Suzlon - Macquarie

Harnessing wind power
Initiate coverage with an Outperform rating
We initiate coverage of Suzlon (SUEL IN, Rs243; MCAP: US$8.8bn), the world’s
fifth-largest wind turbine maker with an Outperform rating and target price of
Rs315, or 29% upside potential. Despite execution risks, we expect the
company’s longer-term integration strategy to deliver solid results.
Supply shortages expected to persist
While global demand for wind turbines is likely to remain strong due to higher
energy costs and environmental issues, we expect further supply constraints.
With just a handful of global wind turbine suppliers and considerable entry
barriers, we expect pricing power to remain strong through to the end of the
decade. Capacity additions from new players are at least two years away. We do
not expect the decline in crude oil prices to substantially impact longer-term
demand for renewable energy.
Integration strategy – a long-term positive
We expect Suzlon’s integration strategy and its quest to stretch across the value
chain to generate medium-term benefits. The strategy is particularly important in
the face of component shortages across the supply chain. With the acquisitions
of Hansen (HSN LN; £2.71, NR) and REpower (RPW GR, €205, NR), Suzlon
has gained strength across geographies while shoring up the supply of various
components.
Earnings robust, expect new order inflows
Suzlon’s management indicated that it is negotiating large multi-year contracts. With
no delay in capacity expansion (which is slated to double by 3Q FY09) and amid
tight global supply, we expect new order inflows in coming months. We forecast an
earnings CAGR of 50% from FY08-11, backed by strong output growth and
sustainable margins.
Execution problems are not unusual
Suzlon has faced execution problems and order cancellations (rotor blade cracks
in the US) and output issues for its core S88 turbines. While the concerns are
valid, we note that other global players – Vestas (VWS DC, DKK 584, NR) (23%
market share) and Gamesa (GAM SM, €28.7, NR) (15%) have faced similar
issues.
Strong derating, discount not justified
Suzlon has underperformed the broader Indian market by 11% (down 35% YTD
vs 24% for the broader market). At 15x FY10E earnings, Suzlon trades at a 20%
discount to its global wind energy peers vs a 40%+ premium previously. Further,
adjusting for the valuations of Hansen and REpower, the WTG business trades
at a mere 9x FY10 earnings – compensating for the execution concerns.