BGR Energy Systems: Buy

Investors with a three-year perspective can consider investing in the stock of BGR Energy Systems.

The recent results posted by the company and the strong growth in order book belie fears of a slow down in the engineering services space. BGR's well entrenched position as an EPC player in the power segment and a multi-equipment supplier in the oil and gas segment makes it a good proxy for the energy sector.

The current market price, at a sharp discount to its offer price of Rs 480, provides an attractive entry point. The stock currently trades at about 13 times its expected per share earnings for FY 2010.

BGR has an order backlog of Rs 3,212 crore and secured 46 per cent more orders than the previous year. This order growth inspires confidence at a time when some companies in the engineering sector have reported slowdown in the growth of order intake. Order inflows are key indicators of any slowdown in the sectors serviced by engineering companies. BGR's strong order intake is indicative of capex spending in the power and oil and gas space.

Of the total order book, power EPC and balance of plant (BOP) segment account for 85 per cent. BOP involves other works in a power plant excluding the key equipments boiler-turbine-generator (BTG). BGR has managed to stay competitive in this segment as it manufactures in-house 40-50 per cent of the products needed to execute a BOP.

The company has recently stated that it would soon announce its entry into the BTG segment as well, through foreign tie-ups. This segment, currently dominated by a few players such as BHEL, would enable forward integration. If successful in this planned foray, BGR could be among the few integrated solutions provider for power plants.

Therefore while the company would continue to receive orders in the oil and gas space, we expect the power segment to be the key contributor to revenues over the next few years.

BGR Energy's sales for the year ended March 2008 grew by 190 per cent to Rs 1,521 crore, while net profits registered a 223 per cent jump. Operating profit margins, however, declined 100 basis points to 10.2 per cent. The company has written off some losses from its Kochi road project, although the same is still under arbitration. We believe that this one-time write-off could be the reason for the dent. On the raw material front, while bulk buying of steel and price escalation clauses could provide some relief, any further hike in cement prices could pose a risk to margins.

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