Thermax: Buy

Strengthening of order flows last quarter

Promising foray into utility boilers space

Capacity expansion plans on track

Since meaningful contribution from the entry into utility boilers space may come only in the next financial year, investors can buy this stock with a long-term perspective.

Entry into the critical boilers space holds significant earnings potential.

Srividhya Sivakumar


Higher input costs , firming interest rates and a slowdown in order-book accretion due to postponement of orders by clients, appear to have taken their toll on Thermax's stock valuation.

At the current market price of Rs 427, the stock trades at a modest valuation of about 15 times its likely FY-09 per share earnings.

While concerns over slowdown in growth may continue to mar Thermax's prospects over the next one year, its entry into utility boilers space and the expected commissioning of new capacities this year are likely to provide the much-needed growth momentum over the long-term. Investors with a two-year perspective can buy this stock.


For the financial year-ended March 2008, Thermax reported a 50 per cent growth in both revenues and profits, on a consolidated basis. Operating margins also expanded marginally to about 12.3 per cent.

Segment-wise, energy (constituting process heat, boilers and heater, absorption cooling and power businesses) continued to be the largest contributor.

The division, whose revenues grew by over 56 per cent during the year, contributed 81 per cent of the total revenues, up from last year's 77 per cent. With the likely addition of utility boilers business by next year, this division is likely to remain Thermax's leading revenue contributor.

The company's environment division, which comprises waste water solutions, air pollution controls and chemicals businesses, contributed to about 18 per cent of the total revenues.

However, the division clocked a modest growth of about 24 per cent during the year.

Tempered growth ahead

Notwithstanding the strong growth numbers, the management has guided a moderate growth rate for the current year. This restrained guidance comes on the back of slowing accretion to order book.

On a consolidated basis, the company's order backlog was down 15 per cent on a year-on-year basis. The group's order book stood at Rs 2,637 crore as on March 31, 2008 compared to Rs 3,100 crore in the previous year. Hardening interest rates, besides high coal prices and capital equipment cost, which led to postponement of order finalisation by some of Thermax's clients, could have limited the order inflows.

Also, margin pressures loom large for Thermax. Despite the management working towards maintaining operating margins at the current levels, any further rise in input prices may hurt Thermax's margins considerably. This is so because most of Thermax's orders are contracted on a fixed price basis only.

Although the management has said that it tries to include price escalation at the project costing stage itself or insists on a higher advance in projects where steel intensity is high, these efforts may not be sufficient to protect its margins. Given the current input price inflation scenario, the company's margins could come under pressure.

The silver lining

However, there is hope for Thermax. The company's entry into utility boilers space and the expected commissioning of its new capacities hold significant earnings potential over the long-term. Thermax had recently signed a 15-year technical transfer licence agreement with the US-based Babcock and Wilcox (B&W) for manufacturing and selling sub-critical B&W utility boilers (up to 800MW capacity) in India. This marks Thermax's entry into both sub-critical utility power projects and the high capacity captive power plants in India, a segment now dominated by BHEL. While the entry into utility boilers space will definitely expand Thermax's addressable market, it will also pit the company directly against the market leader.

However, Thermax's plans to target small independent power producers (250 MW) initially and BHEL's shift in focus to super critical boilers may provide the company an opportunity to gain foothold in this market.

Given the significant demand expected for power equipment, Thermax may well be able to build on its presence without cutting into BHEL's market share.

The utility boilers will be manufactured in the company's Vadodara facility. The facility, which is currently under expansion, is expected to become operational by January 2009.

This means, any meaningful contribution from this initiative can be expected from the next financial year only. While this is subject to Thermax receiving the relevant pre-qualifications on time, the management has indicated that it has already completed prospecting with a few large Indian power producers. And, given Thermax's track record, we do not foresee any hiccups in it getting the pre-qualifications on time.

Future growth triggers

The management has indicated at a strengthening of order flow in the fourth quarter. On a sequential basis, the company saw a healthy uptick in both order inflows and enquiries. The quarter saw more firm enquiries as against the mere budgetary enquiries earlier.

Order inflows may also be helped by the inclusion of the smaller captive power projects under the new coal distribution policy. Besides power sector, tender enquiries from companies in the steel and cement sector also firmed up last quarter.

Further, Thermax's presence in the environment business also holds tremendous growth potential. Unlike the energy division, revenues from this division are less prone to a cyclical slowdown and are driven primarily by government's mandatory environment-related guidelines.

Thermax's presence in air pollution control projects in West Asia and the Middle-East, combined with the home-grown need for water treatment projects in both commercial (SEZs) and municipal space are likely to help this division scale growth.

Moreover, since Thermax is slowly increasing focus on its waste water solutions segment (has set up a separate office to deal with municipal corporations), the potential growth opportunities from this space, to some extent, may also compensate for a slowdown in the energy division.

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