Macro headwinds, poor order inflows and slow execution to impact financials
High interest costs, poor order inflows, slow execution and policy delays have taken the wind out of India’s infrastructure sector. Touted as the next sunrise sector after IT and telecom, infrastructure has taken a severe beating over the last few quarters as profitability and growth is adversely impacted by macro headwinds and policy paralysis. While order flow has dropped on one hand, capital costs have dramatically increased for the sector. This puts pressure on the profitability of the sector.
Ever since the public-private model came into existence, the outlook for private players in the sector dramatically improved, as India’s infrastructure needed much investment. However, all plans have come to a standstill in the wake of recent political developments. Even as order inflows picked up in the third quarter of the current financial year, growth is unlikely to surpass 20 per cent.
Nomura expects revenue growth at 7-16 per cent for FY12. A report on the sector by Nomura says: “We incorporate the impact of slow order intake, higher interest cost and lower margins. For mid-tier construction companies, we lower core earnings before interest, taxes, depreciation, and amortisation by 9-76 per cent for FY12F. With limited visibility on resolution of macro issues, we turn selective and prefer companies with relatively strong balance sheet and execution visibility.”
Going by all the mentioned factors, infrastructure stocks have been hammered in calendar 2011, much more than the benchmark indices. Most construction stocks have corrected 29-45 per cent in calendar 2011 compared to a fall of 12 per cent in the Sensex. The primary reason for this beating is the poor expected performance of most companies in this sector, especially the smaller ones.
Taking into account the headwinds, brokerages are revisiting earnings estimates of most construction companies, as order inflow assumptions have reduced and concomitantly revenue estimates for FY12, too, have fallen. Additionally, higher debt burden and interest cost will also substantially bring down return on equity. Accordingly, analysts have cut construction business valuation multiples for the three mid-cap construction companies (IVRCL, HCC and NJCC), to 10x FY12 from 12x. Nomura says: “We now value Punj Lloyd on enterprise value/sales as it is likely to make losses in the near term due to substantial revenue-cost mismatch.” While the long-term view on the sector remains positive, there’s plenty of pain in the short-term.