1. Bharat Electronics: Credit Suisse rates stock as ‘Outperform’; here’s what makes it a good pick

Bharat Electronics: Credit Suisse rates stock as ‘Outperform’; here’s what makes it a good pick

Steady growth visibility and reasonable valuations make the stock a good pick; expect 15/14% revenue/earnings growth

By: | New Delhi | Updated: January 14, 2017 7:59 AM
India is one of the largest arms buyers, with a high degree of dependence on imported equipment. India is one of the largest arms buyers, with a high degree of dependence on imported equipment.

We initiate coverage on BEL with an Outperform rating and target price of R1,800 based on steady growth visibility and reasonable valuations. We expect 15%/14% revenue/earnings growth on the backlog of R350 bn and strong inflows.

India is one of the largest arms buyers, with a high import dependence. BEL is the key beneficiary of extant spending and a focus on increasing indigenisation. The private sector is also vying for business but is facing issues of trust, limited actual investments, and thus facilities, long-term commitment and long gestation. BEL has broad-spectrum horizontal capabilities in electronics, communications and software, and has emerged as a large system integrator as well.

We expect an average order inflow run rate of R135 billion p.a. during FY17-19E (backlog of R350 billion at H1 FY17-end) to drive growth on the back of a large opportunity basket. BEL has ~nil Wcap, RoE of ~20% and generates strong cash flows. Valuations look reasonable at 16x FY19E P/E in the context of global defence and Indian cap goods peers. Key risks: (i) execution, (ii) technology, (iii) pay hikes, and (iv) project-specific profitability.

Largest arms buyer; changing tack

India is one of the largest arms buyers, with a high degree of dependence on imported equipment. BEL stands out as a key beneficiary of extant spending and a focus on increasing indigenisation. We expect BEL to see 15%/14% revenue/earnings growth.

BEL benefits from dominant sector presence

Bharat Electronics has broad-spectrum horizontal capabilities in electronics, communications and software that cut across many verticals. BEL has emerged as a large system integrator with projects such as the Akash Missile. BEL has the advantages of a strong knowledge base, manufacturing and test facilities and R&D spend (10% of revenue; R7 billion). BEL benefits from the R&D efforts of DRDO (budget of ~R150 billion). BEL is a preferred partner and has JVs with many global defence majors.

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Strong growth, returns and cash generation visibility

We expect an order inflow run rate of R135 billion p.a. on average during FY17-19E on top of a backlog of R350 billion as at the end of H1 FY17. Growth could accelerate further as BEL is a frontrunner in several large opportunities, such as battlefield management systems and tactical communications systems. BEL has been able to manage an efficient business so far with an RoE of 20%. Revenue growth has accelerated post the slow growth period of FY11-14, and we expect this acceleration to strengthen further on the back of recent inflows.

Initiate with Outperform; reasonable valuation

We rate BEL as Outperform with TP of R1,800 (20X Mar-19e EPS) based on steady growth visibility (14% earnings CAGR over FY16-19e) and reasonable valuations (16x FY19e P/E for strong RoE of ~20%, strong cash generation and long-term growth visibility).

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