BHEL’s 2QFY18 results came in well below expectations with a reported EBITDA loss. Company would have reported a loss if not for the 98% y-o-y rise in other income to Rs 6 billion. Other expenses rose 36% y-o-y (ex of Rs 2.5 billion wage revision expense) on a 4% y-o-y revenue decline. Management indicated there is no one-off expense in the same. Given no visibility on material reduction in debtors or market pie expansion, we maintain Underperform. Giving benefit of revenue recovery due to Yadadri BHEL’s revenues declined 4% y-o-y to Rs 63 billion v/s expectations of a 7% y-o-y rise. Management didn’t really highlight GST implementation as a reason for revenue deferment, but discussed general revenue recognition milestones impacting the same. In October, 2017, BHEL announced that execution has begun on the Rs 204 billion, 5×800 MW, Yadadri project from the Telangana government. We have assumed revenue recovery is driven by execution on this earlier slow-moving project and maintain our FY18E-19E estimates for now.
Order book down 6% y-o-y BHEL’s order flow declined 6% y-o-y to Rs 19 billion, with limited orders from export markets. Management maintained that the industry pipeline is around 10 GW, and the company is L-1 on orders to the tune of Rs 260 billion. This mainly includes NTPC’s 2400 MW Patratu plant, 660 MW Panki plant and 660 MW Bhusawal plant. These orders are needed to meet our annual expectations of Rs 353 billion. Order book declined y-o-y, which does raise concerns on medium-term revenue visibility.
Gross margin improvement offset by other expenses Gross margins rose 260 bps y-o-y in FY17 to 40.5%. 2QFY18 is 38.9%, with management highlighting it is likely to stabilise at these levels. However, sharp 36% y-o-y rise in other expenses is offsetting this impact at the EBITDA level. We have 50-100 bps y-o-y gross margin improvement in FY18E and FY19E.
We do not expect a material upside to this from current levels. However, if other expenses is not contained in 2HFY18E, it could lead to downside risk to our estimates in FY18E-19E. Valuation/Risks We believe BHEL’s business model remains flawed as overcapacity will mean sub-10% medium-term ROE. Maintain Underperform, with a DCF based TP of Rs 67. Upside risks: 1) BHEL cutting fixed costs aggressively; and 2) pricing improves.