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Operating losses continue as the recovery prolongs

Working capital remains at elevated levels

* BHEL reported another loss making 2QFY22. While revenue stood ~10% above our expectation, lack of operating leverage led to losses at the operating level. It reported a net loss of INR675m, below our expected loss of INR2.3b, owing to lower other expenses (reversal of provisions ~INR1.8b) and revaluation of depreciation charges by ~INR580m. Adjusted for the above two items, losses are in line with our expectation.

* Of the total order book of INR1.1t, the executable order book stands at INR90b. Around 50% of the order book is fixed cost contracts, thus posing a risk to margin in a rising commodity price scenario. While it has maintained gross margin on a QoQ basis, the management expects some pressure in 3QFY22 too, as it is still negotiating with customers to pass on the price increase

* Higher fixed cost continues to dent operating performance. The company is yet to show a significant improvement in pending receivables, with total debtors ~INR312b in 1HFY22 (v/s INR313b at the end of FY21). In spite of the management’s ongoing efforts, we expect receivables to remain elevated in the near future. We maintain our estimates and Sell rating, with an unchanged TP of INR45/share (10x FY24E EV/EBITDA).

Revenue above our estimate; operating performance disappoints

* Losses continue: Revenue stood at INR51.1b, up 38% YoY and ~10% above our estimate. Two-year revenue CAGR stood at -9%. Gross margin declined by 160bp YoY, but was up 70bp QoQ. While employee cost stood flat YoY, other expenses declined by 34% on account of a reversal of provisions of INR1.8b. Operating level losses stood at INR292m (v/s a loss of INR6.3b YoY). Adjusted loss stood at INR1.1b.

* Segmental highlights | Power: Revenue stood ~INR36b, up 44% YoY. Two year CAGR stood at -8%. PBIT margin stood at 6.4%. Industry: Revenue stood ~INR13b, up 39% YoY. Two-year CAGR stood at -14%. PBIT margin stood at 2%.

Highlights from the management commentary

* COVID-19 led disruption led to a revenue loss of ~INR15b in 2QFY22. The management stopped executing orders where cash flow issues exist.

* Total receivables stood at INR312b in 1HFY22 v/s INR313b at the end of FY21, with Centre/state/private/exports constituting 36%/42%/14%/8%.

* Ordering in the FGD segment is expected to remain modest. The Solar and Refinery segments are witnessing ordering activity, with awarding expected to happen gradually.

* BHEL continues to struggle with:

a) a weak ordering environment in the Power sector,

b) higher receivables (over INR312b), and

c) huge FY21 employee cost (~31% of sales). In 1HFY22, working capital stood elevated ~88% of sales (101%/99%/63% of FY21/FY20/FY19 sales), weighed by a higher inventory and receivables, and poor execution.

* We maintain our earnings estimate (FY22E to be loss making) and our TP of INR45 (FY24E EV/EBITDA multiple of 10x) on the stock. We see further downside risk to order inflow and our revenue assumption for FY23E/FY24E. We maintain our Sell rating

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