BHEL - TASTY OR WILL CAUSE INDIGESTION?

By Ruma Dubey

This PSU capital goods leader of India has been hitting new lows and even yesterday, it hit a new 52-week low at Rs.208.50, which is at a 42 month low and it continues to remain deeply in the red even today.

Under normal circumstances, the stock in today’s macro-economic scenario might not have warranted even a little bit of attention. But these new lows have got the attention and two questions have been plaguing the otherwise disinterested investor – firstly, why is BHEL being smacked down to such levels and secondly, at these new lows, is it a good buy?

First question first – why is BHEL being beaten down to pulp?  The first signs of trouble on the horizon came in when in Q3FY12 the company stated that it was not able to get as many orders as expected and more importantly, the company stated that orders worth Rs.5,840 crore were cancelled which led to de-growth in the order book.  And these orders were cancelled as, the company stated, the customers were unable to make significant progress in getting clearances.  In Q3, its order book declined by nearly 9% sequentially and 7% on a YoY.  Looks like trouble with orders continues as in last week of April, Rajasthan Rajya Vidyut Utpadan Nigam scrapped tenders worth Rs.12,000 crore which the company had won last year. And prior to that, in Feb, the Tamil Nadu govt canceled the JV for the Rs.8,000-crore Udangudi power project in Tuticorin. Thus this continuity of poor order inflow could pressurize the numbers in the coming days.  As such the numbers for Q3FY12 were flat, with net profit at Rs.1412 crore v/s Rs.1432 crore on a YoY.

And the second reason is linked to the first – the drop in orders, in some way is also precipitated by cheaper imports from China. Of the 28,840 MW orders for equipment supplies, from a total of 79,000 MW capacity expected to come up in India during the 12th Plan, has been given to Chinese companies. This is 36% of the total equipment order. As against this, 40% of the order, which is 31,778 MW has gone to BHEL. It is supplying equipments to Indian companies; the demand is so high that the Chinese companies are scaling capacities - Dongfang in China is increasing its capacity from 37 GW to 42 GW, making it the largest power equipment manufacturer in China and possibly in the world. And by packaging the deal with cheap finance, China is making very deep but dangerous inroads into the Indian power sector. The capital goods sector has been consistently asking the Govt to hike import duties on foreign equipment, yet, like usual, it falls on deaf ears.

The third reason is linked to the first two – due to this bleak outlook major brokerage houses have downgraded the stock. Morgan Stanley has downgraded the stock on the back of poor demand, Kotak Securities has given a sell call and expects earnings to drop in current fiscal. Ditto reports have been put out by Citigroup, HSBC Global and Motilal Oswal. There are  around 24 sell or underperform ratings compared to 7 buy or outperform.

Lastly, the shortage coal and the high import prices is also a major cause for worry, especially when orders are also dwindling. 

All in all, right now, this ‘bhelpuri’ does not look too delectable – neither tangy nor spicy; just very soggy and stale. But then the question is - can it be eaten at this new low or will it have to be thrown into the garbage?  The annualized EPS of around Rs.20 discounts the current price by around 11 times and this discounting for a company which has a market cap of Rs.53,932 crore. Surely, a company like BHEL does not deserve this valuation.

There is no denying the fact that BHEL is a market leader and continues to command a 50% market share. The stock has to stop falling at some point or the other – all the fundamentals are not completely nullified – it continues to remain a company with a topline of over Rs.40,000 crore.

It is not possible to predict a bottom. Today, the intrinsic value of a company does not matter to the market – the only thing which matters is quarter to quarter profits and margins. Any company which is not able to sustain growth will be punished.  Yet, despite this, the current valuations are attractive and one could accumulate at every dip. The main triggers would be news of order execution, new orders and the biggest of all – hike in import duty.  Yes, BHEL is a good long term stock. It could reward you later as the market punishes it today.