A project report on e i-c analysis of capital goods sector at kotak mahindra

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A project report on e i-c analysis of capital goods sector at kotak mahindra BABASAB PATIL

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A project report on e i-c analysis of capital goods sector at kotak mahindra

  1. 1. “E-I-C Analysis of Capital Goods Sector” EXECUTIVE SUMMARY An investment is a commitment of funds made in expectation of some positiverate of return in future. An investor makes some sacrifice in the present in the hope ofdesiring benefits in future. Now the most common question that arises is, which stocks topick from the wide range of securities and sectors. This calls for Security Analysis andSecurity valuation. The Indian stock market is semi-strong and is very volatile. The economies ofdifferent countries like USA & China have bearing on our economy. An example tomention is US recession which caused crash in stock market. Excluding such systematicrisk, one can evaluate the future prospects of the company using fundamentals. Kotak Mahindra is one of Indias leading financial conglomerates, offeringcomplete financial solutions that encompass every sphere, from commercial banking, tostock broking, to mutual funds, to life insurance, to investment banking, the group catersto the financial needs of individuals and corporates. The group has a net worth of overRs. 5,609 crore, employs around 17,100 people in its various businesses and has adistribution network of branches, franchisees, representative offices and satellite officesacross 344 cities and towns in India and offices in New York, London, Dubai, Mauritiusand Singapore. The Group services around 3.6 million customer accounts. It has wonawards like Best Performing Equity Broker in India – CNBC Financial Advisor Awards2008, Avaya Customer Responsiveness Awards (2007) in Financial Services Sector andso on. In the light of all the above, I have undertaken a project on “E-I-C analysis ofCapital Goods Sector”. This is an effort put to know the intrinsic value of the Capitalgoods companies like Bharat Heavy Electricals Limited and Larsen & Toubro. Here, I amundertaking a study based on the fundamentals of the company through financialstatement analysis. An investor should make thorough comparison of the prices of the security withits true value. Value here refers to the intrinsic worth or the Value anchor. Only with thehelp of such evaluation the investor can decide as to buy hold or sell. Babasabpatilfreepptmba.com 1
  2. 2. “E-I-C Analysis of Capital Goods Sector”Topic of the study:“E-I-C Analysis of Capital Goods Sector”Name of the organization : KOTAK SECURITIES, Hubli.Main Objective:“To evaluate the performance of Capital Goods companies under study using EICAnalysis.”Sub objectives: 1. Analyzing the environmental factors that affect the security prices. 2. Industry analysis of Capital goods Sector 3. To assess the fundamentals of the company in light of financial statements. 4. To arrive at intrinsic value of the company thus enabling the investor in assessing the worth of the security. 5. I had keen interest to enrich my knowledge in stock market.Framework of study:The proper order to proceed in Fundamental analysis is,First, to analyze the overall economy and securities markets.Second, analyze the industry with in which a particular company operates.Finally, analysis of the company should be considered.The above analysis involves making a careful estimate of expected stream of benefits andrequired return of common stock. The intrinsic value then can be obtained through P/Eratio or earning multiplier approach. Babasabpatilfreepptmba.com 2
  3. 3. “E-I-C Analysis of Capital Goods Sector”Data Collection Approach:Secondary Data:The study is mainly based on analysis of financial statements of the company i.e. balancesheet and profit and loss account. The same has been collected through; • Company websites and other related websites. • The information is also collected from various magazines like Indian survey 2008 by The Hindu • News papersSample Size:Two large cap companies are taken for study. They are; • Bharat Heavy Electricals Limited • Larsen & ToubroNeed for the study:Due to the present volatility in stock market, the biggest question that arises is whether toinvest in stocks or not? If yes, then which stocks to invest? How are the securitiesvalued? There is no precise answer to this and nobody can predict the stock movementsexactly. Fundamental analysis or EIC analysis is one of the approaches to securityvaluation. EIC analysis gives the intrinsic value of the firm. An investor can compare thepresent market price with the intrinsic value of the stocks and make his decisionsregarding investments in these stocks.FINDINGS:Economy: • When come to the economic factors the global economies are getting interrelated, the Indian market will no longer be limited to domestic economic situation. Especially the US market has a strong bearing on Indian stock market. Babasabpatilfreepptmba.com 3
  4. 4. “E-I-C Analysis of Capital Goods Sector”Industry – (Engineering – Heavy): • The demand driver for this sector is the Order book. • Most of these companies have an order book to sales ratio in the range of 2.5-4 times FY07 revenue. This implies that for the next two-to-three years, even if the companies do not get fresh orders, they can still maintain revenue growth of 30- 40 per cent.. • The IIP growth during April - January 2007-08 has declined to 8.7% when compared to 11.2% IIP growth during 2006-7. Tight monetary policy has resulted in high interest rates which have been the major factor contributing to the decline in IIP growth.Company: • When Liquidity ratios are concerned, BHEL has an upper hand over L&T. The Current ratio, quick ratio and cash ratios of BHEL are better than L&T. • But Efficiency ratios show the other picture. Total assets turnover, fixed assets turnover ratio, inventory days and debtors turnover of L&T are better than BHEL. L&T is able to utillise its assets more efficiently. • When Solvency ratios are studied, we see that the debt component in BHEL has been reduced to 0.1(FY07) from 0.8 (FY05). The debt of BHEL has substantially reduced in FY07 to 0.1as a result of redemption of 8.85% Non-convertible, secured, Redeemable Taxable Bonds worth Rs.500 crores • Profitability ratios: The GPM has been increasing and so is the NPM. This shows that the companies are performing efficiently and are using the resources in an optimum way. The EPS and DPS has consistently increased in BHEL because of increased earnings and constant number of shares. Whereas in case of L&T, the EPS has reduced in FY07 to Rs.48 due to increased number of shares arising from issue of bonus. Babasabpatilfreepptmba.com 4
  5. 5. “E-I-C Analysis of Capital Goods Sector” • Market based returns: the P/E ratio which shows investors expectations have increased for both the companies. L&T has higher P/E ratio of 33.48 as compared to 11.48 of BHEL. • When compared to the specific indicators like sales growth, the BHEL will be in the first place then followed by L&T • The Volatility of returns is high in BHEL as compared to L&T. Hence L&T is better because it is more consistent. • The value anchor for BHEL is Rs.2644 and for L&T is Rs.3996.2Recommendations:1. Intrinsic value of BHEL is Rs.2644 and the present market price is Rs.1870. Hence it is recommended to buy BHEL stock as its current market price is lower than its fair value range. Market price < Value range BHEL Rs.1870 < Rs.2600 to Rs.2700  BUY2. Intrinsic value of L&T is Rs.3, 996.2 and the present market price is Rs.2981.85. Hence it is recommended to buy L&T stock as its current market price is lower than its fair value range. Market price < Value range L & T Rs.2981.85 < Rs.3950 to Rs.4050  BUY3. After a close scrutiny of economy industries and companies in considering the risk, it may be recommended that international economy might affects the firms export prospects, the price competition it faces from competitors, or the profit it makes from abroad. Investor should properly analyze both globally and domestically before taking investment decision. Babasabpatilfreepptmba.com 5
  6. 6. “E-I-C Analysis of Capital Goods Sector”4. The investor also should consider the budget decision and present years forecast of different sectors COMPANY PROFILETHE KOTAK MAHINDRA GROUP:Kotak Mahindra is one of Indias leading financial conglomerates, offering completefinancial solutions that encompass every sphere of life. From commercial banking, tostock broking, to mutual funds, to life insurance, to investment banking, the group catersto the financial needs of individuals and corporates.The group has a net worth of over Rs. 5,609 crore, employs around 17,100 people in itsvarious businesses and has a distribution network of branches, franchisees, representativeoffices and satellite offices across 344 cities and towns in India and offices in New York,London, Dubai, Mauritius and Singapore. The Group services around 3.6 millioncustomer accounts.Kotak Group Products & Services: • Bank • Life Insurance • Mutual Fund • Car Finance • Securities • Institutional Equities • Investment Banking • Kotak Mahindra International Babasabpatilfreepptmba.com 6
  7. 7. “E-I-C Analysis of Capital Goods Sector” • Kotak Private Equity • Kotak Realty FundKOTAK SECURITIES:Kotak Securities Ltd. 100 % subsidiary of Kotak Mahindra Bank is one of the oldest andlargest broking firms in the Industry with a market share of 8.5 % (as on 30thSeptember).Kotak Securities offerings include stock broking through the branch and Internet,Investments in IPO, Mutual funds and Portfolio management service.Its Accolades include: • Best Performing Equity Broker in India – CNBC Financial Advisor Awards 2008. • Avaya Customer Responsiveness Awards (2007) in Financial Services Sector. • Best Brokerage Firm in India by Asiamoney in 2007. • The Leading Equity House in India in Thomson Extel Surveys Awards for the year 2007. • Euromoney Award (2006 and 2007) - Best Provider of Portfolio Management: Equities. • Avaya Customer Responsiveness Awards (2006) in Financial Institution Sector. • Asiamoney Award (2006) - Best Broker in India. • Euromoney Award (2005) - Best Equities House in India. Babasabpatilfreepptmba.com 7
  8. 8. “E-I-C Analysis of Capital Goods Sector” • Finance Asia Award (2005) - Best Broker in India. • Finance Asia Award (2004) - Indias best Equity House. • Prime Ranking Award (2003-04) - Largest Distributor of IPOs.Kotak Securities is the first in providing many products and services which have nowbecome industry standards. Some of them are: • Facility of Margin Finance to the customers. • Investing in IPO’s and Mutual Funds on the phone. • SMS alerts before execution of depository transactions. • Mobile application to track portfolios. • Auto Invest - A systematic investing plan in Equities and Mutual funds. • Provision of margin against securities automatically against shares in your Demat account.Kotak Securities has a full-fledged research division involved in Macro Economicstudies, Sectoral research and Company Specific Equity Research combined with a strongand well networked sales force which helps deliver current and up to date marketinformation and news.Kotak Securities is also a depository participant with National Securities DepositoryLimited (NSDL) and Central Depository Services Limited (CDSL), providing dualbenefit services wherein the investors can avail brokerage services for executing thetransactions and the depository services for settling them. It process more than 600000trades a day which is much higher even than some of the renowned international brokers.Kotak Securities network spans over 310 cities with 867 outlets.Kotak Securities Limited has over Rs. 4000 crore of Assets Under Management (AUM)as of 31st December, 2007. The portfolio Management Service provides top class service,catering to the high end of the market. Portfolio Management from Kotak Securities Babasabpatilfreepptmba.com 8
  9. 9. “E-I-C Analysis of Capital Goods Sector”comes as an answer to those who would like to grow exponentially on the crest of thestock market, with the backing of an expert.WHY KOTAK SECURITIES?Kotak Securities sees investing from customer’s perspective, and make recommendationsbased on their needs. The important goals of Kotak Securities is to simplify investing forcustomers, along with that they also provide long term values to their customers.Kotak Securities has a million reasons for customers to choose it. Listed below are a few:STABILITY: We are a 100% subsidiary of Kotak Mahindra Bank and one of the oldestand largest broking firms in the Industry. We have been the first and only NBFC toreceive the license to be converted into a bank.INNOVATORS IN THE INDUSTRY: Kotak Securities has been the first in providingmany products and services which have now become industry standards. • First to provide Margin Financing to the customers. • First to enable investing in IPO’s and Mutual Funds on the phone. • Providing SMS alerts before execution of depository transactions. • Launching of Mobile application to track portfolio. • Auto Invest - A systematic investing plan in Equities and Mutual fund. • Provision of margin against securities automatically against shares in your Demat account.RELIABILITY: Kotak Securities accolades are a testimony to our services and highstandards. Kotak Securities has been awarded as: • Best Performing Equity Broker in India – CNBC Financial Advisor Awards 2008 • Avaya Customer Responsiveness Awards (2007) in Financial Services Sector • Best Brokerage Firm in India" by Asiamoney in 2007 Babasabpatilfreepptmba.com 9
  10. 10. “E-I-C Analysis of Capital Goods Sector” • The Leading Equity House in India in Thomson Extel Surveys Awards for the year 2007. • Euro money Award (2006 & 2007) - Best Provider of Portfolio Management: Equities.VALUE: Whether you are a customer with a small or large wallet size, customers canexpect Kotak Securities to bring value to customers in every form. • Quality Research • Quick trade execution • Low brokerages • Accounts that suit your investment profile • Risk Profiler • Superior Customer ServiceSERVICE: Kotak Securities believe in high standards of service and thats preciselywhat they offer. Its an honor to be awarded the most customer responsive companyaward in the Financial Institution sector by AVAYA Global Connect Award both in 2006and 2007.ROBUST TECHNOLOGY: Kotak securities developed proprietary trading platformwhich is robust and among the best in the industry. It has more than 150 technologyprofessionals constantly working on upgrading and speeding up all systems.CENTRALISED RISK MANAGEMENT SYSTEM: Unlike many other players KotakSecurities has a centralized risk management system. This allows them to offer the samelevels of service to customers across all locations.EXCEPTIONAL RESEARCH: Unlike most other competitors Kotak Securities hastheir own in house research team. Their in house research team is among the best in theindustry and they have years of experience in the financial markets. They scan through Babasabpatilfreepptmba.com 10
  11. 11. “E-I-C Analysis of Capital Goods Sector”the plethora of stocks and find the scrip’s that have a high potential of providing yougood returns.Our investors get research Technical, Fundamental, Derivatives, Macro-economic andmutual fund research.LARGE PRESENCE: Kotak Securities is present in 309 cities with 867 offices all overthe country. Its employee strength extends beyond 5000.OFFERINGS OF KOTAK SECURITIES:Once customers invest with Kotak Securities, they can enjoy access to a wide range ofproducts and services to help them make the most of their investments. • Easy Equity • Easy Derivatives • Easy IPO. • Easy Mutual Fund • Easy Insurance • Kotak Portfolio Management.EASY EQUITIES:Investing in equities was never so easy. As the Best broker in India Kotak Securitiesproducts and services are focused at making investments in equities as simple as writing acheque.Research: "What do I Buy?" Isnt this a common question we all have while investing inequities?Kotak Securities in house research team is among the best in the industry and they haveyears of experience in the financial markets. They scan through the plethora of stocks andfind the scrip’s that have a high potential of providing good returns.SMS Alerts: Customers can get expert tips and recommendations as SMS on theirmobile phone so that customers know what to invest in at all times.Trinity Account: A 3 in 1 account that integrates Trading, Bank and Demat account.With Trinity Account transactions will be seamless and very convenient. Babasabpatilfreepptmba.com 11
  12. 12. “E-I-C Analysis of Capital Goods Sector”Competitive Brokerages: Kotak Securities brokerage rates are among the mostcompetitive in the industry. Low brokerage rates let customers concentrate on investingtheir savings without worrying about the cost of investment.Call and Trade: Customers can capitalize on market opportunities even when theircomputer is inaccessible. Call & Trade essentially provides the convenience of trading inequities by making a simple phone call.KEAT: This superior trading platform to monitor market movements, view your gainsand losses and order placements instantaneously. Know moreM-Trade: It is exclusively designed to give instant access to the stock market throughmobile phone, thereby allowing to catch every little market movement when customersare on the move.Kotak Securities News: It provides access to all news related to a stock, right from itsresults, earnings, bonus, share holding patterns etc. Also helps in knowing about marketdevelopments, latest happenings, stock movements and lots more.Twin Advantage : Customers can not only get exposure against the cash margin in theirtrading account but can also automatically provide with exposure against the shares lyingidle in their DP account.EASY DERIVATIVES:If customers are not averse of taking risks, derivatives can prove to be a good investmentoption especially with Kotak Securities research. Kotak Securities has strived to make investing in derivatives simpler. It providesderivatives seminars educate new entrants in the derivatives market to be more equippedwith knowledge and techniques. Once the customer has the knowledge of investing inderivative instruments Kotak Securities daily derivative reports will provide customerswith strategies that may yield good returns.Customers can also refer to the Kotak Securities Academy to learn more aboutderivatives.EASY IPOS: Babasabpatilfreepptmba.com 12
  13. 13. “E-I-C Analysis of Capital Goods Sector”Investing in IPO’s is not complex anymore; Kotak Securities has made investing in IPO’svery simple. Customers have to do is one phone call, and thats all. No paperwork noqueues, simply pick the phone or log on to www.kotaksecurities.com and place theirorder within seconds.Kotak Securities also provide with you with information on IPO News, ForthcomingIPO’s and a lots more.EASY MUTUAL FUNDS:No more paperwork, no more queues.Kotak securities have made investing in mutualfunds as simple as dialing a pizza.Customers can now invest in over 1000 different mutual fund schemes through us. Andto make this choice of choosing between which mutual funds scheme to invest in, itoffers customers an exclusive research.Investment in mutual fund can be made simply by logging on towww.kotaksecurities.com or just making a phone call. No paperwork no queues. Simplypick the phone or log on to www.kotaksecurities.com and place order.EASY INSURANCE:Kotak Securities brings customers a sure and secure insurance option without the hasslesand worries of a conventional insurance plan. With minimal paperwork and procedures,customers get the dual benefit of a risk cover and savings. Whats more, at the end of theterm, a minimum of premiums paid by customers will be returned depending on theoption they choose.FINANCIAL PLANNING GROUP AND PORTFOLIO MANAGEMENT:A structured portfolio is essential for reducing the risk of capital erosion as a result ofshort-term volatility. With Kotak Financial Planning Group, these portfolios are morethan just structured-theyre tailor-made, too.In todays complex financial environment no one asset class tends to consistentlyoutperform another. Kotak Securities Financial Planning Group aims to help clients growexponentially on the crest of the stock markets. Babasabpatilfreepptmba.com 13
  14. 14. “E-I-C Analysis of Capital Goods Sector”And since the market is unpredictable by nature, the only way to beat it is constantmonitoring. Thats where the integration with Kotak Securities proves invaluable. Clientsbenefit from the in-depth research, the wide network of experts, the internationalpresence, and from the constant tab on the Indian and global financial scenario of KotakSecurities.About Financial Planning Group:The financial planning and distribution arm of Kotak Securities is involved in definingfinancial goals, identifying investment vehicles and achieving them. The groupcommenced its operations in the year 2003. Present over 30 locations with a large team ofrelationship managers, has always endeavoured in servicing clients; closelyunderstanding their needs, financial goals and advising ethically.Products:This is done through quality service and access to a wide range of products; products thatare customizable. The financial planners thoroughly discuss and understand the desires ofeach client. Their financial goals. Their risk appetite. Their time constraints.Products offered range from those promising aggressive returns (MFs and PMS) to thosethat aid diversification (Commodities, Gold, Equities etc.) to those that aim for capitalprotection like insurance and capital guarantee products.Portfolio Management Service:Kotak Securities brings with it years of experience, expertise, research and the backing ofIndias leading stock broking house. The portfolio managers have over 10 years ofunderstanding diverse investment instruments and needs.Kotak Securities is one of Indias oldest portfolio management companies. It is also oneof the largest with an AUM worth Rs.2500 crore. And for those who wish to grow theirwealth exponentially-it is also one of the best.The Portfolio Management Service combines competent fund management, dedicatedresearch and technology to ensure a rewarding experience for its clients. Babasabpatilfreepptmba.com 14
  15. 15. “E-I-C Analysis of Capital Goods Sector”Every investment portfolio is carefully engineered for clients in a phased manner.Relationship managers help clients monitor, assess and tweak their portfolio at everylevel. Relationship Managers dispense personalized advice and ensure clients receivequarterly research reports, account performance statements and MIS at their doorstep. Adedicated website and a customer service desk allow clients to keep a constant tab ontheir portfolios performance. All in all, it translates into zero paperwork. Babasabpatilfreepptmba.com 15
  16. 16. “E-I-C Analysis of Capital Goods Sector” INTRODUCTION TO THE TOPICINVESTMENT SCENARIO: Investment is the employment of fund on assets with an aim of earning income oncapital appreciation. Investment means the present consumption is sacrificed to get returnin future. Investment is good only for the purpose to get return from the selected orchoosing securities so; investors have to see the fundamental analysis. In fundamentalanalysis, we can broadly classify into three types. One is Economic Analysis; Industryanalysis and company analysis. These three are very important base of the securities orstock of market. We have to study about this fundamental analysis. An Indian stock market has been no different. Memories of its crash of December1990 are still there in the minds of many. After record rise in proceeding few years theindex fell precipitously and investor loss heavily. This phenomenon repeated every nowand then. Though the equity cult is fast spreading among the investor the hard fact ismajority of stocks continue to remain volatile to date. All these are pointers to the factthat the investor market is no longer holding an olive branch to investor in equity. Muchof the danger associated with it can be avoided and it need not be such nerve rakingexperience, provided one approaches it as a rational decision making process. In shortSecurity analysis and portfolio management are hard work, requiring discipline andpatience, and the work is not always rewarded with exceptional returns. Babasabpatilfreepptmba.com 16
  17. 17. “E-I-C Analysis of Capital Goods Sector”INTRODUCTION TO THE CONCEPT OF SECURITY ANALYSIS: An investment is a commitment of funds made in expectation of some positiverate of return in future. An investor makes some sacrifice in the present in the hope ofdesiring benefits in future. The motive behind investment varies from person to person.Some people invest in order to gain a sense of power or prestige. Often the control ofcorporate enterprises is a driving motive. For most investor however their interest ininvestment is largely pecuniary to earn a return on their money. But the return on stockmarket security is subject to risk. Risk incase refers to the uncertainty surrounding actualrealization of the rate of return offered by an investment. The time element refers toperiod of waiting required to reap the return. Accordingly early investment decision hasthree key aspects.They are,ReturnRiskTimeThere fore, investment process must be considered in terms above aspects. One shouldapproach any scheme of investment as a rational decision making process, in which heshould attempt to select a package of portfolio securities that meets predetermined set ofgoals. These investors goal are usually expressed in terms of return. Almost all the cases,the hard fact are that return and risk are inseparable. Further the maximum higher thereturn the grater the risk.Therefore the ultimate decisions to be made in the investment are two.What securities to be heldHow many rupees should be allocated to each.These decisions are made in three steps.1. Security analysis Babasabpatilfreepptmba.com 17
  18. 18. “E-I-C Analysis of Capital Goods Sector”2. Security evaluation3. Portfolio analysis, selections and management.Securities are marketable financial instruments that bestow on their owners the right tomake specific claims on particular assets. An individual security provides evidence oftheir creditor ship or ownership depending on whether it is bond or stock, respectively. Abond is loan that is paid off with interest; the investor lends money to the borrowingcompany that issued bond. In contrast, stock ownership represents a cash investment afuture of a corporation; the investor owns a part of a corporation and share in its profits.SECURITY ANALYSIS:(a) Traditional investment analysis, when applied to securities, emphasizes projection ofprices and dividends. That is, the potential prices of a firm’s common stock and futuredividend stream are forecast, and then discounted back to the present.b) Basically modern security analysis deeply rooted in the fundamental concept. But themore modern approach to common stock analysis emphasizes risks and return estimaterather than mere price and dividend estimates, of course dependent on share price andaccompanying the dividend stream.SECURITY EVALUATION:It refers to the act of assessing the true worth of security. Before committing the fund onstock exchange securities, the investor should make thorough comparison of the prices ofthe security with its true value. The price refers to the price quoted for the security at thestock exchange at a given movement of time. Value refers to the intrinsic worth. Onlywith the help of such evaluation the investor can decide as to buy hold or sell.DIFFERENT APPROACHES TO EVALUATION:There are essentially three approaches or school of thoughts on the matter of securityprice evaluation, classified as Babasabpatilfreepptmba.com 18
  19. 19. “E-I-C Analysis of Capital Goods Sector”(a) Fundamental Approach:The concept of time value of money is the business of this approach. Money has a timevalue. A rupee now is worth more than rupee a year from now. For different securities,future benefits may me received at different times. Even when the amount of futurepayment is the same, differences in the speed of their receipt may create differences invalue. Time value of money suggests that earlier receipt is more desirable than laterreceipt, even when the both are equal in the amount of certainty. Because, earlier receiptcan be re invested to generate additional returns before later receipt come in. The forceoperating is the principle of compound interest.Framework: The proper order in which to proceed in Fundamental analysis is, first toanalyze the overall economy and securities markets. Second, analyze the industry with inwhich a particular company operates. Finally, analysis of the company should beconsidered. The above analysis involves making a careful estimate of expected stream ofbenefits and required return of common stock. The intrinsic value then can be obtainedthrough the present value analysis that is, the dividend discounts model. An alternativemethod of valuation is the P/E ratio or earning multiplier approach. ECONOMIC ANALYSIS INDUSTRY ANALYSIS COMPANY ANALYSIS Babasabpatilfreepptmba.com 19
  20. 20. “E-I-C Analysis of Capital Goods Sector”STRATEGIC CONSIDERATIONS OF ECONOMIC, INDUSTRY AND COMPANYANALYSES ARE AS FOLLOWS:(1) Economic Analysis:1. A study of economic trends as indicated by rate of growth in gross national product,employment, aggregate corporate profits, interest rate, exchange rates, savings andinvestments, monsoon positions.2. An analysis of the relationship between economic trends and economic policies and thestability of such relationships.3. A study of world economic trends and their impact on Indian economy.(2) Industry Analysis:1. Implications of projected growth in gross national product for various industries.2. Implications of plan priorities and plan expenditure for various industries.3. Vulnerability of an industry for government regulations, and control of prices andproduction.4. Implications of industrial and fiscal policies of government for an industry.5. Analysis of competitive conditions as reflected in any barriers to entry.(3) Company Analysis:1. Trend analyses of company’s market share.2. An analysis of turn over of assets, operating and production efficiencies through ratioanalysis.3. Leverage and coverage ratio analysis.4. An analysis of book value per share.5. An assessment of quality of management6. An analysis of price .to .earning multiples.7. An analysis of growth in sales and dividends.The basis tenets of this approach are as follows:Each share has an intrinsic value. It can be determined by discounting the future streamof benefits that does accrue to the holder of the security. For instance if rupees 100 now is Babasabpatilfreepptmba.com 20
  21. 21. “E-I-C Analysis of Capital Goods Sector”= rupees 100 + R after one year. Where R is the rate of return then the next question is ifwe get rupees hundred after one year how much is it worth now. Rupees 100 + R afterone year = 100 now. Therefore rupees 100 after one year = 100/100 + R and if R = 12 %then 100/112 = .0893.(b) Technical Approach:Technical analysis is an alternative approach to predicting the stocks price behavior.Technical analysis is frequently used as a supplement to fundamental analysis rather thanas a substitute for it. Thus technical analysis can frequently does, confirm findings basedon fundamental analysis. Technical analysis is viewed mainly through price and volumestatistics. It helps in measuring price . volume, supply . demand relationship for overallmarket as well as for individual stocks. Technicians seldom rely upon a single indicator,as no one indicator is infallible; they place reliance upon reinforcement provided bygroups of indicators.(c) Modern Approach:Markovitize led down the foundation for this approach in 1951. He studied capital marketwith the help of fairly sophisticated method of investigation and in general arrived at thefollowing conclusions. • Stock markets are reasonably efficient in reacting quickly and rationally to the flow of information. • Successive price changes are independent. As a result past price behaviour cannot be used to predict future price behaviour. • In the capital market, there is a positive relation ship between the risk and return. This indicates, in general, investment in several securities would reduce the variability of return and hence the risk ness of a portfolio. Babasabpatilfreepptmba.com 21
  22. 22. “E-I-C Analysis of Capital Goods Sector”Insights of the topic:The intrinsic value of an equity share depends on multitude of factors. The earnings ofthe company, the growth rate and the risk exposure of the company have a direct bearingon the price of the share. These factors in turn rely on the host of other factors likeeconomic environment in which they function, the industry they belong to, and finallycompanies’ own performance. The fundamental school of thought appraised the intrinsicvalue of shares through E-I-C Analysis. Let us now understand what is fundamentalanalysis.WHAT IS FUNDAMENTAL ANALYSIS:Fundamental analysis is the analysis, wherein the investment decisions are taken on thebasis of the financial strength of the company. There are two approaches to fundamentalanalysis, viz.• E-I-C analysis or the Top Down approach to Fundamental analysis, and• C-I-E analysis or the Bottom up approach.ECONOMY-INDUSTRY-COMPANY ANALYSIS:In the Top down approach, first of all the overall Economy is analyzed to judge thegeneral direction, in which the economy is heading. The direction in which the economyis heading has a bearing on the performance of various industries. That’s why Economyanalysis is important. The output of the Economy analysis is a list of industries, whichshould perform well, given the general trend of the economy and also an idea, whether toinvest or not in the given economic conditions.MEASURING A COMPANYS FINANCIAL HEALTH: Babasabpatilfreepptmba.com 22
  23. 23. “E-I-C Analysis of Capital Goods Sector”Gaining a true picture of a companys finances means not only scrutinizing the financialstatements but also analyzing relationships among various assets and liabilities, thushighlighting trends in a companys performance and changes in its financial strengthrelative to its competitors.General Steps to Fundamental Evaluation:Even though there is no one clear-cut method, a breakdown is presented below in theorder an investor might proceed. This method employs a top-down approach that startswith the overall economy and then works down from industry groups to specificcompanies. As part of the analysis process, it is important to remember that allinformation is relative. Industry groups are compared against other industry groups andcompanies against other companies. Usually, companies are compared with others in thesame group. For example, a telecom operator (Verizon) would be compared to anothertelecom operator (SBC Corp), not to an oil company (ChevronTexaco).Economic Forecast:First and foremost in a top-down approach would be an overall evaluation of the generaleconomy. The economy is like the tide and the various industry groups and individualcompanies are like boats. When the economy expands, most industry groups andcompanies benefit and grow. When the economy declines, most sectors and companiesusually suffer. Many economists link economic expansion and contraction to the level ofinterest rates. Interest rates are seen as a leading indicator for the stock market as well.Below is a chart of the S&P 500 and the yield on the 10-year note over the last 30 years.Although not exact, a correlation between stock prices and interest rates can be seen.Once a scenario for the overall economy has been developed, an investor can break downthe economy into its various industry groups.Group Selection:If the prognosis is for an expanding economy, then certain groups are likely to benefitmore than others. An investor can narrow the field to those groups that are best suited to Babasabpatilfreepptmba.com 23
  24. 24. “E-I-C Analysis of Capital Goods Sector”benefit from the current or future economic environment. If most companies are expectedto benefit from an expansion, then risk in equities would be relatively low and anaggressive growth-oriented strategy might be advisable. A growth strategy might involvethe purchase of technology, biotech, semiconductor and cyclical stocks. If the economy isforecast to contract, an investor may opt for a more conservative strategy and seek outstable income-oriented companies. A defensive strategy might involve the purchase ofconsumer staples, utilities and energy-related stocks.To assess a industry groups potential, an investor would want to consider the overallgrowth rate, market size, and importance to the economy. While the individual companyis still important, its industry group is likely to exert just as much, or more, influence onthe stock price. When stocks move, they usually move as groups; there are very few loneguns out there. Many times it is more important to be in the right industry than in theright stock! The chart below shows that relative performance of 5 sectors over a 7-monthtime frame. As the chart illustrates, being in the right sector can make all the difference.Narrow Within the Group:Once the industry group is chosen, an investor would need to narrow the list ofcompanies before proceeding to a more detailed analysis. Investors are usually interestedin finding the leaders and the innovators within a group. The first task is to identify thecurrent business and competitive environment within a group as well as the future trends.How do the companies rank according to market share, product position and competitiveadvantage? Who is the current leader and how will changes within the sector affect thecurrent balance of power? What are the barriers to entry? Success depends on an edge, beit marketing, technology, market share or innovation. A comparative analysis of thecompetition within a sector will help identify those companies with an edge, and thosemost likely to keep it.Company Analysis: Babasabpatilfreepptmba.com 24
  25. 25. “E-I-C Analysis of Capital Goods Sector”With a shortlist of companies, an investor might analyze the resources and capabilitieswithin each company to identify those companies that are capable of creating andmaintaining a competitive advantage. The analysis could focus on selecting companieswith a sensible business plan, solid management and sound financials.Business Plan:The business plan, model or concept forms the bedrock upon which all else is built. If theplan, model or concepts stink, there is little hope for the business. For a new business, thequestions may be these: Does its business make sense? Is it feasible? Is there a market?Can a profit be made? For an established business, the questions may be: Is thecompanys direction clearly defined? Is the company a leader in the market? Can thecompany maintain leadership?Management:In order to execute a business plan, a company requires top-quality management.Investors might look at management to assess their capabilities, strengths andweaknesses. Even the best-laid plans in the most dynamic industries can go to waste withbad management (AMD in semiconductors). Alternatively, even strong management canmake for extraordinary success in a mature industry (Alcoa in aluminum). Some of thequestions to ask might include: How talented is the management team? Do they have atrack record? How long have they worked together? Can management deliver on itspromises? If management is a problem, it is sometimes best to move on.Financial Analysis:The final step to this analysis process would be to take apart the financial statements andcome up with a means of valuation. Below is a list of potential inputs into a financialanalysis. Babasabpatilfreepptmba.com 25
  26. 26. “E-I-C Analysis of Capital Goods Sector” Babasabpatilfreepptmba.com 26
  27. 27. “E-I-C Analysis of Capital Goods Sector”OPERATIONAL DEFINITIONS:Economic Analysis:Economic analysis refers to analyze the factors or indicators of the economy that affectsthe stock market. This is also called non-diversifiable risk analysis where the riskassociated with the securities can not be diversified.Industry analysis:Industry analysis refers to analyze the plan, priorities and vulnerability of an industry forgovernment regulations. The competitive conditions as reflected in any barriers toindustry also taken in to consideration.Company Analysis:Company analysis includes analyze the company as potentiality for growth, presentperformance, risk associated with securities are considered as important.Correlation:Correlation is a statistical measure of the degree to which the security returns movetogether. The positive correlation means the variables move together. The negativecorrelation suggests that move in opposite direction and zero correlation shows that notendency to very either positive or negative direction.Beta:It measures the sensitivity of the return of a security to changes in returns to the marketportfolio. It may be positive or negative. The positive beta measures that if 1% changesmarket index, more than 1% in individual security and vice versa. Babasabpatilfreepptmba.com 27
  28. 28. “E-I-C Analysis of Capital Goods Sector” PROJECT DETAILSTopic of the study:“E-I-C Analysis of Capital Goods Sector”Name of the organization : KOTAK SECURITIES, Hubli.Main Objective:“To evaluate the performance of Capital Goods companies under study using EICAnalysis.”Sub objectives: 6. Analyzing the environmental factors that affect the security prices. 7. Industry analysis of Capital goods Sector 8. To assess the fundamentals of the company in light of financial statements. 9. To arrive at intrinsic value of the company thus enabling the investor in assessing the worth of the security. 10. I had keen interest to enrich my knowledge in stock market.Framework of study:The proper order to proceed in Fundamental analysis is,First, to analyze the overall economy and securities markets.Second, analyze the industry with in which a particular company operates.Finally, analysis of the company should be considered.The above analysis involves making a careful estimate of expected stream of benefits andrequired return of common stock. The intrinsic value then can be obtained through P/Eratio or earning multiplier approach. Babasabpatilfreepptmba.com 28
  29. 29. “E-I-C Analysis of Capital Goods Sector”Data Collection Approach:Secondary Data:The study is mainly based on analysis of financial statements of the company i.e. balancesheet and profit and loss account. The same has been collected through; • Company websites and other related websites. • The information is also collected from various magazines like Indian survey 2008 by The Hindu • News papersSample Size:Two large cap companies are taken for study. They are; • Bharat Heavy Electricals Limited • Larsen & Toubro Babasabpatilfreepptmba.com 29
  30. 30. “E-I-C Analysis of Capital Goods Sector” ECONOMY ANALYSIS:The level of economic activity has an impact on investment in many ways. If theeconomy grows rapidly, the industry can also be expected to show growth and vice-versa.The analysis of macro economic environment is essential to understand the behaviour ofthe stock prices. The commonly analysed macro economic factors are as follows; 1. Global economy 2. Gross Domestic Product (GDP) 3. Industrial growth rates 4. Savings and investments 5. Government budget and deficit 6. Price level and inflation 7. Interest rates 8. Balance of payment(BOP), forex reserves,& exchange rates 9. Infrastructural facilities and arrangements. 10. Sentiments1. Global economyIn recent years, globalization of capital flows hassled to the growing relevance ofemerging capital markets and India is one of the countries with an expanding stockmarket that is increasingly attracting funds from the FIIs. In particular, deregulation andmarket Liberalization measures, rapid developments in communication technology andcomputerized trading systems, and increasing activities of multi national corporationshave accelerated the growth of Indian capital market.From 1999 onwards, Indian firms are raising capital from the US market by listingthemselves in US exchanges. The economic dailies as well as official publications havebeen full of stories of a newfound alliance between the NSE and the NASDAQ. Throughthese news reports, market regulators, traders, and the general investing public in Indiahave become sensitized to the US stock market movements. Babasabpatilfreepptmba.com 30
  31. 31. FII Activities (Monthly) * MF Activities (Monthly) Purchase ( Rs Sale ( Rs Investment ( Rs Investment ($USDate Crore ) Crore )“E-I-CApr-2008 Analysis 47624.50 of46803.10CapitalCrore) 821.20 Goods mm) Sector” 238.70Mar-2008 71159.40 71289.90 -130.40 -32.20Feb-2008 73776.60 72043.20 1733.30 429.80Jan-2008 103678.20 116713.90 -13035.70 -3231.60Dec-2007 85586.40 80007.10 5579.10 1383.00Nov-2007 89035.90 96380.90 -7345.10 -1820.90Oct-2007 21981.40 20749.80 1231.60 305.20Finally, a quick examination of stock market movements of these two markets suggeststhat there exists a substantial degree of inter dependence between the US and Indian stockmarket indices.Facts about FII activities for 2007-08:There was a lot of turmoil in the stock market since January 2008.We can see that FII’shave sold there stake significantly. Indian markets are semi-strong markets and hencethey are largely dependent on FII activity.2. Gross domestic product:GDP indicates the rate of growth of the economy. GDP represents the aggregate value ofthe goods and services produced in the economy. It consists of Personal consumptionexpenditure, gross private domestic investment and Government expenditure on goodsand services and net exports of goods and services. The estimates are available on annualbasis. The growth rate of economy points out the prospects for the industrial sector andthe return investors can expect from investment in shares. Higher growth rate is morefavourable to the stock market.The GDP of industry sector is in a growing trend with an average of 8.5% whereas theChinese GDP has an average of 10.5%. Hence the biggest competition is faced by China. FY01 FY02 FY03 FY04 FY05 FY06 Babasabpatilfreepptmba.com 31
  32. 32. “E-I-C Analysis of Capital Goods Sector”Agriculture (%) na 6.2 -6.9 10.0 0.7 3.9Industry (%) 6.3 2.7 7.0 7.6 8.6 8.7Services (%) 5.6 7.1 7.3 8.2 9.9 10.3. Industrial growth rates:The current phase of growth is as much due to the investment demand as consumptiondemand. Capital goods industries are in a continuous growth phase for the last four years,and there are no reports of any slackening yet. Intermediate goods (that go into themanufacturing process like nuts and bolts, fittings and fixtures, yarn, etc) should see agrowth phase now, as the new capacities added over the last four years will startproducing. Basic goods consist of actual chemicals and minerals that are the feedstock ofall manufacturing process.YOY% Consumer Consumer Basic Capital Intermediate IIPchange durables non-durablesweight 35.5 9.3 26.5 5.3 23.3 100.01994-95 9.6 9.2 5.3 16.2 11.2 9.11995-96 10.8 5.3 19.4 25.8 9.8 13.01996-97 3.0 11.5 8.1 4.6 6.6 6.11997-98 6.9 5.8 8.0 7.8 4.8 6.71998-99 1.6 12.6 6.1 5.6 1.2 4.11999-00 5.5 6.9 8.8 14.1 3.2 6.72000-01 3.7 1.8 4.7 14.5 5.8 5.02001-02 2.6 -3.4 1.5 11.5 4.1 2.72002-03 4.9 10.5 3.9 -6.3 12.0 5.72003-04 5.4 13.6 6.4 11.6 5.8 7.02004-05 5.5 13.9 6.1 14.4 10.8 8.42005-06 6.7 15.8 2.5 15.3 11.0 8.22006-07 9.3 16.1 10.9 12.5 8.7 11.3 Babasabpatilfreepptmba.com 32
  33. 33. “E-I-C Analysis of Capital Goods Sector”4. Savings and investments:Saving and investment is the portion of amount that is saved and invested by the peopleand corporate. Moderate level of saving and high investment is favourable to stockmarket, but increase in savings rate indicates little scope for further improvement. It isobvious that growth requires investment which in turn requires substantial amount ofdomestic savings. The table below depicts the favourable trend in savings as well asinvestments. As % of GDP 2003 2004 2005 2006 Gross domestic savings rate 26.4 29.7 31.1 32.4 Gross domestic investment rate 25.2 28.0 31.5 33.8 Source: The Hindu (survey of Indian industry 2008)5. Government budget and deficit:The budget draft provides an elaborate account of the government revenues andexpenditure. Fiscal deficit measure the difference between government spending andrevenues. Since government borrowing must offset the budgetary shortfall, large amountsof government borrowing can force up the interest rate by increasing the total demand forcredit in the economy. Year Fiscal deficit(as % of GDP) Revenue deficit (as % of GDP) 2003 5.9 4.4 2004 4.5 3.6 2005 4.0 2.5 2006 4.1 2.6 2007 3.7 2.0 Source: The Hindu (survey of Indian industry 2008)6. Price level and inflation: Babasabpatilfreepptmba.com 33
  34. 34. “E-I-C Analysis of Capital Goods Sector”Along with the growth of GDP, if the inflation rate also increases, then the real rate ofgrowth would be very little. Especially the demand in the consumer product industry issignificantly affected. The industries which come under Government price control policymay lose the market, for ex: Sugar. If there is a mild level of inflation, it is good for stockmarket but high rate of inflation is harmful.7. Interest rates:Interest rate is the cost of borrowing depends on nature of instruments, which will bedecided by demand and supply of money and controlled by RBI. It indicates theattractiveness of future investment opportunity and it is key determinant of businessexpenditure. High interest rate reduces the value of future cash flow as well asopportunities for investment.8. Balance of payment (BOP), forex reserves, & exchange rates:Exchange rate measures the value of the rupee over the foreign currency. Exchange ratedecides international competitiveness of domestically produced goods and it can affectimport export, import and the rate of inflation domestically.The BOP (balance of payment) is the record of a country’s money receipts from andpayments abroad. The difference between receipts and payments may be surplus ordeficit. The BOP is a measure of the strength of rupee on external account. If the deficitincreases, the rupee may depreciate against other currencies, thereby affecting the cost ofimports.The Forex reserves are also increasing year on year which shows a positive sign. Thereserves as on March 05 were Rs. 619116 crore and have been growing. On June 07 theforex reserves stood at Rs. 869449. This reserve amount includes SDR’s, Gold, Foreigncurrency assets, Reserve tranche position in IMF.9. Infrastructural facilities and arrangements:The capital goods industry is driven by this factor. Investment in infrastructuredevelopments indicates positive signal to the sectors in the economy, especiallymanufacturing companies related to transportation. In order to gain from the trade the Babasabpatilfreepptmba.com 34
  35. 35. “E-I-C Analysis of Capital Goods Sector”transaction costs should be low. So the better facility reduces the cost of trade andenables the companies for making profit.More specifically to mention are:• Adequate and regular supply of electric power at a reasonable tariff• A well developed transportation and communication system• Assured supply of basic industrial raw material• Responsive financial support for fixed assets and working capital.With reference to such importance of infrastructure, our finance ministerShri.P.Chidambaram mentioned that, to sustain 9 percent GDP growth, investment ininfrastructure should be increased from 4.6 percent to around 8 percent of GDP over theEleventh Plan period (2007/12). Hence the capital goods industries will play a major rolein providing for this.10. Sentiments:The sentiments of consumers and businessmen have an important bearing on economicperformance. Sentiments influence consumption and investment decisions and have abearing on the aggregate demand for goods and servicesThus to sum up: ‘India is not on autopilot to greatness. But it would take an incompetentpilot to crash the plane. These words of Mr. Edward Luce very aptly define the contoursof the Indian economy. The economy has been growing at an average annual growth rateof nearly 6% since the 1980s, and at over 8% during the last three years. Besides, Indiahas also shown considerable resilience during the recent years and avoided adversecontagion impact of several shocks. This has precipitated to increased confidence in thecountrys financial markets with a consistent increase in gross domestic investment ratefrom 25% of GDP in FY03 to 33% in FY06. The gross domestic saving rate has alsoimproved from 26% to 32% over the same period, contributed by a significant turnaround in public sector saving. A case in this point is that the inflows into mutual fundsalone have multiplied 10 times in the last decade and is currently at all time highs! Babasabpatilfreepptmba.com 35
  36. 36. “E-I-C Analysis of Capital Goods Sector”For this buoyancy to sustain, the country will have to tide over several stumbling blocks.Inherent flaws...First, the poor state of the physical infrastructure, both in terms of quantity and quality.While with the healthy fundamentals of the domestic financial sector and the enhancedinterest of foreign investors, funding should not pose a problem, issues relating toregulatory framework and rapid execution need to be addressed by the government.Second, the fiscal consolidation. The recent budget of the central government targets agross fiscal deficit of 3% of GDP by 2009. This requires fiscal empowerment, which ispossible through two routes (i) elimination of subsidies or (ii) elimination of taxexemptions. While in any economy fiscal consolidation is hard, it is particularly so in oursettingThird, India is set to remain one of the youngest countries in the world in the next fewdecades. This demographic dividend cannot be used to the economys advantage unlessprerequisites such as skill upgradation and sound governance to realize it are put in place.Fourth, there is a need to shift the emphasis from foreign institutional investment toattracting foreign direct investment, which is less volatile. This requires a more favorableinvestment climate in general both for domestic and foreign capital.Global Imbalances...As India does not depend on the international capital market for financing the fiscaldeficit, the extent of adverse consequences of the global developments would be muted.However, there could be a spillover effect of global developments on domestic interestrates and thus on fiscal position. Also, a faster rise in rates overseas could lead to a shiftin investor confidence to the international markets. Further, should there be a reversal ofcapital flows, asset prices may decline. With this there is a risk that rise in interest rates in Babasabpatilfreepptmba.com 36
  37. 37. “E-I-C Analysis of Capital Goods Sector”general could impact the housing market and expose the balance sheet of the householdsto interest rate risk, increasing the risk of loan delinquencies for banks. Banks in Indiahave invested significantly in government debt and other fixed income securities. If a risein international rates gets reflected in domestic interest rates, banks will also have tomark down the value of their investment portfolio.Multilateral confidence...Finally, there needs to be the confidence of the investor community on multilateralaspects such as political stability, terrorism combating ability and significance at globaleconomic platforms (such as the IMF and World Bank).While we do not intend to sound pessimistic about the continued resilience of theeconomy to global and internal shocks, investors investing in the India story shouldassess these grounds before judging the market risk to be assigned to a stock. Weighingthis with the premium expected to be earned over and above the risk free rate (10 yearGSec yield), will help you correctly align your portfolio as per your risk profile. Babasabpatilfreepptmba.com 37
  38. 38. “E-I-C Analysis of Capital Goods Sector”IMPACT OF BUDGET 2008-09 ON ENGINEERING:From a policy perspective, however, there has been a growing consensus that a private-public partnership is required to remove difficulties concerning the development ofinfrastructure in the country. The realization finally seems to be setting in. This makes thefuture of the Indian engineering sector extremely bright. Apart from highwaydevelopment and construction and modernization of airports, the potential for the sectorlies in the oil and gas space, where high global demand has led to increased action inexploration and production activities. However, scale and execution capabilities remainthe mantras for success.Budget Measures: • Fourth UMPP at Tilaiya to be awarded shortly; Chhattisgarh, Karnataka, Maharashtra, Orissa and Tamilnadu urged to bring five more UMPPs to the bidding stage by extending the required support. • Rajiv Gandhi Grameen Vidyutikaran Yojana to be continued during the Eleventh Plan period with a capital subsidy of Rs 280 bn; allocation of Rs 55 bn for FY09. • Rs 8 bn to be provided for Accelerated Power Development and Reforms Project (APDRP) in FY09. • Exemption from 4% additional duty of customs has been withdrawn on power generation projects (other than mega power projects), transmission, sub transmission and distribution projects, and specified goods for high voltage transmission projects. Babasabpatilfreepptmba.com 38
  39. 39. “E-I-C Analysis of Capital Goods Sector” • Custom duty on project imports reduced from 7.5% to 5% • Defence allocation to be increased by 10%. • Excise duty being exempted on end-use basis, on refrigeration equipment (consisting of compressor, condenser units, evaporator, etc) above 2 TR (tonne refrigeration) utilising power of 50 KW and above. • Parent company allowed to set-off the dividend received from its subsidiary company against dividend distributed by the parent company; provided that the dividend received has suffered DDT and the parent company is not a subsidiary of another company.Budget Overview:Key Positives:Power play: Since power utilities are one of the biggest consumers (generation,transmission and distribution) for engineering companies, reforms introduced in thepower sector like privatisation of SEBs will help in strengthening the order book size.Huge addition in power generation capacity, in order to meet the demand supply gap willbe a big positive for the sector. Infrastructure development: The government is focusing on development ofinfrastructure like housing, airports, roads and ports. This will be big positive forengineering and construction companies.Industrial ‘act’: Industrial divisions of engineering companies are likely to benefit fromthe increased focus on automation and capacity addition plans drawn by the India Inc.Key Negatives: Babasabpatilfreepptmba.com 39
  40. 40. “E-I-C Analysis of Capital Goods Sector”Captive competition: Duty free import of T&D equipments by captive power generationunits, if allowed by government, can have some impact on margins of the T&D majorsbecause of competition.People problem: Engineering companies, across the board, are facing troubled timesretaining key employees. This is due to increased levels of competition for talent fromMNCs, who have deep pockets and thus better paying capabilities. As a result ofincreasing levels of attrition, some companies are facing execution issues.COMPANY IMPACT: • Allocation of UMPPs to support growth if equipment and service providers like BHEL, L&T and Siemens. • Greater focus on the T&D front to be beneficial for ABB, Siemens, Crompton Greaves, Emco, Bharat Bijlee. Also, companies providing T&D project services like Jyoti Structures and Kalpataru Transmission to benefit. • Removal of exemption from additional customs duty on power generation, transmission and distribution projects to benefit domestic companies like BHEL, L&T, Siemens and Reliance Energy. • Skill development initiatives to pare pressure of attrition from companies like L&T and BHEL. • Increase in defense allocation to aid prospects of Tata Power, L&T and Bharat Electronics. Babasabpatilfreepptmba.com 40
  41. 41. “E-I-C Analysis of Capital Goods Sector” INDUSTRY ANALYSIS:If one were to consider one of the biggest beneficiaries from any country’s infrastructuresector development, engineering companies have a vital role to play. As in any othersector, choices for a retail investor are high for an equity investment. However, it doesthat mean each stock in the sector is a BUY? In this article, we have tried to discuss thedynamics of this sector and the key aspects that one should look in, before selecting anengineering stock.PROFILE:Engineering, as a sector, has many facets. A company from this sector can be anequipment manufacturer (like transformers and boilers), execution specialist (say BHEL,L&T, Engineers India) or a niche player (like Thermax in environmental solutions,Voltas in electro-mechanical projects, ABB for automation technologies and so on). Todefine the user industries in broad terms are power utilities, industrial majors (refining,automotive and textiles), government (public investment) and retail consumers (pumpsand motors). Thus, every company has a specific role to play in the industry and islooking forward to cater a specific target market. Given this backdrop, prospects of aparticular company in the engineering sector have to be viewed with respect to thespecific user industries. So, if the engineering sector does well, not all companies stand tobenefit in equal proportion.When will an engineering company grow?It is highly dependent on the level of private and public sector investment in theeconomy. When investments in capacities and infrastructure gains momentum, more jobsare created and demand for goods in general increases. This in turn leads to highereconomic growth. Historically, the growth of the engineering sector has been sensitive toeconomic performance (as is evident from the graph below). The industry is relativelyless fragmented at higher end, as competencies required are high. It is therefore that the Babasabpatilfreepptmba.com 41
  42. 42. “E-I-C Analysis of Capital Goods Sector”barriers to entry are also high. But in some cases, competition is also global in nature(like dam construction, roads, refineries and power plants).Let’s have a look at the demand drivers for this sector :Order Book:An engineering company can derive revenues from domestic as well as global markets.Usually, there is something-called order book that is declared by most of the companiesin its annual report. This is nothing but the quantum of projects that have been won, butare still to be executed. Therefore, order book position indicates the future growthprospects. Babasabpatilfreepptmba.com 42
  43. 43. “E-I-C Analysis of Capital Goods Sector”Most of these companies have an order book to sales ratio in the range of 2.5-4 timesFY07 revenue. This implies that for the next two-to-three years, even if the companies donot get fresh orders, they can still maintain revenue growth of 30-40 per cent.Domestic market:The power sector accounts for approximately 60% of total revenues for this sector.Therefore, growth in power capacities is very important for engineering companies. Solet’s have a brief look at key fundamental factors that influences power sectorperformance.Historically, politics have played a vital role in shaping the power sector as opposed toeconomics (profitability in easy terms). What a retail investor has to keep in mind is thatpower capacities will only increase when there is a political will to charge consumers forwhat they consume. Industrial sector pays higher tariffs while agricultural sector derivespower free of cost. This is the root cause for the poor financial health of the SEBs (stateelectricity boards).SEBs are financially weak and private sectors have been reluctant to invest, as they areapprehensive of receiving money for the quantity of power supplied to the SEBs. Retailinvestors have to keep in mind that India is power deficient (demand is more thansupply). The simple way to gauge growth of a engineering company that is targeting thepower sector is to understand what kind of capacity SEBs and private sector players areplanning.It costs Rs 30-35 m to set up one MW of power capacity. If a player is planning to set upa 1,000 MW plant, then the project size could be around Rs 30 bn to Rs 35 bn. This couldbe assumed roughly as the potential addition to the order book. If public sector powermajors are expanding capacity, then it has to be borne in mind that public sectorengineering companies benefit the most (as a matter of preference). Babasabpatilfreepptmba.com 43
  44. 44. “E-I-C Analysis of Capital Goods Sector”Industrial and Infrastructure spending:The industrial sector contributes around 30% of the total revenues of engineering sector.The demand from this segment largely depends on GDP growth, which in turn is afunction of the quantum of infrastructure spending and capacity expansion plans ofcorporate India.A lot depends on government policies. Formulation of policies favorable to industrialsector can boost the investments and expansion plans for both private and public sectorcompanies. Talking of policies, when government increases participation of foreigncompanies in infrastructure development, the sector gets a fillip. Demand growth in thissector is fuelled by expenditure in core sectors such as power, railways, infrastructuredevelopment, and private sector investments and the speed at which the projects areimplemented.The top line trends of major engineering companies since last five years have shown ahigh degree of correlation with the IIP (Index of Industrial Production) growth. Thus afair idea can be taken about the sector looking at the IIP growth. Let’s look at thecorrelation in the graph below.Exports:While an engineering company from India could tap global markets for contracts, there isa vast difference when it comes to competitors. Players like Bechtel and GE have musclepower and have executed projects on a global scale. This is one of the reasons increasing Babasabpatilfreepptmba.com 44
  45. 45. “E-I-C Analysis of Capital Goods Sector”contribution from international markets is not easy for any company. Retail investorshave to tread with caution on this front. Due to intense competition in the internationalarena, suppliers do not enjoy much bargaining power.Moreover, in order to win big contracts you need to have big balance sheet size, becauseonly some part of entire contract money is paid up front and rest comes after installationof project. Moreover, in some cases, the engineering company buys stake in the projectsduring the financial closure.Key points to be kept in mind before investing… • Order book and operating margins: Order book, as we had said earlier, indicates a company’s standing in a year in terms of future growth in revenues. A consistent rise in order book on a year on year basis (and not quarter on quarter) is also vital. Though order book may be huge for a company, it has to be remembered that operating margins are low in projects. In a downturn, operating margins of an engineering company comes under pressure. If a company acts as an engineering agency (i.e. buys and installs equipment), margins tend to be on the higher side. • Balance sheet size: One should look at the balance sheet size of the company. It will tell you whether company is capable of bagging and executing big contracts. In order to win big contracts and execute them, company needs huge working capital. In this case, past track record of projects executed could be useful (available in the balance sheet). • Revenue growth: Usually, an engineering company derives a large share of revenues in the third and fourth quarter. So, quarter on quarter comparisons is meaningless in this sense. • Valuation ratios: One of the key factors used when it comes to putting a value for an engineering company is market capitalization to sales. Why the emphasis of assigning a value to revenues and not to earnings? The ability to grow for any Babasabpatilfreepptmba.com 45
  46. 46. “E-I-C Analysis of Capital Goods Sector” engineering company is dependent on the kind of order book, which then translates into revenues. Internationally, the average of 0.4 times to 0.5 times is a benchmark. If price to earnings is used, it has to be remembered that the sector is highly dependent on the economy. So, a P/E in line with the long-term economic growth could be useful.Apart from what all has been said above, investor needs to look at the past record of themanagement, its vision and its focus on business. After all it’s the management of thecompany who is the final decision-maker and the future of the company solely dependson the decisions taken by it Babasabpatilfreepptmba.com 46
  47. 47. “E-I-C Analysis of Capital Goods Sector”PORTER’S FIVE FORCE MODEL: • Supply: Abundant supplies is available across most segments, except for technology intensive executions. • Demand: Demand growth in this sector is fuelled by expenditure in core sectors such as power, railways, infrastructure development, private sector investments and the speed at which the projects are implemented. The Govt. has been spending heavily on this sector and this has fuelled the growth of capital goods industry • Barriers to entry: Barriers to entry are high at upper end of the industry as skilled manpower and technologies, and ability to fund large projects are a prerequisite. However at the lower end, the industry is more fragmented. • Bargaining power of suppliers: Babasabpatilfreepptmba.com 47
  48. 48. “E-I-C Analysis of Capital Goods Sector” Bargaining power of suppliers is low because of intense competition. However, in technology driven high-end segments, suppliers have the upper hand. Babasabpatilfreepptmba.com 48
  49. 49. “E-I-C Analysis of Capital Goods Sector” • Bargaining power of customers: Bargaining power for technology driven segments is low as there are very few producers of engineering goods. And moreover the customer has very less bargaining power in such industry as compared to FMCG • Competition: Majority of the companies compete in terms of pricing, experience in specific field, product differentiation and timely completion of projects. The sector is less fragmented at top because the competencies required are high. The other competitor is China which is providing equally good competition.. Babasabpatilfreepptmba.com 49
  50. 50. “E-I-C Analysis of Capital Goods Sector” COMPANY ANALYSISCompany Analysis is the leg in the EIC analysis sequence. It may be organized into twoparts,1] Study of Financials.2] Study of other factors.The companies taken for EIC Analysis in this project are’1] Bharath Heavy Electricals Limited [BHEL]2] Larsen and Toubro [L&T] Babasabpatilfreepptmba.com 50
  51. 51. “E-I-C Analysis of Capital Goods Sector”PROFILE OF THE COMPANIES UNDER STUDY:BHARAT HEAVY ELECTRICALS LIMITED [BHEL]:OVERVIEW:BHEL is the largest engineering and manufacturing enterprise in India in the energy-related/infrastructure sector, today. BHEL was established more than 40 years ago,ushering in the indigenous Heavy Electrical Equipment industry in India - a dream thathas been more than realized with a well-recognized track record of performance. Thecompany has been earning profits continuously since 1971-72 and paying dividends since1976-77.BHEL has acquired certifications to Quality Management Systems (ISO 9001),Environmental Management Systems (ISO 14001) and Occupational Health & SafetyManagement Systems (OHSAS 18001) and is also well on its journey towards TotalQuality Management. Babasabpatilfreepptmba.com 51
  52. 52. “E-I-C Analysis of Capital Goods Sector”BHEL has, • Installed equipment for over 90,000 MW of power generation -- for Utilities, Captive and Industrial users. • Supplied over 2,25,000 MVA transformer capacity and other equipment operating in Transmission & Distribution network up to 400 kV (AC & DC). • Supplied over 25,000 Motors with Drive Control System to Power projects, Petrochemicals, Refineries, Steel, Aluminum, Fertilizer, Cement plants, etc • Supplied Traction electrics and AC/DC locos to power over 12,000 kms Railway network. • Supplied over one million Valves to Power Plants and other Industries.BHELs operations are organised around three business sectors, namely Power,Industry - including Transmission, Transportation, Telecommunication & RenewableEnergy - and Overseas Business. This enables BHEL to have a strong customerorientation, to be sensitive to his needs and respond quickly to the changes in the market.BHELs vision: “To become a world-class engineering enterprise, committed to enhancing stakeholder value”.The greatest strength of BHEL is its highly skilled and committed 42,600 employees.Every employee is given an equal opportunity to develop himself and grow in his career.PRODUCT PROFILE: • Established in the late 50’s, Bharat Heavy Electricals Limited (BHEL) is, today, a name to reckon with in the industrial world. Babasabpatilfreepptmba.com 52
  53. 53. “E-I-C Analysis of Capital Goods Sector” • It is the largest engineering and manufacturing enterprise of its kind in India and one of the leading international companies in the power field. • BHEL offers over 180 products and provides systems and services to meet the needs of core sectors like: power, transmission, industry, transportation, oil & gas, non-conventional energy sources and telecommunication. • A wide-spread network comprising 14 manufacturing divisions, 8 service centres, 4 power sector regional centres, 18 regional offices, besides a large number of project sites spread all over India and abroad, enables BHEL to be close to its customers and cater to their specialised needs with total solutions - efficiently and economically. • An ISO 9000 certification has given the company international recognition for its commitment towards quality. With an export presence in more than 60 countries, BHEL is truly India’s industrial ambassador to the world. Babasabpatilfreepptmba.com 53
  54. 54. “E-I-C Analysis of Capital Goods Sector”OVERSEAS BUSINESS:BHEL, ranking among the major power plant equipment suppliers in the world, is one ofthe largest exporters of engineering products & services from India. Over the years,BHEL has established its references in around 60 countries of the world, ranging fromthe United States in the West to New Zealand in the Far East. BHELs export rangecovers individual products to complete Power Stations, Turnkey Contracts for PowerPlants, EPC Contracts, HV/EHV Sub-stations, O&M Services for familiar technologies,specialized after-market services like Residual Life Assessment (RLA) studies andRetrofitting, Refurbishing & Overhauling, and supplies to manufacturers & EPCcontractors.RESEARCH AND DEVELOPMENT:To remain competitive and meet customers expectations, BHEL lays great emphasis onthe continuous upgradation of products and related technologies, and development of newproducts. BHELs commitment to advancement of technology is reflected in itsinvolvement in the development of futuristic technologies like fuel cells andsuperconducting generators. BHELs investment in R&D is amongst the largest in thecorporate sector in India. Products developed in-house during the last five yearscontributed about 7% to the revenues in 2005-06. Babasabpatilfreepptmba.com 54
  55. 55. “E-I-C Analysis of Capital Goods Sector”COMPANY MANAGEMENT:Board of Directors: Name DesignationMr. Ashok K Aggarwal DirectorMr. Anil Sachdev DirectorMr. S K Jain DirectorDr. Surajit Mitra DirectorMr. Sanjay M Dadlika DirectorMr. Shekhar Datta DirectorMr. K Ravi Kumar Chairman and Managing directorMr. B S Meena Part Time DirectorMr. Madhukar DirectorMr. C S Verma DirectorMr. A K Mathur DirectorMr. S Ravi Part Time DirectorMr. B P Rao DirectorMr. C P Singh DirectorMr. Manish Gupta Director Babasabpatilfreepptmba.com 55
  56. 56. “E-I-C Analysis of Capital Goods Sector” Babasabpatilfreepptmba.com 56
  57. 57. “E-I-C Analysis of Capital Goods Sector”COROPORATE NEWS: • Power equipments built by state-run Bharat Heavy Electricals (BHEL) registered a record generation of 454.6 billion units of electricity in 2007-08, compared to 432.6 billion units in the year-ago period. • State-run power plant equipment maker BHEL has won orders worth around Rs 20.30 billion from Bharathiya Rail Bijlee Company (BRBCL). • The power ministry agreed to give power equipment manufacturer Bharat Heavy Electricals (BHEL) a few of NTPC`s supercritical 660mw and 800mw projects on a negotiated basis. • The government-owned Bharat Heavy Electricals (BHEL) has secured the state- run Chhattisgarh State Electricity Board`s (CSEB`s) contract to set up two power plants in Korba district quoting Rs 19.6 million per Mw, the lowest it has ever quoted for a power plant in the country, • State-run BHEL and Nuclear Power Corporation on Friday signed a memorandum of understanding (MoU) to float a joint venture (JV) company for executing nuclear power projects in India and abroad • Bharat Heavy Electricals (BHEL) will sign a memorandum of agreement (MoA) with Nuclear Power Corporation of India to float a joint venture for manufacturing equipment for nuclear power plants. • Bharat Heavy Electricals (BHEL), India`s biggest power equipments maker has further enlarged its global footprint with a foray into a new market New Caledonia, with a prestigious export contract for environment friendly circulating fluidized bed combustion (CFBC) boilers. Babasabpatilfreepptmba.com 57
  58. 58. “E-I-C Analysis of Capital Goods Sector” • Bharat Heavy Electricals (BHEL) is likely to spend nearly Rs 50 billion over the next three years in its yet-to-be-formed joint venture companies with power utility NTPC and Nuclear Power Corporation of India (NPCIL) • Bharat Heavy Electricals (BHEL) bagged orders worth around Rs 20.30 billion for the supply and installation of the main plant package at the upcoming 1,000 MW Nabinagar Thermal Power Project in Bihar, involving four units of 250 MW each. • Bharat Heavy Electricals (BHEL) plans to buy a local engineering company to expand capacity. The power-equipment maker may buy a company of a size of about Rs 4 billion.Bhel is seeking to expand capacity to help the country’s effort to add at least 600 gig watt of electricity by 2030. Babasabpatilfreepptmba.com 58
  59. 59. “E-I-C Analysis of Capital Goods Sector”LARSEN AND TUBRO [L&T]:CORPORATE OFFICE:OVERVIEW:Larsen & Toubro Limited (L&T) is a technology, engineering, construction andmanufacturing company. It is one of the largest and most respected companies in Indiasprivate sector. Seven decades of a strong, customer-focused approach and the continuousquest for world-class quality have enabled it to attain and sustain leadership in all itsmajor lines of business. L&T has an international presence, with a global spread ofoffices. A thrust on international business has seen overseas earnings grow significantly.It continues to grow its overseas manufacturing footprint, with facilities in China and theGulf region. The companys businesses are supported by a wide marketing anddistribution network, and have established a reputation for strong customer support. L&Tbelieves that progress must be achieved in harmony with the environment. Acommitment to community welfare and environmental protection are an integral part ofthe corporate visionStrategic Mission - LAKSHYA (Hindi for Target) To compete and grow in a globalisedbusiness environment, L&T is implementing a strategic plan (LAKSHYA) for 2005-10.The plan has been drawn up in consultation with a leading international strategyconsultant. It has set ambitious growth targets for each business. Also included areopportunities for diversification of L&Ts business portfolio Babasabpatilfreepptmba.com 59
  60. 60. “E-I-C Analysis of Capital Goods Sector”ORGANIZATION STRUCTURE: Babasabpatilfreepptmba.com 60
  61. 61. “E-I-C Analysis of Capital Goods Sector”HISTORY: The evolution of L&T into the countrys largest engineering and constructionorganization is among the most remarkable success stories in Indian industry. L&T was founded in Bombay (Mumbai) in 1938 by two Danish engineers,Henning Holck-Larsen and Soren Kristian Toubro. Both of them were stronglycommitted to developing Indias engineering capabilities to meet the demands ofindustry. Beginning with the import of machinery from Europe, L&T rapidly took onengineering and construction assignments of increasing sophistication. Today, thecompany sets global engineering benchmarks in terms of scale and complexity..GLOBAL PRESENCE:L&T has a global presence. A thrust on international business over the years has seenoverseas revenues growing steadily. The company has manufacturing facilities in India,China, Oman and Saudi Arabia. It has a global supply network with offices in 10locations worldwide, including Houston, London, Milan, Shanghai, and Seoul.Customers include global majors in over 30 countries.SUBSIDIARIES AND ASSOCIATES:The L&T Group has a number of subsidiaries & associates worldwide. • Engineering and Construction • Machinery and Industrial Products • Information Technology • Financial Services Babasabpatilfreepptmba.com 61
  62. 62. “E-I-C Analysis of Capital Goods Sector”TECHNOLOGY:In every sphere of L&Ts operations, technology is the key enabler, reinforcing itsleadership position, and sustaining its competitive strengths. While for some, technologyis a means to an end, for L&T, technology represents endless possibilitiesENGINEERING AND CONSTRUCTION:In engineering and construction, L&Ts technology capabilities include a strategic mix ofin-house strengths and the expertise of its joint venture partners. Engineering Centers atMumbai, Vadodara and Delhi carry out process design and simulation, analysis ofcomputational fluid dynamics, mechanical design, failure analysis and trouble shooting.L&T has set up an engineering and project management centre in Abu Dhabi, toundertake oil and gas related projects as well as engineering and consultancy services.An engineering centre in Sharjah is an extended arm in the Gulf. This is supplementedthrough collaborations with key partners: L&T-Valdel for engineering services in theupstream hydrocarbon sector, L&T-Chiyoda for the mid and down stream sectors, andL&T Sargent & Lundy for the power sector.The engineering services provided by L&Ts Engineering Design Research Centers atChennai and Kolkatta include feasibility studies, project reports, system engineering,architectural, structural and civil design for infrastructure development projects. Babasabpatilfreepptmba.com 62

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