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Home / Market / Mark-to-market /  Do capital goods MNCs deserve high valuations?

Do capital goods MNCs deserve high valuations?

Even a cursory glance at the September quarter earnings of multinational capital goods companies indicates a grim outlook for at least the next 12-15 months. Photo: Pradeep Gaur/Mint

The only halo around multinational capital goods firms is that they have strong parents, with rich coffers

Blame it on write-offs or on restructuring of operations across business segments and geographies or on the state of the economy, but it goes without saying that the performance of Indian units of multinational capital goods companies has been pathetic over the past several quarters. Yet, companies such as Siemens Ltd, ABB Ltd and Alstom T and D India Ltd continue to command historic rich valuations—ranging from 25-45 times their trailing earnings. In contrast, domestic counterparts such as Crompton Greaves Ltd and KEC International Ltd get price-to-earning (PE) ratios in the region of 10-15 times their current earnings.

Blame it on write-offs or on restructuring of operations across business segments and geographies or on the state of the economy, but it goes without saying that the performance of Indian units of multinational capital goods companies has been pathetic over the past several quarters. Yet, companies such as Siemens Ltd, ABB Ltd and Alstom T and D India Ltd continue to command historic rich valuations—ranging from 25-45 times their trailing earnings. In contrast, domestic counterparts such as Crompton Greaves Ltd and KEC International Ltd get price-to-earning (PE) ratios in the region of 10-15 times their current earnings.

The question is: what is the rationale at this juncture for such high PE ratios for multinational companies (MNCs)? Even a cursory glance at the September quarter earnings indicates a grim outlook for at least the next 12-15 months. For instance, order inflows—a key barometer of future performance—have been contracting. Siemens’ September quarter order inflows were 17% lower, while ABB’s were 33% lower from a year ago.

The question is: what is the rationale at this juncture for such high PE ratios for multinational companies (MNCs)? Even a cursory glance at the September quarter earnings indicates a grim outlook for at least the next 12-15 months. For instance, order inflows—a key barometer of future performance—have been contracting. Siemens’ September quarter order inflows were 17% lower, while ABB’s were 33% lower from a year ago.

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Until a decade ago, MNCs enjoyed a significant market share, particularly in products and services offered to the industrial segment. Lower competition helped these firms enjoy higher profit margins. The operating margins of most of these firms till 2008 and 2009 were around 12-15%. Note that the aura in terms of product offerings that MNCs enjoyed is now diffused as domestic counterparts such as Thermax Ltd or even Chinese firms are all in the fray, competing on products and pricing. September quarter operating margins for Siemens and ABB were 2.9% and 3.7%, respectively. In fact, the last six quarters or more have seen most MNC margins coming down dramatically. Alstom’s operating margin was down to 4.3% from 14.2% a year ago. In comparison, domestic counterparts such as Thermax have better profit margins.

In other words, there seems to be a level-playing field now. Cost overruns are commonplace in both domestic firms and MNCs in the capital goods space. More than the financial crunch, policy logjam is mirrored in the lack of fuel linkages, slow land and environmental clearances that have jeopardized the few existing orders, too. Siemens’ year-on-year revenue growth for the September quarter was down 4.6%. The performances of both Alstom and ABB were also below the Street’s expectations and have been so for the last three to four quarters. Write-offs and provisioning by some companies towards perceived weakness in the financial condition of clients is now seen across companies. Analysts have cut earnings estimates as much for MNCs in the sector as they have for domestic firms. One wonders how long MNCs would enjoy such rich valuations as they no longer rule the roost in performance.

Hitherto, the buy-back of shares by the parent at a high premium to the prevailing market price was reason enough to sustain a high interest in these counters, which held up valuations, too. But with the Securities and Exchanges Board of India’s 2013 deadline for listed firms to increase public shareholding to 25% fast approaching, some MNCs are resorting to a dilution of their holding instead of a buy-back. This may lower interest in the stocks further, which could water down valuations at least to some extent for the next few quarters.

The only halo around MNC capital goods players is that they have strong parents with rich coffers. A reversal in macroeconomic factors could see them bounce back faster, more so as most of these firms are now becoming outsourcing hubs for global markets.

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