BHEL Recommendation - Avoid
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The chairman of state-owned capital goods major BHEL, in a recent interview, has said that it is looking to reduce the company’s dependence on the power sector. According to P Prasad Rao, BHEL would earn 50 per cent of its total revenues from the non-power business in about the next 10 years. The shift from the power sector is due to the slowdown in the sector over fuel shortage related to gas and coal supplies. This is evident from the fact that in the year 2010-11 orders for only 4,000 MW of power projects got finalised compared to 25,000 MW of power projects in the earlier year. The company expects that in this year projects of capacity 10,000-15,000 MW could get finalised. The sector will remain under pressure for about two years and then the new orders will pick up for the 13th plan.
BHEL derives 75 per cent of its revenues from the power sector. However, due to the current situation of the power sector (competitiveness, slowdown, crunch in the margins, tumbling order book, etc), it wishes to decrease dependence on the sector and bring more revenues from the non-power businesses such as railway transportation and defense. For now, however, the power sector will remain its core. Rao also said that by 2017 the non-power business contribution in total revenues may grow from the current level of 25 per cent to 35 per cent.
While there is a common opinion that the levy of import duty on foreign equipments will attract tariff hike and will also impact the margins of the power producers, BHEL has a different perspective. Rao believes that the levy of import duty would not lead to an increase in power tariffs. In fact he believes that as the demand for the domestic equipments will increase, the spare parts and the services required for the equipments would be available in the domestic market and hence the lifecycle cost of the projects would come down and this will benefit the power producers.
In our opinion, BHEL has seen a very bad phase in the power business where its order inflow has tumbled by nearly 63 per cent in FY12 to Rs 22,096 crore. The competition from the domestic as well as international players is very strong and hence the margins may come under pressure. The order book of Rs 1,35,000 crore by March 2102 provides revenue visibility of 2.7 years. The same is reflected in its stock price which touched as low as Rs 197 per share in May 2012. On an YTD basis the shares of BHEL have underperformed to the Sensex and the BSE Capital Goods Index.
We at Dalal Street Investment Journal see that there are more headwinds for the company in the future and the company’s plans for more diversification are due to these concerns. We suggest avoiding the stock.