India's defence sector could see a change as commerce ministry recently cleared the DIPP note to hike FDI in the defence sector to 100% from present 26%. Post this news, Pipavav Defence and Offshore Engineering Company (Pipavav) has seen a spurt in its share price.
The company has the largest defence shipyard and is among the first private players to get a contract for the construction of a warship. It also has a JV with PSU shipyard Mazagon Dock. Analysts believe that if the FDI is hiked, Pipavav could benefit as many large global players are eagerly eying this space. The FDI hike will also mean that the technological gap between Indian companies and global ones will shrink. It will ensure that large requirements of defence will be met from the domestic market. Pipavav has already made inroads in this direction as it has got related clearances, technical tie ups and modern infrastructure.
The company currently has an order book of about Rs 6,600 crore (about 2.6 times its FY14 revenue), out of which about 60% is accounted for by defence orders. Analysts are expecting the order book reach Rs 12,000 crore by FY16 as a result of its thrust on the domestic market. This is also a reason that revenue momentum will improve in the coming years, which will have positive impact on utilisations and enable it to absorb fixed cost such as interest. The company is sitting on fixed assets of worth Rs 6,072.5 crore, which produced net profit of Rs 2.72 crore on a sales turnover of Rs 2,522 crore in FY14. Large part of this is due to debt in the books to the tune of about Rs 4,800 crore and debt to equity of 2 times.
Importantly, in FY14 it paid Rs 477.5 crore as interest on earnings before interest and tax of Rs 498.1 crore, indicating very low coverage. However, this could change as on a declining interest cost, growing sales turnover will boost earnings and return ratios, which are currently depressed (RoCE to move up from 6.2% in FY13 to 9-10% in FY16). The FY16 sales turnover of the company is expected to double to around Rs 4,300 crore, but net profit could jump from mere Rs 2.72 crore to Rs 280-290 crore.
Meanwhile, investors should be cautious as large part of the FDI news and earnings growth is reflected in its share price. At Rs 67.60, the stock is currently trading at 17 times FY16 estimated earnings and 1.8 times its book value.
