Result Update

Voltas Ltd
Q3FY12: M.East projects being bid at lower magins; AC business gets tougher

Reco: SELL CMP: INR111

Nifty Sensex 5,522 18,154

Target Price: INR88

Downside: 21%

Result Update

Voltas results were in line with our expectations excluding the loss recorded on their books with respect to the project at Sidra Medical Centre, Qatar. This loss was to an extent of INR2766 mn during the quarter over and above INR437.5 mn booked till date in H1 Excluding the above adjustment, margins were at 7.6% while EPS for the quarter (re-adjusted for tax) stood at INR1.8, indicating potential full year EPS of INR6.4, which is in line with our expectations Owing to current weak trend in Middle East, potential further losses in Sidra in coming quarters, weak AC sales in Unitary cooling, and headwinds in their subsidiary Rohini Industrial, we maintain our SELL rating on the stock

Stock data
Sector Reuters Code Bloomberg Code No. of shares (mn) 52-week H/L (INR) Market Cap (INRmn/USDmn) Avg 3m Vol. (USDmn) Capital Goods VOLT.BO VOLT IN 331 189 / 72 36,927 / 748 4.7

Middle East project low on margins to affect MEP margins overall

Voltas declared results in line excluding the loss on Sidra. EPS for the quarter was INR1.8 indicating full year EPS assumption of INR6.5. For FY13E we continue to maintain our EPS estimate of INR8.0. Considering the hit taken on Sidra (INR2766) mn reported profit during the quarter came into negative territory at INR(1332) mn. This wiped out total profitability for the year taking the 9MFY12 reported EPS to INR(2). The situation would be reviewed for cost over-run at the end of every quarter. However, the size of write down may not be as high as the amount provided in Q3. We also have our concern based on grounds that on a project size of INR1 bn, company would have logically made EBIT margins of ~12% indicating INR1200 mn. Against this, a total loss of INR3,240 mn (32% of project cost), a swing of 44% is perplexing. The level of recoveries is not known and we believe the company would need 24 months post completion to indicate any claim receivable or received on the project. While the quarter has offered strong order inflow of INR15 bn, a guidance of 3-4% margins (5.5% - 6% previously) on current international orders won (INR6 bn in Q3) and being bid for, offers thin margin for error.

Stock performance (%)

1M Absolute Relative 36.1 14.7 3M 28.3 14.7 12M (32.5) (36.6)

Shareholding pattern (%)

Promoter 30 FII 17 DIIs 30 Others 22

Relative stock movement

300 250

Unitary Cooling inventory liquidation and rupee depreciation pulls down margin
While the unitary cooling segment revenue grew 18.7%, EBIT margin for the segment dropped to 0.6% against 9.7% last year and 2.9% in the previous quarter. This segment has suffered due to lower festive sales and early winters, leading to inventory buildup. We expect AC players to tread cautiously on inventories due to unpredictability of the weather, increasing competition and greater advertising expense, which would keep overall margins for the segment in FY13 in the 7% range (8-9% previously).

200 150
100 50 0

Nov-09

Nov-10

May-08

May-10

May-11

May-09

Nov-11

Nov-08

Feb-08

Feb-09

Feb-10

Aug-08

Aug-09

Aug-10

Aug-11

Feb-12

Feb-11

Maintain SELL with target price of INR88

We maintain our SELL with a target price of INR88 based on 11xFY13E EPS of INR8. Key financials

SENSEX

VOLTAS LTD

17 February 2012

(Y/e March) Revenues(INRmn) EBITDA (INRmn) EBITDA margin (%) Adj. PAT (INRmn) EPS (INR) Growth (%) PE (x)

FY10 48,059 4,592 9.6 3,432 10.4 51.0 9.2 2.9 5.4 36.6

FY11 51,768 4,408 8.5 3,114 9.4 (9.3) 10.1 2.3 5.7 25.5

FY12E 51,123 3,296 6.4 2,141 6.5 (31.2) 14.7 2.0 8.1 14.5

FY13E 52,153 3,843 7.4 2,638 8.0 23.2 11.9 1.8 7.1 15.5

Vinay Pandit +91 22 4220 8935 v.pandit@pugsec.com

PUG Institutional Research

P / BV (x) EV/EBIDTA (x) RoE (%)

02 January 2012

Voltas Ltd

Result Update

Decoding the provision for additional cost on Sidra Medical

The company presently has the Sidra Medical Centre project being executed under a main contractor. The project is being done for the Qatar government

The total size of this order for Voltas wasINR1,000 mn. On that company would have presumably incurred INR120 mn (assuming 12% at EBIT). The company has till date executed 53% of the project which would have made them eligible to earn approx INR120 mn as EBIT. However, on that company has incurred loss of INR437.5 mn until H1FY12. For the balance 47%, the company has estimated cost overruns due to design changes and time overruns. This is a total of INR2766.3 mn. This would lead to Zero profits for the revenue booked in this order over the next 4 quarters. However, 2 possibilities exist:

o o

Write back of excess cost provided for in the next 3-4 quarters through cost savings activities (low possibility) Further losses on contract, however, lower than current loss provided for more in the range of INR100-300 mn.

Interpreting Accounting Standard 7 of Institute of Chartered Accountants of India

One needs to read Para 10,11 and Para 35 to understand key aspecst of revenue recognition and recording of contract loses: (AS7 extract) Contract Revenue 10. Contract revenue should comprise: Company has not recognized claims as revenue indicates low probability of claim being accepted or negotiations not being at an advanced stage in line with points (a) and (b) to Para 13 read with Para 10 (a) the initial amount of revenue agreed in the contract; and (b) variations in contract work, claims and incentive payments: (i) to the extent that it is probable that they will result in revenue; and (ii) they are capable of being reliably measured 13. A claim is an amount that the contractor seeks to collect from the customer or another party as reimbursement for costs not included in the contract price. A claim may arise from, for example, customer caused delays, errors in specifications or design, and disputed variations in contract work. The measurement of the amounts of revenue arising from claims is subject to a high level of uncertainty and often depends on the outcome of negotiations. Therefore, claims are only included in contract revenue when: (a) negotiations have reached an advanced stage such that it is probable that the customer will accept the claim; and (b) the amount that it is probable will be accepted by the customer can be measured reliably. Basis on which company recognized the incremental cost 35. When it is probable that total contract costs will exceed total contract revenue, the expected loss should be recognised as an expense immediately. The amount of such a loss is determined irrespective of: (a) whether or not work has commenced on the contract; (b) the stage of completion of contract activity; or (c) the amount of profits expected to arise on other contracts which are not treated as a single construction contract in accordance with paragraph 8.

PUG Institutional Research

17 February 2012

Voltas Ltd

Result Update

Interpreting Accounting Standard 7 through an example:

Assuming that XYZ Co Ltd entered into a contract for a project value of INR 800,000. Due to change in scope of project, contract price increased by INR40,000. The revenue, billing and cost ratio stands as under:
As on 31 March 2011: Cost incurred till date Estimated cost to complete Billings till date Cash Collection As on 31 March 2012: Cost incurred till date Estimated cost to complete Billings till date Cash Collections INR 720,000 INR 180,000 INR 710,000 INR 625,000 INR900,000
st st

INR 410,000 INR 410,000 INR 440,000 INR 365,000 INR820,000

In such cases, revenue and cost recognition for the 2 years will be as under: Profit / Loss for 31.03.11 a. Estimated Gross Profit / Loss i. ii. iii. b. Contract Price Less: Total costs (incl.estimated cost to complete) Estimated Gross Profit/ Loss 800,000 820,000 (20,000) INR

Percentage complete i. ii. iii. Costs incurred to date Total Cost Percentage completed 410,000 820,000 50% (20,000) INR

c.

Gross Profit / loss to be recognized

Profit / Loss for 31.03.12 d. Estimated Gross Profit / Loss iv. v. vi. e. Contract Price (including penalty) Less: Total costs (incl.estimated cost to complete) Estimated Gross Profit/ Loss

840,000 900,000 (60,000)

Percentage complete iv. v. vi. Costs incurred to date Total Cost Percentage completed 720,000 900,000 80% (60,000) (20,000) (40,000)

f.

Gross Profit / loss to be recognized Less: Gross Profit / Loss recognized in previous year Gross Profit / Loss now to be recognized

Comparing the above example to what has happened in the Sidra contract, Loss of INR(20,000) is equivalent to the loss booked of INR437.5 while the additional loss recognized of INR(40,000) is equivalent to the loss of INR2766.3 mn provided for.

PUG Institutional Research

17 February 2012

Voltas Ltd

Result Update

Key risks

Low margin of 3-4% in new projects won and bid for leaves little room for deviation on cost dynamics thereby increasing the risk profile of project Further potential loss over the next 3 quarters from the project at Sidra Medical Centre, Qatar Drop in sales of Caterpillar (routed through own distributors) and Bucyrus (now acquired by Caterpillar) not being made up inspite of increase in construction and mining activity

Catalysts

Quarterly financial highlights
(All values in Rs mn) Net Income from Oper* EBITDA EBITDA % Other Income Depreciation EBIT Interest Extra-ord PBT Tax Reported PAT Adjusted PAT Adj EPS (Rs) Q3FY12 11,646 874 7.5 164 84 954 64 (1,766) (875) 285 (1,160) 606 1.8 Q3FY11 10,422 793 7.6 131 54 870 34 155 991 302 688 534 1.6 25.0 55.3 9.7 86.8 (188.3) (5.7) (268.5) 13.5 13.5 YoY% 11.7 10.2 9MFY12 36,347 2,235 6.2 577 276 2,536 219 (701) 1,616 1,043 573 1,274 3.9 9MFY11 35,157 3,144 8.9 518 157 3,505 117 325 3,713 1,185 2,528 2,203 6.7 11.4 75.2 (27.6) 87.5 (56.5) (12.0) (77.3) (42.1) (42.1) YoY% 3.4 (28.9) FY11 51,768 4,408 8.5 810 210 5,008 165 402 5,245 1,729 3,516 3,114 9.4 FY12E 51,123 3,296 6.4 800 350 3,746 250 1,020 4,516 1,355 3,161 2,141 6.5 (1.2) 66.6 (25.2) 51.2 153.8 (13.9) (21.6) (10.1) (31.2) (31.2) YoY% (1.2) (25.2) FY13E 52,153 3,843 7.4 750 367 4,225 350 250 4,125 1,238 2,888 2,638 8.0 YoY% 2.0 16.6 14.3 (6.3) 4.9 12.8 40.0 (75.5) (8.6) (8.6) (8.6) 23.2 23.2

Continued regular order inflows in ensuing quarters Sharp pick up in AC sales driven by favourable weather condition and strong marketing strategy Pick up in mining and construction activity JV / acquisition / tie up in water treatment / water management

Source: Company, PUG Research

PUG Institutional Research

17 February 2012

Voltas Ltd Segmental Performance

All values in Rs mn REVENUES Electromechnical Engg Prod & Services Unitary cooling Others Less : Inter Segment Total Segment Revenue PBIT Electromechanical Engg Prod & Services Unitary cooling Others Total Segment PBIT Less : Interest Other Un-allocable Exp PBT PBIT (%) Electromechanical Engg Prod & Services Unitary cooling Others CAPITAL EMPLOYED Electromechanical Engg Prod & Services Unitary cooling Others Total Unalloc Net Assets/Liab Total Capital Employed 5,500 899 2,934 146 9,479 4,929 14,408 3,427 964 2,376 87 6,853 6,541 13,394 60.5 (6.7) 23.5 68.6 38.3 (24.6) 7.6 5,500 899 2,934 146 9,479 4,929 14,408 3,427 964 2,376 87 6,853 6,541 13,394 7.3 17.7 0.6 (10.4) 6.4 17.5 9.7 11.5 -180 bps -590 bps - 80 bps (8.0) 16.8 8.3 1.1 7.7 20.3 10.1 11.0 602 156 15 (9) 763 54 (64) 773 440 250 191 8 888 34 (137) 991 57.4 (53.4) (22.0) 36.7 (37.6) (92.4) (206.0) (1,805) 514 840 3 (449) 219 (219) (449) 1,605 790 1,018 15 3,428 109 (394) 3,713 8,241 877 2,338 85 (2) 11,539 6,926 1,428 1,969 72 (2) 10,393 19.0 (38.6) 18.7 11.0 22,633 3,052 10,073 269 (12) 36,016 20,917 3,899 10,118 135 (10) 35,059 Q3FY12 Q3FY11 YoY% 9MFY12 9MFY11

Result Update

YoY%

8.2 (21.7) (0.4) 98.7 24.2 (2.7)

(212.5) (34.9) (17.5) (80.5) (113.1) 100.2 (44.5) (927.2)

60.5 (6.7) 23.5 68.6 38.3 (24.6) (7.0)

12 month forward P/E band

300.0
250.0 200.0 150.0 100.0 50.0 -

Jun-07

Jun-11

Oct-07

Jun-08

Oct-08

Jun-09

Oct-09

Jun-10

Oct-10

Feb-09

Feb-07

Feb-08

Feb-10

Feb-11

Oct-11 23x

Adj. Share Price

11x

15x

19x

Source: PUG Research

PUG Institutional Research

17 February 2012

Feb-12

Voltas Ltd

Result Update

Financial Summary
Profit and loss
Year end 31 Mar (Rs mn) Net sales Expenditure Operating Profit Other Oper. Income EBITDA Other income Depreciation EBIT Interest expenses PBT (before extra ord) Extra ord items (net of tax) PBT (after extra ord) Provision for tax Reported profit Adjusted Profit Min Int / Share of Assoc Profit after minorities FY10 48,059 43,467 4,592 4,592 789 214 5,166 98 5,068 250 5,318 1,635 3,683 3,432 3,432 FY11 51,768 47,360 4,408 4,408 810 210 5,008 165 4,843 402 5,245 1,729 3,516 3,114 3,114 FY12E 51,123 47,827 3,296 3,296 800 350 3,746 250 3,496 1,020 4,516 1,355 3,161 2,141 2,141 FY13E 52,153 48,310 3,843 3,843 750 367 4,225 350 3,875 250 4,125 1,238 2,888 2,638 2,638

Balance sheet
Year end 31 Mar (Rs mn) Equity Capital Reserves and surplus Shareholders funds Minorities Borrowings Others Total Liabilities Fixed Assets Gross block Depreciation (Accum.) Net block Capital WIP Net fixed assets Investments Inventories Sundry debtors Cash equivalents Loans advances 4,654 1,799 2,855 193 3,025 2,339 11,441 10,060 4,689 2,078 28,267 11,142 11,352 22,493 5,774 204 11,343 5,325 1,987 3,339 36 3,374 2,613 8,224 11,705 4,980 10,401 35,309 13,383 12,849 26,232 9,077 170 15,234 5,507 2,307 3,200 200 3,400 2,778 10,814 13,224 3,511 8,100 35,649 12,106 12,423 24,529 11,121 200 17,499 5,689 2,649 3,040 350 3,390 2,948 14,041 13,481 2,823 9,000 39,345 12,350 13,990 26,340 13,005 200 19,543 FY10 331 10,521 10,852 139 352 2 11,343 FY11 331 13,286 13,617 218 1,381 18 15,234 FY12E 331 15,676 16,007 1,490 2 17,499 FY13E 331 17,600 17,931 1,610 2 19,543

Growth rates (%)

Year end 31 Mar (Rs mn) Revenue EBITDA EBIT Net profit Adj EPS FY10 11.1 62.2 44.9 51.0 51.0 FY11 7.7 (4.0) (3.1) (9.3) (9.3) FY12E (1.2) (25.2) (25.2) (31.2) (31.2) FY13E 2.0 16.6 12.8 23.2 23.2

Total current assets Sundry creditors Other current liabilities Total current liabilities Net current assets Others Assets Total Assets

Key ratios
Year end 31 Mar (Rs mn) Per share (Rs) Adj EPS Dividend per share Book value (BV) Margins (%) EBITDA margin EBIT margin PAT margin Valuation parameters P/E (x) Div.yield (%) Price/BV(x) EV/sales (x) EV/EBITDA (x) ROE (%) ROCE (%) 9.2 2.11 2.9 0.5 5.4 36.6 48.7 10.1 2.11 2.3 0.5 5.7 25.5 37.7 14.7 2.11 2.0 0.5 8.1 14.5 22.9 11.9 2.63 1.8 0.5 7.1 15.5 22.8 9.6 10.7 7.1 8.5 9.7 6.0 6.4 7.3 4.2 7.4 8.1 5.1 10.4 2.0 32.8 9.4 2.0 41.2 6.5 2.0 48.4 8.0 2.5 54.2 FY10 FY11 FY12E FY13E

Cash flow statement

Year end 31 Mar (Rs mn) Oper.CF before w.cap ch. Less: Changes in w.cap Net Operating Cash Flow Capex Investments Div / Int received Investing cash flows Change in equity (incl sh.prem) Change in debt Interest paid Dividend paid Other adjustment Financing cash flow Change in cash Opening balance Closing balance FY10 5,422 (2,293) 3,129 (53) (777) 209 (622) 0 (1,463) (98) (619) (20) (2,201) 307 4,571 4,877 FY11 5,393 (4,688) 705 (514) (274) 227 (561) 0 1,030 (165) (772) 54 147 291 4,689 4,980 FY12E 4,966 (4,915) 51 (346) (164) 150 (361) 109 (250) (769) (249) (1,159) (1,469) 4,980 3,511 FY13E 4,743 (4,003) 740 (332) (170) 100 (402) 120 (350) (771) (25) (1,026) (688) 3,511 2,823

PUG Institutional Research

17 February 2012

Voltas Ltd

Result Update

Rating System (In Absolute Terms)

BUY = Expected to give a return of 15% or more over a 12 months' time frame. Expected to give a return of -10% to +15% over a 12 months' time frame. Expected to give a return of -10% or lower over a 12 months' time frame

HOLD = SELL =

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17 February 2012