A significantly streamlined policy framework for PPP road and port projects, with the government committed to making it even more efficient, sets the ground for higher investments in Indian infrastructure. This, we believe, would lead to acceleration in new project awards as also improvement in execution, with an increase in order inflows already visible over the last two quarters. Further, with infrastructure investments worth ~Rs41tn proposed in the 12 th plan period (~Rs20.5tn investments in 11 th plan), growth prospects remain strong for EPC players. Improved access to equity capital and a benign liquidity environment would ensure smooth execution. With current order backlogs ranging from 2-4x FY10 revenues and potential for strong order inflows over the medium term, we see a pick- up in earnings growth for construction companies. We remain positive on the space with IVRCL, NCC and HCC as our top picks. Policy framework streamlined: Having lagged so far in its 11 th Plan infrastructure investment targets, the government has streamlined its policy framework. The acceptance of the BK Chaturvedi report recommendations augurs well for the roads sector and we believe it has already reduced procedural delays in awarding projects, and will further improve access to capital and increase private sector participation. The development of the Model Concession Agreement for major ports is also an important policy reform and would facilitate the much-needed investments in the ports sector. Strong medium-term growth opportunities; execution set to improve: The government proposes to invest ~Rs41tn in infrastructure in the 12 th Plan (FY13-17) following investments of ~Rs20.5tn in the 11 th plan period. This entails continued growth opportunities for EPC players in the medium term. Further, improved access to equity capital, benign liquidity conditions and government efforts to channel long- term investments into the infrastructure sector would boost execution of projects. Earnings growth to pick up: A strong pick-up in order inflows over the last two quarters (up ~32% yoy in Q1CY10) has led to strong order backlog positions of 2-4x FY10 revenues for our construction universe. Aided further by a stable margin outlook, we expect earnings growth to accelerate (19%-26% CAGR over FY10-12). Further, valuations are attractive at 2.3x-11.8x FY11E earnings, adjusted for value of BOT, Real estate and subsidiaries. We remain overweight on the sector with top picks – IVRCL, NCC and HCC. IDFC Securities Ltd. Naman Chambers, C-32, G- Block, Bandra-Kurla Complex, Bandra (East), Mumbai 400 051 Tel: 91-22-6622 2600 Fax: 91-22-6622 2501 “For Private Circulation only” “Important disclosures appear at the back of this report” Reason for report: Sector update Infrastructure Construction Raring to go 14 June 2010 BSE Sensex: 17065 Comparative valuations FY11E Companies Price# Mcap Earnings EPS PE Unadj EV/EBITDA RoE RoCE Target (Rs) (Rs mn) CAGR FY10-12E (%) (Rs) (x)* PE (x) (x)* (%) (%) Price (Rs) Gammon India *, @ 195 26,501 21.1 14.2 5.5 13.8 4.1 10.4 12.5 275 HCC* 114 34,586 25.6 4.3 4.9 26.6 5.2 8.0 9.6 148 L&T 1,677 997,822 18.8 80.0 21.0 21.0 18.0 24.5 17.3 1,760 Nagarjuna* 187 42,743 18.9 11.5 11.8 16.3 8.6 12.0 11.8 224 IVRCL* 179 47,888 25.2 10.6 8.7 16.9 4.7 13.5 15.1 225 Madhucon Projects* 131 9,638 25.4 7.3 2.3 18.0 2.7 9.3 10.8 208 Simplex Infra 486 22,341 21.4 33.0 14.7 14.7 6.5 15.6 13.9 531 *Adjusted for value of Real Estate subs, BOT assets, power projects, #Price as on 11 th June 2010, @ Earnings include Italian subsidiaries Shirish Rane [email protected]91-22-6622 2575 Nikhil Salvi [email protected]91-22-6622 2566 Salil Desai [email protected]91-22-6622 2573 Ashish Shah [email protected]91-22-6622 2560
Transcript
A significantly streamlined policy framework for PPP road and port projects, with the government committed to making it even more efficient, sets the ground for higher investments in Indian infrastructure. This, we believe, would lead to acceleration in new project awards as also improvement in execution, with an increase in order inflows already visible over the last two quarters. Further, with infrastructure investments worth ~Rs41tn proposed in the 12th plan period (~Rs20.5tn investments in 11th plan), growth prospects remain strong for EPC players. Improved access to equity capital and a benign liquidity environment would ensure smooth execution. With current order backlogs ranging from 2-4x FY10 revenues and potential for strong order inflows over the medium term, we see a pick-up in earnings growth for construction companies. We remain positive on the space with IVRCL, NCC and HCC as our top picks.
Policy framework streamlined: Having lagged so far in its 11th Plan infrastructure investment targets, the government has streamlined its policy framework. The acceptance of the BK Chaturvedi report recommendations augurs well for the roads sector and we believe it has already reduced procedural delays in awarding projects, and will further improve access to capital and increase private sector participation. The development of the Model Concession Agreement for major ports is also an important policy reform and would facilitate the much-needed investments in the ports sector.
Strong medium-term growth opportunities; execution set to improve: The government proposes to invest ~Rs41tn in infrastructure in the 12th Plan (FY13-17) following investments of ~Rs20.5tn in the 11th plan period. This entails continued growth opportunities for EPC players in the medium term. Further, improved access to equity capital, benign liquidity conditions and government efforts to channel long-term investments into the infrastructure sector would boost execution of projects.
Earnings growth to pick up: A strong pick-up in order inflows over the last two quarters (up ~32% yoy in Q1CY10) has led to strong order backlog positions of 2-4x FY10 revenues for our construction universe. Aided further by a stable margin outlook, we expect earnings growth to accelerate (19%-26% CAGR over FY10-12). Further, valuations are attractive at 2.3x-11.8x FY11E earnings, adjusted for value of BOT, Real estate and subsidiaries. We remain overweight on the sector with top picks – IVRCL, NCC and HCC.
Gammon India ............................................................................................................... 61
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INVESTMENT ARGUMENT Policy reforms introduced to streamline the award process; to lead to improved
bidding interest as well as improved execution
Long-term opportunity remains strong; outlay of ~Rs41tn proposed on infrastructure in the 12th Plan period as against ~Rs20.5tn in the 11th Plan
PPP projects worth Rs3.8 trillion in the pipeline; traction visible in roads, ports and urban infrastructure sectors. Visible signs of pick-up in order flows
Order book position of our construction universe remains strong at 2-4x FY10 revenues; expect execution to pick up and translate into higher earnings
Improved access to capital, both equity and debt, provides comfort on ability of developers to execute; maintain positive stance on sector with IVRCL, NCC and HCC as top picks. Surge in commodity prices and increase in borrowing rates are key risks
Policy Reforms: Course correction, finally
11th Plan infrastructure investments lagging targets… The 11th Plan originally envisaged investments of ~Rs20.6trillion (~$514bn at Rs40/USD) in infrastructure development which, in its aggregate form, has been maintained in the recent mid-term review. However, till March 2010, investments worth only Rs7.8trillion (38%) had been channelled in the sector – leaving a huge investment gap of ~Rs12.7trillion over FY11 and FY12. While the headline investment target has been retained, there has been an 11-23% downward revision in planned investments in sectors such as roads, railways, and water supply and sanitation with a sharp ~53% cut in outlay for ports. Planned investments in electricity and irrigation sectors have been largely maintained and that in airports raised by 16.7%. Overall, there has been a 10.6% downward revision in planned investments in infrastructure ex- telecom, storage and oil & gas.
Exhibit 1: Roads, Water and ports segments have seen cuts on 11th Plan investment targets
Source: Planning commission data, IDFC Securities Research
Revised 11th Plan period investments6,586
2,787
2,0082,462
1,117
406 3610
1,750
3,500
5,250
7,000
(Rs bn)
Power Roads Railways Irrigation Watersupply &sanitation
Ports Airports
Revision in 11th Plan period investments
0.0
-0.1
-0.2
0.0
-0.2
-0.5
0.2
-0.60
-0.30
0.00
0.30(%)
Power Roads Railways Irrigation Watersupply &sanitation
Ports Airports
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…attributable to policy bottlenecks, liquidity squeeze… Pace of investments in the first half of the 11th plan period (starting in FY08) had been constrained, among other things, mainly because of challenges in land acquisition, an unprecedented liquidity squeeze starting October 2008 (easing only in mid 2009) and a near-freeze in ordering activity during the election time (April-May 2009). Apart from these generic issues, the following sector-specific issues constrained investments in the first half of the 11th plan period:
Exhibit 2: Land acquisition issues, litigation & restrictive policies lead to sluggishness in infrastructure investments
Source: IDFC Securities Research
Exhibit 3: Sluggish pace of award of road projects in FY08 and FY09
0
1,250
2,500
3,750
5,000(km)
FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10E*
Awarded Completed
Source: NHAI data * - up to February 2010
…leading to underperformance in stock prices Over a 3-month period, most construction companies under our coverage have underperformed the Sensex. HCC and Gammon show the maximum underperformance followed by Madhucon, and IVRCL. Only Simplex, L&T and NCC have outperformed the Sensex. The underperformance of these stocks can be assigned to muted execution growth led by delays in achieving financial closure of projects and to near-stoppage of work in Andhra Pradesh (AP) irrigation projects in the case of IVRCL, HCC and Madhucon.
• Delays in land acquisit ion and in securing environmental clearances
• Re-bidding of concessions due to lit igation
• Delays in land acquisition and in securing environmental clearances
• Quantitative restrictions on issue of visas to Chinese
• Frequent management changes and capacity constraints at NHAI
• Delay in finalization of the MCA
• Restrictive policy framework – single-bid projects not awarded, conflict of interest clause, termination clause, cap on number of bidders etc which led to considerable lit igation.
• Law and order problems in certain eastern and NE states
PortsPowerRoads
• Delays in land acquisit ion and in securing environmental clearances
• Re-bidding of concessions due to lit igation
• Delays in land acquisition and in securing environmental clearances
• Quantitative restrictions on issue of visas to Chinese
• Frequent management changes and capacity constraints at NHAI
• Delay in finalization of the MCA
• Restrictive policy framework – single-bid projects not awarded, conflict of interest clause, termination clause, cap on number of bidders etc which led to considerable lit igation.
• Law and order problems in certain eastern and NE states
PortsPowerRoads
HCC and Gammon have underperformed the most
followed by Madhucon and IVRCL
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Exhibit 4: Construction stock have underperformed the broader markets
Relative performance (%) Company 3m 6m Key reasons Gammon India (14.9) (16.3) Reported performance lagging expectations; uncertainties on profitability of international
subsidiaries HCC (20.0) (16.6) Political uncertainty in AP affecting project execution and higher receivables IVRCL (9.6) (1.4) Political uncertainty in AP affecting project execution and higher receivables L&T 7.3 (0.5) Sluggish execution during 9MFY10. Strong pick-up in Q4FY10 NCC 17.6 24.2 Strong order booking and execution Madhucon (14.2) (24.0) Sluggish execution, concerns over funding of investments in power and road assets Simplex 11.2 (6.4) Sluggish execution and order backlog growth during 9mthFY10; strong rebound in Q4FY10 Source: Bloomberg data
However, policy reforms set to improve execution Investments in high-growth sectors like roads and ports, where there is a strong private sector interest, have been lagging due to various procedural and policy bottlenecks. Some progressive policy initiatives have recently been undertaken in the roads and the ports sector – like introduction/ revision of the Model Concession Agreement (MCA), removal of cap on the number of bidders for shortlist at the RFQ stage, relaxation in the conflict of interest clause and termination clause, etc. We believe these steps would increase private sector interest and also expedite investments in the concerned sectors. Further, financial sector reforms like allowing lenders to create charge on toll receipts/ annuity receipts, the proposed additional tax breaks on investments of up to Rs20,000 p.a. in infrastructure bonds, etc would improve access to capital for infrastructure companies.
Exhibit 5: Reforms in the roads sector
Source: BK Chaturvedi Committee report, IDFC Securities Research
Will save considerable time and effortPre-qualification to be made an annual exercise and not to be conducted for each project separately
To increase participation opportunities for developers and enhance competition
Conflict of interest threshold increased to 25% from 5% earlier
To improve access to debt and marginally lower the borrowing rate
Lenders allowed to create a charge on the project escrow account to afford them greater security
Eases private sector concerns by providing downside protection
Provisions relating to termination due to higher than capacity traffic eased
Allows developers to exit projects at enhanced IRRs and recycle capital
Concessionaires allowed to completely exit projects two years after CoD
Will enhance equity IRRs of developersDevelopers to be paid entire grant amount (40% of project cost) during construction period
Re-bidding for projects not necessaryNHAI empowered to award single bid projects
Will cut procedural delaysDevelopment mode (toll, annuity or cash contracting) to be decided upfront
ImpactMeasure
Will save considerable time and effortPre-qualification to be made an annual exercise and not to be conducted for each project separately
To increase participation opportunities for developers and enhance competition
Conflict of interest threshold increased to 25% from 5% earlier
To improve access to debt and marginally lower the borrowing rate
Lenders allowed to create a charge on the project escrow account to afford them greater security
Eases private sector concerns by providing downside protection
Provisions relating to termination due to higher than capacity traffic eased
Allows developers to exit projects at enhanced IRRs and recycle capital
Concessionaires allowed to completely exit projects two years after CoD
Will enhance equity IRRs of developersDevelopers to be paid entire grant amount (40% of project cost) during construction period
Re-bidding for projects not necessaryNHAI empowered to award single bid projects
Will cut procedural delaysDevelopment mode (toll, annuity or cash contracting) to be decided upfront
ImpactMeasure
...tax breaks on investments of Rs20,000 p.a. in
infrastructure bonds, etc to improve access to capital for
infrastructure companies
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Exhibit 6: Reforms in the ports sector
Source: Ministry of Shipping
Further reforms proposed by BK Chaturvedi Committee
• Exemption from dividend distribution tax for dividends declared by SPVs
• Operationalize takeout financing
• Relaxation in minimum rating and dividend payment history with IRDA
Exhibit 7: Financial sector reforms
Source: RBI, IDFC Securities Research
Competition restricted by ensuring only serious players participate in bidding
While streamlining the restrictive provisions in its policy framework, NHAI has also tightened its bidding norms to ensure that only qualified developers with the required financial strength bid for projects. Some of these provisions include restricting the number of projects pending financial closure/ sanctions that developers can have while bidding for new projects and specifying minimum net worth required based on the size of the projects. We believe such tightening would ensure that projects are awarded to only serious and capable players which, in turn, would improve project execution.
To increase participation opportunit ies for private developers and enhance competition
Conflict of interest clause removed
To ease procedural challenges and enhance competition
Removal of cap on shortlisting of bidders at the RFQ stage
To provide a uniform and transparent framework for attracting private sector investments
Model RFQ, RFP documents and Model concession agreement introduced for Major Ports
ImpactMeasure
To increase participation opportunit ies for private developers and enhance competition
Conflict of interest clause removed
To ease procedural challenges and enhance competition
Removal of cap on shortlisting of bidders at the RFQ stage
To provide a uniform and transparent framework for attracting private sector investments
Model RFQ, RFP documents and Model concession agreement introduced for Major Ports
ImpactMeasure
• Increased willingness on the part of bankers to lend to the infrastructure projects
• IIFCL authorized to raise upto Rs400bn to refinance bank lending of longer maturity to eligible infrastructure projects, especially in the highways and the ports sector
• No need for marking to market investments in these bonds leading to increased interest in investing in such bonds. Resultant, developers would be in a position to access longer term capital directly from banks.
• Bonds issued by infrastructure companies to be classified under HTM category (minimum residual maturity of 7 years)
• Increased interest in lending to the sector• Reduction in provisioning requirement for sub-standard infrastructure loans from 20% to 15%
• Infra loans no longer treated as unsecured. This would lower provisioning/capital adequacy norms which in-turn would lead to reduction in borrowing rates for developers.
• Rights under Annuity projects and BOT toll projects (where there are provisions to compensate the developer for a shortfall in a certain level of traffic) to be considered as tangible security
• Improved access to long term capital for infrastructure developers
• Deduction upto Rs20,000 (over and above the deduction limit of Rs100,000) from taxable income for investments in infrastructure bonds
ImpactMeasure
• Increased willingness on the part of bankers to lend to the infrastructure projects
• IIFCL authorized to raise upto Rs400bn to refinance bank lending of longer maturity to eligible infrastructure projects, especially in the highways and the ports sector
• No need for marking to market investments in these bonds leading to increased interest in investing in such bonds. Resultant, developers would be in a position to access longer term capital directly from banks.
• Bonds issued by infrastructure companies to be classified under HTM category (minimum residual maturity of 7 years)
• Increased interest in lending to the sector• Reduction in provisioning requirement for sub-standard infrastructure loans from 20% to 15%
• Infra loans no longer treated as unsecured. This would lower provisioning/capital adequacy norms which in-turn would lead to reduction in borrowing rates for developers.
• Rights under Annuity projects and BOT toll projects (where there are provisions to compensate the developer for a shortfall in a certain level of traffic) to be considered as tangible security
• Improved access to long term capital for infrastructure developers
• Deduction upto Rs20,000 (over and above the deduction limit of Rs100,000) from taxable income for investments in infrastructure bonds
ImpactMeasure
NHAI has tightened bidding norms to ensure that only qualified developers with financial strength bid for
projects
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Exhibit 8: Tightening eligibility norms to improve execution
Source: IDFC Securities Research
• Positive for large EPC companies due to restricted competition
• EPC contractors to have completed atleast one project worth 20% of TPC or Rs5bn whichever is less
• Positive for large developers due to restricted competition
• Minimum networth criteria• 25% of project cost upto Rs20bn size + 50% of
project cost between Rs20bn and Rs30bn + 100% of project cost > Rs30bn
• Will curb the practice of name lending • Ratings of each co-developer to be weighted by economic interest. Scores of only entities which have >26% interest to be considered
• Ensures developers do not overstretch themselves in bidding for new projects. Can be restrictive for capable developers also due to timing issues
• Contractors cannot have more than 3 projects pending for financial closure/sanctions while bidding for new projects
ImpactNew provision
• Positive for large EPC companies due to restricted competition
• EPC contractors to have completed atleast one project worth 20% of TPC or Rs5bn whichever is less
• Positive for large developers due to restricted competition
• Minimum networth criteria• 25% of project cost upto Rs20bn size + 50% of
project cost between Rs20bn and Rs30bn + 100% of project cost > Rs30bn
• Will curb the practice of name lending • Ratings of each co-developer to be weighted by economic interest. Scores of only entities which have >26% interest to be considered
• Ensures developers do not overstretch themselves in bidding for new projects. Can be restrictive for capable developers also due to timing issues
• Contractors cannot have more than 3 projects pending for financial closure/sanctions while bidding for new projects
ImpactNew provision
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Opportunity Canvas: Getting bigger
As of December 2009, 412 PPP projects aggregating Rs3.8trillion ($84bn) were in the pipeline. Of these, 160 projects worth Rs1.8trillion ($41bn) were central sector projects and 252 worth 1.9trillion ($43bn) were state sector projects. The bulk of these projects were across roads, ports, power and urban infrastructure sectors. Further, the government has proposed doubling of planned outlay in infrastructure to ~Rs41trillion in the 12th Plan Period (FY13-17) as compared to ~Rs20.5trillion in the 11th Plan period. Considerable streamlining of the policy framework for PPP infrastructure projects, combined with improved access to capital, we expect, will bring about a significant improvement in execution. We expect a strong pick-up in execution in sectors across roads, ports and urban infrastructure (mainly metro rail and water supply).
Exhibit 9: Emphasis on infrastructure development on the rise
Infrastructure investments during plan periods
24
9
21
41
0
9
18
27
36
45
VIII IX X XI XIII
(Rs trn)
Source: Planning commission data, IDFC Securities Research
Exhibit 10: Rs3.8 trillion worth PPP projects in pipeline in the Central and the State sectors
As of Dec 2009 (Rs bn) Completed Under implementation In pipeline Total Central Sector National Highways 137 419 763 1,320 Major Ports 58 105 185 347 Airports 59 188 247 Railways 47 900 947 Total 253 759 1,848 2,861 State Sector Roads 64 609 395 1,067 Ports 197 515 174 887 Airports - 5 41 46 Railways - 5 3 8 Power 90 284 620 994 Urban Infrastructure 61 197 458 717 Other Sectors 1 37 225 263 Total 413 1,652 1,918 3,982 Grand Total 666 2,411 3,766 6,843 Source: Planning commission data
...the government has proposed doubling of planned
outlay in infrastructure to ~Rs41 trn in the 12th Plan
Period
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IDFC Securities
Roads – policy reforms to expedite execution In its work plan for FY11 (Work Plan II), NHAI proposes to award 11,854km projects worth ~Rs1trillion during the year. Along with this, it also plans to clear a backlog of 4143km projects, where it could not activate bidding activity relating to Work Plan I in FY10. This is apart from plans to award 10 large road projects called the Mega Road Projects totalling 4,923km, each worth ~US$1bn on an average. The Ministry of Surface Transport also plans to constitute an Expressway Authority of India to develop, in a phased manner by 2022, ~17,000km of access-controlled expressways connecting high-density corridors. The consultant appointed for formulation of the Master Plan submitted its final report in end-CY09.
Exhibit 11: Status of NHDP and other NHAI projects as on April 30th 2010
Project status GQ NS – EW NHDP NHDP NHDP NHDP NHDP Port Others Total Ph. I & II Phase III Phase V Phase VI Phase VII Total Connectivity by NHAI Total length (km) 5,846 7,300 12,109 6,500 1,000 700 33,455 380 965 34,800 Already 4-laned (km) 5,786 5,067 1649 243 - - 12,745 286 907 13,938 Under Implementation (km) 60 1,568 4,285 1440 - 41 7,394 88 38 7,520 Contracts under implementation (no) 13 112 62 12 - 2 201 6 6 213 Balance length for award (km) - 507 6,175 4,817 1000 659 13,158 6 20 13,184 Source: NHAI
Exhibit 12: Work Plan I: Award Position Work Plan II – Projects for FY11
Details No of projects Length (km) NHDP Phase No of projects Length (km) Total for Work Plan I 122 11,618 Phase III 5 385 Awarded 33 2,835 Phase IV 66 9,401 Bids Received 5 498 Phase V 11 1,786 Bids invited 44 4,145 SARDP-NE 4 282 Carried over to FY11 40 4,143 Total 86 11,854 Source: IDFC Securities Research
Exhibit 13: Mega road projects identified by the government
Identified Projects Length (km) States Six-laning of Kishangarh-Udaipur-Ahmedabad section of NH-79A, NH-79, NH-76 & NH-8 557 Rajasthan and Gujarat Six- laning of Ichapuram– Srikakulam–Vishakhapatnam– Ankapalli– Rajahmundry section of NH-5 436 Andhra Pradesh Four- laning of Gujarat-Maharashtra border – Dhule – Jalgaon – Akola - Amravati section of NH-6 485 Maharashtra Four- laning of Gwalior – Shivpur - Biaora – Dewas section of NH-3 450 Madhya Pradesh 2-laning with paved shoulder of Amritsar–Ganganagar– Bikaner–Nagaur-Jodhpur– Pali section of NH-15, 89 & 65 700 Punjab & Rajasthan. 2-laning with paved shoulder of Kolhapur – Sangli – Sholapur – Latur – Nanded – Wardha – Nagpur section of NH-7 & SH 475 Maharashtra Four- laning of Panvel – Goa / Maharashtra Border section of NH-17 475 Maharashtra Four- laning of Ahmedabad – Bamanbore – Samakhiali & Bamanbore - Rajkot – Gondal section of NH-8A & B 425 Gujarat Six / Four / 2 Lane with Paved Shoulders of Bhavnagar – Pipavav – Porbandar – Dwarka section of NH-8E 445 Gujarat Six- laning of Aurangabad – Barwa adda – Panagarh - Dhankuni section of NH-2 475 Bihar & West Bengal. Total of above 4923 Source: Ministry of Road Transport and Highways
NHAI proposes to award 11,854km projects worth
~Rs1trillion during the year
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Metro rail projects – solution to congestion woes in urban India To reduce the worsening congestion in Indian cities, the government has undertaken development of rail-based mass rapid transit systems (MRTS) in major cities like Mumbai (Reliance Infra executing both the phases awarded so far), Bangalore, Hyderabad, Chennai, Kolkata (expansion) and Delhi (phase II; phase I already operational). The total investment outlay towards rail-based MRTS in the 11th Plan is likely to be ~US$4bn. In the near future, we see the Kolkata East-West Metro Corridor project, Hyderabad Metro rail project and the Bangalore High Speed Rail link project as potential opportunities for EPC contractors/ infra developers.
Exhibit 14: Metro projects with near term order flow potential
Metro Rail Projects Km Rsbn Current Status Hyderabad Metro Rail 71.3 121 In-principle approval received for VGF of 23.63bn
(20% of the project cost). Eight consortiums shortlisted at the RFQ stage. Bids likely to be finalized over the next couple of months
Extension of North-South Corridor of Bangalore Metro Rail Phase I 9.3 17.6 Under implementation and expected completion by September 2012
Bangalore Metro Phase II 180 280 Awaiting approvals from the central and the state governments
Bangalore High Speed Rail Link (Airport link) 33 58 Bids received for the project from 5 consortia Kolkata Metro Rail Extension (East-West Metro Corridor) 13.77 46.8 Being developed by KMRC. Ordering has started
recently and completion is targeted by 2014-15 Chennai Metro Rail Project 50 146 To be taken up as a JV between GOI and TN
Government. Sanctioned in Feb 2009. Targeted completion by 2014-15
Source: PIB, IDFC Securities Research
Ports – stretched for capacity; investments set to pick up Delays in project award lead to 53% cut in 11th plan outlay
The National Maritime Development Programme (NMDP) envisaged investments of Rs870bn in the 11th plan period - Rs558bn for increasing capacity of major ports to 1,016m tpa from 505m tpa in FY07 and Rs317bn for increasing capacity of minor ports to 575m tpa from 228m tpa in FY07. However, projects worth only Rs57bn have been completed till date and projects worth Rs165bn are under construction. The delays in awarding of projects were caused mainly by restrictive regulations and consequent litigations; e.g. in FY09, planned award of eight projects was postponed and seven of these eight were awarded in FY10. Of the original target of 17 projects for FY10, only six were awarded. As a result, there has been a sharp 53% revision in the planned outlay in the ports sector to Rs406bn. This, even as major ports are operating at peak capacities, has led to excessive congestion and turnaround time.
Metro rail investment in 11th
plan estimated at US$4bn
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Exhibit 15: Major ports operating at peak capacity utilization
Major Port Capacity at FY09 FY09 Traffic FY09 %age FY10 Traffic FY10 %age end (MMT) (MMT) cap. util. (%) (MMT) cap. Util.(%) * Kolkata 15.8 12.4 79 13.0 83 Haldia 46.7 41.8 89 33.3 71 Paradip 71.0 46.4 65 57.0 80 Visakhapatnam 62.2 63.9 103 65.5 105 Ennore 16.0 11.5 72 10.7 67 Chennai 55.8 57.5 103 61.1 110 Tuticorin 22.8 22.0 96 23.8 104 Cochin 28.4 15.2 54 17.4 61 New Mangalore 44.2 36.7 83 35.5 80 Mormugao 33.1 41.7 126 48.8 148 Mumbai 43.7 51.9 119 54.5 125 Jawaharlal Nehru 58.0 57.3 99 60.7 105 Kandla 77.2 72.2 94 79.5 103 Total 574.8 530.5 92 561.0 98 Source: Ministry of Shipping * - Capacity util. calculated at latest available capacities as at FY09 end
Project awards finally appear to be gathering pace
Going forward, we expect the pace of awards in the ports sector to pick up, attributable to policy reforms such as easing of restrictive clauses in the bidding process and formalisation of the MCA for the ports sector. Already, a number of large projects have been cleared by the apex bodies – Private Partnership Advisory Committee (PPPAC) and Cabinet Committee on Infrastructure (CCI) – and they have entered the bidding stage. In FY11, the Ministry of Shipping is targeting to award 21 projects with a total capacity of 200mt and estimated capital investment of Rs140bn.
Exhibit 16: Strong pipeline of port projects waiting to be awarded
Status of NMDP port projects
55
165
26
123
227
0
50
100
150
200
250
Project completed Work in progress Approved but workyet to be awarded
Firmed up and underprocess for approval
Under preliminaryplanning stage
(Rs bn)
Source: Ministry of Shipping
Power – shedding the lethargy In the revised 11th Plan, power generation capacity is likely to increase by 62,374MW with planned investments of Rs6.6trillion (42% of total) in the power sector. So far, 21,221MW capacity has been commissioned during the 11th Plan. Apart from this, ~100,000MW additional capacity is targeted in the 12th Plan, of which ordering is yet to commence for ~53,000MW power projects. To keep pace with the capacity addition
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in the generation sector, investments in the T&D sector too are expected to accelerate. Having incurred capex of Rs53.6bn during 9MFY10, PGCIL is likely to incur capex of ~Rs220bn over FY11 and FY12. The government’s plan to undertake large transmission projects in the PPP mode will add to opportunities like the ultra mega transmission projects. Notably, orders from the power sector (both generation & T&D segments) amount to Rs1.4trillion and account for ~48% of the total orders announced since January 2009.
Exhibit 17: Power sector orders accounted for ~48% of total announced orders since January 2009
Order flow from the power generation and T&D segment
-
50
100
150
200
250
Q1CY09 Q2CY09 Q3CY09 Q4CY09 Q1CY10 Q2CY10*
Power - Generation Power - T&D(Rs bn)
Source: IDFC Securities Research
Water supply and sanitation Though the 11th Plan had envisaged an investment of Rs1.4trillion in water supply and sanitation projects during the period, it was revised downward to Rs1.1trillion during the mid-term review. The government, through this outlay, targets to achieve 100% water supply and sanitation coverage in both urban and rural areas. Based on the major orders announced, we estimate ~Rs150bn worth of orders awarded in the water supply and sewage segments since January 2009.
Exhibit 18: Order flow in the water supply and sanitation segment
Order flow in the Water supply and Sewerage segment
-
15
30
45
60
Q1CY09 Q2CY09 Q3CY09 Q4CY09 Q1CY10 Q2CY10*
(Rs bn)
Source: IDFC Securities Research
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IDFC Securities
Funding of Infrastructure Investments in Place
Improved access to equity capital Since January 2009, infrastructure developers, power developers and EPC companies have raised equity resources to the tune of Rs230bn (excluding offer for sale component). These resources are proposed to be utilized primarily for funding equity commitment in upcoming projects and in some cases for retiring high-cost debt. As a result, near- term growth plans of infra developers, specifically those in our coverage universe, are adequately funded – which implies high visibility on execution.
Exhibit 19: EPC companies and power developers have raised Rs230bn through equity issues since January 2009
Date Issuer Name Amount raised (Rsbn) Type Date Issuer Name Amount INR (Bln) Type Apr-10 GMR Infrastructure 3.5 Addl Dec-09 JSW Energy 27.0 IPO Apr-10 C&C Constructions 0.8 Addl Nov-09 KSK Energy Ventures 5.2 Addl Mar-10 IL&FS Transportation Networks 7.0 IPO Oct-09 Indiabulls Power 16.2 IPO Feb-10 Man Infraconstruction 1.4 IPO Aug-09 Websol Energy Systems 0.5 Addl Feb-10 ARSS Infrastructure Projects 1.0 IPO Aug-09 NHPC 60.4 IPO Dec-09 Unity Infraprojects 0.7 Addl Aug-09 Adani Power 30.2 IPO Dec-09 MBL Infrastructure 1.0 IPO Jun-09 PTC India 5.0 Addl Dec-09 J Kumar Infraprojects 0.6 Addl Jul-09 Tata Power 16.2 Addl Dec-09 Gammon India 3.0 Addl Nov-09 Patel Engineering 3.4 Addl Oct-09 Larsen & Toubro 18.7 Addl Sep-09 Jaiprakash Associates 11.9 Addl Sep-09 Nagarjuna Constructions 3.7 Addl Aug-09 Lanco Infratech 7.3 Addl Aug-09 Punj Lloyd 6.7 Addl Aug-09 Texmaco 1.7 Addl Jul-09 GVK Power & Infrastructure 7.2 Addl Jul-09 HCC 4.8 Addl Jun-09 Jaiprakash Associates 4.9 Addl Total 89.4 Total 160.6 Source: Bloomberg data
Debt financing is in place The total investments in infrastructure during the current plan (11th plan) are pegged at Rs20.5 trillion and that in the 12th plan at ~Rs41 trillion. Assuming that ~60% of this combined outlay would be financed via non-debt sources (45% by budgetary support and 15% by FDI+ equity) – as has been the case in the first three years of the 11th plan, we estimate incremental bank credit to infrastructure at Rs13.1 trillion over FY11-17. This, along with our estimate of ~20% CAGR for bank credit to non-infrastructure sectors, translates into a ~20% CAGR in gross bank credit over FY11-17. This growth momentum, we believe, appears reasonable and achievable in the light of the current savings rate in the economy. In our computations, we assume that NBFCs would contribute ~25%, insurance companies ~5% and ECBs ~5% of the total debt requirement for infrastructure investments over FY11-17.
Exhibit 20: Funding required for infrastructure investments
Rsbn FY11 to FY17 % of total Total infrastructure investments 50,723 Non-debt (BS+FDI+Equity) participation (assumed) 30,434 60% Debt participation (assumed) 20,289 40% Source: Planning commission data, IDFC-Securities BS – Budgetary support
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Exhibit 21:Debt funding plan for infrastructure investments
Source of debt funding Credit o/s Credit Incremental credit % of total CAGR (%) FY10 o/s FY17 (FY11 to FY17) (FY10-FY17) Bank credit to infrastructure (balancing) 4,100 17,166 13,066 64 23 Bank credit ex-infrastructure 26,910 95,621 68,711 20 Implied gross Bank Credit 31,010 112,787 81,777 20 Lending by NBFCs to infrastructure sector 2,073 7,145 5,072 25 19 Insurance lending to infrastructure sector 892 2,027 1,135 6 12 ECBs 1016 5 NA Total incremental lending to infrastructure sector 20,289 100 Source: IDFC-Securities
Fund raise in holding companies to restrict dilution at parent level Infra developers have been increasingly re-organizing their business units with a view to increase management focus and accountability towards each unit as well as financial flexibility. For instance, IVRCL recently hived off its infrastructure assets into a subsidiary – IVRCL Asset & Holdings – so that IVRCL would henceforth be free to focus only on its core EPC business and IVR Asset & Holdings would be the principal developer entity lending its project management expertise to the SPVs for a fee. While giving infra developers increased financial flexibility to raise resources for each asset class, such reorganization also improves visibility and comfort on end use of such funds raised. This gives increased flexibility to investors to invest based on their focus areas and risk appetite. Further, it also obviates the need for frequent equity dilution at the parent level.
Visible Pick-up in Ordering Activity
After a prolonged period of lull, led by a restrictive policy environment, an unprecedented liquidity squeeze and finally by the Lok Sabha Elections, ordering activity has visibly improved in the last few quarters. Activity levels at NHAI at each stage, from undertaking feasibility studies to actual awarding of projects, have risen sharply – lending strong credence to expectations of continued order flows going forward.
Exhibit 22: Pick-up in activity levels at all levels, especially in the roads sector
Source: NHAI data, IDFC Securities Research; *-Till date
Announced orders by ordering agency
-
200
400
600
800
Q1CY09 Q2CY09 Q3CY09 Q4CY09 Q1CY10 Q2CY10*
Govt PSU Pvt(Rs bn)
Election Period
0
3,000
6,000
9,000
12,000
Award ofFeasibility Studies
/DPR
Completion ofFeasibility Studies /
DPR
PPPAC Approval Award of Work PhysicalCompletion
Average during last 3 years Last 9 Months (From June, 2009 onwards)(km)
JUNE 2010 15
IDFC Securities
Power sector leads order flows, roads picking up The power sector, led by a chronic demand-supply gap, accounted for ~49% of the cumulative order flow since January 2009. Orders flow in the roads sector, with streamlining of NHAI’s institutional and policy framework, has also picked up significantly over the last three quarters and account for ~8% of the total orders booked over this period. More importantly, there has also been a visible improvement in the share of orders from the private sector – indicating improved business confidence and access to funding. Led by increased orders for power sector projects, share of orders from the private sector has averaged at ~50% in the trailing four quarters as compared to 13% in Q1CY09.
Exhibit 23: Pick-up in order flows; power sector accounted for ~48% of total order flows
(%) 2009 2010 Sector for which order is given Q1 Q2 Q3 Q4 Q1 Q2 till date Total Power - Generation 24 18 33 53 29 43 33 Power - T&D 16 19 12 16 17 4 15 Total Power 40 36 45 69 47 47 48 Petrochem, Oil & Gas 16 14 20 1 14 13 14 Buildings 4 4 11 5 10 12 8 Roads 4 3 3 9 10 3 6 Metro 18 1 3 1 3 1 5 Water supply 0 16 2 6 5 6 5 Metals 0 16 0 2 1 1 2 Irrigation 8 2 2 1 0 0 2 Others 10 7 14 5 9 16 10 Total 100 100 100 100 100 100 100 Value of orders (Rs bn) 533 304 669 446 717 275 2945 Source: IDFC Securities Research
Exhibit 24: Orders from private sector have averaged ~40%in the trailing four quarters
Coverage universe bags 57% of total order flows Companies under our coverage including L&T, IVRCL, NCC and HCC in the construction space, and BHEL, KEC and Kalpataru in the power equipment segment have been major beneficiaries of the revival in orders. Overall, these companies have received 57% of the total orders since January 2009. Going forward, we expect the trend to sustain and thus find our coverage stocks well placed to benefit from pick-up in order awards in the remaining 11th plan period as well as the 12th plan period.
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IDFC Securities
Exhibit 25: L&T, IVRCL, HCC and NCC – key beneficiaries of surge in order flows
21%
17%
4%
3%
3%
3%
2%
1%
1%
1%
4%
57%Non-coverage companies
Total coverage
L&T
BHEL
IVRCL
Lanco Infratech
NCC
HCC
KEC
Kalpataru Power
Thermax
Gammon India
Other coverage companies
Source: Company data, IDFC Securities Research
Strong order backlog position; execution to follow Based on the orders announced by these companies during FY10, the order backlogs increased 14%-47% during the year, translating into 2.6x-4.6x order book/ FY10 revenue multiple. There has also been a gradual reduction in outstanding receivables of contractors from the AP government as well as pick-up in execution of projects in the state. Thus, with most of the execution related challenges behind, we expect the strong order book position to translate into elevated revenue growth for these companies. For our construction universe, we expect 19%-26% CAGR in revenues over FY10-12.
Exhibit 26: Construction companies sitting up strong order book positions
Source: Company data, IDFC Securities Research
Exhibit 27: Gradual improvement in execution in AP projects
Company Status on AP projects IVRCL Reduction in receivables from Rs3.5bn in Dec-09 to 1.5bn currently Madhucon Reduction in receivables from Rs600m in Dec-09 to Rs300m currently HCC All bills raised till January 2009 cleared NCC Receivables have come down from peak levels Source: IDFC Securities Research
Mar-10 order book
1,002
214154 169
145 11536
0
300
600
900
1,200
(Rs bn)
L&T IVRCL NCC HCC Gammon Simplex Madhucon
Order book/revenue - Mar10
2.7
3.9
3.2
4.6
3.3
2.6 2.7
0.0
1.0
2.0
3.0
4.0
5.0
(x)
L&T IVRCL NCC HCC Gammon Simplex Madhucon
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IDFC Securities
Valuations and Recommendation
Strong outlook for the sector While concerns persist on the execution outlook for AP irrigation projects at large, there has been a gradual improvement in recovery of dues from the government as well as in execution of projects by contractors. Further, momentum has clearly picked up in the award of new projects in sectors such as roads, power, buildings & housing, and urban infrastructure. As a result, current unadjusted OB/ FY10 revenue ratio stands at a comfortable 2.6x-4.6x – leading to improved revenue and earnings outlook. For our coverage universe, we expect 19%-26% earnings CAGR led by 15%-25% revenue CAGR over FY10-12. Our estimates assume a marginal improvement, if any, in EBIDTA margins from current levels.
IVRCL, NCC and HCC are our top picks in the sector The already strong order backlogs could rise to even higher levels due to orders from industrial capex due to overall improvement of economic environment. Therefore we continue to remain overweight on the sector. Construction stocks in our universe (except for L&T and Simplex) trade at 2.3x-11.8x FY11E earnings, adjusted for the value of their BOT and real estate businesses. We have a Neutral rating on Simplex Infrastructure and L&T as we believe valuations of 14.8x and 21xFY11E earnings respectively factor in the underlying earnings potential. IVRCL, NCC and HCC, at adjusted valuations of 8.7x, 11.8x and 4.9x FY11E earnings, appears attractive – especially considering the potential 25%, 19%, and 26% CAGR in earnings respectively over FY10-12E. IVRCL, NCC and HCC are our top picks in the sector and we have an Outperformer rating with a 12-month price target of Rs225, Rs224 and Rs148 on the stocks respectively.
Exhibit 28: Comparative valuations – IVRCL, NCC and HCC are our top pick in the sector
Commodity prices on an uptrend – a margin headwind For the past few quarters, construction companies have benefited from lower commodity prices – which supported margins despite sluggish execution. However, a steady rise in commodity prices since then, especially those of steel (long products up ~30%yoy), bitumen (up ~15%yoy) and other key raw materials pose a threat to construction margins. As a result, despite expectations of a rapid pick-up in execution, any significant margin expansion is ruled out. This is particularly true in case of companies that have a larger share of orders from own BOT projects (which are typically fixed price contracts). Firm commodity prices also lead to increased working capital requirement and higher interest costs.
Interest rates likely to harden The RBI has recently increased the CRR by 25bp to 6% as well as the repo and reverse repo rates by 25bp each to 5.25% and 3.75% respectively. Domestic borrowing rates appear to have bottomed out and are likely to inch up going forward. While liquidity situation remains benign, we do not rule out a marginal rise in borrowing cost for developers and contractors going forward, leading to adverse impact on profitability.
Larsen & Toubro’s (L&T) strong order inflow of Rs696bn in FY10 alleviates concerns on sustainability of order book growth besides lending strong visibility on near-term growth potential. Continued policy focus on infrastructure development, along with visible signs of recovery in industrial capex, would drive order inflow in FY11 and FY12. L&T, with its foray into equipment manufacturing (Rs125bn worth orders at hand) and tie-ups with global technology leaders in the nuclear power generation space, is well placed to capitalize on the lucrative growth opportunities in these sectors. While we expect L&T’s order backlog position of Rs1,002bn to drive 18% earnings CAGR over FY10-12E, current valuations of 21.0x FY11E earnings limit upside potential in the stock. Maintain Neutral with a 12-month price target of Rs1,760 per share.
Order booking momentum appears sustainable: L&T reported impressive growth in order booking in FY10 to Rs696bn (up 34%yoy) led by the strong economic recovery seen in H2FY10. Current order backlog of Rs1002bn (2.7x FY10 revenues) is diversified across Infrastructure, Power and Process segments, with a balanced mix of public and private sector orders. Going forward, we expect L&T to be a key beneficiary of government’s continued focus on infrastructure and the expected recovery in industrial capex with 25%yoy growth in order booking in FY11.
L&T well-placed to benefit from long-term opportunities…: With its foray into equipment manufacturing, L&T appears to be well-placed to capitalize on strong growth opportunities in the domestic power sector. L&T has already bagged equipment orders worth Rs125bn and is placed favorably to win more orders in NTPC’s bulk ordering tenders. Further, L&T also targets to capture ~80% of opportunities arising from the proposed surge in investments in the nuclear power generation space and has already collaborated with various global technology leaders for the same.
…but valuations factor in potential earnings growth: We expect L&T’s strong order book to drive a revenue CAGR of 20% over FY10-12. We expect margins to remain stable over this period and an 18% CAGR in consolidated earnings. However, current valuations of 21.0x FY11E and 17.0x FY12E earnings factor in the company’s strong earnings growth potential. As a result, we see limited upside potential from current levels and maintain Neutral on the stock with a price target of Rs1,760.
INVESTMENT ARGUMENT A robust order book of Rs1trn with order inflows of Rs696bn in FY10 impart
high growth visibility; L&T favorably placed in NTPC’s bulk tendering process
Hydrocarbon and Process segment orders gaining momentum; expect an uptick in fertilizer and building project orders in an improving economic environment
L&T well-placed to benefit from long-term growth opportunities in power sector through foray into equipment manufacturing; Rs125bn of orders in hand
Looking to ride on the proposed surge in investments in the nuclear power generation space through tie-ups with global technology leaders
Despite 18% earnings CAGR over FY10-12E, valuations of 21.0x FY11E and 17.0x FY12E limit upside potential; maintain Neutral with fair value of Rs1,760/share
Surge in order inflows in H2FY10 leads to a strong order book In FY10, L&T achieved a very strong growth in order booking to Rs696bn (up 34%yoy) led by a 52%yoy growth in order booking in H2FY10. As a result, the order book stands at Rs1,002bn (2.7x FY10 revenues), which we expect will drive revenue growth of 18.6% in FY11. These orders, received across sectors such as power, infrastructure, process and hydrocarbons, present a healthy mix of private and public sector orders (~50:50 now compared to 40:60 in FY09).
Exhibit 1: Strong order inflow across sectors with balanced mix of orders
Source: Company data
Leveraging capabilities across sectors to win large projects L&T continued to leverage its capabilities to win large orders across sectors, including fertiliser and building construction, which have witnessed a revival over the past one year. While infrastructure orders continue to form bulk (33%) of the order book, power sector orders have increased their share to 30% from 19% over the past two years, due to large BTG orders received from both public sector and private gencos. L&T appears favourably placed to continue to benefit from continued policy focus on infrastructure development as also improved outlook for industrial capex.
Share of power sector orders have increased to 30% from
19% over the past two years, due to large BTG orders
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IDFC Securities
Exhibit 2: Share of power sector orders in order book steadily increasing; more power orders in FY10 than infrastructure orders
Source: Company data
Power sector business to increase contribution to performance L&T, through its JVs with Mitsubishi Heavy Industries (MHI), is setting up manufacturing facilities for boilers and turbine generators using supercritical technology, at a total investment of ~Rs17bn. The facility for boilers is nearing completion and will start operations by June-10 end, while that for turbine generators is likely to be completed by September 2010.
L&T has so far received orders for 3,300MW for BTG and 1,600MW for TGs totaling to Rs125bn. These orders have been placed by both public sector and private power developers, reflecting L&T-MHI’s competitive ability against established domestic and imported equipment manufacturers. In the near term, BTG orders for 1,320MW Rajpura Thermal Power Plant and the 1,600MW thermal power plant for Karnataka Power Corporation being developed by L&T in Chhattisgarh are also likely to be awarded to the L&T-MHI JV. Apart from orders for generation equipment, L&T has seen significant order flows in the power transmission segment, both from domestic and overseas utilities, especially from the Middle-East region.
Exhibit 3: Key power sector orders announced by L&T in FY10
Type Location Order from Value (Rs m) Type Power-Gen Domestic Mahagenco 68,970 3*660MW Koradi plant using supercritical technology Power-Gen Domestic Jaiprakash power ventures Ltd 40,000 BTG package for 2*660 MW JP Nigree Coal based power plant Power-Gen Domestic MP Power Generation Co. Ltd 16,350 Balance of Plant Package (BoP) for 1,200MW Malwa PP Power-Gen Domestic NPCIL 8,440 Civil Construction works for Kakrapar Atomic power plant in
Gujarat Power-Gen Domestic NPCIL 4,050 Steam generators for 700MWe nuclear plant at Kakrapara Power-T&D Export Qatar Petroleum 7,370 4 substations and Cabling Power-T&D Domestic Mahatransco 4,960 130km 220kV transmission line turnkey project for Mumbai
region Power-T&D Export Oman Elec. Trans.Company 3,760 200km transmission lines and associated substations Power-T&D Export UAE Elec. & Water Authority 2,670 Two 132/33/11kV Gas insulated substations Power-T&D Export Dubai Elec. & Water Authority 2,650 240km of 132kV extra high voltage cabling work Power-T&D Domestic PGCIL 2,460 159km of 800kV transmission lines between North and NE
region Power-T&D Domestic Chattisgarh SEB 2,460 224km 400kV transmission line from Korba West to Bhilai Power-T&D Export Oman Elec. Trans.Company 2,074 Substation and distribution network Power-T&D Export Oman Elec. Trans.Company 2,061 Grid station and transmission lines in Oman Source: Company data
…has seen significant order flows especially from the
Middle-East region
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IDFC Securities
Exhibit 4: BTG manufacturing orders with L&T-MHI JV
Developer BTG Value Only TG Value (MW) (Rsbn) (MW) (Rsbn) JPVL (Jaypee Group) 1,320 40.0 AP Power Development Corp 1,600 15.6 MAHAGENCO 1,980 69.0 Total of the above 3,300 109.0 1,600 15.6 Potential order flow from own development projects Rajpura Thermal Power Project 1,320 Power project for Karnataka Government 1,600 Total 6,220 1,600 Source: Company data
L&T favorably placed to receive orders from NTPC’s bulk tender of ~Rs218bn L&T-MHI is one of the only two firms (the other being BHEL-Alstom JV) that have submitted bids for supplying supercritical boilers for 11 units of NTPC/DVC (total 7,260MW), for the first set of equipment to be awarded by a bulk tendering process. We expect L&T to benefit from this virtual absence of competition in the boiler tendering process (six units for L1, and remaining five for L2 bidder). L&T has also submitted bids for supplying turbine generators for the same units, where it is one of the five participants in the bidding process. Further, NTPC also plans to invite bids for bulk tendering process for the next set of nine units of 800MW each (Rs168bn).
Rapid indigenization key to profitability in BTG manufacturing Power equipment manufacturing involves a high proportion of imported components, and we expect the profitability of L&T’s power business to remain subdued till a higher level of indigenization is achieved – which L&T looks to do over the next three years.
Hydrocarbon and Process segment orders gaining momentum With the availability of gas from KG basin, fertilizer companies are likely to expedite the conversion of their plants to use gas as feedstock instead of fuel oil/ naphtha, which will help them avoid the volatility in prices of these fuels. L&T, with proven capability in this field, would be a major beneficiary in this segment, and has already received two such orders worth Rs21.6bn. Over the last two quarters, there has also been a pick up in order flows from the hydrocarbon and metals segment. We expect L&T, with its strong and established capabilities in the process segment, to benefit from the expected recovery in industrial capex.
L&T will benefit from the virtual absence of
competition in the boiler tendering process
Order flows from the hydrocarbon and metals segment have picked up
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IDFC Securities
Exhibit 5: Major Fertiliser and Petrochemical sector orders received by L&T in FY10
Sector Date Order from Type Value (Rs m) Completion time Fertiliser 1-Feb-10 National Conversion of feedstock from fuel oil to natural Fertiliser Ltd gas for Panipat (Haryana) and Bhatinda (Punjab) plants 21,550 36 months Fertiliser 4-Jan-10 Gujarat Narmada 1120 MTPD Fertiliser plant at Bharuch, Gujarat 9,870 30 months Fertiliser Company Petrochem 5-Apr-10 Gujarat State Offshore platform contracts at KG Basin 10,600 2012 Petroleum Corp Petrochem 29-Mar-10 IOCL 4.17MMTPC Fluidized Catalytic Cracker 14,000 Jul - 2012 Petrochem 17-Mar-10 ONGC 4 offshore well platforms in Mumbai North 10,130 NA Offshore fields Petrochem 15-Mar-10 ONGC Mangalore EPC of Aromatics complex 20,350 Dec-12 Petrochemicals Ltd Petrochem 15-Sep-09 ONGC 60m high jacket structure for ONGC's Mumbai North Offshore fields to be constructed by L&T's Oman sub - L&T Modular 44,000 NA Petrochem 3-Aug-09 ONGC Offshore platform at Mumbai High North 53,000 33 months Petrochem 1-Jul-09 HPCL - Mittal Energy Greenfield refinery 4,400 17 months (Bhatinda Refinery) Source: Company data
Well-positioned to benefit from nuclear power opportunity L&T has received ~Rs16bn worth of orders from Nuclear Power Corporation of India (NPCIL) in the past nine months for civil construction and steam generators for nuclear power plants. L&T has also signed MoUs with most of the leading international companies in the nuclear power space. With these MoUs, L&T expects to cater to ~80% of the nuclear power generation value chain by becoming qualified to supply equipment for nuclear plants in India to be built using technologies from these companies. L&T is also currently the only Indian manufacturer authorized by American Society of Mechanical Engineers (ASME) to design and manufacture equipment of nuclear island as per international standards. This, opens up export opportunities for L&T in this space.
Exhibit 6: Co-operation agreements/ MoUs in the Nuclear Power Generation space
Partner Area of co-operation NPCIL Special Steels and Ultra Heavy Forgings units at
Hazira with dedicated steel producing ingots weighing up to 600MT and a heavy forge shop
GE Hitachi Nuclear Energy (GEH) MoU for manufacture and construction of Advanced Boiling Water Reactor (ABWR) components and systems
Atomstroy export (Russia) MoU for manufacture of equipment and provision services related to Russian design reactors VVER 1000
Atomic Energy of Canada EPC of Advanced CANDU Reactor ACR 1000 (based on pressurized heavy water technology)
Westinghouse Electric Company (WEC) Co-operation in setting up Pressurized Water Nuclear Reactors with modular construction technology in India
Source: Company reports
…L&T expects to cater to ~80% of the nuclear power
generation value chain
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Expect 25% growth in order inflow in FY11 L&T’s skill sets and qualifications give it ability to leverage order flow potential from investments across Infrastructure and Industrial segments. Led by continued pace of investments in key infrastructure segments – power (both generation and transmission), roads, ports, urban infrastructure, etc as well as a likely recovery in the industrial capex cycle, we expect L&T’s order inflow to grow by 25% in FY11 to ~Rs870bn from Rs696bn in FY10.
Electricals and MIP businesses show improvement in H2FY10 An overall uptick in the economic environment has led to an improved outlook for industrial capex. Already, demand for mining and construction equipment is increasing, which has led to revival in performance of L&T’s Electricals and Machinery & Industrial Parts business to levels seen prior to the economic slowdown. Going forward, with visible signs of recovery in industrial capex, we expect improved performance for L&T’s Electricals and MIP division.
L&T Finance and L&T Infra Finance listing planned in near term L&T has so far invested ~Rs15bn in its lending businesses – L&T Finance and L&T Infra Finance. L&T Finance recently acquired DBS Cholamandalam for Rs450m and going forward, it also plans to foray into the insurance business with proposed investment of Rs5bn for the same. The company is actively looking at value unlocking opportunities in L&T Finance and possibly also in L&T Infra Finance by the end of CY10.
Consolidated earnings CAGR at 18% over FY10-12 Led by a robust order backlog of Rs1,002bn (2.7x FY10 revenues) and our estimate of ~25% growth in order inflows, we expect 20% CAGR in L&T’s standalone revenues over FY10-12. Over this period, we expect margins to remain largely stable (with a negative bias) with operating leverage compensating for likely increases in raw material costs. Resultant, we expect an 18% CAGR in consolidated earnings over FY10-12 with an EPS of Rs80 in FY11 and Rs98.8 in FY12.
Valuations imply limited upside potential; maintain Neutral At 18% earnings CAGR over FY10-12, we believe valuations at 21.1x FY11E and 17.0x FY12E consolidated earnings already factor in the strong earnings growth and the stock offers limited upside from current levels. As a result, we maintain Neutral on the stock with a price target of Rs1,760 per share.
…L&T proposes to invest Rs5bn in the insurance and
mutual fund businesses
…expect an 18% CAGR in consolidated earnings over
FY10-12
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Income statement
Year to 31 Mar (Rs m) FY08 FY09 FY10 FY11E FY12E Net sales 248,779 339,264 366,752 435,147 530,902 % growth 41.2 36.4 8.1 18.6 22.0 Operating expenses 220,157 300,614 322,193 383,998 468,133 EBITDA 28,622 38,650 44,558 51,149 62,769 % change 58.9 35.0 15.3 14.8 22.7 Other income 5,403 7,317 15,061 16,250 18,342 Net interest (1,227) (3,502) (5,053) (4,833) (4,678) Depreciation 2,136 3,073 4,146 5,317 6,499 Pre-tax profit 30,662 39,391 50,421 57,250 69,934 Deferred tax 200 104 (34) - - Current tax 9,621 12,208 16,443 18,893 23,078 Profit after tax 20,841 27,079 34,012 38,358 46,856 Profit from sub/assoc (net) 2,035 2,151 7,684 9,244 11,957 Non-recurring items 893 7,738 12,845 - - Net profit after non-recurring items (cons) 23,769 36,968 54,541 47,602 58,813 % change 25.9 55.5 47.5 (12.7) 23.6
Balance sheet (standalone)
Year to 31 Mar (Rs m) FY08 FY09 FY10 FY11E FY12E Paid-up capital 585 1,171 1,194 1,194 1,194 Reserves & surplus 93,822 121,069 178,321 208,200 246,578 Total shareholders' equity 94,407 122,240 179,515 209,394 247,772 Total current liabilities 136,838 178,424 196,461 232,816 282,499 Total debt 35,840 65,560 68,010 66,010 64,010 Deferred tax liabilities 614 485 770 770 770 Other non-current liabilities 1,144 2,357 2,004 2,004 2,004 Total liabilities 174,436 246,826 267,244 301,599 349,283 Total equity & liabilities 268,843 369,066 446,760 510,994 597,054 Net fixed assets 35,534 50,537 63,661 83,344 94,845 Investments 28,716 49,951 59,186 84,186 89,186 Total current assets 203,642 267,166 322,501 342,051 411,610 Other non-current assets 951 1,411 1,411 1,412 1,413 Working capital 66,803 88,742 126,040 109,235 129,111 Total assets 268,842 369,066 446,759 510,994 597,054
Cash flow statement (standalone)
Year to 31 Mar (Rs m) FY08 FY09 FY10 FY11E FY12E Pre-tax profit 30,662 39,391 50,421 57,250 69,934 Depreciation 2,136 3,073 4,146 5,317 6,499 Chg in working capital (5,358) (32,663) (9,115) 12,806 1,108 Total tax paid (9,621) (12,208) (16,443) (18,893) (23,078) Ext ord. items 893 7,738 12,845 - - Operating cash inflow 18,712 5,331 41,854 56,480 54,463 Capital expenditure (16,230) (18,077) (17,270) (25,000) (18,000) Free cash flow (a+b) 2,483 (12,745) 24,584 31,480 36,463 Chg in investments (38,178) (13,415) (44,235) (15,000) (10,000) Debt raised/ (repaid) 15,062 29,720 2,450 (2,000) (2,000) Capital raised/ (repaid) 21,247 707 18,728 - - Dividend (incl. tax) (4,741) (5,149) (6,150) (8,310) (8,479) Misc 2,827 (1,011) 319 0 - Net chg in cash (1,300) (1,892) (4,303) 6,171 15,984
IVRCL Infrastructure & Projects (IVRCL) order book has grown rapidly to ~Rs214bn and, at 3.9x FY10 revenues, it provides high growth visibility in the medium term. While concerns persist on execution of AP irrigation projects, IVRCL’s dependence on these projects has declined sharply (to ~18% of order book) with increased order flows from other states in the roads sector. Further, transfer of IVRCL’s BOT assets to IVR Assets & Holdings (IVRAH) would not only allow IVRCL to leverage on IVRAH’s net worth of ~Rs23bn while bidding for new projects, but also impart flexibility to raise capital in IVRAH for funding investments in BOT assets. In view of the 25% earnings CAGR estimated for IVRCL over FY10-12, adjusted valuations of 8.7x FY11E earnings remain attractive. Maintain Outperformer on the stock with a price target of Rs225/share.
Strong order booking in FY10; robust order backlog: IVRCL’s order booking in FY10 has grown 1.8x yoy to Rs112bn resulting in a well diversified and robust order backlog of ~Rs214bn (3.9x FY10 revenues) – excluding L1 orders of Rs20bn. The share of AP irrigation orders in the total order backlog has declined sharply to ~18% at present from ~25% in December 2009 and is likely to decline further due to fresh orders from roads and other segments from other states.
Transfer of BOT assets to holding company enhances financial flexibility: IVRCL has transferred four road projects and a desalination project to IVR Assets & Holdings (IVRAH). The move would allow IVRCL to capitalize on IVRAH’s net worth of ~Rs23bn while bidding for new projects. Given the visibility it provides on end use of funds, IVRCL can now raise funds for investment in BOT projects directly in IVRAH and thus obviate the need for frequent equity dilution at the parent level.
Client concentration risk mitigating; maintain Outperformer: While uncertainty persists as regards to timely execution of AP irrigation projects, we expect a marked improvement in execution for IVRCL led by fresh orders from other states. Resultant, we expect 20% revenue CAGR and 25% earnings CAGR for IVRCL over FY10-12, with margins remaining stable over this period. At attractive valuations of 8.7x FY11E earnings (adjusted for Rs88 per share of value from IVRAH & HDOL), we maintain Outperformer with a price target of Rs225/share. Top sector pick.
Key valuation metrics Year to 31 Mar FY08 FY09 FY10 FY11E FY12ENet sales (Rs m) 36,981 49,831 54,771 66,777 78,770Adj. net profit (Rs m) 2,187 2,279 2,111 2,826 3,310Shares in issue (m) 130 134 267 267 267Adj. EPS (Rs) 16.9 16.9 7.9 10.6 12.4 % change 35.0 0.3 (6.6) 33.9 17.1 PE (x)* 5.4 5.4 11.6 8.7 7.4 Price/ Book (x)* 0.7 0.7 1.2 1.1 1.0 EV/ EBITDA (x)* 4.8 5.1 5.6 4.7 5.6 RoE (%) 14.9 13.3 11.1 13.5 14.0 RoCE (%) 14.4 12.7 13.5 15.1 16.0* adjusted for value of IVRAH and HDOL
INVESTMENT ARGUMENT Order inflow of Rs122bn in FY10 across sectors and geographies lead to a
robust order backlog of ~Rs214bn (excluding L1 orders of ~Rs20bn)
Receivables from AP government, currently at Rs2.3bn, are on the decline; surge in orders from non-AP states lowers dependence on AP projects
Renewed focus on road projects leading to a strong BOT portfolio of Rs127bn in size; outlook remains positive led by strong pipeline of NHAI projects
Transfer of BOT assets to holding company, IVR Assets & Holdings (IVRAH), to help leverage IVRAH’s net worth and increase flexibility to raise capital
Expect strong 20% revenue and 25% earnings CAGR over FY10-12; At 8.7x FY11E earnings (adjusted for Rs88/share of value in IVRAH and HDOL), the stock remains our top pick in the construction space
Order accretion of Rs122bn the highest amongst peers in FY10 IVRCL has received strong order inflows of Rs122bn (up 83% yoy) in FY10, leading to a 47.4%yoy jump in order backlog to ~Rs214bn (excluding L1 orders of ~Rs20bn). The large order book, at 3.9xFY10 revenues, lends high visibility on IVRCL’s near-term growth. IVRCL’s order book is well diversified, with sectors other than water forming ~50% of the orders at present, compared to ~30% at end of FY09. Also, with more orders from states like Maharashtra, Madhya Pradesh (MP) and Bihar, the proportion of orders from Andhra Pradesh (AP) in the order book has reduced to ~18% (Rs39bn worth of orders) compared to ~25% (Rs45bn) in December 2009.
Exhibit 1: Strong order inflow traction; increasing share of orders from non-water segments
Source: Company data
Dependence on AP projects on the decline At 10% yoy in FY10, IVRCL’s revenue growth remained rather sluggish mainly due to slower execution of AP irrigation projects (with the company’s estimate of an opportunity lost of ~Rs6bn in revenues during the year). While there has been a reduction in outstanding receivables related to AP projects (total of Rs2.3bn now vs Rs3.5bn in Q3FY10), uncertainties persist as regards to improvement in execution of projects in hand. Notably, the share of outstanding orders from AP, at ~Rs39bn, is on the decline (~18% currently against ~25% in December 2009) due to a surge in order inflows from other states, which augurs well for the company’s execution outlook.
0
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30,000
45,000
60,000
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163
250IVRCL Order booking (Rs m - LHS) yoy growth (% - RHS) IVRCL Order backlog breakup
0
25
50
75
100(%)
FY09 1Q10 2Q10 3Q10 FY10
Water Buildings Power Transport
Revenue growth remained sluggish in FY10 due to slower execution of AP
irrigation projects
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Further, a reduction in working capital due to recovery of receivables would also lead to lower interest outgo.
Re-focus on road BOT projects strengthens asset portfolio After a gap of more than three years, IVRCL has renewed its interest in road BOT projects. It has recently won four road projects worth Rs61bn and is L1 in one more project (Sion-Panvel) worth Rs18.4bn. Of these projects, only the Maharashtra-Goa border to Panaji-Goa-Karnataka border project, which was won in June 2010, is awaiting financial closure. Thus, IVRCL is favorably placed in bidding for new projects in the context of NHAI’s new norms that require bidders to have a maximum of three projects pending for financial closure. Although these projects will be developed by the respective SPVs, IVRCL will handle the construction work, thereby further augmenting its order book.
Exhibit 2: Recently won road BOT projects by IVRCL
Recently won projects Length (km) TPC (Rsbn) Grant (Rsbn) Financial closure Gearing Phaltan-Baramati 77 3,820 1,220 Achieved 2.7 Chengapalli-Walayar 42 11,250 - Achieved 1.6 Indore-Gujarat 155 15,237 - Achieved 3.0 Mah-Goa border to Goa-Karnataka border 122 31,000 6,647 Pending NA Total 396 61,307 Source: Company data
BOT assets transferred to IVR Assets &Holdings Post IVRCL’s recent business restructuring, all its BOT assets are grouped under IVR Assets & Holdings (IVRAH) – earlier IVR Prime Urban Developers. IVRAH will also act as holding company for IVRCL’s future asset portfolio with IVRCL focusing only on the construction business. IVRAH has an attractive mix of operational, under-implementation as well as under-development assets in the roads, water and storage segments totaling to ~Rs127bn. IVRCL will continue to benefit from construction orders for the projects developed by IVRAH.
Leverage on IVRAH’s networth to bid for BOT projects with improved financial flexibility
IVRAH, post transfer of IVRCL’s BOT asset portfolio, has a net worth of ~Rs23bn as compared to IVRCL’s current net worth of Rs18.8bn. IVRCL can thus leverage on IVRAH’s net worth while bidding for new projects. Further, IVRAH owns ~3,300 acres of land across five states (AP, Karnataka, Maharashtra, Uttar Pradesh and Tamil Nadu), which can be monetized to fund equity requirements in the newly-won projects. For example, the company recently sold two land parcels in Maharashtra and Tamil Nadu, aggregating ~116 acres, for Rs630m and looks to raise Rs750m through land monetization in FY11. The Board of IVRAH has also approved raising funds up to Rs10bn via the QIP route, with funds likely to be raised in H2FY11. Such a fund raise in the asset holding company obviates the need for frequent equity dilution at the parent company (IVRCL) Level. We estimate equity requirement of ~Rs15bn for its BOT assets over the next three years.
It recently won four road projects worth Rs61bn and is L1 in one more project (Sion-
Panvel) worth Rs15bn.
IVRAH owns ~3,300 acres of land across five states which
can be monetized to fund equity requirements
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Exhibit 3: IVR Assets & Holdings –Asset portfolio Sector Project Status % stake TPC Equity Debt Grant Value Value to IVRCL’s (Rs m) (Rs m) (Rs m) (Rs m) (Rs m) IVRAH (Rs m) value (Rs/share) Road Salem-Kumarpalayam Operational 100 5,500 1,280 2,930 1,290 955 955 3 Road Kumarpalayam Tollway CoD-Jun 10 100 4,400 835 3,390 175 2,223 2,223 7 Road Jalandhar-Amritsar Operational 100 4,020 1,266 2,360 395 2,026 2,026 6 Road Sion-Panvel L1 51 18,400 4,350 10,150 3,900 617 315 1 Road Phaltan-Baramati FC achieved 75 3,820 700 1,900 1,220 311 234 1 Road Chengapalli-Walayar FC pending 100 11,250 4,250 7,000 - 1,140 1,140 3 Road Indore-Gujarat FC achieved 100 15,237 3,809 11,428 - 660 660 2 Road Mah-Goa to Goa-KN border 100 31,000 6,088 18,265 6,647 1,094 1,094 3 Urban Infra Chennai desalination CoD-Jun 10 75 5,710 1,760 3,950 - 2,059 1,544 5 Oil & Gas Oil Tankages FC achieved 38 27,449 2,167 25,282 - 351 132 0 Real estate Land of 3,300 acres 13,200 13,200 40 Grand total 126,786 26,505 86,654 13,627 24,638 23,524 71 Source: Company data, IDFC Securities Research
HDOL to benefit in new segments from DavyMarkham acquisition IVRCL’s 55% owned subsidiary, HDOL, acquired a 100% stake in DavyMarkham, a UK-based heavy engineering company, for a total consideration of €9.5m. The acquisition of DavyMarkham, UK provides HDOL an entry into the heavy engineering space, as also strong design and manufacturing capabilities and an international reach. The acquisition also provides HDOL an opportunity to expand its product portfolio in India in its traditional segments as well as gain a foothold into newer segments, such as the nuclear sector. We believe the acquisition is positive for HDOL and, in turn, for IVRCL. HDOL recently secured an enabling provision to raise Rs2.25bn-Rs2.5bn, which is targeted to be completed by August 2010.
Expect IVRCL’s earnings to grow at CAGR of 25% over FY10-12E Even as concerns persist on execution of AP irrigation projects, we expect execution to pick up significantly going forward with the recent surge in orders from states other than AP. On the back of an order backlog of Rs214bn (3.9x FY10 revenues) and L1 orders of ~Rs20bn at present, we expect a 20% CAGR in revenues for IVRCL over FY10-12. We expect margins to remain largely stable, leading to a 25% CAGR in earnings over the period.
Valuations appear attractive, maintain Outperformer IVRCL’s valuations, at 8.7x FY11E earnings (adjusted for Rs88 per share of value from IVR Asset & Holdings and HDOL), appear attractive – especially considering our estimate of a 25% earnings CAGR over FY10-12. We like the company’s strategy of funding its BOT assets independently through IVRAH’s balance sheet going forward, thereby obviating the need for frequent equity dilutions at the parent level. The stock remains one of our top picks in the construction space with a price target of Rs225 per share.
Exhibit 4: IVRCL’s BOT assets and other investments valued at Rs88/share
IVRCL Fair Value Parameter Rs/share Core business PEx FY11E 138 Hindustan Dorr Oliver Market price 17 IVRAH Market price 71 Fair Value of IVRCL 225 Source: IDFC Securities Research
…execution of projects will pick up significantly with the
recent surge in orders from states other than AP
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Income statement (Standalone)
Year to 31 Mar (Rs m) FY08 FY09 FY10 FY11E FY12E Net sales 36,981 49,831 54,771 66,777 78,770 % growth 57.6 34.7 9.9 21.9 18.0 Operating expenses 33,367 45,613 49,610 60,369 71,257 EBITDA 3,614 4,218 5,161 6,408 7,513 % change 57.0 16.7 22.3 24.2 17.2 Other income 45 299 307 375 403 Net interest (478) (1,306) (1,637) (1,943) (2,291) Depreciation 328 473 543 606 666 Pre-tax profit 2,853 2,738 3,288 4,234 4,959 Deferred tax 51 14 7 42 50 Current tax 615 444 1,170 1,366 1,599 Profit after tax 2,187 2,279 2,111 2,826 3,310 Non-recurring items (82) (19) - - - Net profit after non-recurring items 2,105 2,260 2,111 2,826 3,310 % change 48.8 7.4 (6.6) 33.9 17.1
Balance sheet
Year to 31 Mar (Rs m) FY08 FY09 FY10 FY11E FY12E Paid-up capital 271 267 267 267 267 Reserves & surplus 15,789 17,839 19,520 21,916 24,797 Total shareholders' equity 16,060 18,106 19,787 22,183 25,064 Total current liabilities 9,132 15,226 21,497 23,075 27,170 Total debt 10,678 13,980 16,080 18,580 19,580 Deferred tax liabilities 103 117 125 167 217 Total liabilities 19,913 29,324 37,702 41,823 46,967 Total equity & liabilities 35,973 47,430 57,489 64,006 72,031 Net fixed assets 3,733 5,402 5,849 6,157 6,406 Investments 3,409 3,892 10,242 12,242 15,742 Total current assets 28,831 38,135 41,398 45,607 49,882 Working capital 19,699 22,909 19,901 22,531 22,712 Total assets 35,973 47,430 57,489 64,006 72,031
Cash flow statement
Year to 31 Mar (Rs m) FY08 FY09 FY10 FY11E FY12E Pre-tax profit 2,853 2,738 3,288 4,234 4,959 Depreciation 328 473 543 606 666 chg in Working capital (6,671) (3,973) 3,318 (3,405) 1,051 Total tax paid (615) (444) (1,170) (1,366) (1,599) Ext ord. Items & others (82) (19) - - - Operating cash inflow (4,187) (1,225) 5,979 69 5,076 Capital expenditure (1,626) (2,143) (989) (915) (915) Free cash flow (a+b) (5,813) (3,368) 4,990 (845) 4,162 Chg in investments (580) (483) (6,350) (2,000) (3,500) Debt raised/ (repaid) 5,126 3,302 2,100 2,500 1,000 Capital raised/ (repaid) 964 (24) - - - Dividend (incl. tax) (148) (215) (275) (430) (430) Misc (15) 25 0 0 - Net chg in cash (467) (763) 466 (775) 1,232
Year to 31 Mar FY08 FY09 FY10 FY11E FY12E Reported EPS (Rs) 16.2 16.8 7.9 10.6 12.4 Adj. EPS (Rs) 16.9 16.9 7.9 10.6 12.4 PE (x)* 5.4 5.4 11.6 8.7 7.4 Price/ Book (x)* 0.7 0.7 1.2 1.1 1.0 EV/ Net sales (x)* 0.5 0.4 0.5 0.5 0.5 EV/ EBITDA (x)* 4.8 5.1 5.6 4.7 5.6 EV/ CE (x)* 0.6 0.7 0.8 0.7 0.9 * - adjusted for value of IVRAH and HDOL
Strong order inflow traction
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250IVRCL Order booking (Rs m - LHS) yoy growth (% - RHS)
Source: Company data
Shareholding pattern
Promoters9.7%
Foreign58.0%
Non-promoter corporate holding10.1%
Institutions10.5%
Public & others11.7%
As of March 2010
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Hindustan Construction Company’s (HCC) order book grew 17% in FY10 to Rs169bn led by a recovery in order flows H2FY10 onwards. HCC remains a leading player in the hydro power segment with several major projects entailing robust margins. The recent acquisition of Karl Steiner AG adds expertise in construction of high-end buildings to HCC’s skill sets. HCC has attained a sizeable BOT portfolio and induction of a strategic partner in this business would enhance management focus and take funding pressure off HCC’s balance sheet. Phase 1 of Lavasa is fully funded and the proposed IPO over the next 12 months remains a key value unlocking trigger in the stock. We expect robust 26% earnings CAGR for HCC over FY10-12E. At attractive valuations of 4.9x FY11E earnings (adjusted for value of Rs93/share in BOT and real estate businesses), we maintain Outperformer with a 12-month price target of Rs148 per share.
Expect execution to improve going forward: With a strong recovery in order flow in H2FY10, HCC’s order book grew by 17%yoy to ~Rs169bn in FY10. As new orders have accrued from various states, it implies a decline in the share of orders from the AP government, which augurs well for execution going forward even as there has been a gradual improvement in recovery of receivables from the state. HCC’s acquisition of Karl Steiner AG adds to its skill sets in construction of high-end buildings – giving it a foothold in high-growth markets like India and the Middle-East.
BOT portfolio appears attractive with recent order wins: HCC’s recent wins of road BOT projects have inflated its asset portfolio size to ~Rs55bn, making it a sizeable player in the segment. The company’s strategy of aggregating BOT projects under a separate arm and the proposed induction of a strategic partner would enhance management focus on this business while taking pressure off HCC’s balance sheet to fund the equity commitments in these projects.
Attractive valuations; maintain Outperformer: We expect HCC’s strong order backlog and improved execution to drive 23% revenue CAGR and 26% earnings CAGR over FY10-12E. Current valuations of 4.9x FY11E earnings (adjusted for Rs93/share valuation of the BOT and the real estate businesses) appear very attractive. Value unlocking potential in Lavasa through a proposed IPO is a key medium-term trigger in the stock. Maintain Outperformer with a price target of Rs148. Top sector pick.
Key valuation metrics Year to 31 Mar FY08 FY09 FY10 FY11E FY12ENet sales (Rs m) 30,820 33,138 36,427 45,078 54,996Adj. net profit (Rs m) 724 760 941 1,301 1,484Shares in issue (m) 256 256 303 303 303Adj. EPS (Rs) 2.8 3.0 3.1 4.3 4.9 % change 17.4 4.9 4.7 38.3 14.1 PE (x) 7.4 7.0 6.7 4.9 4.3 Price/ Book (x) 0.5 0.5 0.4 0.4 0.4 EV/ EBITDA (x) 5.0 5.4 5.7 5.2 6.0 RoE (%) 7.6 7.6 7.3 8.0 8.6 RoCE (%) 9.8 9.9 8.7 9.6 10.5* adjusted for valuation of road and real estate business
INVESTMENT ARGUMENT Order inflow resumed in H2FY10 – 17% growth in order backlog to ~Rs169bn in
FY10 ; order book a good mix of hydropower, water supply and transportation projects; share of AP irrigation orders down to 22% from 34% in FY09
BOT projects under a separate arm impart financial flexibility to fund equity commitments; induction of strategic partner to enhance management focus
Acquisition of Karl Steiner AG provides HCC expertise in construction of high-end buildings and a foothold in this market in India and the Middle East
Lavasa Phase-1 is funded and scheduled for launch in Q3FY11; Sold 74% stake in 247 IT Park
BOT portfolio gaining scale and value unlocking potential from proposed IPO of Lavasa a key trigger in the stock. Reiterate Outperformer
Order backlog grows 17% to Rs169bn led by hydro power orders HCC’s orderbacklog grew 17%yoy in FY10 to Rs169bn (adjusted for an order worth Rs19.4bn for Sawalkot hydro power project, which is under litigation) with orders for Hydro Power, Water Solutions and Nuclear & special projects contributing 38%, 21% and 14% respectively of the order backlog. The total order inflow in FY10 declined by 40%yoy to Rs57.5bn due to sluggish economic activity in H1FY10 and a very high base of the previous year. HCC remains a strong player in the hydro power segment and bagged ~85% of total hydro power orders in FY10.
Exhibit 1:Order backlog grows 17% in FY10 led by orders from the hydro power segment
Source: Company data
Share of AP government projects shrinking; execution to improve At 10%, HCC’s revenue growth in FY10 remained muted due to sluggish execution in its AP based projects. However, the share of orders from the AP government has now declined to ~22% (Rs36.6bn) of the company’s adjusted order backlog from ~34% (Rs48.5bn) in FY09 due to fresh orders – mainly hydro power and transportation – from outside the state. Resultant, we expect concerns on HCC’s AP exposure to recede going forward and expect execution to improve. Notably, HCC has also received all outstanding dues from AP government for bills raised till January 2010 and has selectively restarted work on some stalled projects.
5.0Order book (Rs m - LHS) Book-to-bill ratio (x - RHS) Order book breakup
Hydel38%
Transport27%
Water supply & Irrigation
21%
Others14%
HCC’s revenue growth in FY10 was muted due to
sluggish execution of AP based projects
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Recent wins boost BOT portfolio size to ~Rs55bn HCC has recently won three road BOT projects – Behrampore-Farakka, Farakka-Raiganj, and Raiganj-Dalkhola projects, which are on a contiguous stretch of 256km on NH34 in West Bengal. The total project cost is Rs28.6bn which includes a grant of Rs10.3bn. HCC has already received sanctions for these projects and expects to achieve financial closure shortly, thus allowing the company to bid for new projects (NHAI’s new bidding criteria does not allow bidders to bid for new projects if they have three or more projects pending financial closure). HCC now has a portfolio of seven BOT road assets, with two operational and two under-construction projects besides three projects (in West Bengal) awaiting financial closure.
Exhibit 2: Recent wins have boosted HCC road portfolio size to ~Rs55bn
Project Status % stake TPC Equity Debt Grant Value Value to HCC value (Rsm) (Rsm) (Rsm) (Rsm) (Rsm) HCC (Rsm) (Rs/share) Nirmal BOT (Annuity) Operational 100 3,150 873 2,277 - 279 279 0.9 Dhule-Maharashtra MP Border FC Achieved 37 14,200 3,550 10,650 - 867 321 1.1 Badarpur-Faridabad Elevated Expressway CoD Jan' 11 100 5,720 1,720 4,000 - 1,915 1,915 6.3 Behrampur-Farakka FC Pending 100 11,690 2,034 5,498 4,158 491 491 1.6 Farakka-Raiganj FC Pending 100 13,780 2,598 7,024 4,158 15 15 0.0 Raiganj-Dalkhola FC Pending 100 6,840 1,302 3,520 2,018 21 21 0.1 Total 55,380 12,076 32,969 10,335 3,587 3,041 10.0 Source: Company data, IDFC Securities Research
Update on BOT projects Construction of Nirmal BOT has been completed and the project has earned
bonus for early completion. HCC will receive its annuity payment of Rs238m from NHAI along with early completion bonus of Rs133m.
Construction work for the Badarpur elevated expressway is progressing rapidly and the company expects the project to be completed ahead of its scheduled timeline of December 2010.
HCC’s Dhule-MP border road BOT project achieved financial closure at a gearing of 3x in December 2009. The project is being developed by a consortium of HCC and Sadbhav Engineering.
Proposed induction of a strategic partner in asset business to address funding needs
HCC has so far invested Rs2.3bn as equity in its road BOT projects and based on its development pipeline, we estimate further equity infusion requirement of ~Rs8bn in its BOT projects over FY11 and FY12. HCC expects to meet its funding requirement through induction of a strategic partner in HCC Infrastructure (100% owned by HCC), which is the holding company for its BOT asset portfolio. The company has also entered into an MoU with Eqypt’s Orascom Construction to jointly bid and develop large NHAI road projects.
Karl Steiner acquisition gives entry into building construction HCC acquired a 66% stake in Switzerland-based construction and real estate firm, Karl Steiner AG (KSAG) for CHF 35m with the funds being infused into the company. KSAG is privately held by its third generation promoter, Peter Steiner, who will hold a 34% stake in the company after the deal. HCC did not have presence in the fast growing building construction segment in India. This acquisition will help
HCC recently won three road BOT projects with total
project cost of Rs28.6bn
…expects to meet its funding requirement
through induction of a strategic partner in HCC
Infrastructure
The acquisition of Karl Steiner AG will help HCC
qualify for projects in India’s building construction
segment
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HCC qualify for projects in this segment, specifically for high end, high rise buildings that use the latest technology for integrating aspects of durability, safety, energy efficiency and low lifecycle cost of ownership and maintenance. HCC expects to leverage the acquisition to establish its presence in this segment in the Indian (~Rs700bn/yr market – source HCC) and the Middle East markets. Pending availability of KSAG’s financials, prima facie, the acquisition seems to be a strategic fit for HCC as it fills a key gap in its portfolio.
Lavasa progressing on schedule; IPO likely in 2010 HCC has raised an additional Rs1bn in Lavasa from J&K Bank at an implied valuation of Rs120bn, compared to implied valuation of Rs100bn for funds raised earlier. This takes the total funds raised through convertible instruments to Rs10.56bn (for a total of 10.39% equity stake). We believe that Lavasa’s first phase is adequately funded by convertible instruments (Rs10.56bn), pre-sales (Rs11.1bn) and cash advances (~Rs2.5bn). The Lavasa Corporation plans to inaugurate its first town centre Dasve during Q3FY11 and has also commenced work on the second town centre of Mugaon. The corporation has also achieved several other milestones by timely commissioning of hotels and educational institutes like Ecole Hotelier Lavasa in the first phase. HCC is planning an IPO for Lavasa over the next 12 months.
Lavasa reported revenues of Rs1.43bn in Q4FY10, and PAT of Rs410m. For FY10, Lavasa reported revenues of Rs4.8bn (Rs2.1bn land sales and Rs2.64bn built-up space sales.) and PAT of Rs1.4bn. During Q1FY10, the first batch of Ecole Hotelier Lausanne College commenced at Lavasa. We value Lavasa at Rs27bn (based on Rs6m/acre) and HCC’s share in Lavasa at Rs17.5bn, or Rs58/share.
Exhibit 3: Lavasa pre-sales achieved
Sales details As on Dec-09 (Rs m) Land sales 2372 Residential (plots) 199 Sub-total (1) 2,571 Built space sales 8497 Others 29 Sub-total (2) 8,526 Total Sales (1) + (2) 11,097 Source: Company reports
Sold 74% in 247 IT Park to IL&FS Milestone PE fund HCC has sold 74% stake in 247 IT Park to IL&FS Milestone PE fund at a firm valuation of Rs7.75bn. Adjusting for Rs3.5bn debt on the property, the equity value comes to Rs4.3bn. HCC would receive Rs3.18bn for its 74% stake. The 1.1m sq. ft corporate office park in Vikhroli has been made available for occupation, with a few lessees having already moved in. The company had achieved ~88% leasing as of April 2010. We expect HCC to use these funds to deleverage its balance sheet. HCC has pegged the average rental for the current set of lease agreements at Rs75/ sq. ft/ month. The company has also commenced planning for Phase-2 of the 247 park, for which it has obtained all necessary approvals and expects to begin construction from October 2010. The company plans to have a saleable area of 750,000 sq. ft in the second phase.
The Lavasa Corporation plans to inaugurate its first
town centre Dasve during Q3FY11
The company expects to begin the second phase of
construction of 247 park from October 2010
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Exhibit 4: Stake sale in 247 Park to net HCC ~Rs3.2bn
Sale of stake to IL&FS PE Fund Rs bn Property value 7.75 Debt 3.45 Value of equity 4.30 Stake sold 74% Net inflow to HCC 3.18 Source: Company data, IDFC Securities Research
US$96.6m FCCBs due for redemption in FY11; fresh FCCBs likely HCC has $96.6m worth of FCCBs outstanding, which are due for redemption in FY11 (unless converted). Given the conversion price of Rs248/share, these bonds are deep out of the money at present and are likely to come up for redemption with an implied YTM of 6.5% for a tenure of five years. HCC, we believe, would exercise one of the three options to fund the redemption of these bonds – make a fresh FCCB issue or reset the conversion price of the outstanding FCCBs to facilitate conversion or refinance redemption through additional debt. Given that HCC has a leverage of 1.6x, we expect HCC to go in for an additional FCCB issue. This move, we believe, would be the most prudent as it would have the least impact on the company – both in terms of additional interest burden and near-term equity dilution.
Expect 26% earnings CAGR over FY10-12 We expect HCC’s order backlog of ~Rs169bn (4.6x FY10 revenues) and strong traction in order inflow to drive a 23% CAGR in revenues over FY10-12. With orders for hydro power projects continuing to form a dominant 38% share of the order backlog – where HCC has strong capabilties and qualifications, we expect margins to remain stable over this period. HCC had raised Rs4.8bn in Q2FY10 via the QIP route and the proceeds were utilized to reduce high-cost debt. The resultant reduction in the company’s interest cost has augmented earnings growth. Further, we also expect HCC to benefit due to operating leverage resulting from a sharp pick-up in execution. As a result, we expect a 26% CAGR in earnings over FY10-12.
Value unlocking in Lavasa - a key trigger; maintain Outperformer We expect HCC to benefit from the government’s continued focus on infrastructure development, as it would translate into strong order inflow potential for construction companies. HCC’s move to aggregate its BOT asset portfolio into a separate infrastructure arm and induct a strategic partner would not only enhance management focus on this business but also take pressure off the balance sheet for funding equity commitments in these projects. The stock currently trades at 4.9x FY11E earnings and 5.2x EV/EBITDA after considering our valuation of Rs93/share for the company’s BOT asset portfolio and its real estate portfolio comprising Lavasa, Vikhroli IT Park and land in possession. The potential value unlocking in Lavasa through an IPO remains a key trigger in the stock in the medium term. Maintain our Outperformer rating on the stock with a 12-month price target of Rs148 per share.
HCC raised Rs4.8bn in Q2FY10 via the QIP route and
the proceeds were used to reduce high-cost debt
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Exhibit 5: SOTP based target price of Rs148/share
HCC Fair value Parameter Value (Rs m) HCC stake (%) HCC' Value (Rs m) Rs/share Core business PEx FY11E 16,914 NA 16,914 56 247 Park 74% stake sale valuation 4,300 100 4,300 14 Vikroli (E) Slum redevelopment land Value per acre 1,200 100 1,200 4 Land at other locations Value at cost 2,000 100 2,000 7 Lavassa Value per acre 27,000 65.0 17,547 58 BOTs NPV 3,587 37-100 3,041 10 Total 55,000 45,002 148 Source: Company data, IDFC Securities Research
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Income statement
Year to 31 Mar (Rs m) FY08 FY09 FY10 FY11E FY12E Net sales 30,820 33,138 36,427 45,078 54,996 % growth 29.4 7.5 9.9 23.7 22.0 Operating expenses 27,162 28,823 31,955 39,515 48,181 EBITDA 3,659 4,314 4,472 5,563 6,815 % change 52.7 17.9 3.6 24.4 22.5 Other income 23 95 144 71 74 Net interest (1,524) (2,105) (2,052) (2,411) (3,204) Depreciation 962 1,152 1,139 1,252 1,435 Pre-tax profit 1,196 1,152 1,425 1,971 2,249 Deferred tax 278 365 - 30 34 Current tax 195 27 484 641 731 Profit after tax 724 760 941 1,301 1,484 Non-recurring items 364 494 161 - - Net profit after non-recurring items 1,088 1,253 1,102 1,301 1,484 % change 37.3 15.2 (12.1) 18.1 14.1
Balance sheet
Year to 31 Mar (Rs m) FY08 FY09 FY10 FY11E FY12E Paid-up capital 256 256 303 303 303 Reserves & surplus 9,784 9,792 15,381 16,379 17,560 Total shareholders' equity 10,041 10,049 15,684 16,682 17,863 Total current liabilities 10,640 15,677 20,430 25,304 30,773 Total debt 18,449 23,218 25,147 29,897 34,897 Deferred tax liabilities 1,133 1,132 1,426 1,456 1,490 Total liabilities 30,221 40,027 47,003 56,656 67,160 Total equity & liabilities 40,262 50,075 62,688 73,339 85,023 Net fixed assets 10,206 11,746 11,845 12,689 13,349 Investments 2,955 3,655 4,087 6,587 9,087 Total current assets 27,101 34,674 46,756 54,063 62,587 Working capital 16,461 18,997 26,326 28,760 31,814 Total assets 40,262 50,075 62,688 73,339 85,023
Cash flow statement
Year to 31 Mar (Rs m) FY08 FY09 FY10 FY11E FY12E Pre-tax profit 1,196 1,152 1,425 1,971 2,249 Depreciation 962 1,152 1,139 1,252 1,435 Chg in Working capital (1,770) (3,641) (6,988) (3,756) (3,595) Total tax paid (195) (27) (484) (641) (731) Ext ord. Items & others 364 494 161 - - Operating cash Inflow 557 (870) (4,747) (1,173) (642) Capital expenditure (2,194) (2,692) (1,238) (2,096) (2,096) Free cash flow (a+b) (1,636) (3,563) (5,985) (3,269) (2,738) Chg in investments (669) (700) (432) (2,500) (2,500) Debt raised/(repaid) 2,938 4,769 1,929 4,750 5,000 Capital raised/(repaid) 152 (709) 4,801 - - Dividend (incl. tax) (225) (205) (264) (243) (303) Misc (0) (698) 295 (0) (0) Net chg in cash 560 (1,105) 344 (1,261) (541)
5.0Order book (Rs m - LHS) Book-to-bill ratio (x - RHS)
Source: Company data
Shareholding pattern
Promoters39.9%
Foreign28.7%
Non-promoter corporate holding
6.0%
Institutions12.7%
Public & Others12.8%
As of March 2010
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Nagarjuna Construction Company’s (NCC) execution in FY10 (41% yoy rise in PAT) stood out among peers – reflecting the benefits of a diversified order backlog and consistent accretion to order book. NCC’s entire road portfolio is likely to be operational in FY11, giving it the option to securitize its toll collections and raise capital for investment in new projects. Further, the company’s plans of divesting up to 49% stake in the upcoming 1320MW thermal power plant would facilitate meeting its total equity commitment of ~Rs9bn in the near term. On the back of an order backlog of Rs154bn (3.2x FY10 revenues), we expect 16% revenue CAGR and 19% earnings CAGR for the company over FY10-12. Maintain Outperformer with a 12-month price target of Rs224/share.
Diversified order backlog leads to strong execution: With a 64% surge in order inflow in FY10, NCC’s order backlog remains robust at Rs154bn (3.2x FY10 revenues). Further, the order backlog remains diversified across sectors and geographies with international orders accounting for 21% of the total. NCC amply demonstrates the benefits of a diversified order book through strong execution and sustained margins in FY10.
Capital raising avenues in place for meeting funding commitments: NCC’s road BOT portfolio is likely to be fully operational in FY11, giving it the ability to raise resources for investment in new projects by securitizing toll receivables on favorable terms. Morever, with its proposed divestment of up to 49% in its upcoming 1320MW thermal power project, is likely to help meet near term funding obligations of ~Rs9bn in its asset portfolio (~90% in the power project). Further, NCC’s net gearing at 0.5x gives it headroom to raise debt, if required.
Strong earnings trajectory; maintain Outperformer: On the back of a robust order backlog of ~Rs154bn, we expect CAGR of 16% in revenues and 19% in earnings for NCC over FY10-12. The stock trades at 11.8x FY11E earnings, adjusted for Rs52/share valuation for its road, power and real estate portfolio. Valuations appear reasonable given the strong earnings profile. We maintain our Outperformer rating on the stock with a price target of Rs224/share. Top sector pick.
Key valuation metrics (standalone + international subsidiaries) Year to 31 Mar FY08 FY09 FY10 FY11E FY12ENet sales (Rs m) 35,488 46,186 58,793 68,493 79,286Adj. net profit (Rs m) 1,614 1,731 2,448 2,945 3,461Shares in issue (m) 229 229 257 257 257Adj. EPS (Rs) 7.4 7.6 9.5 11.5 13.5 % change 3.0 2.5 26.1 20.3 17.5 PE (x)* 18.3 17.9 14.2 11.8 10.0 Price/ Book (x)* 1.9 1.8 1.5 1.3 1.2 EV/ EBITDA (x)* 10.6 10.7 9.5 8.6 7.8 RoE (%) 12.6 10.6 12.2 12.0 12.7 RoCE (%) 13.3 11.8 12.6 11.8 12.5* adjusted for value of road, power and real estate business
INVESTMENT ARGUMENT Strong growth in order booking (up 64% in FY10) leads to high order backlog of
Rs154bn – 3.2x FY10 revenues; execution too remained strong in FY10 with reducing dependence on AP projects
Road BOT projects nearing completion with ~85% equity commitments already met; gives ability to raise resources by securitizing toll collections
Key milestones (land acquisition, environmental clearance and coal linkages) in place for the 1320MW power plant; project to soon achieve financial closure
Surge in new orders and execution track record lends future growth visibility; expect 16% revenue and 19% earnings CAGR over FY10-12 with stable margins
Maintain Outperformer at 11.8x FY11E earnings adjusted for Rs52/ share value for road, power and real estate portfolio
Robust 26% growth in order backlog in FY10 to Rs154bn NCC has recorded strong order booking of ~Rs89bn (up 64%yoy) in FY10, leading to a robust order backlog of ~Rs154bn (3.2x FY10 revenues). Further, NCC is also L1 in orders worth Rs30bn. The order book, to be executed over 2-2.5 years, is well-diversified across sectors (buildings, roads, water, electrical and overseas projects). Out of the total, ~35% of the orders are fixed price contracts, most of which are international, own BOT and domestic projects with less than one year execution period. Further, continued policy focus on infrastructure and government’s efforts at streamling policy bottlenecks is bound to accelerate the pace of new awards as also boost execution. We expect NCC to be a key beneficiary of these measures.
Exhibit 1: Strong order booking across segments leads to a diversified order book
60Order booking (Rs m - LHS) yoy growth (% - RHS) NCC Order backlog breakup - end of FY10
Bldgs24%
Roads8%
Water16%Electricals
5%
Irrigation10%
International21%
Others8%
Power7%
Metals1%
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Exhibit 2: NCC’s order backlog split across clients, contracts and geographies
Source: Company data
Strong execution in FY10; share of AP projects shrinks further NCC has reported 18% growth in standalone revenues for FY10 against ~10% for peers like IVRCL and HCC. This superior performance has been driven by NCC’s diversified order book with a mix of domestic and international orders. International orders currently account for 21% of the total backlog. Further, orders from AP, wherein execution remained sluggish for all construction companies in FY10, accounts for a relatively smaller proportion of NCC’s order backlog (~7% at present). Going forward, with sustained momentum of order flows in roads, buildings and urban infrastructure segments, we expect the share of AP projects to shrink further.
Road BOT project to be fully operational by December 2010 NCC has a portfolio of five road BOT projects worth Rs27bn, of which two are operational (Bangalore Elevated Tollway and Brindawan Infra) and three in the construction phase with completion scheduled by December 2010. The Western UP Tollway and Orai-Bhognipur road projects are scheduled to be operational by July 2010, and the Puducherry-Tindivanam project by December 2010. We value NCC’s road BOT portfolio on a DCF basis and assign a proportional value of Rs2.2bn, or Rs8/share, for NCC’s stake in these assets.
Exhibit 3: NCC – Road BOT assets
Project Status % stake TPC Equity Debt Grant Value Value to NCC NCC value (Rs m) (Rs m) (Rs m) (Rs m) (Rs m) (Rs m) (Rs/share) Meerut-Muzaffarpur Highway CoD Jul '10 51 6,670 1,601 4,536 534 1,584 808 3.1 Bangalore Elevated Operational 42 8,807 2,818 5,989 - 80 32 0.1 Bangalore-Mysore Operational 33 2,475 446 2,030 - 602 201 0.8 Orai-Bhognipur CoD Jul '10 64 5,848 1,462 4,386 - 1,151 736 2.9 Pondy-Tindivanam CoD Dec'11 48 3,150 693 2,016 441 826 397 1.5 Total 26,950 7,020 18,956 975 4,243 2,173 8 Source: Company data, IDFC Securities Research
1700MW of power projects in pipeline NCC has three power projects aggregating 1700MW in its portfolio. Of these, the 100MW Himachal Sorang hydel power plant has achieved 65% completion in construction and is scheduled to commence operations by April 2011. For the 1,320MW coal-based NCC Power plant, all the required clearances (including environmental clearance) and linkages have been obtained, and the company targets to achieve financial closure shortly. As regards the 280MW Himalayan Green project,
Public80%
Private20% Fixed Price
contracts35%
Variable price
contracts65% Domestic
79%
International21%
NCC has reported 18% growth in standalone
revenues for FY10 against ~10% for peers
…orders from AP account for a relatively smaller proportion
of NCC’s order backlog
The 100MW Himachal Sorang hydel power plant is
scheduled to commence operations by April 2011
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the Detailed Project Report (DPR) has been prepared and NCC is in the process of obtaining the necessary approvals.
Exhibit 4: NCC developing a power project portfolio of 1700MW
Project Capacity (MW) Description CoD TPC NCC's stake NCC's value Per share Himachal Sorang 100 Hydel plant-Merchant Apr-11 5,800 67% 2,486 9.7 Himalayan Green 280 Hydel power plant Dec-15 19,600 54% 250 1.0 NCC Power 1,320 Thermal: PPA/Merchant Jan-14 69,650 100% 2,722 10.6 Total power projects 1,700 95,050 5,457 21.3 Source: Company data, IDFC Securities Research
Dubai Harmony project – uncertainty persists on execution NCC has restarted the construction of the Dubai Harmony twin tower project, work on which was stalled since Q2FY10. NCC now plans to first complete six storeys of an under-construction tower and then approach investors for further progress payments. NCC has so far funded this project with its own equity of Rs600m, borrowings of Rs1bn and investor advances of Rs1.8bn. NCC proposes to invest another Rs500m into the project to complete construction of the first six storeys. Overall, execution of the project remains sluggish.
Rs7bn invested in real estate – unlocking may be sometime away NCC has invested Rs7bn by way of equity, preference shares and advances in its
real estate projects in India. Following are the details of key real estate projects:
NCC has completed construction of its real estate project in Ranchi and has already sold 250 apartments
The NCC Vizag Urban project, wherein NCC has invested Rs1bn towards land acquisition, is yet to commence development. NCC is not permitted to sell the land here and is obliged to develop the project
The Jubilee Hills project in Hyderabad, wherein NCC has invested Rs900m, is likely to be launched shortly
The Tellapur Technocity project, wherein NCC has invested Rs1.4bn as equity, is yet to be launched. NCC expects to start this project in the near future.
Funding commitment of ~9bn in the asset portfolio in the near term NCC has so far invested Rs4.4bn in its road BOTs and power assets. Another Rs9bn needs to be further invested in these assets in the near term, with ~90% of this being in the upcoming 1320MW coal based power plant. NCC also expects to incur Rs1.5bn capex in FY11 to augment the necessary wherewithal as execution gathers pace.
NCC has restarted the construction of the Dubai
Harmony twin tower project
NCC has so far invested Rs4.4bn in its road BOTs
and power assets
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Divestment in the power plant, securitization of toll collections key fund raise avenues
NCC currently has cash equivalents of ~Rs2bn and is looking to divest up to a 49% stake in the upcoming 1320MW power plant (owned 100% at present by NCC) to a strategic partner to raise capital for funding its equity commitment in the project. NCC also has the option of securitizing its toll collections from the road BOT assets given that the entire portfolio is likely to be operational within the current fiscal. Further, NCC’s net gearing of 0.5x gives it headroom to raise debt.
Limited concerns on JVs with Maytas NCC and its other partners in JVs with Maytas had agreed to take up the latter’s share of equity commitments in projects undertaken by these JVs. In the Meerut-Muzzafarpur road BOT, NCC and Gayatri Projects had together bought out Maytas’s 29% stake. In Bangalore elevated Tollway, NCC increased its share to 42% from the initial 40%, and is expected to increase the same to ~50% to fully replace Maytas’s share. NCC has also sold its stake in the Machilipatnam port project to recover its earlier investment of ~Rs150m. NCC has withdrawn from the Gulbarga and Shimoga airports, which have been awarded to IL&FS, which had taken over Maytas.
Expect earnings CAGR of 19% over FY10-12 NCC’s robust and well diversified order backlog of ~Rs154bn lends visibility to scale-up in execution and we expect revenue CAGR of 16% over FY10-12. We expect margins to remain largely stable over this period led by operating leverage as also higher revenues. Resutlant, we expect an earnings CAGR of 19% over FY10-12.
Maintain Outperformer NCC has amply demonstrated the benefits of a well diversified order book, which led to its execution being stronger than peers in FY10. NCC’s entire road BOT portfolio is likely to be operational by end-FY11, thus giving it an option to raise capital on favorable terms by securitizing its toll collections. The stock currently trades at 11.8x FY11E earnings, adjusted for Rs52/share valuation of its road, power and real estate portfolio. The stock’s valuations appear reasonable condering the strong 19% earnings CAGR likely over FY10-12. We maintain our Outperformer rating on the stock with a 12-month price target of Rs224/share.
Exhibit 5: SOTP based price target of Rs224/share for NCC
Business Basis of valuation Equity value Rs/share Core business PEx FY11E 44,175 172 Road Assets DCF 2,173 8 Power Assets DCF 5,457 21 Real Estate (x) Book value 5,600 22 Total 57,405 224 Source: IDFC Securities Research
NCC’s robust and well diversified order backlog of ~Rs154bn lends visibility to
scale-up in execution
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Income statement (standalone + international subsidiaries)
Year to 31 Mar (Rs m) FY08 FY09 FY10 FY11E FY12E Net sales 35,488 46,106 58,793 68,493 79,286 % growth 21.2 30.1 27.5 16.5 15.8 Operating expenses 31,737 41,736 52,880 61,738 71,461 EBITDA 3,710 4,370 5,913 6,755 7,826 % change 33.4 17.8 35.3 14.2 15.9 Other income 56 158 73 91 114 Net interest (821) (1,306) (1,622) (1,717) (1,941) Depreciation 514 714 723 832 937 Pre-tax profit 2,430 2,508 3,640 4,297 5,062 Deferred tax 52 21 - 36 43 Current tax 764 756 1,192 1,316 1,558 Profit after tax 1,614 1,731 2,448 2,945 3,461 Non-recurring items (22) - 408 - - Net profit after non-recurring items 1,592 1,731 2,856 2,945 3461 % change 40.0 8.7 65.0 3.1 17.5
Balance sheet
Year to 31 Mar (Rs m) FY08 FY09 FY10 FY11E FY12E Paid-up capital 458 458 513 513 513 Reserves & surplus 15,188 16,565 22,705 25,240 28,238 Total shareholders' equity 15,646 17,023 23,219 25,723 28,752 Total current liabilities 18,216 23,108 24,689 28,680 33,106 Total debt 11,958 17,039 24,788 25,977 28,909 Deferred tax liabilities 167 188 188 224 267 Other non-current liabilities 57 - - - - Total liabilities 30,307 40,335 49,665 54,881 62,282 Total equity & liabilities 45,953 57,358 72,884 80,634 91,034 Net fixed assets 5,936 8,746 10,604 11,990 13,294 Investments 5,525 7,246 9,408 10,658 12,208 Total current assets 32,693 40,365 51,871 56,985 64,531 Working capital 14,567 17,256 27,182 28,305 31,426 Total assets 45,954 57,358 72,884 80,634 91,034
Cash flow statement
Year to 31 Mar (Rs m) FY08 FY09 FY10 FY11E FY12E Pre-tax profit 2,430 2,508 3,640 4,297 5,062 Depreciation 514 714 723 832 937 chg in Working capital (1,073) (2,885) (7,701) (2,075) (3,564) Total tax paid (759) (756) (1,192) (1,316) (1,558) Ext ord. Items & others (22) - 408 - - Operating cash inflow 1,078 (420) (4,121) 1,738 877 Capital expenditure (1,601) (3,028) (2,227) (2,000) (2,000) Free cash flow (a+b) (523) (3,448) (6,349) (262) (1,123) Chg in investments (881) (1,721) (2,162) (1,250) (1,550) Debt raised/ (repaid) (2,465) 5,081 7,749 1,188 2,932 Capital raised/ (repaid) 4,063 2 3,673 - - Dividend (incl. tax) (300) (297) (252) (334) (411) Misc 2 (602) (198) (218) (242) Net chg in cash (104) (985) 2,463 (875) (393)
Simplex Infrastructures (Simplex) has witnessed strong recovery in order inflows, led by an improving macroeconomic environment. Simplex’s order backlog of Rs115bn (2.6x FY10 revenues) remains diversified across key sectors like power, industrial, urban infrastructure and buildings, with ~22% of the orders from overseas clients. We expect 15% revenue CAGR for Simplex over FY10-12 with benefits of operating leverage driving a 21% CAGR in earnings. However, at current valuations of 14.7x FY11E earnings, we see limited upside in the stock and maintain Neutral with a 12-month price target of Rs531/share.
Bounce back in order booking: After a rather muted performance in FY10, there has been a sharp recovery in order flow momentum for Simplex driven the economic recovery. Order inflows grew 94% in Q4FY10 to Rs21.7bn and the pace of order accretion has sustained with Rs13bn orders won YTD FY11. This surge in new orders, we expect, would also boost execution and drive a 15% revenue CAGR over FY10-12.
Power, urban infrastructure likely to be key drivers…: Simplex’s current order book of Rs115bn remains well diversified across segments – especially power, industrial, urban infrastructure and buildings. Further, international orders account for 22% of the order backlog. Simplex’s recent foray into the power transmission space opens up huge opportunities for the company given the rising investments in this segment. Simplex has also recently bagged its first road BOT project – first step towards leveraging its skill sets in construction of flyovers and bridges.
…but valuations price in growth prospects; Neutral: Driven by 15% revenue CAGR and operating leverage stemming from improved execution, we expect 21% CAGR in Simplex’s consolidated earnings over FY10-12. We expect operating margins to remain stable over the period. However, current valuations of 14.7xFY11E earnings, we believe, adequately capture the near-term growth prospects. We remain Neutral on the stock and assign a 12-month price target of Rs531.
Key valuation metrics Year to 31 Mar FY08 FY09 FY10 FY11E FY12ENet sales (Rs m) 28,121 46,627 45,546 52,545 60,013Adj. net profit (Rs m) 901 1,152 1,291 1,634 1,874Shares in issue (m) 50 50 50 50 50Adj. EPS (Rs) 19.6 23.3 26.1 33.0 37.9 % change 58.7 18.7 12.1 26.6 14.7 PE (x) 24.8 20.9 18.6 14.7 12.8 Price/ Book (x) 3.0 2.8 2.5 2.1 1.9 EV/ EBITDA (x) 10.7 8.8 7.5 6.5 5.7 RoE (%) 17.5 14.3 14.0 15.6 15.5 RoCE (%) 16.1 14.4 12.9 13.9 15.0
200Order booking (Rs m - LHS) Order booking growth (% - RHS)
INVESTMENT ARGUMENT With an all-round economic improvement, Simplex has registered a 94% jump
in order booking in Q4FY10 to Rs21.7bn and Rs13bn in YTD FY11
Current order book of Rs115bn (2.6x FY10 revenues) remains diversified across sectors; overseas orders constitute 22% of the order backlog
Expect execution to improve on the back of fresh orders – estimate 15% CAGR in revenues and 21% CAGR in earnings over FY10-12
The first road BOT project bagged from NHAI a step towards leveraging its skill sets in construction of flyovers and bridges
At 14.7x FY11E earnings, we see limited upside potential for the stock; maintain our Neutral rating on the stock with a 12-month price target of Rs531/share
Improved environment triggers bounce back in order booking After muted performance for 9MFY10, Simplex reported a strong bounce back in order booking in Q4FY10 – which grew 94%yoy to Rs21.7bn. This surge in order flow was led by orders from industrial construction, power and buildings and housing segments – in reflection of an improved macro-economic environement. Orders from domestic market grew 69%yoy to Rs15bn and those from overseas markets 31%yoy to Rs6.65bn in Q4FY10. The total order inflow during FY10 grew by 6.3%yoy to Rs59.84bn with a 14.2% rise in order backlog to Rs115bn (2.6x FY10 revenues) as on 31 March 2010. Simplex has further bagged orders worth Rs12.9bn so far in FY11.
Exhibit 1: Bounce back in order flows in Q4FY10 leads to a strong order book position
Source: Company data
Foray into power T&D segment Simplex has recently forayed into the power T&D segment in order to benefit from the rising investments in this sector. It is currently executing a transmission line order worth Rs2bn, wherein its scope of work includes civil foundation, tower supply and erection, stringing and providing switchyards. For this project, Simplex would source all materials including towers from vendors and has entered into an arrangement with Siemens for the switchyard component. While the company plans to focus on 220KVA and 400KVA transmission line projects to begin with, it eventually plans to develop skill sets for construction of 765KVA lines.
60,000
75,000
90,000
105,000
120,000
1Q09 2Q09 3Q09 4Q09 1Q10 2Q10 3Q10 4Q10
0.0
1.0
2.0
3.0
4.0Order book (Rs m - LHS) Book-to-bill ratio (x - RHS)
Simplex’s current order book of Rs115bn remains well
diversified across segments
Simplex has forayed into the power T&D segment to benefit from the rising
investments in this sector
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Well diversified order book to provide stability of revenues Simplex’s order book remains diversified across segments and ~22% of its order book is constituted by overseas projects. Among the key segments, power sector orders constitute 27%, buildings and construction 22%, industrial plants 19% and urban infrastructure 16% of the company’s current order backlog. Led by a strong order backlog and improved order flows, we expect Simplex’s execution to improve going forward and estimate 15% revenue CAGR over FY10-12.
Exhibit 2: Order book breakup Simplex order book breakup (Mar-10)
Power27%
Bldg & Hsg22%
Industrial19%
Urban infrastructure
16%
Marine3%
Bridges9%
Piling3%
Roads & Railways1%
Source: Company data
Lower borrowing costs lead to interest cost savings Even as Simplex’s debt position has been constant at ~Rs13bn for the last three quarters, interest costs are down ~25% to Rs214m in Q4FY10 from Rs289m in Q2FY10. Its average borrowing cost for Q4FY10 stood at 6.3% and that for FY10 at 7%.
Bags first BOT project from NHAI Simplex, in consortium with SREI and Galfar, has recently bagged its first BOT toll road project from NHAI for 6-laning of Bhubaneshwar-Chandikhol portion of NH-5 under NHDP Phase V. The total length of the project is 67km with the estimated project cost being Rs10.5bn. The concession period of the project is 26 years including construction period of 30 months. Simplex has a 34% share in the consortium.
Simplex’s interest in this project is primarily for the EPC component. This stretch will have seven flyovers and four major bridges over the rivers Kathojodi, Kuakhai, Mahanadi and Birupa. Simplex, with its proven expertise in construction of flyovers and bridges, aims to leverage on its skill sets through this project. We have currently not assigned any value to this project as it is in very early stage of development.
We see limited upside potential; maintain Neutral The improving economic environment in India is expected to lead to revival in industrial capex and sectors such as real estate. Resutlant, we expect Simplex to benefit by way of stronger order inflows and improved execution going forward. We estimate revenue CAGR of 15% and earnings CAGR of 21% for Simplex over FY10-12. We expect margins to remain largely stable over this period. We estimate consolidated EPS of Rs33 in FY11 and Rs37.9 in FY12. However, current valuations of 14.7x FY11E earnings indicate limited upside potential in the stock. We maintain Neutral on the stock with a 12-month price target of Rs531 per share.
~22% of Simplex’s order book is constituted by overseas
projects
Simplex should benefit by way of stronger order inflows and improved
execution
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Income statement (consolidated)
Year to 31 Mar (Rs m) FY08 FY09 FY10 FY11E FY12E Net sales 28,121 46,627 45,546 52,545 60,013 % growth 64.4 65.8 (2.3) 15.4 14.2 Operating expenses 25,446 42,671 41,074 47,368 54,075 EBITDA 2,675 3,955 4,473 5,177 5,938 % change 65.2 47.9 13.1 15.7 14.7 Other income 246 483 228 273 283 Net interest (1,007) (1,510) (1,122) (1,224) (1,447) Depreciation 642 1,299 1,573 1,738 1,920 Pre-tax profit 1,271 1,629 2,006 2,488 2,853 Deferred tax 94 207 305 23 26 Current tax 276 270 410 831 952 Profit after tax 901 1,152 1,291 1,634 1,874 Non-recurring items - 56 - - - Net profit after non-recurring items 901 1,208 1,291 1,634 1,874 % change 67.8 34.1 6.8 26.6 14.7
Balance sheet
Year to 31 Mar (Rs m) FY08 FY09 FY10 FY11E FY12E Paid-up capital 312 312 312 312 312 Reserves & surplus 7,219 8,311 9,465 10,924 12,594 Total shareholders' equity 7,531 8,622 9,777 11,236 12,906 Total current liabilities 12,383 18,477 17,789 20,550 23,463 Total debt 7,493 12,205 13,020 13,520 14,220 Deferred tax liabilities 371 579 884 907 934 Total liabilities 20,248 31,261 31,693 34,976 38,616 Total equity & liabilities 27,779 39,883 41,470 46,212 51,522 Net fixed assets 6,538 10,153 10,263 10,775 11,174 Investments 99 20 20 20 20 Total current assets 21,143 29,710 31,187 35,417 40,328 Working capital 8,760 11,233 13,398 14,868 16,865 Total assets 27,779 39,883 41,470 46,212 51,522
Cash flow statement
Year to 31 Mar (Rs m) FY08 FY09 FY10 FY11E FY12E Pre-tax profit 1,271 1,629 2,006 2,488 2,853 Depreciation 642 1,299 1,573 1,738 1,920 chg in Working capital (1,843) (2,325) 148 (1,467) (1,589) Total tax paid (276) (270) (410) (831) (952) Ext ord. Items & others - 56 - - - Operating cash inflow (206) 390 3,316 1,928 2,232 Capital expenditure (3,561) (4,915) (1,682) (2,250) (2,320) Free cash flow (a+b) (3,767) (4,525) 1,634 (322) (88) Chg in investments (46) 79 - - - Debt raised/ (repaid) 617 4,711 815 500 700 Capital raised/ (repaid) 4,161 - - - - Dividend (incl. tax) (81) (134) (117) (126) (180) Misc (75) (0) (19) (0) 0 Net chg in cash 807 132 2,313 52 432
Year to 31 Mar FY08 FY09 FY10 FY11E FY12E Reported EPS (Rs) 19.6 24.4 26.1 33.0 37.9 Adj. EPS (Rs) 19.6 23.3 26.1 33.0 37.9 PE (x) 24.8 20.9 18.6 14.7 12.8 Price/ Book (x) 3.0 2.8 2.5 2.1 1.9 EV/ Net sales (x) 1.0 0.7 0.7 0.6 0.6 EV/ EBITDA (x) 10.7 8.8 7.5 6.5 5.7 EV/ CE (x) 1.9 1.6 1.4 1.3 1.2
Bounce back in order flows leads to a strong order book position
60,000
75,000
90,000
105,000
120,000
1Q09 2Q09 3Q09 4Q09 1Q10 2Q10 3Q10 4Q10
0.0
1.0
2.0
3.0
4.0Order book (Rs m - LHS) Book-to-bill ratio (x - RHS)
Source: Company data
Shareholding pattern
Promoters54.7%
Foreign12.6%
Non-promoter corporate holding
6.5%
Institutions19.9%
Public & others6.2%
As of March 2010
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Madhucon Projects’ (Madhucon) order backlog remains robust at Rs48bn (3.7x FY10 revenues), mainly driven by captive order flows. Commissioning of two more road projects in the near term would give Madhucon a portfolio of four operating road projects. Further, development of the 1920MW power plant is progressing on schedule with the first 300MW unit likely to achieve COD in H1FY12 and with sanctions in place for the second 300MW unit. Madhucon has chalked out plans to meet its near-term funding requirement of ~Rs6bn in infra assets through either a stake sale/ IPO or borrowings in its infra holding company. We expect 25% revenue and earnings CAGR for Madhucon over FY10-12. At valuations of 2.3x FY11E earnings (adjusted for value of road and power assets – excluding coal mines), we maintain Outperformer on the stock with a 12-month price target of Rs208.
Order backlog at Rs48bn; buoyed by captive orders: With Rs12bn of EPC orders bagged for its upcoming Phase II power plant, Madhucon’s order backlog has increased to Rs48bn, 3.7x FY10 revenues. With the first phase of power sector order being executed rapidly, we expect 25% CAGR in Madhucon’s revenues over FY10-12.
Attractive mix of BOT road and power projects: In addition to the two already operational projects, commissioning of two more road BOTs in the near term would give Madhucon a portfolio of four operating road projects. The first two phases (300MW each) of its upcoming 1920MW thermal power plant are on track, with commissioning of the first 300MW unit likely in H1FY12. Further, the company also targets to produce 1mt coal in FY12 from its Indonesian concessions. Madhucon plans to meet the equity commitment of ~Rs6bn in the near term in these assets by way of stake sale/ IPO or borrowings in the infra holding company.
Valuations attractive, maintain Outperformer: On the back of robust order backlog, we expect 25% CAGR in both revenues and earnings for Madhucon over FY10-12. At current valuations of 2.3x FY11E earnings, adjusted for value of road, power assets and without valuing coal mining assets, we reiterate Outperformer on the stock with a 12-month price target of Rs208 per share.
Key valuation metrics Year to 31 Mar FY08 FY09 FY10 FY11E FY12ENet sales (Rs m) 7,380 10,254 13,076 16,999 20,398Adj. net profit (Rs m) 472 469 432 535 679Shares in issue (m) 74 74 74 74 74Adj. EPS (Rs) 6.4 6.4 5.9 7.3 9.2 % change 13.4 (0.7) (7.9) 23.9 27.0 PE (x)* 2.6 2.6 2.8 2.3 1.8 Price/ Book (x)* 0.2 0.2 0.2 0.2 0.2 EV/ EBITDA (x)* 2.0 2.9 2.9 2.7 2.3 RoE (%) 10.0 9.1 7.9 9.3 11.1 RoCE (%) 10.8 10.3 9.9 10.8 12.0* adjusted for value of road, power (excluding coal) and real estate business
INVESTMENT ARGUMENT Strong order book position of Rs48bn, 3.7x FY10 revenues, led by captive
projects; two road projects operational, two nearing completion and another attractive annuity road project bagged recently
Phase I (300MW) of thermal power plant on track for commissioning in H1FY12; offtake and fuel supplies contracted on attractive terms
Targeting to produce 1mt coal in FY12 from Indonesian coal mining concessions; received another permit for exploring ~30,000ha in South Sumatra
All infra assets (roads, power and coal mining) to be grouped under Madhucon Infra (MIL). Madhucon exploring options to raise capital (debt/equity) in MIL to fund near-term requirement of ~Rs6bn
Expect revenue and earnings CAGR of 25% each over FY10-12; at 2.3x FY11E earnings, adjusted for our valuation of roads, power (excluding coal mines) and real estate, we see significant value accretion potential in the long term
Captive order flows boost order backlog Madhucon’s order booking in FY10 has remained rather lumpy with no orders booked in the first three quarters and a large EPC order worth Rs12bn booked in Q4FY10 from its own power subsidiary. Resutlant, the order backlog has risen to Rs48.6bn (3.7x FY10 revenues). The order book is distributed across sectors such as Irrigation, Power, Roads as well as Mining and Building projects. We expect the existing order book to drive revenue CAGR of 25% over FY10-12.
Exhibit 1: Order book boosted by captive orders
Source: Company data * based on announced orders
Road projects nearing completion; funding commitments fully met Madhucon has commissioned two of its road BOT projects – Bharatpur-Mahua and Dindigul-Karur – in FY10. In Q3FY10, these projects recorded toll revenues of Rs203m (expected to increase post revision in toll rates in July 2010). The Madurai-Tuticorin project has been completed and is awaiting toll notification from NHAI. The Trichy-Thanjavur project is in advanced stages of completion with construction work remaining on a minor stretch due to land acquisition issues. Madhucon has requested NHAI to permit partial tolling on this project and is currently awaiting toll notification for the same.
7.0Order book (Rs m - LHS) Book-to-bill ratio (x - RHS) Madhucon Order Book - Rs48.6bn
Roads EPC12%
Irrigation27%
Mining3%
EPC - Power phase 1
14%
EPC - Power phase 2
25%
EPC - Hydel11%
Building8%
Madhucon received a large EPC order worth Rs12bn in Q4FY10 from its own power
subsidiary
In Q3FY10, two of Madhucon’s road BOT projects recorded toll revenues of Rs203m
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Exhibit 2: Madhucon’s road project portfolio valued at Rs78/share
Project Status % stake TPC Equity Debt Grant Value Value to Madhucon Madhucon value (Rs m) (Rs m) (Rs m) (Rs m) (Rs m) (Rs m) (Rs/share) Bharatpur Mahua (Agra-Jaipur expressway) Operational 85% 3,383 610 2,389 960 1,282 1,090 15 Karur Dindigul (TN4) Operational 90% 3,733 747 2,240 860 1,285 1,156 16 Madurai - Tuticorin COD Apr' 10 80% 9,202 1,780 5,982 1,440 2,111 1,689 23 Thanjavur - Trichy COD Apr' 10 100% 3,900 647 2,610 784 1,821 1,821 25 Total 20,218 3,783 19,370 4,044 6,498 5,755 78 Source: Company data, IDFC Securities Research
Won the Hazipur-Chapra annuity road project from NHAI
Madhucon recently bagged an annuity road project for 4-laning of the Hazipur-Chapra section on NH-19 in Bihar. Construction of the 65km stretch is estimated to cost Rs5.8bn. Madhucon has quoted a semi-annual annuity of Rs654.3m and the concession period of the project is 15 years, which includes the construction period of 30 months. We have currently not assigned any value to this project and would revisit the same once critical milestones like land acquisition, financial closure are achieved.
Power project plans on track; phase-1 expected to start in H1FY12 Madhucon is developing a 1,920MW thermal power plant at Nellore in AP in close proximity to the Krishnapatnam port through its subsidiary, Simhapuri Energy Private (SEPL). The first phase of 300MW (2x150MW) is in boiler erection stage and is expected to be commissioned in H1FY12. SEPL has tied up with PTC to operate 70% of the capacity of phase I on tolling basis, which means PTC will arrange for 70% of the fuel requirement and will also off take 70% of power generated from the plant. SEPL plans to sell the remaining 30% power generated on merchant basis.
Second phase of 300MW to start construction in three months
For the second phase of 300MW (2x150MW), SEPL has recently awarded the EPC contract to Madhucon. SEPL is in possession of the land required for all the four stages (~1,000 acres) and has received environment clearance for phase II (applied for the remaining two phases of 660MW each). SEPL plans to enter into a tolling agreement with PTC for the phase II plant, similar to that in phase I. The company has also already received sanctions for the entire debt component of Rs12bn for the phase II project and targets to achieve COD by December 2012.
Phase III and IV of the project, consisting of 660MW units each, are in early stages of development.
Exhibit 3: Developing 1920MW thermal power project in AP
Power projects Capacity (MW) TPC (Rs m) Equity (Rs m) Debt (Rs m) Simhapuri Energy Phase 1 300 14,860 3,864 10,996 Simhapuri Energy Phase 2 300 16,000 4,000 12,000 Simhapuri Energy Phase 3 & 4 1,320 71,800 17,950 53,850 Total 1,920 102,660 25,814 76,846 Source: Company data
Madhucon is developing a 1,920MW thermal power plant
in AP
SEPL has received sanctions for the debt component of Rs12bn for phase II of the
thermal power project
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Three hydro power projects of total capacity 75MW won recently The Uttarakhand government has awarded three hydro power projects with a total capacity of 75MW, expandable to 100MW, to Madhucon. The Agastyamuni, Tilwara-I and Tilwara-II (each 25MW) projects on tributary Mandakini of River Alaknanda in Rudraprayaag district have been awarded to Madhucon on BOT basis for a period of 35 years. The estimated project cost is Rs5.25bn, which has been added to the order book. The DPRs of these projects, under preparation, are expected to be ready by June 2010 with the work on site expected to start from January 2011.
Targeting to mine 1mt coal in Indonesia by FY12 Madhucon’s subsidiary, PT Madhucon Indonesia, already has a mining license for 10,000ha in South Sumatra. The estimated reserves of the mine are 900mt. The company has completed widening of the apprach roads and is currently constructiing the jetty. With a crusher installed on the site, Madhucon aims to start exporting in next 2-3 months. Madhucon is targeting to mine 0.6mt of coal by March 2011, with plans to ramp up production to 1mt in FY12 and eventually to 9mt in the next 6-7 years. The coal is of calorific value 5500-6100 kcal/kg. The mining license is for 30 years, and can be extended twice by 10 years each.
Madhucon has received a business permit for coal exploration of 30,970ha in South Sumatra. This project is in preliminary stages of exploration and is expected to reach production stage in four years.
Madhucon had previously received a mining contract for a coal mine in East Kalimantan, spread over 3,188ha and with estimated reserves of 250mt.
Infra assets to be grouped in Madhucon Infra (MIL) Madhucon plans to house all its infrastructure assets – road projects, power projects and coal mininig concessions in an infra subsidiary – Madhucon Infra, owned 82% by Madhucon Projects. It plans to transfer, at cost, all investments in various project SPVs under Madhucon Projects to MIL. Madhucon and associates have so far invested ~Rs6bn in these assets (Rs3.7bn in road assets and Rs2.3bn in power assets).
Madhucon aims to start exporting coal from its mine
in Indonesia in next 2-3 months
Madhucon has received a business permit for coal
exploration of 30,970ha in South Sumatra
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Exhibit 4: Madhucon Infra Ltd – projects portfolio
Source: Company data
Plans to raise capital for funding investments in infra assets
In the near term, Madhucon needs to invest Rs6bn in its power assets (Rs1.5bn in Phase I and Rs4.5bn in Phase II). While equity commitments in its older road projects have been fully funded, it would need to contribute towards equity of the recently bagged annuity road project in Bihar (total equity requirement of ~Rs1.5bn assuming gearing of 3x). In order to meet its funding commitments, Madhucon is exploring various options of raising capital including stake sale in MIL to a private equity player, public listing of MIL, or taking additional debt on Madhucon Infra’s balance sheet.
Expect 25% earnings CAGR over FY10-12 Driven by an order backlog of Rs48bn at present, we expect 25% CAGR in Madhucon’s revenues over FY10-12. We expect margins to trend down by ~100bp due to pick-up in execution of EPC orders for its power plants – which would include a high proportion of bought-out components. Resultant, we expect EBIDTA CAGR to be lower at 18% over FY10-12. However, driven by sharp scale-up in execution, we expect operating leverage to drive a 25% earnings CAGR over the same period. We estimate an EPS of Rs7.3 in FY11 and Rs9.2 in FY12 for Madhucon.
Madhucon Infra Ltd
BOT Toll Roads Power Coal Mining, Indonesia
Bharatpur - Mahwa 3,188 Ha. In Kalimantan mining contract
MoU with Jharkhand Govt. for 1,000MW thermal plant
Hydel Project, Govt of Uttarakhand, River Mandakini Value – Rs5,250m
Agastyamuni– 25MW
Tilwara I – 25MW
Tilwara II – 25MW
10,000 Ha. In South Sumatra; own mine 900MT minable reserve
30,000 Ha. In South Sumatra; new exploration permit
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Maintain Outperformer Madhucon’s order backlog remains robust, with a diverse mix of orders from various segments and in-house as well as external orders. The company is developing an attractive portfolio of road and power assets (including coal mining) which has potential for significant value accretion. The stock trades at 2.3x FY11E earnings after adjusting for our valuation of road assets, power assets (excluding coal mining) & real estate. We maintain Outperformer on the stock with a 12-month price target of Rs208per share.
Exhibit 5: Madhucon Projects SOTP
Business Basis of valuation Equity value (Rsm) Rs/share Core business PEx FY11E 6,958 94 Road Assets DCF 5,755 78 Power Assets DCF/ P/Bx 2,123 29 Real Estate NPV 503 7 Total 15,338 208 Source: IDFC Securities Research
The company is developing an attractive portfolio of
road and power assets
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Income statement (standalone)
Year to 31 Mar (Rs m) FY08 FY09 FY10 FY11E FY12E Net sales 7,380 10,254 13,076 16,999 20,398 % growth 44.7 38.9 27.5 30.0 20.0 Operating expenses 6,307 9,015 11,734 15,430 18,519 EBITDA 1,073 1,240 1,342 1,569 1,879 % change 40.1 15.5 8.3 16.9 19.8 Other income 126 191 46 35 28 Net interest (165) (266) (258) (284) (321) Depreciation 339 433 449 515 564 Pre-tax profit 695 731 681 805 1,022 Deferred tax 46 2 - 12 15 Current tax 176 260 249 258 327 Profit after tax 472 469 432 535 679 Net profit after non-recurring items 472 469 432 535 679 % change 13.4 (0.7) (7.9) 23.9 27.0
Balance sheet
Year to 31 Mar (Rs m) FY08 FY09 FY10 FY11E FY12E Paid-up capital 74 74 74 74 74 Reserves & surplus 4,852 5,286 5,549 5,848 6,291 Total shareholders' equity 4,926 5,360 5,623 5,922 6,365 Total current liabilities 5,553 5,078 7,402 9,747 11,672 Total debt 1,962 3,199 3,649 4,149 5,149 Deferred tax liabilities 122 124 124 136 152 Total liabilities 7,637 8,401 11,175 14,032 16,973 Total equity & liabilities 12,563 13,762 16,797 19,954 23,338 Net fixed assets 2,480 2,884 2,928 3,405 3,583 Investments 2,997 3,728 4,735 4,835 4,935 Total current assets 7,086 7,150 9,134 11,714 14,819 Working capital 1,533 2,072 1,733 1,967 3,147 Total assets 12,563 13,762 16,797 19,954 23,338
Cash flow statement
Year to 31 Mar (Rs m) FY08 FY09 FY10 FY11E FY12E Pre-tax profit 695 731 681 805 1,022 Depreciation 339 433 449 515 564 chg in Working capital 402 (716) 372 (167) (190) Total tax paid (176) (260) (249) (258) (327) Operating cash inflow 1,260 189 1,253 895 1,068 Capital expenditure (864) (838) (492) (992) (742) Free cash flow (a+b) 396 (649) 761 (97) 326 Chg in investments (686) (731) (1,008) (100) (100) Debt raised/ (repaid) (50) 1,237 450 500 1,000 Dividend (incl. tax) (74) (65) (35) (170) (236) Misc 49 39 (0) 0 0 Net chg in cash (364) (169) 168 133 990
7.0Order book (Rs m - LHS) Book-to-bill ratio (x - RHS)
Source: IDFC Securities, * based on announced orders
Shareholding pattern
Promoters57.7%
Foreign14.7%
Non-promoter Corporate Holding
9.0%
Institutions12.1%
Public & others6.6%
As of March 2010
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Gammon India (Gammon) is set to witness improved execution of projects with a strong order book position of Rs148bn (3.3x FY10 revenues), reflecting in a 24% CAGR in revenues over FY10-12. Notably, Italian subsidiaries have turned around within one year of acquisition by Gammon and we expect them to start contributing to consolidated earnings post FY12. More importantly, these acquisitions give Gammon presence across the power generation value chain, with potential for significant value creation in the long term. At current valuations of 5.5x FY11E, adjusting for Gammon’s 76.2% stake in Gammon Infra, we believe the risk-reward remains favorable in the stock. Maintain Outperformer with a 12-month price target of Rs275/share.
Robust order backlog to drive strong revenue growth: Gammon’s current order backlog of ~Rs148bn is well diversified across key segments of transportation (41%), Power (37%) and Irrigation & Others (22%). At 3.3x FY10 revenues, we expect the current order backlog to drive a 24% CAGR in revenues over FY10-12. Further, we also expect Gammon to benefit from a visible surge in order flows in view of the government’s continued thrust on infrastructure development.
Italian subsidiaries (Sofinter and Franco Tosi) post turnaround; strong value accretion potential: Gammon’s Italian subsidiaries have reported a turnaround in CY09 within one year of their acquisition by Gammon. Further, Ansaldo Caldie (owned 85% by the Sofinter Group) is setting up manufacturing capacity of 2,000MW initially for boiler in Trichy in India. This entails strong value accretion potential for Gammon owing to opportunities created by the huge capacity addition programme in the country’s power generation sector.
Risk-reward appears favorable; maintain Outperformer: While the additional interest cost from the debt assumed for the Italian acquisitions will be earnings dilutive in the near term, we expect these entities to start contributing to the bottom-line post FY12. The stock has underperformed the broader market by ~10% over the last three months and at valuations of 5.5x FY11E earnings, adjusted for the company’s 76.2% stake in Gammon Infra (unadjusted 13.8x), we believe risk-reward is favorable. Maintain Outperformer on the stock with a 12-month price target of Rs275.
Key valuation metrics (Standalone) Year to 31 Mar FY08 FY09 FY10 FY11E FY12ENet sales (Rs m) 23,336 36,538 44,767 57,197 68,622Adj. net profit (Rs m) 883 1,390 1,657 2,011 2,429Shares in issue (m) 87 107 127 136 136Diluted EPS (Rs) 10.1 13.0 12.2 14.8 17.9 % change (7.7) 28.8 (6.1) 21.4 20.8 Merged EPS – diluted (Rs)** 10.1 13.0 9.6 14.2 18.2Merged PE (x)* 7.7 6.0 8.1 5.5 4.3 Merged PE (x) 19.4 15.1 20.5 13.8 10.8Price/ Book (x)* 0.7 0.6 0.5 0.4 0.5 EV/ EBITDA (x)* 4.1 4.6 4.7 4.1 4.1 RoE (%) 9.4 12.0 10.5 10.4 11.3 RoCE (%) 11.9 14.5 11.8 12.5 13.7** with Italian acquisitions, *adjusted for valuation of GIPL
INVESTMENT ARGUMENT Robust order backlog of ~Rs148bn (3.3x FY10 revenue) provides growth
visibility; Italian subsidiaries too post turnaround in CY09, led by improved efficiencies and liquidity infusion by Gammon
Ansaldo Caldie’s established footprint in India to help leverage strong growth opportunities created by huge capacity additions planned in India’s power generation sector. Planned local manufacturing base to boost prospects
Expect standalone revenue CAGR of 24% for Gammon over FY10-12; near-term earnings growth to be impacted by debt servicing for Italian acquisition
At 5.5x FY11E earnings (adjusting for Gammon’s 76.2% stake in Gammon Infra) and earnings accretion from Italian acquisition, risk-reward appears favourable in the stock
Order book grew 16%yoy to Rs147.5bn in FY10 Gammon booked ~Rs65bn worth of orders over FY10, resulting in an order backlog of ~Rs148bn as on 31 March 2010 (3.3x FY10 revenue). This, we believe, would drive a 24% revenue CAGR over FY10-12. The current order backlog is across segments such as transportation, power generation and T&D, irrigation, etc. Similar to construction peers, Gammon is expected to benefit from government’s continued focus on infrastructure segments.
Exhibit 1: Gammon India has a robust order book of Rs148bn – 3.3x FY10 revenues
4.5Order book (Rs m - LHS) Book-to-bill ratio (x - RHS)
Source: Company data
A diversified order book provides stability to margins Gammon’s order backlog appears well distributed across the principal segments of transportation, power and water/ irrigation projects. Pertinently, Gammon has negligible exposure to AP irrigation orders (~1% of current order book), with bulk of the orders from states such as MP and Bihar.
Gammon is expected to benefit from the
government’s continued focus on infrastructure
segments
Gammon has negligible exposure to AP irrigation
orders
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Exhibit 2: Transportation, Power and Irrigation key segments in the order backlog
Gammon Order Book - Rs148bn
Transportation41%
Energy and T&D37%
Irrigation, Pipeline etc22%
Source: Company data
Italian subsidiaries post smart turnaround in profitability In FY09, Gammon had acquired Italian companies – Sofinter Group, Franco Tosi Mechania (FTM) and Sadelmi – in the supercritical power equipment and balance of plant segment for a total investment of €97.5m and 50-75% stake. With the acquisition funds directly infused into these companies, Gammon has been able to renew their credit lines and ensure continuity of business. Resultant, these companies have reported improved performance, with all the three companies reporting positive EBITDA as well as PAT.
Exhibit 3: Performance of Italian acquisitions over the past two years
Franco Tosi Sofinter SAE (€ m) CY08 CY09 CY08 CY09 CY08 CY09 Order book NA 285 NA 465 NA 70 Sales 94 91 467 440 30 55 EBITDA (17) 3 (37) 26 (3) 3 PAT (17.7) 0.9 (45.0) 1.0 (2.9) 0.9 Source: Company
Scale up in order book to be a key monitorable
In order to further scale-up profitability of the three power equipment companies, it is critical for Gammon to achieve a significant ramp-up in revenues. To this end, growth in order backlogs from current levels is the key monitorable for all the three companies, especially in case of Sofinter and SAE where current order backlogs are at 1.1-1.3x CY09 revenues.
Exhibit 4: Order backlog – FTM, Sofinter and SAE*
(€ mn) Franco Tosi Sofinter SAE Order backlog (as on 31st Dec ’09) 285 465 70 (x) CY09 revenues 3.13 1.06 1.27 *SAE Powerlines, acquired by ATSL, which in turn was subsequently merged with Gammon
In FY09, Gammon acquired Italian companies – Sofinter
Group, Franco Tosi Mechania (FTM) and Sadelmi
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Expect acquisitions to be earnings-accretive post FY12 Gammon had funded its Italian acquisitions through debt and as such these acquisitions are currently earnings-dilutive for Gammon. Going forward, we expect continued improvement in margins of FTM, Sofinter and SAE, led by availability of funds and a refocus on core activities (post Gammon’s acquisition). While sluggish order backlog growth is likely to keep revenue growth under pressure, improving margins are expected to drive earnings growth for these subsidiaries. Moreover, we expect Gammon’s combined share of earnings from FTM, Sofinter and SAE to increase to >EUR7.5m-8m by end-FY12, thus covering the company’s interest service obligation on the acquisition debt. As a result, post FY12, the Italian acquisitions are likely to start contributing positively to Gammon’s earnings.
Ansaldo Caldie India to benefit from power sector demand in India One of the Sofinter Group companies, Ansaldo Caldie, through its Indian subsidiary, has supplied boilers to several public and private power generating companies in the past. The company is also one of the few private sector entities with supercritical technology for boilers, and is likely to be one of the qualified bidders for NTPC’s bulk tendering for 11 units. Ansaldo India is in advanced talks for an order of ~1200MW plant, which is expected to be finalized in the near term. Ansaldo is setting up a manufacturing unit for 2,000MW capacity, which would eventually be increased to 5,000MW. The current invested equity is Rs150m, with an additional Rs500m to be invested in the near term.
Strategic nature of Italian subsidiaries a good fit to Gammon The Italian acquisitions have provided Gammon with presence across the entire power generation value chain (BTG and BoP). In the near term, earnings from the Italian subsidiaries are unlikely to cover the additional interest burden from the acquisition related debt. While these acquisitions are likely to be earnings-dilutive in near term, we expect significant value creation in the long term given their strategic importance to Gammon.
Gammon Infrastructure Projects (GIPL) to report strong traction Gammon Infrastructure Projects (GIPL, 76% owned by Gammon) has commenced part-tolling on the Mumbai-Nasik Expressway (MNEL) from end-May 2010. Currently, the company has started to collect toll on 65km of the 100km stretch and is expected to commence toll collection on the remaining 35km by December 2010. With the commissioning of MNEL, GIPL has four road projects operational and another four under construction. GIPL has also commenced trial runs of the first 12MW set of the Punjab Biomass power project and is likely to commission the same in July 2010. Overall, we see cash flows and earnings to see a substantial jump over the medium term, led by commissioning of the two assets as well as pick-up in traffic at the Vizag Sea Port (6.4m tonnes in FY10, +33% yoy). While cash flows from operating assets and current cash on books of ~Rs1.2bn should be sufficient for funding immediate equity requirements in projects, funding of the entire current pipeline of projects may require the company to raise Rs5bn of equity over the next 12-15 months.
Post FY12, the Italian acquisitions are likely to start
contributing positively to Gammon’s earnings
Gammon Infrastructure Projects has commenced
part-tolling on the Mumbai-Nasik Expressway
GIPL may need to raise Rs5bn in equity over the next
12-15 months
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Expect 21% CAGR in standalone earnings Driven by its strong order backlog of Rs148bn, we expect 24% CAGR in Gammon’s standalone revenues over FY10-12. We expect margins to remain stable over this period, leading to a CAGR of 21% in standalone earnings. We estimate an EPS (fully diluted) of Rs14.8 in FY11 and Rs17.9 in FY12 for the standalone entity. However, adjusting for the contribution of Gammon’s Italian subsdiairies and the additional interest burden resulting from acquisition-related debt, we estimate consolidated EPS of Rs14.2 in FY11 and Rs18.2 in FY12.
Valuations attractive at 5.5x FY11E earnings - adjusted for valuation of GIPL
We believe that turnaround of Gammon’s Italian acquisitions would be a key positive trigger in the stock. At 5.5.x FY11E earnings (merged for Italian acquisitions), and adjusting for value of Gammon’s 76.2% stake in GIPL (unadjusted valuation of 13.8x FY11E), we believe the stock offers a favourable risk-reward equation. Maintain Outperformer on the stock with a price target of Rs275 per share.
Exhibit 5: SOTP based price target of Rs275/share
Business Methodology Gammon value (Rs m) Per share (Rs) Core construction business PEx FY11E 21,285 157 GIPL Fair value 16,047 118 Total 37,332 275 Source: IDFC Securities Research
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IDFC Securities
Income statement (standalone)
Year to 31 Mar (Rs m) FY08 FY09 FY10 FY11E FY12E Net sales 23,336 36,538 44,767 57,197 68,622 % growth 25.1 56.6 22.5 27.8 20.0 Operating expenses 21,262 33,174 40,827 52,118 62,500 EBITDA 2,074 3,364 3,940 5,079 6,122 % change 12.0 62.1 17.1 28.9 20.5 Other income 45 415 529 515 486 Net interest (264) (1,052) (1,405) (1,738) (1,989) Depreciation 462 640 707 856 993 Pre-tax profit 1,394 2,087 2,357 3,002 3,626 Deferred tax (8) 72 - 90 109 Current tax 518 625 700 901 1,088 Profit after tax 883 1,390 1,657 2,011 2,429 Non-recurring items (22) 15 (209) - - Net profit after non-recurring items 861 1,405 1,448 2,011 2,429 % change 93.5 63.1 3.1 38.9 20.8
Balance sheet
Year to 31 Mar (Rs m) FY08 FY09 FY10 FY11E FY12E Paid-up capital 177 235 276 293 293 Reserves & surplus 9,613 13,116 17,913 20,245 22,267 Total shareholders' equity 9,790 13,351 18,189 20,537 22,560 Total current liabilities 10,768 19,005 21,931 28,064 33,473 Total debt 3,770 9,723 12,373 15,073 15,073 Deferred tax liabilities 372 544 544 634 742 Total liabilities 14,910 29,271 34,848 43,771 49,288 Total equity & liabilities 24,700 42,622 53,037 64,308 71,848 Net fixed assets 5,418 7,378 8,581 10,134 11,550 Investments 1,608 2,206 2,456 2,606 2,606 Total current assets 17,675 33,038 42,000 51,568 57,692 Working capital 6,907 14,033 20,069 23,504 24,218 Total assets 24,701 42,622 53,037 64,308 71,848
Cash flow statement
Year to 31 Mar (Rs m) FY08 FY09 FY10 FY11E FY12E Pre-tax profit 1,394 2,087 2,357 3,002 3,626 Depreciation 462 640 707 856 993 chg in Working capital (449) (7,092) (5,316) (2,953) (2,352) Total tax paid (518) (625) (700) (901) (1,088) Ext ord. Items & others (22) 15 (209) - - Operating cash inflow 867 (4,975) (3,161) 3 1,179 Capital expenditure (1,393) (2,600) (1,909) (2,409) (2,409) Free cash flow (a+b) (526) (7,575) (5,070) (2,406) (1,230) Chg in investments (103) (598) (250) (150) - Debt raised/ (repaid) 55 5,953 2,650 2,700 - Capital raised/ (repaid) - 58 3,741 744 - Dividend (incl. tax) (10) (195) (149) (350) (407) Misc 5 2,491 0 0 0 Net chg in cash (579) 133 921 538 (1,637)
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