| Road to riches |
| Jitendra Kumar Gupta / Mumbai March 15, 2010, 0:45 IST |
Despite some near-term issues, the infrastructure sector provides excellent growth opportunities which could translate into superlative gains for investors.
There is no doubt that the state of infrastructure in India is far from comparable with the same of the developed countries or even developing countries like China. Infrastructure got its due attention only in the current (11th) Five Year Plan (2007-2012) when the Planning Commission of India emphasised the need for investments worth $500 billion towards setting up of infrastructure as compared to $220 billion in 10th plan. While these estimates itself suggest the vast opportunities in the space, the Planning Commission estimates that to sustain a GDP growth rate of 8-9 per cent, investments into infrastructure will have to be stepped up to around $1,000 billion during the 12th plan period (FY2013-17).
“Taking into consideration both new and latent demand, CRISIL Research estimates infrastructure expenditure across the 11 identified sectors to nearly double to Rs 32 trillion ($700 billion) over the 2009-10 to 2013-14 period. We believe that even if new demand for infrastructure across sectors is ignored, bridging the latent demand itself presents a huge investment opportunity,” says Ajay D'Souza, Head, CRISIL Research.
While this represents huge long-term opportunity for the companies operating in the sector, expect them to benefit in the near-term, too, on account of the increased allocation for infrastructure in the recent Union Budget. Infrastructure allocation has been increased to Rs 1,73,552 crore, which is about 20 per cent higher as compared to the previous year and almost 46 per cent of the government’s planned expenditure for 2010-11. Also, the Budget has emphasised on faster execution of the projects, increased availability of the credit through infrastructure bonds and increasing the participation of the private players through the public-private partnership (PPP) model.
What’s changing
To begin with, things at the ground level have started to improve. During last year’s slowdown, many companies took a hit on their revenue and profitability. Also, the inflow of new projects slowed down, and revenue visibility for companies deteriorated. In fact, certain segments were significantly impacted due to slowdown in capex and delays in award of new projects.
But, that’s history and as a result of new orders flowing from the government and the private sector, the situation has improved somewhat. For instance, the order-book to sales ratio of construction companies, which had dropped to about 2.5, has now improved to about 3.2-3.4. Projects in the road, power and urban infrastructure segments have seen a visible improvement in off-take.
Secondly, the credit growth for the infrastructure, which had dipped to almost 32-35 per cent in November 2008, has recovered to about 47 per cent in November 2009. The improvement is also aided by the drop in interest rates enabling companies to deploy more funds for existing projects, thus, leading to improvement in execution. During 2009, due to the credit crisis the companies were not only finding it difficult to arrange funds, but the cost of funds was also high (interest rates of over 12-13.5 per cent). The companies are now, however, able to raise funds at about 11-12 per cent. With lower interest rates and stable commodity prices in the last two quarters, companies are now breathing easy and are able to report better profit margins.
Overall, given the vast growth potential and improving fundamentals, the infrastructure sector provides good investment opportunities for long-term investors. Notably, valuations of most companies are not as scary as they were (at the peak) in 2008. “We estimate strong annual earnings growth of 27 per cent over FY10-12, with possibility of positive earnings surprises. While the sector is trading at a reported P/E of 18 times 2010-11 estimated earnings, adjusted for BOT or real estate projects, the P/E ratio stands at an attractive 13 times,” says Satyam Agarwal, analyst, Motilal Oswal Securities.
It quite possible that some of these companies will grow at 25-30 per cent annually, considering the high revenue visibility in terms of strong order book for the next 2-3 years. However, the key risks in the near-term (6-8 months) remains on account of the expected increase in interest rates, which could play a spoilsport. Secondly, analysts believe that while the government has announced huge spending for 2010-11, the real pick up in spending might happen only after the government is able to procure funds for the same—this may take a few months.
Where to invest
Besides the large names, investors can also choose infrastructure companies within the mid cap and small cap space. These relatively smaller companies are also seen benefiting in the long run and notably, are trading at reasonable valuations. Companies like Patel Engineering, J Kumar Infraprojects, Pratibha Industries, Ahluwalia Contracts, Valecha Engineering and IRB Infrastructure are among key players in the infrastructure space. Many of these companies have large order books indicting good revenue visibility, and may be considered after introspection and based on ones’ risk appetite.
Meanwhile, here are some of the leading companies in terms of the market capitalisation, which are fairly diversified, have strong order book and generate good returns on capital employed. Notably, they are well poised to deliver good returns going ahead.
Hindustan Construction
Hindustan Construction Company (HCC), which built the landmark Bandra-Worli sea link (in Mumbai), is a leading player in the hydro power, water, transportation sectors. Hydro power projects, which typically require high capex and where growth opportunities are immense, accounts for 56 per cent of HCC’s order book and earns robust operating margins.
HCC’s order book at end-December 2009 stood at Rs 15,700 crore, which is 29 per cent higher as compared to the year ago period and provides high revenue visibility for the next 3-4 years. Besides, as the opportunities are opening up in the road segment, the company’s portfolio of six build-operate-transfer (BOT) projects worth Rs 5,500 crore should help increase the revenue share of the transport segment from the current levels of 28 per cent.
Meanwhile, on the back of its strong order book analysts expect HCC’s net profit to grow by about 35 per cent annually over the next two years. The profit growth will also be aided by the expected improvement in margins and low interest cost as a result of lower debt in the company’s books. HCC’s net debt-equity, which stood at 2.2 times in 2008-09, is expected to come down to 1.2 by 2010-11.
Analysts value the stock on SOTP basis at about Rs 150-160 per share, including Rs 60 for its real estate business. Further value unlocking could happen as the company moves ahead to list its real estate subsidiary, Lavasa Corporation, which is expected to report revenues of Rs 500 crore and net profit of Rs 100 crore in 2009-10. This real estate subsidiary has long-term plans of developing a city near Pune over 18,000 acres of land it owns.
| RIDING THE INFRA BOOM | ||||||||||||||
| in Rs crore | Financials for the year ending March 2009 ^ | 9 mths ended Dec'09 ^ | ||||||||||||
| Sales | % chg y-o-y | PAT | % chg y-o-y | D/E (x) | RoCE (%) | OPM (%) | Sales | % chg y-o-y | PAT | % chg y-o-y | TTM PE (x) | CMP (Rs) | Market cap | |
| Larsen & Toubro | 40,371 | 37.7 | 2,934 | 30.7 | 1.2 | 18.3 | 12.8 | 23,300 | 0.5 | 1,985 | 26.7 | 24.5 | 1,603 | 96,521 |
| JP Associates | 4,775 | 13.8 | 424 | -38.5 | 2.5 | 8.0 | 38.5 | 6,744 | 83.0 | 491 | -0.8 | 17.0 | 148 | 31,497 |
| IVRCL Infra. | 5,074 | 30.4 | 226 | -20.3 | 0.7 | 9.3 | 9.4 | 3,531 | 7.3 | 130 | -11.2 | 21.6 | 339 | 4,523 |
| Hindustan Cons. | 3,560 | 18.9 | 59 | -35.9 | 3.4 | 9.6 | 14.7 | 2,558 | 9.6 | 54 | 161.5 | 49.4 | 146 | 4,436 |
| Nagarjuna Cons. | 4,772 | 31.9 | 182 | 8.8 | 1.2 | 12.4 | 10.6 | 3,254 | 7.6 | 130 | 12.4 | 24.9 | 163 | 4,189 |
| D/E: Debt-equity ratio; % change is year-on-year, RoCE is return on capital employed Price date March 2010 ^ Results for 2008-09 are consolidated wherever applicable, while the same for 9 mths to Dec' 09 are standalone profits are adjusted for extra-ordinary items Source: CapitaLine Plus | ||||||||||||||
IVRCL Infrastructures
IVRCL, a leading player in the infrastructure space and known for its execution capabilities, has recently restructured its business and transferred its BOT business to its listed subsidiary, IVR Prime, where IVRCL will now hold up to 80.5 per cent. IVR Prime has a portfolio of four BOT projects, including three road projects, in which the company has already invested about Rs 350 crore by way of equity. IVRCL Infra will operate in the construction segment, whereas IVR Prime will own the infrastructure assets in the BOT space.
The advantage of this move is enhanced clarity on the business structure and strong balance
