In FY10, the combined net sales of the three major transmission line companies - KEC International (KEC), Jyoti Structures (JSL)and Kalpataru Power Transmission (KPTL) - rose 21 per cent y-o-y to Rs 8,493.5 crore, higher than 19 per cent reported in FY09, thanks to their robust order backlog, good revenue visibility of about 2 years and better execution.
Higher growth amongst these companies was led by KPTL, which reported 38 per cent y-o-y growth in revenues during 209-10, helped also by robust growth in its other businesses such as real estate, biomass energy and infrastructure, while largest player KEC recorded lowest y-o-y growth of 13 per cent due to relatively higher exposure to flattish international markets. JSL witnessed 17 per cent rise in sales.
Increasing competition from domestic as well international players led to flat profitability as companies could not pass on rising costs. Aggregate operating profit margin inched up by just 83 basis points to around 11 per cent in FY10 as operating profit grew 31 per cent y-o-y to Rs 930.5 crore.
While raw material prices remained benign as their contribution to net sales declined for all three by an average of 800 basis points to about 52 per cent, it was the erection and sub-contracting charges, which shot up substantially by an average 715 basis points to 22.5 per cent of sales in FY10 as compared to the previous financial year.
However, analysts believe both—raw materials and erection charges - have to be looked at in combination as in some quarters there is work of constructing towers for which companies have to buy components and in some quarters they have to just do the erection job which includes more of labour and less of material. The combination of raw material and erection charges has gone up by 19.5 per cent at Rs 6,376 crore—almost flat at 75 per cent to sales.
Net profit margin on an average basis jumped 97 basis points to 5.1 per cent in FY10 as benign interest and depreciation as a percentage to sales at around 3 per cent and 0.7 per cent, respectively helped to some extent.
The y-o-y order book growth, however, was flat at 6.4 per cent to Rs 14,650 crore in FY10 as challenging international scenario and subdued activity by Power Grid Corporation of India (PGCIL) and State Electricity Boards (SEBs), biggest Indian customers of transmission line companies, kept order inflows volatile.
Going ahead, analysts are bullish on the potential of order inflows especially from the domestic market (courtesy PGCIL) flowing to these companies. PGCIL is yet to spend 54 per cent of the overall targeted capex of Rs 55,000 crore in the Eleventh Plan (FY07-FY12). Another 65000 crore is going to be spent by SEBs in the 11th Plan, estimate analysts.
However, they worry that competition is heating up in the sector with domestic players like Gammon and to some extent Larsen and Toubro and new Korean and Spanish companies. Due to global financial crisis, which affected international order flows in the past few quarters, companies like KEC International and Kalpataru have been reducing their international exposure now at 30-50 per cent of its order book. In a nut shell, there are few buyers and many service providers putting pressure on margins.
These companies have under-performed the broader market in last one year, thanks to challenging scenario of the sector—both in domestic and international market. At their current market prices, the three major companies trade at an average valuation of 12.4 times and 10.6 times price to estimated earnings for FY11 and FY12, respectively.
Analysts find this cheap and recommend buying JSL and KEC. JSL, which is predominantly domestic driven with 90 per cent contribution in the order book trades at 9 times FY12 earnings and KEC, which is largest player in the sector and a part of the well-known RPG group, trades at an even attractive valuation of 9.4 times FY12 earnings. Analysts have a HOLD recommendation on KPTL as it is trading at premium valuations of 13 times for the same period.