Watchful CG Power and Industrial Solutions

An Avantha Group company, Crompton Greaves Power and Industrial Solutions Ltd. (CG Power) is a global pioneering leader in the management and application of electrical energy. CG provides end-to-end solutions that cover the entire value chain of engineering offerings to serve the electrical needs of its customers. It is primarily engaged in designing, manufacturing, and marketing high-technology electrical products, systems and services for utilities, power generation, transmission, distribution, executing turnkey projects and industries. Presently, its business comprises of two segments viz. power systems and industrial systems; recently, the consumer business was sold. The company has 16 manufacturing divisions spread across India and 10 outside India.

For the quarter ended in June’17, CG Power posted consolidated loss of Rs 48.1 crore even as it exited its US arm, as guided in the fourth quarter of 2017.  The net loss was a key negative which was hit by multiple factors. This was led by sharp drop in industrial OPMs and loss provisions for overseas US arms, which led to 62 per cent YoY decline in EBITDA, with 75 per cent YoY jump in interest cost as debt increased. The impact of high interest burden despite marginal decline on quarter over quarter also attributed to the consolidated net loss.

On standalone basis, EBIDTA margin reduced by mere 30bps YoY to 5.2 per cent despite sharp drop in industrial OPMs and 11 per cent YoY top-line growth is a positive considering the tough quarter.The standalone figures are quite reasonable with standalone power margin at 6.2 per cent which picked up by 100bps YoY despite modest 6 per cent top-line growth.

India business

The domestic business’s order inflow grew by 8.1 per cent YoY to Rs 1,460 crore and the order book stood at Rs 3,600 crore. CG Power needs to prune debt given the high interest cost and also because with most of the domestic business, upside are factored in the estimates.

CG Power has increased its focus on domestic businesses, mainly power products such as transformers and switchgears and the industrial products where it has a strong market share. The company has seen its OPMs stabilising over last 12 to 15 months in transmission and distribution (T&D) products given reasonable exports growth which is high margin apart from improving prospects in the domestic market.

Exit of US subsidiary

The Mumbai-based company successfully concluded sale of its overseas power business, CG Power, USA, at an enterprise value of USD 37mn as on July 31, 2017. The company had made provision of Rs 16 crore towards expected loss on the transaction.

Sale of Hungarian operations

The company’s board has accepted a binding offer for sale of assets and share of its businesses in Hungary for an enterprise value of 38 million euro from a Hungarian engineering, procurement, construction (EPC) player. The sale is part of the company’s strategy of geographical and product-wise divestment plan to reduce debt and to focus on core operations and core market in India which provides sufficient growth opportunities.

Out of the overall losses, the Hungarian business contributed the largest chunk in fiscal 2017, it contributed maximum to the losses. The management plans to close the deal by end of November and expects to sell major loss making unit in Hungary by November 2017.

Power systems division

During the quarter, revenue and order inflow grew by 6.5 per cent and 5 per cent, respectively. Even amidst the bleak market conditions, management stated the segment has outperformed market. The order book stands at Rs 2,500 crore, which corresponds to 10 to 12 months of executable revenues.

Industrial systems segment

The margins for the division were under pressure due to rise in prices of commodities and GST, which accentuated pressure on margins as the company couldn’t undertake a price hike. The industrial EBIT margin plummeted by six per cent YoY as the company could not pass on cost hike due to GST and customer issues, and delivered products at lower pricing. The company took hit on the margins as confusion about implementation of orders prevailed led by GST, however being carried forward to July, and executed in June’17 itself. For the second quarter of 2018, the management expects segment margins to increase by 150-200 basis points (bps).

In the industrial segment, CG Power has a lead position in low tension (LT) motors having greater than 25 per cent market share, which is witnessing a healthy growth led by infrastructure increase and selective private capital investment. The high tension (HT) motors portfolio is expected to catch up over next two to three years driving operating leverage for the company given the present bottom cycle OPMs.

Railways and debt

Electrical appliances maker is planning to expand its footprint in railways. In the first quarter, the proportion of railway revenue, as a per cent of industrials, was significantly higher.

CG Power’s net debt stands at Rs 1,000 crore and gross debt stands at Rs 1,600 crore. The company has sold its Spain-based smart grid digital equipment automation company, ZIV Group.  The ZIV transaction sale reduced the company’s debt by Rs 400 crore, which has led to reduction in finance cost which is lower than the levels of the fourth quarter of 2017.

The verdict

The sale of US arm and potential sale of Hungarian operations is perceived to be positive given the potential for reduction in net worth erosion, however, confidence around expected exit costs and provisions also needs to be built. The company is also looking at services as a new growth area.

The estimates for the domestic business reasonably bullish implying 21 per cent earnings growth for standalone business, any material upside in earnings is not expected.  Moreover, one has to be clear about how much potential costs in overseas plants could accrue incrementally.  The stance remains cautious on the stock and its current market price is Rs 81.

Key Risks

The key monitorables for CG Power remains potential; provisioning expected as the company exits other plants, apart from high debt level.

The major slowdown in T&D spending in key markets such as India and Europe can potentially impact the growth assumptions for the company.

During April-June’17, there was deferred revenue of USD30mn owing to the impact of Ramadan in Indonesia, which decreased in the quarter. Going forward, the management expects to recover USD20mn. Any deferment of sale of overseas businesses will hit the profitability of the company.

neha.seth@outlookindia.com