Va Tech Wabag Research Reports By KR Choksey, Axis Sec, ICICI-Direct & Kotak Sec

Given VATW’s dominant position in the desalination market (among top 10 players globally for desalination) and the company has successfully executed desalination projects in the past, the probability of winning more contracts in the future remains strong. Moreover, if the company is successful in receiving orders, it could receive O&M orders as well for the maintenance of these plants resulting in margin expansion as O&M division enjoys higher margins.

Valuation & Recommendation

VA Tech is considered as one of the most prominent player in the waste water treatment industry with a market share of ~14%. The company’s R&D centres located in Europe have helped it to have more than 100 patents, which in turn assisted company to garner strong order flows in the past. In terms of the technology offerings, it provides solutions ranging from zero liquid discharge to desalination unlike its peers and hence, we believe this could offer the company an upper hand in terms of future order activities. In terms of domestic market, government has announced stringent norms for sewerage treatment plants recently, which we believe could augur well for the industrial order flows and VATW being the strongest player is poised to receive large orders in the coming period.

For municipal orders intake, we expect increase in the budget outlay for ‘Namami Gange’ could see some uptick in short term. Further, BMC (Brihanmumbai Municipal Corporation) also plans to come up with STP orders estimated at approximately INR 45bn. VATW being a leader in STP can garner large orders going ahead.

The company already has the L1 status in more than INR 15bn worth of contracts, of which management expects a majority to get finalized in Q4FY18. Any positive development could improve revenue visibility for FY19 & FY20. Apart from domestic market, VATW has also entered into Latin America and some other parts of Africa last year, which we believe are key growth markets for waste water treatment in medium to long run.

VATW is a renowned name in the international market and thus, possibility of winning large orders cannot be overlooked. Taking all this into consideration, we expect the company to get more than INR90bn of orders over the next 2 years, which could improve revenue visibility of the company going ahead.

The revenue is expected to grow at ~12% CAGR over FY17-20. In terms of operational performance, we believe majority of Wabag India orders are in execution phase and the revenue share for Wabag India is likely to increase over the next 2 years. Further, Wabag India has higher margins as compared to Wabag Overseas, which could potential improve group OPM. We expect OPM to expand by ~139bps over FY17-20E. PAT is expected to increase at 17% CAGR over the same period.

In terms of peer comparison, we believe Suez is a close competitor of the company given its presence in nearly all technologies offered by VATW. Hence, we have considered Suez for comparison.

In terms of financial performance, revenue for Suez grew at mere 0.4% over CY12-16, while VATW reported a growth of 19% over FY13-17. EBITDA & PAT grew at a CAGR of 20% & 17% respectively, for VATW as against mere 1.5% & 8.8% for Suez.

Further, return ratios are also favorable for VATW with average ROE & ROCE at 11.8% & 20.6% as against 7.8% & 12.3% for Suez. This places VATW among the leaders in the waste water treatment industry.

In terms of valuations, we have valued the company on P/E basis. At CMP of INR 550, the stock is trading at 14.2x on FY19E and 11.4x on FY20E of our earnings estimates. The stock has been historically trading at medium multiple of ~17x on 1 yr fwd and ~12x 2yr fwd P/E band. However, valuations improved at the time of NDA victory on the expectations of uptick in the order activity.

We expect more wastewater treatment order to be announced before next election and hence, players like VATW are expected to benefit from this process. This, in turn, could improve valuations of the company and hence, valuing the company at 15x on FY20E earnings of INR 48.1, we have arrived a target price of INR 722, potential upside of 31% from CMP of INR 550. We have ‘BUY’ rating on the stock.

Positive outlook, orders win from Namami Gange pose upside risks

The company may see large order inflows from ‘Namami Gange’, the tendering process for which has already started.

The management pegged this opportunity to Rs 4000-5000 crore in the next two to three years. Large order wins from this segment pose upside risk to our target price.

Wabag has also planned fund raising up to Rs 400 crore for meeting equity contribution criteria in any such large project.

All such projects are likely to be centrally funded to tune of 40%. The rest 60% is to be funded via debt & equity. Of the 60%, 26% equity to be held by the key technology partner with a three year lock-in and 15 years O&M contract.

Apart from this opportunity, Wabag is likely to participate in large upcoming orders from Maharashtra (~Rs 8000 crore) for mega sewage treatment plants, Tamil Nadu (~Rs 5000 crore) for desalination plants, Delhi (~Rs 2500 crore) & Karnataka (~Rs 2500 crore) for water treatment.