Bharath Forge

Bharath Forge Limited (BFL) is the second largest forging company in the world. The flagship company of the US $ 1.50 billion Kalyani Group, BFL commenced operations in 1966.

It has state-of-the-art manufacturing facilities spread over nine locations in six countries -India, Germany, Sweden, Scotland, North America and China. The company is one of the first in the Indian automotive component industry to have adapted inorganic growth as a means to establish a global manufacturing footprint.

BFL has a rich history of acquisitions. In 2004, it acquired Carl Dan Peddinghaus (CDP), the 2nd largest forging company in Germany that is mainly engaged in the manufacture of passenger car components, followed by CDP Aluminiumtechnik, a company in Germany that manufactures aluminium components for automotive applications. In 2005, BFL acquired Federal Forge, now known as Bharat Forge America Inc., which provided BFL with a manufacturing presence in USA - one of its largest markets. This was followed by the acquisition of Imatra Kilsta, AB, Sweden along with its wholly owned subsidiary Scottish Stampings, Scotland. Then in December 2005, Bharat Forge signed a JV with FAW Corporation - the largest automotive group in China, marking its entry into the Chinese automotive market. After this venture, BFL became the largest forging company in China. These acquisitions have provided BFL an access to customers in new geographies, enhanced its technological capabilities and enlarged its product range as well.

Investment Rationale

1) Expansion, Acquisition to Trigger Revenue Growth

BFL is planning to expand its capacities in various product segments. It has also chalked out a strategy to take over small forging companies abroad to enlarge its customer base. Its global acquisition strategy consists of two key elements. First, it hopes to broaden its customer base by bringing in a wider portfolio of product offerings. Secondly, these global facilities would assist BFL in working with renowned OEMs as an engineering and development partner.

2) De-risking the Business Model

The company is continuously attempting to de-risk its business model by improving its product mix and establishing presence in key markets like the US, Europe and China. The company is looking to increase the contribution from non-automobile components, a segment which the company has identified as a potential area for growth. BFL also sees huge potential in sectors like energy, hydrocarbons and aviation and has embarked on Rs 350 crore capex programme to emerge as a key player in these segments.

3) Dual Shore Manufacturing

BFL follows a dual shore manufacturing strategy to cater to its global customers. Dual shore manufacturing means the capacity to manufacture all key products across engine and chassis components from a minimum of two locations. Under this strategy, the company has established more than one manufacturing location for all core components, one close to the customer and one in a low-cost, but technologically competitive destination. The focus is on creating a position of global leadership in engine and chassis components of passenger cars and commercial vehicles.

4) Consolidated Revenue to Drive Growth

Along with domestic capacity expansions, the company is focusing on increasing capacity utilization of its overseas businesses as well. These companies are currently operating at around 50-60 per cent of their total capacity. Going forward, BFL plans to increase utilization levels to around 70-80 per cent, which would not only spur volumes but also boost its top-line. The increased volumes and improvement in margins would translate into a substantial jump consolidated sales and profits.

Risks & Concerns

a) Slowdown in Automobile Sector

BFL's growth is closely linked to the growth of the Indian as well as the global automotive industry. The latest trend in the US indicates a decline in the demand for passenger cars and CVs. Furthermore, a slowdown in the domestic market has been reported as well. The compounding effect of the slowdown in these markets - domestic, US and European - provides a bleak outlook to BFL's revenues and profit growth in the coming times.

b) Delay in Project Completion

BFL is on the verge of acquiring four new contracts from global players worth US$ 50 million each by the end of FY07. Any delay or non-execution of these contracts would also affect the revenue estimates for the company.

c) Failure to Turnaround Acquired Businesses

BFL has acquired companies across the world, which are running at much lower capacity utilization and some were even making losses. The long-term strategy of these acquisitions is to boost capacity utilization and improve EBITDA margins in the next 2-3 years. Any delay or failure on these fronts would also adversely affect the consolidated revenue estimates.

d) Valuations

At the CMP of Rs 91, BFL is trading at 27.9x and 10.9x its FY09E and FY10E standalone EPS, respectively, and 18.5x and 6.4x its consolidated EPS. Considering the deteriorating global automobile sales, sluggish domestic demand and adverse foreign currency movement, the stock is valued at 7x. Its consolidated FY10E EPS of Rs 14.5 is to arrive at a target price of Rs 102.