Executive Summary
The project provides the information about the equity valuation of three Capital goods companies namely ? ? ? BHEL Larsen & Toubro Punj Lloyd
This project will help to decide whether the price of the share is undervalued , fairvalued or undervalued , thus it tells about the intrinsic value of the shares of the three companies. It gives and overview of the indian economy, recent trends in the indian economy, indian capital goods sector. There is a brief descriptiong of all the companies starting with the profile, growth in 2008 Other than valaution , there is ratio analysis done of each companies by calculating the four ratios • • • • Profitabilty ratios Coverage ratios Leverage ratios Liquidity ratios
To conclude it provides with the recommendations whether investing in such companies is advantageous or not.
Table of Contents:
Sr.No. 1 2 3 4 5 6 7 7.1 7.2 7.3 8 8.1 8.2 8.3 9 10 10. 1 10. 2 10. 3 11 12 13 The industrial recession: New or ongoing? Industry scenario Key risks Porters model and SWOT Company Background BHEL SWOT Ratio Valuation Larsen & Toubro SWOT Ratio Valuation Why BHEL over L&T? Punj Lloyd SWOT Ratio Valuation Conclusion Limitation of study Bibliography Chapter Purpose of the study Page No 5 6 10 13 14 17 17 18 20 23 25 25 26 29 30 32 33 34 36 38 39 40
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PURPOSE OF THE STUDY
Objective: The objective of this project is to find out the intrinsic value of stocks of three companies of capital goods industry. Scope: Three companies namely Larsen and Toubro, Bharat Heavy Electricals Limited (BHEL),Punjlloyd are taken so as to compare their financial position after recession and analyse the effect on the economy and financial market. By using value driver method of valuation the intrinsic value is found which forms the basis of comparison.
Methodology:
DATA COLLECTION The data collection i.e. raw material input for the project has been collected keeping in mind the objectives of the project and accordingly relevant information has been found. The methodology used is descriptive method of research.
1. Three companies based on market capitalization have been selected. 2. Value Driver Model is used to arrive at intrinsic value of share price.
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The industrial recession: New or ongoing?
Current economic problems in the Indian economy are being presented by the Government as created entirely by the direct and indirect effects of the global financial crisis. Even the industrial slowdown is being blamed on the adverse impact of the global slowdown upon manufacturing exports. But, the industrial slowdown started well before the effects of the external crisis began to be felt in India.
The industrial slowdown is now accepted as fact by most policymakers and observers of the Indian economy. Yet officials and commentators seem to blame it on external factors: most obviously, the global financial crisis originating in the US economy, the consequent economic slowdown and now recession in the US, the European Union and other developed country markets, and the associated impact upon exports. Causes for concern It is certainly true that the bad news from abroad — which shows no signs of easing up — has impacted upon domestic stock markets, investor expectations, and the exporting industries in particular. But it is also unfortunately the case that our own economy has been showing several causes for concern even before that external bad news started pouring in. There was the accelerating inflation, which particularly hit food and other items of essential consumption, and recently exacerbated by the increase in petrol prices. In addition there have been signs of decelerating growth, especially in industrial activity, and these cannot be ascribed only to reduced export orders, but are more likely to have domestic causes.
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Consider the index of industrial production, presented in Chart 1 (with base year 199394). The general index peaked in March 2008, fell quite sharply thereafter and subsequently has been more or less flat at the lower level. This pattern essentially reflects the behaviour of the manufacturing index, which accounts for around 80 per cent of the weight of the general index. Such a pattern tends to be obscured by the standard way of presenting the industrial growth data, in terms of yearon-year monthly rates.
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What is especially disconcerting is the evidence on electricity production, which shows hardly any increase at all but simply fluctuations around a flat trend for the past 18 months. Since electricity still remains substantially undersupplied, and its shortage can create supply bottlenecks for other production, this stagnation is worth noting.
Slowdown across sectors
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The use-based classification of industrial production suggests that the slowdown in growth is spread across several important sectors. Chart 2 provides the evidence on recent trends in production in the basic, capital goods and intermediate industries. Once again, both basic goods and intermediate goods, which have strong backward and forward linkages with other industrial activity, have been stagnant and hardly increased at all over the past one-and-a-half years. The production of capital goods shows much greater volatility, with a sharp increase in March 2008 but decline thereafter from that peak.
Macro mismanagement It is pointless to blame external forces, because none of these processes was necessary within India. There was no need to encourage and then suffer the effects of mobile capital flows that brought in resources that were not even going to be used. Instead, capital inflows could simply have been controlled to prevent upward pressure on the exchange rate. Inflation could have been managed by first recognising the essentially speculative and therefore temporary nature of the global fuel and food price rises, and then addressing the specific management of these sectors within the economy. Unfortunately this previous mismanagement has worse consequences than simply the evident industrial deceleration. It has also weakened the economy even before it faces the full impact of the global recession and the financial turmoil.
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Industry scenario
Capital goods industry not faring well DESPITE the pride of place accorded to it from the beginning of planned industrial development in the mid-1950s, the domestic capital goods industry is not faring too well due to recession. Export transactions costs are among the highest in the world. High transaction costs also result in inordinate delay in fulfilling export contracts. This leaves the industry almost completely reliant on the domestic market. As a result of the emphasis on broadbased heavy industrialisation from the mid-1950s, the capital goods industry produces a wide range of products; almost all major capital goods are domestically produced.
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The flip side of this, however, is that the industry lacks depth, because it is unable to reap economies of scale on the basis of the finite domestic market. Even countries with an advanced capital goods sector do not produce the entire range of capital goods, but instead focus on select segments or sub-segments. There is a close correlation between the growth of the capital goods industry (accounting for 9-12 per cent of total value added in manufacturing) and the overall growth of the Indian industry. A related determinant of the demand for capital goods is gross domestic investment, of which the industry accounts for a constant share of 17-21 per cent. On the supply side, the output of capital goods is determined by investments and by capacity utilisation. There is a close interconnection between these two in as much as large investments are necessary to bring available capacity in line with the type of demands made on it. However, investments have in fact declined, with the decline in the relative profitability of the capital goods sector with respect to other sectors. Raw material price indices have risen faster than the price index for machinery produced by this sector. It is difficult for manufacturers to pass on the rise in prices to customers, but some manufacturers have tried to get around this by resorting to value-engineering techniques for efficient raw material usage and cost reduction. While there are a few firms close to the international frontier in terms of product design capability and process technology, technological capabilities of most players are extremely limited. The country has a number of high quality R&D institutions, but industry-institute interactions are few and far between. Indian firms are prevented in achieving high levels of precision due to lack of supporting process technologies, such as precision measuring, material engineering and process control. Even in the numerous cases in which Indian capital goods are functionally at par with equipment made elsewhere in the world, they rank poorly so far as the finish is concerned.
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Key Risks:
? Labour in the capital goods sector is highly cost competitive, says the PwC study, even after discounting for low labour productivity. However, since labour costs account for only 7-21 per cent of total factor usage, this by itself does not make much of a difference. ? Indian capital goods manufacturers have working capital requirements as high as 45 per cent of net sales (as against a global benchmark of 15 per cent). Meanwhile, interest rates in India are well above.L&T had taken financial assistance from bank at 40% interest as the project that they had to be completed in stipulated time. The CEO had to pledge his shares to the banker so as to take the loan. ? In pre-VAT times, the Indian capital goods sector faced high rates of indirect taxes (excise, octroi, sales tax) compared to taxes faced by capital goods sectors of other countries. The cost disadvantage due to this was as high as 24 per cent in certain cases. ? Meanwhile, zero-duty imports for products like refinery, fertiliser etc puts the domestic capital goods industry at a clear disadvantage. This problem is further accentuated by the import of second-hand machines
India's capital goods sector will contribute around 7.1 percent to the country's gross domestic product (GDP) in fiscal 2008-09, compared with 9 percent a year earlier, the heavy industry minister said on Friday.
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There are only 3 ways to improve the business: increase users, increase usage and find new uses for existing products. Porter’s 5 forces , The first force of the year was inflation which was the bargaining power of the suppliers to raise prices. The customers drive their inventories down and provide cash discounts. The environment was driven by a strengthening rupee and they hedged exports. The inflation came down when the oil prices fell down. So companies started conserving cash. The rupee started weakening and became 50 Rs to the dollar. The need of the hour was to hedge imports. The cost of customer acquisition is high and one is willing to invest money on consumers. The priority shifted to increase the usage of the products instead of increasing consumers.
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Competition (overcome to survive): In 2009, he expects a recession will be forced in India as well and expected unemployment rate to be around 10%. The balance 90% will see a 10-15% reduction in income. The prices of capital goods – home prices, automobiles etc. will all fall. There may be collapses of major companies. If the company is able to efficiently minimize cost then it can survive in this market condition. Threat of new entrant: As such there is no threat of new entrant as this industry requires lot of capital for its operations.
SWOT: Strength: Value-engineering techniques is used reduction. Weakness: This industry is Capital intensive, technology oriented. therefore any change will lead to pooling in lots of money. for efficient raw material usage and cost
Opportunity: Project offers from other countries. Project for defense purpose granted by government. Project available in domestic market.
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Threat: Change in Technology can act as a threat to this industry as it is difficult to purchase costly equipments every now and then and also adapting with newer technology
Value Driver Method:
Equity valuation methods include simple multiples-based approaches, such as that based on P/E ratio, cash-based approaches, such as DDM and DFCFM, and accounting-flowbased approaches such as RIVM and AEGM. A simple multiples-based approach, where multiples are derived from data for comparable firms, is favoured by valuation practitioners. This approach is likely to be attractive because of its relative simplicity. Comparison of different multiples is the main problem for recent empirical research. Multiples used by investment bankers are constructed from one of four value drivers: Book value, net income (EPS), operating cash flow and revenue. However, practitioners do not calculate every possible multiple for every transaction. It is seen that the value driver method delivers superior performance to traditional priceto-book multiple, when the premium multiples are based on earnings or EBITDA, among which forward EPS serves as the best value drivers for the premium multiples. Forward
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EPS in the premium multiple provides the most additional help the current EPS value anchor. The superiority of forward EPS as the value driver in the premium multiples is largely due to the higher correlation of the value estimates with the observed price. The price-to-forward-earnings multiple, delivers the best performance. The approach is potentially attractive because it retains the relative simplicity of commonly used multiples-based approaches whilst allowing for a greater use of company-specific information than is commonly found in such approaches and greater flexibility with regard to the use of value drivers. The value driver used in this approach is P/E value, book value and current share price. Two methods are used to find the intrinsic value of the share of the company. The two methods are: 1. In the first method equal weights is given to the all three value driver. Intrinsic value = 1/3rd (P/E value) + 1/3rd book value + 1/3rd current share price. P/E multiple = (market price) / (Earning per Share (EPS)) Projected EPS = EPS1 = current EPS (1+g) (where g is compounded annual growth rate) P/E value = projected EPS * P/E multiple 2. In the second method weight given to the value driver are different. Intrinsic value = 60% of P/E value + 10% of book value + 30% of current share price. Margin of safety (safety margin) is the difference between the intrinsic value of a stock and its market price. Rationale for using value driver method: • • • Simple to understand and Easy to calculate delivers superior performance to traditional price-to-book multiple it is more flexible when compared to other methods
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Company Background: BHEL: Bharat Heavy Electricals Limited (BHEL) operates as an engineering and manufacturing enterprise in the energy related/infrastructure sector in India. Its Power sector comprises thermal, nuclear, gas, diesel, and hydro operations. This sector offers power generating sets and auxilaries, such as air pre heaters, boilers, control relay panels, electrostatic precipitators, fabric filters, fans, gas turbines, hydro power plant, piping systems, pulverizers, pumps, seamless steel tubes, soot blowers, steam generators, steam turbines, turbo generators, and valves. The company’s Industry sector provides various products and services relating to transportation, transmission, electric machines, industrial sets and DG sets, telecommunications, and other industrial products and systems. This sector manufactures and supplies capital equipment and systems, such as captive power plants, centrifugal compressors, drive turbines, industrial boilers and auxiliaries, waste heat
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recovery boilers, gas turbines, pumps, heat exchangers, electric machines, valves, heavy castings, and forgings, as well as supplies controls and instrumentation systems primarily distributed digital control systems; X'mas tree valves and well heads; and on-shore drilling rigs, sub-sea well heads, super deep drilling rigs, desert rigs, and heli-rigs. In addition, it offers transmission products and systems, including high-voltage power and distribution transformers, instrument transformers, dry-type transformers, SF6 switchgear, capacitors, and ceramic insulators; traction and traction control equipment, drives and controls, locomotives, diesel shunting locomotives, and battery powered road vehicles; telecom switching equipment based on C-DOT technology; and technologies for exploiting non-conventional and renewable sources of energy, such as photovoltaic cells and modules, solar lanterns, grid-interactive PV power plants, and solar heating systems. BHEL is based in New Delhi, India.
BHEL Competitors Company Alstom SA Crompton Greaves Ltd Entegra Ltd Transformers And Rectifiers (India) Ltd Triveni Engineering & Industries Ltd Opportunities: Recent developments &contracts: As part of its manufacturing capacity expansion programme, Bharat Heavy Electricals Limited (BHEL) is setting up a new manufacturing plant in Tamil Nadu. The new unit is being set up by BHEL at an initial investment of Rs.2,500 Million and the project will be funded through internal accruals.
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To be set up at in Tirumayam in Pudukottai district of Tamil Nadu, the plant is expected to provide direct employment to about 750 persons and indirect employment to nearly 3,000 people. BHEL’s plan to expand its manufacturing capacity from the present 10,000 MW per annum to 20,000 MW by 2011.
2. Once again outbidding Chinese equipment suppliers under International Competitive Bidding (ICB), Bharat Heavy Electricals Limited (BHEL) has won an order for the main plant package at the upcoming Malwa Thermal Power Project (TPP) in Madhya Pradesh, involving two new-rating units of 600 MW each. 3. The growth momentum achieved by BHEL in 2007-08 is likely to be accelerated in the current fiscal. The company has recorded significant growth in its turnover and despite higher provisioning for the impending wage revision, maintained its profitability in the first nine months of 2008-09, as against the corresponding period in the previous year. With an order book position of Rs.1,135,000 Million, at the end of the third quarter, the company expects to achieve robust growth in 2008-09 and beyond.
4. Cumulatively valued at around Rs.70,000 Million, the contracts have been placed on BHEL by NTPC Ltd., NLC Tamil Nadu Power Limited (NTPL) and Mahagenco. All the orders were won by BHEL under ICB, as its offers were found techno-economically the best. The company has earlier supplied equipment to all the three utilities and with these orders, the customers have once again reposed confidence in BHEL's proven technological excellence and capability in executing projects of this magnitude.
NTPL has placed a contract for setting up of the 2x500 MW Tuticorin Thermal Power Project (TPP) in Tamil Nadu. These units will add 24 million units every day to the grid on commissioning.
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The key equipment for the above contracts will be manufactured at BHEL’s Haridwar, Trichy, Ranipet, Hyderabad, Bangalore, Bhopal and Jhansi Plants. The company’s Power Sector Regions will undertake erection and commissioning of the equipment.
Here after taking into account the bargaining power of the company is high as its client have shown faith in the company and so it has so many contracts to be completed. Looking at the future prospect one can be assured that even though it’s a capital intensive company it has lot of potential and a thing like recession cannot affect much.
Analysis with the help of ratios:
Ratios (Rs crore) Mar Mar ' 08 Per share ratios Reported EPS (Rs) Dividend per share Operating profit per share (Rs) Book value (incl rev res) per share (Rs.) Profitability ratios Gross profit margin (%) Net profit margin (%) Adjusted cash margin (%) Adjusted return on net worth 58.41 15.25 75.75 220.10 98.66 24.50 144.84 359.06 68.6 14.50 90.85 298.31 38.95 8.00 53.25 246.24 26.89 6.00 34.89 215.64 07 ' Mar 06 ' Mar ' 05 Mar 04 '
17.65 13.87 15.41 27.07
19.00 13.51 15.07 27.86
14.71 12.19 11.71
11.25 9.58 9.18 11.53
8.16 7.91 8.71 9.97
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(%) Reported return on net worth (%) Return on long term funds (%) Leverage ratios Total debt/equity Fixed assets turnover ratio Liquidity ratios Current ratio Current ratio (inc. st loans) Quick ratio Inventory turnover ratio Payout ratios Dividend payout ratio profit) Dividend payout ratio 1.09 3.88 (net 30.54 (cash 28.00 26.04 28.67 26.53 41.56 0.01 4.48 1.38 1.38 27.47 42.84 0.01 4.27 1.43 1.43 1.13 4.64
18.72 22.99 29.35 0.07 3.54 1.53 1.53 1.17 4.15 15.81 21.22 0.08 2.67 1.63 1.63 1.22 3.79 12.46 16.03 0.10 2.33 1.71 1.71 1.28 4.41
24.09 21.02
23.33 18.97
25.20 19.37
profit) Coverage ratios Fin. charges cov.ratio (post tax) Component ratios Selling cost Component Exports as percent of total sales Bonus component in equity
89.04
62.37
33.77
15.40
15.25
1.12 4.80 50.00
1.27 6.31
1.45 5.27
1.89 8.29
1.04 5.83
capital (%)
Ratio Analysis: • In the year 2007, the profit percentage has remained same but in absolute terms it has increased due to which the EPS , Dividend is showing increasing trend till 2007. but in 2008 percentage being some what same the absolute value is less. • Company is able to maintain good cash margin so the problem of liquidity crunch is eliminated.at least the working capital operations can be smooth enough. • The decrease in profit to some extent is due to change in policy of exchange difference on fixed assets resulting in decrease in profit by Rs. 317 crores. On the
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other hand change in policy relating to recognition of duty draw back resulted in increase in profit by 24.91 crores. • Company has less proportion of debt and so less interest component.Its company’s policy to use reserves and the profit for the operations/activities. • The current ratio in earlier years was more than the standard but gradually it is nearing to 1.33. • Inventory turnover ratio has come down as last year as inventory got accumulated The estimated inventory became more than actually utilized. • Dividend pay out has more or less been constant. Although recession has hit but to retain the shareholders the company has kept the dividend pay out proportion constant. • Company’s financial charges have risen so that is the area of concern. This can be due to the cost involved in issuing bonus shares.(company is noot clear on that) • Exports have gone down. Reason can be concentration on domestic market more and also may be due to change in technology exports declined.
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VALUATION
BHEL EPS 20042003-04 26.89 05 38.95 200506 68.6 2006-07 98.66 2007-08 58.41
CAG R x 26.89(1+x)^4=58.41 21.4 x=21.4% 70.90
EPS1
P/E Share price as on 31st March, 2008 2056.5
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5 P/E 35.21 2496.3 P/E value (Projected EPS * current P/E) 1
Book value per share Current marketprice( market price as on 27th Feb, 2008)
220.1
1396.3
1st method 1/3 of P/E value 1/3 of Book value 1/3 of current market price Total 832.10 73.37 465.43 1370.9 0
2nd method 60% of P/E value 10% of book value 30% of price value curent 418.89 1938.69 1497.79 22.01
The current market price is Rs. 1396.3 and as per valuation its coming Rs. 1370 so not much of difference exists. Holding this stock can be a better option.
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Larsen and Toubro: The evolution of L&T into the country's largest engineering and construction organization is among the most remarkable success stories in Indian industry.
L&T was founded in Bombay (Mumbai) in 1938 by two Danish engineers, Henning Holck-Larsen and Soren Kristian Toubro. Both of them were strongly committed to developing India's engineering capabilities to meet the demands of industry. Beginning with the import of machinery from Europe, L&T rapidly took on engineering and construction assignments of increasing sophistication. Today, the company sets global engineering benchmarks in terms of scale and complexity. They indulge in operating activities like Operating Divisions such as engineering and construction projects ,heavy engineering ,engineering construction and contracts, electricals and electronics,,machinery and industrial products, information technology and engineering services. Strength: L&T has a strong technological background. L&T is the only private sector company to get defence job. It has proven track record of building turn key projects. It has won projects from steep competition from world leaders in many turn key projects like monorail project. Diversity of business. 23
Weaknesses: Credit crunch due to financial crises has posed lot of challenges in front of the company.
Opportunity: Indo-US nuclear deal will help L&T to get more number of contracts for nuclear projects. Nuclear technology from developed counties like France, US and Russia will come to L&T. Increased defence spending of the government is expected to fetch projects for L&T. L&T is one of the leading bidder for Satyam. This will help L&T to diversify the business leading to stabilization in volatile market. Government spending in infrastructure projects like roads, highways, bridges , green projects, water treatment projects will help L&T to get further orders. L&T has started its ship building business which may fetch more business as there are very few companies in asia in ship building. L&T can also contribute to government’s desire to build huge war ships, in view of GE, US not accepting the orders to make engines for war ships of India. Threat: After acquisition of Satyam, L&T share’s market value may come down. L&T is contemplating decision to separate its business on specialization basis and list them separately on stock exchanges. While this is a good decision from better management point of view, in view of the global financial crisis, it may prove to be bad for some of he businesses of L&T which are recently not doing very well compared to other businesses of L&T.
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Ratio analysis: (Rs Ratios Per share ratios Reported EPS (Rs) Dividend per share Operating profit per share (Rs) Book value (incl rev res) per share (Rs.) Profitability ratios Gross profit margin (%) Net profit margin (%) Adjusted cash margin (%) Reported return on net worth (%) Return on long term funds (%) Leverage ratios Total debt/equity Liquidity ratios Current ratio Current ratio (inc. st loans) Quick ratio Inventory turnover ratio Payout ratios Dividend payout ratio (cash profit) Coverage ratios Fin. charges cov.ratio (post tax) Component ratios Material cost component (% earnings) Selling cost Component Exports as percent of total crore) Mar ' 08 74.35 17.00 110.81 326.76 12.19 8.54 8.78 22.81 28.73 0.37 1.18 1.09 0.86 6.00 Mar ' 07 49.53 13.00 71.77 203.29 10.61 7.74 8.60 24.48 32.59 0.36 1.26 1.16 0.93 6.11 Mar ' 06 73.67 22.00 92.92 336.15 7.91 6.69 6.14 22.05 26.15 0.31 1.36 1.28 1.03 6.95 Mar ' 05 75.72 27.50 77.83 256.24 7.00 7.33 4.91 29.82 24.93 0.55 1.54 1.34 1.12 5.92 Mar ' 04 42.82 80.00 58.92 219.36 6.72 5.33 5.65 19.75 27.61 0.48 1.43 1.20 1.03 5.57
23.96 5.75
26.97 5.72
30.79 4.48
37.95 4.82
36.38 3.26
33.09 1.28 22.67
30.15 1.13 21.36
30.52 1.06 21.50
39.51 1.29 20.22
38.66 1.15 14.18
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sales Bonus
component
in
equity 53.71 55.44 12.40 13.12 27.41
capital (%)
Ratios: • • Unlike BHEL the 2007 year proved to be at lower side for L&T. Dividend per share is lower as compared to year 2004.The stock prices have become almost one third • Company is able to sustain profit of around 10 %. The cash margin is around 8% which is less . because of this in December the promoter had to keep his shares as pledge to borrow financial assistance from bank at 40%. Loan was taken at such high interest as one of the contract had to be completed within the stipulated period. • Debt / equity ratio is around 0.3. company can take further loans but higher interest rates should be avoided. Now as government has reduced the interest rates ,they can take loan and take benefit of tax shield. • • Current ratio and quick ratio are as per standard. Inventory turnover is better than the other company . This shows that their estimation about stocking inventory is precise and they are able to convert inventory into finished goods early than the other companies. • Company is adopting a conservative approach towards profits. Dividend payout is reduced over the years and retention ratio has increased. • Bonus shares were declared in year 2007 and 2008.
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Valuation LNT EPS 20042003-2004 42.82 2005 75.72 20052006 73.67 2006-2007 49.53 20072008 74.35
CAGR 42.82(1+X)^4=74.35 14.79% projected EPS P/E
85.34 40.68
Share price as on 31st march 2008 CURRENT MKT PRICE P/E Projected EPS* CURRENT P/E BOOK VALUE 1st method 1/3 of P/E value 1/3 of Book value 1/3 of current market price Total 1157.21 108.66 203.8167 1469.687 3024.8 611.45
3471.631 325.98 2nd method 60% of P/E value 10% of book value 30% of curent price value 2082.979 32.598 183.435 2299.012
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The current market price is Rs. 611.45 and the valuation is coming to rs. 1469.68 so this stock should be bought. The companies are selected on the basis of market capitalization L&T 52 week high: Rs 1700 52 week low: Rs 576 Market cap: Rs 34300 crore Loss YTD: Down from Rs 45480 crore to Rs 34300 crore – down 24% L&T has seen PE collapse in a year’s time. It was trading at 31 times FY09 earnings to 14 times from 23 times FY10 earnings to 13 times. BHEL 52 week low: Rs 984 52 week high: Rs 2235 Market cap: Rs 67211 cr BHEL is in the most convincing buy list of analysts. BHEL has a better P/E holding than L&T. It’s PE has fallen from 30 times to 21 times FY09 earnings. PE has fallen from 22 times to 15 time FY10 earnings Why BHEL over L&T? L&T has order book problems. It has got a 63% of order backlog from private sector. It is vulnerable to project delays. Its E&C exports order backlog fell to Rs 98 billion from Rs 105 billion at Q2 FY09 end. The company bagged orders worth Rs 2600 crore last week including one from Gulf Electical and Machinery and industrial products showing signs of strain.
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L&T has maintained FY09 30% guidance and also held back comments on FY10. L&T’s intention on Satyam is still a concern. BHEL better off? BHEL has got a order backlog of Rs1136 billion and provides extremely strong visibility to earnings over the next 2-3 years.
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PUNJ Lloyd:
The Punj Lloyd Group is a US $ 2 billion diversified global conglomerate providing Engineering & Construction in Oil & Gas, Infrastructure and Petrochemicals, and with interests in Defence, Aviation, Marine and Upstream sectors.
Punj Lloyd is one of the largest engineering construction companies in India. It provides integrated design, engineering, procurement, construction and project management services for (a) energy industry (onshore and offshore pipelines, gas gathering systems, oil and gas tanks and terminals including cryogenic LNG and LPG storage terminals, process facilities in the oil and gas industry including refineries for power plant projects); and (b) infrastructure sector projects (highways, flyovers, bridges and elevated rail roads). Other services include comprehensive plant and facility maintenance and management. Punj Lloyd has also executed small orders for laying optic fibers for the telecom sector. The company's operations are spread across the Middle East, the Caspian, Asia Pacific, Africa and South Asia with 12 project and marketing offices and 13 subsidiaries. With over 20 years of experience in construction projects Punj Lloyd has erected more than 5,300 kilometers of pipelines and four million cubic meters of tanks and terminal capacity and has executed 11 refinery modernisation and quality improvement projects. In FY 2005, it sold its equity in an annuity-based NHAI project and also earned bonus for early completion of the project.
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Strengths: 1. Punj Lloyd is one of the few Indian construction players to own a large fleet of sophisticated construction equipment. 2. Projects under the higher-margin driven energy segment (40% of the order book), its area of specialisation, have relatively shorter completion period of 8-15 months as compared to two-three years of road projects (60% of the order book), where the margin is lower. 3. More than 180 projects executed in over 12 countries. This is the highest in the Indian construction industry. 4. Worked on projects for leaders in the energy industry in India and abroad and has got repeat orders despite increased competition with 58% of the order book comprising export orders. Moreover, has presence in all areas of oil and gas project management. Thus, the geographical spread has no concentration in a single region or country and non-dependence on single project is a major positive. 5. Successful execution of projects in different parts of the world adds to knowledge of working in different terrain and cultures. Additionally, its experience in the segment gives it a better chance at the pre-qualification stage. It is one of the few companies to have laid pipelines, including those with a 48-inch diameter, in shallow water and swampy or marshy terrain. 6. The recent discovery of large oil and gas reserves in the world (including India) is expected to increase the demand for pipelines, storage tanks, terminals and process facilities in the oil and gas industry. The national pipeline grid by Gail, the east-west pipeline by Reliance Industries and the increasing capital investment by major players in the energy industry in India are expected to further fuel this growth. Moreover, the increased thrust by the Indian government on increased and better infrastructure involving speedy procedures and new public-private partnership models augur well.
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Weaknesses: The prominent weakness or a negative point is that of recession which has hit all the giants in this sector. Apart from recession the following are the weaknesses: 1. Punj Lloyd has performed substantial projects on a lump sum or fixed price. The actual expense for executing a lump sum or a fixed-price contract (mainly in the infrastructure projects) may increase substantially on account of unanticipated increases in input cost and delays in execution of projects. In FY 2005, the operating profit margin (OPM) slipped sharply due to the lower margin in annuity-based NHAI projects due to increased steel and cement costs. 2. Since 58% of the consolidated sales comes from projects outside India , there is risk arising from foreign exchange fluctuation as well as normal legal and political risks associated with operating in foreign countries.
Our international workforce of over 15,000 staff strives to attain the group’s vision of being amongst the top five EPC companies in the segments and markets we serve by 2012. Ratio analysis:
Ratios Per share ratios Reported EPS (Rs) Dividend per share Operating profit (Rs crore) Mar ' 08 7.3 0.40 per 17.70 79.57 9.38 4.87 7.37 9.17 12.52 42.27 10.84 2.71 4.88 5.60 40.14 203.67 12.08 2.54 5.58 3.33 108.09 198.31 14.41 0.55 4.83 1.73 109.19 126.90 11.05 4.41 9.65 25.37
Mar ' 07 2.36 0.30
Mar ' 06 6.73 1.00
Mar ' 05 3.35 0.72
Mar ' 04 30.29 2.00
share (Rs) Book value (incl rev res) per share (Rs.) Profitability ratios Gross profit margin (%) Net profit margin (%) Adjusted cash margin (%) Reported return on net
32
worth (%) Leverage ratios Total debt/equity Liquidity ratios Current ratio Quick ratio Inventory turnover ratio Payout ratios Dividend payout ratio (net profit) Dividend payout ratio
0.56 2.32 1.33 3.00
1.38 2.32 1.42 2.51
0.38 2.67 1.37 2.39
1.21 2.60 1.44 4.19
2.58 1.83 1.05 4.56
6.41 4.24
14.88 6.17
16.94 6.31
25.53 2.46
7.45 3.44
(cash profit) Coverage ratios Fin. charges cov.ratio (post tax) Component ratios Material cost component (% earnings) Selling cost Component Exports as percent of total sales
3.96
1.71
1.75
1.38
2.55
36.03 -
26.25 2.91 34.83
32.79 2.70 37.47
26.05 3.22 45.85
27.90 -
• • • • •
Operating profit has gone drastically down from 108crores in 2004 to 17crores in 2008 Reduction in share price. The price has reduced by one third.
The profit margin is lesser as compared with the other companies. Return on net worth reduced and then it is increasing gradually.
Debt by equity ratio is around 0.5. its on company’s decision to increase the debt component or not. As such after certain point the tax shield does not prove beneficial
•
Current ratio and quick ratio is high. Standard current ratio is 1.33 but company has around 2. Even quick ratio should be around 1 but company’s quick ratio is 1.4.So this area should be taken care of..
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•
Problem is with inventory as inventory turnover ratio is half than others. quick movement of stock should be regulated. Other inventory management system can be used to solve this problem.
Valuation:
PUNJLLYOD EPS 20052004-05 3.35 06 6.73 2006-07 2.36 2007-08 7.3
CAGR x
3.35(1+x)^3=7.3 0.2964 x=29.64% 9.46
EPS1
P/E Share price as on 31st March, 2008 P/E P/E value (Projected EPS * current P/E) 311.55 42.68 403.73
Book value per share Current marketprice( market price as on 27th Feb, 2008)
79.57
79.1
1st method 1/3 of P/E value 1/3 of Book value 1/3 of current market price Total 134.58 26.52 26.37 187.47
2nd method 60% of P/E value 10% of book value 30% of price value curent 23.73 273.93 242.24 7.96
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The current price is Rs.79.1 and the intrinsic value as per valuation is Rs. 187.47 so it is better to buy this stock as one can predict that it will reach at Rs. 187.47.
Conclusion: The recent changes due to recession has affected this sector but the faith and trust continues. Evidence of this is , Government is continuously giving contractsEven socio economic conditions are not in shape and for such purpose also government is keen to provide project to this sector. So this sector has got lot of potential in terms of future prospects.
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Limitations of the study: In this report we have used Value Driver Method instead of Discounted Cash Flow Method due its certain limitations. For starters, the DCF model is only as good as its input assumptions. Depending on what you believe about how a company will operate and how the market will unfold, DCF valuations can fluctuate wildly. If your inputs - free cash flow forecasts, discount rates and perpetuity growth rates - are wide of the mark, the fair value generated for the company won't be accurate, and it won't be useful when assessing stock prices.
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DCF works best when there is a high degree of confidence about future cash flows. But things can get tricky when a company's operations lack what analysts call "visibility" - that is, when it's difficult to predict sales and cost trends with much certainty. While forecasting cash flows a few years into the future is hard enough, pushing results into eternity (which is a necessary input) is nearly impossible.
Limitation of using other method: DDM or FCFE method gives a clear picture but here these methods are not used as due to recession the market return is in negative number. With negative number it is not possible to further calculate the cost of capital.
Bibliography: Moneycontrol.com Rediffmoneywiz.com Economictimes.com Businessweek.com “Financial management”-Khan & Jain.
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doc_223602298.doc
The project provides the information about the equity valuation of three Capital goods companies namely ? ? ? BHEL Larsen & Toubro Punj Lloyd
This project will help to decide whether the price of the share is undervalued , fairvalued or undervalued , thus it tells about the intrinsic value of the shares of the three companies. It gives and overview of the indian economy, recent trends in the indian economy, indian capital goods sector. There is a brief descriptiong of all the companies starting with the profile, growth in 2008 Other than valaution , there is ratio analysis done of each companies by calculating the four ratios • • • • Profitabilty ratios Coverage ratios Leverage ratios Liquidity ratios
To conclude it provides with the recommendations whether investing in such companies is advantageous or not.
Table of Contents:
Sr.No. 1 2 3 4 5 6 7 7.1 7.2 7.3 8 8.1 8.2 8.3 9 10 10. 1 10. 2 10. 3 11 12 13 The industrial recession: New or ongoing? Industry scenario Key risks Porters model and SWOT Company Background BHEL SWOT Ratio Valuation Larsen & Toubro SWOT Ratio Valuation Why BHEL over L&T? Punj Lloyd SWOT Ratio Valuation Conclusion Limitation of study Bibliography Chapter Purpose of the study Page No 5 6 10 13 14 17 17 18 20 23 25 25 26 29 30 32 33 34 36 38 39 40
2
PURPOSE OF THE STUDY
Objective: The objective of this project is to find out the intrinsic value of stocks of three companies of capital goods industry. Scope: Three companies namely Larsen and Toubro, Bharat Heavy Electricals Limited (BHEL),Punjlloyd are taken so as to compare their financial position after recession and analyse the effect on the economy and financial market. By using value driver method of valuation the intrinsic value is found which forms the basis of comparison.
Methodology:
DATA COLLECTION The data collection i.e. raw material input for the project has been collected keeping in mind the objectives of the project and accordingly relevant information has been found. The methodology used is descriptive method of research.
1. Three companies based on market capitalization have been selected. 2. Value Driver Model is used to arrive at intrinsic value of share price.
3
The industrial recession: New or ongoing?
Current economic problems in the Indian economy are being presented by the Government as created entirely by the direct and indirect effects of the global financial crisis. Even the industrial slowdown is being blamed on the adverse impact of the global slowdown upon manufacturing exports. But, the industrial slowdown started well before the effects of the external crisis began to be felt in India.
The industrial slowdown is now accepted as fact by most policymakers and observers of the Indian economy. Yet officials and commentators seem to blame it on external factors: most obviously, the global financial crisis originating in the US economy, the consequent economic slowdown and now recession in the US, the European Union and other developed country markets, and the associated impact upon exports. Causes for concern It is certainly true that the bad news from abroad — which shows no signs of easing up — has impacted upon domestic stock markets, investor expectations, and the exporting industries in particular. But it is also unfortunately the case that our own economy has been showing several causes for concern even before that external bad news started pouring in. There was the accelerating inflation, which particularly hit food and other items of essential consumption, and recently exacerbated by the increase in petrol prices. In addition there have been signs of decelerating growth, especially in industrial activity, and these cannot be ascribed only to reduced export orders, but are more likely to have domestic causes.
4
Consider the index of industrial production, presented in Chart 1 (with base year 199394). The general index peaked in March 2008, fell quite sharply thereafter and subsequently has been more or less flat at the lower level. This pattern essentially reflects the behaviour of the manufacturing index, which accounts for around 80 per cent of the weight of the general index. Such a pattern tends to be obscured by the standard way of presenting the industrial growth data, in terms of yearon-year monthly rates.
5
What is especially disconcerting is the evidence on electricity production, which shows hardly any increase at all but simply fluctuations around a flat trend for the past 18 months. Since electricity still remains substantially undersupplied, and its shortage can create supply bottlenecks for other production, this stagnation is worth noting.
Slowdown across sectors
6
The use-based classification of industrial production suggests that the slowdown in growth is spread across several important sectors. Chart 2 provides the evidence on recent trends in production in the basic, capital goods and intermediate industries. Once again, both basic goods and intermediate goods, which have strong backward and forward linkages with other industrial activity, have been stagnant and hardly increased at all over the past one-and-a-half years. The production of capital goods shows much greater volatility, with a sharp increase in March 2008 but decline thereafter from that peak.
Macro mismanagement It is pointless to blame external forces, because none of these processes was necessary within India. There was no need to encourage and then suffer the effects of mobile capital flows that brought in resources that were not even going to be used. Instead, capital inflows could simply have been controlled to prevent upward pressure on the exchange rate. Inflation could have been managed by first recognising the essentially speculative and therefore temporary nature of the global fuel and food price rises, and then addressing the specific management of these sectors within the economy. Unfortunately this previous mismanagement has worse consequences than simply the evident industrial deceleration. It has also weakened the economy even before it faces the full impact of the global recession and the financial turmoil.
7
Industry scenario
Capital goods industry not faring well DESPITE the pride of place accorded to it from the beginning of planned industrial development in the mid-1950s, the domestic capital goods industry is not faring too well due to recession. Export transactions costs are among the highest in the world. High transaction costs also result in inordinate delay in fulfilling export contracts. This leaves the industry almost completely reliant on the domestic market. As a result of the emphasis on broadbased heavy industrialisation from the mid-1950s, the capital goods industry produces a wide range of products; almost all major capital goods are domestically produced.
8
The flip side of this, however, is that the industry lacks depth, because it is unable to reap economies of scale on the basis of the finite domestic market. Even countries with an advanced capital goods sector do not produce the entire range of capital goods, but instead focus on select segments or sub-segments. There is a close correlation between the growth of the capital goods industry (accounting for 9-12 per cent of total value added in manufacturing) and the overall growth of the Indian industry. A related determinant of the demand for capital goods is gross domestic investment, of which the industry accounts for a constant share of 17-21 per cent. On the supply side, the output of capital goods is determined by investments and by capacity utilisation. There is a close interconnection between these two in as much as large investments are necessary to bring available capacity in line with the type of demands made on it. However, investments have in fact declined, with the decline in the relative profitability of the capital goods sector with respect to other sectors. Raw material price indices have risen faster than the price index for machinery produced by this sector. It is difficult for manufacturers to pass on the rise in prices to customers, but some manufacturers have tried to get around this by resorting to value-engineering techniques for efficient raw material usage and cost reduction. While there are a few firms close to the international frontier in terms of product design capability and process technology, technological capabilities of most players are extremely limited. The country has a number of high quality R&D institutions, but industry-institute interactions are few and far between. Indian firms are prevented in achieving high levels of precision due to lack of supporting process technologies, such as precision measuring, material engineering and process control. Even in the numerous cases in which Indian capital goods are functionally at par with equipment made elsewhere in the world, they rank poorly so far as the finish is concerned.
9
Key Risks:
? Labour in the capital goods sector is highly cost competitive, says the PwC study, even after discounting for low labour productivity. However, since labour costs account for only 7-21 per cent of total factor usage, this by itself does not make much of a difference. ? Indian capital goods manufacturers have working capital requirements as high as 45 per cent of net sales (as against a global benchmark of 15 per cent). Meanwhile, interest rates in India are well above.L&T had taken financial assistance from bank at 40% interest as the project that they had to be completed in stipulated time. The CEO had to pledge his shares to the banker so as to take the loan. ? In pre-VAT times, the Indian capital goods sector faced high rates of indirect taxes (excise, octroi, sales tax) compared to taxes faced by capital goods sectors of other countries. The cost disadvantage due to this was as high as 24 per cent in certain cases. ? Meanwhile, zero-duty imports for products like refinery, fertiliser etc puts the domestic capital goods industry at a clear disadvantage. This problem is further accentuated by the import of second-hand machines
India's capital goods sector will contribute around 7.1 percent to the country's gross domestic product (GDP) in fiscal 2008-09, compared with 9 percent a year earlier, the heavy industry minister said on Friday.
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There are only 3 ways to improve the business: increase users, increase usage and find new uses for existing products. Porter’s 5 forces , The first force of the year was inflation which was the bargaining power of the suppliers to raise prices. The customers drive their inventories down and provide cash discounts. The environment was driven by a strengthening rupee and they hedged exports. The inflation came down when the oil prices fell down. So companies started conserving cash. The rupee started weakening and became 50 Rs to the dollar. The need of the hour was to hedge imports. The cost of customer acquisition is high and one is willing to invest money on consumers. The priority shifted to increase the usage of the products instead of increasing consumers.
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Competition (overcome to survive): In 2009, he expects a recession will be forced in India as well and expected unemployment rate to be around 10%. The balance 90% will see a 10-15% reduction in income. The prices of capital goods – home prices, automobiles etc. will all fall. There may be collapses of major companies. If the company is able to efficiently minimize cost then it can survive in this market condition. Threat of new entrant: As such there is no threat of new entrant as this industry requires lot of capital for its operations.
SWOT: Strength: Value-engineering techniques is used reduction. Weakness: This industry is Capital intensive, technology oriented. therefore any change will lead to pooling in lots of money. for efficient raw material usage and cost
Opportunity: Project offers from other countries. Project for defense purpose granted by government. Project available in domestic market.
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Threat: Change in Technology can act as a threat to this industry as it is difficult to purchase costly equipments every now and then and also adapting with newer technology
Value Driver Method:
Equity valuation methods include simple multiples-based approaches, such as that based on P/E ratio, cash-based approaches, such as DDM and DFCFM, and accounting-flowbased approaches such as RIVM and AEGM. A simple multiples-based approach, where multiples are derived from data for comparable firms, is favoured by valuation practitioners. This approach is likely to be attractive because of its relative simplicity. Comparison of different multiples is the main problem for recent empirical research. Multiples used by investment bankers are constructed from one of four value drivers: Book value, net income (EPS), operating cash flow and revenue. However, practitioners do not calculate every possible multiple for every transaction. It is seen that the value driver method delivers superior performance to traditional priceto-book multiple, when the premium multiples are based on earnings or EBITDA, among which forward EPS serves as the best value drivers for the premium multiples. Forward
13
EPS in the premium multiple provides the most additional help the current EPS value anchor. The superiority of forward EPS as the value driver in the premium multiples is largely due to the higher correlation of the value estimates with the observed price. The price-to-forward-earnings multiple, delivers the best performance. The approach is potentially attractive because it retains the relative simplicity of commonly used multiples-based approaches whilst allowing for a greater use of company-specific information than is commonly found in such approaches and greater flexibility with regard to the use of value drivers. The value driver used in this approach is P/E value, book value and current share price. Two methods are used to find the intrinsic value of the share of the company. The two methods are: 1. In the first method equal weights is given to the all three value driver. Intrinsic value = 1/3rd (P/E value) + 1/3rd book value + 1/3rd current share price. P/E multiple = (market price) / (Earning per Share (EPS)) Projected EPS = EPS1 = current EPS (1+g) (where g is compounded annual growth rate) P/E value = projected EPS * P/E multiple 2. In the second method weight given to the value driver are different. Intrinsic value = 60% of P/E value + 10% of book value + 30% of current share price. Margin of safety (safety margin) is the difference between the intrinsic value of a stock and its market price. Rationale for using value driver method: • • • Simple to understand and Easy to calculate delivers superior performance to traditional price-to-book multiple it is more flexible when compared to other methods
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Company Background: BHEL: Bharat Heavy Electricals Limited (BHEL) operates as an engineering and manufacturing enterprise in the energy related/infrastructure sector in India. Its Power sector comprises thermal, nuclear, gas, diesel, and hydro operations. This sector offers power generating sets and auxilaries, such as air pre heaters, boilers, control relay panels, electrostatic precipitators, fabric filters, fans, gas turbines, hydro power plant, piping systems, pulverizers, pumps, seamless steel tubes, soot blowers, steam generators, steam turbines, turbo generators, and valves. The company’s Industry sector provides various products and services relating to transportation, transmission, electric machines, industrial sets and DG sets, telecommunications, and other industrial products and systems. This sector manufactures and supplies capital equipment and systems, such as captive power plants, centrifugal compressors, drive turbines, industrial boilers and auxiliaries, waste heat
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recovery boilers, gas turbines, pumps, heat exchangers, electric machines, valves, heavy castings, and forgings, as well as supplies controls and instrumentation systems primarily distributed digital control systems; X'mas tree valves and well heads; and on-shore drilling rigs, sub-sea well heads, super deep drilling rigs, desert rigs, and heli-rigs. In addition, it offers transmission products and systems, including high-voltage power and distribution transformers, instrument transformers, dry-type transformers, SF6 switchgear, capacitors, and ceramic insulators; traction and traction control equipment, drives and controls, locomotives, diesel shunting locomotives, and battery powered road vehicles; telecom switching equipment based on C-DOT technology; and technologies for exploiting non-conventional and renewable sources of energy, such as photovoltaic cells and modules, solar lanterns, grid-interactive PV power plants, and solar heating systems. BHEL is based in New Delhi, India.
BHEL Competitors Company Alstom SA Crompton Greaves Ltd Entegra Ltd Transformers And Rectifiers (India) Ltd Triveni Engineering & Industries Ltd Opportunities: Recent developments &contracts: As part of its manufacturing capacity expansion programme, Bharat Heavy Electricals Limited (BHEL) is setting up a new manufacturing plant in Tamil Nadu. The new unit is being set up by BHEL at an initial investment of Rs.2,500 Million and the project will be funded through internal accruals.
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To be set up at in Tirumayam in Pudukottai district of Tamil Nadu, the plant is expected to provide direct employment to about 750 persons and indirect employment to nearly 3,000 people. BHEL’s plan to expand its manufacturing capacity from the present 10,000 MW per annum to 20,000 MW by 2011.
2. Once again outbidding Chinese equipment suppliers under International Competitive Bidding (ICB), Bharat Heavy Electricals Limited (BHEL) has won an order for the main plant package at the upcoming Malwa Thermal Power Project (TPP) in Madhya Pradesh, involving two new-rating units of 600 MW each. 3. The growth momentum achieved by BHEL in 2007-08 is likely to be accelerated in the current fiscal. The company has recorded significant growth in its turnover and despite higher provisioning for the impending wage revision, maintained its profitability in the first nine months of 2008-09, as against the corresponding period in the previous year. With an order book position of Rs.1,135,000 Million, at the end of the third quarter, the company expects to achieve robust growth in 2008-09 and beyond.
4. Cumulatively valued at around Rs.70,000 Million, the contracts have been placed on BHEL by NTPC Ltd., NLC Tamil Nadu Power Limited (NTPL) and Mahagenco. All the orders were won by BHEL under ICB, as its offers were found techno-economically the best. The company has earlier supplied equipment to all the three utilities and with these orders, the customers have once again reposed confidence in BHEL's proven technological excellence and capability in executing projects of this magnitude.
NTPL has placed a contract for setting up of the 2x500 MW Tuticorin Thermal Power Project (TPP) in Tamil Nadu. These units will add 24 million units every day to the grid on commissioning.
17
The key equipment for the above contracts will be manufactured at BHEL’s Haridwar, Trichy, Ranipet, Hyderabad, Bangalore, Bhopal and Jhansi Plants. The company’s Power Sector Regions will undertake erection and commissioning of the equipment.
Here after taking into account the bargaining power of the company is high as its client have shown faith in the company and so it has so many contracts to be completed. Looking at the future prospect one can be assured that even though it’s a capital intensive company it has lot of potential and a thing like recession cannot affect much.
Analysis with the help of ratios:
Ratios (Rs crore) Mar Mar ' 08 Per share ratios Reported EPS (Rs) Dividend per share Operating profit per share (Rs) Book value (incl rev res) per share (Rs.) Profitability ratios Gross profit margin (%) Net profit margin (%) Adjusted cash margin (%) Adjusted return on net worth 58.41 15.25 75.75 220.10 98.66 24.50 144.84 359.06 68.6 14.50 90.85 298.31 38.95 8.00 53.25 246.24 26.89 6.00 34.89 215.64 07 ' Mar 06 ' Mar ' 05 Mar 04 '
17.65 13.87 15.41 27.07
19.00 13.51 15.07 27.86
14.71 12.19 11.71
11.25 9.58 9.18 11.53
8.16 7.91 8.71 9.97
18
(%) Reported return on net worth (%) Return on long term funds (%) Leverage ratios Total debt/equity Fixed assets turnover ratio Liquidity ratios Current ratio Current ratio (inc. st loans) Quick ratio Inventory turnover ratio Payout ratios Dividend payout ratio profit) Dividend payout ratio 1.09 3.88 (net 30.54 (cash 28.00 26.04 28.67 26.53 41.56 0.01 4.48 1.38 1.38 27.47 42.84 0.01 4.27 1.43 1.43 1.13 4.64
18.72 22.99 29.35 0.07 3.54 1.53 1.53 1.17 4.15 15.81 21.22 0.08 2.67 1.63 1.63 1.22 3.79 12.46 16.03 0.10 2.33 1.71 1.71 1.28 4.41
24.09 21.02
23.33 18.97
25.20 19.37
profit) Coverage ratios Fin. charges cov.ratio (post tax) Component ratios Selling cost Component Exports as percent of total sales Bonus component in equity
89.04
62.37
33.77
15.40
15.25
1.12 4.80 50.00
1.27 6.31
1.45 5.27
1.89 8.29
1.04 5.83
capital (%)
Ratio Analysis: • In the year 2007, the profit percentage has remained same but in absolute terms it has increased due to which the EPS , Dividend is showing increasing trend till 2007. but in 2008 percentage being some what same the absolute value is less. • Company is able to maintain good cash margin so the problem of liquidity crunch is eliminated.at least the working capital operations can be smooth enough. • The decrease in profit to some extent is due to change in policy of exchange difference on fixed assets resulting in decrease in profit by Rs. 317 crores. On the
19
other hand change in policy relating to recognition of duty draw back resulted in increase in profit by 24.91 crores. • Company has less proportion of debt and so less interest component.Its company’s policy to use reserves and the profit for the operations/activities. • The current ratio in earlier years was more than the standard but gradually it is nearing to 1.33. • Inventory turnover ratio has come down as last year as inventory got accumulated The estimated inventory became more than actually utilized. • Dividend pay out has more or less been constant. Although recession has hit but to retain the shareholders the company has kept the dividend pay out proportion constant. • Company’s financial charges have risen so that is the area of concern. This can be due to the cost involved in issuing bonus shares.(company is noot clear on that) • Exports have gone down. Reason can be concentration on domestic market more and also may be due to change in technology exports declined.
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VALUATION
BHEL EPS 20042003-04 26.89 05 38.95 200506 68.6 2006-07 98.66 2007-08 58.41
CAG R x 26.89(1+x)^4=58.41 21.4 x=21.4% 70.90
EPS1
P/E Share price as on 31st March, 2008 2056.5
21
5 P/E 35.21 2496.3 P/E value (Projected EPS * current P/E) 1
Book value per share Current marketprice( market price as on 27th Feb, 2008)
220.1
1396.3
1st method 1/3 of P/E value 1/3 of Book value 1/3 of current market price Total 832.10 73.37 465.43 1370.9 0
2nd method 60% of P/E value 10% of book value 30% of price value curent 418.89 1938.69 1497.79 22.01
The current market price is Rs. 1396.3 and as per valuation its coming Rs. 1370 so not much of difference exists. Holding this stock can be a better option.
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Larsen and Toubro: The evolution of L&T into the country's largest engineering and construction organization is among the most remarkable success stories in Indian industry.
L&T was founded in Bombay (Mumbai) in 1938 by two Danish engineers, Henning Holck-Larsen and Soren Kristian Toubro. Both of them were strongly committed to developing India's engineering capabilities to meet the demands of industry. Beginning with the import of machinery from Europe, L&T rapidly took on engineering and construction assignments of increasing sophistication. Today, the company sets global engineering benchmarks in terms of scale and complexity. They indulge in operating activities like Operating Divisions such as engineering and construction projects ,heavy engineering ,engineering construction and contracts, electricals and electronics,,machinery and industrial products, information technology and engineering services. Strength: L&T has a strong technological background. L&T is the only private sector company to get defence job. It has proven track record of building turn key projects. It has won projects from steep competition from world leaders in many turn key projects like monorail project. Diversity of business. 23
Weaknesses: Credit crunch due to financial crises has posed lot of challenges in front of the company.
Opportunity: Indo-US nuclear deal will help L&T to get more number of contracts for nuclear projects. Nuclear technology from developed counties like France, US and Russia will come to L&T. Increased defence spending of the government is expected to fetch projects for L&T. L&T is one of the leading bidder for Satyam. This will help L&T to diversify the business leading to stabilization in volatile market. Government spending in infrastructure projects like roads, highways, bridges , green projects, water treatment projects will help L&T to get further orders. L&T has started its ship building business which may fetch more business as there are very few companies in asia in ship building. L&T can also contribute to government’s desire to build huge war ships, in view of GE, US not accepting the orders to make engines for war ships of India. Threat: After acquisition of Satyam, L&T share’s market value may come down. L&T is contemplating decision to separate its business on specialization basis and list them separately on stock exchanges. While this is a good decision from better management point of view, in view of the global financial crisis, it may prove to be bad for some of he businesses of L&T which are recently not doing very well compared to other businesses of L&T.
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Ratio analysis: (Rs Ratios Per share ratios Reported EPS (Rs) Dividend per share Operating profit per share (Rs) Book value (incl rev res) per share (Rs.) Profitability ratios Gross profit margin (%) Net profit margin (%) Adjusted cash margin (%) Reported return on net worth (%) Return on long term funds (%) Leverage ratios Total debt/equity Liquidity ratios Current ratio Current ratio (inc. st loans) Quick ratio Inventory turnover ratio Payout ratios Dividend payout ratio (cash profit) Coverage ratios Fin. charges cov.ratio (post tax) Component ratios Material cost component (% earnings) Selling cost Component Exports as percent of total crore) Mar ' 08 74.35 17.00 110.81 326.76 12.19 8.54 8.78 22.81 28.73 0.37 1.18 1.09 0.86 6.00 Mar ' 07 49.53 13.00 71.77 203.29 10.61 7.74 8.60 24.48 32.59 0.36 1.26 1.16 0.93 6.11 Mar ' 06 73.67 22.00 92.92 336.15 7.91 6.69 6.14 22.05 26.15 0.31 1.36 1.28 1.03 6.95 Mar ' 05 75.72 27.50 77.83 256.24 7.00 7.33 4.91 29.82 24.93 0.55 1.54 1.34 1.12 5.92 Mar ' 04 42.82 80.00 58.92 219.36 6.72 5.33 5.65 19.75 27.61 0.48 1.43 1.20 1.03 5.57
23.96 5.75
26.97 5.72
30.79 4.48
37.95 4.82
36.38 3.26
33.09 1.28 22.67
30.15 1.13 21.36
30.52 1.06 21.50
39.51 1.29 20.22
38.66 1.15 14.18
25
sales Bonus
component
in
equity 53.71 55.44 12.40 13.12 27.41
capital (%)
Ratios: • • Unlike BHEL the 2007 year proved to be at lower side for L&T. Dividend per share is lower as compared to year 2004.The stock prices have become almost one third • Company is able to sustain profit of around 10 %. The cash margin is around 8% which is less . because of this in December the promoter had to keep his shares as pledge to borrow financial assistance from bank at 40%. Loan was taken at such high interest as one of the contract had to be completed within the stipulated period. • Debt / equity ratio is around 0.3. company can take further loans but higher interest rates should be avoided. Now as government has reduced the interest rates ,they can take loan and take benefit of tax shield. • • Current ratio and quick ratio are as per standard. Inventory turnover is better than the other company . This shows that their estimation about stocking inventory is precise and they are able to convert inventory into finished goods early than the other companies. • Company is adopting a conservative approach towards profits. Dividend payout is reduced over the years and retention ratio has increased. • Bonus shares were declared in year 2007 and 2008.
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Valuation LNT EPS 20042003-2004 42.82 2005 75.72 20052006 73.67 2006-2007 49.53 20072008 74.35
CAGR 42.82(1+X)^4=74.35 14.79% projected EPS P/E
85.34 40.68
Share price as on 31st march 2008 CURRENT MKT PRICE P/E Projected EPS* CURRENT P/E BOOK VALUE 1st method 1/3 of P/E value 1/3 of Book value 1/3 of current market price Total 1157.21 108.66 203.8167 1469.687 3024.8 611.45
3471.631 325.98 2nd method 60% of P/E value 10% of book value 30% of curent price value 2082.979 32.598 183.435 2299.012
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The current market price is Rs. 611.45 and the valuation is coming to rs. 1469.68 so this stock should be bought. The companies are selected on the basis of market capitalization L&T 52 week high: Rs 1700 52 week low: Rs 576 Market cap: Rs 34300 crore Loss YTD: Down from Rs 45480 crore to Rs 34300 crore – down 24% L&T has seen PE collapse in a year’s time. It was trading at 31 times FY09 earnings to 14 times from 23 times FY10 earnings to 13 times. BHEL 52 week low: Rs 984 52 week high: Rs 2235 Market cap: Rs 67211 cr BHEL is in the most convincing buy list of analysts. BHEL has a better P/E holding than L&T. It’s PE has fallen from 30 times to 21 times FY09 earnings. PE has fallen from 22 times to 15 time FY10 earnings Why BHEL over L&T? L&T has order book problems. It has got a 63% of order backlog from private sector. It is vulnerable to project delays. Its E&C exports order backlog fell to Rs 98 billion from Rs 105 billion at Q2 FY09 end. The company bagged orders worth Rs 2600 crore last week including one from Gulf Electical and Machinery and industrial products showing signs of strain.
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L&T has maintained FY09 30% guidance and also held back comments on FY10. L&T’s intention on Satyam is still a concern. BHEL better off? BHEL has got a order backlog of Rs1136 billion and provides extremely strong visibility to earnings over the next 2-3 years.
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PUNJ Lloyd:
The Punj Lloyd Group is a US $ 2 billion diversified global conglomerate providing Engineering & Construction in Oil & Gas, Infrastructure and Petrochemicals, and with interests in Defence, Aviation, Marine and Upstream sectors.
Punj Lloyd is one of the largest engineering construction companies in India. It provides integrated design, engineering, procurement, construction and project management services for (a) energy industry (onshore and offshore pipelines, gas gathering systems, oil and gas tanks and terminals including cryogenic LNG and LPG storage terminals, process facilities in the oil and gas industry including refineries for power plant projects); and (b) infrastructure sector projects (highways, flyovers, bridges and elevated rail roads). Other services include comprehensive plant and facility maintenance and management. Punj Lloyd has also executed small orders for laying optic fibers for the telecom sector. The company's operations are spread across the Middle East, the Caspian, Asia Pacific, Africa and South Asia with 12 project and marketing offices and 13 subsidiaries. With over 20 years of experience in construction projects Punj Lloyd has erected more than 5,300 kilometers of pipelines and four million cubic meters of tanks and terminal capacity and has executed 11 refinery modernisation and quality improvement projects. In FY 2005, it sold its equity in an annuity-based NHAI project and also earned bonus for early completion of the project.
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Strengths: 1. Punj Lloyd is one of the few Indian construction players to own a large fleet of sophisticated construction equipment. 2. Projects under the higher-margin driven energy segment (40% of the order book), its area of specialisation, have relatively shorter completion period of 8-15 months as compared to two-three years of road projects (60% of the order book), where the margin is lower. 3. More than 180 projects executed in over 12 countries. This is the highest in the Indian construction industry. 4. Worked on projects for leaders in the energy industry in India and abroad and has got repeat orders despite increased competition with 58% of the order book comprising export orders. Moreover, has presence in all areas of oil and gas project management. Thus, the geographical spread has no concentration in a single region or country and non-dependence on single project is a major positive. 5. Successful execution of projects in different parts of the world adds to knowledge of working in different terrain and cultures. Additionally, its experience in the segment gives it a better chance at the pre-qualification stage. It is one of the few companies to have laid pipelines, including those with a 48-inch diameter, in shallow water and swampy or marshy terrain. 6. The recent discovery of large oil and gas reserves in the world (including India) is expected to increase the demand for pipelines, storage tanks, terminals and process facilities in the oil and gas industry. The national pipeline grid by Gail, the east-west pipeline by Reliance Industries and the increasing capital investment by major players in the energy industry in India are expected to further fuel this growth. Moreover, the increased thrust by the Indian government on increased and better infrastructure involving speedy procedures and new public-private partnership models augur well.
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Weaknesses: The prominent weakness or a negative point is that of recession which has hit all the giants in this sector. Apart from recession the following are the weaknesses: 1. Punj Lloyd has performed substantial projects on a lump sum or fixed price. The actual expense for executing a lump sum or a fixed-price contract (mainly in the infrastructure projects) may increase substantially on account of unanticipated increases in input cost and delays in execution of projects. In FY 2005, the operating profit margin (OPM) slipped sharply due to the lower margin in annuity-based NHAI projects due to increased steel and cement costs. 2. Since 58% of the consolidated sales comes from projects outside India , there is risk arising from foreign exchange fluctuation as well as normal legal and political risks associated with operating in foreign countries.
Our international workforce of over 15,000 staff strives to attain the group’s vision of being amongst the top five EPC companies in the segments and markets we serve by 2012. Ratio analysis:
Ratios Per share ratios Reported EPS (Rs) Dividend per share Operating profit (Rs crore) Mar ' 08 7.3 0.40 per 17.70 79.57 9.38 4.87 7.37 9.17 12.52 42.27 10.84 2.71 4.88 5.60 40.14 203.67 12.08 2.54 5.58 3.33 108.09 198.31 14.41 0.55 4.83 1.73 109.19 126.90 11.05 4.41 9.65 25.37
Mar ' 07 2.36 0.30
Mar ' 06 6.73 1.00
Mar ' 05 3.35 0.72
Mar ' 04 30.29 2.00
share (Rs) Book value (incl rev res) per share (Rs.) Profitability ratios Gross profit margin (%) Net profit margin (%) Adjusted cash margin (%) Reported return on net
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worth (%) Leverage ratios Total debt/equity Liquidity ratios Current ratio Quick ratio Inventory turnover ratio Payout ratios Dividend payout ratio (net profit) Dividend payout ratio
0.56 2.32 1.33 3.00
1.38 2.32 1.42 2.51
0.38 2.67 1.37 2.39
1.21 2.60 1.44 4.19
2.58 1.83 1.05 4.56
6.41 4.24
14.88 6.17
16.94 6.31
25.53 2.46
7.45 3.44
(cash profit) Coverage ratios Fin. charges cov.ratio (post tax) Component ratios Material cost component (% earnings) Selling cost Component Exports as percent of total sales
3.96
1.71
1.75
1.38
2.55
36.03 -
26.25 2.91 34.83
32.79 2.70 37.47
26.05 3.22 45.85
27.90 -
• • • • •
Operating profit has gone drastically down from 108crores in 2004 to 17crores in 2008 Reduction in share price. The price has reduced by one third.
The profit margin is lesser as compared with the other companies. Return on net worth reduced and then it is increasing gradually.
Debt by equity ratio is around 0.5. its on company’s decision to increase the debt component or not. As such after certain point the tax shield does not prove beneficial
•
Current ratio and quick ratio is high. Standard current ratio is 1.33 but company has around 2. Even quick ratio should be around 1 but company’s quick ratio is 1.4.So this area should be taken care of..
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•
Problem is with inventory as inventory turnover ratio is half than others. quick movement of stock should be regulated. Other inventory management system can be used to solve this problem.
Valuation:
PUNJLLYOD EPS 20052004-05 3.35 06 6.73 2006-07 2.36 2007-08 7.3
CAGR x
3.35(1+x)^3=7.3 0.2964 x=29.64% 9.46
EPS1
P/E Share price as on 31st March, 2008 P/E P/E value (Projected EPS * current P/E) 311.55 42.68 403.73
Book value per share Current marketprice( market price as on 27th Feb, 2008)
79.57
79.1
1st method 1/3 of P/E value 1/3 of Book value 1/3 of current market price Total 134.58 26.52 26.37 187.47
2nd method 60% of P/E value 10% of book value 30% of price value curent 23.73 273.93 242.24 7.96
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The current price is Rs.79.1 and the intrinsic value as per valuation is Rs. 187.47 so it is better to buy this stock as one can predict that it will reach at Rs. 187.47.
Conclusion: The recent changes due to recession has affected this sector but the faith and trust continues. Evidence of this is , Government is continuously giving contractsEven socio economic conditions are not in shape and for such purpose also government is keen to provide project to this sector. So this sector has got lot of potential in terms of future prospects.
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Limitations of the study: In this report we have used Value Driver Method instead of Discounted Cash Flow Method due its certain limitations. For starters, the DCF model is only as good as its input assumptions. Depending on what you believe about how a company will operate and how the market will unfold, DCF valuations can fluctuate wildly. If your inputs - free cash flow forecasts, discount rates and perpetuity growth rates - are wide of the mark, the fair value generated for the company won't be accurate, and it won't be useful when assessing stock prices.
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DCF works best when there is a high degree of confidence about future cash flows. But things can get tricky when a company's operations lack what analysts call "visibility" - that is, when it's difficult to predict sales and cost trends with much certainty. While forecasting cash flows a few years into the future is hard enough, pushing results into eternity (which is a necessary input) is nearly impossible.
Limitation of using other method: DDM or FCFE method gives a clear picture but here these methods are not used as due to recession the market return is in negative number. With negative number it is not possible to further calculate the cost of capital.
Bibliography: Moneycontrol.com Rediffmoneywiz.com Economictimes.com Businessweek.com “Financial management”-Khan & Jain.
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