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Spark Capital - Bharat Forge: Demand bottoms out; Europe margins to improve. Upgrade to Add.




Spark Capital Advisors(India) Private Limited


28 May 2013





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Bharat Forge: Demand bottoms out; Europe margins to improve. Upgrade to Add. Bharat Forge reported standalone revenue decline of 31% yoy due to weakness in all segments with non-auto exports being the worst affected. EBITDA margins were stable qoq at 21% and adjusted PAT declined 51% yoy. Consolidated revenues declined 20% yoy while EBITDA margins expanded 270bps qoq driven by the Europe subsidiaries. While the near term outlook for demand continues to be weak, we believe it is nearing the bottom and expect the company to benefit from a revival in FY15. Upgrade to Add. Weak domestic as well as export demand continued to affect revenues and utilizations for the company. Truck sales in EU remained weak posting a 17% decline yoy during the quarter. In the N. American market, Class 8 production was higher than retail sales during the quarter after the inventory correction seen in the last quarter. We continue to expect replacement led demand to lend support to volumes in this market and expect automotive exports to grow 5% in FY14 and 8% in FY15. In the domestic market we expect low base in FY14 and a recovery in CV demand in FY15 to drive growth of 5% and 20% respectively. Demand visibility in non auto exports remains poor due to weakness in the construction, mining, and oil and gas end markets. In the domestic non auto segment while diesel gensets continue to grow, trends are weak in other segments. Given the high machining content in the non automotive products, management indicated that the increase in machining content for the company has been slow. We believe machining content will improve with a revival in the non auto business. We factor in a revenue CAGR of 10% in the domestic non auto business and 6% in the non auto exports business from FY13 to FY15. We expect margins to improve in the next two years driven by increasing utilizations in the standalone business in FY15 and productivity improvement in the European subsidiaries. Management indicated that the company has reduced manufacturing expenses by 2% to 3% of sales in the European business. In the standalone business, we expect margins to improve to 21.7% in FY14 from 21% in Q4FY13 and to 23.5% in FY15 driven by higher utilization. In the European subsidiary we expect margins of 7% for FY14 and 8% for FY15. Estimates and Valuation: We expect consolidated net sales to grow by 6.8% CAGR for FY13-15E to Rs. 65bn, margins to come in at 16.1% in FY15 and an earnings CAGR of 36% in the same period. We value the stock on an SOTP basis at a target price of Rs. 252. We value the core business (ex-power JV) at 14x FY15 consol EPS at Rs. 247 and value its JV with Alstom and NTPC at Rs. 5 per share. We upgrade the stock to Add (earlier Reduce).

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