Power to grow

We initiate coverage on Areva T&D with 'Outperformer' rating and a target price of Rs 1855 (30x CY08 earnings), implying a 17% upside potential. Areva T&D is the third largest transmission and distribution player globally with a significant presence in the Indian T&D space. We believe that Areva with its high-end technology systems would be in a position to garner major share of business as India progresses towards a high voltage grid. Also the company's strategy of bidding for high margin orders would help it to sustain its high return ratios. For the period FY07 to FY09, we expect CAGR of 57.7% in net profit on the back of revenue CAGR of 24.7%. At the CMP of Rs 1,588, the stock is available at 36.8x and 25.7x CY07E and CY08E earnings of Rs 43.1 and Rs 61.8 respectively.

Highlights

The Indian electricity grid is moving towards the next stage in its life cycle with the emergence of the national grid. PGCIL has been introducing higher voltage lines and plans to introduce lines higher than 765kV in a phased manner. Areva, with the technical backing of its parent would be one of the major beneficiaries. _ Areva currently has an order book of Rs 24.2bn, 1.8x its CY06 sales, providing visibility of earnings for next few years. The company has won the first ever 765 kV substation order. It is setting up a 765kV transformer manufacturing facility to garner business in the high voltage segment. We believe order inflow would continue to be strong and would outpace the revenue growth. Order Book growth to continue Areva currently has an order book of Rs 24.2bn, 1.8x its CY06 sales, providing visibility of earnings for next few years. The company has won the first ever 765 kV substation order from NTPC, being the only fully integrated 765kV substation supplier in the country. It is also setting up a 765kV transformer manufacturing facility to garner business in the high voltage segment as and when orders are allocated for these. The company is expanding its current facilities as well as setting up new facilities to capture the opportunity in the Indian market.

Risks

Key alterations in government plans. Though the government has established ambitious targets for the power sector, however the real challenge for the government would be to commission the projects as per schedule. Also any change in government plans might hamper the future revenues. The government has achieved only 56.7% out of its target for the Xth Plan. We believe that the achievement could be as high as 70% in the XIth plan considering that already orders have been placed for equipment worth 51,000MW and remaining is expected to be ordered by December 2007. With an increase in generation facilities, we expect T&D to pick up at the same pace, favoring companies such as Areva.

Valuations

For the period FY07 to FY09, we expect CAGR of 57.7% in net profit on the back of revenue CAGR of 24.7%. At the CMP of Rs 1,588, the stock is available at 36.8x and 25.7x CY07E and CY08E earnings of Rs 43.1 and Rs 61.8 respectively. Areva enjoys attractive return ratios with RoE at 46.1% and RoCE at 47.5%. We believe with attractive ratios and high margins Areva should trade at a higher multiple than comparable. We initiate coverage on Areva T&D with an 'Outperformer' rating and a target price of Rs 1855 (30x CY08 earnings), implying an upside of 17% from current levels.