Acquisition edge

POUND WISE

Crompton Greaves has taken the inorganic route to expand its presence abroad and bridge the technology gap vis-a-vis competition.

In its quest to spread its wings to new markets and increase global presence, Crompton Greaves has recently acquired Hungary-based Ganz group. If the turnaround of its Belgian acquisition, Pauwels is anything to go by, soon we will see this power equipment maker successfully restructure the loss-making Ganz into a money spinner.

The markets however have thrown cold water on the new acquisition and pulled down the scrip price by 9 per cent following the September quarter results where the company reported lower margins. However, its aggressive expansions, overseas forays and revenue prospects make the stock a good pick, say analysts.

Crompton Greaves is a leading player in power systems, industrial motors and consumer fans markets across India. The power systems segment makes transformers, reactors, switchgears and takes up industrial engineering, procurement and construction (EPC) projects.

Its key customers include power manufacturers, railways, electrical sub-stations and installation players. Contributing 65 per cent to the company's turnover, the power systems segment remains the major growth driver.

The industrial segment makes motors used in thermal power plants and chips in with 16 per cent of the revenues. The balance 19 per cent comes from consumer products like fans, irons, mixers and water heaters.

Going global
Having established its brand in the domestic market, Crompton now plans to become a global player by acquiring overseas companies with high end products.

In just two years, the company has taken into its fold, Belgium-based transformer manufacturer Pauwels and Hungarian switchgear maker Ganz and gained access to the European and North American markets.

In May 2005, Crompton acquired the loss-making Pauwels and thanks to buoyant market conditions and skillful management, it turned it into a success story.

Due to this purchase, Crompton has become the seventh largest transformer maker in the world and has doubled its consolidated revenues. In FY06, Pauwels chipped in around Rs 1,600 crore and Rs 39 crore to Crompton's topline and bottomline.

After the turnaround at Pauwels, Crompton has recently acquired Ganz Translator Villamossagi and Transverticum for ¤35 million (Rs 210 crore) to further increase its market horizons. The acquisition appears lucrative as it will add gas insulated switchgears and rotating and traction machines to Crompton's portfolio.

It will also give the company a substantial presence in the high voltage transformers (up to 750 KV). Crompton will take a year to ramp up production in Ganz, which at present operates at 30 per cent.

As the Pauwels' plant is working at 100 per cent capacity, Crompton will partly shift production to Ganz. Crompton plans to market switchgears in Europe through Ganz, as it enjoys a better brand name in switchgears as compared to Pauwels. Ganz will operate at 60 per cent capacity and contribute to Crompton's revenue from FY08 with an estimated turnover of Rs 400 crore.

Encouraging macro factors
Conducive markets for its businesses are promising bright prospects for Crompton. While the crest in the infrastructure cycle is bolstering demand for power and industrial equipment, increasing housing needs are creating a boom in demand for household appliances.

Rising demand for transformers and switchgears used in transmission and distribution of power in the domestic markets and replacement demand in the American and European markets offers good business potential. So, Crompton's consolidated power revenues are expected to grow at 40 per cent in the next 5-6 years.

The momentum in industrial production is here to stay and most players operating at peak levels are planning expansion. This is likely to augur well for Crompton's industrial motors segment, which will grow at around 25 per cent. The demand for electrical appliances will grow at about 20 per cent, thanks to the real estate boom.

Crompton competes with ABB, Siemens and BHEL not only in domestic but international markets as well. Its competitors enjoy overall more market share and better brand presence. However, with overseas acquisitions, Crompton wants to bridge this gap by offering more top end products.

September setback
In the September 2006 quarter, standalone revenues and profits showed encouraging y-o-y growth, though margins were under pressure due to high raw material prices. Revenues increased by 48 per cent to Rs 824 crore. While operating profits rose by 39 per cent, net profit increased by 25 per cent to Rs 40.6 crore.

High prices of key inputs such as copper and steel increased cost by 600 basis points and led to operating margin contraction of 60 basis points.

"As most power system contracts have long gestation periods, consumers prefer fixed price contracts. The margins were lower as majority of our contracts do not carry price escalation clauses. However, with raw material prices stabilising, we expect margins to be stable or rise slightly in the next two quarters," says a senior company official.

In FY06, Crompton clocked revenues of Rs 1,988.7 crore and profits of Rs 117 crore. The consolidated revenues and profits stood at Rs 4,132 crore and Rs 215 crore respectively. 
 

A PROMISING FUTURE
Financials (Rs crore)	FY06	FY07E	FY08E
Net sales	4132.08	5818.00	7412.00
Y-o-Y growth (%)	107.78	40.80	27.40
Operating profit	391.62	470.00	654.00
Y-o-Y growth (%)	136.06	20.01	39.15
OPM (%)	9.48	8.08	8.82
Net profit	215.01	288.00	423.00
Y-o-Y growth (%)	83.61	33.95	46.88
NPM (%)	5.20	4.95	5.71

Future positive
Crompton holds orders worth Rs 1,800 crore in its kitty, of which orders of Rs 1,500 crore come from the power systems business. Pauwels has unexecuted orders of ¤330 million (Rs 1,200 crore).

The company has planned a capex of Rs 100 crore for FY07, of which around Rs 32 crore is being utilised for expansion of 765 KV transformer plant in Mandideep, Madhya Pradesh.

The company has entered into a technical tie-up with Toshiba, Japan for the purpose. Analysts expect consolidated revenues to be around Rs 5,900 crore and Rs 7,800 crore in FY07 and FY08 respectively. Net profit estimates for the same periods stand at Rs 285 crore and Rs 430 crore.

At the current price of Rs 226.95, the stock trades at 25.5 times its FY06 earnings. The scrip trades at 20.6 times and 14 times its FY07 and FY08 consolidated earnings estimates of Rs 11 and Rs 16.2 respectively. Crompton's forward valuations look reasonable as against competitors: ABB (42x, 28.75x) and Siemens (33.1x, 27.8x).

"Looking at the revenue prospects and forward valuations, Crompton offers relatively better investment opportunity compared to other leading players and we expect the stock to give 40 to 45 per cent returns over a one year period," says Pradeepkumar Dhamdhere, analyst, Anand Rathi Securities.