Bharat Forge: Propelling India's economic momentum through its play on defense and e-mobility

Bharat Forge has a dominant market share in the Indian and North American truck markets and is a leading company in Europe.

Bharat Forge, a major player in the auto components industry, is propelling the bullish momentum in India's economic landscape. Standing out as a robust investment opportunity, the company is buttressed by its strong financials, diverse business segments, and strategic expansion initiatives.

Founded in 1961 to serve the forging needs of the Indian automotive industry, Bharat Forge has evolved into a diversified engineering enterprise. A pivotal shift in the company's growth strategy occurred in the 1980s, transitioning from an automotive-centric focus to a broader diversification into sectors with promising growth prospects. This strategic pivot is evident in its revenue composition, which has significantly evolved over the past half-decade. Bharat Forge's revenue mix now includes substantial contributions from defence contracts and electric vehicle components and systems.

Notably, in Q1FY24, the company secured cumulative orders worth Rs 277.8 crore in defence contracts, spanning multiple customers and product segments that will be delivered over the next one and a half years.

Looking ahead, Bharat Forge is poised for further transformation as it continues to invest in expanding its core business. The company has earmarked Rs 1,000 crore in capital expenditure for its India operations in fiscal year (FY) 2023-24, extending through the first half of FY26. This investment will be directed towards strengthening its core business, advancing electric vehicle components and systems, and bolstering its defence-related activities.

Unlike in other parts of the world, FY24 has so far witnessed a resurgence of growth in the Indian auto and auto ancillaries sectors, with Bharat Forge leading the charge for this bullish theme.

The question now arises: What attributes make Bharat Forge an exceptional investment choice?

Strong financials
Bharat Forge's consolidated net profit surged by 33.27 percent to Rs 213.73 crore in the first quarter of FY24. This performance outpaced estimates due to robust volumes at 67,800 tonnes and realisations of Rs 313.9k per tonne. The company foresees a positive demand outlook across divisions, with its defence business contributing Rs 250 crore in Q1 and projected to constitute 10 percent of the revenue mix for FY24. This upsurge stems from an order backlog of Rs 2,200-2,300 crore, set to be executed over the next 18 months.

Revenue diversification away from CVs should reduce business cyclicality
Foreign brokerage firm JP Morgan expects the industrial business to grow from 33 percent of revenue in FY23 to 45 percent by FY26. This should be driven by a combination of defence (exports + domestic) as well as other segments like aerospace, renewables, and oil & gas. “The passenger vehicles (PV) business share should remain flattish at 30 percent and the growth should be driven mainly by the ramp up of aluminium forging and lightweighting orders. Within commercial vehicles CVs, the near term trends should be strong for both India and the US,” added JP morgan.

Domestic business outlook
Bharat Forge's domestic revenue showcased a 33 percent year-on-year increase, with commercial vehicle (CV) segment revenue rising by 17 percent over the previous year to Rs 270 crore, supported by enhanced fleet utilisation. The CV segment's robust demand is expected to persist in FY24 due to increased government spending on infrastructure. Despite a 19 percent annualised decline to Rs 62.4 crore in passenger vehicle revenue, optimism prevails due to the company's expanded product portfolio catering to the renewable energy, construction and mining segments, according to JM Financial.

Steady growth trajectory and order bookings
Securing new business valued at Rs 500 crore during the first quarter across defence and automotive components demonstrates Bharat Forge's growth momentum. The company anticipates winning a government order this fiscal for ATAG howitzers developed by the Defence Research and Development Organisation, propelling estimated revenue from the defence segment to a substantial Rs 1,700 crore by FY25 from Rs 350 crore in FY23. Further, the casting business is set to double its capacity, driven by a robust order book, thus ensuring profitable growth.

Overseas manufacturing operations
During Q1FY24, revenue from overseas manufacturing subsidiaries stood at Rs 1,330 crore, up 27 percent from the corresponding period a year earlier. The EBITDA (earnings before interest, taxes, depreciation and amortisation) margin at its operations in the European Union stood at 4.4 percent. “Overseas automotive segment Europe is at 50 percent+ utilization and is expected to ramp-up further and reach high single digit margins by FY24-end, while the US is expected to break-even by Q4FY24,” analysts at Prabhudhas Lilladher said in a note. Further, JP Morgan expects subsidiary performance to continue to improve as the aluminium forging plants in US and EU ramp up.

The sharp turnaround in overseas subsidiaries in Q1 gives confidence that the management is on track to normalise subsidiary performance over the course of the year. The company has also guided strategic emphasis on expanding manufacturing operations within India, positioning the country as an export base for global markets.

Aerospace segment and beyond
Bharat Forge's aerospace segment demonstrated remarkable growth, registering a 68 percent on-year increase in revenue to Rs 65 crore, contributing approximately 4 percent of the total revenue. Expectations of a 30 percent-plus growth in FY24 underline the segment's potential. The strong order backlog within aerospace is poised to elevate revenues to Rs 500 crore over the next four years from Rs 170 crore.

Further, as per brokerage firm Motilal Oswal, the management's commitment to expanding newly established businesses such as defence and e-mobility showcases its determination to offset challenges in core operations.

Valuation
JP Morgan has given Overweight rating on BHFC with a target price of Rs 1,115 (Septermber 24). Its positive views is predicated on better-than-expected traction in defence and industrial revenues which would reduce the dependence on the cyclical truck business, and faster-than-expected turnaround in subsidiary profitability for BHFC which is also geared towards new structural growth areas such as aluminium forging, renewables and defence.

JP Morgan values the BHFC at at September 25 Enterprise Value/EBITDA of 17 times which is 28.6 times the price earnings ratio P/E (premium to ten-year average). “We believe BHFC could trade at a premium vs. history due to reduced cyclicality of revenues. Indian industrial stocks normally trade at a premium to auto components” stated JP morgan.

According to Prabhudhas Lilladher, “BHFC sees strong growth momentum to continue for next three quarters and extending to FY25.”
As per Motilal Oswal, the stock trades at 33.3 times FY24 and 24.3 times FY25 estimated consolidated earnings per share (EPS). The brokerage has reiterated a buy rating on the stock with a target price of Rs 1,135.

Overall outlook
Amid potential challenges, Bharat Forge's diversified portfolio and strategic initiatives offer a solid foundation for future growth. The burgeoning defence segment and opportunities in the e-mobility sector present avenues for expansion. Further, the company's commitment to normalise the performance of its overseas subsidiaries performance and its stable revenue growth guidance underscore its resilience and ability to generate a stable revenue stream.

Its long-term stable revenue growth guidance too is a testimony to the fact that the management has been able to transform the company from a cyclical entity to one with a stable revenue stream, given its well-diversified mix.

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