Blue Star Ltd’s (BSL) Q3FY11 results were disappointing and below our expectations as net sales grew by 4.2% YoY to Rs6.1bn (PINCe Rs9.7bn). OPM contracted by 210bps to 7.7% on account of higher other expenses. Lower operating margins coupled with higher effective tax rate (28.7% against 24.1% YoY) translated in a 37.4% fall in adj net profit to Rs224mn.

Subdued performance by Electro-Mech (MEP) segment: Revenues from MEP segment (contributes ~70% to topline) degrew by 4.9% YoY. PBIT margin for the segment contracted by
411bps to 6.7% on the back of lesser revenue booking and cost pressure. This resulted in 41% de-growth in PBIT from this sector resulting in 38% decline in net profit for the company.

Flat order book: Total order book as of Dec’10 stands at Rs20.1bn (+10% YoY), however it is just 4% up QoQ with order inflows of Rs6.8bn in Q3FY11.

Outlook remains muted: Though the order book looks strong, revenue booking in expected to remain sluggish as activities in IT/ ITES, Infrastructure and construction sectors have not yet picked up post economic downturn. We expect order inflows to improve going forward, however, margins should remain under pressure with increasing material cost and lower revenue booking. BSL with inhouse expertise across all pieces of MEP works i. e. Mechanical, Electrical, Plumbing & Fire fighting should aggressively pursue integrated MEP business.

VALUATIONS AND RECOMMENDATION

We have decreased our net profit estimates for FY11 and FY12 by 19% and 23% respectively on the back of margin pressure and muted outlook for Electro-Mech project division. At the CMP of Rs333, the stock trades at a P/E of
20.3x & 16.5x and an EV/ EBITDA of 11.1x & 9.2x for FY11E & FY12E earnings respectively. We maintain our ‘HOLD’ recommendation with a reduced target price of Rs363 (18.0x FY12 EPS).