BHEL trips on higher incidental costs

Other expenses, mainly provision for wage hike and project-costs, doubled in Q2

The Bharat Heavy Electricals (BHEL) stock dropped six per cent on Tuesday after it reported an operating loss (excluding other income) in the September quarter (Q2), second in a row. Revenue was Rs 6,297 crore, down nine per cent over a year. Net profit, helped by other income, grew six per cent over a year to Rs 115 crore. Other income was Rs 485 crore, compared to Rs 196 crore a year ago.

The numbers, however, lagged Street expectation significantly, the biggest disappointment on the operational side. The core power (80 per cent of revenue) and industrials segments remained weak, with revenues dipping 3.7 per cent and 27.6 per cent, respectively. A near doubling of other expenses played spoilsport.

BHEL made a total provision of Rs 545 crore, split as Rs 250 crore towards wage revision and Rs 295 crore towards projects for execution. As these were accounted as other expenses, it led to an 81 per cent there. Adjusted for this one-off, operating margins would have been 7.3 per cent, some improvement from a year-ago of 2.25 per cent.

This is primarily on the back of better gross margins (revenues less raw material costs), which improved from 37.8 per cent a year ago to 39.25 per cent in Q2. This does offer some hope to investors, as it shows the core fundamentals aren’t as weak as anticipated.

However, pace of implementation needs sharp improvement, as finance costs have been on the rise for a while. After incurring Rs 5 crore on these costs, the number shot up to Rs 55 crore in Q2. Considering BHEL’s revenue pool, the interest outflow is still well within the limit. But, it does warrant attention, as it indicates working capital is getting locked up due to slow-paced execution.

Rohit Natarajan of IDBI Capital is confident of improvement in project execution. “With an order book of Rs 76,000 crore, including the Yadadri project, the pace of execution is likely to improve. However, the main concern is order inflows, going ahead,” he warns.

After a brisk FY16, order inflow has been patchy for four–five quarters. As the government shifts focus to renewable energy projects, far fewer thermal projects are coming up. One hope in the medium term is mandatory refurbishing of thermal power stations to super-critical ones. This is a 11-Gigawatt opportunity for BHEL and other players, though tendering for such orders are currently very slow. Steady inflow of these replacement orders is crucial to keep the momentum.