15 November 2024

About the Company

Blue Star is India’s leading Heating, Ventilation, Air conditioning, and Commercial Refrigeration (HVAC&R) Company. With a network of 30 offices, 7 modern manufacturing facilities, and 3132 employees, the company serves a vast clientele. Blue Star’s integrated business model encompasses manufacturing, contracting, and after-sales service, offering end-to-end solutions. It caters to diverse needs, from corporate and commercial applications to residential comfort requirements, and has expanded into water purifiers, air purifiers, and air coolers. Blue Star Engineering & Electronics Ltd., its subsidiary, also delivers comprehensive engineering solutions across various industries.

Business Segments 

The key business segments are divided into three divisions:

• Electro-Mechanical Projects & Commercial Air Conditioning Systems
  • Central Air Conditioning Systems
  • After-Sales Service
  • International Business
• Unitary Products
  • Cooling and Purification Appliances
  • Commercial Refrigeration
• Professional Electronics and Industrial Systems

Investment Rationale:

• The company is well-poised to grow in the RAC Segment with a strong tailwind in the coming years, due to low penetration in tier 3, and tier 4 cities
• The EPC Business is set to grow strongly due to increasing requirements in data centers and other government projects
• Strong Management Team with a strategic plan to grow sustainably, and they have been able to execute over the years.

History of the Company:

Source: Investor Presentation

Business Segments:

Electro-Mechanical Projects & Commercial Air Conditioning Systems

This business segment encompasses designing, manufacturing, installing, commissioning, and maintaining central air conditioning plants, packaged/ducted systems, and variable refrigerant flow (VRF) systems. Additionally, it includes contracting services in mechanical works, electrification, plumbing, and firefighting. Value-added after-sales services such as revamp, retrofit, upgrades, and operational support are also provided to ensure the efficient functioning of electro-mechanical utilities. In FY24, this segment contributed revenue of 4715 Crores which is around 49% of the total revenue.

Unitary Products

In this segment, the company focuses on a wide range of contemporary and highly energy-efficient room air conditioners for both residential as well as commercial applications. It also manufactures and markets a comprehensive range of commercial refrigeration products and cold chain equipment. The unitary products range also encompasses water purifiers, air purifiers, and air coolers. In FY24, this segment contributed revenue of 4592 Crores which is around 47% of the total revenue.

Professional Electronics and Industrial Systems

This business segment is overseen by Blue Star Engineering & Electronics Limited, the Company’s wholly-owned subsidiary. Additionally, this subsidiary operates a Medical Diagnostic Equipment Refurbishment Facility in Bhiwandi, Maharashtra, dedicated to refurbishing a diverse range of pre-owned medical diagnostic imaging systems. Furthermore, Blue Star has established two customer experience centers: one in Thane for its non-destructive testing solutions and another in Chennai for material testing and metrology solutions. In FY24, this segment contributed revenue of 378 Crores which is around 5% of the total revenue.

Geographical Classification

The majority of the Income comes from India which contributed 93% of the total revenue in H1FY25, International Contributed 7% of the overall revenue in H1FY25.

Management

• The company’s management is led by Mr. Vir Advani, Chairman & Managing Director, who has over 20 years of experience in the industry with the company. 
• Mr. B. Thiagarajan, the CEO, brings over four decades of experience, having previously worked for reputed companies such as Larsen & Toubro Ltd., BPL Systems Ltd., and Voltas Ltd. before joining Blue Star in 1998.
• The company’s Board of Directors includes independent directors from various fields, such as HR, C-suite executives, venture capital, entrepreneurship, chartered accountancy, tax law, and management consulting. This diverse and accomplished board strengthens the company’s strategic oversight, ensuring robust internal control, strategic direction, and strong corporate governance. All board members attended the most recent AGM.
• The current shareholding of the company stands at 36.46%, with a minor dilution from 38% to 36% due to recent capital-raising efforts. This dilution is reasonable given the company’s scale and is supported by strong institutional investment.

Deep-Dive on the Investment Rationale

The company is well-poised to grow in the RAC Segment with a strong tailwind in the coming years, due to low penetration in tier 3, and tier 4 cities

The RAC (Room Air Conditioner) segment is one of the fastest-growing areas for the company, which is heavily investing in R&D and launching new products to serve both premium and affordable segments. With A/C penetration in India still low, especially in tier 3 and 4 cities, only 8–10% of the country’s 300 million households had A/Cs in FY24. This penetration is expected to reach nearly 50% by FY37, driven by a population of 1.4 billion.

The consumer durable finance market in India is also experiencing rapid growth, expanding from USD 1.21 billion in 2023 to a projected USD 3.95 billion by 2029, reflecting a CAGR of 21.85%. The company is strengthening its brand presence nationally and has appointed cricketer Virat Kohli as its brand ambassador, enhancing brand recognition and market positioning. With a strong emphasis on R&D and innovation, along with a growing market, the company is well-positioned for strong revenue growth and potentially higher margins through backward integration in the coming years.

The EPC Business is set to grow strongly due to increasing requirements in data centers and other government projects

The company’s order book has grown significantly over the years, driven by a diversified EPC focus and strong marquee clientele. From FY19 to H1FY25, the order book expanded from ₹2,316 crore to ₹6,364 crore, reflecting an impressive CAGR of 24%. This growth underscores the company’s robust sales performance, led by a strategic focus on high-growth sectors like manufacturing and data centers.

Additionally, the company has made substantial investments in R&D, increasing from ₹67 crore in FY22 to ₹145 crore currently—a 100% increase. This includes a capital expenditure of ₹94 crore for advanced design and testing facilities, enhancing the company’s technical capabilities. Expansion in the Middle East is also anticipated in the coming years, which is expected to serve as a key growth driver, further strengthening margins, order book, and execution capabilities.

Strong Management Team with a strategic plan to grow sustainably, and they have been able to execute over the years.

The company is supported by a highly qualified management team, with the Advani family at the helm for over 80 years, establishing a strong and sustainable legacy in the business. Their commitment to robust internal controls, strategic execution, and corporate governance has positioned the company for continued sustainable growth, supported by favorable industry tailwinds. This is reflected in the company’s impressive revenue growth of over 31% CAGR over the past three years, alongside a PAT growth of 76% CAGR. In comparison, a similar industry player, Voltas Ltd., experienced an 18% revenue growth but saw profits decline during the same period due to margin contractions, primarily driven by significant losses in its Electro-Mechanical Projects (EMP) division.

Risk/Threats

High Working Capital Intensity: The company has very high working capital intensity primarily because nearly 50% of the revenue comes from the EPC nature of business in the EMP Segment and the business is seasonal where Q1 & Q4 have a very high inventory which makes the company a high working capital intensive this would  The same is reflected by high gross current assets days of 176 days in FY24. However, most of the working capital is financed through creditors because of back-to-back arrangements as well as advances from the customers.

High Competitive Intensity: The company operates in both B2B and B2C segments, facing competition from multiple organized players. Among the listed competitors, Voltas, a TATA Sons subsidiary, stands out with a presence in EMP, RAC, and engineering and a strong foothold in the Middle East market. Other key players in the industry, including Mitsubishi, Daikin, and Havells, also contribute to the intense competition. Despite this, the company has increased its RAC market share from 13.75% in FY23 to 15% in H1FY25. Going forward, it will be crucial for the company to innovate and develop products that serve both the affordable and premium segments effectively.

Highly Seasonal & Cyclical in Nature: As the company is in the consumer durable segment by nature very cyclical to the economic cycles at the time they are seasonal it’s based on the seasonal quarter where Q1 &Q4 determines the overall profitability of such business especially in the RAC Segment.

Financial Analysis & Valuation

As of H1FY25, the company achieved an incremental ROCE of 32%, an increase of 300 basis points year-over-year, despite an injection of ₹500 crores in additional capital. This reflects the company’s strong growth in new capital, which is a key metric for investors evaluating return on investment. This success is primarily driven by a robust order book in the EMP (Electro-Mechanical Projects) and Commercial Refrigeration business, where ROCE exceeds 45%, and solid growth in Unitary Products. These results indicate the company’s strong potential for continued growth in the coming years.

Valuation

The company currently has a market capitalization of ₹36,909 crore, with a P/E ratio of 70 and an EV/EBITDA of 43.5x. This valuation is reasonable, considering the industry’s median EV/EBITDA is around 40–41x. Compared to competitor and market leader Voltas Ltd., which trades at 60x EV/EBITDA, this company appears to be attractively valued given its strong revenue growth at a 34% CAGR and a negative cash conversion cycle, indicating it funds working capital through vendor payables. This creates a competitive advantage, especially with a significant B2B contribution of over 53% to total revenue.

The company is well-positioned for future growth, with solid prospects in both EMP and Unitary Products, as well as structural growth opportunities in data centers. Additionally, the low air conditioner penetration rate—currently at 10% of households—is expected to grow significantly to 50–60% over the next 10–12 years, driven by a rising middle class and increased consumer durable financing options.

However, investors should be mindful of rising competition in the industry, as companies are aggressively expanding production capabilities, both through third-party manufacturers and well-known brands. For example, Daikin Ltd., the second-largest player with a 19% market share, plans to invest ₹1,500 crore over the next three years. These developments suggest the company will need to invest significantly in marketing and R&D to differentiate itself in the RAC segment.