Emkay has come out with its report on engineering and capital goods (ECG) monthly update for January'13. According to the research firm, stock selection should be purely driven by visibility, cash flows and ROIC of the business models. L&T, Cummins India, Greaves Cotton and Blue Star are Emkay's top picks in the ECG sector.
Emkay Global Financial Services has come out with its report on engineering and capital goods (ECG) monthly update for January'13. According to the research firm, stock selection should be purely driven by visibility, cash flows and ROIC of the business models. Larsen & Toubro (L&T), Cummins India, Greaves Cotton and Blue Star are Emkay's top picks in the ECG sector.
In the current month's update on the Engineering & Capital Goods (ECG) sector, we have tracked comments by capital goods companies on outlook for order inflows and business & market conditions along with our usual assessment of tracking trends in project tenders, project awarding, production statistics, etc.
Key takeaways from Q3FY13 concall for capital goods companies
Summarized below are outlook shared by capital goods companies (namely L&T, Triveni Turbines, Blue Star, Havells India) on order inflows and market & business conditions.
- While overall investment activity remains muted in the domestic market, there is some activity (investments, order finalizations) happening in select sectors – notably in hydrocarbon, power transmission & distribution, metro railway and cement. Order finalizations continue to remain weak in the power generation sector.
- To offset sluggish domestic demand, most companies increasing thrust on export markets to drive growth – expect revenue growth from international markets to be 1.25-1.5X the growth in domestic market. Internationally, investment spends expected in hydrocarbon and T&D sectors.
- Proportion of slow moving orders in order books is high - between 10-30% for the below mentioned companies.
- EPC companies continue to witness pressures on operating margins with no let-up in competitive intensity. However, expect extent of decline in operating margins in next year to be minimal on the back of cost control measures adopted and low base in FY13E.
- Most companies witnessing expansion in working capital.
- Common trend witnessed across – market leaders (we) have been able to sustain order inflow momentum on YTD basis, despite decline in industry size. However, they have indicated of deceleration in ensuing years.
Key trends observed during the month
- Value of tenders dropped sequentially by 43% MoM and 21% YoY to Rs224.6 bn - below the monthly average run rate of Rs300 bn. Fall in tenders was witnessed across sectors barring for power equipments, hospitals and water supply.
- Though the value of tenders declined below the Rs300 bn level in Dec'12, we believe there is no cause for concern as the total number of tenders for the month stand at 4,316 - up 21% YoY and 14% MoM and significantly higher than past year average tenders of 3,500.
- Order announcements declined marginally by 4% MoM to Rs167.4 bn - though remained above long term average of Rs163.2 bn. Barring for Process (declined 71% MoM on high base in Nov'12) all other sectors grew sequentially.
- Production data of capital goods equipment was largely declining in Nov'12 - both on YoY basis as well as MoM basis. Decline was across categories (high value capital goods equipment, low value capital goods equipment, power T&D equipment and construction equipment).
- Emkay Commodity Price Index remains range bound between 194-200 levels. In Dec'12, Emkay commodity price index fell by 1.1% MoM to 198.7 (up 2.0% YoY). Rubber prices have now declined for the 14th consecutive month on YoY basis.
- Credit to infrastructure sector increased by 4.6% MoM and 18.7% YoY to Rs6.89 tn in Nov'12 - pick up comes after 7 months. Increase in credit was led by power sector - grew by 23% YoY and 6% MoM to Rs3.79 tn.
- The domestic ECG sector witnessed price correction in the past one month - under-performed the broader markets by 4.8%. The international companies continued to witness price rise for the second successive month.
- Absolute Buy for the ECG sector (all companies put together) improved from a low of 35% in Nov'12 to 36% in Dec'12. Sell ratings remained stable at 41%.
- Earnings cut were minimal during the month of Dec'12 - cut by 0.4% for FY14E and no cut for FY13E
Top picks from EMKAY ECG universe
We maintain that stock selection should be purely driven by visibility, cash flows and ROIC of the business models. Few companies appear to be richly valued (on relative basis). These should be viewed in conjunction to strength of the business model. Our top picks in the ECG sector are (1) Larsen & Toubro (2) Cummins India (3) Greaves Cotton and (4) Blue Star.
Larsen & Toubro - Strong order book cover with diversified business model and top quartile earnings growth amongst peers. We have Accumulate rating with price target of Rs1700/Share.
Cummins India - Technology intensive business model with near-term earnings catalysts and ROIC of +40%. We have Accumulate rating with price target of Rs500/Share.
Greaves Cotton - Though we expect muted earnings growth in near term, FCF yield of +8% gives reasonable comfort. We have BUY rating with price target of Rs90/Share.
Blue Star - We expect BLSR's strategy to pursue profitability over growth and expect it to reap rich dividends going forward. Positive catalysts gaining prominence. We have Buy rating with price target of Rs215 per share.
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