Bharat Heavy Electricals Ltd (Bhel), the country’s largest capital goods maker, is visibly hit by the misfortunes of the power sector, given that over three-fourths of its revenue accrues from that segment. After several quarters of tepid performance, the December quarter’s net sales contracted for the first time in a decade. It fell 4.74% from a year ago to Rs.10,041.65 crore, mirroring a slowdown in fresh orders and the slow pace of execution.
The management’s intention to diversify into other customer segments such as railways and renewable energy will take time to pan out favourably to make a material impact on revenue and profits. A fall in fresh orders led to a 22.4% year-on-year (y-o-y) decline in the order book to about Rs.1.13 trillion.
Further, a report released by JPMorgan in January highlighted that revenue momentum falls as the order book to billing ratio declines. In Bhel’s case, it fell from 4.3 times—two years ago—to 2.4 times. Further, the credit crunch faced by customers is mirrored in the rise in Bhel’s working capital position. And, slower project execution has translated into a sharp 18% contraction in operating profit.
Falling revenue affected Bhel’s profitability, too, as costs on all fronts—employee and raw materials—were higher as a percentage of sales. Operating margin fell 260 basis points from a year ago to 16%. One basis point is one-hundredth of a percentage point. This percolated down to cause a 17.5% decline in net profit to Rs.1,181.9 crore, significantly below Bloomberg’s consensus estimates.
The outlook is unlikely to get better in the near-term, given that there is inaction in the power and infrastructure sector. Not to forget that the competition from Chinese and Korean power equipment firms may get severe as some of them are setting up facilities in the country. Perhaps, this explains the underperformance of Bhel’s stock, compared with benchmark indices; the share has seen a 13% erosion, against a 15% rise in BSE’s Sensex in the past 52 weeks.
A report by Emkay Global Financial Services Ltd estimates a further decline in net profit over the next two years, given the poor revenue growth on a weak order book and the squeeze in profit margins on account of the resultant low operating leverage. Given this, there’s little hope for the stock to rev up in the near term.