,2173,45856.0%
Operating profit (EBDITA)14016417.6%17423334.4%
EBDITA margin (%)9.8%7.5% 7.8%6.7%
Other income8526-69.5%15752-67.1%
Interest 118.3%2327.3%
Profit before Tax203163-19.7%286236-17.6%
Extraordinary income/(expense)-150--290-
Profit after Tax/(Loss)154108-29.8%211164-22.2%
Net profit margin (%)10.8%4.9% 9.5%4.8%
No. of Shares (m)23.823.8 23.823.8
Diluted Earnings per share (Rs)*25.918.2 17.713.8
Price to earnings ratio (x) 37.1

Company background
Thermax India operates in a niche segment of the engineering sector. It provides integrated equipments and services in energy (boilers, heaters, and captive power plants) and environment friendly industrial solutions like water and waste solutions, chemicals, etc. The company manufactures all kinds of fuel boilers and is amongst the market leaders in the same. Thermax updates its technology through joint ventures and strategic alliances with global technology leaders and exports its systems to around 40 countries all over the world.

What has driven performance in 1HFY05?
Sales: The company's revenue surge was led by its energy division (over 62% of 1HFY05 revenues), which grew by over 46% during the first half. Since boilers are one of the largest contributors to the energy division's sale, upturn in investment cycle is likely to continue to benefit this division going forward. With industries like steel, copper, zinc, paper and chemicals on a capacity expansion spree over the next few years, Thermax's boilers business is likely to witness a steady growth.

Segmental break-up
(Rs m)2QFY042QFY05Change1HFY041HFY05Change% of 1HFY05 revenues
Energy 9911,43344.6%1,5352,24646.3%62.2%
PBIT margin (%)14.2%8.9% 10.9%7.2%
PBIT margin (%)9.8%8.6% 6.2%9.0%
Total segmental revenue1,4782,29955.6%2,2883,61057.8%100.0%
Total PBIT margin (%)12.7%8.8% 9.4%7.9%
Less: Intersegment revenue5510185.0%71152114.0%
Net sales1,4232,19854.4%2,2173,45856.0%

Thermax's environment business (almost 38% of 1HFY05 revenues) grew significantly (81% YoY) in this period. It must be noted that the company's air pollution division had witnessed a 200% increase in the order booking during FY04. Further, we believe that its water and waste business is also likely to have steady revenue inflows.

Also another growth driver for the division is the captive power business. The revenues from the captive power business declined in FY04 due to poor order backlog. However, as on 31st March 2004, the company had orders to set up around 77 MW captive power capacity, which amounts to approximately Rs 2 bn. Recently, the company also bagged an order for a captive power plant valued at Rs 930 m for a leading cement company. Going forward, with the textile industry expected to set up captive power plants, the order inflow is likely to remain stable.

For the company as a whole, the order backlog at the end of September 2004, stood at Rs 9.6 bn. This is almost 1.7 times the company's FY04 revenues. Since, order execution cycle is shorter, a large part of the orders received will filter in the revenues of Thermax in the near future.

Consolidated picture
(Rs m)1HFY041HFY05Change
Net operating income3,1444,89455.7%
Operating profit (EBDITA)21534660.9%
EBDITA margin (%)6.8%7.1%
Other income17554-69.1%
Interest 2466.7%
Profit before Tax3263393.9%
Extraordinary income/(expense)-320-
Minority interest9-11-
Profit after Tax/(Loss)21925114.3%
Net profit margin (%)7.0%5.1%
No. of Shares (m)23.823.8
Diluted Earnings per share (Rs)*18.421.0
Price to earnings ratio (x) 24.3

Profitability blues: Despite the topline positives, the pressure on the operating margins dampened the company's profitability. The energy division witnessed pressure owing to repeated price escalations of its raw materials like steel, copper and styrene putting severe pressure on margins. Also, during the September quarter, Thermax spent Rs 32 m to launch a business transformation exercise (included in expenditure), which it expects to lead to significant improvement in the quality and quantity of its business. Further, declining interest rates and the softening of the debt market sharply reduced the company's other income during 1HFY05.

What to expect?
At the current price of Rs 511, the stock trades at P/E multiple of 24.3 times annualised 1HFY05 consolidated earnings. The management is well on its way to meet its 40% topline growth guidance for FY05. Further, with the investment cycle on the upturn, we believe that the company would continue to benefit from higher order inflows. However, a lot of these positives are already in the price.

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