Refined step

HPCL, MRPL on a capacity expansion drive

Domestic refining capacities are on a rise with Hindustan Petroleum Corporation (HPCL) and MRPL announcing on Monday that they would go for expansions.

The new capacities are coming up despite a surplus in domestic refining capacity, which was estimated at a surplus of about 17.5 million tonne at the end of FY05, and expected to increase to 33.4 million tonne at the end of FY06.

Reliance Petroleum will also come out with an IPO to part-finance its $6 billion refinery project. HPCL is planning to raise the capacity at its Mumbai and Vizag refineries by 3.3 million tonne to 16.3 million tonne. MRPL will also expand capacity from 9.69 million tonne to 15 million tonne.

Domestic refineries are expanding to cater to export markets, such as the US and Europe. Given the strong environmental norms in western countries, capacities are not keeping pace with the demand.

For instance, according to the Energy Information Administration in the US, the number of refineries declined from 325 in the early 1980s to 149 at present.

These refineries are estimated to have a capacity to process around 17 million barrels of oil a day, while the US consumption is hovering at 20.6 million barrels a day.

This opportunity seems lucrative for both HPCL and MRPL to pursue the expansion, and also allow them to supply Euro-III fuels, say analysts. And, it is not only domestic players which are expanding capacities; but also Asian and Middle Eastern refiners.

For MRPL, its planned expansion would also allow it to increase its presence in the 'sour' type segment, which is expected to earn higher gross refining margins in the medium term, say analysts. The MRPL scrip gained 7.6 per cent to Rs 45.9 on Monday.

However, the HPCL stock gained only about 0.9 per cent to Rs 329 and analysts attribute it to investors' concern over subsidies.

KPIT: Growth push

KPIT Cummins is following the inorganic growth strategy quite aggressively. After two acquisitions in November 2005, it has acquired CG-Smith Software, a Bangalore-based software services firm.

At about 0.9 times FY06 sales-to-enterprise value (after adjusting for the Rs 12.5 crore cash at the end of FY06), this deal is not expensive for KPIT.

CG-Smith is focussed on the automotive embedded real-time systems. With this purchase, KPIT will be able to strengthen its position by adding CG-Smith's semiconductor business to its automotive practice.

CG-Smith has around 17 customers for services and 24 customers for its network operations system products. KPIT plans to cross-sell the SAP, business intelligence and VLSI.

CG-Smith is estimated to have a net profit margin of 10 per cent in FY06, which is low given that it is in a specialised business and has 10-15 per cent revenues coming from products.

But the KPIT management explained that the profitability will improve when full benefits of product sales come in over the next few quarters.

The automotive practice is going to be a growth area for KPIT considering that the global market for non-entertainment auto electronics is estimated at $35 billion in 2007, with the in-vehicle electrical and electronics content rising from 25 per cent at present to 40 per cent by 2010.

KPIT expects the EPS to improve by 11 per cent after the CG-Smith acquisition. KPIT's December 2005 quarter results were below expectations with revenues increasing 3.51 per cent q-o-q and net profit expanding 8.55 per cent.

During the quarter, KPIT bought SolvCentral.com, a business intelligence solutions firm, and Pivolis, a French consulting firm.

This acquisition has gone down well with the market as the KPIT stock closed 2.5 per cent higher on Monday. At its current price of Rs 371, the stock trades at about 16 times FY06 earnings, without considering any acquisitions.