Forging A Global Spirit

Pune-based forging firm Bharat Forge has fast grown in scale to become a truly multi-national name to be reckoned with. A technology leader in its domain, the company has extended its focus from manufacturing auto components to the energy, transportation, mining and construction sectors. Sagar Lele tells you more.

There was a time when India was looked upon as the future auto ancillary hub of the world. But that dream is yet to come to life. It was also exactly at that point in time that Indian companies in this sector were expanding to reach out to auto manufacturers the world over. While many failed to reach where they had expected to, some did manage to create a niche for themselves. Bharat Forge is one such company. Supplying to virtually every global automotive OEM (Original Equipment Manufacturer), Bharat Forge is the second largest forging company in the world today.

But BFL's strength isn’t just about being an auto ancillary company. It has a trans-continental presence in various other sectors including power, oil and gas and construction. With most of its business coming from the international markets, its operations have been global in the true sense of the word. The company has seen major changes over the years including a series of acquisitions and drastic measures for risk mitigation. Adaptability and resilience have been displayed by Bharat Forge over the years, making it a truly dynamic organisation.

Revving The Auto Business

On a standalone basis, Bharat Forge derives 62 per cent of its revenues from  the automobile sector. It provides a wide range of safety and critical components for passenger cars, utility vehicles and commercial vehicles. Moreover, its overseas subsidiaries, which account for 40 per cent of its consolidated revenues, are also predominantly operative in the automotive components business. This results in a relatively large exposure to this business.

Acquiring To Grow

To aid the growth of its auto components business, BFL went on a buying spree from FY04 onwards. In November 2003, it acquired Germany based Carl Dan Peddinghus GmbH & Co. KG (CDP), making it the world’s second largest forging company, after ThyssenKrupp AG. This was followed by its acquisition of CDP Aluminium Technik GmbH & Co. KG in December 2004.

In June 2005, Bharat Forge acquired Federal Forge from a bankruptcy court. However, the company, now Bharat Forge America, has still not been able to turn around and is currently undergoing a restructuring programme. BFL had created a provision of INR 70 crore in FY12 towards diminution in the carrying cost of this investment, and a further provision of INR 26 crore was announced at the end of Q2FY13.

The company also acquired Sweden-based Imatra Kilsta AB (and thus, also its wholly-owned subsidiary Scottish Stampings in September 2005) and entered into a joint venture with FAW Corp to establish itself in China in December 2005. This gave it a local presence in that region and a chance to expand in terms of geography and product range.

These acquisitions have led to an increase in consolidated revenues from INR 1993.23 crore in FY05 to INR 6279.06 in FY12, translating into a CAGR of 21 per cent.
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Speed-Breakers On The Way

Of its consolidated revenues, 70 per cent come from international markets and the balance 30 per cent is derived from the domestic markets. So, if the consolidated revenues from international markets stand at 100, then 57 per cent come from its international subsidiaries and the remaining 43 per cent come from exports. This results in the company's revenues being highly skewed towards exports and particularly towards the auto business.

This high amount of globalisation in Bharat Forge’s operations has resulted in an obvious dependency on the global macroeconomic situation. Over the years, it has been observed that the performance of the automobile sector is directly correlated to the health of the economy.

The demand from Europe has been subdued lately due to the troubled economic situation. In Q2FY13, revenues from Europe were lower by 38 per cent on a yearly basis (standalone). According to the  management of BFL,demand from Europe has been down by 5-15 per cent, depending on the sector and geography. Considering the fact that a little over 35 per cent of its consolidated revenues come from Europe, this would have a large impact on its financials in the near term.

Demand from China too has been very disappointing. In 2011, the total four-wheeler production in China was up by only one per cent. While passenger cars grew by 4.5 per cent, commercial vehicles witnessed a 10 per cent reduction in production. In Q2FY13, the standalone revenues from Asia Pacific were down by 10.6 per cent.

Sales in the US have been moderate as well. Global OEMs have been adjusting their production levels to correct inventories, leading to destocking of inventories across the pipeline.

However, lately there has been some positive development worldwide. The political developments in the US, China and Japan have been welcomed by the markets. Monetary policy in these geographies is expected to beef things up. Recovery has already started showing up in the US and China on various fronts of employment and manufacturing.

The domestic automotive situation has been no better. 2012 has been a bad year for four-wheeler sales, particularly the commercial vehicles segment. Q2FY13 saw an  overall volume declineof 13.8 per cent for BFL. Considering the macroeconomic situation domestically and globally, revenues are expected to be pressured for the coming two-three quarters.

Diversifying Its Risk

Having seen cyclical downturns owing to a primary focus only in the automotive sector, the company moved into diversifying its highly sector-specific risk saturation. To this end, it decided to foray into the non-auto components business. It flagged this off with a bang in the year 2006 by investing USD 100 million. From then, it has successfully been able to grow in the energy, transportation, mining and construction sectors. As of FY12, this segment contributed to 38 per cent of BFLs standalone revenues.

Over the last few quarters, the non-auto business of BFL has been weak on the domestic front, though it has been extremely robust on the exports front. Overall, while the offtake from exports increased by 30 per cent, there was an almost similar decline on the domestic front. On a cumulative basis, this led to a 2.6 per cent growth in the non-auto business in Q2FY13. The growing proportion of the non-auto business has helped the company to stabilise in terms of financials.

To further mitigate risks, it entered the Capital Goods & Infrastructure business in 2009. Under this, it formed alliances with NTPC to enter the Balance of Plant space and with Alstom for manufacturing sub-critical and super-critical thermal power plant equipment for thermal plants. These ventures have been minimal in terms of financial contribution to the parent so far. However, in FY11, the JV with Alstom managed to emerge as the lowest bidder in NTPC’s bulk tender for the supply of 11x660 MW super-critical TG (turbine generator) islands. This takes the company’s confirmed order book to INR 1570 crore.

It has also entered the EPC (Engineering Procurement and Construction) space, under which it is implementing an order worth INR 1885 crore, a turn-key EPC project for 3x150 MW power plants to be delivered by FY14 at Haldia, West Bengal. These businesses are expected to pick up with a better outlook expected for the capital goods and infrastructure sectors going ahead.
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Performance

BFL caters to the wide spectrum of demand for its products through its total installed capacity of 750,000 tonnes globally. Of this, 240,000 tonnes is in India and its global capacity utilisation stands at a good 75 per cent. In geographies where it is functioning at a lower level, for eg. 40 per cent in China, it aims to pump up the utilisation levels to around 75 per cent.

At the same time, it is executing a INR 500 crore investment programme over FY12 and FY13 for capacity enhancement. Upgradation of machinery and facilities to add value to existing products, 35000 MTPA (metric tonnes per annum) of capacity addition and expansion of machining capacity are a part of this programme.

Financials And Valuations

On the financial front, the consolidated performance of the company has been quite good. Its topline has witnessed good growth over the past five years. Due to underperformance of its international subsidiaries, the bottomline was impacted in FY10, but has been very strong for FY11 and FY12. For FY12, it posted a topline of INR 6368.37 crore and PAT of INR 413.04 crore as against INR 5154.40 crore and INR 290.16 crore during the previous year corresponding period respectively.

The company has carried this growth momentum through in H1FY13 too. The standalone performance in FY12 has been good, with a topline of INR 1803 crore and a bottomline of INR 207.99 crore as against INR 1767.66 crore and INR 203.82 crore during the previous year corresponding period. According to the management of the company, all its group entities except for China are on the path to revival.

Though the debt level of INR 3000 crore is an issue, its debt-to-equity ratio is at 1.04x. This is at a comfortable level given the capital-intensive nature of the business. Even the EV/EBITDA of 7.63 is at levels it has historically enjoyed.  The CMP discounts its trailing four-quarter earnings by 15.46x. 

Conclusion

Although Bharat Forge has been making efforts to diversify its risk by shifting to non-auto components, it has a long way to go in terms of being fully able to do that. Considering the fact that the global economic scenario seems to have a better outlook in FY14 than FY13 due to regime changes, effective monetary policy and better looking data, the company may do well in the medium term. The strong fundamentals, its ability to adapt to changing situations and the constant efforts to diversify risk will prove to be beneficial for the company going forward. Moreover, value unlocking may be seen in its subsidiary companies with an improvement in overall industrial performance domestically and globally. The company, although under pressure for the next few quarters, displays the confidence to outperform in the medium-to-long term.We recommend that investors accumulate this stock with a perspective of 12-18 months, with an expected appreciation of 20-22 per cent.