BHEL's Q4FY18 results (Upgrade to Neutral) - Robust order wins improve growth visibility

Q4FY18 result highlights

• BHEL’s Q4FY18 PAT grew 112%yoy to Rs4.6bn but was below estimate of Rs6.9bn due to higher deferred tax provision.
• Revenue (on comparable basis) declined 1%yoy to Rs101bn (est: Rs106bn) due to carry forward impact of lower opening order backlog and lower share of executable orders. With a robust order inflow of Rs252bn/Rs409bn in Q4FY18/FY18, order backlog grew 12.3% to Rs1.2 trn. Also, with strong incremental order flows and some large orders moving into execution mode, share of executable orders has increased to 84% (Rs986bn) from 62% (Rs657bn) in March 2017.     
• Gross margin jumped 590bp yoy and 750bp qoq to 49.5% led mainly by a better revenue mix during the quarter as also cost reduction initiatives and higher domestic sourcing. BHEL has, however, guided for a likely increase in RM costs from the FY18 level of 56% of revenue due to increase in commodity costs and higher share of EPC orders in the mix (more bought-out items vis-à-vis own manufactured items). Staff costs grew 73.4%yoy to Rs18.8bn due to wage increase provisions (likely moved from 9mFY18 other expenses and reclassified under staff costs). BHEL has guided for an increase of upto Rs5bn in FY18 staff costs of Rs60.3bn. Other expenses declined 32.2%yoy to Rs19.1bn and include impact of Fx MTM gain of Rs1.9bn. EBITDA grew 117%yoy to Rs12.3bn (est: Rs10.7bn) and EBTIDA margin grew 660bp yoy to 12.1% (est: 10.1%).
• Effective tax rate increased to 60% from 19.7% in Q4FY17 due to de-recognition of previous period deferred tax assets.
• BHEL is favourably placed in orders worth Rs160bn and has a further tender pipeline of 10-11GW.  

Key positives: Improvement in gross margins and strong order wins.

Key negatives: Higher employee costs and higher effective tax rate.

Impact on financials: Downgrade of 20.2% in FY19E EPS due to lower other income and higher effective rate (2.7% upgrade in FY20E EPS).

Valuations & view

BHEL’s robust order inflow of Rs409bn in FY18 and improved share of executable orders has enhanced revenue and earnings visibility for FY20. While the outlook for investments in new coal based power capacity still remains challenging due to low utilization (~61%) of the installed capacity base, BHEL’s market share gains and diversification efforts have led to steady order wins for the company. Post the 7%/10.7% correction in the stock in the last 3/6 months, valuations are reasonable at 18.7x FY20E earnings and 0.9x P/B and restrict further downside. We upgrade our recommendation in the stock from Underperformer to Neutral with a revised target price of Rs90 (20x FY20E earnings).