Bharat Forge - Cost rationalization to reduce subsidiary losses - ICICI Securities

Bharat Forge's (BHFC) Q1FY21 earnings were a miss as EBITDA margins (standalone: -0.7%, consolidated: -1.2%) slumped to their lowest in a decade. Adjusted PAT (consolidated: Rs1.2bn) has been dragged down by losses in trading and overseas subsidiaries. We had pointed at this risk (Dec update link), and measures to address it have been initiated, sustenance of the same is a key monitorable. BHFC's healthy 'Net Debt / EBITDA' ratio at 1x (FY22E) provides balance sheet comfort; however, synchronous demand slump across core segments (e.g. CV, oil & gas) and increased drag from overseas subsidiaries is likely to keep cyclical recovery of earnings in check. Key risk remains strong order book wins on defence business. Valuations remain expensive (18x EV/EBITDA/35x PE on FY22E basis). Maintain SELL.

- Key highlights of the quarter: Standalone revenues declined 68% YoY to ~Rs4.3bn while EBITDA just reached breakeven at -0.7% on account of elevated employee costs (up 1,745bps). Domestic revenues fell 72% to Rs1.5bn while exports declined ~66% to Rs2.6bn. Standalone PAT reported a loss of Rs0.5bn. Consolidated performance was dragged further (PAT loss of Rs1.27bn) due to overseas sub-losses. RM costs were higher due to de-inventorisation, which is likely to reverse as production ramps up in H2FY21.

- Key takeaways from earnings call: a) Domestic revenues for Q2 are likely to be similar YoY driven by new products, new customers and market share gains in agriculture, construction and mining, and passenger car segments; b) on exports: Class-8 truck sales is witnessing demand pickup with improved outlook; PVs witnessed slight improvement while oil & gas continued to be a drag; c) overseas subsidiaries are expected to post a cash loss of EUR5mn for H1CY20; however, BHFC has hired external agency to help cost optimisation; d) embargo on import of defence products is likely to boost defence revenues (FY23 target: Rs10bn) as BHFC has three out of four platforms of artillery guns in final stages of testing (and has capacity to manufacture up to 150 guns per year by FY22); 7) high focus is on reduction in other expenses (salary/marketing costs).

- Maintain SELL: We raise our EPS estimates for FY22E by ~22% on the back of better cost reduction and improving Class-8 truck outlook in FY22. We upgrade our multiple to 27x (from 25x) FY22E EPS on the back of improved outlook for defence business post the new import restriction policy. We arrive at a revised target price of Rs337 (earlier: Rs255). However, post the recent stock price rally (~75%), stock remains expensive (~18x EV/EBITDA/~35x PE on FY22E basis). Maintain SELL.

Shares of BHARAT FORGE LTD. was last trading in BSE at Rs.494.8 as compared to the previous close of Rs. 502.8. The total number of shares traded during the day was 476640 in over 11182 trades.

The stock hit an intraday high of Rs. 511.4 and intraday low of 485.45. The net turnover during the day was Rs. 237400676.

Source : Equity Bulls

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