The Hindu Business Line : Emco: Buy

The company is looking at vertical integration with plans to make switchgears. Such in-house manufacturing is likely to improve margins for the projects division.

Rapid growth in sales and bottomline, high-value orders and increasing presence in large turnkey projects in the power transmission and distribution segment impart visibility to the earnings growth of Emco. Investors can consider exposure to the stock with a medium-term perspective. At the current price, the Emco stock trades at about 14 times its expected FY-07 earnings at a discount to peers such as Bharat Bijlee. The company's market capitalisation is less than Rs 400 crore. While the present average volume of 6,000 over the last month does not appear to cause any major concern, liquidity issues may surface, given the current market volatility.

Power-packed growth

For the quarter-ended June 2006, Emco's sales rose 77 per cent and post-tax earnings more than doubled. The revenue mix for the quarter also underwent a change. After a slowdown in the meter division last fiscal, revenues from this segment saw a 12-fold jump. It appears that the order flows for this division were delayed, though the Electricity Act had made metering mandatory in 2005. This division is likely to secure steady business.

With an annual topline growth of 46 per cent over the past three years, the growth momentum is expected to continue on the back of steady order flows. Emco's present order-book stands at Rs 540 crore, a chunk of which is likely to get converted into revenue by FY-07.

Emco's operating profit margin (OPM) for the quarter stood at 13.4 per cent. Though the OPM have eroded from about 15 per cent a couple of years back, they still remain better than bigger players such as Crompton Greaves and ABB.

Plans on card

Emco plans to double the transformer capacity and make it fully operational by FY-08. This scaling up will not only place the company closer to players such as ABB in the transformer segment capacity, but also help reap the benefits of economies of scale. Fresh demand and the replacement market for transformers are likely to ensure steady business for the expanded capacity over the next three years.

The company's projects division has also seen a 51 per cent year-on-year (Y-o-Y) growth for the quarter-ended June. We expect this division to accelerate topline growth in the near future. A recent Rs 107-crore order from the Maharashtra State Electricity Distribution for revamping and upgrading distribution network may well act as a reference point for future orders. The company is also looking at vertical integration with plans to manufacture switchgears. Such an in-house manufacturing is also likely to improve the margins for the project division.

Risks

Emco plans to enter thermal power generation business through a special purpose vehicle.

While the model appears promising with a mix of power purchase agreements and open market sale of power, the project is likely to have a lead-time of two-three years. Funding the same may lead to earnings dilution in the short term.

Emco's OPM is now insulated as a result of price escalation clauses from government orders.

With orders from private players on the rise, the company's ability to sustain margins (despite the hike in the prices of copper and CRGO) would depend on the deal structured with new clients.

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