Analyst Corner: Downgrade VA Tech Wabag to ‘reduce’ from ‘hold’

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September 18, 2020 2:30 AM

Higher mix of O&M orders in order book does not aid near-term growth, O&M orders’ proportion in the overall book has grown from 10% in FY19 to 30% as of Jun’20.

Hence, the company has come out with a proposal to further raise Rs 2.8bn.Hence, the company has come out with a proposal to further raise Rs 2.8bn.

VA Tech Wabag has taken 13.7% dilution, valuing the company at a market cap of Rs 8.7 bn, which we believe is at a substantial discount. The company was rather compelled to take this step given the cashflow stress and liquidity requirement to resume large orders like Namami Ganga etc. Strong orderbook of Rs 111bn (4.4x TTM sales) lends visibility; however, 30% of orderbook is O&M which restricts near-to medium-term growth. Balance sheet stress continues to drag the overall liquidity and we believe this may lead to more fundraising.

Hence, the company has come out with a proposal to further raise Rs 2.8bn. Factoring in the commencement of Namami Ganga and gradual easing out of the lockdown, we raise earnings by 21.5% and 39% for FY21E and FY22E, respectively, and downgrade the stock to REDUCE from HOLD with a revised target price of Rs 185 (previously: Rs 121).

Higher mix of O&M orders in order book does not aid near-term growth, O&M orders’ proportion in the overall book has grown from 10% in FY19 to 30% as of Jun’20. Ghaziabad and Agra O&M projects are expected to contribute Rs 1.4bn to revenues from FY21 onwards. Given their richer margin profile, the company is targeting 25% of overall revenues from the segment in near future. However, this doesn’t aid in near-term growth.

Delay in APGenco/TSGenco collection continues: Although trade receivables have come down slightly to Rs 13bn in Jun’20 from Rs 13.5bn in Mar’20, status on Rs 4.1bn worth of receivables from APGenco/TSGenco and Rs695mn from Tecpro remains unchanged. These attribute to 30% of overall receivables. Overall, the company has provided Rs 1.5bn in provisions for genco projects till now (~Rs 550m in FY20). We believe this will continue to drag the overall operational margin in the near term.

Fundraising provides liquidity; however, discount in valuation fails to cheer, The Rs 1.2bn worth of fund raising form marquee investor reduces the risk of further elevation in debt levels and thus, reduces the impact on growth from increased interest expense. While net debt remained largely flat from Mar’20 at Rs 1.8bn, gross debt reduced by Rs 540mn in Q1FY21. However, the discount in valuation and risk of further fund raising will be an overhang on the stock.

Downgrade to REDUCE due to balance sheet stress, Covid-19 related slowdown is likely to impact the execution and order intake in the near term. However, availability of funds raised will aid in execution of strong orderbook of Rs 111bn (4.4X TTM sales), supporting the overall earnings growth. Factoring the same, we raise the target P/E multiple to 10x from 8x and raise earnings by 21.5% and 39% for FY21E and FY22E, respectively. Given working capital stretch from slow collections, and high equity dilution at 13.7%, we downgrade the stock to REDUCE from HOLD rating with a revised target price of Rs 185 (previously: Rs 121).

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