Transmission line cos: Domestic competition receding, international demand increasing

Analysts expect further rally in KEC international and Kalpataru Power Transmission

Outlook for the transmission line companies has improved as competition in the domestic market has eased further and international market provides huge opportunity.

Number of players qualified for Power Grid’s new orders has come down to only three compared to atleast 10 two years ago. Though this may not continue forever, it is definitely a relief in short to medium term. 

Besides, activity in international market, especially CIS region remains robust and there are only few players. All this augurs well for the top two players KEC International and Kalpataru Power Transmission (KPTL).

Says Supriya Subramanian, analyst, Kotak Institutional Equities, in her December 7 report, “The trend of increasing market share was already witnessed in first half of FY 13 with KEC and KPTL receiving majority of the awards in the domestic market with combined market share of 60% compared to 20-30% in past two years.” 

The two companies also command strong market position in the international market and have cornered a combined market share of 65-70%.

Share of international business in the total order book of the companies have shot up in past few years and now stand at 50-60 % (as on September 2012 quarter). This trend is likely to only increase further. While KEC is already well-diversified in terms of geographies with presence in 45 countries, KPTL is also spreading its wings. It entered nine new countries in last 18 months and now has presence in 32 countries.

Robust order intake expected in coming quarters will lead to continuation of strong revenue growth and easing competitive pressures means better margins and return ratios ahead.

Revenue visibility is already comfortable at 1.4-1.9 times based on trailing twelve month revenues. Thus, analysts expect further rally in these stocks, which still trade at reasonable valuation of 6-8 times FY 14 estimated earnings.

Dhirendra Tiwari, analyst, Antique Stock Broking, initiates hold on KEC International in his report dated December 7 with a target price of Rs 75 as he feels the valuation (8 times) is at a significant premium to peers. He expects the company will manage to come out of the current lower profitability state caused by business slowdown, cost-of-entry strategy in new business (power systems, cables, railways and water forming 35% of revenues) and see improvement in FY 14.

Subramanian reiterates BUY on KPTL with target price of Rs 120 (upside of 36%) based on potential bottoming out of margins and return on equity, attractive valuation (5.7 times FY 14 earnings), diversified presence across business segments and geographies and comfort in revenue visibility.

Even though PGCIL orders may stagnate in future following the impact of low generation activity, this will be compensated by less domestic competition and large international opportunities.