Stock Review: McNally Bharat Engineering

 

 

Though McNally Bharat Engineering is operating in a low-margin business, its ability to shore up volumes provides reasonable earnings visibility

 

THE stock of McNally Bharat Engineering (MBE) has depreciated by nearly 33% from its peak, hit in April this year. The reason for the decline was a less-than-expected performance in the June 2010 quarter when the company reported a somewhat muted profit growth of 16%. The decline has brought the stock within an attractive range with a P/E ratio of less than 20 times. The decline and an optimistic outlook for the quarterly results make the stock an attractive bet, with limited downside risk. Investors with a medium-term outlook can consider exposure in the stock.

BUSINESS:

MBE is engaged in manufacture of equipment for material handling and conveying, mineral processing and coal washing for power, steel and similar sectors. The company has undertaken several measures over the past two years to expand its businesses, including organic growth. It acquired another equipment maker, renamed McNally Sayaji Engineering, in 2009 for manufacturing crushing, screening and other material handling equipment, which have four facilities. MBE has subsequently undertaken restructuring exercise to segregate products and services division, and has managed to rope in private equity investor, Mauritius-based EIG, which bought a little less than 10% stake in the subsidiary.

   In addition, it has acquired Coal and Minerals Technology division of a German company, engaged in the manufacture of coal washeries. Coal washing has gained popularity in India only recently, despite the huge advantage it offers. Considering the potential of coal washing in India, the acquired technology offers huge scope to the company. It has also formed a 70:30 JV with a Singapore-based company Hiflux for water desalination projects for industrial and domestic business. Again, this is a high potential business, as many power projects are coming up in coastal regions, which would require desalination of water for process use. It is also exploring opportunity for EPC business in cement, which, however, may take some more time.

   Currently, the company's order book stands at 4,550 crore, equivalent to nearly three years' of trailing 12 months sales, which includes its first overseas order in Zambia. The company also won an order worth more than 800 crore, the largest BOP order for the company.

FINANCIALS:

The company posted sales growth of 12% for the quarter ended June 2010, which is reasonable but significantly lower than the growth of more than 50% recorded in the same period of FY10. Even though raw material cost came down 11%, there was a significant increase of more than 60% in employee and other costs, leading to marginal decline in operating costs. The company still managed profit growth of 16% aided by lower interest cost. For FY10, the company had registered sales and profits (excluding extraordinary) growth of 53%
and 87%, respectively. The growth was helped by a slight improvement in raw material cost and lower interest cost.

OUTLOOK:

The outlook for the company is robust with all its business areas being in the high growth path. Although the company is operating in low-margin business, its ability to shore up volumes and its potential, aided by its order book, provide reasonable earnings visibility. The recent correction has further made the stock more attractive and investors may consider the stock with a medium-term outlook.