The board of Crompton Greaves Ltd (CGL) has decided to buy back the company’s shares and will be meeting on March 24, 2009 to finalize the buy-back exercise. At the current market price, the CGL stock is discounting its FY2010E earnings by 7.4x.
In our view, the valuation of the stock is compelling, as it clearly does not capture the growth prospects of the company, and this could have prompted the management to buy back the company’s shares.
Furthermore, CGL’s strong balance sheet (a low debt-equity ratio at the consolidated level and net cash position at the stand-alone level) provides the company enough headroom to carry out the process smoothly.
While the buy-back price will be decided in the board meeting, in this report we have tried to build in the likely impact of the buy-back.
In the Q3FY2009 conference call, the management had indicated a stand-alone cash position of Rs299 crore.
Let us assume that the company uses up Rs200-225 crore of the cash on its books and the buy-back is carried out at Rs125-150 (average price of 16 March 2009 and up to a 20% premium).
In such a case, as per our calculations, the company will be able to buy about 3.5 - 4.5% of the current equity, thereby reducing the equity base by 1.33 - 1.79 crore equity shares.
As a result, the buy-back could potentially boost the earnings per share (EPS) by 1.8-2.9% compared with our current estimates.
Over the past few years, CGL has made many acquisitions (Pauwels, Ganz, Microsol). The new entities have helped CGL emerge as an integrated power transmission and distribution (T&D) product and service provider globally.
The management has also proved its ability to turn around and scale up the operations of the acquired companies.
Till recently, the company maintained its willingness to acquire more companies at a reasonable valuation in order to strengthen its offerings.
However, to buy back its equity shares the company could potentially use up its cash, thereby shelving its acquisition plans for now.
The company is also considering providing an interim dividend for the third time in the current financial year. CGL has already paid a dividend of Rs1.5 per share (75% on Rs2 face value) in FY2009.
While the buy-back will boost the sentiment towards the stock in the near term, we maintain our positive bias on CGL.
We believe the domestic power business would be the key revenue driver for the company in the near future (thanks to the increasing spend on power T&D projects in the country). It will also aid CGL to grow its revenues at a compounded annual growth rate of 20.7% over FY2008-10.
At the current valuation of 7.4x FY2010E earnings, the CGL stock is attractive. We maintain our BUY recommendation on the stock with a price target of Rs210.
The key risk to our call is a larger than expected slowdown in the international business of the company.