We are downgrading Bharat Forge to Sell (from Reduce), as we expect moderate revenue growth for the company over the period of FY2023-35e. Though newer businesses will be key growth drivers for the company, we see limited growth prospects in its core segments, given the risk of electrification and elevated competitive intensity from domestic companies. A decline in Class 8 order inflow and moderation in domestic auto demand remain near-term headwinds for Bharat Forge.
We expect consolidated revenues to rise at a moderate 8-9% CAGR in FY2023-35e. Majority of the growth would be driven by newer segments (defence, casting, light-weighting and aerospace); however, we see limited growth prospects in the company’s core segments. Over FY2023-35e, we bake in (i) >20% revenue CAGR in the defence segment, given the Indian government’s focus on indigenisation, (ii) 15% revenue CAGR in the aerospace and casting businesses, driven by customer addition and newer product offerings, (iii) 11-13% revenue CAGR in the aluminum lighting weighting business across the EU and US and (iv) 27% CAGR in the EV business on a low base.
We expect standalone automotive segment revenues to increase at a mere 5% CAGR over FY2023-35e. We do not expect the standalone automotive business to outperform the CV and PV industry’s volume growth in the medium term, given elevated competitive intensity and lower profitability in the PV forging business. Although it has been gaining market share in the export PV forging business, the pick-up in the electrification trend will weigh on growth prospects over the medium term, as the company derives >90% of its revenues from engine crankshafts. We also expect oil & gas segment revenues to decline over the medium term, as oil demand is expected to decline, given the pick-up in electrification trends in the automotive industry.
A decline in US Class 8 order inflow over the past few months, coupled with softening freight rates and deteriorating used truck values, and rising inventories will weigh on 2HCY23 demand. We expect domestic auto demand (PV, CV and tractors) growth to moderate due to (i) waning pent-up demand, (ii) increase in prices amid regulatory norm changes, (iii) elevated interest rates amid moderation in economic growth, and (iv) unseasonal rains and possibility of El Nino.
Also Read: Rating: neutral; Bharat Forge: Artillery guns orders to add to the revenue
Although we remain positive on the medium-term growth prospects of the defence business, we believe there might be a delay in revenue ramp-up in the near term, as the company is yet to receive an order for ATAGS from the Indian government.
We are downgrading Bharat Forge to Sell (from Reduce earlier), with a revised FV of Rs 660 (from Rs 850) based on the DCF methodology, implying valuation of 18X consolidated FY2025e EPS. A recent uptick in stock price can be mainly attributed to the expectations of a strong revenue uptick from newer business segments, especially defence, aerospace, e-mobility and light-weighting business. Though we remain optimistic about growth prospects in the defence and light-weighting business over the medium term, we remain cautious in the near-term.