Voltas: Buy

The Voltas stock has underperformed the market in recent months on worries over chaos in the West Asian region — where it has a presence. However, we think the concerns are overdone, as Voltas' West Asian exposure is currently limited to Abu Dhabi and Qatar, which aren't significantly impacted by the turmoil.

The stock's discount to other air conditioner makers, also offers an opportunity to buy into it. At the current market price of Rs 165, the stock discounts its trailing earnings by 16 times (Blue Star and Hitachi Home And Life Solutions are trading at a PE of 17-18 times).

Revenue visibility is improving for Voltas with the company forming a new JV in the Sultanate of Oman, expanding its opportunities in the electro-mechanical projects space. In the domestic market orders from the industrial segment have picked up. The company's order book stands at Rs 4,700 crore (domestic plus international for electro-mechanical projects) 1.7 times the revenues of FY10. After several quarters of sluggish order inflows, the company saw fresh order inflow of Rs 500 crore in the December quarter.

While the sharp increase in copper prices has had an impact on margins, price hikes may help offset this in future quarters. For the nine months ended December 2010, Voltas reported a 12 per cent increase in sales (to Rs 3429 crore) and a 4 per cent increase (to Rs 331 crore) in profits (before exceptional items).

Apart from being a popular brand in the air conditioner market, Voltas is also a specialised player in heating, ventilation and air-conditioning for commercial complexes with services of plumbing, fire fighting, security systems and air-purification too.

Electro-mechanical projects

This business segment- electro-mechanical projects and services, accounts for almost 55 per cent of the company's total revenues. Of this, the international market, primarily Abu Dhabi and Qatar, contributes the chunk (almost 90 per cent). Voltas is, however, widening its footprint to other geographies such as Saudi Arabia, Oman, and Hong Kong now. Economic growth in Abu Dhabi and Qatar, which is driven mainly by oil, gas and petrochemicals, is likely to continue at a healthy clip, thanks to buoyancy in the prices of these commodities.

The recent JV with the Mustafa Sultan group in the Sultanate of Oman and the purchase of additional stake in Lalbuksh Contracting and Trading Establishment highlight the expanding opportunities there.

The picture on the domestic front too looks better now for electro-mechanical projects. In the December-2010 quarter, order booking in the domestic market was 40 per cent higher over the same quarter last year. Orders from commercial complexes have picked up. Voltas is also expected to benefit from the cold chain industry getting infrastructure status in the recent Budget.

Air-conditioning

In home air-conditioning (35 per cent to total revenues), where Voltas is among the top three players, the business is growing strongly.

For the nine-months ended December 2010, the unitary cooling division of the company saw revenue increase of 48 per cent.

The demand for home air-conditioners has been rising in double-digits owing to many reasons — the rising income levels, improving affordability and increasing replacement demand, with the replacement cycle in air-conditioners down to four-five years from 9-10 years. Voltas has launched new models across the capacity band this summer season and is also increasing its manufacturing capacity to 8 lakh units from the current 6 lakh units.

It is on an aggressive drive to expand its market share by venturing into tier II and tier III cities and enhancing the number of distributors by 20 per cent. This season summer started late in the North of the country and April was a lacklustre month for AC makers.

However, the mercury has been over 40 degree Celsius in Delhi over the last few days and the Met department says the coming days will be hotter. This is likely to translate into increased sales for Voltas.

Financials

With entry into new business lines such as water pumping in the electro-mechanical space, most projects are on a sub-contract basis now. With the company working as a sub-contractor, its working capital requirements are rising and the receivable cycle may also be little stretched now. However, this may not be a major cause of concern as the company' doesn't have a huge debt burden at present. Voltas' debt-to-equity ratio is low at 0.07 and interest coverage ratio is comfortable at 31 times.

Sales growth is expected to be better in 2011-12 with revival seen in orders in the domestic market and the company's expanding markets in the international space. For the nine months ended December-2010 while the electro-mechanical projects segment reported a 2 per cent drop in revenues, the unitary cooling segment saw revenue increase of 48 per cent; the engineering products segment (contributes 10 per cent to overall revenues by making material handling and mining equipment) reported 12 per cent increases in revenues.

For the same period, operating margins for the company was at 9.7 per cent, a tad lower than the previous year's margin of 10 per cent. Margins are expected to be tight in the medium term- while competition may suppress margins in the electro-mechanical projects space, high copper prices may keep margin under check in the unitary cooling division.

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