Crompton Greaves - Cut to Add - Avendus

Growth prospects improving amidst volatile margins

The nascent recovery in EBIT margins in CRG's overseas power business reversed in 3QFY12, implying an increase in volatility in nearterm earnings. However, revenue growth has improved and strong inflows imply a potential for further recovery in the business; this continues to support the case for margin recovery going forward. However, we tone down our margin improvement forecast, taking cues from the lack of definite guidance on margins and the potential for further material cost impact on legacy orders. Accordingly, our revenue forecast over FY12‐FY14 is raised by up to 19%, but the EPS forecast is lowered by up to 26%. We roll over our TP to Dec12 and cut it to INR159 based on 14x target P/E. We downgrade the rating on the stock to Add.

Revenue growth and inflows strengthen, margins weaken sequentially

Domestic power segment revenue picked up sharply to 30%; we believe it was aided by spillover of revenue from earlier quarters. Overseas revenue reported a 41% y‐o‐y increase, but on currency‐adjusted basis, was up just 4% sequentially. Margins across domestic segments continued their downward slide. The overseas business returned to losses at the EBIT level, after recovering in 2QFY12; EBIT was down 446‐bp q‐o‐q. Management attributed the 300‐bp decline in margins to the commodity price hit as it had hedged the commodity price exposure at higher prices in previous quarters. Order inflows improved sequentially by 50% and were up 16% in 9MFY12.

Tone down margin improvement forecast; cut FY14f EPS by 19%

We have increased our revenue estimates over FY12f‐FY14f by up to 19%, taking into account higher 9MFY12 growth on buoyant order inflows. We cut our margin forecast on the back of declining domestic and volatile overseas margins. We continue to assume y‐o‐y improvement in margins; however, taking into account the challenging macro environment and recent volatility, we turn more conservative on the quantum of improvement. The lack of definite management guidance makes it more difficult to forecast steady‐state margins in the business. Our FY13/FY14 EPS forecasts are cut by 15%/19%.

Cut to Add, TP to INR159; earnings likely to swing sharply on margins

We cut the one‐year forward target P/E to 14x (from 15x), implying the current c20% discount to Larsen and Toubro's (LT IN, Add) target P/E continues. We roll over our target to Dec12 and cut it to INR159 (from INR193). With an upside of 11% to our target, we downgrade the rating on the stock to Add. The overseas business' PAT contribution is forecast to swing sharply - from a loss of INR954mn in FY12f to PAT of INR829mn in FY14f. The risks to the overseas PAT forecast remain high on account of uncertainty in the Eurozone area. However, the domestic business is on more firm footing and, with the bulk of its earnings contribution, supports our target P/E based on the forecast CAGR of 11% in revenue and 15% in PAT over FY13f‐FY14f. Volatile commodity prices and a challenging macro environment are the key risks.

Source : Equity Bulls

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