BHEL : Should You Invest?

The state-owned insurance company Life Insurance Corporation of India (LIC) recently bought about 4.66% stake in Bharat Heavy Electricals (BHEL) worth of Rs 1889 crore through a block deal (a trade, with a minimum quantity of 5,00,000 shares or minimum value of Rs 5 crore executed through a single transaction on separate window of the stock exchange). BHEL's shareholding pattern as of 31st December 2013 showed 6.03% holding in LIC. LIC increased its holding to this level from 5.78 % as of 30th June 2013. Hence retail investors definitely want to know what they should do with this stock in coming future. Here's the insight of BHEL and strategy that retail investors should apply.

The engineering sector was one of the important growth drivers for the Indian economy during the good days of economic growth from 2003-2009. However, this sector is witnessing a slowdown from last few years due to continuing economic slowdown.

BHEL is the largest engineering and equipment manufacturing ‘Maharatna’ company, where 67.72% of its shareholding is with President of India. The company is currently going through a bad phase, as the power sector which is its major revenue contributor (70%) is experiencing sluggish demand. There has been de-acceleration in the new capacity addition and it also faces delay in the present ongoing projects across the power sector.

Interestingly, if we look at its peer companies like Thermax, BGR Energy System, L&T, Alstom India, Siemens, Crompton Greaves and Cummins India, which also has a considerable exposure to the power sector, there has been some capital appreciation in the stock prices. However, as far as BHEL is considered its stock has showed contraction in last few quarters. BHEL's stock has declined by 17% in one year period and has dropped by 88% in past 5 years.

Surprisingly to this, the order book of the company has showed steady build up over the same period. As of Q3FY14 the outstanding order book position was worth Rs 100600 crore in the past few quarters. On margins front, BHEL's Trailing Twelve Month (TTM) operating and net margin (14.87% and 11% respectively), stands higher among its peers. Further to TTM price to earning multiple (PE), BHEL is trading at one of the lowest PE of 8x (EPS of Rs 19.8) among its peers. The book value per share of the company is Rs 124 against its present stock price of Rs 167 (as of 5th March 2014).

BHEL's fundamentals are looking attractive on both financial performance and valuation front. The company also has a better margin levels as compared to its peers. However, the present situation over capital goods industry is bad and the industry is facing sustained pricing pressure across Boiler Turbine Generator segment (BTG), eating up industry's profitability. Furthermore, the PSU companies are not in a good state at present market situation. Also, this industry is predominantly facing a strong competition from low cost Chinese Engineering Equipment manufacturers and the delay in receivables from its debtors. BHEL is also facing high total receivables outstanding which stood at Rs 29760 crore as on Q2FY14.

Considering above mentioned factors some of the concerns over capital goods industry, especially BTG segment, we expect some more pain persists for BHEL despite of 88% value erosion in its stock price over last five years. We opine the retail investors not to go for this counter until some improvement is seen, despite of considerable stake hike in BHEL by the insurance behemoth LIC.