Bharat Forge (BFL) stock has plunged 63% since our last report as the global automotive industry has witnessed a sharp downturn over the past few months, with major automobile manufacturers announcing production cuts on account of slacking demand and rising inventories.
We believe the situation will further deteriorate for the auto ancillary industry as the emerging economies are slowing down and the developed countries are entering into a recession.
US automobile manufacturers such as General Motors, Ford, and Chrysler are facing bankruptcy and have asked the US government to bail them out.
BFL, however, is in a good position to weather the prevailing slowdown as it boasts of cost-efficient operations, an excellent management, and the foray into non-auto segments.
The company has entered into non-automotive segments such as marine engines, windmill shafts, and capital goods and has already secured contracts for the same. This strategy will help it to cushion the impact of the slowdown in the auto segment.
At the current market price (CMP) of Rs92.40, the stock is trading at a forward P/E of 8.3x and 8.1x for its FY09E and FY10E earnings, respectively.
We have valued BFL by using the DCF valuation methodology, assuming a WACC of 13.1% and a terminal growth rate of 5%.
Our valuation suggests a target price of Rs130, which provides a potential upside of more than 40% from the CMP. At the current levels, we believe that BFL is a compelling long-term investment. Hence, we maintain our BUY rating on the stock.