BharatHeavyElectricals

Toughasoldboots
IndiaEquityResearchIEngineeringandCapitalgoods September2,2009 INITIATINGCOVERAGE
Underplayed by competition and supercritical issues, BHEL in our view is likely to withstand international competition. Recent success in private sector orders for XII plan and bagging of supercritical orders are likely to rest issues related to BHELs competitiveness.Competitionislikelytobeintensewithmarginallossinmarketshare for BHEL; however, overall growth in power sector pie would keep the growth momentumverystrongforthecompany.InitiatecoveragewithanAccumulaterating and18monthtargetpriceofINR2,680pershare.
Concernofcompetitionoverplayedinourview With the overall pie increasing, international players gained inroads in the Indian power sector taking advantage of BHELs long lead time and initial cost difference. However, with respect to Chinese equipments performance issues in Indian conditions, cost advantage waningaway,developerstakingcognizanceofqualityofBHELsequipmentsandIPRrelated issues,BHELislikelytomaintainitsdominantpositionintheindustry. BHELalleviatingexecutionconcerns BHEL is aggressively expanding its capacity from the current base of 10 GW to 15 GW by Q4FY10 and to 20 GW by Q4FY12. This, along with various JVs to debottleneck its supply chainisexpectedtospeedupexecutionforBHEL. XIIplantoadd100,000MWexpectmomentumtocontinue XIIplanaimstoachievenearly100,000MWofcapacityadditionofwhich~32%hasalready beenorderedtilldate.Thermalpowerisexpectedtoform~75%ofplannedcapacityaddition. Private sector is expected to take the lead with ~60% contribution in planned capacity addition.BHELmaintaineditsdominantshareat~53%oftotalXIIplanprojectsawardedtill date.InitialXIIplanorderingprovidescomfortoftotalcapacityaddition(~100,000MW)and BHELmaintainingitsdominantshare. Supercriticaltechnologythenextbigmilestone Supercritical power plants are expected to contribute a major chunk (~55%) of XII plan capacity addition. BHEL has tied up with technology partners viz. Alstom and Siemens for supercriticaltechnologyandisexpectedtocompletelyabsorbthistechnologyafterexecution of810sets.IthasalsoformedJVwithstateutilitiestocreatecaptivestreamoforders. InitiatecoveragewithAccumulaterating,targetpriceofRs.2,680pershare We arrive at a target price of Rs. 2,680 per share based on our 3 stage DCF model (assumptions overleaf exhibit 22) and initiate with Accumulate rating. The stock currently tradesat~28xand~23xourFY10EandFY11EEPSestimates,respectively. Delayincapacityadditionandorderingrisktoourcall Delay in XI plan capacity addition, XII plan ordering at a slower rate than expectation and increasingcompetition(bothdomesticandinternational)posebiggestrisktoourpricetarget.
Y/EMa rch FY07 FY08 FY09 FY10E FY11E Sa l es (Rs mn) 176,143 197,269 271,440 323,870 410,254 Cha nge (%) 29.0 12.0 37.6 19.3 26.7 EBITDA (%) 20.5 19.0 16.3 18.6 18.4
ShareHoldingPattern(%) Promoters FIIs MFs/FIs/Banks Others
25,000 20,000 15,000 10,000 5,000 0
Dec07 Aug07 Aug08 Dec08 Oct07 Oct08 Aug09 Apr08 Feb08 Feb09 Apr09 Jun08 Jun09

ACCUMULATE
18mpricetargetRs2,680
KrishnakantThakur krishnakant.thakur@quantcapital.co.in +912240880382 PawanParakh pawan.parakh@quantcapital.co.in +912240880380 MarketCap 52WeekHigh/Low: Shareo/s: Shareo/s(fullydiluted): Avgdailytradingvol(3m): Avgdailytradingval(3m): Quantvs.Consensus Mean High Low Quant Buy(S) Nos 17 Source:Bloomberg TP 2,172 2,820 1,355 2,680 Hold(s) 17

Rs.2,263

Reuters:BHEL.BO;Bloomberg:BHELINEquity

Rs1,108 bn(US$ 22.7 bn) Rs2,405/Rs981 489.5 489.5 1,126(000) Rs2,452 mn(US$50 mn)

EPS 110.2 131.9 90.8 99.0 Sell(S) 10

Jun09 67.7 17.1 9.2 6.1

Mar09 67.7 17.0 9.2 6.1

Dec08 67.7 16.0 9.5 6.7

SENSEXIndex

BHELINEquity

3,500 3,000 2,500 2,000 1,500 1,000 500 0

PATRep. (Rs mn) 24,147 28,593 31,152 39,572 48,477

PATAdj. (Rs mn) 24,142 28,603 31,152 39,572 48,477

EPSAdj. (Rs ) 49.3 58.4 63.6 80.8 99.0

Cha nge (%) 44.1 18.5 8.9 27.0 22.5

PE (x) 45.9 38.7 35.6 28.0 22.9

RoE (%) 30.0 29.2 26.4 28.1 28.4

RoCE (%) 39.9 34.9 34.4 37.9 39.0

EV/EBITDA (x) 29.1 27.4 22.7 16.8 13.0

EV/Sa l es (x) 6.0 5.2 3.7 3.1 2.4

Source:Company,QuantBroking

BharatHeavyElectricals

Concernofcompetitionoverplayedinourview
BHELsdominanceunlikelytobethreatened
On account of huge demand supply gap in the industry and BHEL, largest domestic equipment manufacturerhavingtoomuchonitsplate,Chineseequipmentmanufacturersgainingmarketshare wasinevitable(exhibit1).Capitalizingonsuperiordeliveryschedulesandlowercapitalcosts,Chinese equipment manufacturers bagged quite many private sector orders. Equipment manufacturers like ShanghaiElectric(SEC),SEPCOIII,Dongfang,Doosanandothershavebagged~20,000MWordersin the XI plan. Competition is further expected to heat up with setting up of domestic capacities by variousentitieslikeL&TMHI,AlstomBharatForge,AnsaldoGammon,RELSECandothers.However, in terms of quality, BHEL manufactured sets have consistently exceeded the national average efficiency parameters. In 2009 also, BHELmanufactured thermal sets achieved the highest ever OperatingAvailability(OA)of88.2percent,whilethePlantLoadFactor(PLF)at80.1percentwas3.1 per cent higher than the national average, while all the new entrants have still to prove their equipment quality in Indian conditions. With cost advantage for Chinese suppliers waning away, qualityofequipmentstobeprovenforinternationalmanufacturersandBHELaddressingexecution concerns,webelieve,BHELsdominanceisunlikelytobethreatenedinthecomingyears.
Exhibit1: MarketshareofmainplantequipmentsuppliersintheXIplan(%)

Others 12%

Siemens 5%

Shanghai Electric 9%

SEPCOIII 3% BHEL 55% Doosan 5%

Dongfang 7% Alstom 5%

Source:CEA,QuantBroking

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Despite Chinese equipment manufacturers making headway in privatesector

On account of initial cost advantages (~15% economical than BHEL) and shorter delivery periods, International equipment manufacturers like Dongfang, Shanghai Electric, SEPCO III and Doosan Heavy industries made significant headway into fast growing Indian Power equipment sector. The below exhibit illustrates market share captured by various international players in a short span of period (exhibit 3). These players are also successful in getting prestigious UMPP orders and have madesignificantheadwayinprivatesectororders(exhibit2).
Exhibit2: SectorwiseordercompositionforChineseequipmentssuppliers(%)

15.4%

Central

17.4%

State Private

67.3%

Source:CEA,QuantBroking

Exhibit3:

MarketshareofvariousChinese/KoreanequipmentsuppliersinXIplan(%)

SCMEC

SEPCOIII

Doosan

Dongfang

ShanghaiElectric 0.0
Source:CEA,QuantBroking

2.0

4.0

6.0

8.0

10.0

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BharatHeavyElectricals

CostadvantageforChineseequipmentswaningaway
The cost advantage for Chinese equipments which started with ~15% as compared to BHEL has graduallycomedown.Infact,industrysourcessuggestthatChineseequipmentmanufacturershave alsoincreasedpricesupto~20%overthepastfewmonths.Thisnarrowingofpricinggapbetween ChineseandBHELequipmentshasbeenpossibleonaccountofyuanappreciationvisvisUSDand BHEL becoming more competitive. Currently, international equipment suppliers (with mass manufacturingofstandardisedsets)operateatmuchlowermarginsascomparedtoBHEL(exhibit8). Inthelikelyeventofmandatoryrequirementofdomesticmanufacturingsetup(Refernotebelow), thecostadvantageforinternationalsuppliersisexpectedtodiminish. Further,BHELwithitsdomesticmanufacturingpresenceclearlyhasanadvantageoverinternational competitors in terms of providing after sales operation & maintenance and spares services. We believe that domestic O&M services are important for customer servicing, client retention and to build a sustainable presence in the Indian market. Most of the international players do not have domesticO&Msetupandarelikelytotakesometimetohaveameaningfulpresence.Withbetter track record, customization of equipments depending on coal availability and provision for O&M services,BHELislikelytohaveanedgeoveritscompetitors.
Exhibit4:
16.0 CY06 14.0 12.0 10.0 8.0 6.0 4.0 2.0 0.0 ShanghaiElectric Doosan Dongfang Harbin BHEL* CY07 CY08

MarginsofChinese/KoreanequipmentsuppliersvisvisBHEL

*MarginsforBHELforFY07,FY08andFY09,respectively Source:Bloomberg,QuantBroking

MinistryofPowersinsistenceondomesticmanufacturing
Inasteptowardsindigenizationoftechnology,movingtowardsstandardizationandsubsequentlyreducingtheleadtimefor delivery,MinistryofPower(MoP)istryingtopavewayformandatorydomesticmanufacturing,whichcurrentlyisapplicable only to bulk power equipment contracts in the country. Hence domestic manufacturing requirement (or a phased manufacturing program)isaprerequisite for upcomingbulk tenderofsupercriticalequipment byNTPC.Inanticipationto this,someoftheequipmentsuppliers(vizL&TMHIJV,BharatForgeAlstomandothers)haveinitatedtheirplanstosetup domesticmanufacturingcapacities. TheproposedplanformandatorydomesticmanufacturinghasbeenonthecardsforsometimeandisalsoinGovernments larger interest to have technology base in India. The policy directive, if applicable, is likely to have a significant impact on Chineseequipmentsuppliersonprimarilytwocounts.Firstly,itwouldtake~34yearsforsettingupcapacitiesandsecondlyit would be increasingly difficult for newer entrants to compete (in terms of cost economics) with BHEL having formidable infrastructureanddepreciatedcapacitiesinthedomesticmarket.

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BharatHeavyElectricals

SuperiorPLFperformancebyBHELequipments
Though power plants running on Chinese/Korean power equipments have limited performance history in India, preliminary data suggests PLF of these power plants to be lower than national average, whereas on the other hand BHEL run powerplants are runningat an average PLF of ~85 90%. We tried to compare performance of equipments manufactured by Chinese/Korean suppliers (Yamuna nagar and Sagardighi) as compared to BHELs equipment (Raigarh plant). All the three power plants have been commisioned over a similar period (Mar Nov 2008). Raigarh plant has clocked a PLF of ~95% within six months of operation, significantly higher than other two power plants(exhibit5).HigherPLFofBHELsequipmentsascomparedtoitscouterpartsoverthesamelife cycleofprojectgivesafairideaofsuperiorqualityofBHELequipmentsvisvisChineseequipments.
Exhibit5: PLFofpowerplantsinstalledbyChinese/Koreanplayers(YamunaNagarandSagardighi)visvisBHEL (RaigarhTPPJindalPower)
YamunaNagar Sagardighi Jindal

100.0%

80.0%

60.0%

40.0%

20.0%

0.0%
Jul08 Sep08 Dec08 Feb09 Jan09 Aug08 Oct08 May09 Nov08 Mar09 Apr09 Jun09

Source:CEA,QuantBroking

BHELincreasingshareinprivatesector
InthelatestorderingforXIIthplanbenefit,BHELalsobaggedsignificantordersfromprivatesector totaling5,790MW(exhibit6)asagainst2,040MWintheentireXIthplan.BHELsannouncementto expanditscapacityfrom10,000MWto20,000MWbyFY12isnowlikelytoputprivatesectorina comfortablepostiontoplaceorderswithBHEL.
Exhibit6: OrdersbaggedbyBHELfromprivatesectorinXIIplan

Plantname Ra i ga rhSTPPPHIIIU14 Ava ntha Bha nda rTPP Bel a TPP Adhuni kPowerTPP Ma l i bra hma ni TPP Dera ngTPP Total
Source:CEA,QuantBroking

Developer Ji nda l Power Ava ntha Power Idea l Energy Adhuni kPower MonetPower JITPL

Capacity(MW) 2,400 600 270 270 1,050 1,200 5,790

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BHELalleviatingexecutionconcerns
ThoughBHELsqualityhasundoubtedlybeenamongthebestintheglobalmarkets,gapintheIndian market existed on account of faster delivery of equipments. Chinese manufacturers on account of their large capacities and standardized product offerings were able to take advantage of the gap createdbylongdeliveryschedulesofBHEL.Toaddressthelossinmarketshare,BHELisaggressively expanding its capacity from the current base of 10 GW to 15 GW by Q4FY10 and to 20 GW by Q4FY12. For this, BHEL is likely to incur capex to the tune of Rs 42 bn and Rs 16 bn, respectively. These capacities shall progressively come onstream and would cater to both subcritical and supercriticalrequirementsgoingahead. UndertheXIthplan~49%oftotalordershavebeendelayedonaccountofvariousreasonslikedelays related to BOP and EPC work, unavailability of fuel and water, state government issues and infrastructurerelatedissues.TheseissueshavecauseddelayincommissioningofprojectsbyBHELas wellasotherinternationalcontractors(exhibit7,8).ItisnoteworthythatInternationalsuppliersalso faceexecutionchallengesandontrackprojects(asa%)forBHELandothersareatpar.
Exhibit7:
Particulars Nodel a y Norea s ongi ven EPCdel a y BOPdel a y La nda cqus i i ton Poorgeol ogi ca l condi ti ons Shorta geofma npower Envi ronmentcl ea ra nce,coa l l i nka ge Na tura l ca us e Tra ffi cconges ti on Shorta geofHPwel ders Ga s una va i l a bi l i ty Protes ts Others Total
Source:CEA,QuantBroking

StatusofprojectsexecutedbyBHEL
(%) 35.7% 15.1% 13.6% 13.2% 4.6% 2.9% 2.6% 2.6% 2.4% 1.4% 1.3% 1.2% 1.0% 2.6% 100.0%

Exhibit8:
Particulars Nodel a y

Statusofprojectsexecutedbyothercontractors
(%) 35.8% 19.7% 11.0% 9.4% 6.9% 4.2% 3.5% 3.5% 2.1% 2.1% 1.8% 100.0%

Norea s ongiven EPCdel a y BOPdel a y Sta tegovernmenti s s ue Ga s una va i l a bil i ty Sta rtuppowers uppl y Extremewea ther Coa l li nka ge Protes ts Others Total

Source:CEA,QuantBroking

ToalleviateconcernsofprojectdelayarisingduetoBOPconstraint,BHELhasenteredintoaJVwith NTPC, which is likely to take up business of BOP and other EPC assignments. Currently BHEL has identifiedfourlocationsforputtingupBoPfacility(coalhandling,ashhandlingandothers).TheJV hasbeenawarded2projectsfromBHELandNTPC.Further,BHELisalsoestablishingvariousother JVsinordertodebottleneckitssupplychain.

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BharatHeavyElectricals

XIIplantoadd100,000MWexpectmomentumto continue
Withlikelycapacityadditionof6065GWintheXIplan,Governmentplanstoadd100,000MWof capacity during XII five year plan (20132017). Thermal capacity is expected to be the mainstay of totalpowercapacityadditionwithcontributionintheXIIplantobe~75%.Thiscapacityadditionis possible with high private sector participation and large super critical units. We expect that contribution from private sector could be as high as ~60% in the stipulated period. Supercritical technologyisalsoexpectedtocontributewith~55%shareoftotalcapacityaddition.
Exhibit9: XIIthplanbreakup(byfueltype) Exhibit10: XIIthplanbreakup(bytechnology)

5% 20%
Thermal Hydro

45% 55%

Subcritical Supercritical

75%

Nuclear

Source:CEA,QuantBroking

Source:CEA,QuantBroking

Initialordersboostconfidencefortheplanperiodcapacityaddition
For likely benefit under the XII plan, total projects to the tune of 32,000 MW have already been ordered. Out of that, thermal projects accounted for 30,940 MW while the remaining is Hydro. Amongstthermal,privatesectoraccountedfor59%oforders(exhibit11,12).
Exhibit11: XIIplanorderingtilldate(byfueltype)
1,070MW
20.1%

Exhibit12:

XIIplanorderingtilldate(bysector)

Hydro Thermal

Central State Private

59.3%

20.5%

30,940MW

Source:CEA,QuantBroking

Source:CEA,QuantBroking

BHELcontinuestobeadominantplayerwith~53%marketshareintheprojectsforbenefitduring XIIthplan(exhibit13).SEPCOIII,ShanghaiElectricandDoosanHeavyIndustriesaretheotherstrong players in the Indian market with a cumulative market share of 34% for the XII plan period. As expected,thecompetitionislikelytobeintenseastheremainingordersforXIIplanwillbereleased. However,weexpectBHELtomaintainitsdominantpositioninthecomingordersaswell.

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BharatHeavyElectricals
Exhibit13: BHELdominancecontinuesinXIIplan(%)

6% 9%
BHEL BGREnergy TechnopramRussia

18% 53%

Doosan+Toshiba SEPCOIII ShanghaiElectric

8% 2% 4%

SCMEC

Source:CEA,QuantBroking

PrivatesectorordersexpectedtotakeleadinXIIplan
Privatesectororderscontributed30%oftotalthermalplannedcapacityadditioninXIfiveyearplan (exhibit14)inwhichBHELhadan11%marketshare.Ourindustryinteractionsuggeststhatprivate sectorcontributioninXIIplancouldbeashighas60%(asagainst27%oftotalordersinXIplan).Huge demand supply gap and favorable economics are the key drivers for private investments in the sector. Private players like Tata Power, Reliance Power, Adani Power, Torrent Power, Lanco Infra, GMR,GVKandothershavealreadyannouncedaggressivecapacityexpansionplanandtheseplayers envisagetoadd~115,000MWofcapacityoverthenext57years.(exhibit4).
Exhibit14: PrivatesectorcontributiontoriseintheXIIplan(MW)

120,000 100,000 80,000 togrowby~2x 60,000 40,000 20,000 0 XIplan

Central/State

XIIplan
Private

Source:CEA,QuantBrokingestimates

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BharatHeavyElectricals
Exhibit15: Privatesectorcapacityexpansionplansovernext57years(MW)

Privateplayers Ada niPower CESC Ess arPower GMRInfra GVKPower Ja ypeegroup Ji nda lPower JITPL JSWEnergy LancoInfra tech Rel ia ncePower Sterli te Tata Power TorrentPower Total
Source:Company,QuantBroking

Currentcapacity 300 975 1,200 823 901 700 1,000 0 800 511 0 0 2,817 1,648 11,675

Expansionplans 9,600 6250 4,800 4,140 1,240 4,920 2,400 5,400 11,200 7,875 28,200 9,600 10,588 7,500 113,713

Likelycapacitypostexpansion 9,900 7,225 6,000 4,963 2,141 5,620 3,400 5,400 12,000 8,386 28,200 9,600 13,405 9,148 125,388

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BharatHeavyElectricals

Supercriticaltechnologythenextbigmilestone
In order to reduce emissions and bring in higher efficiency, worldwide power equipment suppliers have upgraded to supercritical technology. Supercritical (SC) and Ultra supercritical (USC) power plants operate at temperatures and pressures above the critical point which results in higher efficiencies.Withsupercriticaltechnologyfairingbetterintermsofperformanceandenvironmental concerns,Indiaisreadytomovetowardsthisadvancementanditscontributiongoingaheadislikely to be much higher in the XII plan. We believe, XI plan was just a precursor for things to come for supercriticaltechnology.

BHELreadyingupforSupercriticaldays
AbsorptionofsupercriticaltechnologyisthenextbiggestmilestonethatBHELhastoachieve.Tothat effect,BHELhasalreadytiedupwithAlstomforBoilersandSiemensforTurbineGeneratorsetsfor supercriticalpowerplants.BHELisexpectedtoabsorbthetechnologyaftersuccessfulexecutionof 810 supercritical orders. Initially, we believe, the margins on these orders are likely to be slightly loweronaccountofhigherimportcontent(sourcingfromtechnologypartner)andnewerexperience for the company. However, post indigenization of technology, as import components decline and BHELmovesupthelearningcurve,marginsarelikelytoimproveforthecompany.BHELhasalready made inroads in getting orders for supercritical units, and we believe it is a matter of time before BHELbecomescompetitiveinsupercriticaltechnologyasitisinsubcriticalunits. BHEL has entered into JV with state utilities to develop supercritcal power plants of ~5,000 MW (exhibit16).ThesameshallensureBHELofcaptivestreamofordersforsupercriticalunitstohelpitin fasterabsorptionoftechnology.TheJVwithTamilNaduElectricityBoard(TNEB)forsettingup2x800 MWthermalpowerplantinTamilNadu,KPCLfor3x660/800MWandMahagencofor2x660MWare steptowardsthisdirection.ItiscontemplatingtohavesimilarJVswithotherstateutilities.
Exhibit16: SupercriticalordersreceivedtilldateandJVsinthisspace

PLANTNAME BARHII KRISHNAPTNAM Total JVsinthesupercriticalspacebyBHEL JVPartner TNEB KarnatakaPowerCorporationLimited(KPCL)

Location BIHAR AP

Capacity(MW) 1,320 1,600 2,920

AGENCY NTPC APGENCO

Location Tuticorin Raichur

MaharashtraStatePowerGenerationCompanyLimited(Mahagenco)
Source:Company,QuantBroking

Latur Total

Capacity(MW) Remarks JV for setting up first supercritical thermal power project in Tamil 2x800 Nadu.Landfortheprojecthasalreadybeenidentified. JV to build, own and operate Supercritcal thermal plants in 3x660/800 Karnataka MoU for setting up a JV to build, own and operate Supercritcal thermal plants. The MoU contains an enabling provision that in case of unavailability of coal linkage, but availability of gas, the parties may consider setting up a 1,500 MW gas based power 2x660 plant,instead. 4,900

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BharatHeavyElectricals

BHELtechnologyatparwithothers
BHELhastiedupwithvarioustechnologypartnersforsubcriticalaswellassupercriticaltechnology. Most of the Global equipment suppliers also have technology tie ups with players like GE, Alstom, Hitachi,MitsubishiandToshiba,andthistechnologyagreementwithglobalmajorsputBHELatpar withotherinternationalcompetitors.BHELsstrengthalsoliesincustomizationoftheseunitsasper Indianconditionswhichgivesitanedgeoverothercompetitors.
Exhibit17:
Partner Supercriticaltechnology Al s tom Si emens GE Nucleartechnology NPCIL GEHi ta chi Hea vyEngi neeri ngCorp Sheffi el d(Forgema s ters ) Others NTPC Kera l a El ectri ca l a ndAl l i edEngi neeri ngCompa nyLi mi ted(KEL) GE BEL Tojoi ntl yexecuteEPCcontra cts ;ma nufa cturea nds uppl yBoPequi pments MoUs i gnedtoformJVtoma nufa ctureproducts forRa i l wa ys a ndIndus tri a l a ppl i ca ti ons Di es el el ectri cl ocomoti ves a ndma nufa cturi ngofpropul s i ons ys temforthes el ocomoti ves MoUs i gnedfors etti ngupma nufa cturi ngfa ci l i tyfors i l i conwa fers ,s ol a rcel l s a ndmodul es undera JV Technol ogyti eups bei ngexpl oredfor700/1,000/1,600MWTGs ets throughthi s JV Coopera ti oni nnucl ea ri s l a ndequi pments (mul ti pl euni ta dva ncedboi l i ngwa terrea ctor(ABWR))tobes etupbyNPCIL JVforproduci ngca s ti ngs a ndforgi ngs fornucl ea rpowerpl a nts ,ba s edonupgra di ngHEC's pl a nt. JVtoma nufa cturenucl ea rforgi ngs Technol ogytra ns fera greementwi thAl s tomforSupercri ti ca l Boi l ers Technol ogyti eupforStea mTurbi nea ndGenera tors forTherma l powerpl a nt Technol ogyti eupforGa s Turbi neforTherma l powerpl a nt

VariousJVs/tieupsundertakenbyBHEL
Purpose

Source:Company,QuantBroking

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BharatHeavyElectricals

FinancialSummary
Strong order book and XII plan ordering provides high revenue visibility
BHELs current order backlog at Rs 1,240 bn stands at 4.4x of FY09 revenues. This order backlog coupledwiththefactthat68%oforderingforXIIplanisexpectedduringFY10EFY13E,provideshigh revenue visibility for the company. We expect BHEL to register net revenue CAGR of 26% during FY10E12E and expect ordering to be more uniform across years for XII plan which is also likely to ensurehealthyorderintakeforthecomingyears.
Exhibit18: Highorderbookvisibility
Closingorderbook(INR mn) Orderbookas%ofsales

1,600,000 1,400,000 1,200,000 1,000,000 800,000 600,000 400,000 200,000 0 FY06

4.5 4.0 3.5 3.0 2.5 2.0 1.5 1.0 0.5 0.0

FY07

FY08

FY09

FY10E

FY11E

Source:Company,QuantBrokingestimates

Marginexpansionaidedbysoftcommoditypricesandlowerwage provisioning
Weexpectmarginsforthecompanytoincreaseby220bpsinFY10Eprimarilydrivenbydropinraw material and employee cost. In the long term, we however expect the margins to trend lower on accountofintensecompetitionandriseininputcosts.
Exhibit19:
70.0 60.0 50.0 40.0 30.0 20.0 10.0 0.0 FY08
Revenuegrowth(RHS) PATmargin(LHS)

Revenuegrowthandmarginprofileovertheyears(%)
19.5 19.0 18.5 18.0 17.5 17.0 16.5 16.0 15.5 15.0 FY09 FY10E
Directcostgrowth(RHS) EBITDAmargin(LHS)

FY11E
Staffcostgrowth(RHS)

Source:Company,QuantBrokingestimates

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BharatHeavyElectricals

Otherbusinessesprovidegrowthpotential
BHELs other business divisions like industrial, transportation, oil & gas, and transmission, though smallascomparedtothetotalpowersegment,alsooffersbigopportunitygoingforward.Industrial segment currently contribute 15% to the total revenues while, spares and the O&M business contribute~6%ofthepowersegmentrevenuesinFY09. Largenoofunitsareoperatingforover30years BHELcommands62%marketshare(FY09)ofIndiastotalpowercapacityaddition.Theageprofileof this capacity addition reveals that a large number of existing units are potential candidate for undertaking renovation, modernization and Life extension program (LEP). With most of the sets providedbyBHELinIndia,R&MandLEPbusinessisnearlyassuredforBHEL.
Exhibit20: AgeprofileoftotalinstallationsinIndia
>15yearsbut<20years 8 38 9 >20yearsbut<30years 27 74 6 >30years 108 10

CapacityrangeinMW <200 200/210 250/300 500

Source:CEA,QuantBroking

Captivepower,transportationandtransmissiontodriveindustrialgrowth Intheindustrialsegmentwebelieve,captivepower,transportationandtransmissionsegmenttobe majorcontributorforgrowth.BHELprovidesmajorcapitalequipmentandsystemslikecaptivepower plants, industrial boiler and auxiliaries and gas turbines to a number of industries. Pick up in the industrial activity andheavycapex in Indian railways, Oil and gas sector and Power transmission & distributionaugurswellforBHEL.
Exhibit21: KeyprojectsbaggedbyBHELintheindustrysegment
Product Bul korders for40tra ns formers (country's hi ghes tra ti ngGenera tor tra ns formers (930MVA,400kV) Orderfors uppl yofBus ducts a ndl a rges tverti ca l motors forCWP a ppl i ca ti on Genera tortra ns formers for660MWs ets Genera tortra ns formers for660MWs ets 26nos .400kVs huntrea ctors Upgra da ti on&Refurbi s hmentof12ons horedri l l i ngri gs a nd upgra da ti onofexi s ti nga dva ncedi ns trumenta ti ons ys temfor53 ons horeri gs Compres s ors Turbobl owerpa cka ge Devel opmenta l orderfor765KVtra ns former,rea ctor,CT,CVT&CB Auxi l i a rycontrol s ys tems (defencebus i nes s ) Photovol ta i cmodul es ofva ri ous ra ti ngs

Project/customer Mundra UMPP Mundra UMPP NTPCBa rhSta geII Ti rora project,Ada ni Power PGCIL

ONGC HMELBha ti nda ,HPCLMuma bi ,BRPL Bonga i ga on&MRPLMa nga l ore SAIL,Rourkel a Steel pl a nt PGCIL Ma za ga onDockLtd BEL,Ba nga l ore,Al ps Envi ronmenta l Technol ogi es a ndothers
SourceCompany,QuantBroking

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Premiumvaluationjustified
WebelievethatpremiumvaluationforBHELisjustifiedonaccountofverystrongrevenuevisibility (4.4x FY09 revenues), large long term opportunity (68% of 100,000 MW ordering between FY10E 13E), strong balance sheet and healthy return ratios (RoE close to 30%). Historically, more than revenuevisibility,competitionandissuesrelatedtosupercriticaltechnologyhaveputthestockunder pressureandinourviewthoughthecompetitionisintense;BHELsquality,capacityexpansionand successinbaggingsupercriticalorderswouldresttheseissues. SuperiorROEsandgrowthprofileascomparedtointernationalpeers Ascomparedtoitsinternationalpeers,BHELhassuperiorgrowthprofileandRoE(exhibit22).Indian powersector,webelieve,isatthecuspofhighgrowthperiod,andBHELbeingadominantplayeris likely to benefit immensly. We are of the view that BHEL would be able to withstand competition, and on account of limited successful track record and policies favoring domestic manufacturing presence, going is likely to be tougher for international players. In the event of quality of Chinese equipmentsquestionedoveratwothreeyearperiod(currentavailabilityofoneyearoftrackrecord for these manufacturers), and on account of their below par performance with BHEL, BHEL could potentiallygetrerated.WestronglybelievethatBHELshouldnotbeunderplayedbycompetitionand thestockshouldcontinuetotradeataPEmultipleof2425xoneyearforwardearnings(averagePE multipleduring20072009exhibit23).
Exhibit22:
30% BHEL 20% L&T

SuperiorRoEandgrowthprofileforBHEL

3yearPATCAGR

10% 0% 10% 20% 30% 20% 10% 0% 10% Toshiba

Siemens

Alstom

Schneider

Mitsubishi

20%

30%

40%

50%

ReturnonEquity(RoE)
Source:Bloomberg,QuantBrokingestimates

Exhibit23:
3,000

HistoricalPEbandchartforBHEL
PxLast 10x 20x 30x

2,500

15x 25x

2,000

1,500

1,000

500

Oct02

Oct03

Oct04

Oct05

Oct06

Oct07

Apr02

Apr03

Apr04

Apr05

Apr06

Apr07

Apr08

Oct08

Apr09

Source:Bloomberg,QuantBroking

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Discountedcashflowmethodology18monthtargetpriceofRs2,680pershare With a very high revenue visibility and long term stability provided by immense power sector opportunity in the country, we believe that Discounted Cash Flow methodology is apt for valuing BHEL.Wearriveatan18monthtargetpriceofRs2,680persharebasedonour3stageDCFmodel, providinganupsideof18%fromcurrentlevel.
Exhibit24: DCFassumptions

DCFassumptions Rf ERP Beta (x) WACC Termi na l growthra te SumofDi s ountedFCFF(INRmn) PVofTermina l va lue(INRmn) FirmValue(INRmn) Les s :Netdebt(INRmn) EquityVa l ue(INRmn) No.ofs ha res O/S(mn) Intrinsicvalue(Rs/share)
Source:QuantBrokingestimates

7.0% 6.0% 1.0 13.0% 5.0% 446,084 738,367 1,184,450 127,375 1,311,825 490 2,680

Exhibit25:

Sensitivityanalysis
Terminalgrowth 3% 11% 2,590 2,431 2,305 2,201 2,115 12% 13% 14% 15% 4% 2,844 2,634 2,471 2,341 2,234 5% 3,183 2,895 2,680 2,512 2,378 6% 3,657 3,243 2,948 2,726 2,554 7% 4,368 3,730 3,305 3,001 2,773

Source:QuantBrokingestimates

September2,2009

WACC

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BharatHeavyElectricals

Investmentrisksandconcerns
Newentrantstryingtosetupcapacitiesintensifyingcompetition
CompetitionislikelytoincreaseforbothBHELandChinesecompetitorswithplayerslikeL&T(JVwith MHI),BharatForge(JVwithAlstom),JSWgroup(JVwithToshiba)andThermax(technologytransfer agreementwithB&W)eyeingopportunitiesintheIndianPowersector.Thoughitisstillsometime forcapacitiesoftheseplayerstocomeonstream,playerslikeL&TMHIJVhasalreadystartedtotake marketshareawayfromincumbents.
Exhibit26: CapacityexpansionforBTGequipmentsinIndiaovernext23years
Newcapacity(MW) Likelyyearofcommissioning Remarks Tos etupca pa ci tyforSupercri ti cal Turbi ne&Generator(TG)(i ncl a uxi l i a ri es forTGi s l a nd)fortherma l andnucl ea rpowerpl a nts wi tha pl a nnedca pexof USD500mn Tos etupSubcri ti cal a ndSupercri ti cal Boi l erca paci tywi tha propos edca pexof Euro70mn Tos etupSupercri ti ca l BTGca pa ci ty(5001,000MW)wi thapl a nnedca pexof INR9bn NA Tos etupSupercri ti ca l turbi neca pa ci ty(5001,000MW)wi thapl a nnedca pex ofUSD160mn

Al s tomBha ra tForge Ans a l doGa mmon* La rs en&ToubroMi ts ubi s hi Rel .(ADAG)Sha ngha i El ectri c Tos hi ba JSW

5,000 2,500 4,000 10,000 3,000 24,500

FY12 FY11/12 FY10 NA FY11

*indicativecapacity
Source:Company,QuantBroking

Delayinplancapacityadditionandordering
Weexpect~65GWofcapacityadditioninXIplanandorderingtothetuneof~100GWinXIIplan. Any significant delay in capacity adddition in XI plan and ordering for XII plan is likely to severely impactBHELsperformance.

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Exhibit27: FinancialSummary

Incomestatement Incomefromoperations Directcosts Employeecosts Otherexpenses Totaloperatingexpenses EBITDA Depreciationandamortisation EBIT Interestexpens e Otherincome Profitbeforetax Provis ionfortax Extraordinaryincome/(loss) Profitaftertax BasicEPS(INR) FullydilutedEPS(INR) Dividendpershare(INR) Equitys haresoutstanding(mn) Dilutednumberofshares(mn)

FY08 FY09 FY10E FY11E 197,269 271,440 323,870 410,254 109,553 161,727 187,517 238,449 26,077 41,487 46,816 58,952 24,225 23,912 29,427 37,281 159,855 227,126 263,760 334,682 37,414 44,315 60,109 75,572 2,972 3,431 6,394 8,612 34,442 40,884 53,715 66,960 354 352 450 569 10,225 7,847 8,027 8,681 44,313 48,380 61,292 75,072 15,711 17,228 21,720 26,595 (9) 28,593 31,152 39,572 48,477 58.4 58.4 15.3 490 490 63.6 63.6 19.1 490 490 80.8 80.8 24.3 490 490 99.0 99.0 24.8 490 490

Balancesheet Equitycapital Reserves&surplus Shareholdersfunds Securedloans Unsecuredloans Borrowings Totalsourcesoffunds Gros sblock Depreciation Netblock Capitalworkinprogress Totalfixedassets Investments Inventories Sundrydebtors Cashandequivalents Loans andadvances Totalcurrentas sets Sundrycreditorsandothers Provis ions TotalCL&provisions Netcurrentassets Netdeferredtax Usesoffunds

FY08 4,895 102,847 107,742 0 952 952 108,694 43,843 34,031 9,813 6,580 16,393 83 57,364 119,749 83,860 16,074 277,047 165,765 32,444 198,208 78,839 13,379 108,694

FY09 4,895 123,065 127,960 0 952 952 128,912 53,424 37,462 15,962 0 15,962 83 67,629 133,084 100,628 19,417 320,757 183,810 37,459 221,270 99,487 13,379 128,912

FY10E 4,895 148,748 153,643 0 952 952 154,595 74,924 43,856 31,068 0 31,068 83 78,537 167,475 96,578 24,434 367,024 213,459 43,502 256,960 110,064 13,379 154,595

FY11E 4,895 183,046 187,941 0 952 952 188,893 82,924 52,467 30,456 0 30,456 83 99,655 212,173 128,244 30,956 471,027 270,855 55,199 326,053 144,974 13,379 188,893

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Cashflowstatement OperatingProfitbeforetax Add:Deprecia ti on Add:Nonca s hexpens es Les s :Ta xes pa id Les s :Excepti ona l i tems pa i d Add:Others GrossCashFlow Les s :Cha nges InWorkingCa pita l CashFlowfromoperatingactivities Ca pex Inves tments CashFlowfrominvestingactivities Sha reIs s ua nce/(Buyba ck) Increa s ei ndebt Di vi dendPa id Financingcashflow NETCASHFLOW Openi ngca s ha ndca s hequi va l ents Cl os i ngca s ha ndca s hequi va l ents FY08 44,313 2,972 FY09 48,380 3,431 FY10E 61,292 6,394 FY11E 75,072 8,612

(15,711) (17,228) (21,720) (26,595) (9) (4,140) 27,426 34,582 45,966 57,089 (13,361) 3,881 14,627 3,244 40,787 30,702 31,339 53,845 6,340 3,000 21,500 8,000 6,340 3,000 21,500 8,000 59 (8,734) (10,934) (13,889) (14,179) (8,675) (10,934) (13,889) (14,179) 25,771 16,768 (4,050) 31,666 58,089 83,860 100,628 96,578 83,860 100,628 96,578 128,244

Keyratios Profitability(%) EBITDAma rgins EBITma rgi ns Netprofi tmargi ns Growthmetrics(%) Revenues EBITDA Netprofi t EPS Operatingratios(%) Tota l As s etTurnover(x) Fi xedAs s ets turnover(x) Netdebt/Equi ty(x) CurrentRa ti o(x) Valuationsratios ROAE(%) ROACE(%) Di lutedPE(x) Pri ce/BV(x) EV/EBITDA(x)
Source:CompanyData,QuantBroking

FY08 19.0 17.5 14.5

FY09 16.3 15.1 11.5

FY10E 18.6 16.6 12.2

FY11E 18.4 16.3 11.8

12.0 3.8 18.4 18.4

37.6 18.4 8.9 8.9

19.3 35.6 27.0 27.0

26.7 25.7 22.5 22.5

2.0 20.0 (0.8) 1.4

2.3 21.1 (0.8) 1.4

2.3 13.8 (0.6) 1.4

2.4 13.3 (0.7) 1.4

29.2 34.9 38.7 10.3 27.4

26.4 34.4 35.6 8.7 22.7

28.1 37.9 28.0 7.2 16.8

28.4 39.0 22.9 5.9 13.0

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Ratingsandotherdefinitions
Stockratingsystem
BUY.Weexpectthestocktodeliver>15%absolutereturns ACCUMULATE.Weexpectthestocktodeliver515%absolutereturns REDUCE.Weexpectthestocktodeliver+5%to5%absolutereturns SELL.Weexpectthestocktodelivernegativeabsolutereturnsof>5% NotRated(NR).Wehavenoinvestmentopiniononthestock.

Sectorratingsystem
Overweight.WeexpectthesectortorelativelyoutperformSensex Underweight.WeexpectthesectortorelativelyunderperformSensex Neutral.WeexpectthesectortorelativelyperforminlinewithSensex

We Krishnakant Thakur & Pawan Parakh hereby certify that all of the views expressed in this report accurately reflectourpersonalviewsaboutthesubjectcompanyorcompaniesanditsortheirsecurities.Wealsocertifythat nopartofourcompensationwas,isorwillbe,directlyorindirectly,relatedtothespecificrecommendationsor viewsexpressedinthisreport"
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September2,2009

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