Thermax reports good results but concerns on order inflows

Thermax reports good results but concerns on order inflows

Strong operating performance during the June quarter took Thermax Ltd’s stock price up by 4% on Friday. Stand-alone revenue jumped 32% as execution improved, particularly in the energy segment, which comprises nearly three-fourths the business.

The water and pollution control segment also did well, given that it has shorter-cycle projects, compared with the energy business. But the boost to the stock price came from the 21% growth in net profit over the year-ago period.

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According to a report by Motilal Oswal Securities Ltd, execution growth is a function of the quantum of outsourcing, which for the June quarter was nearly 50% for the energy segment. This improves the turnaround time and the billing ratio.

But the main issue is margin pressure. Rising raw material costs impacted operating margins by 127 basis points (bps) from a year ago, despite contained staff costs and other expenses. One basis point is one-hundredth of a percentage point.

The change in business mix in favour of EPC (engineering, procurement and construction) contracts, which have a lower profitability than products, may be one reason. Further, analysts say inventory depletion and some purchases made in the spot markets for its shorter-cycle orders, weighed on profitability.

Profit margin before interest and tax was around 100 bps lower in the energy segment, but dipped more in the environment segment. Of course, even if this eases as core commodity prices cool off, the bigger worry is the heightened competition and subdued order inflows during the quarter—down 7% from a year ago. The order book, too, was down 7% for the stand-alone entity, and 3% down at the consolidated level.

The management has stated that negative sentiment in the domestic markets due to high interest rates and inflation put a speed breaker on economic activity. Industry and analysts say it would pick up from September. But until then, its cash flows may be strained.

A Religare Capital Markets Ltd report explains that the annual report for fiscal 2011 reflected lower operating cash flows, partly as advances from projects reduced and due to higher working capital needs.

Thermax is adding capacity across segments through acquisitions and joint ventures. Its positioning and acceptance in the super-critical power equipment categories, amid existing giants such as Bharat Heavy Electricals Ltd, could determine the pace of orderbook ramp-up. These factors would, in turn, determine the revenue visibility ahead—a key factor for valuations of capital goods firms.

At its current market price of 600, Thermax’s shares trade at around 12 times its estimated fiscal 2013 earnings. The mid-cap stock, like most in its brood, has underperformed the BSE 500 and capital goods indices on the Bombay Stock Exchange in the past six months. Any upsides in the stock will be driven mainly by its order inflows, unless news of any big acquisition by the firm brings in good tidings.

Graphic by Sandeep Bhatnagar/Mint

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