New Delhi: A delay by Bharat Heavy Electricals Ltd, or Bhel, in meeting its order book commitments may cost the company severely as steel prices have escalated by 40% since the fixed price contracts were signed.
Since Bhel cannot pass on the rise in material costs to the consumer, the power equipment manufacturer has no option but to absorb the increase in input costs or mitigate part of it through a slew of cost control measures.
Bhel has an annual steel requirement of 600,000 tonnes.
Heading north: A steel processing unit in Hisar, Haryana. Though steel price will stabilize as the government has introduced an export tax, it will hurt the profit margins of companies such as Bhel, analysts say. (Photo: Rajeev Dabral/Mint)
“The sharp rise in steel prices will affect 60% of our present order book. Most of the times we work on fixed price contracts. When we had signed these orders (in 2003), the steel prices were at Rs17,000 per tonne. Today they are at Rs24,000 per tonne. We being a PSU (public sector undertaking) there is no provision to change the contract provisions for us or our subcontractors,” said a company executive, who is close to the developments but did not wish to be identified.
The company with a manufacturing capacity of 10,000MW per annum has a present order book position of 31,923MW. Bhel posted a net profit of Rs2,815 crore on a revenue of Rs21,608 crore in 2007-08 and ended the year with an order book worth Rs50,265 crore.
The executive, however, maintained that the profit margins at the company may not impact in the short run due to various steps taken by Bhel, but if steel prices did not soften then it was bound to have a long-term impact on the company’s profits.
“With the steel prices remaining at the current levels and if the power generation equipment prices remain at Rs4 crore per MW, our margins will certainly come under pressure. We are trying to contain costs, cutting down the material requirement. In order to take care of sharp escalation in steel prices we have an agreement with steel manufacturers in the country, but it is only for a year,” the executive said.
However, analysts maintain that Bhel would take a hit even in the short term.
“Though the prices will stabilize at these levels as the government has introduced an export tax on steel, it will affect the profit margins of companies such as Bhel even in the short term. In the last four months there has been a sharp increase in the steel prices both by the domestic and international manufacturers on account of an increase in the input costs. This has affected the entire capital goods sector as the prices have risen by around 45%,” said Pawan Burde, an analyst with Mumbai-based Angel Broking Ltd.
Trends in domestic steel prices are dictated by those set in international markets. Over the past few years, demand for steel has risen in tandem, with India and China making considerable investments in developing infrastructure and manufacturing. This, coupled with rising costs of iron ore and coking coal, have put pressure on global steel prices.
The setback with respect to steel prices could impact Bhel’s long-term investment prospects.
Bhel aims to achieve a turnover of Rs45,000 crore by 2011-12 and a manufacturing capability of 15,000 MW by the end of 2009. By 2012, the company plans to manufacture equipment capable of generating 56,000MW.
The shortage of equipment and people is already hurting the ruling United Progressive Alliance (UPA) government’s flagship electrification and power distribution programmes as reported by Mint on 12 March.