Attendees speak at the Bharat Electronics Ltd. Remote Controlled Weapon Station display during the Aero India air show at Air Force Station (Photographer: Dhiraj Singh/Bloomberg)

Bharat Electronics Allays Investor Worries, Shares Rebound

Bharat Electronics Ltd. said it expects a limited impact on its profits from the Ministry of Defence’s decision to reduce margins on new contracts as the state-run missile-to-aerospace systems maker tries to allay investor concerns.

The worst-case impact of the ministry’s order to lower margins from 12.5 percent to 7.5 percent will be less than 100 basis points on the profit before tax, the company said at an analyst meet. Such nominated defence orders contribute a third of its order book. Their share will go down as more orders come through competitive bidding, the company said. The management had earlier said since the new norms will be applicable on fresh orders, the impact will be felt only after the year through March 2021.

Shares of Bharat Electronics today jumped as much 12.2 percent, the most in three-and-a-half years on the company’s clarifications. The stock had tumbled more than 30 percent since the ministry’s circular earlier this month. Analysts remain bullish. The stock has 19 buy recommendations among the analysts tracked by Bloomberg with consensus target of Rs 127, implying 57 percent potential upside from the last close.

The impact is lower than the 300 basis points that the market feared, Sumit Kishore, an analyst at JPMorgan, wrote in a note. Bharat Electronics in its evaluation of its nomination-based jobs found that around 70 percent actually benefit in terms of profitability under the new pricing regime while the margin may fall on the rest, said Kishore. Even assuming 200-300 basis points impact on the 30 percent, the brokerage said, the overall hit to the profit before tax margins after FY21 would be limited to 50-100 basis points.

The management said the circular may reduce frequent delays in awarding contracts. project management costs, research and development expenses and other costs like documentation will be included in the contract pricing under the new regime. These were previously negotiated on an order-to-order basis and led to delays, it said. Moreover, earlier Bharat Electronics said it had to bear several costs and risks associated with a programme.

Yet, on the flip side, the company doesn’t expect any meaningful improvement in working capital in the medium term given poorer terms on some of the new contracts.

The stock may not perform given uncertainties around elections and margins, Amish Shah, an analyst at Bank of America, wrote in a note. He, however, remains optimistic on back of valuations and a potential re-rating as BEL is expected to continue to deliver.

Bharat Electronics, according to its investor presentation, expects to get Akash missile system, BMP infantry vehicle upgrade, commander thermal imager sights for T90 tanks, Samyukta missile upgrade, instrumented electronic warfare range and coastal surveillance system orders in the rest of the year.

Some key points from Bharat Electronics presentation:

  • The company to continue indigenisation efforts in line with ‘Make in India’ initiative.
  • Radars, missile systems, communication and network centric systems, tank electronics, gun upgrades, electro-optic systems and electronic warfare and avionics systems to drive growth.
  • It will set up state-of-the-art new factories at Machilipatnam for electo optics and Anantapur for future missile programmes in Andhra Pradesh.
  • The company pursuing business opportunities in space electronics, solar energy, homeland security, smart cards and telecom
  • Strategies and action plans in place to face competition, maintain technological edge and retain leadership position in strategic electronics.