Bharat Heavy Electricals Ltd., India’s biggest power-equipment maker, may buy a European provider of metro-rail technology for as much as $500 million to help revive profit growth from a three-year low.
The company plans to use part of its 67 billion rupees ($1.3 billion) of cash reserves and raise debt to fund the purchase, two people familiar with the plans said. Bharat Heavy has identified targets in Italy and the Netherlands and the acquisition may be completed by March 31, said the people, asking not to be identified as the talks are private.
The state-owned company is seeking to expand its transportation business to tap metro-rail networks being built in seven Indian cities at an estimated cost of $21.5 billion. Bharat Heavy’s profit may drop for the first time in a decade according to a survey of 37 analysts compiled by Bloomberg, as competition from Chinese rivals including Shanghai Electric Group Co. and Dongfang Electric Corp. drives down prices, while lack of fuel prompts utilities to delay projects.
“It’s imperative for Bharat Heavy to diversify,” said Lakshminarayana Ganti, an analyst with Standard Chartered Securities in Mumbai, who rates the stock underperform. “The power business is fraught with challenges. The company has rightly identified areas like turnkey project implementation, transport and renewables as new focus areas.”
Profit at the maker of turbines, boilers and switchgear may drop 11 percent to 62.86 billion rupees in the year ending March 31, according to the survey
Bharat Heavy shares extended gains for a third day, climbing to the highest level in five months. The stock rose 2.4 percent to 253.70 rupees at close in Mumbai. The shares have climbed 6.2 percent this year, compared with a 21 percent increase in the benchmark Sensitive Index.
“Deals are waiting to happen in the technology space in Europe,” said Vijaya Sampath, a senior partner at Lakshmi Kumaran & Sridharan, a Mumbai-based legal firm that specializes in corporate law. “Most of these are family-owned businesses, which are facing liquidity issues or the younger generation wants to sell out.”
Economic and business challenges will make it difficult for the company to sustain past growth rates in the near term, Chairman B. Prasada Rao said in an address to shareholders on Sept. 19. Bharat Heavy earned 76 percent of its revenue from power equipment last financial year and 22 percent from its transport business, which makes electric locomotives and electrical systems for urban rail networks.
The company’s market share in power equipment almost halved to 51 percent in the five years ended March 31 as competition from overseas and local rivals such as BGR Energy Systems Ltd. and Larsen & Toubro Ltd. intensified.
Prices of boilers, turbines and generators together have fallen 22 percent to 23 million rupees a megawatt, which is “the ultimate panic price,” Pritesh Chheda, Prerna Jhavar and Harshad Shukla, analysts at Emkay Global Financial Services in Mumbai, wrote in a report dated Sept. 20. The average price of the equipment in the previous two to three years was 29.5 million rupees, they said.
Bharat Heavy is expected to maintain its profitability until the financial year ending March 2014 because of orders booked at higher prices, Ganti said, adding that the company’s profit margin is expected to shrink.
Power companies such as Reliance Power Ltd., JSW Energy Ltd. and GVK Power & Infrastructure Ltd. have deferred projects worth at least $35 billion, citing shortage of coal and natural gas, which together fire 66 percent of India’s electricity generation capacity. State-run NTPC Ltd. cut its expansion target by 11,000 megawatts, or 44 percent, for the five years ending March 2017 because of coal shortages.
About 30,000 megawatts of capacity at existing power plants is lying idle because of coal and natural gas shortages, said Ashok Khurana, director general at the Association of Power Producers, a lobby group for the nation’s generation companies.
As much as $35 billion of debt at state distribution utilities is also hurting the power industry. The utilities, whose tariffs are lower than their costs, have had to cut back on electricity purchases as coal costs increase.
NTPC, the country’s biggest power producer, was forced to cut generation by 13 billion kilowatt hours, or 6 percent of its total production, in the year ended March 31, as state government utilities reduced purchases, Chairman Arup Roy Choudhury said on Aug. 7. The company may have to cut output by almost as much this year.
“As long as these concerns prevail, companies will be reluctant to place new orders,” Khurana said.
The challenges in the power industry make Bharat Heavy’s push in urban-rail equipment a sound decision, said Standard Chartered’s Ganti.
The government is encouraging Bharat Heavy to “seriously get into” urban transportation, Chairman Rao told analysts in an earnings call on July 26. The company is focusing on metro-rail transportation as about 30 Indian cities are planning to build the networks.
Bharat Heavy plans to bid for a Delhi Metro Rail Corp. project, Rao said on the call, without elaborating. The company also plans to increase production of railway locomotives by 50 percent to 75 this year, he said.
“We are not increasing our presence in the transportation sector because we are despondent about our power business,” Bharat Heavy Finance Director P.K. Bajpai said in a phone interview. “We are doing so because we don’t want to be a peripheral player in anything that we do.”