Maintaining a steady course
We attended the annual analyst meet of Bharat Electronics (BEL). The broad contours of the revenue guidance are maintained, while the confidence on margins has been caveated with a conditional margin guidance. Akash missile orderflow will perhaps propel FY20E order inflow to Rs130-150bn, despite the current uncertainty to the extent of India's defence spend in the medium term. We maintain BUY on BEL.
* Conditional margin guidance.
For the first time, we have seen the management giving a conditional margin guidance. The expected margins can be ~20-21% if revenue growth guidance of 12-15% is met. If the revenue guidance is not met, margins may fall to 17-19%. The company appeared quite comfortable in meeting Rs130bn of revenue target for FY20E.
* Akash order value doesn’t herald any major margin risk.
Not only the scope of the order is significantly reduced from the original order scope of Rs75bn (i.e removal of Banshee targets), the management does not see any scope of margin suppression vis-a-vis the earlier Akash project (i.e 10-15% at EBITDA level). Management has been extra cautious in dealing with civil constructions related to Akash project with zero date negotiated to be the date of handover of the project sites by IAF. The order will see execution from FY21E and will be completed in three years. FY21E will probably see an execution of Rs10bn.
* Significant traction seen in AMC revenue. Management expects AMC revenue to increase from 10% of topline currently to 25% of the topline in the next five years. Projects are increasingly becoming complex and are accompanied by AMC contracts (IAF orders taking the lead here).
* Smart city and homeland security solution projects ramping-up nicely.
Management again did not appear too concerned about the margin implications of these projects. The homeland security solutions project starting from IAF base at Pathankot (to be started soon) will spread to 23 such bases over a period of six months. Both Agra smart city and Belgavi smart city projects are running well -- the scope of work of BEL extends to police controller (CCTV and traffic) and the rest to the state smart city agencies (water, garbage disposal and other urban planning).
* Opening of Shakti phase-III can lead to further orders.
Shakti is the main subsystem of Tactical Command Control & Communication Intelligence (Tac C3I) system being deployed by army. The components that go into Shakti are enhanced tactical computer, handheld computer, gun display unit, all of which are interconnected through tactical radio network, land lines or fibre optic cable. PhaseIII brings improved mark IV computers which can lead to potential future orders of upgrading the computers of Shakti phase-I and II as well.
* FY20E employee cost to increase 5-6% YoY despite an elevated Q1FY20,
which mainly felt the impact of leave encashment and other actuarial measures.
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