CRISIL assigns valuation grade of 5/5 to Astra Microwave

Astra Microwave Products Ltd (Astra) designs, develops and manufactures sub-systems for defence and space applications. Its strong R&D, technical capability and established record places it ahead of its peers. Order book of more than 3x FY12 revenues provides visibility for the next two years. Healthy growth in defence capex and increase in the government’s focus on indigenous manufacturing will keep its order book healthy. However, increasing competition, volatile earnings and lack of succession plans are key risks. We initiate coverage on Astra with a fundamental grade of 4/5, indicating that its fundamentals are superior relative to other listed securities in India.

Strong R&D, experienced team and established track record provide an edge Astra has a strong R&D set-up with four in-house facilities and highly qualified and experienced personnel. The management team has over two decades of experience in DRDO and ISRO. By partnering with government agencies in many prestigious programmes, it has proved its technical capabilities. During any order bidding, technical competence weighs more than cost competitiveness, which gives Astra an edge over competitors.

Increasing defence capex and focus on indigenous manufacturing to drive growth India's expenditure on defence equipment has increased at a CAGR of 12% over the past 10 years. In the Union Budget for FY13, the military spending has been increased by 17% to ~US$40 bn. Further, in order to improve self-dependency, the government has introduced an offset clause, which has created another opening for Indian players. Astra has already started benefitting from this; it recently bagged an order worth Rs 3,100 mn. Although competition is high, the company’s strong record will ensure a steady flow of orders.

Current order book provides visibility for next two years Astra’s order book of Rs 7,300 mn, which is more than 3x FY12 revenues, provides visibility on its performance for the next two years. Further, we believe AESA radar (which CABS has productionised in association with Astra) will attract demand in the long term.

Volatile business and unclear succession plan is a risk
Astra’s profitability is highly susceptible to the uncertainty in the order inflows. In the past decade, its profit margins varied from 7% to 36%. The current order book provides visibility only for the next two years but long-term prospects are unquantifiable. However, increasing contribution from the offset orders is expected to moderate the volatility. Further, the company’s future is highly dependent on the top personnel, who are fast approaching retirement age. An unclear succession plan adds to the uncertainty.

Expect two-year revenue CAGR of 41% and profit margins of ~11% in FY14
Driven by the execution of its current order book, Astra’s revenue is expected to grow at a two-year CAGR of 41% to Rs 4,038 mn in FY14. Its profit margins are expected to contract to 11% in FY14 due to the execution of the low-margin offset order.

Valuations: Current market price has strong upside
CRISIL Research has used the price-to-earnings (P/E) method to value Astra. We have assigned a P/E multiple of 10x FY14E EPS of Rs 5.5 to arrive at a fair value of Rs 55.

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