The Bharat Forge stock has rallied since last August in the hope that the worst is behind the company. The stock now trades at 23 times fiscal year 2019 earnings estimate pencilled in by brokerage firms, which seem to believe that the auto parts maker’s profit will grow at 20-25% over the next two years.
However, the December quarter’s performance failed to reinforce this sentiment. Net revenue fell by 11% from a year earlier, on the back of a 23% drop in exports that comprise about half the total revenue. Fortunately, domestic revenue was on a firm wicket and registered a 7% jump that partially offset the overall revenue contraction.
Bharat Forge’s saga of falling revenue is not new. Exports have been hit for many quarters because one of its key vehicle groups—US Class 8 trucks—is faced with a slowdown. Further, both Europe and US sales in the non-auto segment, too, were down from a year ago.
Be that as it may, what triggered the recent upmove in the stock is perhaps the turnaround in exports when compared to the September quarter. Even the operating margin inched up slightly, although it was lower when compared to a year ago. Bharat Forge was able to sustain its 27% operating margin due to a favourable revenue and geographic mix.
However, the management commentary after the recent results were announced signals that the scenario on Class 8 trucks will continue to be weak through calendar year 2017. Inventories in the segment are high, which may drag production volume down further. This may stymie revenue growth for some more quarters, in spite of the company’s effort to bring in newer markets into its fold. Some analysts say that higher infrastructure spends in the US may offset the decline in the auto segment.
The prospects are much better on home ground. The need for vehicles to comply with new and more stringent emission norms will lead to higher production. Consequently, demand for components will increase, which would benefit component makers including Bharat Forge. A report from HDFC Securities Ltd expects double-digit revenue growth in the March quarter, due to pre-buying of vehicles by customers.
But whether this pace of growth continues remains to be seen. It may be a few more quarters before this phase of diversification into new areas such as defence, aerospace, and oil and gas translates into revenue growth across business divisions.
For now, Bharat Forge’s 23% contraction in net profit in the December quarter may cap growth in earnings and stock price, until clouds on export markets clear. Until then, its rich stock valuation leaves little room for further appreciation in price.