Mahindra & Mahindra: On the right track

Mahindra & Mahindra has done well to boost its components business through buyouts

Mahindra & Mahindra continues to grow its components business through the inorganic route.

It's latest buy is the German forgings maker Schoneweiss, a leading five-axle beam manufacturer, which specialises in suspension, power train and engine parts.

In the past two years, Mahindra has picked up four companies in the auto ancillary and engineering space, which it says is a key growth area.

Mahindra Systech, which houses the auto components business, is looking at a turnover of Rs 4,500 crore by 2010, a four-fold rise over its current revenues of around Rs 1,100 crore. That may not be impossible given that the industry is likely to grow at 25 per cent annually for the next few years and that M&M appears to be pursuing the acquisition strategy aggressively.

The last buy, Jeco Holding, was M&M's biggest buyout in this space, with an enterprise value of about $178 million. That was bigger than all the previous four acquisitions combined for which M&M is believed to have paid around $60 million, acquiring in the process, revenues of $100 million.

The management has not disclosed what it will pay for Schoneweiss but is understood to have put an enterprise value of $75-85 million for the German firm. Component makers overseas are struggling to survive given the rising costs and slowdown in the automobile industry.

In that sense, this is a good time to pick up distressed assets since most of the bigger firms have a strong clientele. At Rs 870, the M&M stock trades at around 16 times FY07 and at under 13.5 times FY08 and is attractively valued.

Punjab Chemicals: Buyout prop

Punjab Chemicals had recently acquired Argentina-based Sintesis Quimica for $10 million (approximately Rs 45 crore).

Sintesis had revenues of $16 million for the financial year ended June 2006, implying this acquisition was at 0.62 times trailing sales. United Phosphorus, which has made several overseas acquisitions in the last few months, had bought Cropserve for 0.3 times sales.

However, net profit margin at Sintesis were a healthy 9.3 per cent in the last financial year.

Sintesis, which manufactures agro chemicals, formulations and industrial products, has two manufacturing facilities in the outskirts of Buenos Aires. This acquisition is expected to help Punjab Chemicals get a headstart in the booming South American crop protection and allied market.

Meanwhile, Punjab Chemicals had seen its operating profit margin fall by 210 basis points y-o-y to 4.3 per cent in the last quarter, due to rising operational costs.

However, the results of Q2 FY07 are not strictly comparable with a year earlier, given the merger of Alpha Drug and STS Chemicals with the company in April 2006.

However, with the stock trading at 11.5 times estimated FY07 earnings (excluding the Sintesis acquisition), the street has factored the medium term growth opportunities for Punjab Chemicals.

Steel sector: Fear of the Dragon

Increasing production from the Chinese steel industry has once again raised the possibility of global steel prices coming under pressure in CY07. Chinese steel output between January to November 2006 was 381.5 million tonne, a growth of 18.4 per cent y-o-y according to the global industry body International Iron and Steel Institute.

And with the Chinese government taking successive steps to slow down excessive investment in its economy, it has resulted in Chinese steel exports surging 91.8 per cent y-o-y to 32.9 million tonne in the first eleven months of 2006, according to data gathered from Xinhua and foreign brokerage houses.

Analysts point out that this has resulted in current global hot rolled coils prices (HRC) falling to $500 a tonne compared with $520 a tonne in the middle of CY06. Meanwhile, domestic steel production was 38.8 million tonne in the first 11 months of CY06, a growth of 4.1 per cent y-o-y.

Indian players such as Tata Steel are also attempting to attain global production size capability via the planned acquisition of the UK-based Corus, and a final outcome from the bidding war is expected only in the middle of the next quarter.

Steel stocks have had a mixed performance in CY06 till date - Tata Steel has risen 26 per cent compared with 43 per cent rise in the Sensex. SAIL rose 56 per cent during this period.

Clearly, demand conditions for Indian steel players were strong in CY06 given the buoyancy in the economy. However, the growing concern is that rising interest rates could start showing signs of dampening demand, especially those for construction grade steel, add analysts.

For Indian steel players, which are not integrated, they may also have to grapple with the possibility of higher iron ore prices in CY07, given the recent 9 per cent hike accepted by the Chinese steel industry from its Brazilian suppliers. Tata Steel trades at merely 6 times estimated FY07 earnings, while SAIL goes at 5.5 times.

With contributions from Shobhana Subramanian and Amriteshwar Mathur