BSE: Cap Goods Cos may be Ripe for Bargain-hunting

While several cos are at their early 2007 levels, some are cheaper than what they were in Mar '06

    Stocks of top capital goods companies have slumped to their lowest valuations in five years with a slowdown in growth marked by lack of big-ticket orders and execution delays. Nevertheless, the sector could be one of the most attractive ones for investors. Some of the biggest capital goods firms such as the state-run BHEL, Crompton Greaves, KE International, Thermax and Elecon Engineering are quoting at a price-earnings multiple, or P/E, which is nearly half their average P/E of the past five years. The P/E ratio is a measure of the ratio of a company's current share price compared to its earnings per share (EPS). A higher P/E implies that investors are expecting higher earnings growth in the future. Other biggies in the capital goods sector such as Siemens, L&T, Greaves Cotton, Cummins India and BEL are also trading at P/Es marginally lower than their fiveyear average. With share prices of most of these companies having plummeted by double digits since the beginning of FY11, it could be a bargain hunt for investors, considering the level at which these stocks were trading in early 2007 or even at 2008-09 levels. ABB India, however, is an exception. Despite negative sales growth and extremely poor margins, the stock trades at a P/E of over 140, which is extremely overstretched. 

Although capital goods companies were hit after the sub-prime crisis in 2008, they rebounded during the market rally of 2009 with the BSE Capital Goods index, clocking a return of close to 118% compared to 81% for the Sensex in FY10. This astounding run-up rendered many of these capital goods companies, across m-cap, fairly expensive, stretching their valuations by the end of March '10 compared to a year ago. Subsequent corrections, however, have meant that many of these companies are now cheaper than even their March '06 valuations. 
Slow topline growth in the absence of sizeable fresh orders and execution delays due to macro-economic bottlenecks - has impacted companies in this sector. The two-year CAGR sales growth of companies such as ABB, Siemens and BEML has been negative while that of Crompton Greaves and Cummins India has been in single digits. Even L&T has seen its pace of growth slow down considerably since March '09. A sticky growth in the topline along with rising commodity prices has also dented the operating margins of these companies. The status of order book is another concern. Although the current order backlog gives most of these companies revenue visibility for more than a year, the absence of sizeable chunk of fresh order intakes will hit thesector. 
While more orders, especially in the power segment, from NTPC and other state electricity boards, are expected in the second half of FY12, given the contraction in current order book positions and the limited number of upcoming orders, competition and bidding is likely to be intense. This could well squeeze margins, a factor which investors have to keep in mind. 
bakul.chugan@timesgroup.com