Expect BHEL margins to bottom out around 11-12%: Kotak

A: BHEL is that way quite good in terms of the market share that the company has, almost 65 percent of the market share they have in the power generation equipment industry in India. However, if you look at the client side a large proportion of their orders in recent years have come from the private sector and now to some extent, the private sector is feeling the heat of lower fuel availability which is constraining their operational cash flow.

To that extent, it is getting reflected in the company's receivables that had continued to elongate in the recent quarters. So, it is more of a macro call on the sector unless the fuel issues are addressed, unless interest rate scenario to some extent comes down and there is more of M&A activity in the utilities sector, we would not see a durable turnaround in the sector. So, it is a combination of the factors that would address various issues that private sector utilities sector is facing and only then we could see a revival in the fortunes of the company in terms of the problems that it is facing right now.

Latha: How much more margin erosion can you see? BHEL's margins at one point in time were even well over 20 percent, one can understand that that would erode, but does it stabilise around L&T's margins?A: The issue with BHEL is that its cost structure if you see is to a large extent relatively much more fixed. Employee costs constitute around 16-17 percent of their sales. If you see the sales coming down, contracting on a yearly basis, it is very difficult to pass on that extra staff cost, so your EBITDA margins would continue to contract. So unless and until we see a turnaround in the revenue growth the EBITDA margins would continue to remain weak. Based on the projections that we have made we see the margins bottoming out at somewhere around 10-11 percent for BHEL.Latha: What would you have at the moment by way of EPS forecast this year, next year?A: We are forecasting earnings of Rs 14 for FY15 which is almost 8-9 percent decline over FY14, EPS of around Rs 15-15.5 per share.Sonia: Have you scaled down your full year order book, expectations, because for now they have not written off any of their orders in the backlog, but there has been no progress on many of these orders as we know, Abhijit Group, Visa Power etc. So have you scaled your order book expectations down considerably?A: Yes, to a certain extent we have done that, but as the management is saying that they are looking at a project pipeline of around 17,000 MW in the 12-15 months out of which around 3,200 MW are projects wherein the company is favourably placed which would get materialised hopefully in the current quarter. Given the way these projects are, they tend to get deferred and decision making is not involved. So our sense is that there could be some downside to our order intake estimates for the current year.Latha: What did you takeaway from Cummins?A: We have seen that Cummins has revised its guidance downwards. The numbers that the company reported in the third quarter were largely in line with our expectations, but the margins were quite strong in the quarter. It remains to be seen whether these kind of margins are sustainable. At the same time we have seen that the southern region which was a main demand driver for the last one or two years to a certain extent there is a possibility that the demand from that region starts tapering off and hence there has been some moderation in the revenue outlook. At the current valuation of around 18 times FY15 we see very limited upside from these levels and we are recommending taking some profits home at this point of time on Cummins.Sonia: Do you like anything in the capital goods space? Any recommendations on the upside?A: Based on the results that have been announced in capital goods we have seen that a majority of the numbers were lower than our estimates, except for Voltas wherein the numbers actually surprised us for the second consecutive quarter and so in Voltas we are observing that apart from the domestic market the Middle East order outlook is on an improving trajectory and positively for Voltas the working capital is also coming down. So that is one thing that we are looking at quite favourably in the case of the company and also there is a possibility that some of the provisions that they have taken on projects that it is executing there could be some write back and there could be some kind of a surprise in the coming quarters on its projects business. So these are couple of things that we are looking at positively for Voltas. Apart from that we also like Va Tech Wabag wherein the company has already met its order guidance in the first nine months itself, so that is another company that we are preferring at this point.